Citigroup Inc. asked a U.S. appeals court to overrule a trial judge and let its $285 million mortgage-securities settlement with the Securities and Exchange Commission go forward.
The bank is challenging U.S. District Judge Jed S. Rakoff’s 2011 refusal to approve the agreement, which would resolve claims that New York-based Citigroup misled investors in a $1 billion financial product linked to risky mortgages. The SEC claimed Citigroup cost investors more than $600 million.
Rakoff criticized the SEC practice of agreeing to settlements that don’t require defendants to admit wrongdoing. He said the parties didn’t give him “any proven or admitted facts” he could use to determine whether the settlement was fair.
Federal regulatory enforcement would “screech to a grinding halt,” if companies were forced to admit liability or go to trial when they’re sued by the government, Brad Karp, a lawyer for Citigroup, argued today to a three-judge panel of the U.S. Court of Appeals in New York.
Karp said that if companies are forced to admit wrongdoing as part of a settlement, lawyers for shareholders will use the information to sue in securities-fraud cases. The companies would be better off not settling, he said.
“The risks of going to trial and losing are no worse” for a company faced with an enforcement action than settling with an admission of liability that can be used in private suits, Karp said.
SEC lawyer Michael Conley argued that courts should give deference to the agency’s judgment that a particular settlement is in the public interest.
There was “absolutely no suggestion that this was not a settlement negotiated at arm’s length between capable counsel,” he said.
Circuit Judge Raymond Lohier asked Conley if, hypothetically, the SEC were to settle a case involving $600 million in shareholder losses for just $100,000, a judge would be justified in giving less deference to the commission.
“The monetary component is frankly not something for the court’s proper consideration,” Conley said.
Judge Rosemary Pooler, who participated in the argument by video connection from Syracuse, New York, asked Conley why the SEC seeks injunctions barring parties from violating securities laws in the future, which it almost never seeks to enforce.
Conley said the injunctions provide “a good prophylactic remedy.”
John Wing, a lawyer appointed by the appeals court to defend Rakoff’s ruling, agreed that Rakoff can’t require Citigroup to admit liability as the price for approving the settlement.
Wing said the parties didn’t give Rakoff sufficient facts for him to determine whether the settlement was fair, adequate, reasonable and in the public interest, as required by law. He said Rakoff could require the parties to submit evidence from depositions, documents or affidavits.
Lohier and Pooler asked whether the appeals court should send the case back to Rakoff to consider evidence presented in July in the trial of an SEC case against former Citigroup executive Brian Stoker.
Stoker, who was originally sued with Citigroup, was found not liable by a Manhattan jury of violating securities laws when he structured the assets underlying a $1 billion investment called a “CDO squared.” The term refers to a collateralized debt obligation made up of collateralized debt obligations.
The SEC claimed New York-based Citigroup structured and sold the CDO in 2007 without telling investors that it helped pick about half the underlying assets and was betting they would decline in value by taking a short position.
In 2009 Rakoff rejected a $33 million deal between the SEC and Bank of America Corp. He said the settlement suggested “a rather cynical relationship between the parties.”
“The SEC gets to claim that it is exposing wrongdoing on the part of the Bank of America in a high-profile merger,” Rakoff wrote at the time. “The bank’s management gets to claim that they have been coerced into an onerous settlement by overzealous regulators. And all this is done at the expense not only of the shareholders, but also of the truth.”
Rakoff later approved a $150 million settlement in which the parties provided an agreed “statement of facts.”
Karp today argued to the appeals panel that Bank of America faced additional suits as a result of the facts admitted in its SEC settlement.
The case is U.S. Securities and Exchange Commission v. Citigroup Global Markets Inc., 11-05227, U.S. Court of Appeals for the Second Circuit (New York).