Securities Exchange Act of 1934

Second Circuit Affirms Dismissal of Class Action Alleging That RBS Mislead Investors About RMBS Exposure

On April 15, 2015, the U.S. Court of Appeals for the Second Circuit affirmed the dismissal of a putative investor class action against the Royal Bank of Scotland (RBS).  The plaintiffs had brought claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, alleging that RBS induced them into buying American Depository Shares (ADSs) of RBS between October 2007 and January 2009 by misrepresenting the scope of RBS’s investment exposure to subprime mortgage-backed securities at that time.

The Second Circuit affirmed the District Court’s dismissal on all grounds, holding that certain of the alleged misstatements could not serve as the basis for the investors’ claims because they were made in August 2007, before the class period began, and that other alleged misstatements, concerning RBS’s acquisition of Dutch Bank ABR AMRO, likewise could not sustain a claim because they constituted inactionable puffery.  Opinion.

No-Action Letter Provides Relief to M&A Brokers

On January 31, in a significant no-action letter (Letter), the Staff of the Division of Trading and Markets provided assurances that it would not recommend enforcement action to the Commission under Section 15(a) of the Securities Exchange Act of 1934 if an “M&A Broker” (as defined in the Letter) were to engage in enumerated activities in connection with the purchase or sale of a privately-held company without registering as a broker-dealer pursuant to Section 15(b) of the Exchange Act.

The Letter is the culmination of years of effort (both political and regulatory) and provides significant relief to a broad range of activities heretofore restricted to registered broker-dealers.  Letter.

SEC Removes References to NRSRO Ratings

On December 27, the SEC adopted amendments to eliminate references in certain of its rules and forms to credit ratings.  The changes were mandated by Dodd-Frank.  Rating references were removed from the following rules and forms:

  • Rule 5b-3 under the Investment Company Act;
  • Forms N-1A, N-2, and N-3;
  • Rule 15c3-1 (and certain appendices) under the Securities Exchange Act of 1934;
  • Rule 15c3-3 under the Securities Exchange Act of 1934; and
  • Rule 10b-10 under the Securities Exchange Act of 1934.

Release.  Final Rules #1.  Final Rules #2.

SEC Broker-Dealer Financial Responsibility Final Rules

On July 31, the SEC announced the adoption of amendments to the net capital, consumer protection, books and records, and notification rules for broker-dealers.  The rule amendments will be effective 60 days after publication in the Federal Register.  SEC ReleaseSEC Final Rules.

In addition, the SEC also adopted amendments to Rules 17a-5 and 17a-11 under the Securities Exchange Act of 1934 to increase compliance standards and protections for investors with assets being held by broker-dealers.  Under the rules, audit requirements for broker-dealers will be strengthened in the following ways: (i) a broker-dealer that has custody of the customers’ assets must file a “compliance report” with the SEC to verify they are adhering to broker-dealer capital requirements, protecting customer assets they hold and periodically sending account statements to customers; (ii) a broker-dealer that does not have custody of its customers’ assets must file an “exemption report” with the SEC citing its exemption from requirements applicable to carrying broker-dealers; and (iii) all broker-dealers (regardless of custody) must engage a PCAOB-registered independent public accountant to prepare a report based on an examination of certain statements in the broker-dealer’s report.  In addition, under the proposed rules, broker-dealer examinations will be enhanced by: (i) a requirement for filing a new quarterly report (Form Custody) that contains information about whether and how it maintains custody of its customers’ securities and cash and (ii) a requirement for all broker-dealers to agree to allow SEC or SRO staff to review the work papers of the independent public accountant.  The effective date for the requirement to file Form Custody and the requirement to file annual reports with SIPC is December 31, 2013.  The effective date for the requirements relating to broker-dealer annual reports is June 1, 2014.  SEC Press ReleaseSEC Final Rule.

SEC Issues FAQs Regarding Rule 15a-6 and Foreign-Broker Dealers

On March 21, the Staff of the  Division of Trading & Markets of the SEC published a set of FAQs on Rule 15a-6 under the Securities Exchange Act of 1934, which provides conditional exemptions from Exchange Act broker-dealer registration requirements for foreign broker-dealers that engage in specified activities involving U.S. investors.  Among the topics covered are distribution of research to U.S. institutional investors, delivery of confirmations and account statements directly to U.S. counterparties, and the application of prior no-action guidance to chaperoning arrangements with non-affiliated broker-dealers.  SEC FAQs.

SEC Charges Private Equity Firm, Former Executive, and Consultant for Improperly Soliciting Investments

On March 11, the SEC announced charges against a private equity firm, a former senior executive of the firm and an individual based solely on the allegation that the individual acted as an unregistered broker-dealer in violation of the Securities Exchange Act of 1934.  The parties agreed to settle the charges.  The significance of this action is that the SEC did not allege that the parties defrauded clients, but rather only that the individual, who purported to be a “finder” (and not a broker-dealer), engaged in activities that went far beyond merely making initial introductions and, therefore, should have been registered.  In turn, the SEC’s order found that the private equity firm “caused” the violation and that the former executive who oversaw the marketing efforts “aided and abetted and caused” the individual’s violation of the registration requirements of the Exchange Act.  SEC Press Release.

Second Circuit Affirms Dismissal of Class Action Against S&P Over MBS Ratings

On December 20, 2012, the Second Circuit affirmed a decision by Judge Sidney H. Stein of the Southern District of New York dismissing a putative class action suit alleging that Standard & Poor’s Ratings Services intentionally misled investors about the accuracy of its credit ratings for mortgage-backed securities.  The plaintiff pension fund, acting as a putative class representative of similarly situated shareholders, asserted claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Section 15 of the Securities Act of 1933 against S&P’s parent company, McGraw-Hill Cos. Inc., and two of its corporate officers.  The complaint alleges that defendants made false and misleading statements about the operations of S&P by concealing flaws in its rating methods.  Judge Stein ruled that plaintiff failed to prove the defendants made false statements in financial earnings or acted with knowledge of wrongdoing.  In particular, he found that statements promoting S&P’s independent and objective ratings were “mere commercial puffery” and could not form the basis of a securities fraud claim.  A Second Circuit panel issued a summary order affirming the decision, finding that the factual allegations did not give rise to a strong inference that McGraw-Hill executives misled investors about S&P’s services in order to artificially inflate McGraw-Hill’s stock price.  Order. 

California District Court Grants Partial Summary Judgment in Citigroup’s Suit Against Impac

On May 4, Judge Pfaelzer of the Central District of California granted partial summary judgment to Citigroup establishing that Impac Funding Corp. was liable to Citigroup on two of Citigroup’s three claims against Impac. Citigroup’s suit alleges that Impac Funding misled investors by filing a Pooling and Servicing Agreement (“PSA”) that incorrectly described the payment waterfall for the relevant securitization trust, and which Impaq waited six weeks to correct. Citigroup brought claims pursuant to Sections 18 (material false statement in an Exchange Act filing) and 20(a) (control person liability) of the Securities Exchange Act of 1934, as well as a common law claim for negligent misrepresentation. The court rejected Impac’s argument that the discrepancies between the PSA and the Prospectus Supplement should have raised a red flag for the trader who purchased the securities on Citigroup’s behalf. The court also held that Impac was not entitled to a good faith “safe harbor” defense because Impac knew in 2007 that the PSA was incorrect and, as a general matter, a corporate entity is deemed to have knowledge of its own public statements. Judge Pfaelzer denied Citigroup’s motion for summary judgment on its negligent misrepresentation claim, concluding that Impac did not make the false statements itself but caused its subsidiaries to make them, and that California law does not extend negligent misrepresentation liability where one merely “causes” a misstatement to be made.  Decision.

SEC Extension of Compliance Deadline for Market Access Rule

On June 27, the SEC extended the compliance deadline from July 14 to November 30 for certain requirements of new Rule 15c3-5 under the Securities Exchange Act of 1934 which requires broker-dealers with access to trading securities directly on an exchange or alternative trading system to maintain risk management controls designed to limit the exposure of the broker-dealer. The extension applies to all requirements of the rule for fixed income securities and certain requirements for all securities. SEC Extension.

SEC Proposed Rules on Registration Exemption for Security-Based Swaps

On June 10, the SEC proposed rules that would provide clearing agencies functioning as central counterparties with exemptions from the registration requirements of the Securities Act of 1933 and the Securities Exchange Act of 1934 for the security-based swaps they issue. Comments must be submitted by July 25. Press Release. Proposed Rules.