The SEC Files Two Financial Fraud Cases Based on Years Old Conduct

The SEC filed two financial fraud cases yesterday. Both are based on activity that is alleged to have occurred years ago. Both raise questions about effective law enforcement.

The first, SEC v. Milne, Civil Action No. 3:08-CV-505 (D. Conn. April 7, 2008) named as a defendant John Milne, former vice chairman, president and chief financial officer of United Rentals, Inc. Mr. Milne is the third former CFO of the company to be named as a defendant in an SEC enforcement action. See also SEC v. Nolan, Civil Action No. 07-CV-1833 (D. Conn. Filed Dec. 12, 2007) (settled financial fraud action); SEC v. Apuzzo, Civil Action No. 07-CV-1910 (D. Conn. Filed Dec. 31, 2007) (fraud action alleging that defendant aided and abetted financial fraud; case is in litigation).

The SEC’s complaint against Mr. Milne, like its earlier complaints, is based on a claimed fraudulent scheme which began eight years ago in 2000 and ended six years ago in 20002. The focus of that scheme was to meet earnings forecasts and inflate profits by prematurely recognizing profits from what the complaint calls “minor sale-leasebacks.” As a result of this scheme, the company materially overstated its financial results in its Form 10K in fiscal years 2000 and 2001 and in its Forms 10-Q for the periods ended June 30, 2001 and March 31, 2002. The complaint also alleged that Mr. Milne sold about $38 million of company stock shortly after the inflated financials were released. This case is in litigation. The SEC’s Litigation Release is here. At the same time, the U.S. Attorney’s Office for the District of Connecticut announced that an indictment had been handed up against Mr. Milne for conspiracy, securities fraud and related charges.

Second, in a case alleging slightly more recent conduct, the SEC filed its latest case based on the claimed fraudulent municipal bond offerings by the City of San Diego in 2002 and 2003. SEC v. Uberuaga, Civil Action No. 08 CV 0621 (S.D. Cal. April 7, 2008). Previously, a settled administrative proceeding was filed in which the City of San Diego was sanctioned and a settled civil fraud case was filed against the auditors of the City. In the matter of City of San Diego, Adm. Proc. File No. 3-12478 (Filed Nov. 14, 2006) (settled administrative proceeding against City); SEC v. Saiz, Civil Action No. 07 CV 2308 (S.D. Cal. Dec. 10, 2007) (settled civil injunction action against city auditors).

The action filed yesterday named as defendants five former City of San Diego officials. As in the earlier actions, the complaint alleges fraudulent conduct in connection with five City of San Diego municipal bond offerings in 2002 and 2003. This conduct related to under funding pension obligations so that benefits would be increased, but the costs would be deferred. In 2004, when the true financial condition of the company was disclosed, rating agencies lower the credit rating of the City. This case is also in litigation. The Commission’s Litigation Release is here.

The most recent conduct charged in either of these cases – or the related cases – is five years old. The oldest conduct is eight years old. Regardless of the merits of these cases, each raises the obvious question: What took so long? All of the conduct in this web of cases is years old. Indeed, all the conduct in these cases is beyond the statute of limitations for penalties.

The point of the SEC’s administrative proceedings and civil injunctive actions is to police the securities markets, not unearth ancient conduct long after the fact. Bringing actions which are years old to serve this “cop on the beat purpose.” Rather, as the court concluded when it denied the SEC’s request for an injunction based on stale conduct in SEC v. Jones, Civil Action No. 07 Civ. 7044 (S.D. N.Y. Feb. 26, 2007), the only purpose of such an action is punitive. Such actions are not effective law enforcement or in the public interest the SEC is suppose to serve.