On November 6, 2014, at a PLI securities conference, three former SEC enforcement directors confirmed the views of many commentators that the Division of Enforcement has changed fundamentally in recent years, and not necessarily for the better. Coming one day after Judge Jed Rakoff’s blockbuster speech questioning the wisdom of the SEC’s determination to expand the number of administrative prosecutions, this is an additional reminder that the Commission needs to give some serious thought to the direction of its enforcement program.
Three former directors of the enforcement division — William McLucas (director from 1989 to 1998), Richard Walker (director from 1978 to 1981), and Stephen Cutler (director from 2001 to 2005) – criticized several current SEC enforcement practices or policies and questioned the allocation of enforcement resources. Each of these lawyers is now either defending enforcement investigations (McLucas at WilmerHale), or serving a major financial institution subject to SEC review (Walker at Deutsche Bank, and Cutler at J.P. Morgan Chase), so some might discount the criticism as parochial. But they are each, at the core, former enforcement directors proud of the SEC’s tradition of a fair and effective enforcement program, and their views are much more a reflection of that mindset than of duties on their new turf.
McLucas identified two critical recent formative events as the source of changes: the SEC’s embarrassing miss on the Bernie Madoff Ponzi scheme, and institution-shattering 2008 financial crisis. The first left the Enforcement Division fearful of missing key violations in virtually every case, with the result that investigations are broader, more intrusive, longer, less focused, and often considerably less productive than they used to be. The second allowed the prevailing view to become a “hold no quarter” approach that makes the SEC more bellicose, accusative, and uncooperative in efforts to foster securities law compliance, looking instead to impose higher and higher penalties and debilitating sanctions in its cases. Although this is supposed to yield greater deterrence, the overall impact is to make dealing with the SEC a form of hand-to-hand combat rather than an effort to increase overall compliance. (My words, not his.) Although the new “unforgiving” and “aggressive” approach (his words, not mine) may create a greater publicity splash, it reduces the overall effectiveness of the SEC’s huge enforcement staff (my words, not his).
Walker, who interacts often with regulated entities outside of the U.S., described how perplexing this all is to those folks. They fail to understand the reason for huge penalties, rigid settlement postures, and the proliferation of enforcement agencies examining the same conduct over and over again. That concern flows from the fact that the SEC sits idly by while other U.S. law enforcement organizations go after the same organizations for additional sanctions even after an SEC settlement – think here the somewhat bizarre notion that 51 different Attorneys General in the U.S. can make a financial institution’s life miserable even after issues are resolved with the SEC and the U.S. Justice Department (my words, not his). He also noted that the SEC’s new focus on sometimes demanding admissions of law violations as part of SEC settlements fails to give adequate consideration to the plethora of potential collateral consequences (e.g., potential loss of licenses in a range of jurisdictions) from such an agreement. McLucas added that the SEC staff appears to have adopted a bizarre view that once they ask for an admission in settlement they will accept nothing short of that — which exemplifies a rigidity by the staff that has unfortunately become common (my words).
Cutler raised issues about the SEC’s new so-called “broken windows” policy under which minor violations of the law will be treated harshly to make a point that all securities law compliance is important. The resources devoted to these kinds of violations seem way of whack, and they threaten the efficacy of the broader enforcement program. This also has the effect of ratcheting up the sanctions needed when really harmful violations are encountered. And, to be candid, it seems more than a little pissant in comparison to the Bernie Madoff miss, and the fact that so many serious frauds on investors are “uncovered” by the SEC only after-the-fact (definitely my words, not his).
Considering the fact that these three former directors have ongoing relationships they must maintain with the SEC enforcers, their public critique was undoubtedly considerably understated compared to their private views.
In short, the SEC’s Commissioners and Division of Enforcement need to do some self-examination of more than a few “broken windows” in their own facades, and some seriously tottering infrastructure, if the enforcement program is to get back to its once-sparkling level.
November 10, 2014
Contact Straight Arrow privately here, or leave a public comment below: