International Power Group, Ltd., Exchange Act Rel. 66611, March 15, 2012
Depository Trust suspended clearing and settlement of International Power Group's stock. It did so because the Commission had previously brought a civil action in federal court alleging that various defendants had issued unregistered shares of International Power. Neither International Power, nor its officers or directors were defendants in that case.
The Commission ruled that it has the authority to consider International Power's appeal of DTC's action. DTC had argued that the Commission had no jurisdiction.
The Commission also found that DTC's procedures were deficient. It remanded the the matter to the DTC and instructed that DTC should provide appropriate procedural safeguards and develop a record. It also ordered DTC to develop uniform procedures for suspensions that will be applied to future cases involving issuers.
Lexisnexis
Bon mots
Bar Vacated
Robert Hardee Quarles, Exchange Act Rel. 66530, March 7, 2012
The Commission vacated the bar order entered against Quarles in 1985 upon his motion. He was suspended by the Commission from associating with a broker or dealer for six months and barred from association in a supervisory or proprietary capacity.
Since 1987 (with a brief hiatus) he has been associated with various firms in a non-supervisory capacity. He has been with his current employer for 20 years. His supervisory bar has been in place for 26 years. He has had no disciplinary issues since the 1987 order. The Division of Enforcement did not oppose Quarles motion for relief.
The Commission has previously taken the position that bars will remain in place absent "compelling circumstances." The Commission, as is unfortunately often its fashion then simply concluded (can you spell ipsi dixit?) that it is appropriate to grant Quarles' motion. It offered no explanation or analysis for this conclusion and simply cited Quarles age (70), his clean employment history and the fact that the bar was imposed 26 years ago.
The Commission vacated the bar order entered against Quarles in 1985 upon his motion. He was suspended by the Commission from associating with a broker or dealer for six months and barred from association in a supervisory or proprietary capacity.
Since 1987 (with a brief hiatus) he has been associated with various firms in a non-supervisory capacity. He has been with his current employer for 20 years. His supervisory bar has been in place for 26 years. He has had no disciplinary issues since the 1987 order. The Division of Enforcement did not oppose Quarles motion for relief.
The Commission has previously taken the position that bars will remain in place absent "compelling circumstances." The Commission, as is unfortunately often its fashion then simply concluded (can you spell ipsi dixit?) that it is appropriate to grant Quarles' motion. It offered no explanation or analysis for this conclusion and simply cited Quarles age (70), his clean employment history and the fact that the bar was imposed 26 years ago.
Commission Lowers Penalties From Third to Second Tier
Eric J. Brown, Matthew J. Collins, Kevin J. Walsh, Mark W. Wells, Exchange Act Rel. 66469, February 27, 2012
The Commission upheld sanctions against three respondents in connection with sales or supervision of sales of variable annuities. It dismissed the case against one individual.
The Commission concluded that Brown fraudulently sold variable annuities after having lost his state license to sell insurance products and to have effected unauthorized transactions in customer accounts. In doing so he aided and abetted violations of the books and records provisions by falsifying customer account forms. He was barred from broker, dealer or adviser association and ordered to: cease and desist, pay disgorgement, and a penalty of $560,000.
Collins was found to have failed to supervise Brown and aided and abetted books and records violations by falsifying customer account forms. He was barred from broker, dealer, or adviser association with a right to reapply after two years and ordered to: cease and desist, pay disgorgement, and a penalty of $310,000.
Walsh was found to have committed fraud in connection with variable annuity sales. He too was barred from broker, dealer, or adviser association and ordered to: cease and desist; pay disgorgement, and a penalty of $255,000.
Respondent Wells was successful in his appeal. Although the ALJ found that Wells had engaged in fraudulent variable annuity sales the Commission disagreed and dismissed the case against him.
The ALJ's initial decision is here.
The discussion of penalties in this decision is of interest. First, the penalties were applied on a per customer basis rather than for each individual misrepresentation. Second, no penalties were imposed for conduct that occurred before the five year statute of limitations. The Commission rejected the Division of Enforcement's argument that such sales were part of a continuing course of conduct. Third, the Commission lowered the penalties from third to second tier as the actual customer losses were relatively small. This last matter is of great significance as it appears that the the Commission now will impose third tier penalties only when customers actually suffer significant economic loss. The statute of course authorizes third tier penalties when there are substantial investor losses or "significant risk of substantial losses." The Commission seems to base its conclusion on the fact that there were no substantial investor losses here and simply conflates that with significant risk of loss. The opinion never explains why there was no risk of greater loss by the customers – it simply concludes that this was so without any meaningful discussion of the issue.
The Commission upheld sanctions against three respondents in connection with sales or supervision of sales of variable annuities. It dismissed the case against one individual.
The Commission concluded that Brown fraudulently sold variable annuities after having lost his state license to sell insurance products and to have effected unauthorized transactions in customer accounts. In doing so he aided and abetted violations of the books and records provisions by falsifying customer account forms. He was barred from broker, dealer or adviser association and ordered to: cease and desist, pay disgorgement, and a penalty of $560,000.
Collins was found to have failed to supervise Brown and aided and abetted books and records violations by falsifying customer account forms. He was barred from broker, dealer, or adviser association with a right to reapply after two years and ordered to: cease and desist, pay disgorgement, and a penalty of $310,000.
Walsh was found to have committed fraud in connection with variable annuity sales. He too was barred from broker, dealer, or adviser association and ordered to: cease and desist; pay disgorgement, and a penalty of $255,000.
Respondent Wells was successful in his appeal. Although the ALJ found that Wells had engaged in fraudulent variable annuity sales the Commission disagreed and dismissed the case against him.
The ALJ's initial decision is here.
The discussion of penalties in this decision is of interest. First, the penalties were applied on a per customer basis rather than for each individual misrepresentation. Second, no penalties were imposed for conduct that occurred before the five year statute of limitations. The Commission rejected the Division of Enforcement's argument that such sales were part of a continuing course of conduct. Third, the Commission lowered the penalties from third to second tier as the actual customer losses were relatively small. This last matter is of great significance as it appears that the the Commission now will impose third tier penalties only when customers actually suffer significant economic loss. The statute of course authorizes third tier penalties when there are substantial investor losses or "significant risk of substantial losses." The Commission seems to base its conclusion on the fact that there were no substantial investor losses here and simply conflates that with significant risk of loss. The opinion never explains why there was no risk of greater loss by the customers – it simply concludes that this was so without any meaningful discussion of the issue.
Finra Sanctions Upheld - Mitigating and Aggravating Factors Discussed
Howard Braff, Exchange Act Rel. 66467, February 24, 2012
Finra fined Braff $25,000 and suspended from all associations for two years. He was found to have failed to provide written notice to three employers of outside brokerage accounts and falsely claimed in writing to have no outside accounts. The Commission upheld the sanctions.
Braff was no rookie, he had been a rep since 1983. The Commission used Braff's extensive industry experience to justify its finding that his concealment was intentional. In upholding the sanctions the Commission noted that the following are not mitigating factors when assessing the appropriateness of sanctions:
Finra fined Braff $25,000 and suspended from all associations for two years. He was found to have failed to provide written notice to three employers of outside brokerage accounts and falsely claimed in writing to have no outside accounts. The Commission upheld the sanctions.
Braff was no rookie, he had been a rep since 1983. The Commission used Braff's extensive industry experience to justify its finding that his concealment was intentional. In upholding the sanctions the Commission noted that the following are not mitigating factors when assessing the appropriateness of sanctions:
- lack of disciplinary history;
- cooperation with the investigation;
- absence of monetary gain;
- absence of customer harm; and
- absence of aggravating factors.
Finra Sanctions Partially Upheld
John Edward Mullins, Kathleen Maria Mullins, Exchange Act Rel. 66373, February 10, 2012
John Mullins was sanctioned by Finra for converting customer property, misusing customer funds, borrowing from a customer without firm authorization, and failing to disclose outside activities to his firm. His wife was found to have failed to disclose outside activities and borrowed funds from a customer without firm approval. The violations arose in the Mullins' handling of funds held by a charitable foundation established by a client.
John Mullins was barred. Kathleen Mullins was suspended for six months and fined $15,000 for failing to disclose outside activities to her firm. She was suspended for an additional three months and fined $5,000 for borrowing funds from a customer. The suspensions were consecutive.
The Commission sustained the sanctions against John Mullins. It lowered Kathleen Mullins' sanction for failing to disclose outside activities to her firm to four months suspension and a $10,000 fine. The Commission set aside one of the rule violations found by Finra (but upheld another) in connection with disclosure of outside activities to the firm. It also noted a "mitigating" factor of her cooperation with Finra during its investigation. It rejected her claim that a clean disciplinary record was a mitigating factor because "an associated person should not be rewarded for acting in accordance with his duties as a securities professional." Similarly the fact that violative behavior is not repeated is not considered mitigating.
The fact that the Commission viewed cooperation during the investigation as a mitigating factor while rejecting the claim that a clean disciplinary record is not seems inconsistent. Reps are required to cooperate with Finra investigations and therefore the same rational for rejecting the "clean record" mitigation argument would seem to apply to the cooperation claim. The opinion does not explain this apparent contradiction.
John Mullins was sanctioned by Finra for converting customer property, misusing customer funds, borrowing from a customer without firm authorization, and failing to disclose outside activities to his firm. His wife was found to have failed to disclose outside activities and borrowed funds from a customer without firm approval. The violations arose in the Mullins' handling of funds held by a charitable foundation established by a client.
John Mullins was barred. Kathleen Mullins was suspended for six months and fined $15,000 for failing to disclose outside activities to her firm. She was suspended for an additional three months and fined $5,000 for borrowing funds from a customer. The suspensions were consecutive.
The Commission sustained the sanctions against John Mullins. It lowered Kathleen Mullins' sanction for failing to disclose outside activities to her firm to four months suspension and a $10,000 fine. The Commission set aside one of the rule violations found by Finra (but upheld another) in connection with disclosure of outside activities to the firm. It also noted a "mitigating" factor of her cooperation with Finra during its investigation. It rejected her claim that a clean disciplinary record was a mitigating factor because "an associated person should not be rewarded for acting in accordance with his duties as a securities professional." Similarly the fact that violative behavior is not repeated is not considered mitigating.
The fact that the Commission viewed cooperation during the investigation as a mitigating factor while rejecting the claim that a clean disciplinary record is not seems inconsistent. Reps are required to cooperate with Finra investigations and therefore the same rational for rejecting the "clean record" mitigation argument would seem to apply to the cooperation claim. The opinion does not explain this apparent contradiction.
Finra Sanctions For Unregistered Distribution Upheld
Midas Securities, Jay S. Lee, Exchange Act Rel. 66200, January 20, 2012
This case is significant for two reasons. It restates clearly the duty that brokerage firms have to investigate sales of large amounts of stock of little known issuers. Most important, from a supervisory standpoint, it finds supervisory procedures inadequate that require reasonable inquiry, but do not specify the type of inquiry that must be undertaken. Vague boilerplate written supervisory procedures will are not adequate.
Finra sanctioned Midas Securities and its president, Lee. The Commission upheld the sanctions. The sanctions here resulted from Midas' unregistered sale of securities on behalf of a Bulgarian customer who it knew to be involved in stock promotions. The customer had been sued by the SEC in a still pending case for his role in Spam promotions of another stock. Further, Lee and Midas had previously been sanctioned by Finra for the sale of unregistered securities.
The Commission rejected the defense that the firm could rely on the fact that the certificates had no restrictive legend. When a customer seeks to sell a large block of a little known stock the broker is required to undertake a searching inquiry to determine whether the customer is engaged in a distribution. Reliance on lack of a restrictive legend on the certificates is insufficient. Also, the issuer here had been the subject of a reverse merger only weeks before, often a red flag that a distribution may be taking place. Further exacerbating the situation was the fact that Midas reps knew the customer was a stock promoter who received stock directly from issuers in payment for his activities.
The Commission also rejected the defense claim that the broker could escape liability as the trades were unsolicited. The Commission has never recognized this as a defense as "a broker [relying on the Section 4(4) defense cannot merely act as an order taker." The Commission also rejected the defense claim that Finra had not established the existence of an unregistered distribution. It reiterated long standing precedent that any person relying on an exemption from the registration requirements must establish that exemption as an affirmative defense when the stock has not been registered as was the case here.
The Commission also found the firms supervisory procedures inadequate. Midas' procedures required it to conduct a "reasonable inquiry"into unregistered sales of large amounts of little known securities. However, the Commission characterized those procedures as "minimal" and found them to be deficient because they did not specify the type of inquiry that was required.
This case is significant for two reasons. It restates clearly the duty that brokerage firms have to investigate sales of large amounts of stock of little known issuers. Most important, from a supervisory standpoint, it finds supervisory procedures inadequate that require reasonable inquiry, but do not specify the type of inquiry that must be undertaken. Vague boilerplate written supervisory procedures will are not adequate.
Finra sanctioned Midas Securities and its president, Lee. The Commission upheld the sanctions. The sanctions here resulted from Midas' unregistered sale of securities on behalf of a Bulgarian customer who it knew to be involved in stock promotions. The customer had been sued by the SEC in a still pending case for his role in Spam promotions of another stock. Further, Lee and Midas had previously been sanctioned by Finra for the sale of unregistered securities.
The Commission rejected the defense that the firm could rely on the fact that the certificates had no restrictive legend. When a customer seeks to sell a large block of a little known stock the broker is required to undertake a searching inquiry to determine whether the customer is engaged in a distribution. Reliance on lack of a restrictive legend on the certificates is insufficient. Also, the issuer here had been the subject of a reverse merger only weeks before, often a red flag that a distribution may be taking place. Further exacerbating the situation was the fact that Midas reps knew the customer was a stock promoter who received stock directly from issuers in payment for his activities.
The Commission also rejected the defense claim that the broker could escape liability as the trades were unsolicited. The Commission has never recognized this as a defense as "a broker [relying on the Section 4(4) defense cannot merely act as an order taker." The Commission also rejected the defense claim that Finra had not established the existence of an unregistered distribution. It reiterated long standing precedent that any person relying on an exemption from the registration requirements must establish that exemption as an affirmative defense when the stock has not been registered as was the case here.
The Commission also found the firms supervisory procedures inadequate. Midas' procedures required it to conduct a "reasonable inquiry"into unregistered sales of large amounts of little known securities. However, the Commission characterized those procedures as "minimal" and found them to be deficient because they did not specify the type of inquiry that was required.
PCAOB Revocation and Fine For Failure To Produce Records Upheld on Appeal
R.E. Bassie & Co., R. Everett Bassie, CPA, AAER 3354, January 10, 2012
PCAOB revoked Bassie & Co's registration and barred Bassie from associating with a registered public accounting firm and fined him $75,000. It found that the firm and Bassie failed to cooperate with a PCAOB investigation.
In late 2006 PCAOB staff required the firm to produce work papers relating to work done for a client in connection with an investigation. The documents were never produced and disciplinary proceedings were finally instituted in early 2009. In the intervening period the firm and counsel repeatedly asked for extensions of time to produce the documents, but never did so.
The PCAOB investigation involved Bassie's independence in connection with the audit of Calypso Wireless. The documents related to work Bassie did for entities that were involved in a law suit with Calypso.
Since PCAOB may demand any documents its staff deems relevant to an investigation its jurisdiction is not limited to work done only in connection with the audit of a public company. Because the issue in the investigation was Bassie's independence, any facts reasonably related to that issue were relevant to the PCAOB investigation.
The Commission also rejected respondents' claim that it was improper for the PCAOB hearing officer to proceed through summary disposition without trial. It found Bassie had not produced sufficient evidence of an actual advice of counsel defense to justify a hearing. Finally, the Commission upheld the sanctions, noting that PCAOB's ability to investigate is critical to its function and the fact that respondents had over an extended period never produced the documents.
PCAOB revoked Bassie & Co's registration and barred Bassie from associating with a registered public accounting firm and fined him $75,000. It found that the firm and Bassie failed to cooperate with a PCAOB investigation.
In late 2006 PCAOB staff required the firm to produce work papers relating to work done for a client in connection with an investigation. The documents were never produced and disciplinary proceedings were finally instituted in early 2009. In the intervening period the firm and counsel repeatedly asked for extensions of time to produce the documents, but never did so.
The PCAOB investigation involved Bassie's independence in connection with the audit of Calypso Wireless. The documents related to work Bassie did for entities that were involved in a law suit with Calypso.
Since PCAOB may demand any documents its staff deems relevant to an investigation its jurisdiction is not limited to work done only in connection with the audit of a public company. Because the issue in the investigation was Bassie's independence, any facts reasonably related to that issue were relevant to the PCAOB investigation.
The Commission also rejected respondents' claim that it was improper for the PCAOB hearing officer to proceed through summary disposition without trial. It found Bassie had not produced sufficient evidence of an actual advice of counsel defense to justify a hearing. Finally, the Commission upheld the sanctions, noting that PCAOB's ability to investigate is critical to its function and the fact that respondents had over an extended period never produced the documents.
Finra Supervision and Unregistered Sale Sanctions Upheld
World Trade Financial Corp., et. al., Exchange Act Rel. 66114, January 6, 2012
World Trade, its president Rodney Michel, its supervisor of trading Jason Adams and Frank Brickell a rep appealed Finra sanctions. Finra found World Trade and Brickell sold unregistered stock and that Michel and Adams failed to supervise Brickell. It also found that World Trade had inadequate supervisory procedures.
World Trade was fined $45,000, Brickell $15,000, Michael $30,000 and Adams $20,000. Brickell was suspended for 30 days, Michel for 45 days, and Adams for 30 days.
The Commission upheld the sanctions.
Over a three month period World Trade sold 2.3 million shares of a thinly traded penny stock on behalf of three customers for proceeds totaling $295,000. Brickell received about $9,200 in commissions. This distribution was not registered with the Commission.
In assessing whether or not stock sold by customers was "free trading" the firm relied heavily on whether or not certificates had restrictive legends. The stock in question was subject to a spam based email campaign.
This was a classic penny stock pump and dump scheme. Brickell admitted that he knew "or should have known" that the company had recently undergone a reverse merger and that it had only begun to publicly trade just before his customers initiated their sales.
World Trade, Brickell, Michel, and Adams all claimed that they relied on the transfer agent to make sure that the shares were not part of an unregistered distribution.
This is a significant case. It reiterates the long standing requirement that broker-dealers have an independent duty to investigate and ascertain that in connection with customer sales of little known thinly traded stocks an unregistered distribution is not taking place. The "broker" registration exemption in Exchange Act Section 4(4) is not available "if the broker knows or has reasonable grounds to believe that the selling customer's part of the transaction is not exempt [from registration].... when a dealer is offered a substantial block of a little-known security ... where the surrounding circumstances raise a question as to whether or not the ostensible sellers may be mere intermediaries for controlling persons or statutory underwriters, then searching inquiry [by the broker-dealer] is called for."
World Trade, its president Rodney Michel, its supervisor of trading Jason Adams and Frank Brickell a rep appealed Finra sanctions. Finra found World Trade and Brickell sold unregistered stock and that Michel and Adams failed to supervise Brickell. It also found that World Trade had inadequate supervisory procedures.
World Trade was fined $45,000, Brickell $15,000, Michael $30,000 and Adams $20,000. Brickell was suspended for 30 days, Michel for 45 days, and Adams for 30 days.
The Commission upheld the sanctions.
Over a three month period World Trade sold 2.3 million shares of a thinly traded penny stock on behalf of three customers for proceeds totaling $295,000. Brickell received about $9,200 in commissions. This distribution was not registered with the Commission.
In assessing whether or not stock sold by customers was "free trading" the firm relied heavily on whether or not certificates had restrictive legends. The stock in question was subject to a spam based email campaign.
This was a classic penny stock pump and dump scheme. Brickell admitted that he knew "or should have known" that the company had recently undergone a reverse merger and that it had only begun to publicly trade just before his customers initiated their sales.
World Trade, Brickell, Michel, and Adams all claimed that they relied on the transfer agent to make sure that the shares were not part of an unregistered distribution.
This is a significant case. It reiterates the long standing requirement that broker-dealers have an independent duty to investigate and ascertain that in connection with customer sales of little known thinly traded stocks an unregistered distribution is not taking place. The "broker" registration exemption in Exchange Act Section 4(4) is not available "if the broker knows or has reasonable grounds to believe that the selling customer's part of the transaction is not exempt [from registration].... when a dealer is offered a substantial block of a little-known security ... where the surrounding circumstances raise a question as to whether or not the ostensible sellers may be mere intermediaries for controlling persons or statutory underwriters, then searching inquiry [by the broker-dealer] is called for."
Finra Sanctions Against Rep For Misappropriating Customer Information Upheld
Dante J. DiFrancesco, Exchange Act Rel. 66113, January 6, 2012
DiFrancesco was suspended for ten days and fined $10,000 by Finra. It found that he violated Finra's Rule 2110 ("high standards of commercial honor and just and equitable principles of trade").
DiFrancesco was planning to leave his firm and moving to another. He attempted to download data regarding his 200 personal clients. In fact, he downloaded and removed from the firm confidential personal information for 36,000 additional clients of his firm. He then provided that data file to his new firm. He did this after a manager at his firm told him to leave the firm immediately after blocking an email that contained the client list.
At the hearing DiFrancesco acknowledged his understanding that his firm considered all client information proprietary to the firm and that he intentionally violated firm policy.
The Commission upheld Finra's finding that DiFrancesco had violated Rule 2110. It noted that there is a duty to maintain the confidentiality of client information that "is grounded in fundamental fiduciary principles…." As to DiFrancesco's claim that he only intended to take information relating to his own clients, the Commission noted that intent is not required to establish a violation of Rule 2110.
NASDAQ Delisting Stay Pending Appeal Denied
Cleantech Innovations, Inc., Exchange Act Rel. 66064, December 28, 2011
Cleantech's securities were delisted by Nasdaq after the exchange concluded the company had intentionally withheld documents from its staff. Cleantech sought a stay of the delisting pending resolution of its appeal on the merits.
In ruling on these matters the Commission considers: 1) whether there is a strong likelihood the company will prevail on appeal; 2) whether absent a stay there will be irreparable injury; 3) whether there will be substantial harm to the public; and 4) whether a stay is in the public interest.
Under Exchange Act Section 19(f) the Commission must dismiss an application to review a delisting if it finds "the specific grounds on which [the delisting] … is based exist in fact, that [delisting] … is in accordance with the rules [of the exchange] and such rules are, and were applied in a manner, consistent with the purposes of [the Exchange Act]."
The Commission opinion notes that stay applicants have the burden of establishing each of the four factors noted above. It found that Cleantech had not established a strong likelihood of succeeding on appeal as the company admitted that it had not furnished all the information sought by the exchange. Because the stock was still quoted in the pink sheets if found no irreparable injury or substantial harm to the public. The Commission found that when considering the public interest disadvantages to shareholders must be weighed against the ability of Nasdaq to regulate its markets and obtain accurate information from issuers. Thus "[the detriment to shareholders] is outweighed by the public interest in the exchange's obtaining full responses from the company to the exchange's requests for information."
Cleantech also moved for discovery concerning its claim on appeal that Nasdaq had failed to follow its own procedures in delisting the stock. The Commission denied this request noting that under its Rules of Practice no discovery is permitted in appellate proceedings under Section 19(f).
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