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OGC and Enforcement at SEC Speaks '18 - Words Matter, Process Matters, Homework Matters

By Dennis A. Stubblefield & Matias Montillano of Shustak Reynolds & Partners, P.C. posted on Friday, March 16, 2018.

Dennis A. Stubblefield

Dennis A. Stubblefield


Dennis A. Stubblefield
[email protected]

Matias Montillano
619.696.9500 ext. 118
[email protected]

Dennis Stubblefield, a Partner at the firm, recently attended SEC Speaks, the Commission’s annual conference in which senior staff from all divisions and offices announce and comment upon key developments from the past year, and set forth coming priorities. Chair Jay Clayton chose GOP-side economist Commissioner Michael Piwowar to interview the newest Commissioners, Robert Jackson Jr. [Dem], and Hester Peirce [GOP]. The freshmen predictably disagreed on the goodness of Dodd-Frank, but both sounded reasonable, engaged and ready to explore common ground on key pressing issues, particularly the seemingly intractable problem of how to liberalize the rules around “finders.” Sounds logical given Clayton’s intention to gin back up a Capital Markets focus, which he suggested has taken a back seat to other priorities in recent years. Clayton’s Remarks contained nothing to suggest that Enforcement will be any less aggressive than it has been in the past (see below for a snapshot of key Enforcement developments since the conference).

Indeed, the plenary and break-out Enforcement panels gave no hint whatsoever that this Division is not continuing to go gangbusters. In particular, the recently-established “Retail Task Force” appears to be pursuing a wide swath of potential wrongdoing including sharp practices by various flavors of advisors. This unit, along with the rest of Enforcement, is taking full advantage of the Commission’s Big Data/Analytics prowess, where virtually every key metric across all fields can be sliced, diced, analyzed and acted upon. For example, there is a very cool (or ominous, depending upon your policy and moral perspective)-sounding “Query Viewer,” which, among other things, can slap redlined financial statements side-by-side. DERA regularly spoon-feeds Enforcement attorneys and investigators easy-to-digest leads on seemingly everything from churning to cherry-picking.

The message to the “gatekeepers,” from Enforcement (and OGC): do your homework! In both the plenary and break-out, Enforcement singled out penny-stock fraud, often enabled by “shell factories,” and all too many sleazy transfer agents and rubber-stamp-type 144 letter writers. Enforcement also warned that BDs must do robust due diligence on incoming paper to be clear of a Section 5 violation---remember, even before the realm of fraud, this fundamental binary gate provision is strict liability.

As for the back-end Wells and litigation process, OGC cautioned that it is not helpful to simply cite Janus and Stoneridge. Solicitor Michael A. Conley took close to 10 minutes to walk through the language of the key anti-fraud provisions, pointing out the necessity to “parse the exact words” of the statutes---’33 Act Section 17(a) and ’34 Act Section 10(b)---and the lynchpin Rule: 10b-5. He addressed whether and to what extent conduct beyond “misstatements” is required to trigger liability, citing the recent Frances Lorenzo case in the District of Columbia Circuit (holding that, although Mr. Lorenzo did not “make” the relevant statements within the meaning of Rule 10b-5(b), his status as a “non-maker” did not vitiate the Commission’s conclusion that his actions violated other subsections of Rule 10b-5, as well as Section 17(a)(1). See Lorenzo v. SEC, 872 F.3d 578, 586 (D.C. Cir. Sept. 29., 2017).

In Lorenzo, a three-judge panel overturned the SEC’s determination that an investment banker, Lorenzo, violated Rule 10b-5(b) of the Exchange Act by sending emails, drafted by his employer, to investors containing material misrepresentations about a securities offering. Id. at 580.  The panel first held that Lorenzo did not “make” the relevant statements of the emails under the reasoning of Janus Capital Group, Inc. v. First Derivative Traders, 564 U.S. 135 (2011), because his boss supplied the content of the false statements, and Lorenzo merely copied and pasted the statements into the email messages. Lorenzo, 872 F.3d at 587 (finding Lorenzo did not have “ultimate authority” over the false statements). 

The panel, however, also held Lorenzo violated Rules 10b-5(a), 10b-5(c), and Section 17(a)(1) of the Securities Act, which “do not speak in terms of an individual’s ‘making’ a false statement.” Id. at 589. Instead, those rules prohibit employing any “device, scheme, or artifice to defraud . . . in connection with the purchase or sale of any security,” or “engag[ing] in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person . . . in connection with the purchase or sale of any security.” Id. (emphasis added)Although Lorenzo did not qualify as the “maker” of the false statements because he “lacked ultimate authority over their content and dissemination,” his own active role in producing and sending those emails “constituted employing a deceptive device, act, or artifice to defraud for purposes of liability under Section 10(b), Rule 10b-5(a) and (c), and Section 17(a)(1).” Id. In sum, the majority held that Lorenzo may be found liable as a primary violator for securities fraud, without having “ultimate authority” over the alleged misrepresentations.  (The court vacated the sanctions and remanded for further consideration. Id. at 596).

The dissent follows the approach of various courts in interpreting Janus and Stoneridge: arguing, in effect, that, despite clear statutory and rule text, the “makers” and “schemers” twains should rarely meet. The majority, however, explains that both Janus and Stoneridge were concerned about not driving a Mack Truck through Central Bank, and that the “critical language construed in Janus ---the “phrase at issue”---in 10b-5(b) was the meaning of the term “make.”

The majority suggested that Janus need not govern its analysis of the other applicable anti-fraud provisions. And, tying Janus and Stoneridge together, the court distinguished the case before it. The court explained that the key feature of both of these Supreme Court cases was the lack of disclosure of the secondary actor’s role. “In this case, by contrast, Lorenzo’s role was not “undisclosed” to investors. The recipients [of the emails] were fully alerted to his involvement…”  Lorenzo, 872 F.3d at 590 (emphasis added).

Agreed. “Engaging.” “Employing.” “by means of.” These are process words and terms. It was the process which Lorenzo used which amounted to securities fraud.

Section 10(b) simply sets forth two nouns and two adjectives before yielding to the Rule. “Manipulative or Deceptive.” “Device or Contrivance.” Rule 10b-5 then largely parrots ’33 Act Section 17(a) but contains slightly different wording. Conley counseled that “words matter,” and thus indicated that the better, and likely only, compelling Wells Submissions (and pleadings on litigated cases) will understand the precise meanings of the terms used by Congress and the Commission, and argue cases accordingly.  

“Practice” and “course of business,” are common to both 17(a)(3) and 10b-5(c)). 17(a)(3) also includes the term “transaction,” whereas 10b-5(c) does not; conversely, 10b-5(c) includes the term “act,” which is absent from 17(a)(3). Both provisions focus on “effects” rather than actions, see Aaron v. SEC, 446 U.S. 680 (1980), but only 17(a)(3) (and (2)) permit merely negligent conduct to trigger liability, whereas the nearly identical language of the Rule requires scienter in light of its enabling statute. 

So, back to “scheme.” It is the only term in Rule 10b-5(a) and Section 17(a)(1) which denotes, or at least strongly implies, a course of conduct, as opposed to a single item or feature or key attribute of deception, i.e., an “artifice” or a “device.”  And, while the law of criminal conspiracy requires only one “overt act,” as a practical matter, very few schemes can be executed without at least a handful of actions and events, the course of which comprises the deception.

Congress also included the term “course of business” in 17(a)(3), a term which the Commission adopted in Rule 10b-5(c).  But, notwithstanding the inconsistency of the mental states required for liability under 17(a)(3) and 10b-5(c), assuming the continued integrity of quasi-prosecutorial discretion in Enforcement, which has never been credibly questioned, the only courses of business which actors should worry about are those in which the business is fraud.

Two other items from the conference warrant mention.  First, Enforcement is continuing to take processes from DOJ’s playbook, specifically noting that, at least in certain cases, it is inviting counsel to come in for reverse proffers.”  Second, it is taking ”self-reporting,” the genesis of which traces back to Stanley Sporkin’s voluntary disclosure program, to a new level, exhorting RIAs to voluntarily come clean about certain fee-disclosure shenanigans.  See Share Class Selection Disclosure Initiative, SEC (Feb. 12, 2018),; see also Judge Stanley Sporkin, The Worldwide Banning of Schmiergeld: A Look at the Foreign Corrupt Practices Act on its Twentieth Birthday, 18 NW. J. Int’l L. & Bus. 269 (1998).

In the three weeks since the conference, the SEC has continued to be aggressive in its enforcement efforts. On February 28, the SEC agreed to settle charges with Ameriprise Financial Services, Inc. for the firm’s failure to ascertain and disclose certain retirement account customers’ eligibility for less expensive mutual fund share classes. In the Matter of Amerprise Financial Services, Inc., Adm. Proc. File No. 3-18381 (Feb. 28, 2018). On March 5, the SEC charged New York-based company Edwin Shaw LLC with illegally brokering dozens of investments by foreign nationals seeking U.S. residency. In the Matter of Edwin Shaw, LLC, Adm. Proc. File No. 3-18384 (Mar. 5, 2018). According to the order, Edwin Shaw LLC was not registered with the SEC as a broker or dealer when it engaged in the solicitations and otherwise effectuated the transactions, thereby violating Section 15(a) of the Exchange Act of ’34. Id. On March 7, the SEC filed a complaint charging Dallas-based oil-and-gas company Americrude, alleging the company defrauded investors in securities offerings that purportedly raised funds to acquire working interests in oil-and-gas prospects. SEC v. Americrude, Inc., No. 3:18-CV-00534 (N.D. Tex. Filed Mar. 7, 2018). The complaint alleges violations of Securities Act sections 5(a), 5(c), and 17(a)(2). Id. On March 8, the SEC announced settled charges against Merrill Lynch, Pierce, Fenner & Smith Inc. for its failure to perform required gatekeeping functions in the unregistered sales of securities on behalf of a China-based issuer and its affiliates. In the Matter of Merrill Lynch, Pierce, Fenner & Smith Inc., Adm. Proc. File No. 3-18392 (Mar. 8, 2018). The Commission also just announced its cryptocurrency sweep of hedge funds. It is clear from its recent 21A report in this area that the Commission will not hesitate to find an investment contract, see SEC v. Howey Co., 328 U.S. 293 (1946), in “Initial Coin Offerings.” On March 14, the SEC filed a civil action against a former Equifax employee for selling his shares in the company after the security breach but before it was disclosed. SEC v. Ying, No. 1:18-CV-01069 (N.D. Ga. Filed Mar. 14, 2018) (a parallel criminal action was also instituted). The SEC filed another civil action on March 14 against Elizabeth Holmes, CEO, and Ramesh Balwani, President of Theranos, Inc. SEC v. Holmes, No. 5:18-CV-01602 (N.D. Cal. Filed Mar. 14, 2018). The complaintalleges that Theranos made numerous false and misleading statements about its product to investors, raising more than $700 million through years-long fraud. See Thomas Gorman, This Week in Securities Litigation (Week ending March 16, 2018), SEC Actions (Mar. 15, 2018),, for discussion of the latest developments.

Tying all this stuff together, our takeaways are:

  • If you are on the “business side,” and you cut corners, you will very likely get “caught.”
  • If you get “caught,” you had better cooperate, cooperate, and cooperate some more in Enforcement’s investigation except when your liberty is seriously threatened. See Razzano, To Cooperate with the SEC or Not to Cooperate, That is the Question, 30 Sec. Reg. L.J. 214 (2002).
  • If you cooperate, don’t tell even “little white lies,” much less whoppers, and don’t otherwise mess with the Commission’s investigative process: that is the fastest way to federal prison even if DOJ doesn’t already have a parallel investigation going. See In the Matter of David M. Tamman, ESQ, Adm. Proc. File No. 3-14207 (June 2, 2013). 
  • If you are a “gatekeeper,” figure out what the gate is, what harms lay beyond it if breached, and, if you are a lawyer, study up on Rule 2(e) (now 102(e)), not to mention the often-tricky substantive areas, for example, what it means to be a “statutory underwriter.”
  • If you are one who the Staff thinks “did it,” and you have any sort of franchise to protect, then invest in a cogent and compelling Wells Submission (and, earlier in the process, we recommend that “friends never let friends go into testimony unrepresented”).
  • Process matters: from the way you operate your business and deal with investors to the way you interface with the Staff in investigations and litigation, you are well advised to conceive, design and execute consistent with statutory and rule obligations.
  • And remember, above all, “words matter” (and audience too): every single Wells Submission is pored over by senior staff in Enforcement, OGC, and any other interested division or office, including those charged with economic analysis. If your submission cuts corners, takes too many liberties, or amounts to little more than a “Simply Stoneridge/Just Janus” series of assertions, Enforcement and OGC will take yet more time and ask themselves whether the public interest, and the interest of investors, demand litigation rather than settlement.


Shustak Reynolds & Partners, P.C. regularly represents firms and individuals in SEC, FINRA, securities, investment, and financial services matters, including litigation, arbitration, enforcement and investigation matters. If you or your company require counsel in these areas, contact us today for a confidential, complimentary consultation.

Dennis A. Stubblefield, a Partner in the firm, served in the SEC’s Enforcement Division from 1977 through 1984. His practice focuses on securities enforcement defense, and securities litigation and arbitration.

Matias Montillano is a Law Clerk at Shustak Reynolds & Partners, P.C.



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