The Securities and Exchange Commission last week said it will no longer allow individuals or companies, when settling civil lawsuits, to “neither admit nor deny” wrongdoing if they have been separately convicted in a parallel criminal case. At first glance, it seems the SEC is doing something highly commendable. But there is much less than meets the eye here. The SEC should make further changes to put real meaning behind its attempt at reform, which affects only a small fraction of SEC cases.
The SEC’s enforcement chief, Robert Khuzami, says the change “eliminates language that may be construed as inconsistent with admissions or findings that have already been made in criminal cases.” This makes sense, since criminal cases require a higher standard of proof than civil ones. In short, if you’re guilty of the crime, you’re often guilty of parallel civil violations.
Internal discussions on revising the settlement language have been going on for months, the SEC said. We have to wonder whether the commission didn’t see the contradiction of its policy after Wells Fargo & Co. last month admitted to Justice Department charges of municipal-bond bid rigging by Wachovia, which Wells Fargo acquired in 2008. As in so many other cases, Wells Fargo skirted an admission of wrongdoing in a matching SEC suit.
The bigger question is why the SEC ever adopted such a stance and let it remain in place since the 1970s. One answer might be that the SEC has sometimes forgotten that its mission is to protect investors, not the industry it oversees.
The SEC has been taking heat more generally for its longstanding policy of allowing settlements that let the accused pay a fine and go on their merry way. The SEC makes defendants promise never again to violate the law, but rarely acts when its “sin no more” pledge is broken.
These settlements serve the interests of the SEC and those it sues. The agency avoids the expense and risk of going to trial. Same for the defendant, which sees any resulting fine as a cost of doing business, and gains something valuable in the process: By avoiding an admission of guilt, it deprives anyone else of ammunition for use in private lawsuits.
The practice of negotiating neither-admit-nor-deny deals has come in for scrutiny, thanks to U.S. District Court Judge Jed Rakoff. In November, Rakoff put a hold on a $285 million SEC agreement to resolve a fraud lawsuit against a unit of Citigroup Inc. (C) The suit accused Citigroup of assembling in 2007 a security, backed by subprime mortgages, that was designed to blow up. It worked as planned, the suit said, costing investors $700 million and earning Citigroup a $160 million profit.
Rakoff said the Citigroup agreement didn’t contain enough information for him to decide if it was reasonable and in the public interest. The SEC, insisting the deal was fine, said it wasn’t even up to the judge to determine if a settlement was in the public’s interest. The commission has appealed Rakoff’s decision.
In defending its settlement practices, the SEC does make a valid point: Without the option of letting a defendant avoid admitting wrongdoing, the agency’s bargaining power would evaporate. What defendant, after all, would even bother to negotiate, knowing that it might have to hand potential litigants the goods to build a strong lawsuit? What’s more, the neither-admit-nor-deny settlement format is used, though not as often, by other enforcement agencies.
But if the SEC wants to restore legitimacy to these types of settlements, it should consider a couple of modifications. First, at a minimum, the SEC should extract an acknowledgement of mistakes from defendants -- leaving aside the question of whether those errors were honest ones or not. This would still preserve a defendant’s ability to deny wrongdoing.
Getting an Incomplete
The SEC managed to wrest such a concession from Goldman Sachs Group Inc. (GS), which two years ago was accused by the agency of selling a self-destructing security, much like the one Citigroup peddled. In settling and agreeing to pay a $535 million fine, Goldman Sachs conceded that the marketing materials for the security sale were incomplete. The court approved that settlement without hesitation.
The agency also should either drop the requirement that a defendant promise not to violate securities laws again, or get serious about enforcing it. The latter is preferable. The Citigroup unit in the current litigation is a repeat offender; five times since 2003 it has settled SEC allegations of securities fraud. Not once has the SEC sought to hold Citigroup in contempt of court for breaching prior agreements.
The SEC does need tools to entice those accused of breaking securities laws into settling. Litigating every case just isn’t practical. But the agency should make changes to avoid justifiable perceptions that it gives away too much when it strikes a deal.
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