Negotiating With the SEC After a Wells Notice.

A Wells notice is a communication from the SEC’s Division of Enforcement (or one of the other Divisions that enforces SEC rules) stating that its staff have reached a preliminary recommendation to pursue enforcement action. Importantly, a Wells notice is not a filed charge, nor is it a finding of liability. The Division will only file a civil enforcement action if the Commission approves its recommendation, and staff can still negotiate a favorable settlement (or no settlement at all) after issuing a Wells notice.

Can You Get Out of an SEC Investigation by Negotiating with the SEC?

Yes, in many cases it is possible to avoid enforcement action after receiving a Wells notice. But, as with other negotiated settlements involving the federal government, those involving the SEC require careful attention to various factors including the merits of the government’s case, terms of a potential settlement, collateral consequences, disclosure requirements, and risks of parallel (criminal or administrative) proceedings. To begin discussions with the SEC, counsel must:

What Are My Options After Receiving a Wells Notice?

How Much Time Do I Have to Respond to a Wells Notice?

Do I Have to Respond to a Wells Notice?

What Is the Difference Between a Wells Submission and a Wells Response?

What happens between the Wells response and Commission approval?

How Long Do I Have to Respond to a Wells Notice?

The notice or instructions you received from the SEC staff will establish the deadline for providing your response. SEC staff will often be willing to extend the deadline if you promptly request and justify the extension.

Can I Propose a Settlement Along With My Response to a Wells Notice?

While it is possible, negotiating an SEC settlement usually involves a separate process. When considering negotiating a settlement with the SEC, we focus our advocacy on two fronts. First, we use the opportunity to put the SEC staff on notice that they have to prove their case. Second, we work with the SEC staff to resolve the matter on terms that protect our clients to the greatest extent possible. The SEC’s Rule 240 requires the SEC’s interested division to submit any pending offers with its enforcement recommendation.

We strongly encourage our clients to maintain a clear separation between their merits-focused Wells submission and their settlement proposal. As you will see in the following section, the SEC staff will schedule two separate sessions for resolving a Wells notice: one in which you can make a Wells presentation (i.e., a Wells meeting) and another in which you can present a proposal to resolve the matter on terms that are favorable for you (i.e., a settlement session).

While this will, in turn, take longer than it would to pursue a settlement agreement, the time involved in negotiating a settlement is often minimal compared with the time involved in negotiating a favorable set of terms.

When is an SEC Settlement “Final”?

An SEC settlement offer is not “final” until (i) the interested division accepts the offer, (ii) the interested division submits its recommendation to the Commission, and, (iii) the Commission approves the recommendation. When the Commission accepts an offer, it will issue a statement of findings and an order.

What is a Tolling Agreement and Does My Attorney Need to Negotiate One With the SEC?

A tolling agreement is a contract between the SEC and you in which you agree to preserve certain SEC claims, in exchange for the SEC agreeing to give you more time to discuss the case with the SEC staff and to negotiate for a favorable resolution. If you are facing the risk of an SEC enforcement action, it is imperative that you engage experienced SEC defense counsel promptly to negotiate for a favorable resolution.

Do I Need to Negotiate a Tolling Agreement With the SEC and When?

Our SEC defense attorneys and federal prosecutors with experience at the SEC, DOJ, U.S. Attorney’s Office, and other federal agencies have advised us that this is possible. Depending on the circumstances, your attorney may or may not be able to avoid a Wells submission.

A tolling agreement is a contract between the SEC and you in which you agree to preserve certain SEC claims, in exchange for the SEC agreeing to give you more time to discuss the case with the SEC staff and to negotiate for a favorable resolution. If you are facing the risk of an SEC enforcement action, it is imperative that you engage experienced SEC defense counsel promptly to negotiate for a favorable resolution.

What is a Wells Meeting and What is a Settlement Session?

A Wells meeting is an opportunity for you to present the merits of your case to the SEC staff. A settlement session is an opportunity for you to discuss terms and conditions of a proposed settlement.

Can the SEC Staff Open Up My Case After Issuing a Wells Notice?

Yes, this is possible. Even after the SEC staff issues a Wells notice, the investigation may still be open. The SEC staff may continue investigating you while you make your Wells response. As with any other federal investigation, you must be extremely careful when negotiating a settlement with the SEC staff. Mistakes you make in an SEC investigation can have both civil and criminal consequences.

What should you negotiate besides the penalty amount?

Can the SEC Staff Narrow the Charges Against Me in Response to My Wells Submission?

If the SEC staff’s enforcement recommendation was not final, then it is possible that the staff may be willing to narrow the charges in response to a compelling Wells submission. However, if the staff is unwilling to narrow the charges, this should be taken into account when developing an effective SEC settlement strategy.

What Are the Remedies That the SEC Can Seek in an Enforcement Action?

The SEC can seek a variety of remedies in enforcement actions against individuals and companies. The remedies that the SEC can seek against individuals include, but are not limited to, fines, penalties, injunctions, officer and director bars, industry bars, and disgorgement. The remedies that the SEC can seek against companies can include, but are not limited to, fines, penalties, disgorgement, injunctions, monitorships, compliance undertakings, and other remedies. In all cases, negotiated settlements involving the SEC often include a number of conditions that are important for individuals and companies to fully understand before they agree to any specific terms.

How Can I Convince the SEC to Mitigate the Charges and Penalties Against Me?

There are a number of arguments that can be used to convince the SEC to mitigate charges and penalties in its enforcement actions. Effective cooperation, remediation, and self-reporting are three important factors in determining the likelihood that the SEC will agree to mitigate charging or sentencing recommendations. However, cooperation, remediation, and self-reporting are often just a starting point. After proving that you have taken steps to address the issues raised in the SEC investigation, you will then need to convince the SEC that you are not a threat to the investing public. An effective strategy for persuading the SEC to mitigate charges and penalties can include:

How Does Cooperation Affect the SEC’s Enforcement Recommendations and Settlement Offers?

While cooperation is undoubtedly a factor in determining the SEC’s enforcement recommendations and settlement offers, it does not guarantee a specific outcome. There is no formula for determining the exact amount of credit an SEC investigation target will receive for cooperating. For this reason, it is important to engage a team of experienced SEC defense attorneys to help determine what approach (if any) you should take toward cooperating with the SEC.

Can I Negotiate a Lesser Penalty With the SEC Based on an Inability to Pay?

Yes, the SEC evaluates claims of inability to pay based on (i) the target’s financial statements and supporting documentation, (ii) the amount of the disgorgement, pre judgment interest, and penalties that the SEC is seeking, and, (iii) the likelihood that the target will be able to pay the amount in question over the next several years.

Will the SEC Require an Admission or a Denial as Part of a Settlement Agreement?

In most SEC enforcement cases, a settlement agreement will contain language such as “without admitting or denying the allegations.” However, the Commission has issued several policy statements and guidelines over the last several years regarding the circumstances under which admissions will be required as part of a negotiated settlement. For this reason, it is important to engage experienced SEC defense counsel to negotiate for no-admit-no-deny language whenever possible.

Does the SEC Have to Pay the Disgorgement Amount to Harmed Investors?

The SEC’s disgorgement powers were recently affirmed by the Supreme Court of the United States in Liu v. SEC (2020). However, the Court clarified that in most cases the SEC can only seek disgorgement in order to repay the harmed investors. This means that in most cases the SEC must have a plan in place to pay the disgorged amount to the investors.

Which collateral consequences can make a settlement unexpectedly costly?

What are the Collateral Consequences of SEC Enforcement Proceedings?

SEC enforcement proceedings can have numerous collateral consequences. In addition to any legal fees, fines, penalties, disgorgement, and other remedies sought by the SEC, an SEC enforcement proceeding can lead to loss of professional license, loss of corporate license, loss of professional insurance coverage, and other consequences.

Can an SEC Enforcement Action Lead to Professional Suspension?

Yes, the SEC has authority under Rule 102(e) to suspend professionals from practicing before the SEC. This can lead to loss of licensure and other consequences in many cases.

Can I Use the Company’s Resources to Defend My SEC Enforcement Action?

The answer to this question depends on (i) the applicable governing law, (ii) the company’s bylaws and other organizational documents, and, (iii) the terms of any indemnification agreement that you may have signed. If you have advancement rights for your legal fees, then you may be able to seek reimbursement from your employer.

Does D&O Insurance Cover the Cost of a Wells Defense?

D&O insurance policies vary greatly and the definition of “Claim” under the terms and conditions of the policy will be key to determining coverage.

Does D&O Insurance Cover Penalties, Disgorgement, and Pre Judgment Interest?

If the applicable insurance policy has an indemnification provision, then it may cover penalties, disgorgement, and pre judgment interest. However, as with many other issues, coverage depends on (i) the language of the policy, and, (ii) the applicable governing law.

Can an SEC Enforcement Action Prevent My Company or Fund from Raising Capital Through a Rule 506 Offering?

Yes, SEC Rule 506(d), codified at 17 C.F.R. § 230.506(d), disqualifies any issuer from making an offering under Rule 506 if the issuer, an “affiliate,” or “covered persons” have been subject to certain disqualifying events within the applicable look-back period, five years for court injunctions and restraining orders, and up to ten years for certain criminal convictions and final regulatory orders.

Can You Obtain a Rule 506(d) Waiver?

The SEC may waive a Rule 506(d) disqualification if an issuer or issuer’s affiliates can demonstrate good cause for the issuance of an injunction, order, judgment, or decree. To request a Rule 506(d) waiver, the issuer’s defense attorneys should demonstrate that the issuer was not a bad actor, that the issuer has taken remedial measures, and that the issuer’s conduct did not harm investors.

What is an Allocation Provision?

An allocation provision is a contractual provision in which a company (or its insurer) agrees to pay the legal fees of a party that the insurer would not otherwise be obligated to cover. Under an allocation provision, the company (or its insurer) and the party in question will share the cost of defense in a manner that makes business sense under the circumstances.

This is the point at which most people call a lawyer. Spodek Law Group takes federal criminal defense cases nationwide from its New York and Los Angeles offices.

What are the Risks of Parallel Proceedings?

The main risk of parallel proceedings is that your strategy for one will interfere with your strategy for another. For example, when facing a parallel criminal investigation, an SEC investigation target should be careful not to disclose privileged information that he or she may otherwise want to maintain control of in order to protect his or her interests. In this case, a potential settlement with the SEC could create a conflict with the potential DOJ resolution. The SEC and DOJ may work together, and each can share information with the other. The SEC and DOJ may also both make use of any voluntary factual statements that are part of a Wells submission. While you do not have to provide any information to the SEC (and, when facing a parallel criminal investigation, you may have constitutional rights and defenses as well), voluntary submissions can create unnecessary risks. This applies to corporate entities as well. When facing an SEC investigation, companies can also run into these issues. For example, companies with complex corporate structures can run into conflicts with their owners, executives, and other stakeholders. These stakeholders may file private enforcement actions against them as well. These can range from shareholder derivative suits to consumer class action lawsuits. Again, when facing these issues, companies will want to work with their SEC defense attorneys to develop an effective litigation and defense strategy.

Can I Protect the Confidentiality of My Wells Submission in Parallel Proceedings?

While it is true that the SEC will not voluntarily disclose your Wells submission to private plaintiffs, your Wells submission will likely be discoverable in a private enforcement action. If your Wells submission contains material not covered by the attorney-client privilege or work product doctrine, then the materials can be produced to the private plaintiffs as a result of a pending SEC proceeding.

Can I Plead the Fifth Amendment?

The Fifth Amendment to the United States Constitution only protects natural persons. It does not protect corporations, partnerships, or other business entities. Natural persons can and should invoke the Fifth Amendment’s protections when necessary, especially if there is a parallel criminal investigation.

When must a Wells notice or potential settlement be disclosed?

Do I Have a Duty to Disclose a Wells Notice or a Proposed SEC Settlement?

Generally, securities laws do not mandate disclosure of every Wells notice or proposed SEC settlement. For public companies, the decision to disclose a Wells notice or proposed SEC settlement depends on the applicable reporting obligation, whether the matter is material, and the probability of a loss. SEC rules and guidelines establish reporting requirements for public companies to disclose information that investors would need to make informed investment decisions. At the same time, GAAP ASC 450 requires companies to accrue a loss when a loss is probable and the loss can be reasonably estimated.

What Are Disclosure Obligations for Private Companies?

For private companies, a disclosure obligation regarding a Wells notice can arise from several sources. These include (i) the company’s private offering documents, (ii) any contractual obligations to the company’s investors or other stakeholders, and, (iii) federal antifraud laws and regulations.

When Does an SEC Settlement Become Publicly Disclosed?

Usually, an SEC settlement is not publicly disclosed when it is first reached. However, negotiated settlements are not considered final when the SEC staff signs a settlement agreement. A negotiated settlement will not be considered final until: (i) the interested division submits its recommendation for enforcement action (including any agreed-upon settlement) to the Commission, and, (ii) the Commission approves the settlement. After the Commission approves a negotiated settlement, the Commission will announce the approval. Unless official disclosure is made or other public disclosure is required, SEC investigations usually remain nonpublic during the investigation.

Can Disclosing a Wells Notice or Proposed SEC Settlement Damage a Company’s Reputation?

Yes, a public disclosure can damage a company’s reputation. In addition to potentially alerting private plaintiffs to the company’s issues, this is also problematic for other reasons as well. Once again, companies should work with their SEC defense attorneys to develop effective SEC litigation and defense strategies.

How do limitations periods and Jarkesy affect settlement leverage?

Do Limitations Periods Affect SEC Enforcement Actions?

Yes, limitations periods affect SEC enforcement actions. The general statute of limitations for civil penalties under 28 U.S.C. § 2462 is five years. However, the Exchange Act’s Section 21(d)(8) provides a 10-year period of limitations for scienter-based disgorgement claims. Furthermore, the U.S. Supreme Court has recently ruled in Liu v. SEC that the SEC’s authority to seek disgorgement is limited to “wrongdoer’s net profits.”

Does the Jarkesy Decision Affect SEC Enforcement Actions?

Yes, in SEC v. Jarkesy, the U.S. Supreme Court clarified that the Seventh Amendment to the United States Constitution provides a right to a jury trial for defendants in SEC civil enforcement actions. As a result, the SEC will have to ensure that, for all civil penalties that it is seeking, an appropriate jury trial is held, similar to common-law fraud cases. With Jarkesy, the SEC can no longer pursue civil-penalty claims solely within the SEC.

This does not, however, mean that the SEC’s enforcement power is limited to the federal judiciary. SEC actions can be pursued in federal court or through administrative proceedings, provided the SEC complies with the constitutional protections at issue.

Can the SEC Use a Tolling Agreement to Preserve its Enforcement Action?

Yes, a tolling agreement is a contract where the SEC and the defendant agrees to preserve its claims, allowing time to negotiate for a favorable resolution without being forced to file due to limitations period concerns.

Can the SEC Seek Disgorgement for the Period Prior to Five Years Ago?

The U.S. Supreme Court, in Kokesh v. SEC, classified the SEC’s authority to seek disgorgement as a penalty under 28 U.S.C. § 2462, meaning the SEC must file its disgorgement claim within five years from the point the claim accrued. Again, the Supreme Court has since overruled Kokesh in Liu v. SEC and established that the SEC is not limited to seeking disgorgement in enforcement proceedings within 5 years, but is limited to seeking disgorgement of a wrongdoer’s net profits.

Talk to Spodek Law Group

Every case turns on its own facts, and general information is no substitute for advice about yours. Todd Spodek, managing partner of Spodek Law Group, and the firm's attorneys defend federal criminal and white collar matters nationwide. Reach the firm at 212-300-5196.