This Week In Securities Litigation (Week ending August 12, 2016)
The D.C. Circuit handed down the first circuit court decision ruling on the Appointments Clause question concerning the retention of SEC ALJs. The court concluded that there was no violation of the Clause.
The SEC brought an action this week focused on whistleblower protections. The Commission alleged that a firm’s severance agreements violated the protections because they required the former employee to give the firm advance notice before furnishing any information to the government and waive any payment for furnishing the information. The Commission also filed a settled FCPA books and records and internal control case, an offering fraud action and an insider trading case.
SEC Enforcement – Filed and Settled Actions
Statistics: During this period the SEC filed 4 civil injunctive action and 2 administrative proceeding, excluding 12j and tag-along proceedings.
Insider trading: SEC v. Rampoldi (S.D. Cal. Filed August 11, 2016) is an action which names as defendants Paul Rampoldi, a registered representative at Broker A, and William Blythe, president of Risk Advisor Group, Inc. and a customer at Broker A of Mr. Rampoldi and another representative at the firm, Akis Eracleous. Michael Fefferman was the Senior Director of Information Technology at Ardea Biosciences, Inc. In advance of an agreement the firm secured regarding a cancer drug and later its acquisition he tipped Chad Wiegand, his registered representative at Broker A. Mr. Wiegand then tipped his colleague and friend, Paul Rampoldi who tipped Akis Eracleous, also a representative at Broker A. Mr. Eracleous, who jointly managed accounts with Mr. Rampoldi, tipped both defendants who traded in advance of each event. Collectively the two defendants had profits of about $90,000. The complaint alleges violations of Exchange Act Section 10(b). It is pending.
Whistleblower protections: In the Matter of Blue Linx Holdings Inc., Adm. Proc. File No. 3-17371 (August 10, 2016). Beginning at some point prior to August 2011, and continuing to the present, the firm entered into certain severance agreements with departing employees which defined the rights and responsibilities of both parties. While the exact form of the agreements varied, typically they contained a confidentiality provision and required the employee to either provide written notice to the company or obtain its consent to furnish confidential information pursuant to legal process. In June 2013, about two years after the Commission enacted Rule 21F-17 which prohibits impeding an individual from communicating directly with the Commission staff about possible securities law violations, the firm amended its agreements. The modified agreements permitted employees to respond to legal process but after notifying the company. Another provision stated that in responding to requests for information from government agencies such as the SEC, the employee waived any right to payment. The Order alleges a violation of Exchange Act Rule 21F-17. To resolve the proceeding the firm agreed to implement an undertaking which requires it to include a provision regarding the disclosure of confidential information in its agreements noting that nothing inhibited their right to furnish information to a government agency or waive any right to compensation. In addition, the firm consented to the entry of a cease and desist order based on the Rule cited in the order. BlueLinx will also pay a penalty of $265,000.
Investment fund fraud: SEC v. Robertson, Civil Action No. 3:16-cv-00667 (E.D. Va. Filed August 10, 2016) is an action which names as defendants Merrill Robertson, Jr., Sherman Vaugh and their firm, Cavalier Union Investments, LLC. Beginning in 2010 defendants sold interests in Cavalier to over 60 investors, raising about $10 million. Investors were told that the defendants has substantial investment experience, that the investment was safe and that Cavalier was a sophisticated company with various divisions, investment funds and investment advisers. Those representations were false. The firm had virtually no operations. Its only investment was in restaurants which had quickly failed. Much of the money was misappropriated. The complaint alleges violations of Securities Act Sections 5(a), 5(c) and 17(a) and Exchange Act Section 10(b). The case is pending. See Lit. Rel. No. 23616 (August 10, 2016). A parallel criminal action was filed by the U.S. Attorney’s Office for the Eastern District of Virginia.
Fraud: SEC v. Staples, Civil Action No. 1:13-2575 (D.S.C.) is a previously filed action against Benjamin Sydney Staples and his son, Benjamin Oneal Staples. From early 2008 through June 2012 the defendants operated what they called an Estate Assistance Program. Under the program they solicited terminally ill patients to open brokerage accounts in return for payments for their funeral expenses. The participants transferred their assets into the accounts and relinquished all rights. The defendants then used the proceeds to purchase corporate bonds at a discount which had a “survivor’s option permitting redemption at full price if an owner died. When one of the patients passed away the defendants falsely represented that the person had an interest in the bonds so they could be redeemed. The scheme netted the defendants about $6.5 million. The complaint alleges violations of each subsection of Securities Act Section 17(a), Exchange Act Section 10(b). This week the court entered a permanent injunction against the father, prohibiting future violations of the Sections cited in the complaint. Disgorgement was ordered in the amount of $58,049.63 along with prejudgment interest and a penalty equal to the amount of the disgorgement. The action was dropped as to the son. See Lit. Rel. No. 23617 (August 10, 2016).
Offering fraud: SEC v. Ruh, Civil Action No. 1:16-cv-06326 (S.D.N.Y. Filed August 10, 2016) is an action against Edwin Ruh and his firm, Pan Asia China Commerce Corp., Inc. The complaint alleges that defendants conducted a fraudulent offering. The offering was based on their claimed relation with a major film studio and a major film financing company. Specifically, the studio and financing company entered into an arrangement for financing for a five year period. Defendants were invited by the financing company to participate by assisting with raising capital. Defendants then used a number of documents to solicit investors which misrepresented their relation with the studio and financing firm as well as arrangements that they claimed to have made with others related to the deal. The complaint alleges violations of Securities Act Sections 17(a)(1) and 17(a)(3). The action is pending. See Lit. Rel. No. 23614 (August 10, 2016).
SEC v. Place, Civil Action No. 2:16-c-4291 (E.D. Pa. Filed Aug. 8, 2016) is an action which names as defendants John Place, Paul Kirk, John Kirk, Global Transition Solutions, Inc. and Global Transition Solutions, LLC. Global Inc. is a now defunct broker-dealer; Global LLC has never been registered with the Commission but acted in tandem with Global Inc. ; John Place was the CEO of Global LLC and a registered representative of Global Inc.; Paul Kirk was the general counsel and COO of Global LLC and a registered principal of Global Inc.; and John Kirk was the President, a member of Global LLC and a registered representative of Global LLC. Global offers transition management services for institutional investors who may, for example, be switching advisers or altering a portfolio. If the large blocks of securities typically involved were put into the market they could impact the prices. Firms such as Global help manage the transactions to avoid that possibility. They place the orders through select brokers called routing brokers. Typically an arrangement is negotiated at the beginning of the relationship which specifies the fees as was done here. To execute the trades here, the routing brokers engaged in riskless principal transactions, imposing mark-ups on the transactions. Global shared in the mark-ups, although it told customers that its compensation came solely from the fully disclosed commissions. The shared fees were concealed from clients. The mark-ups inflated the cost of the transactions for customers. Defendants mislead their clients about the fees while claiming they were complying with their fiduciary obligations. The complaint alleges violations of Exchange Act Sections 10(b), 15(c)(1), 20(A) and 20(E). The case is pending. See Lit. Rel. No. 23613 (August 8, 2016).
FCPA
In the Matter of Key Energy Services, Inc., Adm. Proc. File No. 3-17379 (August 11, 2016) is a proceeding which names as a Respondent the energy firm based on actions taken by its subsidiary Key Mexico. From August 2010 through April 2013 improper payments were made by an employee of the Mexican subsidiary to a contract employee of Petroleos Mexicanos or Pemex, the state owned oil company. The payments were made to obtain advice and assistance on contracts with Pemex and regarding amendments to those agreements. The payments were channeled through an entity that purported to provide consulting services, although there was no appropriate authorization. The subsidiary improperly recorded the payments as being for consulting services. Those records were then consolidated into the books and records of the parent. The Order alleges violations of Exchange Act Sections 13(b)(2)(A) and 13(b)(2)(B). Respondent consented to the entry of a cease and desist order based on the Sections cited in the order. It will also pay disgorgement in the amount of $5 million. A penalty was not imposed based on cooperation.
FINRA
Confidential information: The regulator fined Deutsche Bank Securities Inc. $12.5 million for inadequate supervision of internal communications. Specifically, the firm disseminated research and trade related information through “hoots” and “squawks” over internal speakers or squawk boxes. That practice had the potential for the improper dissemination of confidential information. Despite repeated red flags the firm failed to establish an adequate system of internal controls.
Court of appeals
Constitutionality of ALJ appointments: Raymond J. Lucia Companies, Inc. v. SEC, No. 15-1345 (D.C. Cir August 9, 2016). The court concluded that the SEC did not violate the Appointment Clause of the Constitution when retaining its ALJs. The case was before the court on a petition for review of a decision by the Commission arising from an administrative proceeding. The Appointments Clause provides that the President “shall nominate, and with the Advice and Consent of the Senate, shall appoint . . . Officers of the United States, whose Appointments are not herein otherwise provided for . . . but the Congress may by Law vest the Appointment of such inferior Officers . . . in the President alone . . .” All officers of the United States are to be appointed in accord with the Clause unless provided for elsewhere in the Constitution. This includes executive officers, judicial officers and those of administrative agencies. Only those who are “lesser functionaries” need not be selected in accord with the Clause. This is an important structural safeguard of the Constitution, the court noted.
Generally, the appointee is considered an Officer rather than an employee if he or she exercises “significant authority pursuant to the laws of the United States.” (internal citations omitted). In assessing the appointee’s authority, it is important to look at the facts of the particular case and also the duties of the person. If the appointee’s position was established by law and the position’s duties are specified by statute the critical question is the meaning of “substantial authority.” Three criteria are considered: 1) the significance of the matters resolved by the official; 2) the discretion they exercise in reaching their decisions; and 3) the finality of those decisions.
Here the critical question is the finality of the decisions. Under Exchange Act Section 78d-1 the Commission has the authority to delegate any of its functions to a division, an individual or an employee. Section 78d-1(c) specified that when the ALJ’s determination is not reviewed it “shall . . . be deemed the action of the Commission.” Petitioner claims that this provision substantiates their point regarding the Appointments Clause. Under the Commission’s rules, however, “[u]ntil the Commission determines not to order review . . . there is no final decision that can ‘be deemed the action of the Commission.’” 15 U.S.C. Section 78d-1(c). Therefore the initial decision only becomes final when the Commission issues the finality order. “Put otherwise, the Commission’s ALJs neither have been delegated sovereign authority to act independently of the Commission nor, by other means established by Congress, do they have the power to bind third parties, or the government itself, for the public benefit.” Accordingly, they need not be appointed in accord with the Appointments Clause. The petition for review was denied.
Hong Kong
Front running: Registered representatives Lam Chun Yin and Yeung Chok Cheong were fined and bared from the securities business for, respectively, 36 months with the payment of $110,000 and 30 months and a $51,830 penalty. They had been retained to provide advisory services for a client. Before their client Pacific Plywood announced its acquisition of 80 million shares of Renhe Commercial Holdings Co., Ltd. the two registered representatives purchased shares.