Kathrein on Investor Fraud

It's Time To Reinstate Aiding and Abetting Liability Against Those Who Help Securities Fraud

Now is the time, if ever, for Congress to pass legislation that would reinstate aiding and abetting liability for accountants, lawyers, and others who help corporate executives commit securities fraud that harm investors. The public is outraged from watching all those who assisted in the market meltdown walk away with their huge bonuses.

Senator Arlen Specter, introduced Senate Bill 1551 on July 30, 2009, seeking to do just that. The Bill called the"Liability for Aiding and Abetting Securities Violations Act of 2009," is currently co-sponsored by Edward Kaufman [D-DE], John Reed [D-RI] and Sheldon Whitehouse [D-RI]. The Bill seeks to amend the SEC Act of 1934 subject to liability in a private civil action any person that knowingly or recklessly provides substantial assistance to another person (aids and abets) in violation of that act. The Senator's goal is to restore the ability to sue third parties in securities fraud lawsuits as freely as you could before the U.S. Supreme Court's ruling in Stoneridge v. Scientific Atlanta (Supreme Court docket).

The main provision of the Bill states:

For purposes of any private civil action implied under this title, any person that knowingly or recklessly provides substantial assistance to another person in violation of this title, or of any rule or regulation issued under this title, shall be deemed to be in violation of this title to the same extent as the person to whom such assistance is provided.’.

Senator Spector"s floor speech follows: 

 Mr. President. I have sought recognition to urge support for the legislation I just introduced, the Liability for Aiding and Abetting Securities Violations Act of 2009. My legislation would overturn two errant decisions of the Supreme Court--Central Bank of Denver v. First Interstate Bank of Denver, 511 U.S. 164, 1994, and Stoneridge Investment Partners, LLC v. Scientific-Atlanta, Inc., 522 U.S. 148, 2008, by amending the Securities Exchange Act of 1934 to authorize a private right of action for aiding-and-abetting liability.

 Act's main anti-fraud provision, §10(b), makes it "unlawful for any person, directly or indirectly," to commit acts of fraud "in connection with the purchase or sale of any security." Nearly fifty years ago the Court implied a private right of action under §10(b). The result was that investors could recover financial losses caused by violations of 10(b) and the companion regulation issued by the SEC commonly known as "Rule 10b-5."

Until Central Bank, every circuit of the Federal Court of Appeals had concluded that §10(b)'s private right of action allowed recovery not only against the person who directly undertook a fraudulent act--the so-called primary violator--but also anyone who aided and abetted him. A five-Justice majority in Central Bank, intent on narrowing §10(b)'s scope, held that its private right of action extended only to primary violators.

When Congress debated the legislation that became the Private Securities Litigation Reform Act of 1995, PSLRA, then-SEC chairman Arthur Levitt and others urged Congress to overturn Central Bank. Congress declined to do so. The PSLRA authorized only the Securities and Exchange Commission, SEC, to bring aiding-and- abetting enforcement litigation.

It is time for us to revisit that judgment. The massive frauds involving Enron, Refco, Tyco, Worldcom, and countless other lesser-known companies during the last decade have taught us that a stock issuer's auditors, bankers, business affiliates, and lawyers--sometimes called "secondary actors"--all too often actively participate in and enable the issuer's fraud. Federal Judge Gerald Lynch recently observed in a decision calling on Congress to reexamine Central Bank that secondary actors are sometimes "deeply and indispensably implicated in wrongful conduct." In re Refco, Inc. Sec. Litig., 609 F. Supp. 2d. 304, 318 n.15, S.D.N.Y. 2009. Professor John Coffee of Columbia Law School, a renowned expert on the regulation of the securities markets, has even laid much of the blame for the major corporate frauds of this [sic].

The immunity from suit that Central Bank confers on secondary actors has removed much-needed incentives for them to avoid complicity in and even help prevent securities fraud, and all too often left the victims of fraud uncompensated for their losses. Enforcement actions by the SEC have proved to be no substitute for suits by private plaintiffs. The SEC's litigating resources are too limited for the SEC to bring suit except in a small number of cases, and even when the SEC does bring suit, it cannot recover damages for the victims of fraud.

Last year's decision in Stoneridge made matters still worse for defrauded investors. Central Bank had at least held open the possibility that secondary actors who themselves undertake fraudulent activities prescribed by §10(b) could be "held liable as ..... primary violator[s]." Stoneridge has largely foreclosed that possibility. A divided Court held that §10(b)'s private right of action did not "reach" two vendors of a cable company that entered into sham transactions with the company knowing that it would publicly report the transactions in order to inflate its stock price. The Court conceded that the suppliers engaged in fraudulent conduct prescribed by §10(b), but held that they were not liable in a private action because only the issuer, not they, communicated the transaction to the public. That remarkable conclusion put the Court at odds with even the Republican Chairman of the SEC.

My legislative response would take the limited, but important, step amending of the Exchange Act to authorize a private right of action under §10(b) (and other, less commonly invoked, provisions of the Act) against a secondary actor who provides "substantial assistance" to a person who violates §10(b). Any suit brought under my proposed amendment would, of course, be subject to the heightened pleading standards, discovery-stay procedures, and other defendant-protective features of the PSLRA.

On Thursday, September 17, the Senate Judiciary Committee, Subcommittee on Crime and Drugs held a hearing consider the Bill, entitled  "Evaluating S. 1551: The Liability for Aiding and Abetting Securities Violations Act of 2009." S. 1551.  Sen. Arlen Specter's chaired the hearing. The witnesses were John C. Coffee, Columbia University School of Law; Patrick J Szymanski, General Counsel, Change to Win (a group of labor unions); Tanya Solov, Director, Illinois Securities Department, of behalf of the North American Securities Administrators Association; Robert J. Giuffra, Jr., a partner in Sullivan & Cromwell LLP, NYC; and Adam C. Pritchard, University of Michigan Law School. Coffee, Szymanski and Solov testified in favor of the Bill. Their can be found here:

John Coffee

Patrick Szymanski

Tanya Solov

 

Messrs. Giuffa and Pritchard both testified against the Bill, asking for lesser enforcement of the securities laws, and arguing that private law suits cost millions to those who are sued (forgetting about the billions lost in the recent market crash), and pointing to the evil plaintiffs lawyers who actually make money enforcing these laws ( while conveniently ignoring the millions made by the attorenys now shielded from liability when they help their clients commit fraud). Rather, they prefer that the inept SEC retain sole jurisdiction to go after aiders and abettors. Professor Pritchard wants to do away with actual damages and substitute only the amounts gained by the wrongdoers...effectively making damages so small that no attorney could afford to bring a case. Their testimony can be found here:

Robert Giuffra

Adam Pritchard

 

Senator Patrick Leahy's statement in favor of the Bill can be found here:

 

The Honorable Patrick Leahy

 

 

 

Loser CEOs, Raking It In

The Washington Post has published an Op Ed by my former colleague, William Lerach on Sunday November 11, 2007.

While William Lerach's actions are not to be ignored, and he is not one to rightfully complain about inequitable distribution of wealth, his observations concerning the abuse of corporate power should be given consideration. As they say, and I say in half jest, "It takes a crook to know a crook."

Link: Loser CEOs, Raking It In.

No Accounting for It, Loser CEOs, Raking It In By William S. Lerach Sunday, November 11, 2007;

"How come I don't get nothin'?"

In light of the massive payoffs that corporations are handing to failing executives -- most recently the ousted chiefs of Merrill Lynch and Citigroup -- that could be the legitimate lament of millions of U.S. workers whose jobs have been sacrificed of late in the name of corporate competitiveness and free trade.

Cleaned up grammatically, that question would probably express the sentiments of many of the 24,000 Merrill employees fired in recent years and the 17,000 Citi employees who are soon to get the ax. Together, former Merrill chief executive E. Stanley O'Neal and former Citigroup chief executive Charles O. Prince have lost more than $20 billion in company money. Yet they left with $360 million in their own pockets.

The American principles of responsibility, accountability and justice require everyone, even corporate titans, to pay a price when they mess up. I've dedicated my career to holding powerful corporations accountable when they victimized innocent people. CEOs such as Enron's Jeffrey K. Skilling, WorldCom's Bernard J. Ebbers and Tyco's L. Dennis Kozlowski all went to prison for their fraud. Now I'm being held accountable for overzealously pursuing these corporate scam artists.

Two weeks ago, I pleaded guilty to a conspiracy charge involving payments made to plaintiffs in lawsuits against major corporations. Under the terms of the plea, which requires court approval, I agreed to pay the government $8 million in fines and penalties and to serve at least one year in federal prison.

But what about accountability for Wall Street CEOs who line their pockets while making stupid decisions that rob shareholders and pensioners of billions of dollars? Recently, corporate boards have been fundamentally misinterpreting the phrase "the buck stops here" -- and handing the bucks over to their miserably performing bosses.

Let's see if I've got this right. To try to boost profits in the new low-interest-rate era, O'Neal and Prince plunged Merrill and Citi into the high-risk world of subprime collateralized debt. The banks peddled billions of dollars of this stuff to pension funds and institutions, pocketing more than a billion in fees for feeding the pigeons. Apparently, Merrill and Citi got stuck with more than $50 billion of the riskiest debt that they couldn't unload on their customers. O'Neal had assured Merrill shareholders that these high-stakes bets would "not add to Merrill's risk profile." And when the subprime fiasco started to unravel, Prince famously said that Citi was "still dancing."

As Merrill and Citi took on these risky assets, their balance sheets ballooned and short-term profits flowed in. O'Neal, Prince and their executive teams crowed about their successes and their risk-management skills while pocketing bigger performance bonuses based on the "profits" and cashing in stock grants and options as the stock prices temporarily advanced. Several top Merrill executives received more than $30 million each in 2006. O'Neal led the pack with $91 million. For cream in his coffee, O'Neal unloaded about 235,000 shares of Merrill stock, pocketing an additional $20 million. At Citi, top executives were given more than $10 million per year, with Prince raking in $25 million. ( Continued )

Fannie Mae Chiefs May Walk Away With Millions

Suggesting that crime does pay, the architects of the humongous fraud at Fannie Mae are claiming their rights to millions of compensation wrongfully paid to them as a result to their fraud. Three cheers for the Washington Post for taking them on in the following commentary:

Link: washingtonpost.com: Accountability Pays.

washingtonpost.com Accountability Pays

Monday, January 3, 2005; Page A12
"BY MY EARLY retirement, I have held myself accountable." So said Franklin D. Raines when he stepped down almost two weeks ago as chairman and chief executive of mortgage giant Fannie Mae. Mr. Raines leaves the company facing a criminal investigation by the Justice Department and a civil investigation by the Securities and Exchange Commission, whose chief accountant last month told the government-sponsored company that it had improperly twisted accounting rules. As a result, Fannie Mae might have to report $9 billion in previously unrecorded losses, wiping out 38 percent of its profits since 2001. There is also a continuing investigation by its chief regulator, the Office of Federal Housing Enterprise Oversight, which accused the company of "pervasive and willful" accounting violations and has declared it "significantly undercapitalized."
A bit of accountability -- indeed, even a dollop of contrition -- might seem to be in order for Mr. Raines and Fannie Mae's longtime chief financial officer, J. Timothy Howard, who resigned the same day. In his statement the SEC's top accountant said that the company, rather than adhering to accounting rules with which it disagreed, "internally developed its own unique methodology." In much the same way, Messrs. Raines and Howard seem to have developed their own unique notion of accountability, in which being accountable means not having to relinquish a single penny that they might be entitled to under their platinum parachute severance packages.%

Corporate Fraud 2004 In Review

NewJersey.com summarizes this year in corporate fraud with the following article by Lewis Krauskopf. Are we really becoming numb to it all?

Link: North Jersey Media Group providing local news, sports & classifieds for Northern New Jersey!.

Corporate fraud continued in 2004 Sunday, January 2, 2005

By LEWIS KRAUSKOPF
STAFF WRITER

The insurance industry is rocked by kickback accusations. A mortgage giant is found to have cooked its books. And, of course, a domestic diva is convicted of obstructing justice and lying to the government.
In New Jersey, a drug maker agrees to pay nearly $350 million to resolve allegations of giving kickbacks and other inducements to keep its allergy drug in favor with HMOs. And a Bergen County-based bank coughs up $5 million to resolve a federal money-laundering probe.
In all, 2004 made its share of corporate malfeasance headlines. Across the country and in New Jersey, industries, companies large and small, and individuals all found themselves under the government's microscope. More accounting shenanigans emerged, as did other schemes to defraud the government. Some companies paid big fines, and some executives ended up behind bars.
The drumbeat of corporate scandal that began several years ago with frauds at Enron and WorldCom continued last year, stretching into health care and other arenas.
But at this point, the public may be becoming numb to the fact that the business section often reads like the crime pages, said Steven Chanenson, associate professor of law at Villanova University.