With three seats to fill—including the appointment of a new chairman—looming over the Securities and Exchange Commission, and with the agency’s long-time foreign corruption chief stepping down, companies are entering a brand-new era of SEC enforcement.
Although the exact direction the SEC’s Division of Enforcement will take under new leadership remains a mystery, those in the compliance and legal profession can get at least a general idea by finding and piecing together some important clues.
The first clue is Jay Clayton himself, President Donald Trump’s nominee to serve as the next chair of the SEC. The Senate Banking Committee advanced Clayton’s nomination on April 4, meaning he now awaits a final confirmation vote by the full Senate.
Whereas former SEC Chair Mary Jo White brought to the SEC decades of experience as a former prosecutor in complex securities and financial fraud cases, Clayton has no law enforcement background. As a partner at law firm Sullivan & Cromwell, much of Clayton’s career has focused on advising and representing large banks and investment firms regulated by the SEC—a point of contention during his confirmation hearing before the Senate Banking Committee last month.
During that hearing, Clayton—assuming he is confirmed as SEC Commissioner—said he is “100 percent committed to rooting out any fraud and shady practices in our financial system,” adding that he “will show no favoritism to anyone.”
Nonetheless, considering Clayton’s vast experience advising corporate clients, it may be that he will take a more business-friendly approach to enforcement, far different than the aggressive enforcement approach the SEC took when White was at the helm.
“It’s possible that the SEC may step back from the ‘broken windows’ approach,” says Philip Urofsky, a former federal prosecutor and now a partner in the Litigation Group at law firm Shearman & Sterling. Championed since 2013 by Chairman White, the “broken windows” philosophy is based on the theory that when a window is broken and immediately fixed, it sends a signal that disorder will not be tolerated, while a broken window left unrepaired suggests an environment of disorder that encourages more serious crimes to flourish.
“It’s possible that the SEC may step back from the ‘broken windows’ approach.”
Philip Urofsky, Partner, Shearman & Sterling
Under Chairman White, the “broken windows” approach translated into the SEC bringing enforcement actions for even minor infractions of securities laws—such as for internal controls failures and books-and-records violations—in the name of improving compliance programs.
For compliance and legal professionals, an aggressive enforcement environment proves particularly troublesome when the SEC begins to pursue cases for violations of regulations that are vague and undefined, where it cannot be determined with certainty whether a company has violated the law or not. “I don’t think they will be as aggressive with regulation-by-enforcement,” says Roberto Braceras, a former federal prosecutor and now a partner at law firm Goodwin. He says he is hopeful that the SEC “will, if anything, focus more on the actual regulations on the books and apply those in a fair and objective manner in deciding whether to bring charges.”
What is certain is that the SEC is off to a busy start. New analysis conducted by Cornerstone Research finds that SEC enforcement activity remained elevated through the first half of fiscal year 2017. Excluding actions against delinquent filers, the number of enforcement actions in the first half of FY 2017 was 299—virtually unchanged from the same period in the prior fiscal year, the report stated.
“In the face of uncertainty brought on by changes in SEC leadership and the new administration, enforcement activity continued at last year’s heightened pace,” said David Marcus, senior vice president at Cornerstone Research. Additionally, the Commission continued to file most actions (80 percent) as administrative proceedings, rather than civil actions.
FCPA enforcement. Another clue that compliance and legal professionals will want to pay attention to is how the SEC intends to approach Foreign Corrupt Practices Act cases moving forward, given Clayton’s well-publicized former opinions of the law. “I do think it’s possible, based on his experience, that the SEC may apply a different lens to these cases,” Urofsky says.
In 2011, Clayton jointly authored a paper to the New York City Bar Association’s Committee on International Transactions, which he chaired at the time, acknowledging the significant impact that anti-corruption enforcement has on U.S. multinational companies.
NEW SEC ENFORCEMENT ACTIONS
Below is an excerpt from Cornerstone Research analysis based on the SEC’s published enforcement releases for administrative proceedings and civil actions. The data looks at filings only and include actions against individuals and corporate entities.
The SEC filed a comparable number of enforcement actions for new matters and follow-on administrative proceedings during the first half of FY 2017 relative to the first half of FY 2016 (excluding actions against delinquent filers).
The SEC filed 231 actions for new matters during the first half of FY 2017, slightly higher than the 225 actions filed during the same period in FY 2016.
The SEC filed 68 follow-on actions (administrative proceedings related to previously filed cases) during the first half of FY 2017, compared to 77 in the first half of FY 2016.
Follow-on actions comprised 20 percent of total enforcement activity in the first half of FY 2017, consistent with the same period in FY 2016.
Actions against delinquent filers markedly decreased in the first half of FY 2017 with only 35 actions filed, compared to 70 during the first half of FY 2016.
Regulatory focus by allegation type. Using advanced textual analytics, Cornerstone Research’s proprietary model categorizes SEC enforcement actions by allegation type. This model shows sizable increases in the number of cases against broker-dealers, issuer and reporting disclosure cases, and cases related to securities offerings in the first half of FY 2017. The number of cases involving delinquent filings, insider trading, and FCPA allegations decreased.
Broker-dealer: Actions against broker-dealers increased 20 percent—comprising 25 percent of total enforcement activity in the first half of FY 2017 compared to 20 percent during FY 2016.
Issuer reporting and disclosure: Actions related to issuer reporting and disclosure jumped 34 percent. These actions made up 18 percent of total enforcement activity in the first half of FY 2017 compared to 12 percent during FY 2016.
Securities offerings: Actions related to securities offerings rose 34 percent, representing 18 percent of total enforcement activity in the first half of FY 2017, up from 11 percent during FY 2016.
Insider trading: There were 14 insider trading actions filed, down from 21 in the first half of FY 2016.
FCPA: There were seven FCPA actions, compared to 10 in the first half of FY 2016
Source: Cornerstone Research
One criticism expressed in that paper is that the current enforcement regime “encourages substantial ‘over-compliance’ by forcing corporations to adopt oversight and compliance standards that border on the extreme.” The authors further wrote, “companies that invest substantial resources in compliance receive no assurance that, in the event of an alleged violation, even one that could not reasonably have been detected or prevented, those efforts will be meaningfully rewarded.”
Thus, it is possible that the SEC may be more open-minded about giving companies more credit for having in place robust corporate compliance programs. “It’s possible that the Commission might be willing to listen to the targets of investigations and might be more creative in the resolutions or in the penalty stage,” Braceras says.
During his confirmation hearing, Clayton expressed a dim view about imposing large penalties on corporate violators, because “shareholders do bear those costs, and we have to keep that in mind,” he said. It will be interesting to see whether the SEC moves away from high penalties and, instead, goes after more individuals.
Another significant clue for the compliance and legal community is who will be selected as the next chief of the FCPA unit. Kara Novaco Brockmeyer, who has held the role since 2011, said she will be stepping down at the end of this month. At that time, Charles Cain, deputy chief of the FCPA Unit, will serve as interim chief.
Under Brockmeyer, who was not available for comment, the SEC brought 72 FCPA enforcement actions, with judgments and orders totaling more than $2 billion in disgorgement, prejudgment interest, and penalties. Furthermore, the SEC expanded its use of cooperation tools in the FCPA area, including the first FCPA-related non-prosecution agreement in 2013 with Ralph Lauren, and the first-ever use of a deferred prosecution agreement with an individual in an FCPA case last year.
Under the Trump administration, FCPA enforcement numbers themselves are not expected to change all that much, particularly since many of the lawyers who worked alongside Brockmeyer are still at the agency. “She leaves behind a strong team that will still be pursuing these cases,” Braceras says. “It’s not as though, during the transition from one administration to the next, those cases go away.”
Perhaps the most important clue of all, however, is who will be appointed as the new Director of Enforcement, which will be very telling of what the SEC’s priorities may be moving forward. If the new head of the Enforcement Division brings to the SEC experience as a prosecutor, for example, that may be an indication that the SEC intends to continue under its current aggressive enforcement regime, whereas someone coming in with a corporate defense background may signal the start of a more business-friendly agency.
Officially following the appointment of the new SEC Chair, the first order of business may be to put out a fire started by Acting Chair Michael Piwowar. In February, the Wall Street Journal reported that Piwowar had taken unilateral administrative action imposing “fresh curbs on the agency’s enforcement staff, scaling back their powers to initiate subpoenas and conduct investigations of alleged financial misdeeds.”
In 2009, the SEC streamlined its decision-making process by delegating the authority to approve all “routine case decisions” from the deputy director at a national level to division senior officers located throughout the country, who are “on the scene and closest to the facts,” said Robert Khuzami, director of the SEC’s Enforcement Division at the time.
Khuzami said the intent was to expedite investigations: “Staff will no longer have to obtain advance Commission approval in most cases to issue subpoenas; instead, they will simply need approval from their senior supervisor,” he explained.
Typically, any new policy changes would require approval by the five-member Commission, which is why Piwowar’s actions have caused pushback. On March 29, four Democratic senators submitted a letter to SEC Inspector General Carl Hoecker asking for an investigation into Acting Chairman Piwowar’s recent actions to determine whether such actions “exceed his authority” as interim head of the agency. “There is no evidence that any of these changes in the SEC’s course are desired, or have been sought, by the person nominated to be the next SEC chair,” the letter stated.
At his confirmation hearing, Clayton testified that he had not been consulted about Acting Chairman Piwowar’s change to enforcement policy. “I will have to discuss this with both Commissioners,” Clayton answered, referring to Piwowar and SEC Commissioner Kara Stein.
If the actions of Acting Chair Piwowar remain, it will indicate that—after eight years of allowing Enforcement Division attorneys wide latitude to open and pursue investigations—the Commission is, once again, reverting to a centralized enforcement decision-making model. In any case, so begins for the legal and compliance profession a new and perhaps unpredictable era of SEC enforcement.