The head of the watchdog body probing the Securities and Exchange Commission’s handling of the case involving Wall Street money manager Bernard Madoff says his review will go beyond recommendations related specifically to that case to look more broadly at the agency’s operations.

During testimony before House lawmakers on Capitol Hill on Jan. 5, SEC Inspector General David Kotz said that in its probe of the Commission’s handling of the alleged $50 billion Ponzi scheme, his office will consider the broader issue of whether the SEC’s Enforcement Division and its Office of Compliance Inspections and Examinations have adequate resources to do its job and whether changes are needed to the SEC’s processes and procedures.

Kotz told members of the House Financial Services Committee that the Madoff probe may go beyond the specific issues that SEC Chairman Christopher Cox asked his office to investigate to include an evaluation of broader issues regarding the overall operations of the Division of Enforcement and OCIE.

“I firmly believe that the circumstances surrounding the Bernard Madoff matter may very well dictate a more expansive analysis of Commission operations,” he said. “At the end of these investigative efforts, there needs to be more than just the potential identification of individuals who may have engaged in inappropriate behavior or potentially failed to follow up appropriately on complaints, but rather an attempt to provide the Commission with concrete and specific recommendations as appropriate to ensure that the SEC has sufficient systems and resources to enable it to respond appropriately and effectively to complaints and detect fraud through its examinations and inspections.”

In response to a question during the hearing from Rep. Gregory Meeks (D-NY) about the agency’s ability to carry out its duties, Kotz said he plans to look at the SEC’s overall complaint procedures and the enforcement operation to determine “whether it is a question of resources … or whether the process is so broken that additional resources wouldn’t make a difference.”

In response to a Dec. 16 request by Christopher Cox, Kotz’s office opened an investigation into complaints allegedly brought to the SEC dating back to 1999 regarding Madoff, the reasons for the SEC’s apparent failure to act, the staff’s contact and relationships with the Madoff family and firm, and their impact on Commission decisions regarding Madoff. The probe will also look at the SEC’s internal policies governing when allegations of fraud should be brought to the Commission, whether those policies were followed, and whether changes to those policies are needed.

House lawmakers grilled Kotz and Securities Investor Protection Corporation President Stephen Harbeck for more than three hours this week in an unusual session in between Congresses as lawmakers mull changes to the financial regulation landscape. The Madoff debacle has brought efforts to overhaul the laws governing the U.S. financial markets in the wake of the financial crisis into sharper focus and raised new questions about the SEC’s future.

The hearing marked the first of several to come related to the Madoff case. Lawmakers said they also plan hearings that will include senior SEC officials and Harry Markopolos, who submitted a report to the SEC in 2005 alleging that Madoff was running a Ponzi scheme, as well as other financial services regulators.

Just a year-end compliance reminder: When the clock strikes 2009, federal e-proxy rules, which require companies to make their proxy materials available to shareholders via a publicly accessible Internet Website, will be in effect for all public companies.

The e-proxy rules, adopted by the Securities and Exchange Commission in July 2007, took effect for large accelerated filers for proxy solicitations commencing on or after Jan. 1, 2008 and were voluntary for all others. The rules kick in for all other issuers, registered investment companies, and persons other than issuers for proxy solicitations commencing on or after Jan. 1, 2009.

The rules require public companies to post their proxy materials on the Internet and send a notice of internet availability to shareholders at least 40 calendar days before the annual meeting date. The SEC rules specify the information that can be included in the notice, and the notice can’t be accompanied by a proxy card or other information. Issuers must also deliver a full set of paper proxy materials to any shareholder upon request.

As an alert from the law firm Gibson Dunn & Crutcher notes, while companies must make their material available online, they can choose whether to provide proxy materials via “notice and access,” “full set delivery option,” or a hybrid of both, by which they use the notice-and-access option for certain shareholders, and the full set delivery option for others, based on certain factors such as number of shares or geography.

“Expect to see an increase in the use of the notice-and-access and hybrid options by both issuers and other parties in 2009, as parties will be increasingly comfortable with using technological advantages and securing the cost advantages offered by the notice and access model,” the Dec. 19 alert states.

Since intermediaries, such as brokers or banks who hold shares on behalf of beneficial owners, are required to use notice and access if requested to do so by the issuer, the GDC alert notes that issuers must provide required information to intermediaries sufficiently in advance for the intermediary to prepare and send a Notice of Internet Availability at least 40 days before the date of the annual meeting.

Under the e-proxy rules, shareholders’ use of an issuer’s Website for access to documents “must not infringe on the anonymity of users by collecting information about the user,” the GDC alert notes. For example, issuers can’t use e-mail addresses provided to request a proxy for any other purpose and may disclose them to others, and issuers’ Websites can’t contain any technologies with tracking features, such as cookies.

The alert notes a number of considerations for issuers to consider in determining which model to use, including cost-savings, timing requirements, potential impact on quorum and retail voting, whether matters proposed for vote at an annual meeting are routine or non-routine, and legal considerations, including relevant and federal state laws.

The financial stocks subject to the Securities and Exchange Commission’s temporary ban on short selling suffered a severe degradation in market quality, price stability, and intraday volatility. That’s the conclusion of an academic study analyzing the impact of the ban.

“All the empirical evidence says shorting restrictions cause prices to be wrong, and the evidence here follows suit,” write Ekkehart Boehmer of Texas A&M University, Charles M. Jones of Columbia Business School, and Xiaoyan Zhang of Cornell University, the authors of the preliminary working paper, Shackling Short Sellers: The 2008 Shorting Ban. In that sense, they say, the SEC “probably achieved its unstated goal of artificially raising prices on financial stocks.”

The paper compares short-banned stocks to a control group of non-banned stocks, and looks at changes in stock prices, the rate of short sales, the aggressiveness of short sellers, and various liquidity measures before, during, and after the shorting ban, which extended from Sept. 19 through Oct. 8.

“Ultimately, the analysis shows that any effects there are on prices are temporary,” Jones tells Compliance Week. “It didn’t keep firms from failing … It really can’t do much because short sellers aren’t really the problem.”

The analysis found that the start of the shorting ban was associated with a sharp increase in share prices for affected stocks, consistent with most models of shorting constraints, and that shorting activity dropped by about 85 percent.

“Stocks subject to the ban suffered a severe degradation in market quality, as measured by spreads, price impacts, and intraday volatility,” the study states.

Prior to the ban, the banned stocks and the control group had similar returns. The naked shorting ban, announced and implemented Sept. 18, a day before the ban on shorting financial stocks, affected the prices of both groups: Stocks where shorting was never banned rose an average of 4.83 percent, while 146 NYSE financial stocks that appeared on the next day’s shorting ban list rose by an average of 12.5 percent, according to the report.

On Sept. 19, the day the shorting ban took effect, the banned stocks rose by an additional 10.9 percent, compared to an average 4.46 percent return for the sample stocks where shorting was never banned. S&P 500 returns were similar to the return on the non-banned stocks. As the ban continued, both sets of stocks declined sharply in value, but the effects were similar for banned and non-banned stocks.

“We suspect that after some time has passed, future observers will look back at this shorting ban with the same kind of wonder that economists reserve for Nixonian price controls and other similar government interventions,” the authors write. “Those future observers will probably ask: Did they really think that would do any good?”

Jones expects to publish an expanded version of the paper in mid-January.

The growing trend of foreign investors’ involvement in U.S. securities class-action lawsuits remains alive and well, according to statistics tracked by RiskMetrics Group.

From 1996 through 2007, international institutional investors sought to serve as lead plaintiff in a U.S. securities class-action lawsuit 234 times in 134 separate cases. Those investors have filed lead plaintiff motions in more than 5 percent of all new federal securities class actions in every year since 2002, RMG reports in a white paper (registration required), “Globalization in Securities Class Actions.”

Institutional investors from Finland, Bahrain, and the Czech Republic all filed the first-ever lead plaintiff motion by investors from one of those countries in 2007. In contrast to earlier years, 2007 saw a sharp increase in the number of international institutional investors from Sweden, Britain, and the British Virgin Islands filing lead plaintiff motions.

Meanwhile, RiskMetrics says early enthusiasm by German investors for involvement in U.S. class actions has remained tepid, with the number of participants remaining steady at levels two-thirds below their historical peak. Canadian investors also continued a historical trend of increased activity in even numbered years, followed by 50 percent or greater of drop-offs in odd numbered years.

2007 also saw the first reported securities class action filed in Africa, in a case involving the Nigerian subsidiary of Cadbury Schweppes. The RMG report notes that legislation became effective in 2008 in a number of European countries that would allow securities class actions for the first time, as well.

The RMG report posits a number of reasons to explain the continued trend of increased international institutional investor involvement in securities class actions, including:

• The educational and marketing efforts of U.S.-based securities litigators;
• Increasing emphasis by U.S. plaintiff law firms on solidifying their relationships with international institutional investors and outside counsel for those investors;
• A gradual realization, both domestically and abroad, that institutional investors of all stripes are failing to file claims in securities class actions to get their share of the settlement proceeds; and
• The increasing availability and acceptance of securities litigation in non-U.S. jurisdictions.

“As other cultures become more familiar, both at home and abroad, with the concepts and realities of securities litigation, they are increasingly likely to become involved with it,” the report states. “Despite the increasing number of jurisdictions now allowing some form of securities litigation, the most robust system for investors seeking recoveries through securities litigation remains here in the U.S.”

The report updates a May 2007 report and revises some of the prior published data due to additional research and delays in receiving confirmation from some of the law firms involved in the nationality of their clients.

RiskMetrics also notes that “F-cubed” lawsuits, where foreign investors who bought shares of a foreign company on a foreign stock exchange still sue that company in U.S. courts, represent just a fraction of the activity of international institutional investors in U.S. securities class actions, despite the attention such suits get in U.S. courts.

RiskMetrics plans to publish a separate paper to examine the “opt-out” or so called “direct” actions that the same investors are filing, a phenomenon it says is at least partially in response to court decisions excluding international investors in certain cases, such as against Vivendi.

The Nasdaq Stock Market has asked the Securities and Exchange Commission to extend the temporary suspension of some of its listing requirements for another three months.

A proposed rule change, filed Dec. 18, would extend until April 19, 2009, the current suspension of the bid price and market value of publicly held shares requirements for listing on the Nasdaq Stock Market. Those requirements had been suspended through Jan. 16, 2009, under an October rule filing by the exchange.

The filing notes that market conditions haven’t improved since the suspension began and both the number of securities trading below $1 and the number of securities trading between $1 and $2 on Nasdaq has increased.

As expected, president-elect Barack Obama has named regulatory veteran Mary Schapiro, chief executive of the Financial Industry Regulatory Authority, as his pick to lead the Securities and Exchange Commission.

Prior to taking the helm of FINRA, the self regulatory organization formed by the 2007 merger of the regulatory arms of the National Association of Securities Dealers and NYSE Regulation, Schapiro had the chairman and CEO job at NASD, where she held various posts since 1996. Schapiro also previously served as chairman of the Federal Commodity Futures Trading Commission and as a Commissioner for six years at the Securities and Exchange Commission.

If confirmed, Schapiro would inherit an agency under fresh fire for oversight failures during the financial crisis. This week, current SEC Chairman Christopher Cox called for the agency’s inspector general to conduct a probe into its failure to fully investigate the activities of Wall Street money manager Bernard Madoff, who is accused of a $50 billion securities fraud. In September, the SEC’s inspector general harshly criticized the agency for failing to adequately supervise investment bank Bear Stearns before its collapse earlier this year.

The financial crisis has ignited a debate about how to overhaul the U.S. financial regulatory system and renewed calls by some for a merger between the SEC and the Commodity Futures Trading Commission.

In a Dec. 18 statement, Schapiro said she’s “honored and humbled” to be considered for the position.

“As the events of the past year—even the past week—have shown us, this is a perilous time for investors. Americans are looking to policymakers and regulators to restore stability and trust to our financial markets,” she said.

Calling investor trust “the lifeblood of our financial markets,” Schapiro said the only way to restore that trust is through “effective, thoughtful reform of our regulatory structure and the consistent and robust enforcement of our financial regulations, and this will be my top priority.”

Just in time for the holidays, large companies got a gift from the Securities and Exchange Commission: Six extra months to comply with the long-awaited new rule mandating the use of interactive data.

At its Dec. 17 open meeting, the SEC voted 4-1, with Commissioner Luis Aguilar dissenting, to adopt amendments that phase in a requirement for companies to provide their financial statements tagged in XBRL, or eXtensible Business Reporting Language, as an exhibit to their SEC filings.

The phase-in schedule adopted requires the first group of approximately 500 companies to comply with the reporting requirement beginning with the first quarterly report on Form 10-Q, or annual report on Form 20-F or Form 40-F, for fiscal periods ending on or after June 15, 2009—six months later than originally proposed back in May. For calendar year-end companies, the first required interactive data would be in connection with their June 30 Form 10-Q.

In year one, the new rules would apply only to domestic and foreign large accelerated filers that use U.S. Generally Accepted Accounting Principles and have a worldwide public float above $5 billion. All other domestic and foreign large accelerated filers using U.S. GAAP would follow in year two. All remaining filers using U.S. GAAP, including smaller reporting companies, and all foreign private issuers that prepare their financial statements in accordance with International Financial Reporting Standards as issued by the International Accounting Standards Board would comply in year three.

After the phase-in period, new public companies would begin filing interactive data with their first quarterly report on Form 10-Q or annual report on Form 20-F or Form 40-F.

As originally proposed, during the first year of reporting in interactive data, companies will tag their face financial statements and would tag the footnotes and schedules in block text only. After the first year, companies will be required to tag the detailed disclosures within the footnotes and schedules. However, in a change from the proposing release, the final rule permits, but doesn’t require, the tagging of narrative disclosures.

Full details on the final rule are forthcoming in Compliance Week’s Dec. 23 edition.

The news surrounding influential Wall Street money manager and former Nasdaq Stock Market chairman Bernard Madoff keeps getting worse.

Acknowledging that the agency failed, for nearly a decade, to fully investigate allegations against the high-profile money manager now charged with securities fraud in a multi-billion dollar Ponzi scheme, Securities and Exchange Commission chairman Christopher Cox has called for a full probe by the agency’s Inspector General.

In a Dec. 16 statement calling the Commission’s investigative findings “deeply troubling,” Cox said the SEC has learned that “credible and specific allegations” regarding Madoff’s financial wrongdoing, going back to at least to 1999, were “repeatedly brought to the attention of SEC staff, but were never recommended to the Commission for action.”

Since no formal SEC order of investigation was sought, the SEC staff relied on information voluntarily produced by Madoff and his firm.

Cox said he’s “gravely concerned by the apparent multiple failures over at least a decade to thoroughly investigate these allegations or at any point to seek formal authority to pursue them,” and has called for a “full and immediate review,” led by the SEC’s Inspector General, of the past allegations regarding Madoff and his firm, Bernard L. Madoff Investment Securities, and the reasons they weren’t found credible.

The probe will also cover the internal SEC policies governing when allegations should be raised to the Commission level, whether the policies were followed, and whether improvements to those policies are necessary, as well as all staff contact and relationships with the Madoff family and firm, and their impact, if any, on decisions by staff regarding the firm.

In addition, Cox said any staff who have had “more than insubstantial personal contacts” with Madoff or his family will be recused from the ongoing investigation.

Cox said since the its Dec. 11 emergency action against Madoff and his firm,“every necessary resource at the SEC” has been dedicated to pursuing the investigation, protecting customer assets, and holding Madoff and others who may have been involved accountable. He said the commissioners have met multiple times on an emergency basis since last week.

Meanwhile, SEC investigators are working with the trustee and other law enforcement agencies to review Madoff’s records. Cox said the review indicates that Madoff kept several sets of books and false documents, and provided false information involving his advisory activities to investors and to regulators.

The Securities and Exchange Commission’s online survey on the costs and benefits of the internal control reporting requirements of Section 404 of the Sarbanes-Oxley Act is underway.

The Web-based study is part of an effort by SEC’s Office of Economic Analysis to obtain data on the experiences of companies in complying with the requirements of Section 404 to help the SEC determine whether its efforts to ease the burden of complying with 404 have worked.

The completion of the planned cost-benefit study was one of the reasons given when the SEC formally proposed the one-year extension of the Section 404(b) auditor attestation requirement for smaller companies back in January.

In addition to the Web-based survey, the SEC has said OCA will also conduct in-depth interviews of companies complying with the requirements.

The SEC says the analysis of the data collected will help inform the Commission on whether its 2007 guidance for management and the Public Company Accounting Oversight Board’s Auditing Standard No. 5, have “improved implementation of the Section 404 rules by reducing costs while still preserving the rules’ benefits.”

Under the extension approved in June, the Section 404(b) requirements would apply to non-accelerated filers beginning with fiscal years ending on or after Dec. 15, 2009. Those companies have to comply with the management report requirement—Section 404(a)—for fiscal years ending on or after Dec. 15, 2007. Larger companies have been subject to both provisions of Section 404 since 2004.

All companies with experience in complying with 404 rules are invited to participate. The SEC has created a worksheet to help respondents prepare for the survey.

Just ahead of the Dec. 31, 2008, deadline for compliance with the documentary requirements of Section 409A, the IRS has issued new guidance, in the form of Notice 2008-113, providing relief for certain operational violations.

Notice 2008-113 replaces Notice 2007-100 and provides methods to address certain unintentional operational failures without incurring the full adverse tax consequences under Section 409A, including:

• Methods for correcting certain operational failures during the service provider’s taxable year in which the failure occurs and, for certain service providers also during the subsequent taxable year, to avoid income inclusion under § 409A(a);
• Relief limiting the amount includible in income under § 409A(a) for certain operational failures during a service provider’s taxable year that involve only limited amounts;
• Relief limiting the amount includible in income under § 409A(a) for certain operational failures regardless of whether the failure involves only limited amounts, but subject to further required actions to correct the failure; and
• Special transition relief for certain operational failures occurring before Jan. 1, 2008.

However, the new program still doesn’t cover plan document failures, which means employers must ensure that all of their compensatory arrangements are reviewed for 409A compliance and amended as necessary prior to Dec. 31, 2008, a Dec. 5 client alert from the law firm McDermott Will & Emery notes.

The 66-page notice seeks comment on whether procedures for the correction of a failure of a plan to comply with the plan document requirements of §1.409A-1(c) should be adopted. Comments are due by March 6, 2009.

Meanwhile, The Treasury Department also issued proposed 409A regulations providing detailed guidance on the calculation of amounts “includible” in income on a violation of section 409A, and the premium interest tax resulting from a Section 409A(a) violation that is not corrected under Notice 2009-113.

Specific rules are provided for defined contribution “account balance” plans, reimbursement arrangements, split dollar arrangements, and stock rights, according to the MWE alert.

The proposed regulations also provide:

• An opportunity to correct defects with respect to unvested amounts;
• That a failure in one year generally will not affect 409A compliance in a subsequent taxable year if the plan complies during the later year; and
• Guidance on how a service provider may deduct amounts included in his or her income but never actually received.

The proposed regulations indicate that the Treasury intends to allow employers to rely on the proposed regulations for reporting 409A violations in 2008 and to delay annual reporting of compliant 409A deferrals until the regulations are finalized, MWE notes.

The proposed regulations don’t address how to calculate taxable amounts due to violation of funding rules (relating to offshore assets or transfers in connection with a change in the employer’s financial health) under Section 409A(b).

MWE notes that the IRS has “informally indicated that it will issue guidance either later in December 2008 or in January 2009” under the new Code Section 457A focusing primarily on the transitional relief for compensation earned on services rendered before 2009.