SEC’s Administrative Proceedings: Where One Stands Appears to Depend on Where One Sits

Chairs Around a Table

As we have previously reported, practitioners and judges alike have recently been questioning the SEC’s increased use of administrative proceedings. Defense lawyers complain that administrative proceedings, which have historically been a rarely used enforcement tool, are stacked against respondents. Recently, Judge Rakoff of the U.S. District Court for the Southern District of New York publicly discussed the “dangers” that “lurk in the SEC’s apparent new policy.” Director of Enforcement Andrew Ceresney delivered a speech late last month responding to public criticism, in particular countering many points raised by Judge Rakoff.

During his speech in early November, Judge Rakoff expressed concern that the SEC’s new practice could impede the balanced growth of securities laws moving forward. Not surprisingly, Judge Rakoff expressed concern that interpretation of securities laws was now proceeding in a non-judicial forum. He expressed concern that the “broad anti-fraud provisions, critical to the transparency of the securities markets, that have historically been construed and elaborated by the federal courts,” would be interpreted by administrative judges. Judge Rakoff also questioned the fairness of administrative proceedings, a forum in which the Federal Rules of Evidence do not apply (leaving room for introduction of hearsay, for example), there is no right to a jury trial, and decisions are entitled to deference on appellate review by federal courts. In light of these features, Judge Rakoff explained, “it is hardly surprising…that the S.E.C. won 100% of its internal administrative hearings in the fiscal year ending September 30, 2014, whereas it won only 61% of its trials in federal court during the same period.”

Director of Enforcement Ceresney retorted that the SEC was “simply making use of the administrative forum in cases where we previously could only obtain penalties in district court.” He cited to the Dodd-Frank Act, which granted the SEC authority to pursue financial penalties in administrative proceedings against unregulated entities or individuals. Previously, financial penalties against unregulated entities or individuals were only available in district court. Director Ceresney cited to the approximately 57% of litigated cases filed in district court and roughly 43% filed in the administrative forum as evidence that the SEC was “not shunning federal court in [its] litigated actions.”

Director Ceresney went on to discuss his view of the benefits of the administrative forum. Because an administrative law judge typically has 300 days from when a matter is instituted to issue an initial decision, administrative actions produce “prompt decisions,” he explained. Administrative proceedings also have the benefit of specialized factfinders because administrative law judges are “focused on hearing and deciding securities cases, year after year.” Director Ceresney also emphasized that the rules governing administrative hearings require administrative judges to consider all “relevant evidence,” giving them the freedom to weigh each piece of evidence as they deem to be appropriate.

During his speech, Director Ceresney explicitly rejected the assertion that administrative proceedings were unfair, noting that the SEC had lost various significant administrative proceedings in the past few years. Amongst other things, Director Ceresney pointed to various procedural protections that provide respondents with transparency into the cases brought against them: the SEC is required to make its investigative file available to respondents and, unlike in district court proceedings, the SEC must disclose exculpatory material. Moreover, he outlined his belief that administrative proceedings would not impair the proper development of the law by district court judges in part because SEC commissioners – who are well versed in the securities laws – review administrative decisions de novo. The Director concluded this portion of his speech by opining that the SEC’s use of the administrative forum was “eminently proper, appropriate, and fair to respondents.”

We are not surprised that Judge Rakoff and Director Ceresney fall on different sides of this issue. The difference, of course, is that as the plaintiff in these proceedings, Director Ceresney has a rooting interest.

With the renewed emphasis on administrative proceedings, the debate as to the fairness of these hearings certainly will continue. The SEC may disagree with criticisms raised by Judge Rakoff and others, but the ultimate arbiter of whether these issues may be decided outside of the courts will be the courts themselves, or potentially Congress. Various challenges to the SEC’s use of administrative proceedings have been raised in federal court, and whether the courts will ultimately find this practice to be unconstitutional (or otherwise problematic) remains to be seen.