Close

Are you in compliance?

Don't miss out! Sign up today for our weekly newsletters and stay abreast of important GRC-related information and news.

Waters’ bill seeks to improve SEC waiver process

Joe Mont | August 2, 2017

Congresswoman Maxine Waters (D-Calif.), ranking member of the House Committee on Financial Services, has introduced the Bad Actor Disqualification Act of 2017. The bill would, in her words, ensure that the Securities and Exchange Commission “protects investors from bad actors by implementing a rigorous, fair, and public process for waiving automatic disqualification provisions in the law.”

“By waiving the consequences for bad actors, the SEC is sending the wrong message,” Waters said in a statement. “The SEC should not automatically give those who break the law a free pass by allowing them to continue to conduct business as usual.”

Certain provisions in securities laws allow law-abiding companies to engage in activities with less oversight, fewer disclosure requirements, and limited liability. However, companies that have been convicted of certain felonies and misdemeanors, or violated anti-fraud provisions of securities laws are automatically disqualified from such benefits, unless they obtain a waiver from the Commission.

 “In recent years, the SEC has granted these waivers on a seemingly automatic basis and has done so disproportionately for large financial firms,” Waters said.

The Bad Actor Disqualification Act of 2017 would ensure that the SEC “honors the intent of automatic disqualification provisions in securities laws that prohibit bad actor” from participating in market activities reserved for law abiding companies.”

It would do so by requiring the SEC “to implement a rigorous, fair, and public process for waiving these disqualifications.” Specifically, it would:

Require the waiver process to be conducted and voted on at the Commission level, rather than at the staff level;

require the Commission to consider whether granting a waiver would be in the public interest, protect investors, and promote market integrity;

require the Commission to publish notice and afford the public an opportunity to comment and present their views at a public hearing on whether a waiver should be granted or denied; and

require SEC staff to keep complete, public records of all waiver requests (formal and informal) and create a public database of all disqualified bad actors.

“Disqualification is an important tool for protecting investors, the markets, and the public by deterring misconduct, reducing recidivism, promoting market integrity, and removing bad actors from the marketplace,” Waters said.

The public process is like the waiver process for the Department of Labor, which was utilized in 2014 in the case of Credit Suisse which, as a result of its conviction for tax evasion, was disqualified from the beneficial status of Qualified Professional Asset Manager.

Historically, the waiver process at the SEC has been delegated to staff lawyers in the Division of Corporation Finance or the Division of Investment Management who review waiver applications by bad actors facing disqualification. Staff’s determination to issue a waiver in a particular case, purportedly after the bad actor showed good cause that disqualification is unnecessary, is posted to the SEC’s website with little to no stated justification and no public input, a summary of the bill says. There is no public account of waiver requests denied by the Commission or disqualifications where no waiver is sought, and the SEC is not presently required to maintain internal records of this information.

The issue of waivers is a longstanding one at the Commission.

In 2005, the SEC gave the nation's largest public companies the opportunity to register as “Well-Known Seasoned Issuers,” or WKSIs, and gain nearly instant access to capital markets without the delays of a traditional registration process. Shelf registration statements, which allow for greater flexibility for when and how securities are issued, can take effect automatically and immediately, without the need for SEC staff review. To be eligible for this expedited WKSI status, an issuer must be up-to-date with all other reporting requirements and have at least $700 million of worldwide public common equity float.

There is a catch. Companies that violate federal securities laws or enter into a settlement of SEC charges lose their Regulation A and Regulation D exemptions for Rule 506 eligible private placements, as well as the opportunity to register as WKSIs.

The SEC's Division of Corporation Finance, or Commissioners if they intervene, can issue a waiver to one of those disqualifications. Provided that the violations are not related to those offerings.  Such waivers, routinely granted and only rarely denied in recent years, are at the center of a debate that has pitted SEC commissioners against each other.

In April 2014, SEC Commissioner Kara Stein objected to this process in the case of The Royal Bank of Scotland Group, whose subsidiary was criminally convicted for a four-year scheme of manipulating the London Interbank Offered Rate. Absent a waiver from the SEC, the criminal conviction would have automatically precluded RBS from eligibility as a Well-Known Seasoned Issuer, a status that confers communication and securities registration flexibility.

The Commission ultimately approved the waiver by a split vote and published its determination with little to no justification in a 2-page order. In dissenting from that order, Stein said the SEC has established a practice of “almost reflexively granting waivers of all types, and most often to large financial institutions.”

Former SEC Commissioner Daniel Gallagher—who along with then-Chairman Mary Jo White and current Commissioner Michael Piwowar supported the RBS waiver.

Gallagher and Piwowar said the punishment-focused view of WKSI waivers was troubling. Waiver reviews are based on the reliability of the issuer's current and future disclosure, Gallagher explained. If the misconduct that triggered the disqualification does not affect the issuer's disclosure, then granting a waiver is appropriate.

Misconduct is appropriately punished through the criminal or civil enforcement process, he further argued. The question of whether to grant a WKSI waiver should be “a dispassionate analysis, undertaken by the technical experts in the Division of Corporation Finance, separate and apart from the enforcement process.”

In March 2015, the SEC’s Division of Corporation Finance issued new guidance on how and when waivers will be granted for companies that otherwise face an automatic disqualification from certain registration exemptions when raising capital.

The new guidance details factors that will be used to evaluate a waiver request. CorpFin will consider who was responsible for the misconduct and what role the bad actors have, or had, with respect to the party seeking the waiver. For example, it will be a negative factor if the party seeking the waiver is the same as the one responsible for the misconduct or if an individual, such as an executive officer or director, committed the misconduct and continues to exert influence on operations.

CorpFin will also consider whether the misconduct reflects broadly on the entity as a whole. “If warning signs were disregarded, or the tone at the top of the party seeking the waiver condoned, encouraged or did not address the misconduct…or obstructed the regulatory or law enforcement investigation, then these factors would weigh against granting a waiver,” it says. “If misconduct committed by one or more individuals resulted in the waiver applicant’s disqualification, and the applicant removes or terminates its association with those individuals, the Division would generally view such actions taken as favorable to the waiver request.”

Also under consideration is whether the misconduct occurred over an extended period or whether it was an isolated instance. If the misconduct was an isolated instance, then this factor would weigh favorably in the waiver determination.

CorpFin will review any remedial actions that have been made, including when they began, and whether they are likely to mitigate the possibility of future violations. Also under consideration is whether the party seeking the waiver has taken steps to improve training and made improvements to its policies, procedures or practices.

Lastly, CorpFin will consider the severity of the effect on the issuer or third parties, including investors and customers, if the waiver request is not granted.

“Despite recent improvements to the waiver process, more remains to be done to ensure that the SEC does not ‘reflexively’ throw away these disqualification tools or enshrine a policy of ‘too-big-too-bar.’ Authority to grant waivers remains delegated to SEC staff attorneys, with the Commissioners able to conduct a post-approval review and affirm, reverse, modify, set aside, or remand for further proceedings,” Waters said.

 “There is no opportunity for public notice, comment, or a hearing prior to a waiver determination,” she added. “Interested parties are thus unable to express their concerns about whether a waiver should be granted or denied in a particular case.”