What does military policy have to do with the SEC? Tucked into the 1,480 page National Defense Authorization Act (NDAA) is a provision expanding the SEC’s disgorgement authority. The NDAA, specifying the budget and expenditures for the Department of Defense for fiscal year 2021 (H.R. 6395), was passed on December 11, 2020 by both chambers of Congress. Despite any obvious connection between the national defense and the SEC, the bill would amend the Securities Exchange Act of 1934 to give the SEC authority to seek disgorgement in enforcement actions brought in federal court.  These amendments would also increase the statute of limitations for disgorgement from five to ten years.
Continue Reading Congress Sneaks in Expansion of SEC Disgorgement Authority in Annual Defense Bill

On June 22, 2020, the U.S. Supreme Court decided in Liu v. SEC that in an SEC civil proceeding a disgorgement award that does not exceed a wrongdoer’s profit and is awarded for victims is equitable relief permissible under the applicable statute. The opinion answers an important question left open by the Court in Kokesh v. SEC that disgorgement operates as a “penalty,” rendering claims for disgorgement subject to the five-year statute of limitations. See Supreme Court Reigns in SEC’s Disgorgement Power. Liu closes the door on speculation that the Court was poised to hold that the SEC did not have authority to seek disgorgement.
Continue Reading SEC Can Recover Disgorgement, With Limits

The U.S. Supreme Court recently handed down a win for the SEC and private securities litigants, significantly broadening the scope of primary liability under Rule 10b-(5).  In Lorenzo v. SEC, the Court held that liability under Rules 10b-5(a) and (c)—which make it unlawful to employ a scheme to defraud or engage in any practice that operates as a fraud—is not limited only to those who make false or misleading statements as contemplated under sister-section Rule 10b-(5)(b), but may also extend to those who disseminate such statements made by others knowing they are false or misleading.

Background

This case arose from an SEC enforcement action brought against Francis Lorenzo, Director of Investment Banking for a New York broker-dealer.  The SEC alleged that, in connection with a $15 million debt offering, Lorenzo sent emails to prospective investors that significantly overstated the value of the investment.  It was undisputed that the emails were sent at the direction of Lorenzo’s boss, who supplied all the content and “approved” the messages.  It was also undisputed that Lorenzo knew that statements regarding the value of the investment were false or misleading.

The SEC concluded that, by knowingly sending false statements from his email account, Lorenzo directly violated SEC Rule 10b–5 and related provisions of the securities law, including Sections 10(b) of the Exchange Act of 1934 and Section 17(a)(1) of the Securities Act of 1933.  Rule 10b-5 makes it unlawful to: (a) employ a device, scheme, or artifice to defraud, (b) make an untrue statement of a material fact, or (c) engage in an act, practice, or course of business which does or would operate as a fraud or deceit in connection with the purchase or sale of securities.

Lorenzo appealed, contending he had no liability under Rule 10b–5 because under the Supreme Court’s ruling in Janus Capital Group, Inc. v. First Derivative Traders, liability for false statements was limited only to the “makers” of those statements as contemplated by Rule 10b–5(b), defined only as those with “ultimate authority” over the statements’ content and communication.  One who simply prepares or publishes a statement on behalf of another, as Lorenzo saw his role, fell outside of the scope of primary liability under Janus.  The D.C. Circuit agreed that since Lorenzo’s boss directed him to send the emails, supplied their content, and approved them for distribution, Lorenzo did not “make” the statements, and thus could not be held primarily liable for a Rule 10b-5(b) violation. But, the D.C. Circuit sustained the SEC’s finding of primary liability under Rules 10b-5(a) and (c) for knowingly disseminating statements he knew to be false, even though he did not “make” the statements himself.

The Supreme Court’s Ruling

On appeal to the Supreme Court, Lorenzo advanced two main theories, both of which the Supreme Court flatly rejected.
Continue Reading Forward at Your Own Risk – U.S. Supreme Court Expands the Scope of Rule 10(b)-5 Liability

Since 2010, the SEC has abided by the Sixth Circuit’s decision in United States v. Warshak, and has not subpoenaed emails of an individual from third party service providers.   That changed, however, when the SEC decided to test the law by filing a recent action against Yahoo to force compliance with a subpoena for the emails of an individual.

In Warshak, the court held that the use of something less than a warrant, such as a subpoena or court order under the Electronic Communications Privacy Act (ECPA), violates the Fourth Amendment.  Not only had the SEC respected that decision but the DOJ had also changed its policies to comply with Warshak.  While the SEC stayed out of court, it did oppose efforts in Congress to codify the Warshak holding via ECPA reform.  However, when Yahoo refused to comply with an SEC subpoena based on Warshak, the SEC took Yahoo to court, leading to a hearing on the matter on June 30, 2017 in the federal court for the District of Maryland. SEC v. Yahoo, Inc., Case No. 8:15cv1339 (D. Md) (GJH).  While the Judge did not make a decision at the hearing, he did express views on the facts and law that will influence his decision.
Continue Reading In Action Against Yahoo, the SEC Seeks Emails Without A Warrant

This week the Supreme Court trimmed the SEC’s power to seek disgorgement of unlawful gains by securities law violators by unanimously holding in Kokesh v. Securities and Exchange Commission that SEC disgorgement constitutes a penalty and such claims must be brought within five years of their accrual. This decision resolved the circuit split described in a previous post.

SEC Does Not Have Limitless Power to Impose Penalties

Kokesh involved the SEC’s effort to collect $34.9 million in disgorgement for conduct going back as far as 1995, and an additional $18.1 million in prejudgment interest. The Court noted that statutes of limitations are “vital to the welfare of society” and set a fixed date when exposure to Government enforcement efforts end.
Continue Reading Supreme Court Reins In SEC’s Disgorgement Power

Marking a rare loss for the Securities and Exchange Commission (SEC) in its favored administrative forum, SEC Administrative Law Judge (ALJ) James E. Grimes ruled against the agency on April 18, 2017, in In the Matter of Charles L. Hill, Jr.  Ironically, the SEC fought hard to keep the case in the administrative forum, after Respondent Hill filed an action in federal district court claiming the SEC’s “home court” forum was unconstitutional.  The district court enjoined the SEC, but the 11th Circuit vacated the district court’s order, and the case proceeded on the SEC’s administrative court.  There, the ALJ found the SEC’s circumstantial evidence not only to be insufficient, but fatally undermined by the credibility of witnesses who offered testimony favorable to Hill.
Continue Reading SEC Suffers Rare Loss in Insider Trading Case Before Agency Judge

On April 18, 2017, the U.S. Supreme Court heard oral argument in Kokesh v. Securities and Exchange Commissiona case which could determine whether the Securities and Exchange Commission’s power to disgorge ill-gotten gains is subject to a statute of limitations.  The SEC currently uses disgorgement as a tool to take in billions of dollars in payments annually from defendants in its enforcement actions. 
Continue Reading SEC Disgorgement Power – Time Running Out?

President Donald Trump’s nominee for chairman of the U.S. Securities and Exchange Commission, Jay Clayton, testified before the Senate Banking Committee during his confirmation hearing on March 23, 2017.  In this two-part series, we recap the highlights of Clayton’s testimony regarding potential enforcement priorities and policy changes.

READ PART ONE HERE