Don’t Get Caught In The Crosshairs When The SEC Deploys Its Full Enforcement Arsenal

On September 26, SEC Chair Mary Jo White gave an important speech to the Council of Institutional Investors in Chicago.  The speech, entitled “Deploying the Full Enforcement Arsenal,” provides the first detailed roadmap to the Commission’s enforcement priorities in the White administration.  While some of the SEC’s enforcement program going forward will involve a continuation and reinforcement of efforts begun during the administration of former Chair Mary Schapiro and former Enforcement Director Robert Khuzami, much of it will entail new initiatives.  The bottom line is that — not surprisingly — Chair White, a former U.S. Attorney, is committed to a vigorous, prosecutorial-minded enforcement program.

Here are the key takeaways from the speech:
Individuals First.  Perhaps most importantly, Chair White stated that the “core principle of any strong enforcement program is to pursue responsible individuals wherever possible.”  Accordingly, she has “made it clear that the staff should look hard to see whether a case against individuals can be brought.  I want to be sure we are looking first at the individual conduct and working out to the entity, rather than starting with the entity as a whole and working in.”  She also indicated that the Commission is likely to seek more industry and officer-and-director bars against individuals.  Chair White described this focus on individuals first as a “subtle” shift in approach, but it is one that, if followed in practice, will have significant consequences, particularly when paired with some of the other initiatives described below.

Areas of Enforcement Scrutiny.  Chair White identified several substantive areas of enforcement focus during her administration.  Many are familiar, but some are new or at least resurrected.  She identified them in the following order:
•    misconduct by investment advisers at hedge funds, private equity funds, and mutual funds;
•    financial statement and accounting fraud — this is consistent with the Enforcement Division’s recent creation of a task force devoted to proactively identifying ways in which companies can try to manipulate its financial statements and books and records;
•    insider trading;
•    microcap fraud, particularly in the context of social media;
•    violations of new rules implemented pursuant to the Dodd-Frank and JOBS Acts; and
•    actions relating to sophisticated trading strategies, dark pools, and other trading platforms.

Admissions of Wrongdoing.  Chair White started by saying that in “most” cases, the SEC’s longstanding approach of not requiring admissions of liability as a condition of settlement “makes very good sense.”  But she then noted that the Commission has expanded the circumstances in which the Enforcement Division and Commission will require admissions of wrongdoing or admissions of facts that might establish a violation of the securities laws, as follows:
•    “Cases where a large number of investors have been harmed or the conduct was otherwise egregious;”
•    “Cases where the conduct posed a significant risk to the market or investors;”
•    “Cases where admissions would aid investors deciding whether to deal with a particular party in the future;” and
•    “Cases where reciting unambiguous facts would send an important message to the market about a particular case.”

Tougher Sanctions — Penalties.  Chair White emphasized that the Commission “must make aggressive use of our existing penalty authority, recognizing that meaningful monetary penalties — whether against companies or individuals — play a very important role in a strong enforcement program.”  She stated that the Commission’s January 2006 Corporate Penalties Statement provides a useful list of factors that the Enforcement staff and Commission will consider in deciding whether to impose corporate penalties and in what amount, but then pointedly added that the Statement “was not then, and is not now, binding policy for the Commission or the staff” and that “[t]oday, we have an entirely new Commission.”  The “bottom line” for Chair White “is that corporate penalties will be considered in all appropriate cases.”

Tougher Sanctions — Undertakings.  Chair White said that the market should “[e]xpect to see” more orders subjecting companies to “mandatory undertakings in future cases so that we are not just punishing past wrongs, but also acting to prevent future wrongs.”  She specifically cited training and reporting undertakings in FCPA settlements as an example.  She added that “[w]hen we enter into a settlement with a company involving systems control failures, … we should consider mandating new policies and procedures and other controls, and require that a compliance consultant test these controls.”

Negligence theories of liability.  Chair White stated toward the outset of her speech that the Commission will bring both “the tough cases” and the “smaller ones.”  She added that “[i]f we do not have the evidence to bring a case charging intentional wrongdoing, then bring the negligence case that does not require intent.”  This has been a hot-button topic within the Enforcement Division over the last few years, since Mr. Khuzami started pursuing negligence-based cases in a more concerted fashion.  Some within the Enforcement Division have argued that such an approach is not the best use of the Commission’s scarce resources, and some outside the Commission, such as members of Congress and the judiciary, have questioned why the agency is not devoting its resources to more vigorously pursuing fraud cases.  Chair White’s comment suggests that the SEC will continue on the current path of pursuing negligence as well as fraud cases.