Early signs indicate that Securities and Exchange Commission Chairman Mary Schapiro will make good on her confirmation hearing promises to bolster the agency’s beleaguered enforcement division.
In her first weeks on the job, Schapiro announced changes to the agency’s enforcement policies and promised more to come, driving predictions for a “bigger, stronger, faster enforcement program,” according to some former enforcement staffers who spoke with Compliance Week.
Gorman
“Enforcement has been heavily criticized in recent months for a variety of reasons,” says Tom Gorman, a former SEC senior counsel in the enforcement division who’s now a partner in the law firm Porter Wright Morris & Arthur. “She’s sending the message that the glory days of enforcement are back and that the SEC will be the aggressive cop on the street.”
Observers expect more changes following the Feb. 19 announcement of Robert Khuzami as the SEC’s new enforcement director. Khuzami most recently served as Deutsche Bank’s general counsel for the Americas. He previously served for 11 years as a federal prosecutor at the U.S. attorney’s office in Manhattan, where he was chief of the Securities and Commodities Fraud Task Force for three years.
He replaces Linda Thomsen, who resigned earlier this month to return to the private sector. While a new chairman often appoints his or her own enforcement director, Thomsen’s departure followed a firestorm of criticism of the SEC in general for oversight failures during the financial crisis, and of the Enforcement Division in particular for not uncovering the alleged massive Ponzi scheme involving Wall Street money manager Bernard Madoff.
Lawmakers have been grilling SEC officials and others as part of a congressional investigation into how the alleged Madoff scheme went undetected for so long. Meanwhile, the SEC’s inspector general, David Kotz, is conducting his own investigation into the SEC’s handling of the case. The Madoff debacle has also increased calls for an overhaul of the SEC as part of broader efforts to revamp U.S. financial regulation.
Schapiro
As promised, Schapiro quickly ended the SEC penalty pre-approval program, which required enforcement staff to obtain pre-approval from commissioners before pursuing corporate penalties. The program has been faulted by some for causing delays in bringing corporate penalty cases, lowering penalties in some cases, and discouraging them altogether in others.
In announcing the end of the penalty pre-approval program in Feb. 6 public remarks, Schapiro said it “sends the wrong message” at a time when the SEC needs to deter corporate wrongdoing.
In the same remarks, Schapiro also moved to speed the approval of formal orders, which give the staff subpoena power, by announcing a return to a prior Commission policy that allows for written approval by the SEC or by a single commissioner acting as duty officer. Previously, many formal orders were made subject to full review at a meeting of all five commissioners, sometimes requiring them to be put on the calendar weeks in advance.
Fons
Randall Fons, a former SEC enforcement staffer who is now a partner in the law firm Morrison & Foerster, says the two moves, along with other expected changes, portend “a bigger, stronger, faster enforcement program.”
That could include higher penalties, according to Fons, who says Schapiro’s comments signal that, “She’s interested in raising the stakes for people and companies who violate federal securities laws.”
Mary Schapiro is “sending the message that the glory days of enforcement are back and that the SEC will be the aggressive cop on the street.”
— Tom Gorman,
Partner,
Porter Wright
Ryan
King & Spalding partner Russ Ryan, formerly an assistant director in the SEC’s Enforcement Division, agrees. “Abandonment of the pilot program, coupled with the relentless pressure on the SEC to get more aggressive, is likely to lead to more frequent demands for penalties and demands for higher penalty amounts,” he says.
It may also mean more cases involving large amounts of investor loss.
“There’s a lot of pressure on the SEC to appear to be tougher on enforcement,” he says. One obvious way to demonstrate that “is through the number of cases the agency files and the amount of money it collects in disgorgement and penalties,” he says.
New Director
Fons and others say Khuzami’s past experience as a prosecutor and experience working with the SEC “bodes well for enforcement.”
“He probably has better than average knowledge of how the SEC works and what it can and can’t do where, so his learning curve would be shorter,” says Fons.
Observers expect the appointment to result in more staff changes, since a new director is likely to appoint his or her own deputies and associate director.
Meanwhile, the SEC may also increase its enforcement ranks. A bill introduced in January by Sens. Charles Schumer (D-N.Y.) and Richard Shelby (R-Ala.) would provide $110 million for the hire of additional law enforcement personnel, including 100 new SEC enforcement officials.
Fons says the extra staff would help enable the SEC to “pick up cases that have been back-burnered” because of a lack of resources and to expand its ability to “be everywhere.”
Khinda
However, Philip Khinda, a former staff attorney in the Division of Enforcement and now a partner in the law firm Steptoe & Johnson, says the focus should be on “training rather than headcount.”
SCHAPIRO KEEPS PROMISES
The following excerpt is from SEC Chairman Mary Schapiro’s address to the Practising Law Institute’s “SEC Speaks in 2009” Program.
As a first, but significant, step in empowering our Enforcement staff, I am this week taking action to end the Commission’s two-year “penalty pilot” experiment, which had required the Enforcement staff to obtain a special set of approvals from the Commission in cases involving civil monetary penalties for public companies as punishment for securities fraud.
In speaking to our Enforcement staff, I’ve been told that these special procedures have introduced significant delays into the process of bringing a corporate penalty case; discouraged staff from arguing for a penalty in a case that might deserve a penalty; and sometimes resulted in reductions in the size of penalties imposed.
At a time when the SEC needs to be deterring corporate wrongdoing, the “penalty pilot” sends the wrong message. The action I am taking to end the penalty pilot is designed to expedite the Commission’s enforcement efforts to ensure that justice is swiftly served to those public companies who commit serious acts of securities fraud.
Another immediate change I am putting in place to bolster the SEC’s enforcement program is to provide for more rapid approval of formal orders of investigation—the permission slips given out by the Commission that allow SEC staff to use the power of subpoenas to compel witness testimony and the production of documents. When I was a Commissioner, formal orders were routinely reviewed and approved within a couple of days by written approval of the Commission or by “duty officer”—a single Commissioner acting promptly and on behalf of the entire Commission.
Today, however, many formal orders of investigation are made subject to full review at a meeting of all five Commissioners, necessitating that they be placed on the calendar sometimes weeks in advance. In investigations that require use of subpoena power, time is always of the essence, and every additional day of delay can be costly. To ensure that subpoena power is available to SEC staff when needed, I’ve given direction for the agency to return to the prior policy of timely approval of formal orders by seriatim approval or where appropriate, by a single Commissioner acting as duty officer.
In addition to these immediate actions, I have also spent much of my first week and a half on the job in meetings with my fellow Commissioners and the agency’s senior staff to discuss other ways in which we can reinvigorate the SEC’s enforcement program, including improving the handling of tips and whistleblower complaints and focusing on areas where investors are most at risk. And I anticipate that we’ll be making further improvements in the coming weeks and months to ensure swift and vigorous enforcement.
In addition to our enforcement priorities, the Commission will of course also have a full plate when it comes to our policy and rulemaking agenda.
In deciding upon regulatory priorities, it is vital that the SEC re-engage with the people we serve: investors. The investor community—from the largest pension fund to the family who has saved in their 401(k) or 529 plan—needs to feel that they have someone on their side — that they can go to the SEC to seek redress, or to have their opinions heard.
To that end, we will form an Investor Advisory Committee to ensure that the Commission hears first hand about the issues most concerning to investors.
The crisis facing our capital markets will require aggressive and timely action to restore investor trust and confidence. To this end, allow me to highlight a few of the initiatives that I hope to pursue as priorities:
Improving the quality of credit ratings by addressing the inherent conflicts of interest credit rating agencies face as a result of their compensation models and limiting the impact of credit ratings on capital requirements of regulated financial institutions.
Reducing systemic risk to investors and markets by promoting—and regulating appropriately—centralized clearinghouses for credit default swaps.
Strengthening risk-based oversight of broker-dealers and investment advisers.
Improving the quality of audits for nonpublic broker-dealers and promoting the safe and sound custody of customer assets by any broker-dealer or investment adviser.
Seventy-five years after the SEC was founded, the Commission finds itself in a situation where, once again, it must play a critical role in reviving our markets, bolstering investor confidence, and rejuvenating our economy.
Source
SEC (Feb. 6, 2009).
“Investigators always start off by playing catch up on the facts, but they should already speak the language and be well-versed in finance and the ways of Wall Street,” he says.
Meanwhile, observers say the policy changes are a good start.
“She’s already helped enforcement by openly pushing aside obstacles created by her recent predecessors, like the pilot program, and by looking more to the duty officer,” says Khinda.
He expects to see a “re-energized enforcement division … because they now have a Commission that seems interested in actively supporting them,” which he says “should put a lot of wind in their sails.”
Gorman says the policy changes “should help speed things up somewhat” and could result in formal orders of investigation being sought sooner and more often.
Goldsmith
Meanwhile, Barry Goldsmith, co-chair of the securities enforcement practice group at Gibson, Dunn & Crutcher, says the cases brought since Schapiro came on board “are an indication of how quickly she will move matters of import to investors.”
Referring to a comment attributed to Schapiro earlier this month, Goldsmith, former NASD executive vice president for enforcement and former SEC chief litigation counsel, says Schapiro has “already started to make good on her pledge that the SEC Staff is ‘going to act like our hair is on fire.’”
He expects to see additional procedural changes in the enforcement process that will “streamline the review process and give the staff greater autonomy to investigate what may be potentially illegal conduct.”
Goldsmith and others also expect to see Schapiro to act quickly to implement a new system to handle the huge volume of tips and complaints the agency receives, which she pledged to do during her confirmation hearing.
Observers also expect the SEC to maintain or step up its cooperation with other regulators.
“The SEC is a relatively small agency with an incredibly big job,” says Gorman. “One way to get as much bang for its buck as it can is through better coordination with other agencies.”
While commenters say the agency already has a high level of coordination with criminal prosecutors, they say Schapiro could try to build stronger ties with other agencies where she’s held posts, including the Commodity Futures Trading Association, and self-regulatory organizations such as FINRA, as well as with state securities regulators.
One thing observers don’t expect to change is the SEC’s enforcement priorities. Financial fraud, insider trading, manipulative short selling, Ponzi schemes, and accounting cases are expected to remain as staples. One area that commenters say is likely to see more enforcement action is hedge funds and their advisers.
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