Settling With the SEC: What to Expect.

Settling with the SEC typically progresses through a series of stages, though these are not sequential. While most companies aim to resolve matters before the filing of formal charges, resolution may also be possible during litigation, and even on the eve of trial. Negotiated settlements, whether pre- or post-filing, may or may not be approved by the Commission. The following are the steps involved in negotiating and finalizing a settlement with the SEC.

Can Cooperation Influence the Terms of an SEC Settlement?

Yes, cooperation may influence the terms of an SEC settlement. Cooperation can potentially reduce sanctions, and in some cases, it can reduce the risk of liability as well. Nevertheless, while cooperation may impact the terms of a negotiated settlement, this negotiated settlement must be approved by the Commission for it to be a final resolution.

Are There Other Factors That Shape the Terms of an SEC Settlement?

Yes. The terms of any negotiated settlement will reflect a number of considerations, such as (i) whether approving the settlement provides sufficient remedies for the alleged violations (ii) whether the settlement terms have collateral consequences in insurance, licensing, reputational, and commercial terms, and, (iii) whether an opposing party may challenge a negotiated resolution.

What are the Consequences of an SEC Settlement?

An SEC settlement can have a number of consequences, both in addition to, and separate from, any penalties or other sanctions. These consequences can be reputational, commercial, and even in terms of insurance and licensing. In these respects, an SEC settlement can be just as consequential as a SEC enforcement case that ends in liability.

What is the SEC’s Division of Enforcement?

The SEC’s Division of Enforcement is the body within the SEC that investigates suspected violations of federal securities laws and regulations and, when necessary, takes appropriate action. Investigations by the Division of Enforcement target all types of individuals and companies, and the Division can pursue either civil actions or administrative proceedings.

How long does an SEC investigation and settlement take?

Are SEC Investigations and Settlements Subject to a Deadline?

No. Unlike criminal cases, where the U.S. Constitution and other federal statutes impose certain deadlines, the U.S. Supreme Court has been careful not to establish a deadline in SEC enforcement cases. The Supreme Court has instead imposed statutory deadlines in matters involving the SEC’s securities registration authority, the Securities Exchange Act, or the SEC’s authority to impose fines and other sanctions. Consequently, there is no overarching deadline that would require the SEC to either bring charges against a targeted individual or company or close the investigation.

Do SEC Investigations and Settlements Take a Certain Amount of Time?

Not necessarily. The amount of time it takes to conduct an SEC investigation, and to reach an SEC settlement if one is warranted, depends on a number of factors. While an SEC investigation and settlement may take years, it could also take less than six months in some cases.

Is it Possible to Negotiate With the SEC Before it Issues a Formal Order?

Yes, in many cases it is possible to negotiate with the SEC before the Commission issues a formal order. At the informal stage of an SEC investigation, the Enforcement staff may make informal document and information requests. Companies and other individuals will typically respond voluntarily, and it is possible to negotiate a favorable resolution before the Commission grants formal investigative authority. Once the Enforcement staff obtains formal authority, it can issue subpoenas to compel compliance.

Does a Wells Notice Signal the End of an SEC’s Investigation?

A Wells notice typically signals that an SEC investigation has largely concluded, rather than signal the beginning of a new inquiry. When the Enforcement staff has completed its investigation, it will then decide whether to pursue civil action or an administrative proceeding. If it decides to do so, it will send a Wells notice (or equivalent document) to the subject(s) of the investigation. A Wells notice sets forth the alleged violation(s) and gives the subject(s) an opportunity to provide a response known as a “Wells submission.” If the subject(s) fail to persuade the Enforcement staff to refrain from bringing charges, then an SEC enforcement action will be filed.

Will a Wells Notice Lead to an SEC Action in All Cases?

Not necessarily. While a Wells notice signals that the Enforcement staff has concluded its investigation, it does not mean that the Enforcement staff has decided that charges are warranted. In many cases, a Wells submission may persuade the Enforcement staff to refrain from bringing charges.

Does an SEC Investigation Always Start as a Matter Under Inquiry?

No. The issuance of a Matter Under Inquiry letter is the first step in many SEC investigations; however, it is not a requirement in all cases. An SEC investigation can also start with the issuance of a formal order.

Is a Matter Under Inquiry a Formal Investigation?

No. A Matter Under Inquiry is a preliminary screening process rather than a formal investigation. If the Enforcement staff decides to pursue a formal investigation based on a Matter Under Inquiry, then a formal order will be issued.

Does the SEC Always Issue a Wells Notice before Closing an Investigation?

No. While the Enforcement staff often issues a Wells notice before closing an investigation or filing an SEC enforcement action, this is not always the case.

How Much Cooperation Credit Should I Expect to Get from the SEC?

The SEC does not publish any fixed discount or numerical weighting for cooperation credit. Thus, for those who intend to seek SEC cooperation credit, the best approach is to document their conduct and evidence of their conduct, then present their conduct to the SEC in the context of the SEC’s Seaboard framework. The Seaboard framework (established by the 2001 Section 21(a) Report of Investigation, Exchange Act Release No. 44969 (Oct. 23, 2001), issued in connection with In the Matter of Gisela de Leon-Meredith (the "Seaboard Report")) includes several criteria for assessing cooperation, which are:

How Much Cooperation Credit Does the SEC’s Seaboard Framework Consider?

The SEC’s Seaboard framework considers cooperation in four broad categories:

• Self-Policing:

- Establishing procedures that are designed to prevent misconduct.

- Effective compliance monitoring and self-correction.

- Remedial measures when appropriate.

• Self-Reporting:

- Reporting violations or the risk of violations to the SEC.

- Promptness of reporting.

- Completeness of reporting.

• Remediation:

- Prompting remedial steps to address misconduct.

- Implementing controls to prevent similar misconduct.

- Compensating harmed investors.

• Cooperation:

- Disclosure of relevant documents and information.

- Assisting with the investigation of the alleged violations and the SEC’s enforcement action.

- Witness participation.

How Can I Best Argue for a Favorable SEC Settlement?

Companies and individuals can best argue for a favorable SEC settlement by identifying and demonstrating all aspects of their conduct that merit SEC cooperation credit. In a well-argued SEC settlement, the following arguments are often included:

• Self-Reporting:

- The argument for self-reporting credit begins by arguing the subject, by self-reporting, took a substantial part of the investigation off the SEC’s shoulders. For example, “Upon discovering the potential violations, [the company/individual] promptly self-reported, thereby enabling the SEC to avoid conducting a substantial portion of the preliminary investigation.”

• Self-Disclosure:

- “Additionally, the subject proactively disclosed all relevant facts related to the potential violations, thereby assisting in the SEC’s understanding and investigation.”

• Compensation of Harmed Investors:

- “Recognizing the potential for investor harm, [the company/individual] promptly began making steps to compensate affected investors, including initiating restitution and other appropriate remedial measures.”

• Remedial Controls:

- “Furthermore, [the company/individual] has taken remedial steps to address the underlying issues, including strengthening compliance controls and updating internal procedures to prevent future misconduct.”

• Cooperation with the SEC:

- “The subject’s cooperation with the SEC throughout the investigation has also been extensive and proactive, demonstrating a commitment to resolving the matter effectively and ensuring that any future violations are prevented.”

Who Needs to Approve an SEC Settlement?

At the SEC, the staff within the Division of Enforcement conducts investigations and makes recommendations to the Commission regarding enforcement action. Accordingly, before a negotiated settlement can be finalized, it must be approved by the Commission. After Commission approval, the Enforcement staff will then contact the defense for any necessary steps to finalize the settlement. The final steps differ in federal-court cases and in administrative cases:

What are the Final Steps in a Negotiated Federal-Court Settlement?

In a negotiated federal-court settlement, the parties will typically file three documents in the district court. First, the SEC files a complaint against the defendants. Second, the defendants and the SEC then file a joint consent, in which the defendants agree to enter into a proposed final judgment. Finally, the defendants and the SEC file the proposed final judgment. Until the district court enters the proposed final judgment, which generally it will do shortly after the parties file it, the proposed federal consent judgment is not in effect.

What are the Final Steps in a Negotiated Administrative Settlement?

In a negotiated administrative settlement, the Enforcement staff typically initiates the settlement process by sending the subject an offer for a settlement agreement. With this offer, the Enforcement staff often includes a proposed Order Instituting and Settling SEC Administrative Proceedings. If the subject responds to the offer by signing the document (typically without admitting or denying the allegations), and then the Commission accepts the offer, the Commission’s acceptance will then produce a final administrative order. In most cases, the Commission’s acceptance will produce an order in the same form as the one that the Enforcement staff attached to the offer.

Are the Obligations Under an SEC Settlement and Consent Judgment Enforceable even when the Respondent Makes No Admission?

Yes. With respect to both an SEC administrative order and a federal-court consent judgment, if the respondent makes no admission, the provisions of the order or consent judgment that impose obligations on the respondent will still be enforceable in the event of the respondent’s non-compliance. Thus, settlement provisions that impose financial burdens or other sanctions on the respondent (including, but not limited to, restrictions on securities brokerage, restrictions on membership on corporate boards, or prohibitions on serving as an investment adviser) will be enforceable even without an admission of liability.

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.

How much money can an SEC settlement require?

What is the Difference Between Civil Penalties and Disgorgement?

Civil penalties are fines that punish a wrongdoer for violating federal securities laws and regulations. Disgorgement is an equitable remedy that recovers a wrongdoer’s ill-gotten gains. Unlike civil penalties, which are intended to punish, disgorgement is intended to strip wrongdoers of their illicit gains.

What are the Limits on Equitable Disgorgement?

In Liu v. SEC, the United States Supreme Court held that equitable disgorgement is generally limited to a wrongdoer’s “net profits.” In other words, while equitable disgorgement may include all amounts a wrongdoer earns as a result of his violation, it may not include amounts that he must return to victims or pay to the government in civil penalties. In Liu v. SEC, the Supreme Court further stated that “[t]he equitable nature of the profits remedy generally requires the SEC to return a defendant's gains to wronged investors for their benefit.” In other words, unless the disgorgement amounts will be used for investor compensation, the SEC may not pursue equitable disgorgement in most cases.

How is Prejudgment Interest Calculated in SEC Cases?

Prejudgment interest in SEC cases is calculated using the federal tax underpayment rate. This is established in SEC Rule of Practice 600, which is entitled “Interest on sums disgorged.” The federal tax underpayment rate generally remains relatively stable, but it has increased recently, due to changes in the federal interest rate environment.

What are the Payment Terms in an SEC Settlement?

Payment terms for an SEC settlement should be negotiated in detail. While not all settlement documents have identical payment terms, these documents will typically include a description of the monetary payment amounts, a payment deadline, a description of any payment methods that are permitted in the settlement, and a provision regarding the respondent’s right to pay the balance in installments. The latter provision is particularly important, because, without a specific provision granting a respondent the right to pay the balance in installments, a respondent generally will have no right to do so.

Can Penalties Collected under Sarbanes-Oxley Act be Used to Fund Investor Distributions?

Yes, pursuant to Section 308(a) of the Sarbanes-Oxley Act, the SEC has the authority to use civil penalties collected to fund investor distributions in SEC enforcement cases. This statute is entitled “Collection of penalties to be used for investor distribution.”

Are the Legal Fees of SEC Defense Counsel Subject to a Billing Schedule?

No. The legal fees of SEC defense counsel are a matter of private negotiation between the SEC and the subject’s counsel, as there is no agency billing schedule.

What nonmonetary restrictions can an SEC settlement impose?

What is an SEC Rule 102(e) Proceeding?

An SEC Rule 102(e) proceeding is a proceeding in which the SEC can suspend, prohibit, or permanently bar individuals from “appearing or practicing before the Commission.” The legal effect of a sanction imposed in an SEC Rule 102(e) proceeding is limited to the SEC. However, other SEC proceedings (including administrative proceedings) may have the potential for similar sanctions as well.

What is an Injunction?

An injunction is a federal-court order that prohibits a defendant from doing something in the future. If a defendant is subject to an injunction, then continuing to do what he is prohibited from doing can expose him (or his company) to contempt sanctions, including fines and imprisonment.

What is an Officer-and-Director Bar?

An officer-and-director bar is an SEC or federal-court order prohibiting a defendant from serving as an officer or director of a public company.

What is an SEC Bar?

An SEC bar is an SEC or federal-court order prohibiting a defendant from practicing as a broker, investment adviser, dealer, auditor, or any other profession in the securities industry.

What is the Difference Between a Permanent Bar and a Bar With the Right to Seek Removal?

A permanent bar is a bar that has no termination date. A bar that grants a respondent the right to seek removal allows him to re-apply for the removal of the bar after a specified period of time.

What is an Undertaking?

An undertaking is a negotiated commitment to take affirmative steps post-settlement to avoid further violations. Undertakings are included in settlement documents and enforced according to the terms that are settled. The SEC frequently includes undertakings in SEC settlements.

What are the Most Common Undertakings in SEC Settlements?

The three most common undertakings in SEC settlements are:

• Independent Compliance Monitors
• Compliance Certifications
• Post-Settlement Reports

While, again, each settlement has its own specific set of undertakings, and the specific requirements set forth in any individual settlement will depend on the particular circumstances involved, in most cases, this is how the three most common undertakings function:

• Independent Compliance Monitors: Appointment of an independent compliance monitor is an undertaking that is specific to a settlement. Not all SEC settlements include this undertaking, and when they do, the obligations that are imposed under the undertaking are limited to the compliance monitor.
• Compliance Certifications: Once again, this is a matter of settlement. Once again, the compliance certification is an affirmative requirement that is enforced based on the specific provisions that are settled in the settlement document.
• Post-Settlement Reports: Once again, this is subject to individual settlements. Once again, any post-settlement reporting is subject to the specific provisions that are settled in the settlement document.

Can the SEC Impose Other Restrictions?

Yes. In addition to seeking civil penalties, disgorgement, and all of the above, the SEC also has the authority to seek a temporary restraining order (TRO), an asset freeze, and an SEC receivership. While the SEC does not seek these types of remedies frequently, these are all remedies that are potentially at issue.

What collateral consequences can follow an SEC settlement?

What is a No-Admit/No-Deny Settlement?

A no-admit/no-deny settlement is a settlement in which a defendant agrees to accept any financial penalties and/or other restrictions without admitting to the truth of any of the allegations involved.

What is the Difference Between an Adjudicated and Unadjudicated Allegation?

An adjudicated allegation is an allegation that has been found to be true by a trier of fact after a trial. An unadjudicated allegation is an allegation that is presumed to be true because the defendant entered into a settlement. In private litigation, issue preclusion generally applies only to adjudicated allegations. Thus, even though most SEC settlements will include unadjudicated allegations in the complaint or in the administrative order, private investors’ counsel will typically face an issue preclusion problem when attempting to rely on these unadjudicated allegations in a federal securities fraud action.

What Is Regulation S-K Item 103?

Regulation S-K Item 103 is a Securities and Exchange Commission regulation that requires publicly traded companies to disclose all material pending legal proceedings.

What Is a Regulation S-K Disclosure?

A Regulation S-K disclosure is a public disclosure that may be made in a company’s proxy statement, in its Annual Report on Form 10-K, or in its Form 8-K, depending on the circumstances.

What Is SEC Rule 506(d)?

SEC Rule 506(d) is the SEC’s “bad actor” disqualification rule, under which certain SEC orders and injunctions disqualify individuals and companies from engaging in private placements. However, under Rule 506(d) and other relevant rules, issuers can still conduct private offerings if they obtain a waiver from the SEC.

These disclosures also apply to Rule 506(d) (and other “bad actor” disqualification rules). However, under Rule 506(d) and other relevant rules, issuers can still conduct private offerings if they obtain a waiver from the SEC.

Similar to Rule 506(d), SEC orders in many cases can create a “statutory disqualification” that prohibits an individual or company from engaging in brokerage and securities activities under the Exchange Act.

A critical issue in an SEC settlement is whether the respondent’s D&O insurance is applicable. As with any other insurance claim, the applicability of the respondent’s D&O insurance will depend on (i) the specific language of the policy, and (ii) applicable governing-law rules concerning insurability.

Settlements with the SEC and federal prosecutors do not release private investors’ claims against companies and their executives for the same (or similar) misconduct. These claims are independent of the SEC’s claims and will survive.

Even if an SEC settlement includes a no-admit provision, private litigants can still discover any Wells submissions that a defendant filed as part of the investigation.

How Does an SEC Settlement Affect a Parallel DOJ Case?

In many cases, it will be necessary to defend against an SEC and a DOJ case in parallel. While the SEC is the lead agency in most investigations, SEC investigations and DOJ investigations will proceed simultaneously against the same company or individual in many cases.

Does an SEC Settlement Bind the DOJ?

An SEC settlement does not bind the DOJ unless the DOJ separately agrees to the settlement. While DOJ and SEC prosecutors may coordinate their settlement efforts, any SEC settlement will not bind DOJ unless DOJ agrees.

What Is Exchange Act Rule 24c-1?

Exchange Act Rule 24c-1 is the SEC’s information-sharing rule. The rule authorizes the SEC to share any information with the DOJ regardless of whether the information has become public. As a result, if a defendant voluntary discloses information to the SEC as part of the settlement, then he also risks the information being used by the DOJ as well.

Does an SEC Request for Information Waive the Attorney-Client Privilege?

No, an SEC request for information does not eliminate the attorney-client privilege over any responsive communications. For example, if an SEC investigator requests emails between a CEO and his defense counsel, the CEO’s defense counsel can either provide the emails voluntarily, or assert the attorney-client privilege and withhold them.

In some cases, defendants may voluntarily disclose privileged communications to the SEC with the intent of bolstering their cooperation record and thereby secure a more favorable settlement. However, if a defendant voluntarily discloses privileged communications, this can result in a waiver of protection under applicable governing law.

Can the SEC Compel the Production of Voluntarily Disclosed Statements?

If the SEC is able to identify voluntary disclosures, it can then seek access to them. While doing so does not create a blanket waiver of the Fifth Amendment, the voluntary statement itself may be admissible in federal court or an administrative proceeding.

What Are the SEC’s Parallel Investigative Agencies?

The SEC’s parallel investigative agencies are the Department of Justice (DOJ) and the Financial Industry Regulatory Authority (FINRA). The DOJ conducts criminal investigations and prosecutions against individuals and companies that are accused of violating federal securities laws, while FINRA has investigative and disciplinary authority over its broker-dealer members and their associated persons.

Contact a Federal Criminal Defense Attorney

Nothing here is legal advice, and the details of your case matter. Todd Spodek and Spodek Law Group take federal criminal and white collar cases nationwide, from offices in New York, Brooklyn, Queens and Los Angeles. You can reach the firm at 212-300-5196.