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Posted: February 12, 2010 @ 11:17 am - Nicholas Guiliano |
Congress recognized private securities litigation as "an indispensable tool with which defrauded investors can recover their losses without having to rely upon government action' and consequently, such lawsuits 'promote public and global confidence in our capital markets and help to deter wrongdoing and guarantee that corporate officers, auditors, directors, lawyers and others properly perform their jobs."
The Securities and Exchange commission Amicus Curiae Brief Slayton, et al. v. Am. Express Co., et al., No. 08-5442-cv , January 21, 2010 Citing: H.R. Conf. Rep. No. 104-369, at 31 (1995).
Thank god! Because the SEC penalties are weak. As it was reported today.
The SEC's policy on handing down penalties should be revised to take a tougher stand against companies that run afoul of regulations and to act as a more effective deterrent.
That's according to Luis Aguilar, a commissioner with the Securities and Exchange Commission, who said the regulator is currently hamstrung by its existing policy, which does not sufficiently emphasize deterrence and punishment.
According to Aguilar, the SEC's Penalty Statement of 2006 prioritizes two factors in assessing penalties. That includes the presence or absence of a direct benefit to the firm resulting from a violation and how much the penalty will reimburse or harm injured shareholders.
"Under this framework, the conduct itself becomes of secondary importance, and the commission fails to appropriately focus on deterrence," Aguilar said at the Practicing Law Institute/SEC Speaks in 2010 conference last week. "Clearly, this is a serious flaw. The purpose of penalties is to deter and punish misconduct."
Other factors included in the existing penalty statement that Aguilar says deserve equal emphasis include the need for deterrence, the extent of injury to innocent parties, whether complicity in the violation is widespread throughout the corporation, the level of intent, the degree of difficulty in detecting the particular type of offense, and presence or lack of remedial steps by the corporation and extent of cooperation with the commission and other law enforcement.
Aguilar's get-tough talk concerns some industry attorneys who say the SEC should take a look at a wide variety of factors when meting out punishment. Aguilar raises an important point in suggesting that the commission revisit the 2006 penalty guidelines, says Tom Gorman, partner with Porter Wright Morris & Arthur. But any revision of those guidelines should embrace a broader focus on all available remedies, and not overemphasize one remedy and impose heavy penalties, he says.
Under existing guidelines, for example, the SEC may suggest no penalty for a fund that, despite having solid procedures, is unwittingly duped by an advisor that concealed what it was doing. A penalty, however, may be warranted if the fund had poor procedures that allowed the advisor to hide important information.
"That is very different from using fines where you whack them with a big amount of money, they pay it, the SEC gets headlines out of it and other companies see it," Gorman says. "That is much more reminiscent of what a criminal prosecutor would do rather than a civil prosecutor."
In a follow-up interview, Aguilar says that in the 18 months he has served as a commissioner he doesn't see the agency relying too much on penalties at the expense of more traditional civil remedies. But he says the two factors from the 2006 penalty statement that he mentioned in his speech are mistakenly elevated to make those factors as "first among equals."
If two companies commit the same fraud but only one benefits from the act, the other company should not escape penalty simply because it failed to benefit, Aguilar says.
"If you are trying to deter future fraudsters from committing the same fraud, does it [matter] that one had benefited and the other did not?" Aguilar asks. "While you... consider whether there was an absence of a benefit, it should not be the dominant factor. The important consideration is that both companies engaged in fraud."
Barry Barbash, partner at Willkie Farr, agrees that all remedies should be considered. But the industry would be concerned if deterrence alone were the driving force for the SEC to the extent that it would levy penalties on a firm for misconduct even in the absence of harm to the investor and a derived benefit from the misconduct, he says.
"What you hear outside is that [the SEC] don't have better things to do than bring cases where nobody is hurt or has benefited," Barbash says.
In an environment where the SEC has been criticized for failing to spot and stop Bernard Madoff and its ability to protect investors is being closely scrutinized, the SEC's enforcement arm is likely to favor deterrence in close-call cases, sources say.
"Yes, I think the commission will be more willing to think about deterrence as a key factor," Barbash says. "There is much more of a mentality to take no prisoners."
Ivan Knauer, a partner with Pepper Hamilton and a former senior counsel in the SEC's Enforcement Division, agrees with Aguilar that focusing more attention on conduct makes sense, but not to the total exclusion of other factors. But he also warns of the "pendulum" effect where the SEC potentially places greater emphasis on conduct when assessing penalties.
"Commissioner Aguilar's point is to make the punishment fit the crime," says Knauer. "The concern about causing unnecessary pain to existing shareholders of a corporation due to prior acts of management is a real concern. The challenge will be for the SEC to strike the right balance."
Gorman agrees that enforcement is more likely to lean on a heavy-penalties approach as a deterrent and to rejuvenate the division, but says just relying on this approach will be a setback to achieving a more balanced approach that seeks workable solutions with the industry.
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