CRAFTING AN EFFECTIVE APPROACH TO ENFORCEMENT REMEDIES
The effective use of remedies in resolving SEC enforcement actions is critical to protecting investors and the markets. SEC Commissioner Luis Aguilar recently discussed this question in calling for a re-evaluation of the use of penalties and selected other remedies.
In remarks at Compliance Week 2010, Commissioner Luis Aguilar emphasized the need for a rigorous enforcement program as part of effective regulation. Such a program hinges on deterrence, the Commissioner noted. He went on to define effective deterrence, stating this “means that we need to make sure that our enforcement program embodies the credible threat of punishment for violations.” Speech: Market Upheaval and Investor Harm Should Not be the New Normal, May 24, 2010, available here.
In the initial segment of his remarks on remedies, Commissioner Aguilar addressed the question of penalties. To “ensure that fraud does not pay . . .” penalties are a critical, he noted. In this regard, the 2006 statement of the Commission regarding corporate penalties is misguided – a comment that Commissioner Aguilar has made previously. That statement focuses on questions centered on determining if the company received a direct benefit and the impact a penalty would have on the shareholders. Neither of these considers the nature of the misconduct which is the critical question.
In asserting that corporate penalties should be tied to the nature of the misconduct, Commissioner Aguilar rejected the claim that the money paid simply comes out of the pocket of the shareholders. In the first instance, the funds were never in the shareholder’s pocket. In any event, it is the management that controls how corporate funds are spent. In this regard, Commissioner Aguilar suggested that perhaps corporate penalties should be required to be paid first from the budget and bonuses for the people or group that are most responsible for the misconduct.
The Commissioner went on to reject the notion that corporate penalties are an inappropriate substitute for pursuing individuals. Quoting the SEC’s first Enforcement Director, Irving Pollack, he argued that the Commission should pursue both the individuals and the corrupt entity.
More meaningful sanctions require more than a revamped approach to penalties however. The SEC also needs to expand it efforts toward individuals. For insider trading cases, Commissioner Aguilar suggests that the SEC abandon the traditional one plus one formula where the individual pays a penalty equal to the amount of the disgorgement. To ensure sufficient deterrence the Commission should come “closer” to the remarks of Former Chairman Richard Breeden: Leave them “naked, homeless, and without wheels.”
Better protection should also be afforded to investors by increasing the use of remedial sanctions. Here, Commissioner Aguilar is calling for an increased use of officer and director bars and Rule 102(e) to ban professionals from practicing before the Commission. Enforcement also needs to make more use of industry bars for market professionals. Those can be coupled with collateral bars if the pending legislation in Congress is passed. These bars would extend not just to the profession in which the defendant is currently employed such as the brokerage business, but to others such as being an investment adviser.
This is not the first time Commissioner Aguilar has called for a new policy on corporate penalties and tougher sanctions. While it seems clear that the current corporate penalty policy should be reassessed, it is questionable at best that larger corporate penalties will achieve the deterrence which is the center piece of Commissioner Aguilar’s remarks. As the Commissioner correctly notes “sanctions should not be an acceptable cost of doing business for fraudsters.” Rather, it is essential that the sanctions not just punish past conduct, but also ensure against a future repetition of the conduct so that investors and the markets are protected. If the recent debacle in the Bank of America case teaches anything, it is that large corporations are willing to pay millions of dollars in penalties to settle a case and move on. Indeed, the bank virtually said as much in explaining the reason it agreed to pay the initial penalty which was rejected by the court as discussed here.
What is curiously absent from Commissioner Aguilar’s remarks is any discussion of remedial remedies for corporations. Those remedies are designed not to be punitive, but protective, ensuring against a repetition of the wrongful conduct in the future. Long before the Remedies Act gave the SEC the authority to impose penalties, the Commission effectively used an array of remedial measures to protect investors and the markets from a repetition of wrongful conduct. Those remedies were critical to the success of the SEC’s Enforcement program during the period it was considered one of the best in government.
Commissioner Aguilar raises an important point by calling for a reconsideration of the SEC’s corporate penalties policy. Any such evaluation, however, should be made as part of an overall evaluation of all of the tools available to the Commission to halt, penalize and prevent a future reoccurrence of wrongful conduct. Only then can an effective enforcement policy be crafted.