Government Enforcement Exposed | Barnes & Thornburg Insurance Recovery Law Bloghttps://btlaw.com/en/In this era of intense regulatory enforcement, the attorneys of Barnes & Thornburg's Government, Financial and Regulatory Litigation groups aim to highlight important trends, legislation and legal issues related to the efforts of the many regulatory enforcement agencies at all levels of government.en{5B06B4D8-7EF7-4BCA-BD57-657E832E75C0}https://btlaw.com//en/insights/blogs/government-relations/2023/minimal-changes-as-new-york-dfs-final-coin-listing-guidance-takes-effectMinimal Changes as New York DFS Final Coin Listing Guidance Takes Effect<p>The New York State Department of Financial Services (NYDFS) has instituted a new <a rel="noopener noreferrer" href="https://www.dfs.ny.gov/industry_guidance/industry_letters/il20231115_listing_virtual_currencies" target="_blank">Industry Letter and Guidance Regarding Listing of Virtual Currencies</a>. This roadmap for approval of new coin listings is a final update to draft guidance issued by NYDFS on Sept. 18, 2023, following public comments due in October.</p> <p>Pursuant to the new guidance, all NYDFS-regulated virtual currency (VC) entities must meet with the NYDFS by Dec. 8, 2023, to preview their draft coin-delisting policy. Final coin-delisting policies must be submitted to the agency for approval by Jan. 31, 2024.</p> <p>A few observations:</p> <p style="margin-left: 40px;">1. The final guidance includes few changes and updates reflecting industry comments, concerns, and requested clarifications except for slight adaptions based on industry comments concerning:</p> <ul style="margin-left: 40px;"> <li>Business model considerations</li> <li>Risk assessment expectations</li> <li>Advanced notice requirements </li> <li>Additional defined terms</li> </ul> <p style="margin-left: 40px;">2. The listing process still provides little certainty that any coin can continue to be listed in New York nor any precise timelines for approval and de-listing events.</p> <p style="margin-left: 40px;">3. Certain previously approved policies must be submitted for reevaluation by NYDFS and certain regulated VC entities will not be permitted to self-certify any coins until they submit to and receive approval from the agency for a coin-listing and coin-de-listing policies.</p> <p>A pdf redline comparison between the September 2023 draft guidance and the final Guidance Regarding Listing of Virtual Currencies can be found <a href="/-/media/files/blog/barnes--thornburgsupport-pdfredline-guidance-regarding-listing-of-virtual-currencies.ashx" target="_blank">here</a>.</p>Thu, 30 Nov 2023 00:00:00 -0500{4CC822C8-52F6-45F8-9D85-32A0E3948CDC}https://btlaw.com//en/insights/blogs/government-relations/2023/what-does-new-ny-department-of-financial-services-greenlisted-coins-draft-guidance-mean-for-marketWhat Does New NY Department of Financial Services Greenlisted Coins Draft Guidance Mean for Market?<div style="position: relative;width: auto;padding: 0 0 78.66%;height: 0;top: 0;left: 0;bottom: 0;right: 0;margin: 0;border: 0 none;" id="experience-65118cc46174a" data-aspectratio="1.27126806"><iframe src="https://view.ceros.com/barnes-and-thornburg/nydfs-coinlisting-approach?heightOverride=623" style="position: absolute;top: 0;left: 0;bottom: 0;right: 0;margin: 0;padding: 0;border: 0 none;height: 1px;width: 1px;min-height: 100%;min-width: 100%;" frameborder="0" class="ceros-experience" title="nydfs-coinlisting-approach" scrolling="no"></iframe></div> <p>The New York State Department of Financial Services (NYDFS) has instituted a new draft General Framework for Greenlisted Coins. This roadmap for approval of new coin listings shows how the draft guidance issued by NYDFS on Sept. 18 fits into the entire NYDFS process. Public comments are due by Oct. 20, 2023, and should be sent to innovation@dfs.ny.gov with “Proposed Coin-Listing Policy Framework” in the subject line. A few observations:</p> <ol> <li>The listing process provides no certainty that any coin can continue to be listed in New York nor any precise temporal parameters for approval and de-listing events. Liquidity and volume will suffer for NYDFS-regulated entities until due process safeguards are in place protecting against NYDFS delisting actions.</li> <li>A well-designed regulatory process allows for straight through processing, approval requests should not be held by supervisory staff. Market intelligence indicates there has been a six- to 24-month waiting periods for staff to approve policies at NYDFS. NYDFS should consider moving to a non-objection regime with a hard outside date (e.g., 10 business days). </li> <li>Knowledgeable supervisory staff is key to regulating this market – financial services experience is a must. Otherwise, supervisory staff is not in a position to ever say “yes” (leading to chokepoints in the decision-making process) and will focus on form rather than substance (because that’s what junior people do). </li> <li>NYDFS is telling entities to implement the draft guidance now, prior to analysis and testing by industry participants, and without assurance that required policies and procedures positively impact the suitability, safety, and market appropriateness of listed assets. This indicates either an unrealistic implementation period after the draft is finalized or a fait accompli that renders the comment period useless. </li> </ol> <p>Transparency is key to confidence in our financial regulators and the New York financial markets. Comments submitted to NYDFS are not made public except possibly under a Freedom of Information Act (FOIA) request. This allows market participants to speak freely when submitting comments but also makes the process opaque (stay tuned – more to come).</p>Mon, 25 Sep 2023 00:00:00 -0400{5E4E3942-1B1F-436D-8C4A-9BF7119195B0}https://btlaw.com//en/insights/blogs/government-relations/2023/householder-dark-money-groups-and-the-future-of-political-donationsHouseholder, Dark Money Groups, and the Future of Political Donations<p>The convictions of former Ohio Speaker of the House Larry Householder and ex-Ohio Republic Party Chairman Matt Borges have thrust dark money and 501(c)(4) “social welfare organizations” into the national spotlight and left many businesses wondering what this conviction means for donations to these vehicles going forward. </p> <p>As it seems the whole world knows by now, a federal jury last week found them guilty of racketeering conspiracy. Prosecutors alleged a $60 million scheme to pass state legislation securing a $1 billion bailout for nuclear power plants formerly owned by Ohio-based FirstEnergy. FirstEnergy donated over $60 million in bribes to Generation Now, a 501(c)(4) labeled as a “dark money group” channeling cash to Householder in exchange for Householder securing the bailout law known as Ohio House Bill 6. Householder’s defense was that he fought for the legislation because he believed in it and that this was just normal political activity.</p> <p>Prosecutors entered almost 900 exhibits into evidence, including text messages, emails, bank records, secretly recorded phone calls and more documenting Householder’s and Borges’ interactions with FirstEnergy executives, including pressure to secure the bailout and gratitude once it passed.  </p> <p>While prosecutors demonstrated beyond a reasonable doubt that the Householder case is clearly an egregious instance of public corruption, the fact remains that the Internal Revenue Code does provide for the creation of 501(c)(4) social welfare organizations whose primary purpose is to promote the general welfare and can include some lobbying and political activities. Furthermore, there is no requirement within the code to disclose the identity of donors – allowing the money to become, for lack of a better term, “dark.”</p> <p>It is clear that the DOJ now has a spotlight on 501(c)(4)s. So the question is: How can companies interested in donating to these vehicles ensure they are staying on the right side of the law? As highlighted by the arguments put forth by Householder’s attorneys, the answer isn’t as simple as a bright line in the sand and depends on context and circumstances. The primary purpose of a 501(c)(4) cannot be political, and a 501(c)(4) cannot benefit a person with substantial influence over it.</p> <p>There is a lot of room for grey area in terms like “primary purpose,” “political” and “substantial influence” that makes this analysis highly fact specific and nuanced. Companies need to understand those nuances before donating to 501(c)(4)s.</p> <div> </div>Wed, 15 Mar 2023 00:00:00 -0400{A0A0DC72-B8DD-4B08-ABAE-F28C046057A4}https://btlaw.com//en/insights/blogs/government-relations/2022/how-the-sec-widens-net-over-ethereumHow the SEC Widens Net Over Ethereum<p>A Securities and Exchange Commission lawsuit against US-based crypto influencer Ian Balina shows the commission’s broad view of its authority over cryptocurrency fraud, say Barnes & Thornburg attorneys. The SEC asserts Ethereum transactions occurred in the US because of where blockchain validation nodes were clustered, calling that problematic.</p> <p>In mid-September, the US Securities and Exchange Commission filed a <a rel="noopener noreferrer" href="https://www.sec.gov/litigation/complaints/2022/comp-pr2022-167.pdf" target="_blank">complaint</a> involving digital asset trades executed on the Ethereum blockchain. The suit, brought against US-based crypto influencer Ian Balina, provides yet more proof—if we needed any—that the SEC takes an expansive view of its authority to police crypto fraud.</p> <p>The basic allegations of the SEC’s complaint differ little from other cases the agency has filed in recent years involving unregistered token offerings and pooled investments.</p> <p>What’s novel about the case is how the SEC chose to allege its jurisdiction over blockchain transactions that are executed across decentralized networks and nodes, both within and outside the US</p> <p>Specifically, the SEC alleged that ETH—a virtual currency—investments took place in the US because, among other reasons, the Ethereum network “validation nodes” on which the smart contract ETH transactions were recorded are hosted, for the most part, in the US.</p> <p>As the SEC put it, the “ETH contributions were validated by a network of nodes on the Ethereum blockchain, which are clustered more densely” in the US “than in any other country.” A “node” is any instance of Ethereum client software that is connected to the Ethereum network.</p> <p>This understanding of the location of Ethereum blockchain transactions is significant, outside of the application to ETH, because most token issuances are generated on the Ethereum blockchain in the form of ERC tokens, and many smart contract deployments rely on the Ethereum network.</p> <p>Transactions involving these ERC tokens and smart contracts are all validated by the Ethereum network and recorded on the Ethereum blockchain by Ethereum network nodes. As a result, if accepted as a basis for SEC jurisdiction, the novel “node cluster” theory of the location of Ethereum transactions would apply to more than half the digital asset landscape.</p> <h3><span style="font-size: 16px;">Transaction Geography Theory</span></h3> <p>The presence of a node in any one location is the product of the geographic location of the node’s servers and data housing. Many protocol systems and node systems are supported programmatically by hosted and centralized server and hosting systems that maintain server and infrastructure farms in various locations.</p> <p>A strictly geographic interpretation of a node’s location would effectively place all cloud services in the geographic area where their servers and infrastructure are maintained. The network nodes employed to validate ETH transactions, however, which are integral to every ETH transaction, may still be located outside the US.</p> <p>For this reason, blockchain transactions cannot accurately be said to take place in the location where the commercial hosting providers are located, but instead wherever the network nodes are located—which, for a single ETH transaction, could be in seven or more different locations across the globe.</p> <p>Because of the network decentralization inherent in each ETH transaction, the Ethereum network is properly thought of as existing at every network node location and, simultaneously, at none of them, because no single location or group of nodes can be reliably presumed to interact with every single transaction during execution.</p> <p>Further, most blockchain networks, validation systems, and protocols do not permit users to select the particular nodes that will be used to validate a transaction. US-based transactions could be validated using any number of non-US nodes, and vice versa, with no input from the user in selecting which nodes are used to complete them.</p> <p>Coupled with the fact that ETH transactions are validated, executed, and recorded on nodes in different jurisdictions simultaneously, the SEC’s new theory would allow the agency to claim US jurisdiction based on some very tenuous US connections—and inadvertently sweep a lot of primarily foreign transactions into the US regulatory orbit.</p> <h3><span style="font-size: 16px;">A Problematic Theory</span></h3> <p>The fundamental problem with the SEC’s theory is its assumption that the relevant ETH transactions necessarily “took place in” the US just because blockchain nodes “are clustered more densely in the United States than in any other country.”</p> <p>Although the Ethereum network nodes are primarily hosted using commercial hosting services, the network itself is not majority-located in any one country, nor does the US account for an absolute majority of total nodes worldwide.</p> <p>The SEC’s jurisdictional allegations assume that, given that most nodes are US-based, it would be unlikely that any ETH transaction could be executed without at least some nodes being located in the US. But this is only an inference, and not necessarily a strong one.</p> <p>Nothing in the SEC’s complaint clarifies how the SEC intends to prove which nodes were used to execute and validate a given ETH trade, or how the functionality of each node relative to a certain transaction would be classified.</p> <p>In the end, the crypto community’s fear of the SEC’s jurisdiction grab may turn out to be overblown. A lot depends on whether the agency can get any federal judges to accept its theory.</p> <p>As the <em>Balina</em> case demonstrates, though, virtual currencies continue to present nettlesome questions of regulatory interpretation that call for a new synthesis marrying classical regulatory concepts to unprecedented technological innovation.</p> <p>In some cases, the synthesis has been accomplished successfully, or will be soon—for example, crypto issuers and the commission are slowly inching toward détente on the application of the registration provisions of the Securities Act of 1933 to digital assets.</p> <p>In other respects, like identifying the jurisdictional boundaries of amorphous digital technologies that were intentionally designed to have none, the SEC still has a way to go.</p> <p>Originally appeared in Bloomberg Law <a rel="noopener noreferrer" href="https://news.bloomberglaw.com/us-law-week/how-the-sec-widens-net-over-ethereum" target="_blank">US Law Week online</a> on Oct. 12, 2022. Reproduced with permission from ©2022 The Bureau of National Affairs (800-372-1033) <a rel="noopener noreferrer" href="www.bloombergindustry.com" target="_blank">www.bloombergindustry.com</a>.</p>Fri, 14 Oct 2022 00:00:00 -0400{792C6D9B-EE4A-4AAE-8A79-00BE8DE0F5F8}https://btlaw.com//en/insights/blogs/government-relations/2022/digital-asset-businesses-amp-up-their-compliance-measures-to-avoid-insider-trading-actionsDigital Asset Businesses Amp Up Their Compliance Measures to Avoid Insider Trading Actions<p>Several employees of digital asset platforms unexpectedly found themselves the focus of insider trading actions brought by the <a rel="noopener noreferrer" href="https://www.justice.gov/usao-sdny/pr/former-employee-nft-marketplace-charged-first-ever-digital-asset-insider-trading-scheme" target="_blank">Department of Justice</a> (DOJ) and the <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2022-127" target="_blank">Securities and Exchange Commission</a> (SEC) earlier this summer. While some would say digital assets fall outside the government’s jurisdiction, the government actions highlight the pressing need for digital asset businesses to create robust policies and procedures to prevent prohibited trading activity on their platforms, systems, and interfaces.</p> <p>Given the government’s enhanced scrutiny of digital assets, businesses and providers must be extra vigilant to ensure that their internal policies, procedures, training, and monitoring are sufficient to cover cryptocurrency and better train staff and monitor employee trading activity. </p> <p>Historically, insider trading violations in the financial world were limited to traditional securities products, usually equities. With these recent actions, however, <a href="/en/insights/blogs/government-relations/2022/is-crypto-a-security-insider-trading-case-leads-to-doj-sec-scrutiny" target="_blank">regulators have signaled their intent</a> to address all manner of trading activity they believe violates traditional notions of fairness or perpetuates fraud, irrespective of the regulatory status of underlying assets, protocols, or transactional networks. </p> <p>Representatives from both the DOJ and SEC have highlighted the commitment of both agencies to target prohibited activities even where those activities are accomplished using novel media, or concern assets, instruments, or markets not previously subject to enforcement action. </p> <p>In a statement, U.S. Attorney for the Southern District of New York Damian Williams commented that the DOJ’s charges demonstrate its commitment “to stamping out insider trading – whether it occurs on the stock market or the blockchain.” Williams went on to note, “NFTs might be new, but this type of criminal scheme is not.” </p> <p>Similarly, SEC Director of Enforcement Gurbir Grewal commented that, “We are not concerned with labels, but rather the economic realities of an offering. . . .  Rest assured, we’ll continue to ensure a level playing field for investors, regardless of the label placed on the securities involved.”</p> <p>Wherever it occurs, the government has always considered insider trading to be a serious infraction of the federal securities laws, and the penalties imposed in such cases are therefore typically stiff. Insider trading violations may result in criminal and civil lability (including jail time), monetary fines, lifetime industry bars for the entities and individuals involved, and increased regulatory scrutiny of the digital platforms on which the trading occurs. </p> <p>Consequently, digital asset businesses, platforms, and service providers must take seriously the new reality of increased government oversight and take steps to maintain robust policies and procedures to prevent prohibited insider activity and fraud relating to their products and services. </p> <p>The recent DOJ and SEC cases make apparent that digital asset businesses and service providers cannot assume that the nascent or non-traditional nature of their products precludes regulators from using their traditional anti-fraud authority to police digital platforms, products, and services.</p>Fri, 26 Aug 2022 00:00:00 -0400{2663D0B4-88AE-4D2C-95AF-9280E970A767}https://btlaw.com//en/insights/blogs/government-relations/2022/art-dealers-other-non-bank-entities-subject-of-new-bank-secrecy-act-amendmentArt Dealers, Other Non-Bank Entities Subject of New Bank Secrecy Act Amendment<p>On July 14 the U.S. House passed the <a rel="noopener noreferrer" href="https://www.congress.gov/bill/117th-congress/house-bill/7900" target="_blank">FY 2023 National Defense Authorization Act</a> (NDAA) that would regulate professional services firms, art dealers, trust companies, and other market intermediaries as “financial institutions” under the Bank Secrecy Act (BSA) and requires them to report client information to the U.S. government.</p> <p>The NDAA includes an amendment – the so-called the ENABLERS Act – that would be the most significant update to U.S. anti-money laundering regulations since the PATRIOT Act was passed in 2001. <br /> <br /> The ENABLERS Act would change the BSA’s definition of “financial institution” to include trust companies, art dealers, lawyers and other non-bank market participants. The ENABLERS Act also proposes to implement additional regulations subjecting these people and service providers to extensive suspicious activity reporting (SAR), anti-money laundering, due diligence, account identification, and client verification requirements.</p> <p>The NDAA follows President Biden’s December 2021 <a rel="noopener noreferrer" href="https://www.whitehouse.gov/wp-content/uploads/2021/12/United-States-Strategy-on-Countering-Corruption.pdf" target="_blank">U.S. Strategy on Countering Corruption</a> report that called on Congress to extend U.S. anti-money laundering regulations to non-bank professionals and market intermediaries. Citing the 2021 leaked files known as the Pandora Papers, supporters say the ENABLERS Act will help U.S. law enforcement better identify and freeze assets held by sanctioned individuals and other prohibited market participants, in particular noting risks and ownership relating to sanctioned Russian oligarchs. </p> <p>The House voted to include the ENABLERS Act in the NDAA as part of the national defense bill traditionally passed by Congress every year. The Senate is expected to take up its version of the NDAA – which does not yet contain the ENABLERS Act amendment – in September.</p> <p>Rep. Joe Wilson (R-S.C.), who co-led the movement to enact the ENABLERS Act commented in a newspaper story that, “Middlemen in foreign transactions should be subject to the same anti-money laundering checks as banks,” a sentiment shared by many proponents seeking to increase financial market transparency. </p> <p>Attorneys facing new reporting requirements relating to client information have expressed significant concerns regarding the implications for client confidentiality and other attorney-client ethical obligations. ABA President Reginald Turner sent letters to both the <a rel="noopener noreferrer" href="https://www.americanbar.org/content/dam/aba/administrative/government_affairs_office/aba-letter-to-house-leaders-opposing-enablers-act-amendment-to-ndaa-july-5-2022.pdf" target="_blank">House</a> and <a rel="noopener noreferrer" href="https://www.americanbar.org/content/dam/aba/administrative/government_affairs_office/aba-letter-to-senate-leaders-opposing-enablers-act-amendment-to-ndaa-july-5-2022.pdf" target="_blank">Senate</a>  explaining that ENABLERS Act provisions may undermine the attorney-client privilege, a lawyer's ethical duty to protect client confidentiality, the right to effective assistance of counsel, and state supreme courts’ well-recognized authority to regulate and oversee the legal profession.</p> <p>Turner commented that, “If lawyers are required to submit suspicious activity reports on their clients’ financial transactions and divulge privileged or other protected client information to the government, this will undermine the principle of lawyer-client confidentiality, discourage clients from consulting with their lawyers, and jeopardize lawyers’ unique ability to prevent money laundering before it occurs.”</p> <p>If the NDAA passes with the ENABLERS Act provisions, market participants, including accountants, attorneys, trust companies, art dealers, and others will face heightened reporting, client screening, along with other BSA provisions traditionally applicable to banks and other financial institutions. These new regulatory requirements may require these institutions and professionals to design compliance frameworks for compliance to ensure their client screening and reporting systems are sufficient to meet their new regulatory requirements.</p>Tue, 09 Aug 2022 00:00:00 -0400{27EEADC3-0FEA-4D86-888D-31E9458C1882}https://btlaw.com//en/insights/blogs/government-relations/2022/is-crypto-a-security-insider-trading-case-leads-to-doj-sec-scrutinyIs Crypto a Security? Insider Trading Case Leads to DOJ, SEC Scrutiny<p>Just one month after bringing the first ever insider trading case involving NFTs, the U.S. Attorney’s Office for the Southern District of New York has charged three men in an <a rel="noopener noreferrer" href="https://www.justice.gov/usao-sdny/pr/three-charged-first-ever-cryptocurrency-insider-trading-tipping-scheme" target="_blank">alleged insider trading scheme involving cryptocurrency</a>. This is the first case in which prosecutors have alleged insider trading of cryptocurrencies. At the same time as the DOJ’s announcement of criminal charges, the <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2022-127" target="_blank">SEC filed a companion civil case</a> in Seattle federal court alleging that the three men engaged in insider trading and arguing that some of the assets involved were “securities” under federal securities law. </p> <p>These two cases suggest a more aggressive stance by federal authorities towards fraud involving cryptocurrency and crypto assets trading platforms in the U.S.</p> <p>In an indictment unsealed on July 21, 2022, a former Coinbase Global, Inc. product manager, Ishan Wahi, was charged with tipping off his brother and a close friend with confidential business information he learned regarding crypto assets that were listed or under consideration for listing on Coinbase. Specifically, federal prosecutors alleged that as a manager at Coinbase, Wahi had access to detailed and advanced knowledge of which crypto assets Coinbase was planning to list and the timing of public announcements about those listings.</p> <p>This information was considered highly confidential within Coinbase since the market value of crypto assets would ordinarily increase after Coinbase announced that it would be listing a particular asset on its exchanges. Despite numerous internal policies designed to protect this information from dissemination, Wahi allegedly misappropriated and disclosed it to his brother and his friend so that they could make well-timed purchases of crypto assets in advance of Coinbase’s listing announcements. According to the indictment, Wahi’s brother and friend purchased at least 25 crypto assets in advance of at least 14 separate Coinbase crypto asset listing announcements, generating approximately $1.5 million in returns.</p> <p>The three defendants were ultimately charged with four counts of wire fraud resulting from their insider trading scheme.</p> <p>In a parallel civil action, the SEC did file securities fraud charges against the three defendants involved in the Coinbase insider trading scheme. While the basic facts of the SEC’s complaint mirrored the charges from the criminal indictment, the SEC alleged that that at least nine of the Coinbase listing announcements involved “crypto asset securities . . . subject to the federal securities laws.” The SEC maintained these crypto assets were “securities” since they were “investment contracts; they were offered and sold to investors who had made an investment of money in a common enterprise, with a reasonable expectation of profits to be derived from the efforts of others.”</p> <p>Unlike a typical insider trading case, however, federal prosecutors did not bring securities fraud charges against the defendants and made no substantive allegations that any of the defendants traded in securities as part of their scheme. The SEC’s efforts to characterize these assets as securities will be critical in its attempt to successfully charge Wahi and his co-defendants with insider trading. Unlike the DOJ action, which relies upon a more traditional wire fraud claim of theft of confidential business information, the SEC must first establish that the crypto assets at issue are in fact securities before it can get to the next step of establishing the defendants engaged in securities fraud.</p> <p>The classification of these crypto assets as securities is a controversial position, as many cryptocurrency exchanges have taken the position that the assets on their exchanges are not securities and cannot be regulated like stocks or bonds. Coinbase objected to the SEC’s characterization of the assets as securities and insisted that “[n]o assets listed on our platform are securities.” The SEC’s classification also drew criticism from Caroline D. Pham, a commissioner with the Commodity Futures Trading Commission, who wrote on Twitter that the SEC’s complaint “was a striking example of ‛regulation by enforcement.’” She went on to note that the SEC’s decision to pursue securities fraud charges in this case had broader implications for the crypto industry and the appropriate regulatory framework.</p> <p>These insider trading cases demonstrate the <a href="/en/insights/alerts/2022/founders-personally-liable-for-failure-to-register-cryptocurrency-trading-platform" target="_blank">enforcement priority prosecutors and regulators</a> are putting on crypto assets and exchanges. Indeed, federal prosecutors have been clear that they will not be deterred from aggressively pursuing fraud charges involving digital assets. “Fraud is fraud is fraud, whether it occurs on the blockchain or on Wall Street,” said Damian Williams, the U.S. Attorney for the Southern District of New York, in a DOJ press release.</p> <p>It is reasonable to expect that these recent cases are just the beginning of an enforcement crackdown on illegal conduct in the crypto environment. Both the DOJ and SEC have been putting increased resources into understanding crypto markets and learning how to apply their enforcement tools to those markets. Accordingly, we should expect to see an increase in enforcement cases involving the NFT and cryptocurrency markets.</p>Wed, 27 Jul 2022 00:00:00 -0400{461D7231-5E58-466F-A1D5-2F7BD02538A8}https://btlaw.com//en/insights/blogs/government-relations/2022/impact-of-compliance-professional-as-new-fraud-section-chiefImpact of Compliance Professional as New Fraud Section Chief<p>According to news reports, the U.S. Department of Justice (DOJ) has hired Glenn Leon, former compliance chief at Hewlett Packard Enterprise Co., to <a rel="noopener noreferrer" href="https://www.law360.com/assetmanagement/articles/1500365/doj-taps-hewlett-packard-compliance-chief-for-fraud-unit" target="_blank">lead the Criminal Division’s Fraud Section</a>, signaling the DOJ’s continued emphasis on the need for effective corporate compliance programs.</p> <p>Leon will replace Joe Beemsterboer, a 10-year veteran of the Fraud Section, who was integral in growing the healthcare fraud unit. The Fraud Section is the primary unit driving economic criminal enforcement nationally and is responsible for investigating healthcare fraud, bribery, market manipulation, fraud, money laundering, and other financial crimes. Leon joined HP in 2014 and spent the bulk of his time as its chief ethics and compliance officer.</p> <p>Leon’s appointment is not wholly unconventional, given his years as an Assistant U.S. Attorney that included three years as a supervisor in the Fraud Section. However, it is likely that the selection of a corporate compliance professional for the role was intentional.</p> <p>In recent years, the DOJ has placed a particular emphasis on effective corporate compliance programs being used to stop violations before they occur. Having such a program is now an expectation for any company seeking leniency from the DOJ. Assistant Attorney General Kenneth Polite <a rel="noopener noreferrer" href="https://www.justice.gov/opa/speech/assistant-attorney-general-kenneth-polite-jr-delivers-remarks-nyu-law-s-program-corporate" target="_blank">made several remarks</a> at NYU Law’s Program on Corporate Compliance and Enforcement on March 25 emphasizing the importance of companies investing in improving their compliance programs and internal controls now to avoid violations or risk paying greatly for violations found in the future. He stated, “Our message is clear – companies that make a serious investment in improving their compliance programs and internal controls will be viewed in a better light by the Department. Support your compliance team now or pay later.”</p> <p>At that same program, Polite previewed a new DOJ policy, which requires both CEOs and chief compliance officers (CCOs) to certify that a compliance program is “reasonably designed and implemented to detect and prevent violations of the law…and is functioning effectively.”</p> <p>Companies would be wise to invest the right resources in compliance now, given the DOJ’s continued emphasis on the issue.</p> <p>The fact that Leon has been a CCO and understands the demands placed on compliance officers and corporate compliance programs may help to alleviate any discomfort CCOs have with this policy. Certainly, having someone who has lived with and worked to resolve the daily complexities of instituting an effective compliance program across a large international company should ensure that the Fraud Section’s focus on and evaluation of such programs will be keener and more significant for resolving corporate criminal investigations.</p> <h3><span style="font-size: 16px;">More corporate monitorships?</span></h3> <p>Leon’s appointment likely also signals a further emphasis on corporate monitorships as a condition of resolving criminal cases. When a corporation resolves a criminal investigation through a deferred prosecution or non-prosecution agreement, the DOJ can mandate the company adopt a strict compliance program that must be evaluated by an independent corporate monitor. A corporate monitor assesses a company’s compliance with the terms of the corporate criminal resolution. In <a rel="noopener noreferrer" href="https://www.justice.gov/opa/speech/deputy-attorney-general-lisa-o-monaco-gives-keynote-address-abas-36th-national-institute" target="_blank">recent guidance</a>, Deputy U.S. Attorney General Lisa Monaco stated prosecutors are free to require a corporate monitor when they determine it is appropriate to ensure compliance, a shift from guidance offered during the Trump administration disfavoring such post-settlement oversight. Leon’s compliance experience may also signal a focus on more diversity among monitorship awardees and more of a focus on limiting the costs and scope of such monitorships.</p> <p>Leon’s appointment will likely also see an expansion to self-reporting programs; companies who are able to detect, remediate, and self-report violations because of an effective compliance program, are likely to be seen more favorably by the DOJ.</p> <p>The selection of Leon is a signal that the DOJ will be exerting significant scrutiny on the effectiveness of a company’s compliance program and culture.</p>Mon, 13 Jun 2022 00:00:00 -0400{5C73F8A7-6EF9-4FCD-9ABF-D71756861EF5}https://btlaw.com//en/insights/blogs/government-relations/2022/fifth-circuit-holds-that-sec-administrative-law-courts-are-unconstitutionalFifth Circuit Holds That SEC Administrative Law Courts Are Unconstitutional<p>The most recent salvo in the long-running dispute about the constitutionality of the Securities and Exchange Commission’s (SEC) administrative law courts was launched May 18 in a U.S. Court of Appeals for the Fifth Circuit decision, <em><a rel="noopener noreferrer" href="https://law.justia.com/cases/federal/appellate-courts/ca5/20-61007/20-61007-2022-05-18.html" target="_blank">Jarkesy v. SEC</a></em>, and it’s a bracing read. Unlike prior decisions on the subject, which contented themselves with chipping away at the edges of the SEC’s administrative authority, the Fifth Circuit didn’t pull punches. It held that the SEC’s in-house courts violate a trifecta of constitutional protections: the Seventh Amendment’s right to a jury trial, the prohibition in Article I on excessive delegation of Congress’ “legislative power,” and the restrictions in the “Take Care” clause of Article II as applied to the removal of SEC administrative law judges (ALJs).</p> <p><em>Jarkesy</em> started out as a run-of-the-mill fraud case against the founder of two hedge funds related to misstatements about the funds’ investment parameters and assets, among other information. The SEC filed the case in its in-house administrative court, and Jarkesy sued in the U.S. District Court for the District of Columbia to enjoin the SEC action because, he said, it violated his constitutional rights. The District Court and, later, the D.C. Circuit Court both rejected the request for an injunction. After Jarkesy lost in the SEC administrative proceeding and on appeal to the full SEC, he appealed to the Fifth Circuit.</p> <p>On the Seventh Amendment issue, the Fifth Circuit acknowledged that Congress may constitutionally bypass the right to a jury trial in cases where “public rights” are being litigated. Contrary to decades’ worth of case law, though, the court decided that SEC fraud actions that seek civil monetary penalties aren’t intended to vindicate public rights after all, but are more like traditional common law cases to which the constitutional right to a jury trial attaches.</p> <p>The dispute in <em>Jarkesy</em> about excessive Congressional delegation under Article I had to do with the SEC’s discretion to decide whether to file its suits in federal district court, which the SEC is authorized to do by statute, or instead to bring suit in the agency’s in-house administrative forum. On this point, the Fifth Circuit reasoned that the delegation of discretion was unconstitutional because the authority to assign disputes to federal agency adjudication is “peculiarly within the power of the legislative department,” and that Congress failed to prescribe a “guiding intelligible principle” about how the SEC should determine which forum to file its cases in, as U.S. Supreme Court case law requires.</p> <p>The Fifth Circuit also decided that ALJ appointments violate the requirement of Article II of the Constitution that the president “take Care that the Laws be faithfully executed.” In the court’s view, because ALJs “exercise considerable power over” SEC administrative proceedings, they should be readily subject to removal by the president to ensure that the laws of the United States are faithfully executed. According to the court, because “ALJs are sufficiently insulated from removal . . . the President cannot take care that the laws are faithfully executed” in violation of Article II.</p> <p>As the Fifth Circuit mentioned in its <em>Jarkesy</em> opinion, the constitutionality of the SEC’s administrative law courts was the subject of the Supreme Court’s recent decision in <em>Lucia v. SEC</em>, and while the Supreme Court did find some constitutional shortcomings in the way ALJs are appointed, that decision was fairly limited in scope. Maybe the sweeping constitutional problems the Fifth Circuit discovered last week weren’t properly presented in the <em>Lucia</em> appeal, and so weren’t considered, but it seems unlikely that the Supreme Court would have ignored such momentous violations if it had seen them. Which doesn’t augur well for the Fifth Circuit’s <em>Jarkesy</em> decision when it goes up on appeal, which it will.</p> <p>Also ominous is the fact that the D.C. district and appellate courts disagreed with Jarkesy’s reading of the Constitution, since those courts are widely regarded by securities lawyers to be authorities on the arcana of U.S. administrative law. If the Supreme Court shares that view of the D.C. courts’ expertise—and past Supreme Court decisions suggest that it often does—it seems probable that Jarkesy’s victory will be short-lived.</p>Mon, 23 May 2022 00:00:00 -0400{091AB7C1-D52F-418A-9A35-5412C5B0F152}https://btlaw.com//en/insights/blogs/government-relations/2022/headline-doj-issues-expedited-fcpa-opinion-shows-willingness-to-communicate-with-requestorsDOJ Issues Expedited FCPA Opinion, Shows Willingness to Communicate With Requestors<p>The U.S. Department of Justice (DOJ) recently <a rel="noopener noreferrer" href="https://www.justice.gov/criminal-fraud/page/file/1466596/download" target="_blank">released an opinion</a> relating to extortion and duress under Foreign Corrupt Practices Act (FCPA) that offers a unique perspective into the DOJ's FCPA opinion procedure. While the opinion does not break any new substantive legal ground, it does demonstrate that in certain exigent circumstances (including where there is a risk to individuals), the DOJ may expedite its commonly lengthy opinion procedure.</p> <p>The opinion was delivered in response to a request from a U.S.-based company after it received an extortion demand. This is the first FCPA opinion from DOJ in almost two years. The opinion reaffirmed the DOJ’s long-standing policy that it will not bring FCPA enforcement actions against companies for illicit payments made in response to extortion demands by government officials when there is an imminent threat of physical harm made against the company’s employees.</p> <p>The company in this case owned a maritime vessel that inadvertently anchored in Country A’s territorial waters. (Neither the company nor the country making the extortionate demands was identified in the DOJ opinion.) The Country A Navy intercepted the company’s vessel and directed it into Country A’s harbor. Once there, Country A’s Navy detained the ship’s captain in an onshore jail and its crew members and officers onboard the vessel. At the time of his detention, the ship’s captain was suffering from a serious medical condition that would have been exacerbated by his continued detention. </p> <p>Shortly after the detention of the ship’s captain and crew, a third party purporting to act on behalf of Country A’s Navy contacted the company and demanded a cash payment of $175,000 in exchange for releasing the captain and crew. The company’s attempts to negotiate a more formal method of payment, such as a fine or other official penalty, were rejected by the third-party intermediary. The company was advised that if the cash payment was not made, the captain and crew members would be detained for a longer period and the vessel would be seized. Based on the nature of the demands from the third-party intermediary, the company believed that the $175,000 cash payment was intended for one or more of Country A’s government officials. </p> <p>After unsuccessfully seeking assistance from other agencies within the U.S. government to secure release of the vessel’s captain and crew, the company sought an opinion from the DOJ as to whether it would likely bring an enforcement action under the FCPA’s anti-bribery provisions if the company made the cash payment demanded by the third-party intermediary. The DOJ expedited this opinion due to the circumstances, and within one day of the request being made, the DOJ issued a brief “preliminary opinion” stating that, based on the facts, the DOJ did not “presently intend” to bring an FCPA enforcement action in response to the contemplated payment. The one-day turnaround is not typical of the DOJ.</p> <p>In response to additional questions from the DOJ, the company provided further information and the DOJ subsequently issued a full response and opinion on January 22, 2022.</p> <p>In the full opinion, the DOJ explained that the proposed payment by the company requesting the opinion  would not violate the FCPA’s anti-bribery provisions since the payment would not be made either “corruptly” or “to obtain or retain business” as prohibited under the FCPA.  Specifically, the DOJ opined that because the proposed payment was made under duress “to avoid imminent and potentially serious harm to the captain and crew of the Requestor vessel,” it could not be said to have been made with “corrupt intent” and would not give rise to liability under the FCPA.  Moreover, since the company was not seeking to conduct business in Country A and the payment was not “motivated by an intent to obtain or retain business,” it also failed the “business purpose” test for liability under the FCPA.   </p> <p>The DOJ also made a point of noting in the opinion that the company did not attempt to conceal the payment demand and had instead “engaged with various U.S. governmental personnel” to obtain the release of the captain and crew. The company only considered making the $175,000 cash payment and submitting the FCPA opinion request after these efforts were unsuccessful.</p> <p>Additionally, the Justice Department distinguished the requestor’s situation from other payment demands made to gain entry to a market or to avoid threatened economic or financial consequences. The opinion emphasized that economic coercion requires a company to make a “conscious decision” of whether to pay a bribe to gain entry to the relevant market.  </p> <p>The issuance of this opinion, after a long hiatus from published opinions, also may signal a renewed commitment by the DOJ to encouraging companies to come forward with relevant information as soon as possible to avoid future enforcement actions. The steps undertaken by the requestor in this instance could serve as a blueprint for other businesses finding themselves in similar situations.</p>Mon, 07 Feb 2022 00:00:00 -0500{343D5EBD-DC0C-4B10-BBD0-9EE23453157D}https://btlaw.com//en/insights/blogs/government-relations/2022/tips-for-giving-remote-depositions-during-the-covid19-pandemicTips for Giving Remote Depositions During the COVID-19 Pandemic<p>As working remotely has become commonplace during the COVID-19 pandemic, it seems like people are becoming more comfortable communicating by video. However, video conferences can sometimes add extra pressure to an already stressful situation. That is generally the case with depositions. </p> <p>Depositions are legal proceedings in which a person answers an attorney’s questions while under oath. Usually, the questions and answers are transcribed by a court reporter, and the transcription is then used as evidence in a legal proceeding. The thought of a deposition itself is anxiety-inducing to many. Pile on the technical demands of a video conference, and stress levels can become overwhelming. This post outlines helpful tips to keep in mind when being deposed remotely to keep the stress level manageable.</p> <h3><span style="font-size: 16px;">Select a Conducive Location</span></h3> <p>Be sure you are someplace comfortable, quiet and private, with a strong internet connection. It is not uncommon for a deposition to continue past the time it is scheduled to end, so you may want to have your space reserved for an extra couple of hours just in case.</p> <p>Also, keep in mind that if the deposition is being video-recorded, whatever is in view of your camera will be in the shot and may be shown to a jury or judge later down the line. To that end, make sure that you are somewhere neat and neutral with nothing controversial, political or possibly embarrassing or offensive is in the background. Most video conferencing platforms come with a setting that allows you to blur your background setting, which makes hiding the “World’s Best Farter/Father” frame in your home office that much easier. </p> <h3><span style="font-size: 16px;">Remember to Maintain Confidentiality</span></h3> <p>When being deposed via video conference, it can sometimes be hard to remember that other people – potentially many other people – are on the call. This is especially true when their videos are turned off. Always assume that the line is open and that opposing parties can hear everything you say. When you want to talk to your attorney privately, be sure to call them on a separate line, such as on a cell phone, and double-check that both you and your attorney are muted in the video conference. </p> <h3><span style="font-size: 16px;">Anticipate Potential Technical Difficulties</span></h3> <p>We have all experienced that technology sometimes falters regardless of our best-laid plans. This can be frustrating when trying to stream your favorite show, but it can be downright nerve-wracking when answering questions under oath. Technical difficulties during remote depositions seem to be fairly commonplace these days. When they do happen, it is important to keep calm and remember that, as the person being deposed, it is not your job to fix it. </p> <p>If the video feed is freezing or the sound is difficult to hear, let the attorneys know. They will handle any technical difficulties or figure out how to contact the correct people to solve the issue. If you cannot make out exactly what an attorney’s question is, don’t hesitate to request that they repeat it – as any attorney will tell you, don’t guess at what was asked. Also, be aware that even if you can’t see or hear others on the call, they may still be able to see or hear you. A best practice to potentially resolve technical difficulties with microphones and dead-spots in conference rooms prior to the commencement of a deposition is to schedule a technology check with the court, opposing counsel or vendor ahead of time. </p> <p>Depositions can often be central to securing a favorable outcome in a case. With their convenience and cost-effectiveness highlighted throughout the pandemic, it seems likely that remote depositions may become the standard moving forward. Therefore, finding ways to ensure the witness feels comfortable and confident testifying in this new format is essential to the success of any remote deposition.</p>Wed, 02 Feb 2022 00:00:00 -0500{322B1D33-2F27-4B31-BA81-6BD5AE40A213}https://btlaw.com//en/insights/blogs/government-relations/2022/new-tools-in-the-fight-against-counterfeit-pharmaceuticals"New" Tools in the Fight Against Counterfeit Pharmaceuticals<p>The explosive growth of internet pharmacies and direct-to-consumer shipment of pharmaceuticals has provided increased access to, and reduced the cost of, important medications. Unfortunately, these same forces have increased the risks that counterfeit medicines will make their way to consumers, endangering patient safety and affecting manufacturers’ reputation in the public eye. </p> <p>While the Food and Drug Administration attempts to police such misconduct through enforcement of the Food, Drug, and Cosmetics Act (FDCA), the resources devoted to enforcement are simply no match for the size and scope of the counterfeiting threat. Fortunately, pharmaceutical manufacturers are not without recourse, as several well-established tools may be used in the right circumstances to stop counterfeiters from profiting from the sale of knock-offs. </p> <p>Experienced litigators can use the Lanham Act and the Racketeer Influenced Corrupt Organizations (RICO) Act to stop unscrupulous individuals and organizations from deceiving customers with counterfeit versions of trademarked drugs. Until recently, these legal weapons – including search warrants, seizures, forfeitures, and significant penalties – were typically wielded only by the government and only in criminal prosecutions. </p> <p>As one recent case demonstrates, however, many of the tools that law enforcement has used for years to combat counterfeiters are also available to pharmaceutical manufacturers. In <em>Gilead Sciences, Inc. v. Safe Chain Solutions, LLC, et al</em>., the <a rel="noopener noreferrer" href="https://www.wsj.com/articles/drugmaker-gilead-alleges-counterfeiting-ring-sold-its-hiv-drugs-11642526471?reflink=desktopwebshare_permalink" target="_blank">manufacturer of several trademarked HIV medications filed a civil complaint</a>, under seal, alleging violations of the Lanham Act and RICO against scores of individuals and companies that were allegedly selling counterfeit versions of these drugs to patients across the country. </p> <p>By deploying private investigators and techniques typically used by law enforcement, Gilead was able to gather a substantial amount of evidence before even filing the case. The company then used this evidence to secure <em>ex parte</em> seizure warrants and asset freezes, allowing it to locate and seize thousands of counterfeit pills and packaging before they could be shipped to unsuspecting consumers. Through the seizure of the financial proceeds of the alleged counterfeiting, Gilead prevented the dissipation of assets. If the company can successfully prove its RICO case, it stands to recover treble damages and attorneys’ fees as well.</p> <p>Manufacturers of trademarked pharmaceuticals may consider using these and other tools to tackle the threat posed by counterfeiters. By drawing upon the experience and skills of trained litigators – particularly counsel who previously deployed these tools on behalf of the government while serving as federal prosecutors – companies can proactively protect their intellectual property and the consumers who depend on their products.</p>Thu, 27 Jan 2022 00:00:00 -0500{5FED5AB8-862F-4243-B594-952D9461D1BF}https://btlaw.com//en/insights/blogs/government-relations/2021/sec-proposes-amendments-to-the-requirements-of-rule-10b51-trading-plansSEC Proposes Amendments to the Requirements of Rule 10b5-1 Trading Plans<p>On December 15, the SEC announced <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2021-256" target="_blank">proposed changes</a> to Securities Exchange Act Rule 10b5-1 that, if adopted, would significantly alter an important affirmative defense to insider trading charges brought by the SEC. The current version of the rule, which has been in effect since 2000, provides a means for corporate insiders to sell stock at predetermined intervals in order to avoid the presumption that their trades were made on the basis of material, nonpublic information, and thereby avoid liability under Section 10(b) of the Exchange Act and SEC Rule 10b-5.    </p> <p>The current and proposed versions of Rule 10b5-1 establish the circumstances under which an insider may be absolved of insider trading liability by providing evidence that they did not make trades on the basis of information obtained in breach of a fiduciary duty to their employer because the trades were predetermined by 1) a binding contract, 2) an instruction to another person to execute the trade, or 3) a written plan adopted when the insider was not aware of material nonpublic information. </p> <p>The new conditions of proposed Rule 10b5-1 include:</p> <ul> <li>Rule 10b5-1 trading arrangements entered into by corporate officers or directors must include a 120-day “cooling-off period” before any trading can commence under the trading arrangement after its adoption, including adoption of a modified trading arrangement</li> <li>Rule 10b5-1 trading arrangements entered into by issuers must include a 30-day “cooling off period” before any trading can commence under the trading arrangement after its adoption, including adoption of a modified trading arrangement</li> <li>Officers and directors must certify that they are not aware of material nonpublic information about the issuer or the security when adopting a new or modified trading arrangement</li> <li>The affirmative defense under Rule 10b5-1(c)(1) does not apply to multiple overlapping Rule 10b5-1 trading arrangements for open market trades in the same class of securities</li> <li>Rule 10b5-1 trading arrangements to execute a single trade are limited to one plan per 12-month period</li> <li>Rule 10b5-1 trading arrangements must be entered into and operated in good faith</li> </ul> <p>In addition, the proposed rule changes would require enhanced disclosure regarding Rule 10b5-1 trading arrangements, option grants, and issuer insider trading policies and procedures, including:</p> <ul> <li>A requirement for an issuer to disclose in its annual report whether or not (and if not, why not) the issuer has adopted insider trading policies and procedures. Additionally, issuers would be required to disclose their insider trading policies and procedures, if they have adopted them.</li> <li>A requirement for an issuer to disclose in its annual report its option grant policies and practices, and to provide tabular disclosure showing grants made within 14 days of the release of material nonpublic information and the market price of the underlying securities on the trading day before and after the release of such information.</li> <li>A requirement for an issuer to disclose in its quarterly reports the adoption and termination of Rule 10b5 1 trading arrangements and other trading arrangements by directors, officers, and issuers, and the terms of such trading arrangements</li> <li>A requirement that Section 16 officers and directors disclose by checking a box on SEC Forms 4 and 5 whether a reported transaction was made pursuant to a 10b5-1(c) trading arrangement</li> </ul> <p>Interested parties <a rel="noopener noreferrer" href="https://www.sec.gov/cgi-bin/ruling-comments" target="_blank">may submit comments</a> until 45 days after the proposed rule is published in the Federal Register. </p> <p>According to one SEC commissioner, research conducted since the enactment of the initial version of the rule more than two decades ago supports the SEC’s proposed changes. Commissioner Caroline Crenshaw points to <a rel="noopener noreferrer" href="https://www.bloomberg.com/opinion/articles/2021-03-15/insider-trading-loopholes-need-to-be-closed" target="_blank">recent findings</a> that purport to show there have been large concentrations of loss-avoiding trades by corporate executives using trading plans adopted within 60 days of an earnings announcement. Commissioner Crenshaw noted that, in light of these findings, the goal of the recently announced rule changes is to balance the liquidity needs of insiders with regulators’ duty to ensure a level playing field to protect investors.   </p> <p>The proposed changes would also make it easier for the SEC’s Enforcement Division to identify suspicious trades and to charge insiders with securities law violations above and beyond the underlying insider trading charge itself – which, in theory, will incentivize insiders not to skirt the rules. For example, requiring issuers to disclose whether they have adopted insider trading policies and procedures incentivizes officers and directors to ensure that the company has done so, and that such policies and procedures are enforced, lest the issuer be charged. </p> <p>Similarly, imposing a 120-day cooling-off period on officers and directors would appear to deter abuse of Rule 10b5-1 trading plans because any undisclosed market event worth trading on presumably would have passed or changed before any nefarious trading under the plan could commence. All of this is to the good, of course, and should, in theory, prevent corporate insiders from using Rule 10b5-1 plans for illicit purposes. Whether it will do so in practice may take another two decades to determine.   </p>Wed, 22 Dec 2021 00:00:00 -0500{6D572930-DBF7-4874-A32B-B12D929FA700}https://btlaw.com//en/insights/blogs/government-relations/2021/sec-announces-fy2021-results-with-7-percent-increase-in-new-enforcement-actionsSEC Announces FY2021 Results With 7 Percent Increase in New Enforcement Actions<p>On November 18, 2021, the U.S. Securities and Exchange Commission (SEC) announced its <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2021-238" target="_blank">enforcement action results</a> for fiscal year 2021, which ended on September 30, 2021. The results show that the SEC filed a total of 697 enforcement actions (including both federal district court actions and follow-on administrative proceedings), a 3 percent decrease from fiscal year 2020. However, the total enforcement actions results included 434 new actions filed in federal district court or as standalone administrative proceedings, which is a 7 percent increase over the prior year. The SEC report also shows that the agency filed 120 actions against issuers who were delinquent in making required SEC filings, and 143 follow-on administrative proceedings seeking bars against individuals based on underlying criminal convictions, civil injunctions, or other orders. </p> <p>Fiscal year 2021 enforcement actions involved a wide range of securities issues, including novel violations in the cryptocurrency/digital asset space and transactions involving special purpose acquisition companies (SPACs), publicly traded companies created for the purpose of acquiring existing private companies, thereby bypassing the traditional initial public offering process. The SEC also highlighted several “first-of-their-kind actions,” including those involving securities transactions on the “dark web,” alternative data providers, and key rules applicable to municipal securities advisers.</p> <p>The SEC further noted examples of enforcement actions in priority areas, including:</p> <ul> <li><strong>Holding individuals accountable</strong> – 70 percent of new enforcement actions involved at least one individual defendant or respondent;</li> <li><strong>Ensuring that gatekeepers live up to their obligations</strong> – charging numerous auditors, CPAs and attorneys with engaging in improper professional conduct;</li> <li><strong>Rooting out misconduct in cryptocurrency</strong> – charging entities and individuals with unregistered or fraudulent offerings of digital asset securities;</li> <li><strong>Policing financial fraud and issuer disclosure</strong> – bringing actions against public companies and their executives for securities law violations related to disclosures about the impact of the COVID-19 pandemic;</li> <li><strong>Policing improper conduct by investment professionals</strong> – bringing actions against investment advisers, fund managers, and traders for fraud, misleading investors, unauthorized trading, and breaching fiduciary duties;</li> <li><strong>Protecting market integrity</strong> – charging investment advisers and broker-dealers as part of the Division of Enforcement’s “Exchange-Traded Products Initiative,” which uses data analytics to uncover potential securities law violations;</li> <li><strong>Cracking down on insider trading and market manipulation</strong> – bringing actions against individuals for trading on or sharing material non-public information;</li> <li><strong>Enforcing the Foreign Corrupt Practices Act</strong> – charging several companies for internal control failures and their roles in foreign bribery schemes, including one that resulted in a $1 billion-plus settlement with the SEC;</li> <li><strong>Guarding against public finance abuse</strong> – bringing actions against individuals and companies for unfair dealing in municipal bond offerings or misleading investors who purchased municipal bonds;</li> <li><strong>Pursuing wrongdoing in securities offerings</strong> – charging several individuals and companies with deceiving investors through fraudulent and unregistered sales of securities, and misleading investors about the overall success of the issuer’s business operations;</li> <li><strong>Swiftly acting to protect investors</strong> – taking emergency action to freeze assets, stop fraudulent offerings, and suspend trading in securities of more than two dozen companies because of questionable trading activity and unusual volatility connected to “memestock” trading; and</li> <li><strong>Rewarding and protecting whistleblowers</strong> – issuing the greatest awards in the program’s history, including $114 million to a whistleblower whose information and assistance led to the successful enforcement of an SEC action and related actions of another agency.</li> </ul> <p>In addition, the SEC announced record-breaking achievements in its whistleblower program, which awarded a total of $564 million to 108 whistleblowers, topping $1 billion in awards to whistleblowers over the life of the program.</p> <p>While the SEC saw an increase in new enforcement actions over FY2021, it saw a drop in disgorgement awards, obtaining only $2.4 billion in 2021 versus $3.6 billion in 2020. However, the SEC collected more in civil monetary penalties in 2021 – $1.4 billion compared to $1.1 billion in 2020 – a trend that may continue into FY2022. The drop in disgorgement collections was largely the result of the Supreme Court’s ruling in <em>Liu v. SEC</em> (2020),  <a href="/en/insights/blogs/government-relations/2021/half-a-loaf-congress-extends-the-statute-of-limitations-on-some-sec-remedies" target="_blank">which limited the SEC’s authority to collect disgorgement</a> by holding that disgorgement awards can be no greater than a wrongdoer’s illicit profits, and that the SEC is required to show that any disgorgement it collects benefits investors.</p> <p>As previously mentioned, although the overall number of actions filed in FY2021 was down 3 percent, the SEC indicated that FY2022 is likely to be a much busier year for enforcement activity as the agency seeks to add nearly 65 staff members based on its <a rel="noopener noreferrer" href="https://www.sec.gov/files/FY%202022%20Congressional%20Budget%20Justification%20Annual%20Performance%20Plan_FINAL.pdf" target="_blank">budget submission</a> to the Office of Management and Budget. According to the SEC, the proposed increase in the SEC’s workforce is necessary to execute the agency’s FY2022 priorities, as set forth in the budget submission.</p>Tue, 30 Nov 2021 00:00:00 -0500{1343771D-85AB-410C-9969-E9A5906FDD48}https://btlaw.com//en/insights/blogs/government-relations/2021/down-the-rabbit-warren-a-senators-novel-bid-to-expand-the-cftcs-jurisdictionDown the Rabbit Warren: A Senator’s Novel Bid to Expand the CFTC’s Jurisdiction<p>Earlier this summer, Senator Elizabeth Warren floated an intriguing idea for expanding the regulatory remit of the U.S. Commodity Futures Trading Commission (CFTC), a smallish federal agency usually associated with agricultural and financial derivatives like wheat futures and interest rate swaps. The idea was proposed in a June 28 letter from Senator Warren to Rostin Behnam, the acting chairman of the CFTC. The senator’s bid to expand the CFTC’s jurisdiction has to do with advertising intermediaries called “ad exchanges,” which Senator Warren’s letter describes this way:</p> <p style="margin-left: 40px;">Ad exchanges sit between advertisers and publishers, who use ad-buying and ad-selling software respectively. Specifically, advertisers use ad-buying software to manage advertising budgets and to bid on impressions that are likely to yield the highest return on their investment. At the same time, online publishers use ad-selling software to allocate their ad inventory where it will maximize revenue.</p> <p>According to Senator Warren, these exchanges are, for all intents and purposes, unregulated, and also riddled with abuse. “The problem,” she says, “is that for more than a decade, [a single company] has controlled the dominant ad exchange, the dominant ad-buying tools, and the dominant ad-selling tools. The situation has been ripe for manipulation, and there is now strong evidence that [the company] has taken advantage of its position.” </p> <p>If true, this state of affairs would be worrisome all by itself. As recounted in the letter, though, the situation is apparently darker still. According to “revelations,” there exists a “secret . . . program” called “Project Bernanke” deployed through the company’s ad exchange to gather data from market participants and give the company’s in-house “ad-buying systems . . . an advantage over their ad-buying competitors.” As you may have guessed, the reason the company allegedly launched Project Bernanke is to make money. Senator Warren believes that it “made hundreds of millions of dollars every year through its secret market-abuse strategy.” </p> <p>And it’s the whiff of market abuse that brings us to Senator Warren’s proposal to acting chairman Behnam. The senator believes that “digital advertising likely falls within the CFTC’s mandate” because it comes within the definition of the term “commodity” found in the CFTC’s governing statute, the Commodity Exchange Act. If she’s right, digital advertising and ad-buying systems would be subject to CFTC regulation, and also to the scrutiny of the CFTC’s enforcement lawyers and investigators.</p> <p>Is she right? More to the point, is digital advertising a segment of the economy the CFTC should be wading into?</p> <p><strong>Is Digital Advertising a Commodity?</strong></p> <p>Senator Warren’s request to have the CFTC look into ad markets stems from her belief that “digital advertising impressions” like those traded on ad exchanges are commodities, as that term is defined in the Commodity Exchange Act, and therefore fall within the CFTC’s jurisdiction for many (but not all) regulatory purposes. In support of this view, she correctly observed that “[t]he CFTC has a long, successful track record of bringing new, previously unimagined markets under its jurisdiction, such as futures based on specific weather events . . . . In recent years, the CFTC has successfully argued that the [Commodity Exchange Act] grants jurisdiction to regulate cryptocurrencies like Bitcoin as well.”</p> <p>On the face of it, her analysis seems to be correct. The Commodity Exchange Act defines the term “commodity” broadly to include not only the sort of items we typically think of as commodities – things like eggs, cotton, livestock, and soybeans – but also “all other goods and articles . . . and all services, rights, and interests . . . in which contracts for future delivery are presently or in the future dealt in.” It’s hard to see where this definition ends, and the buying and selling of digital advertising could be construed to fall within it. Certainly the CFTC, which is always happy to extend its regulatory reach, would probably interpret it that way. </p> <p>And if digital advertising impressions are commodities that come within the definition of that term in the Commodity Exchange Act, the CFTC would, for example, have the authority to sue market participants for engaging in fraudulent and manipulative conduct in the markets where the impressions trade. CFTC Rule 180.1, which was part of the authority granted to the CFTC pursuant to the 2010 Dodd-Frank Act, makes it unlawful for “any person” to employ “any manipulative device, scheme, or artifice defraud” in connection with the sale of “any commodity.” As noted above, it is precisely the CFTC’s anti-manipulation authority that Senator Warren would like to enlist in her crusade against what she believes to be an outlaw commodities market. At a minimum, labeling digital advertising impressions “commodities” would allow the CFTC to issue subpoenas and otherwise investigate what’s going on with ad exchanges. </p> <p><strong>Ad Exchanges and Existing Law</strong></p> <p>In her letter, Senator Warren cited a number of court cases to support her argument that the CFTC has authority to regulate ad exchanges. The most analogous to digital advertising impressions, CFTC v. My Big Coin Pay, Inc., dealt with whether virtual currency should be considered a commodity under the Commodity Exchange Act. According to the CFTC’s lawsuit, virtual currency My Big Coin marketed itself using several false statements, including that the currency was backed by gold, was usable anywhere MasterCard was accepted, and was actively traded on currency exchanges. Citing the definition of “commodity” in the Commodity Exchange Act, the defendants argued that because “contracts for future delivery” for My Big Coin are not currently “dealt in,” the currency is not a commodity subject to the CFTC’s jurisdiction. </p> <p>The judge, however, pointed out that there already exists futures contract trading in other virtual currencies (like Bitcoin), so futures contracts written on My Big Coin could, in the language of the Commodity Exchange Act, “in the future [be] dealt in” and the cryptocurrency was therefore a commodity subject to the CFTC’s enforcement authority. Cryptocurrencies are not exactly the same as digital advertising impressions, of course, but the distinctions between them don’t matter much for the purposes of the broad definition of “commodity” in the Commodity Exchange Act. Like cryptocurrency, there’s no obvious reason why one could not write a futures contract based on the price of digital advertising impressions.</p> <p>Moreover, there are some parallels between the kind of misconduct that can occur on ad exchanges and futures exchanges, which have always been the CFTC’s regulatory bread and butter. In recent years, the CFTC has brought numerous “spoofing” cases against companies and individuals that have allegedly manipulated the markets for futures contracts by posting and then quickly cancelling orders to buy or sell such contracts, thereby intentionally sending false signals of supply and demand to deceive other market participants.</p> <p>In similar fashion, some observers believe that “domain spoofing” occurs on ad exchanges, a practice whereby bogus ad supply is offered to buyers who use the exchanges. A market participant theoretically enters an order to buy advertising on a website and domain that seems legitimate based on a look-alike name of a legitimate website (for example, “nbc” or “wsj” which look like NBC.com and WSJ.com), but is not.  The advertiser is misled into bidding on these contracts based on the belief that their ads will be posted on NBC’s or WSJ’s websites, but in reality they are domains for websites that have no human viewers and no content.</p> <p>In this scenario, the domain spoofer will get paid, like any other supplier on the ad exchange, through its sale of ad inventory. The ad buyer will get nothing. In 2018, the Department of Justice’s National Security and Cybercrime Section indicted several individuals in United States v. Alexsandr Zhukov, a case targeting international cybercriminal rings engaged in ad spoofing that allegedly caused tens of millions of dollars in advertiser losses. This type of market chicanery is the sort of thing the CFTC has been policing for years, and the agency is now even better equipped to handle it with provisions like Rule 180.1.</p> <p><strong>Observations</strong></p> <p>Assuming the CFTC probably could regulate digital advertising impressions and the markets they trade in, is it a good idea? There are at least three reasons why it isn’t. First, the CFTC is notoriously and chronically underfunded, and has not even been able to assimilate the large slug of new regulatory authority Congress assigned it in the Dodd-Frank Act – and that was ten years ago. The agency, which is a fraction of the size of its closest cousin, the Securities and Exchange Commission, has all it can do to handle the Ponzi schemes, Forex frauds, routine market oversight duties, new and beguiling “decentralized finance” issues, and other work more closely related to the CFTC’s historical mission. Putting still more jurisdiction on its plate is not likely to improve the quality or quantity of the important work it does.</p> <p>Second, there are other federal agencies whose work and history make them much better suited to deal with advertising abuses. The Consumer Financial Protection Bureau comes to mind – the agency has rules specifically geared toward preventing deceptive advertising practices in connection with retail products like mortgages and depository accounts. Similarly, the Federal Trade Commission has a whole raft of rules prohibiting fraudulent advertising practices, including internet advertising. And, of course, if the problem is serious enough, the Department of Justice will get involved. While these agencies may not yet have keyed into the peculiar nuances of ad markets, which are not all that well known, given their histories (and budgets), they are in a better position to craft a regulatory response to any abuses those markets present.</p> <p>At bottom, derivatives markets, which are what the CFTC regulates, are designed to help financial firms and real-economy market participants reallocate (hedge) the risks inherent in their businesses to others who are better able or more willing to bear them. The CFTC is not primarily concerned with the buying and selling of the underlying commodities that derivative products are based on, which takes place in the “spot” or “physical” markets. Buying and selling ads, even if it does occur on an exchange, does not involve any of the traditional risk-shifting features that are the hallmark of derivatives; it is more akin to spot trading of actual commodities – far closer to used car sales than U.S. Treasury swaps. And this difference provides the third and most compelling reason why the CFTC should not get involved in the regulation of advertising markets: the subject matter it just too far removed from what the agency does best. It lacks the expertise and institutional knowledge to engage with ad markets effectively, and has no reason to start learning how to do so now, when there are other capable regulators that have already been handling that job for years.</p> <p><em>Guest author Jessica Harris is senior vice president at Monument Economics Group in Washington, D.C. Before joining the firm, she was a senior trading investigator at the U.S. Commodity Futures Trading Commission and a field supervisor at the National Futures Association.</em></p>Tue, 17 Aug 2021 00:00:00 -0400{A3BAAAEA-3D52-4C2F-92B4-A69DE9FDA39B}https://btlaw.com//en/insights/blogs/government-relations/2021/esg-investing-guidance-from-the-us-securities-and-exchange-commissionESG Investing Guidance from the U.S. Securities and Exchange Commission<p>The recent push for businesses to be run more sustainably shows no signs of cooling off as ESG investing continues to gain momentum. ESG investing (also known as socially responsible investing, impact investing, and sustainable investing) refers to investing that prioritizes favorable environmental, social, and governance (ESG) factors or outcomes. </p> <p>ESG investing goes beyond a three-letter acronym to ask how a business serves all of its stakeholders: employees, customers, shareholders, communities, and the environment. As ESG investing becomes a stronger force in the market, investors are seeking assistance from law firms in navigating the confusing landscape of various standards and frameworks. </p> <p>Everyone from the <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2021-42" target="_blank">Securities and Exchange Commission</a> (SEC) and the <a rel="noopener noreferrer" href="https://www.cftc.gov/PressRoom/PressReleases/8368-21" target="_blank">Commodity Futures Trading Commission</a> (CFTC) to <a rel="noopener noreferrer" href="https://www.congress.gov/bill/117th-congress/house-bill/1187" target="_blank">politicians </a>and <a rel="noopener noreferrer" href="https://www.iosco.org/library/pubdocs/pdf/IOSCOPD678.pdf" target="_blank">global organizations</a> has stepped into the conversation to address the ESG investing surge and to provide much-needed guidance. Although there are currently no ESG-specific regulations or rules in the United States, there are many existing securities laws that apply to ESG investing and the SEC is responding with an all-agency approach. Recent actions by the agency include the creation of a <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2021-42" target="_blank">Climate and ESG Task Force</a> in the Division of Enforcement, a request for <a rel="noopener noreferrer" href="https://www.sec.gov/news/public-statement/lee-climate-change-disclosures" target="_blank">public comment on climate change disclosures</a>, and the publication of an ESG risk alert by the Division of Examinations. </p> <p>This blog post will focus on the <a rel="noopener noreferrer" href="https://www.sec.gov/files/esg-risk-alert.pdf" target="_blank">SEC’s ESG risk alert</a> and provides guidance on how clients and their compliance professionals can stay ahead of <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2021-99" target="_blank">anticipated changes</a>.</p> <p>On April 9, 2021, the SEC’s Division of Examinations (the Division) published its first risk alert detailing effective and deficient practices among investment advisers, registered investment companies, and private funds offering ESG investing strategies. In particular, the Division noted that its examinations would focus on portfolio management, performance advertising and marketing, and compliance programs, among other matters.</p> <p>Generally, the guidance in the risk alert details effective and deficient compliance controls around ESG-related disclosures, marketing materials, and investment and proxy voting practices. In examining firms engaging in ESG investing, the Division detailed the following as effective practices:</p> <ul> <li>Clear and precise disclosures that were tailored to the firm’s specific approach to ESG investing and that were aligned with the firm’s actual practices (e.g., simple and clear disclosures regarding the firm’s approach to ESG investing, ESG factors that could be considered alongside many other factors, and explanations regarding how investments were evaluated using goals established under global ESG frameworks)</li> <li>Detailed policies and procedures that addressed ESG investing, including specific documentation to be completed at various stages of the investment process (e.g., research, due diligence, selection, and monitoring)</li> <li>Knowledgeable compliance personnel who were integrated into the firm’s ESG-related processes</li> </ul> <p>The Division also described certain firm practices it believed were deficient based on its examinations regarding ESG investing: </p> <ul> <li>Portfolio management practices that were inconsistent with ESG approach disclosures</li> <li>Controls that were inadequate to maintain, monitor, and update clients’ ESG-related investing guidelines, mandates, and restrictions</li> <li>Proxy voting that was inconsistent with stated ESG approaches</li> <li>Unsubstantiated or misleading claims regarding ESG approaches</li> <li>Inadequate controls to ensure consistency with firm practices and ESG-related disclosures and marketing</li> <li>Lack of policies and procedures addressing ESG investing analyses, decision-making processes, or compliance review and oversight</li> <li>Compliance programs that were less effective when compliance personnel had limited knowledge of ESG-investment analyses</li> </ul> <p>The Division also stated that it will continue to review both internal and external documents to ensure that firms disclose their ESG standards and take care not to mislead investors. The SEC’s guidance evidences the agency’s increasing intent to play a significant role in the ESG space, and the agency is expected to further clarify its role <a rel="noopener noreferrer" href="https://www.sec.gov/news/upcoming-events/climate-change-and-global-financial" target="_blank">later this month</a>.</p> <p>In the meantime, firms that engage in ESG investing should evaluate their current compliance controls in light of the compliance deficiencies outlined by the SEC, with particular focus on whether: </p> <ul> <li>their disclosures, marketing claims, and other public statements related to ESG investing are accurate and consistent with internal firm practices</li> <li>their approaches to ESG investing are implemented consistently throughout the firm </li> <li>their approaches to ESG investing are adequately addressed in the firm’s policies and procedures</li> <li>their approaches to ESG investing are subject to appropriate oversight by compliance personnel</li> <li>they are adequately documenting and maintaining records relating to important stages of the ESG investing process</li> </ul>Thu, 29 Jul 2021 00:00:00 -0400{7D592C64-6145-4696-9B69-CCC30A574537}https://btlaw.com//en/insights/blogs/government-relations/2021/scope-of-dojs-enforcement-of-the-computer-fraud-and-abuse-act-after-van-burenScope of DOJ’s Enforcement of the Computer Fraud and Abuse Act After Van Buren<p>The Supreme Court’s recent clarification of a circuit split on what counts as “unauthorized access” of information on a computer under the Computer Fraud and Abuse Act (CFAA) clearly has curtailed the DOJ’s enforcement powers, but questions remain.</p> <p>Justice Barrett, delivering the majority opinion in <em><a rel="noopener noreferrer" href="https://www.supremecourt.gov/opinions/20pdf/19-783_k53l.pdf" target="_blank">Van Buren v. United States</a></em>, held unambiguously that criminal violation of the CFAA is not triggered when a user – even one with improper motives – accesses information that is otherwise available to that user. Rather, the CFAA criminal prohibition “covers those who obtain information from particular areas in the computer – such as files, folders, or databases – in which their computer access does not extend.”</p> <p>Petitioner Van Buren was not a sympathetic defendant, which only underscores the Supreme Court’s majority opinion that the DOJ’s prosecution extended beyond the language of the CFAA. Van Buren, at the time a police sergeant in Georgia, made the acquaintance of Andrew Albo, who turned FBI informant when Van Buren asked him for a personal loan. Working at the behest of the FBI, Albo asked Van Buren to run the license plate of a woman he claimed to have met at a local strip club to make sure the woman was not an undercover officer. Albo offered to pay Van Buren $5,000 for the information.</p> <p>Van Buren ran the search using the law enforcement databases to which he had otherwise legitimate access. The DOJ prosecuted Van Buren on the theory that his conduct violated the “exceeds authorized access” clause of the CFAA because Van Buren had not performed the searches for a law enforcement purpose.</p> <p>The opinion turned on the interpretation of the statute’s definition of “exceeds authorized access” as “to access a computer with authorization and to use such access to obtain or alter information in the computer that the accessor is not entitled to so obtain or alter.” The majority determined that adopting the DOJ’s broader interpretation that a user violates the CFAA when using a computer in a way prohibited by their job or policy could criminalize millions of Americans who use their work computers to check the internet for personal reasons or who violate the terms and conditions of a website.</p> <p>The majority opinion therefore made clear that it is not illegal under the CFAA for a user to access information he or she otherwise is authorized to access. The opinion explicitly left open, however, the exact scope of what constitutes “authorization” – whether it applies only to technical code-based restrictions, or whether it also looks to restrictions in contracts or policies – although the opinion did appear to favor a bright-line technological restriction approach.</p> <p>As the law continues to develop on the scope of not only DOJ enforcement but also private rights of action under the CFAA, entities looking to restrict access to confidential and other information should therefore review not only their policies but also technical access to materials they wish to protect.</p>Wed, 30 Jun 2021 00:00:00 -0400{F36F2120-9B74-4978-995A-AE5C0569728D}https://btlaw.com//en/insights/blogs/government-relations/2021/uks-serious-fraud-office-issues-guidance-on-deferred-prosecution-agreementsUK’s Serious Fraud Office Issues Guidance on Deferred Prosecution Agreements<p>Although we may be familiar with the concept of deferred prosecution agreements (DPAs) in the United States, they are not solely a U.S. construct. The United Kingdom’s Serious Fraud Office (SFO), for example, first announced its plans to introduce DPAs as part of case resolutions in October 2012, although its first DPA was not utilized until 2015. Since then, the U.K. SFO has <a rel="noopener noreferrer" href="https://www.sfo.gov.uk/publications/guidance-policy-and-protocols/guidance-for-corporates/deferred-prosecution-agreements/" target="_blank">entered into eight DPAs</a>.</p> <p>So far, deferred prosecution agreements in the U.K. have been used in cases involving conspiracy to defraud, money laundering, fraud, bribery, and failure to prevent facilitation of foreign tax evasion offenses.</p> <p>As the use of DPAs has increased by the U.K. SFO, it has taken steps to <a rel="noopener noreferrer" href="https://www.sfo.gov.uk/2020/10/23/serious-fraud-office-releases-guidance-on-deferred-prosecution-agreements/" target="_blank">provide more transparency for companies</a> interested in cooperating with the U.K. SFO during investigations. The agency noted the benefit of DPAs as a “[v]aluable tool in the fight against serious fraud, bribery and corruption, capable of not only punishing corporates for criminality but also making sure the company rehabilitates and becomes a better corporate citizen. This helps us foster a business environment where everyone plays by the rules.”</p> <p>So, what does corporate cooperation look like? At a minimum, <a rel="noopener noreferrer" href="https://www.sfo.gov.uk/publications/guidance-policy-and-protocols/guidance-for-corporates/deferred-prosecution-agreements-2/" target="_blank">key indicators of cooperation</a> as noted by the U.K. SFO include:</p> <ul> <li>Self-disclosure, within a reasonable time, of wrongdoing not already known to the prosecutor</li> <li>Taking remedial actions including, where appropriate, compensating victims</li> <li>Preserving available evidence and providing it promptly in an evidentially sound format</li> <li>Identifying relevant witnesses and disclosing their accounts and the documents shown to them</li> <li>Where practicable, making witnesses available for interview when requested</li> <li>Providing a report in respect of any internal investigation including source documents</li> <li>Waiving privilege over any privileged materials, though the company can neither be compelled to waive privilege nor penalized for not waiving privilege</li> </ul> <p>A decision as to whether to enter into a DPA is not based solely on the cooperation of the company, however. As a threshold matter, the prosecutor must also satisfy both the evidential test and the public interest test. An overview of this two-prong requirement will be discussed in our next update.</p>Wed, 16 Jun 2021 00:00:00 -0400{5C02FE66-9962-442D-A0E5-B7B35070DE15}https://btlaw.com//en/insights/blogs/government-relations/2021/doj-targets-covid19-fraud-with-coordinated-multi-district-law-enforcement-actionDOJ Targets COVID-19 Fraud With Coordinated, Multi-District Law Enforcement Action<p>On May 26, 2021, the U.S. Department of Justice (DOJ) announced criminal charges against 14 defendants in seven federal districts across the United States for their alleged participation in various health care fraud schemes that exploited the COVID-19 pandemic and resulted in over $143 million in false billings.</p> <p>These charges come after <a href="/en/insights/blogs/government-relations/2021/dojs-fraud-section-posts-opening-for-full-time-cares-act-prosecutor" target="_blank">DOJ sought to hire a full-time CARES Act prosecutor</a> and a little more than a week after Attorney General Garland ordered the <a rel="noopener noreferrer" href="https://www.justice.gov/opa/press-release/file/1394716/download?utm_medium=email&utm_source=govdelivery" target="_blank">establishment of a special task force</a> dedicated to countering COVID-19 fraud broadly. The stated purpose of that task force was to bring together the DOJ’s resources with other government agencies against pandemic-related fraud, A.G. Garland said in a <a rel="noopener noreferrer" href="https://www.justice.gov/opa/press-release/file/1394721/download?utm_medium=email&utm_source=govdelivery" target="_blank">memo</a> to senior department officials. Led by Deputy Attorney General Lisa Monaco, the new task force will look for trends, examine past enforcement actions, and bolster efforts to investigate and prosecute criminals both in the U.S. and internationally. It is clear that COVID-19 relief fraud is a key focus for the DOJ for the foreseeable future.</p> <p>Last week’s multi-district COVID-19 fraud takedown, coordinated by the Fraud Section’s National Rapid Response team, comes on the heels of large national takedowns in <a rel="noopener noreferrer" href="https://www.justice.gov/usao-sdga/pr/nineteen-defendants-charged-largest-healthcare-fraud-scheme-southern-district-history" target="_blank">Operation Brace Yourself</a> and <a rel="noopener noreferrer" href="https://www.justice.gov/opa/pr/federal-law-enforcement-action-involving-fraudulent-genetic-testing-results-charges-against" target="_blank">Operation Double Helix</a>. These cases demonstrate a continued, coordinated effort by the Fraud Section’s Health Care Fraud Unit and its Market Integrity and Major Frauds Unit to attack COVID-related fraud from multiple angles and with theories ranging from wire fraud to health care fraud. </p> <p>The cases are notable for a number of reasons, including prosecution in a non-Medicare Fraud Strikeforce Jurisdiction; prosecution of telehealth fraud, notwithstanding expanded telehealth waivers created by the Centers for Medicare and Medicaid Services (CMS); and continued prosecution of fraud under the various CARES Act loan programs, as discussed below. Further, several of the cases are not new prosecutions but rather charge additional counts or additional defendants in ongoing prosecutions. Finally, the cases show that the Fraud Section’s Health Care Fraud Unit will continue to focus on the use of COVID-19 testing as a Trojan horse for expensive genetic testing, often ordered for unwitting patients.</p> <p>The takedown announced by the DOJ has the Fraud Section prosecuting cases in seven federal districts: Western District of Arkansas, Northern District of California, Middle District of Louisiana, Central District of California, Southern District of Florida, District of New Jersey, and the Eastern District of New York. </p> <p><strong>Western District of Arkansas</strong><br /> Billy Joe Taylor, the owner and operator of two testing laboratories, was charged with health care fraud of over $88 million, including over $42 million in false and fraudulent claims during the COVID-19 health emergency. These fraudulent claims were billed in combination with claims that were submitted for testing for COVID-19 and other respiratory illnesses. Of the prosecutions announced, this one was of particular interest as the only one brought in coordination with a United States Attorney’s Office in a district where the Fraud Section is not currently operating a Medicare Fraud Strike Force.</p> <p><strong>Northern District of California</strong><br /> Mark Schena, the president of Arrayit Corporation, is charged along with two others, the Arrayit vice president of marketing and the president of an Arizona marketing organization, in connection with the submission of over $70 million in false and fraudulent claims for allergy and COVID-19 testing. This was not a new prosecution but a superseding indictment charging additional counts of health care fraud, a conspiracy to pay kickbacks, and payment of kickbacks in connection with false and fraudulent statements about the existence, regulatory status, and accuracy of an Arrayit COVID-19 test.</p> <p><strong>Central District of California</strong><br /> Petros Hannesyan, the owner of a Los Angeles home health agency, was charged with the theft of government property and wire fraud in connection with $229,454 that he obtained from COVID-19 relief programs, including the CARES Act Provider Relief Fund and the Economic Injury Disaster Loan Program.<br /> <br /> <strong>Southern District of Florida</strong><br /> Michael Stein and Leonel Palatnik were charged in connection with an alleged $73 million conspiracy to defraud the government and to pay and receive health care kickbacks. This case is the first in the nation in which plaintiffs allegedly exploited expanded telehealth opportunities created by CMS waivers during the pandemic, highlighting that there is still blatant fraud in the program even with expanded access created during the pandemic. </p> <p>Juan Nava Ruiz and Eric Frank were charged for an alleged $9.3 million health care kickback scheme, along with Christopher Licata who was previously charged in a separate indictment. Licata, an owner of a clinical laboratory, allegedly offered and paid kickbacks to patient brokers, including Ruiz and Frank, in exchange for referring Medicare beneficiaries to his lab for various forms of genetic testing and other laboratory testing. Allegations include the submission of $422,748 in claims related to medically unnecessary respiratory and genetic testing that was bundled with COVID-19 testing. </p> <p><strong>Middle District of Louisiana</strong><br /> Malena Lepetich, the owner of a clinical laboratory, was charged for an alleged $15 million fraud offering to pay kickbacks for referrals of specimens for COVID-19 testing. </p> <p><strong>District of New Jersey</strong><br /> Dr. Alexander Baldonado was charged with six counts of health care fraud for allegedly participating in an event that advertised COVID-19 testing. In addition to authorizing the COVID-19 tests, Baldonado allegedly ordered expensive and medically unnecessary cancer genetic testing for Medicare beneficiaries who attended the event. Approximately $2 million in claims were submitted as a result of Baldonado’s COVID-19 health care fraud scheme, and approximately $17 million in claims were submitted as a result of Baldonado’s broader health care fraud scheme. </p> <p>Donald Clarkin, a partner at a diagnostic testing laboratory, was charged in connection with a $5.4 million conspiracy, allegedly exploiting the pandemic by offering kickbacks in exchange for respiratory pathogen panel tests that would be improperly bundled with COVID-19 tests and billed to Medicare. </p> <p><strong>Eastern District of New York</strong><br /> Peter Khaim and Arkadiy Khaimov, who both owned and controlled several New York pharmacies and sham pharmacy wholesaling companies, were charged in a superseding indictment for their participation in an alleged $45 million health care fraud, wire fraud, and money laundering scheme. The defendants and their co-conspirators allegedly obtained billing privileges for multiple pharmacies by using nominees to serve as the purported owners and supervising pharmacists. The defendants then allegedly submitted false and fraudulent claims to Medicare, including by using COVID-19 “emergency override” billing codes to circumvent pre-authorization requirements. </p> <p>The announcement of this pandemic themed takedown shows the DOJ’s continued commitment to and plans for ongoing prosecution of fraudsters looking to profit from the pandemic. With white collar prosecutions at an all-time low in many jurisdictions, the Fraud Section’s COVID-related enforcement is clearly an area where the agency is committed to bringing more cases. The DOJ press release includes statements from numerous high level officials at the DOJ, FBI and HHS-OIG, indicating that this is an area of high priority for all agencies involved. Notably, the time is near for what would typically be the Fraud Section’s annual national health care fraud and opioid takedown. If that takedown occurs this year, it will be interesting to see how much focus is placed on pandemic related fraud cases.</p>Wed, 02 Jun 2021 00:00:00 -0400{ED51A9A8-8191-4109-A818-B5D875A51078}https://btlaw.com//en/insights/blogs/government-relations/2021/whistleblower-awards-from-the-us-securities-and-exchange-commissionWhistleblower Awards from the U.S. Securities and Exchange Commission<p>The U.S. Securities and Exchange Commission (SEC), continues to reward whistleblowers who provide key information leading to a successful enforcement action. Since the beginning of May 2021, the SEC has already conferred two substantial whistleblower awards. </p> <p>As a refresher, in order to receive an <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2021-83" target="_blank">award from the SEC</a>, a whistleblower’s information must be “[o]riginal, timely, and credible” and “lead[] to a successful SEC enforcement action.” For example, in the SEC order of May 10, 2021, two claimants <a rel="noopener noreferrer" href="https://www.sec.gov/rules/other/2021/34-91808.pdf" target="_blank">were awarded approximately $22 million</a> in total. One claimant received almost $18 million for alerting the SEC about violations and providing continued assistance throughout the investigation, including while under hardship. The second claimant, reporting the activity several years later, supplemented the information provided by the first claimant, including information regarding compliance which was ultimately used during settlement negotiations. This whistleblower was awarded over $4 million.</p> <p>Most recently, on May 12, 2021, the SEC <a rel="noopener noreferrer" href="https://www.sec.gov/rules/other/2021/34-91854.pdf" target="_blank">awarded one claimant $3.6 million</a> and rejected the claim of another purported whistleblower. The whistleblower claimant who received an award provided information that caused the SEC to initiate the inquiry and was instrumental in providing additional information and assistance throughout the investigation. The other claimant, by contrast, failed to show that their information caused the opening of the investigation or advanced its progress. Although this claimant provided a flash drive of files during the investigation, these files were not used in the successful resolution of the enforcement action. The SEC further denied this claimant’s contesting of the preliminary determination that no award was warranted.</p> <p>These awards serve as an import reminder for companies that these types of significant incentives to report on company misconduct are real and recurring. They reinforce the importance of an effective compliance program – including a reporting platform so that issues may be properly escalated, investigated, and remediated.</p>Mon, 24 May 2021 00:00:00 -0400{56E59DA0-945C-435B-BA04-C6BF634C8B8F}https://btlaw.com//en/insights/blogs/government-relations/2021/sec-emerges-as-main-regulator-of-cryptocurrencySEC Emerges as Main Regulator of Cryptocurrency<p>A <a rel="noopener noreferrer" href="https://www.cornerstone.com/Publications/Reports/SEC-Cryptocurrency-Enforcement%E2%80%94Q3-2013%E2%80%93Q4-2020" target="_blank">report released by Cornerstone Research</a> earlier this week shows the SEC “has established itself as one of the main regulators engaged in the cryptocurrency space.” The agency brought a total of 75 enforcement actions, ordered 19 trading suspensions, and issued numerous statements (both alone and joint with other regulators) and investor alerts on the subject between July 2013 and December 2020. The report’s author, Simona Mola, noted, “As of early March this year, the SEC has settled 70% of the enforcement actions for more than $1.77 billion in total monetary penalties.”</p> <p>The SEC brought its first cryptocurrency-related enforcement action in July 2013 with <em><a rel="noopener noreferrer" href="https://www.sec.gov/litigation/litreleases/2014/lr23090.htm" target="_blank">SEC v. Shavers et al.</a></em>, charging the defendants with defrauding investors in a Ponzi scheme involving Bitcoin. While SEC involvement in cryptocurrency-related actions remained minimal through 2016, trading suspensions rose dramatically in 2017 followed quickly by an increase in both administrative proceedings and litigation in 2018. Primary allegations included fraud, unregistered securities offerings, failure to register offerings of swaps to non-eligible contract participants, failure to disclose compensation when promoting a security, and failure to register as a broker or an exchange.</p> <p>Of the 75 enforcement actions, 32 were resolved as administrative proceedings within the SEC, and 43 were litigated at the district court level. The majority of the litigations involved allegations of both unregistered securities offerings and fraud, while the majority of actions resolved at the administrative level alleged solely unregistered securities offerings. </p> <p>Much of the SEC’s historical guidance on the issue, including a <a rel="noopener noreferrer" href="https://www.sec.gov/files/ia_virtualcurrencies.pdf" target="_blank">2013 investor alert</a> prompted by the <em>Shavers </em>case, accompanied enforcement actions. In other cases, guidance was issued prior to taking enforcement action. For example, the <a rel="noopener noreferrer" href="https://www.investor.gov/introduction-investing/general-resources/news-alerts/alerts-bulletins/investor-alerts/investor-22" target="_blank">SEC warned investors</a> against making investment decisions based on celebrity endorsements in November 2017 – prior to <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2018-268" target="_blank">charging two celebrities</a> for failure to disclose compensation received to promote Initial Coin Offerings.</p> <h2>Leader in the Field</h2> <p>In addition to the sheer quantity of actions initiated by the SEC and of guidance it has promulgated, the SEC has also established itself as a leader in analyzing the legal status of cryptocurrencies. In July 2017, the SEC released the <a rel="noopener noreferrer" href="https://www.sec.gov/litigation/investreport/34-81207.pdf" target="_blank">DAO Report of Investigation</a> – in which it used the Howey test from the 1946 U.S. Supreme Court decision to determine whether a token is an investment contract. It utilized that legal analysis again in a <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2017-227" target="_blank">December 2017 administrative order</a> bringing to halt an initial coin offering issuer for failure to register its securities. </p> <p>Furthermore, a <a rel="noopener noreferrer" href="https://www.sec.gov/news/speech/speech-hinman-061418" target="_blank">June 2018 speech</a> by William Hinman, director of the SEC’s Division of Corporate Finance, stated that neither Bitcoin nor Ether is a security and contained an analysis for separating tokens that are securities from tokens that have mere consumption utility. That analysis was formalized in April 2019 in the SEC’s <a rel="noopener noreferrer" href="https://www.sec.gov/corpfin/framework-investment-contract-analysis-digital-assets" target="_blank">framework for investment contract analysis of digital assets</a>.</p> <p>Abe Chernin, a Cornerstone Research vice president and head of the firm’s consumer finance practice noted, “There is an increasing expectation that the new administration develop a clearer regulatory approach and pursue greater interagency coordination to foster innovation in cryptocurrency markets.”</p>Fri, 14 May 2021 00:00:00 -0400{558FEECC-1B82-4F2D-8B53-C99E4EDE2B86}https://btlaw.com//en/insights/blogs/government-relations/2021/sec-whistleblower-program-continues-record-breaking-performance-amid-new-chairs-supportSEC Whistleblower Program Continues Record-breaking Performance Amid New Chair's Support<p>The SEC whistleblower program, which newly confirmed chair Gary Gensler has pledged to strengthen and support, has continued its record-breaking performance in fiscal year 2021. </p> <p>On April 23, the SEC announced two separate whistleblower awards totaling over $3 million. This follows a $50 million award to two joint whistleblowers on April 15, which is the second-largest award since the SEC began issuing awards in 2012. These are the latest in the more than $250 billion awarded to whistleblowers so far in fiscal year 2021. </p> <p>Under the Dodd-Frank Act, the identity of whistleblowers is kept confidential. However, the agency’s redacted orders provide two important takeaways as to its reasoning when determining the amount of an award or when issuing awards. In its award of $3.2 million to one whistleblower on April 23, the SEC noted Rule 21F-6(c)’s presumption of a maximum statutory award of 30% to awards of $5 million or less did not apply because an unreasonable reporting delay occurred, noting the claimant waited to report four years from the date claimant first noticed certain misconduct and 17 months from the date claimant first understood there could be a securities law violation.</p> <p>In the $50 million award on April 15, the SEC denied any recovery to a third claimant because the claimant didn’t provide any independent information and the agency did not rely on that claimant’s information in bringing its enforcement action.</p> <p>These awards come amid changes in the program, with long-time chief of the SEC’s Office of the Whistleblower, Jane Norberg, leaving the agency at the beginning of April and Emily Pasquinelli stepping in as acting chief. Prior to his recent confirmation, Gensler affirmed his support for the whistleblower program, pledging in written responses to questions by Sen. Chuck Grassley that he was committed to “reduce processing times in SEC whistleblower award determinations” and agreed “that awards should be granted in a timely manner, as whistleblowers often have to incur significant expenses and withstand significant uncertainty and distress when waiting for the SEC’s determination.”</p>Wed, 28 Apr 2021 00:00:00 -0400{78DF9747-7D8D-4C7F-BF46-3B9A680D9AF5}https://btlaw.com//en/insights/blogs/government-relations/2021/gary-gensler-to-lead-secGary Gensler to Lead SEC<p>In a 53-45 vote, the Senate has confirmed Gary Gensler to take charge as chair of the Securities and Exchange Commission (SEC). Gensler’s nomination comes at a critical time for the SEC, which will be heavily engaged in reviews of special purpose acquisition companies, also known as SPACs, as well as issues with trading systems that led to a highly publicized trading frenzy on certain stocks in early 2020.</p> <p>With the change in administration, Democrats who have been critical of the Trump administration’s direction of the SEC’s oversight hope to see a higher level of involvement from Gensler’s team, particularly in areas such as protections for retail investors and crypto-currency. Gensler is also expected to elevate environmental issues, social issues, and corporate governance issues to the forefront of the SEC’s activities.</p> <p>The SEC protects investors by maintaining a fair, orderly and efficient market. It is comprised of five commissioners appointed by the president who must be confirmed by the Senate. Commissioners serve a five-year term, and with Gensler’s confirmation, the SEC will have a 3-2 Democratic majority.</p> <p>Prior to his current appointment to the SEC, Gensler served as a partner at Goldman Sachs and previously led the Commodity Futures Trading Commission during the Obama administration.</p>Fri, 16 Apr 2021 00:00:00 -0400{30C0B690-34C7-49D1-B514-A10F6F94DC7C}https://btlaw.com//en/insights/blogs/government-relations/2021/dojs-fraud-section-posts-opening-for-full-time-cares-act-prosecutorDOJ’s Fraud Section Posts Opening for Full-Time CARES Act Prosecutor<p>The Department of Justice continues to signal its intense focus on deterring and prosecuting fraud in connection with the COVID-19 pandemic and under the CARES Act specifically. In the latest sign of this commitment, the DOJ’s Fraud Section has posted a position for a <a rel="noopener noreferrer" href="https://www.justice.gov/legal-careers/job/trial-attorney-cares-act-fraud" target="_blank">full time prosecutor</a> located in the Major Frauds and Market Integrity Unit. </p> <p>The Fraud Section has even created a new acronym to cover CARES Act fraud, CAF. The posting indicates that the newly created position will prosecute CAF. “CAF prosecutors are a subset of prosecutors focused upon investigating, prosecuting, and deterring fraud in the Small Business Administration’s (SBA) COVID-19 disaster relief programs, including the Economic Injury Disaster Loan (EIDL) program and the Paycheck Protection Program (PPP).”</p> <p>The new hire is expected to carry out the typical duties of a Fraud Section Trial Attorney as well as develop “expertise in detecting and prosecuting fraud in SBA loan programs, and in SBA loan program rules and regulations; and in bank fraud, wire fraud, wire fraud affecting a financial institution, money laundering, false statements, obstruction, and conspiracy offenses.” </p> <p>This posting comes as the Fraud Section, in conjunction with local U.S. Attorney’s Offices, continues to bring cases focused on fraud in the <a rel="noopener noreferrer" href="https://www.justice.gov/opa/pr/six-charged-connection-3-million-paycheck-protection-program-fraud-scheme" target="_blank">PPP loan program</a>. These recent announcements of <a rel="noopener noreferrer" href="https://www.justice.gov/opa/pr/tax-preparer-charged-covid-19-loan-fraud" target="_blank">PPP related prosecutions</a> note that the “Fraud Section leads the Department of Justice’s prosecution of fraud schemes that exploit the CARES Act. In the Months since the CARES Act was passed, Fraud Section Attorneys have prosecuted more than 100 defendants in more than 70 criminal cases.”</p> <p>The new announcement shows a continued commitment to CAF enforcement, and new threats to those that sought to profit off the government’s relief efforts targeting the pandemic. It is not yet clear whether this position is earmarked for an existing Fraud Section prosecutor (as is often the case with postings this specific) or whether they will seek expertise from outside the section. What is clear is that the DOJ’s commitment to enforcement in this area is considerable, and we can expect that commitment to be met with additional funding and resources that will likely result in significantly more prosecution of CAF fraudsters.</p>Fri, 19 Mar 2021 00:00:00 -0400{0DC383EE-5A40-449B-B6FF-5CA16E4A24E5}https://btlaw.com//en/insights/blogs/government-relations/2021/mcafee-cryptocurrency-team-members-indicted-for-pump-and-dump-schemesMcAfee Cryptocurrency Team Members Indicted for Pump and Dump Schemes<p>On March 5, 2021, the U.S. District Court for the Southern District of New York unsealed an indictment charging John McAfee, the founder of McAfee antivirus software company, along with the executive advisor of his cryptocurrency team, Jimmy Watson Jr. The pair face charges on seven counts including wire fraud, money laundering, and conspiracy to commit commodities and securities fraud by touting and scalping. Watson had been arrested in Texas the night before the indictment was announced, and McAfee remains detained in Spain awaiting extradition to the United States on tax fraud charges filed in October 2020. </p> <p>The indictment claims that McAfee and his team were involved in a number of fraudulent schemes including touting various cryptocurrencies over Twitter through false statements and then withdrawing profits after those statements caused the assets to increase in value. In many of these situations, McAfee had been compensated to endorse the cryptocurrencies, but his public statements did not mention this fact.  </p> <p>The indictment alleges that McAfee and his team were aware of their obligations to disclose their compensation. After bloggers made mention of his obligations, McAfee and his team used pseudonymous accounts to continue the activity. From December 2017 through October 2018, the complaint alleges McAfee and Watson used social media platforms to post misleading statements regarding initial coin offerings, cryptocurrencies to purchase, and other schemes to induce investors into purchasing these assets. The alleged scheme earned the team more than $13 million in profits. </p> <p>Small digital assets—like penny stocks—are particularly susceptible to price moves from fraudulent activity. They are thinly traded, their holdings are largely anonymous, and there is enough market excitement about cryptocurrency that well placed statement, especially by celebrities, can cause sufficient market activity to move prices quickly. Combining that with a social media platform that reaches thousands of potential market participants quickly and efficiently and you have the makings of what the Department of Justice has called “an age-old pump-and-dump scheme.”  </p> <p>The U.S. Government, including the Securities and Exchange Commission and the Commodities Futures Trading Commission, have warned investors about these schemes through documents such as The DAO Report and the SEC FinHub website, particularly with respect to celebrities. We will continue to monitor <em><a rel="noopener noreferrer" href="https://www.pacermonitor.com/public/case/38741819/Commodity_Futures_Trading_Commission_v_McAfee_et_al" target="_blank">Commodity Futures Trading Commission v. McAfee et al.</a></em> and <em><a rel="noopener noreferrer" href="https://www.justice.gov/usao-sdny/press-release/file/1374171/download" target="_blank">U.S.A v. McAfee et al.</a></em> as they develop.</p>Fri, 12 Mar 2021 00:00:00 -0500{05A6D54A-7D1C-4791-A6D5-629FA0217752}https://btlaw.com//en/insights/blogs/government-relations/2021/half-a-loaf-congress-extends-the-statute-of-limitations-on-some-sec-remediesHalf a Loaf: Congress Extends the Statute of Limitations on Some SEC Remedies<p>On January 1, Congress affirmed the authority of the Securities and Exchange Commission (SEC) to obtain disgorgement for violations of the federal securities laws when it voted to override President Trump’s veto and pass the National Defense Authorization Act for Fiscal Year 2021 (NDAA). </p> <p>Among other changes to the securities laws, the NDAA amends the Securities Exchange Act of 1934 to codify the SEC’s authority to seek disgorgement from persons who receive unjust enrichment. It also extends to ten years the statute of limitations applicable to disgorgement claims arising from violations of the anti-fraud provisions of the securities laws, including Section 10(b) of the Exchange Act and Section 17(a)(1) of the Securities Act of 1933. But while the new legislation formalizes certain aspects of the SEC’s disgorgement authority, it freezes, and in some cases scales back, the SEC’s ability to seek other remedies. </p> <p>Most obviously, the new legislation does not affect the statute of limitations applicable to civil monetary penalties, which the Supreme Court determined in its 2013 decision in <em>Gabelli v. Securities and Exchange Commission</em> to be five years from the date of the underlying violation. In other words, the NDAA does not extend the SEC’s ability to seek civil penalties to match the new ten-year limitations period established for certain disgorgement claims. And while the new legislation also grants the SEC ten years in which to seek “any equitable remedy, including for an injunction or for a bar, suspension, or cease and desist order,” that provision <em>restricts </em>the SEC’s historical authority to seek injunctive relief. Before the NDAA, the majority of federal appellate courts agreed that injunctive relief in SEC enforcement actions is not subject to any statute of limitations at all—the SEC was free to bring claims for injunctions decades after the underlying conduct occurred. No more.  </p> <p>Nor does the NDAA override the central holding of the Supreme Court’s recent decision in<em> Liu v. Securities and Exchange Commission</em>. In that case, the Court determined that “a disgorgement award that does not exceed a wrongdoer’s net profits and is awarded for victims is equitable relief permissible under” Section 21(d)(5) of the Exchange Act. The NDAA leaves that part of the <em>Liu </em>decision – which limited the SEC’s historical disgorgement authority – intact; a defendant’s legitimate business expenses still must be deducted from any disgorgement awarded in an SEC enforcement case.</p> <p>Finally, the NDAA only made changes to the Securities Exchange Act of 1934, which do not apply, for example, to claims for disgorgement or injunctions brought under the Commodity Exchange Act (CEA) – a statute administered by the Commodity Futures Trading Commission, not the SEC. This is odd because the long-running dispute over the correct limitations period in civil enforcement cases of both the SEC and CFTC varieties – including the one at issue in the Supreme Court’s recent decisions in this area (<em>Gabelli v. Securities and Exchange Commission</em> and <em>Kokesh v. Securities and Exchange Commission</em>) – did not focus on the substantive provisions of the securities laws or the CEA. Instead, it focused on 28 U.S.C. § 2462, which is a standalone, omnibus statute of limitations that applies to a broad range of federal actions including but not limited to those brought by the SEC and CFTC (like civil actions to enforce violations of the Clean Water Act, for example). </p> <p>It is, of course, impossible to say for sure why Congress decided to fix only part of the statute of limitations problem that has dogged civil enforcement agencies in recent years. What is clear, however, is that the NDAA’s changes to the Section 21(d) of the Exchange Act gave the SEC and many other civil regulatory agencies only half a loaf.</p>Thu, 14 Jan 2021 00:00:00 -0500{C59C6CFD-C2C3-4ABB-9343-94A18F200B30}https://btlaw.com//en/insights/blogs/government-relations/2020/when-a-foreign-corruption-case-is-not-a-foreign-corruption-caseWhen a Foreign Corruption Case Is Not a Foreign Corruption Case<p>Earlier this month, the U.S. Commodity Futures Trading Commission (CFTC) brought what it billed as a “historic enforcement action . . . tied to foreign corruption” against Vitol, Inc., a U.S.-based commodities trading firm doing business under the Vitol Group global corporate umbrella. The <a rel="noopener noreferrer" href="https://www.cftc.gov/PressRoom/PressReleases/8326-20" target="_blank">press release accompanying the settlement</a> also cited the CFTC’s March 6, 2019, advisory on self-reporting violations of the Commodity Exchange Act (CEA) “involving foreign corrupt practices.” </p> <p>In the Vitol settlement order itself, the Commission highlighted that “Vitol’s conduct during the Relevant Period involved corrupt payments (e.g., bribes and kickbacks) to employees and agents of certain state-owned entities (‘SOEs’) in Brazil, Ecuador, and Mexico,” which were “made . . . in exchange for improper preferential treatment and access to trades with the SOEs.”  </p> <p>From all of this, the reader could be forgiven for thinking that the CFTC has jurisdiction over foreign corrupt practices, as such, in the derivatives markets. But it does not. A close reading of the CFTC’s settlement order shows that Vitol was charged with violations of the CEA’s traditional anti-fraud and anti-manipulation provisions dressed up as “foreign corruption,” an allusion to the Foreign Corrupt Practices Act (FCPA) provisions found in Section 30A of the Securities Exchange Act of 1934. The CFTC, however, has no authority to enforce that statute. Instead, as the U.S. Securities and Exchange Commission’s website explains, “[t]he SEC and the Department of Justice are jointly responsible for enforcing the FCPA” — not the CFTC.    </p> <p>So why all the references to foreign corruption in the CFTC’s Vitol settlement order? Because it makes for interesting reading. Corruption cases often involve many of the same seamy elements you find in a detective story, and therefore generate press for an agency that historically has been associated with decidedly less seamy corn, soybeans and hogs. Such cases also allow the CFTC to appear to be expanding its regulatory remit to cover “foreign corruption” without, however, the need to first gain new statutory or regulatory authority.    </p> <p>But just because Vitol wasn’t really a foreign corruption case doesn’t mean it isn’t noteworthy. The settlement should put the derivatives world on notice that the CFTC will use its traditional anti-fraud and anti-manipulation authority in creative ways to police conduct worldwide if it has knock-on effects in U.S. derivatives markets — not just conduct that originates on U.S. soil. Again, the theories and statutory provisions the CFTC invoked in this settlement aren’t novel, but the overseas theater of operations is something of a departure for the agency. </p> <p>In addition, the Vitol settlement, which was the product of a joint investigation by the CFTC and the U.S. Department of Justice (DOJ), is important because it provides another example of cooperation between the CFTC and DOJ in an area that was not historically within the CFTC’s regulatory ambit. Conversely, market participants are now on notice that, even where foreign corruption impacts markets primarily regulated by the CFTC, the repercussions may go beyond the comparatively benign injunctions and civil penalties that are the usual result of CFTC enforcement actions. </p>Mon, 21 Dec 2020 00:00:00 -0500{DF4B6396-8A64-4DEA-A83A-0D8424CF9603}https://btlaw.com//en/insights/blogs/government-relations/2020/sec-again-highlights-risks-of-investing-in-chinese-securitiesSEC Again Highlights Risks of Investing in Chinese Securities<p>Last week the Securities and Exchange Commission’s Division of Corporation Finance continued its push for greater clarity in <a rel="noopener noreferrer" href="https://www.sec.gov/corpfin/disclosure-considerations-china-based-issuers" target="_blank">financial disclosures provided by China-based securities issuers</a>. In its <em>Disclosure Guidance: Topic No. 10</em>, CorpFin offered its “views regarding certain disclosure considerations for companies based in or with the majority of their operations in the People’s Republic of China.”</p> <p>The guidance focuses on “potential risks associated with investments in China-based Issuers,” and highlights the “related disclosure considerations that these issuers should consider as they seek to fulfill their disclosure obligations under the federal securities laws.” As with other SEC guidance on the subject, the new guidance stems from the SEC’s continuing concerns about its ability to impose its financial regulatory regime on China-based issuers and the increased risk of harm to U.S. investors that non-compliance entails. </p> <p>Among the many risks associated with investments in China-based issuers, the Division of Corporation Finance’s overarching concern has to do with the lack of transparency. According to the SEC’s guidance, “[o]ne of the most significant risks to high-quality, reliable disclosure and financial reporting by China-based Issuers results from current restrictions on the Public Company Accounting Oversight Board’s (‘PCAOB’) ability to inspect audit work and practices of PCAOB-registered public accounting firms in China and on the PCAOB’s ability to inspect audit work with respect to China-based Issuer audits by PCAOB-registered public accounting firms in Hong Kong.” </p> <p>The lack of transparency is the result of China’s refusal to provide the PCAOB access to inspect these accounting firms and their audits of China-based issuers. The guidance also notes that China has “restricted U.S. regulators’ access to information and limited regulators’ ability to investigate or pursue remedies with respect to China-based Issuers.” This, in turn, deprives investors of “a regulatory environment that fosters effective enforcement of U.S. federal securities laws.” </p> <p>CorpFin’s guidance also underscored the limited scope of investor recourse for wrongs committed by China-based issuers. “Legal claims, including federal securities law claims, against China-based Issuers, or their officers, directors, and gatekeepers, may be difficult or impossible for investors to pursue in U.S. courts. . . . Even if an investor obtains a judgment in a U.S. court, the investor may be unable to enforce such judgment, particularly in the case of a China-based Issuer, where the related assets or persons are typically located outside of the United States and in jurisdictions that may not recognize or enforce U.S. judgments.” </p> <p>Compounding this problem is the fact that China-based issuers may not even be properly organized under the laws of China. Instead, many nominally China-based issuers may be organized in non-Chinese jurisdictions with few shareholder protections, such as the Cayman Islands and British Virgin Islands. All of this serves to simultaneously increase opacity of ownership and dilute (or eliminate) investor protection. </p> <h3>Disclosure Considerations for China-Based Issuers</h3> <p>In an effort to mitigate some of the risks identified by the SEC Division of Corporation Finance, the guidance reminds China-based issuers of their obligation to “fully disclose material risks related to their operations in China,” including providing affirmative answers to the following questions: </p> <ul> <li>Does the company provide clear and prominent disclosure of PCAOB inspection limitations and lack of enforcement mechanisms, as well as the risks relating to the quality of the financial statements? </li> <li>Does the company use variable interest entities (or VIEs, entities established to circumvent Chinese laws prohibiting foreign ownership of certain Chinese companies) in its organizational structure? If so, does the company include sufficient disclosure about the related party transactions in the VIE structure and caution investors about the risks associated with the VIE structure employed in China? </li> <li>Does the company disclose risks relating to the regulatory environment in China, including risks related to a less developed legal system, which may result in inconsistent and unpredictable interpretation and enforcement of laws and regulations? </li> <li>Does the company provide risk disclosure about differing shareholder rights and remedies in the company’s country of organization or based on where a company’s operations are located? </li> </ul> <p>The SEC’s efforts to require greater transparency of public Chinese companies are, of course, laudable and necessary. The problem with the approach taken by the SEC so far is that it is based entirely on the cooperation of China-based issuers themselves. To date, there have been no real repercussions for non-compliance by those issuers. The SEC can initiate one-off enforcement actions once problems with a foreign issuer’s public disclosures have been discovered, but it has so far been reluctant to impose industry-wide preventative measures on foreign companies that don’t comply with the regulatory obligations applicable to domestic U.S. issuers. </p> <p>As discussed in CorpFin’s guidance, however, both houses of Congress have passed bills that could significantly change the U.S. approach. If enacted, the new rules could result in the delisting of companies that “use an auditor that the PCAOB is not able to inspect,” effectively shutting non-compliant foreign issuers out of U.S. securities markets. </p> <p>Similarly, the <a href="/en/insights/blogs/government-relations/2020/presidents-working-group-attempts-to-increase-transparency-in-chinese-investments" target="_blank">President’s Working Group on Financial Markets has recommended</a> “that U.S. exchanges require PCAOB access to work papers of the principal audit firm as a condition to initial and continued exchange listing.” These efforts could, as the new guidance notes, have significant adverse impacts on the China-based issuers to whom they would apply. But it seems to us that that’s the point – the half-measures employed by U.S. regulators so far don’t seem to have gotten the job done. </p>Thu, 03 Dec 2020 00:00:00 -0500{7977AABB-F180-4FDA-AAC2-2CB1DF0702AC}https://btlaw.com//en/insights/blogs/government-relations/2020/sec-steps-up-enforcement-for-unsuitable-sales-of-complex-etpsSEC Steps Up Enforcement for Unsuitable Sales of Complex ETPs<p>Over the past decade, exchange traded funds (ETF) have grown in popularity, with investors putting literally trillions of dollars into such funds. This growth has given rise to a new <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2019-190" target="_blank">SEC rule to modernize ETF regulation</a>—Rule 6c-11 of the Investment Company Act of 1940. In addition, the industry has undertaken <a rel="noopener noreferrer" href="https://www.ropesgray.com/en/newsroom/alerts/2020/07/Recent-ETF-Related-Developments" target="_blank">self-regulatory efforts</a> to ensure a fair and transparent market. Finally, as emphasized by an enforcement action announced on Friday, Nov. 13, 2020, the Securities and Exchange Commission’s Division of Enforcement’s Complex Financial Instruments Unit continues to pursue its <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2020-282" target="_blank">Exchange Traded Products Initiative</a>, which seeks to ensure that the risks of such investments are understood by investment advisers and investors alike. </p> <h2>What is an ETF? </h2> <p>A traditional ETF is a vehicle that holds a basket of securities or commodities across a discrete sector, giving investors a cost-effective way to gain diversified exposure to an industry, a region, or even market. An example of such a standard vehicle is BlackRock’s iShares S&P 500 Value ETF, which provides exposure to large-cap equities with value characteristics, like Berkshire Hathaway Inc. and Cisco Systems. </p> <p>Such vehicles typically perform like the underlying securities, moving up or down as market results would suggest. Of course, they are themselves exchange traded, so enthusiasm for the basket of investments or the performance of the ETF itself can result in a product trading at a higher or lower value than the net asset value of the assets within it may suggest. Ordinary ETFs are often held in investment portfolios just as traditional stocks might be—on a long-term basis, for long-term gain. </p> <p>But, this generalized umbrella covers a number of products that do not always perform in a predictable manner. As the Securities and Exchange Commission’s Office of Investor Education and Advocacy <a rel="noopener noreferrer" href="https://www.sec.gov/investor/alerts/etfs.pdf" target="_blank">puts it</a>, “[o]ther ETFs may have unusual investment objectives or use complex investment strategies that may be more difficult to understand and fit into an investor’s investment portfolio.” These types of ETFs include leveraged ETFs, inverse ETFs, exchange traded notes and even pooled vehicles investing in hard assets. Put simply, these products include complexities that are not always clear to investment professionals and, as a result, present market exposure that are likely to surprise ordinary investors.  </p> <h2>The VXX </h2> <p>One example of such complex products is the iPath S&P 500 VIX Short-Term Futures ETN (VXX), which was brought to the market originally in 2009. The VIX is a <a rel="noopener noreferrer" href="https://markets.cboe.com/tradable_products/vix/faqs/" target="_blank">volatility index offered by the Chicago Board Options Exchange</a>, or CBOE, that is intended to reflect the market’s estimate of the expected volatility of the S&P 500 index. In and of itself, a volatility option is a complex investment that can produce unexpected results—such as the <a rel="noopener noreferrer" href="https://www.wsj.com/articles/good-news-for-investors-who-bet-on-volatility-11588556549" target="_blank">February 2018 “volmageddon</a>.”</p> <p>But the <a rel="noopener noreferrer" href="https://sixfigureinvesting.com/2013/04/how-does-vxx-work/" target="_blank">VXX is even more complex</a> than the VIX itself, in that its value is based on an index that manages a hypothetical portfolio of the two VIX contracts closest to expiry—making it the derivative of a derivative. This causes the VXX to imperfectly track the VIX, due to a phenomenon known as “contango loss.” As a result, nearly 20 percent of the time, the VXX—which is expected to move inversely to the S&P 500—actually moves in the same direction of the S&P 500.  </p> <p>In other words, various components of the VXX make it risky in ways that the average investor—without experience with options concepts like contango and backwardation, for example—would not appreciate. As one commentator has stated, “[u]nless your timing is especially good you will lose money.” From the VXX’s own prospectus, it is clear that a VXX investment “may experience a significant decline in value over time, the risk of which increases the longer that the ETNs are held.” The timing around such investments is certainly sufficiently critical that a VXX investment is likely not appropriate for traditional buy-and-hold investors—as the <a rel="noopener noreferrer" href="https://www.sec.gov/litigation/admin/2020/34-90413.pdf" target="_blank">SEC’s recent enforcement action</a> makes plain.</p> <h2>SEC Enforcement for Unsuitable Sales of Complex ETPs</h2> <p>On Nov. 13, 2020, the SEC unveiled a settled <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2020-282" target="_blank">Order Instituting Administrative and Cease-and-Desist Proceedings</a> against five firms “for violations that related to unsuitable sales of complex exchange-traded products to retail investors.” Specifically, the <a rel="noopener noreferrer" href="https://www.sec.gov/litigation/admin/2020/34-90413.pdf" target="_blank">SEC alleged</a> that these firms failed “reasonably to supervise certain [representatives] who made unsuitable recommendations to its retail brokerage customers and advisory clients that they buy and hold for extended periods two complex exchange traded products that were intended for short-term holding.” The settlement resulted in the five firms paying a combined $3 million in fines, penalties and disgorgement. </p> <p>The gist of the SEC’s action is that these firms did not provide sufficient training to their representatives to ensure that they understood the nature of the products and their risks and made appropriate recommendations to their clients. In addition, the SEC alleges that the firms did not institute procedures to ensure that their representatives did not put retail customers into unsuitable investments. Finally, the SEC alleged that two of the firms failed to ensure their representatives did not recommend these time-sensitive exchange traded products as long term holdings.</p> <p>According to Stephanie Avakian, the director of the SEC’s Division of Enforcement, “[i]t is important for firms to put the appropriate protections in place to ensure complex products are properly evaluated and understood by their representatives. Failing to do so puts investors at risk.” Director Avakian emphasized that this area of law would remain a priority for the division. To this end, she said, “we will continue to look for sales that expose customers to unsuitable investments.”</p> <p>In light of the SEC’s heightened scrutiny, firms that recommend complex exchange traded products to their customers should consider implementing: </p> <ul> <li>Training for representatives about the risks of such products</li> <li>A procedure to ensure the representatives obtain and retain documentary evidence that such risks have been conveyed to the customer</li> <li>A procedure to ensure that customers have sufficient investment experience to understand the risks posed by such products</li> <li>Ongoing supervision to provide reasonable assurance that the procedures are being followed</li> </ul>Wed, 18 Nov 2020 00:00:00 -0500{6E0A9813-A6A2-4041-A0CC-BA81D83EB055}https://btlaw.com//en/insights/blogs/government-relations/2020/cftc-provides-guidance-on-cooperation-in-enforcement-actionsCFTC Provides Guidance on Cooperation in Enforcement Actions<p>The Commodity Futures Trading Commission (CFTC) issued a memorandum on October 29, 2020, intended to provide guidance to the staff of the CFTC’s Enforcement Division on “recommending the <a rel="noopener noreferrer" href="https://www.cftc.gov/PressRoom/PressReleases/8296-20" target="_blank">recognition of a respondent’s cooperation, self-reporting, and remediation</a>” in CFTC enforcement orders. The aim of the memorandum is “to provide transparency and clarity regarding when and how the Division will recommend that these assessments be reflected and recognized in [CFTC] enforcement orders” – and nothing more. </p> <p>The guidance, which will be binding on the staff of the CFTC Enforcement Division going forward, establishes and defines four different levels of cooperation in CFTC enforcement cases. For each level, the guidance also provides specific language that the enforcement staff will be required to include in orders arising from cases at that level of cooperation.   </p> <h2>No self-reporting, cooperation or remediation</h2> <p>The first level of cooperation involves cases in which a respondent in a CFTC enforcement action “has not self-reported, cooperated with [the] Division’s investigation, or remediated in accordance with” the CFTC’s past guidance on these subjects. In such cases, “the Division will not recommend that the Commission’s enforcement order publicly recognize self-reporting, cooperation, or remediation,” which “indicates that the respondent did not cooperate in a manner that materially advanced the Division’s investigation or otherwise met the factors set out in” the CFTC’s past guidance. </p> <h2>No self-reporting, but cognizable cooperation or remediation that warrant recognition but not a recommended reduction in penalty</h2> <p>The second level of cooperation involves cases in which the CFTC will recognize “a non-self-reporting respondent’s cooperation or remediation in the Commission enforcement order without a recommendation that the cooperation or remediation be reflected in the form of a reduced penalty.” To qualify for level two treatment, “the respondent will have [to have] satisfied one or more of the factors set out in the [the CFTC’s prior guidance], but the cooperation would not have materially assisted the Division’s investigation in a manner required to warrant a recommended reduction in penalty.” The CFTC noted, however, that “it will be insufficient to warrant recognition in this context [i.e., level two] if the respondent has merely done what is required by law.”   </p> <h2>No self-reporting, but substantial cooperation or remediation resulting in a reduced penalty  </h2> <p>The third level of cooperation involves cases in which “a respondent will have provided a level of cooperation that was substantial, and that materially advanced the Division’s investigation in accordance with the [CFTC’s past guidance], and/or engaged in substantial remediation to address the misconduct and materially develop or strengthen related internal controls.”   </p> <h2>Self-reporting, substantial cooperation and remediation resulting in a substantially reduced penalty</h2> <p>The fourth level of cooperation involves cases in which “a respondent has self-reported, substantially cooperated in a manner that materially advanced the Division’s investigation, and remediated in accordance with the [CFTC’s past guidance],” in which cases “the Division will recommend the most significant reduction in penalty to the Commission.”   </p> <h2>Room for Future Guidance  </h2> <p>Despite the new hierarchy and retooled language for enforcement orders, however, the recent guidance “does not change Division practice with respect to how the Division will evaluate self-reporting, cooperation, or remediation, or how the Division will consider reductions in penalties in connection with self-reporting, cooperation, or remediation” set forth in previous CFTC guidance. In other words, the new guidance provides no new metrics by which a cooperating respondent can measure the value of the cooperation he or she gives – a notable shortcoming of the previous guidance on cooperation credit in CFTC enforcement actions and the most important (perhaps only) purpose of guidance of this kind. To the contrary, the new guidance seems to do little more than establish unnecessarily fussy requirements for memorializing facts that have no measurable bearing on a respondent’s liability in CFTC enforcement cases. Here is hoping that, in future iterations of the guidance, the CFTC will indicate exactly how much cooperation – at any level – is worth to respondents trying to decide whether it makes sense to cooperate with the CFTC.  </p>Wed, 04 Nov 2020 00:00:00 -0500{2EB44CDC-B921-48E9-968C-C34A5187F64F}https://btlaw.com//en/insights/blogs/government-relations/2020/uk-serious-fraud-office-releases-guidance-on-deferred-prosecution-agreementsUK Serious Fraud Office Releases Guidance on Deferred Prosecution Agreements<p>Since 2014, a deferred prosecution agreement (DPA) has been an option for the United Kingdom’s Serious Fraud Office (SFO) in dealing with criminal misconduct by a company. While entering into a DPA does not require a company to admit guilt, the company must admit misconduct and fulfill other obligations imposed on it under the terms of the DPA. In exchange, the SFO will defer prosecution of the company for an agreed-upon period of time.</p> <p>The SFO recently made its internal guidance on DPAs available to the public. As a part of SFO’s Operational Handbook, it is “for internal guidance only and is published on the SFO’s website solely in the interests of transparency. It is not published for the purpose of providing legal advice and should not therefore be relied on as the basis for any legal advice or decision.”</p> <p>Company management and counsel for companies that do business in the UK, and therefore might face prosecution by the SFO, would be remiss to not take this opportunity to become familiar with the <a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.sfo.gov.uk/publications/guidance-policy-and-protocols/sfo-operational-handbook/deferred-prosecution-agreements/" target="_blank">UK Serious Fraud Office’s guidance on deferred prosecution agreements</a>. </p> <p>In order to give the reader a better idea of the scope of the SFO’s DPA guidance, the following list of parts of the guidance is from the SFO’s website:</p> <p style="margin-left: 40px;"><strong>Evidential and Public Interest Tests</strong><br /> “This section outlines the two-limb evidential test and public interest considerations that need to be met before entering into a DPA, as set out in the DPA Code.”</p> <p style="margin-left: 40px;"><strong>DPA Negotiation Process</strong><br /> “This section deals with the letter of invitation, and agreeing the terms of negotiations or undertakings which includes issues such as confidentiality and information sharing. It also covers managing negotiations and tactical considerations around the negotiation team and use of counsel.”</p> <p style="margin-left: 40px;"><strong>Parallel Investigations</strong><br /> “This section addresses the possibility of linked concurrent investigations and important considerations such as cross-jurisdictional admissibility and disclosure issues and other practical considerations.”</p> <p style="margin-left: 40px;"><strong>Invitation to Enter DPA Negotiations</strong><br /> “This section deals with internal process around the decision making and who to address the letter to.”</p> <p style="margin-left: 40px;"><strong>Terms of Negotiations</strong><br /> “This section deals with the confidentiality undertaking and use of material and information provided by both parties during negotiations.”</p> <p style="margin-left: 40px;"><strong>DPA Disclosure</strong><br /> “This section deals with disclosure obligations for DPAs that are distinct to those applicable to prosecutions under the Criminal Procedure and Investigations Act 1996 (“CPIA”). It also covers the prosecutor’s and investigator’s declarations about the investigation and material provided.”</p> <p style="margin-left: 40px;"><strong>Statement of Facts and Agreement</strong><br /> “This sections includes templates and guidance on drafting the necessary documents that are required for the Court application and will usually be published. The first is the statement of facts. This contains a detailed factual explanation of the underlying conduct. The second is the agreement itself that will contain the agreed terms.”</p> <p style="margin-left: 40px;"><strong>DPA Terms</strong><br /> “This section explores potential standard DPA terms. This includes the length of the DPA, co-operation, compliance measures and reporting, and warranties.”</p> <p style="margin-left: 40px;"><strong>Financial Penalty</strong><br /> “This section discusses compensation, disgorgement, calculation of the financial penalty, adjustment of fine, costs, instalments and interest. It also addresses the need for obtaining expert and victim statement(s) when including a compensation term.”</p> <p>The guidance contains a section that addresses “Court Application” and “outlines the content and format of the preliminary and final applications that will need to be submitted in advance to the court. It also deals with the court listing process, the relationship between the preliminary and final hearing, the considerations and expectations for private and public hearings, and publication and press strategy.” There is also an “After a DPA” section that “deals with monitoring compliance, breach, variation, discontinuance and disclosure requests from third parties.”</p> <p>By way of illustrating the scope of the DPA guidance, the “Evidential and Public Interest Tests” section says that both the evidential test and public interest test must be satisfied before there is a DPA, and provides an explanation of each test. For example, the public interest factors include, but are not limited to: </p> <ol style="margin-left: 40px;"> <li>company’s, directors’ and/or majority shareholders’ history of similar conduct (criminal, civil and regulatory enforcement actions)</li> <li>whether the alleged conduct is part of the company’s established business practices</li> <li>whether the conduct took place when the company did not have or had an ineffective compliance program</li> <li>whether the company failed to notify authorities of the wrongdoing within a reasonable time after the alleged misconduct was discovered by the company</li> <li>whether the alleged misconduct was reported before it was verified or the report was made knowing or believing it was incomplete or inaccurate</li> <li>the level of direct and indirect harm  to the victims or if the misconduct had a “substantial adverse impact to the integrity or confidence of markets, local or nationa governments.”</li> </ol> <p>A good portion of the above may sound familiar to those who have dealt with various parts of the Justice Manual published by the U.S. Department of Justice. For example, in DOJ’s Justice Manual, the <a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.justice.gov/jm/jm-9-28000-principles-federal-prosecution-business-organizations#9-28.200" target="_blank">General Considerations of Corporate Liability</a> state that prosecutors should consider, among other things:</p> <ol style="margin-left: 40px;"> <li>the nature and seriousness of the offense, including the risk of harm to the public, and applicable policies and priorities, if any, governing the prosecution of corporations for particular categories of crime</li> <li>the pervasiveness of wrongdoing within the corporation, including the complicity in, or the condoning of, the wrongdoing by corporate management</li> <li>the corporation’s history of similar misconduct, including prior criminal, civil, and regulatory enforcement actions against it</li> <li>the corporation’s willingness to cooperate, including as to potential wrongdoing by its agents</li> <li>the adequacy and effectiveness of the corporation’s compliance program at the time of the offense, as well as at the time of a charging decision</li> <li>the corporation’s timely and voluntary disclosure of wrongdoing</li> </ol> <p>For analysis on a specific case in which a DPA was used, please see our prior legal alert, <a href="/en/insights/alerts/2020/deferred-prosecution-agreement-for-uk-business-includes-required-corporate-renewal-and-reviewers" target="_blank">Deferred Prosecution Agreement For UK Business Includes Required ‘Corporate Renewal’ And Reviewers</a>.</p>Tue, 03 Nov 2020 00:00:00 -0500{D0F3B111-D24C-4B0D-83FC-4A268CAAD306}https://btlaw.com//en/insights/blogs/government-relations/2020/does-michigan-require-two-party-consent-to-record-a-private-conversationDoes Michigan Require Two-Party Consent to Record a Private Conversation?<p>For decades, Michigan has been referred to as a “one-party” consent state for eavesdropping purposes. This means that it is not illegal to record a private conversation if the person recording is a party to that conversation, even without the consent of the other party. However, a recent ruling from the U.S. District Court for the Eastern District of Michigan calls that interpretation into question. </p> <p>In <em>AFT Michigan v. Project Veritas</em>, the Michigan district court held that Michigan’s eavesdropping statute, MCL 750.539c, requires all parties in a private conversation – not just one party – to consent to recording it. In its ruling, the district court predicted that despite the Michigan Court of Appeals’ decisions to the contrary, the Michigan Supreme Court would interpret Michigan’s eavesdropping statute to require two-party consent.</p> <p>Following the district court’s ruling, Michigan Attorney General Dana Nessel intervened in the case and asked the district court to certify the issue of whether Michigan is a one- or two-party consent state to the Michigan Supreme Court. Recognizing that its interpretation was an “unsettled issue of State law,” the district court granted the request. While the Michigan Supreme Court has discretion to deny ruling on the certified question, its input would provide clarity on an issue that has wide-ranging impacts for businesses and individuals alike.</p> <p>For more analysis on this ruling: <a href="/en/insights/alerts/2020/michigan-supreme-court-to-clarify-interpretation-of-michigans-eavesdropping-statute" target="_blank">Michigan Supreme Court To Clarity Interpretation of Michigan’s Eavesdropping Statute</a>.</p>Thu, 08 Oct 2020 00:00:00 -0400{97CCD735-6ADF-4C20-A964-0B989CF82354}https://btlaw.com//en/insights/blogs/government-relations/2020/analyzing-price-gouging-under-the-federal-defense-production-actAnalyzing Price Gouging Under the Federal Defense Production Act<p>This spring, at the onset of the COVID-19 pandemic, President Trump issued Executive Order 13910 to prevent the hoarding of health and medical resources necessary to respond to the pandemic in the U.S. Issued on March 23, the executive order delegated this duty to the Department of Health and Human Services (HHS), authority under section 102 of the Defense Production Act (DPA). To effectuate the executive order, HHS published a notice on March 30 in which it designated specific <a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.hhs.gov/sites/default/files/hhs-dfa-notice-of-scarce-materials-for-hoarding-prevention.pdf" target="_blank">categories of medical and health resources</a> as “scarce” or “threatened” within the meaning of the DPA. The equipment deemed scarce or threatened in the notice includes:</p> <ul> <li>Respirators, including those designated as N-95 and others</li> <li>Ventilators, both portable and stationary</li> <li>Any drug products containing chloroquine phosphate or hydroxychloroquine HCl, an anti-malarial drug</li> <li>Sterilization services for medical devices and sterilization devices</li> <li>Disinfecting devices</li> <li>Medical gowns or apparel</li> <li>Personal Protective Equipment (PPE) coveralls, e.g. Tyvek suits</li> <li>PPE face masks, surgical masks, and face shields</li> <li>PPE gloves or surgical gloves</li> </ul> <p>Under § 4512 of the DPA, it is now unlawful for any individual or company to accumulate these designated materials at levels “in excess of the reasonable demands of business, personal, or home consumption” or “for the purpose of resale at prices in excess of prevailing market prices.” Any violators of the price gouging and hoarding provisions of the DPA are subject to potential criminal liability. </p> <p>“Any person who willfully performs any act prohibited, or willfully fails to perform any act required, by the provisions of this subchapter or any rule, regulation, or order thereunder, shall, upon conviction, be fined not more than $10,000 or imprisoned for not more than one year, or both.” <a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.law.cornell.edu/uscode/text/50/4512" target="_blank">50 U.S. Code § 4513</a>.</p> <p>Additionally, the DOJ has charged defendants in one recent case with Conspiracy to Violate the DPA under <a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.govinfo.gov/content/pkg/USCODE-2013-title18/pdf/USCODE-2013-title18-partI-chap19-sec371.pdf" target="_blank">18 U.S. Code § 371</a>, which states:  “If two or more persons conspire either to commit any offense against the United States, or to defraud the United States, or any agency thereof in any manner or for any purpose, and one or more of such persons do any act to effect the object of the conspiracy, each shall be fined under this title or imprisoned not more than five years, or both.”  The maximum fine under <a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.govinfo.gov/content/pkg/USCODE-2013-title18/pdf/USCODE-2013-title18-partII-chap227-subchapC-sec3571.pdf" target="_blank">18 U.S. Code § 3571</a> is $250,000. </p> <h2>Some Details Remain Unclear</h2> <p>Most state price gouging laws focus on the price charged and provide specific benchmarks for what triggers price gouging. But the DPA does not provide this type of well-defined guidance. The DPA instead prohibits “accumulation” as a triggering condition for price gouging liability, and bans “prices in excess of prevailing market prices.” The DPA does not define many of its key terms, including “accumulation,” “in excess of reasonable demands,” or “prevailing market prices.” It’s unclear from the text of the statute whether the “prevailing market price” refers to prices before the present emergency or in comparison to present prices. In addition, there is extremely little case law discussing the price gouging portion of the DPA. </p> <p>According to a <a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.natlawreview.com/article/pricing-controls-under-defense-production-act" target="_blank">recent National Law Review Article</a>, “[u]ntil courts have dealt more with the price gouging provisions of the DPA and defined some of the key terms, state law may provide the closest analogue to shed light on unanswered DPA questions. While ‘excess’ may not be defined, existing state laws provide for price increases between 10% and 30%, and this range provides a reasonable starting point for any pricing decisions.”  </p> <p>The article also highlights best practices for confronting DPA compliance in the current environment, including “determining whether your goods or services are covered, making sure to track and document pricing and cost information as well reasons for any price movements, and making efforts to ensure that prices do not exceed any conservative benchmarks.”</p> <p>It is clear that the DPA is broad in its enforcement reach. In addition to going after the primary alleged actor, the DPA reaches others associated with assisting the primary actor. The DPA prohibits any person from:</p> <ul> <li>“solicit[ing], influenc[ing] or permit[ting] another person to perform any act prohibited by . . . the Defense Production Act;</li> <li>conspire[ing] or act[ing] in concert with any other person to perform any act prohibited by . . . the Defense Production Act; or</li> <li>deliver[ing] any item if the person knows or has reason to believe that the item will be accepted, redelivered, held, or used in violation of the Defense Production Act.” <a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.govinfo.gov/content/pkg/CFR-2020-title15-vol2/pdf/CFR-2020-title15-vol2-sec700-74.pdf" target="_blank">15 CFR § 700.74</a>.</li> </ul> <p>This broad reach could potentially subject an individual assisting a company with the sale of designated scarce or threatened materials in a manner that violates the DPA to the same criminal liability as the seller. </p> <h2>Enforcement is Fast and Fierce</h2> <p>The Department of Justice (DOJ) and HHS are actively enforcing the DPA against alleged price gougers during the current pandemic. To enforce the DPA, the DOJ formed a COVID-19 Hoarding and Price Gouging Task Force. The DOJ has already began <a rel="noopener noreferrer" href="https://www.justice.gov/opa/pr/department-justice-and-department-health-and-human-services-partner-distribute-more-half" target="_blank">confiscating medical equipment</a> that has been deemed scarce or threatened. At the end of March, the FBI seized more than half a million PPE supplies from alleged price gougers as part of an enforcement operation. The supplies were then redistributed by HHS to frontline medical workers in New Jersey and New York. </p> <p>According to the DOJ, “many such investigations are underway” and “[i]f you are amassing critical medical equipment for the purpose of selling it at exorbitant prices, you can expect a knock at your door.” The DOJ issued a stern warning that “Our FBI agents and other law enforcement agencies are tracking down every tip and lead they get, and are devoting massive federal resources to this effort. All individuals and companies hoarding any of these critical supplies, or selling them at well above market prices, are hereby warned they should turn them over to local authorities or the federal government now or risk prompt seizure by the federal government.”</p> <p>The recent enforcement actions by the DOJ provide some guidance on how the DPA is applied to the current pandemic environment. So far, the DOJ has filed criminal complaints in four cases (all in either the Eastern or Southern Districts of New York) bringing charges under the DPA for price gouging. In the first case filed by the DOJ for COVID-19 related price-gouging, criminal charges were brought against a defendant for allegedly amassing and selling large quantities of PPE and masks at a <a rel="noopener noreferrer" href="https://www.justice.gov/usao-edny/pr/long-island-man-charged-under-defense-production-act-hoarding-and-price-gouging-scarc-0" target="_blank">more than 1,300 percent markup</a>. The subsequent instances each involved federal prosecutors filing criminal charges against companies and individuals for either <a rel="noopener noreferrer" href="https://www.justice.gov/usao-sdny/pr/licensed-pharmacist-charged-hoarding-and-price-gouging-n95-masks-violation-defense" target="_blank">overcharging</a> or <a rel="noopener noreferrer" href="https://www.justice.gov/usao-edny/pr/two-individuals-arrested-conspiring-violate-defense-production-act" target="_blank">attempting to overcharge</a> the federal government for PPE (including masks) or defrauding the federal government with offers to sell equipment that the company<a rel="noopener noreferrer" href="https://www.justice.gov/usao-sdny/pr/new-jersey-man-arrested-45-million-scheme-defraud-and-price-gouge-new-york-city-during" target="_blank"> did not actually have</a>. The alleged margins in these cases ranged from approximately 50 percent to 400 percent. </p> <p>In addition to the potential criminal liability, there is also a significant risk of civil liability to any individual engaging in potential price gouging at this time. Most states have a <a rel="noopener noreferrer" href="https://www.11alive.com/article/news/health/coronavirus/georgia-attorney-general-weighs-in-on-mask-markups/85-46c12b11-316a-4731-adcc-27419fd83c1b" target="_blank">price gouging statute</a> and state attorney generals are <a rel="noopener noreferrer" href="https://ag.ny.gov/press-release/2020/ag-james-price-gouging-will-not-be-tolerated" target="_blank">actively enforcing the statutes</a> to the extent they are able. <a rel="noopener noreferrer" href="https://www.usatoday.com/story/money/2020/04/11/manalapan-company-tried-sell-respirators-600-times-list-price-3-m-lawsuit/2975879001/" target="_blank">Manufacturers of PPE</a> have also started to target price gougers with civil lawsuits.</p> <h2>Tips to Tread Carefully</h2> <p>With the heightened scrutiny surrounding the sale of PPE products, practical considerations for any company selling products currently considered “scarce” or “threatened” should include:</p> <ul> <li>Try to avoid raising margins on products covered, but also remember that under some state statutes, even keeping margins the same could still potentially violate the definition of the state’s price gouging statute.</li> <li>Carefully document the cost basis for price increases, including whether it is necessary to offset an increase in the cost of manufacturing, acquiring, distributing, or selling the product. It will also be important to maintain records of past cost information showing the company’s historic pricing practices for the product.</li> <li>Examine relevant state price gouging regulations as well. There is a wide disparity amongst different jurisdictions regarding price gouging with variations on products covered, what constitutes price gouging, and enforcement mechanisms.</li> <li>Be aware of the risk of internal and external whistleblowers. The federal government and numerous states have established hotlines to report perceived price gouging.</li> </ul> <p>Overall, selling health and medical resources for an increased profit during the current pandemic is a high risk activity. It could expose any individual to a high risk of liability, and if the sale is subject to the DPA, the alleged price gouger and those assisting are potentially subject to criminal liability. There is still significant uncertainty surrounding the application of the DPA and any individual or business should be cautious of the potential risks.</p>Tue, 08 Sep 2020 00:00:00 -0400{14D32F0F-EEF8-4086-8E41-E14079FBE2A3}https://btlaw.com//en/insights/blogs/government-relations/2020/presidents-working-group-attempts-to-increase-transparency-in-chinese-investmentsPresident’s Working Group Attempts to Increase Transparency in Chinese Investments<p>After a long-running dispute with the Chinese government over whether the Public Company Accounting Oversight Board (PCAOB) can inspect the Chinese accounting firms that audit companies with stock trading in United States public markets, the President’s Working Group on Financial Markets (PWG) recently announced that Chinese companies will either have to get a transparent auditor or be delisted from United States markets. The PWG’s recommendations – which the administration has indicated the Securities and Exchange Commission will adopt, making them requirements – are intended to ensure that Chinese accounting firms are meeting audit standards equivalent to those in the United States under the Sarbanes-Oxley Act of 2002. These standards are intended to drive transparency in financial disclosures and to expose risks in investing in Chinese companies (as well as in companies from other countries with similar limitations on transparency).</p> <p>It has long been recognized that investors in Chinese companies were at a potential disadvantage insofar as the Chinese government views much of the behind-the-scenes work <a rel="noopener noreferrer" href="https://www.complianceweek.com/no-clear-solutions-in-audit-standoff-with-china/4058.article" target="_blank">necessary to audit Chinese companies</a> to be state secrets. In 2013, China and the United States reached an <a rel="noopener noreferrer" href="https://pcaobus.org/News/Releases/Pages/05202013_ChinaMOU.aspx" target="_blank">agreement by which the PCAOB</a> could obtain audit work papers for accounting firms it was investigating. However, this “diplomatic solution” <a rel="noopener noreferrer" href="https://www.reuters.com/article/us-usa-china-audits-idCAKCN25235B" target="_blank">never afforded the PCAOB</a> the type of access it needed.</p> <p>Indeed, as the PWG commented <a rel="noopener noreferrer" href="https://home.treasury.gov/system/files/136/PWG-Report-on-Protecting-United-States-Investors-from-Significant-Risks-from-Chinese-Companies.pdf" target="_blank">in its July 24, 2020, report</a> (disclosed to the public on Aug. 6, 2020), “[t]he PCAOB has been unable to fulfill its statutory mandate under Sarbanes-Oxley to inspect audit firms in [non-cooperating jurisdictions], including those in China, potentially exposing investors in U.S. capital markets to significant risks. The PCAOB has been unable to fulfill this mandate meaningfully with respect to audit firms based in China for more than a decade.”   </p> <p>Now, the PWG has recommended, companies that are publicly listed in the United States must either ensure their auditor can and does provide audit work papers on demand to the PCAOB or provide “a co-audit from an audit firm with comparable resources and experience where the PCAOB determines it has sufficient access to audit work papers and practices to conduct an appropriate inspection of the co-audit firm.” Currently listed companies will have until Jan. 1, 2022, to meet these strictures. For newly listed companies, the restrictions would become immediately effective.  </p> <p>In addition to this requirement, the PWG recommended ensuring additional disclosures intended to protect United States investors from risks attendant to investing in countries like China. These include enhanced risk disclosures from issuers of stock on United States markets and funds registered in the United States, enhanced due diligence by funds that track indexes into index providers, and issuing guidance to investment advisers offering investments in non-cooperating jurisdictions like China. These recommendations address many of the risks discussed at a recent <a href="/en/insights/blogs/government-relations/2020/sec-hosts-roundtable-to-discuss-risks-associated-with-us-listed-chinese-companies" target="_blank">public forum hosted by the Securities and Exchange Commission</a>, as discussed in an earlier post on this blog. </p> <p>It is too early to say how the PWG’s recommendations will impact investors in the United States or foreign companies that trade in United States public markets, but the recommendations certainly appear likely to increase transparency.</p>Wed, 02 Sep 2020 00:00:00 -0400{E3DC93DD-150D-4A6A-9D34-8252309449D7}https://btlaw.com//en/insights/blogs/government-relations/2020/sec-highlights-covid-related-risks-facing-broker-dealers-and-investment-advisersSEC Highlights COVID-Related Risks Facing Broker-Dealers and Investment Advisers<p>The U.S. Securities and Exchange Commission’s Office of Compliance Inspections and Examinations (OCIE) recently issued a risk alert addressing “Select COVID-19 Compliance Risks and Considerations for Broker-Dealers and Investment Advisers.” The alert is intended to share OCIE’s observations and recommendations in a number of areas of financial services compliance that, in the staff’s view, require special attention due to the current pandemic: protection of investors’ assets; supervision of personnel; practices relating to fees, expenses, and financial transactions; investment fraud; business continuity; and the protection of investor and other sensitive information.</p> <h2>Protection of Investors’ Assets</h2> <p>Citing firms’ obligation under Investment Advisers Act Rule 206(4)-2 to safeguard customer assets, the risk alert suggests that firms “consider disclosing to investors that checks or assets mailed to the Firm’s office location may experience delays in processing until personnel are able to access the mail or deliveries at that office location.” It goes on to say, “OCIE also encourages Firms to review and make any necessary changes to their policies and procedures around disbursements to investors, including where investors are taking unusual or unscheduled withdrawals from their accounts, particularly COVID-19 related distributions from their retirement accounts.” Specifically, the risk alert encourages firms to “[i]mplement[] additional steps to validate the identity of the investor and the authenticity of disbursement instructions, including whether the person is authorized to make the request and bank account names and numbers are accurate,” and to “[r]ecommend[] that each investor has a trusted contact person in place, particularly for seniors and other vulnerable investors.” </p> <h2>Supervision of Personnel</h2> <p>Rule 206(4)-7 of the Advisers Act requires firms to maintain policies and procedures that are reasonably designed to prevent violations of the Advisers Act, including policies and procedures related to firms’ supervisory and compliance programs. Changes necessitated by the COVID-19 pandemic, “such as shifting to Firm-wide telework conducted from dispersed remote locations, dealing with significant market volatility and related issues, and responding to operational, technological, and other challenges,” may require parallel changes to relevant policies and procedures. OCIE suggests that “Firms may wish to modify their practices to address” the following changes: </p> <ul> <li>Supervisors not having the same level of oversight and interaction with supervised persons when they are working remotely</li> <li>Supervised persons making securities recommendations in market sectors that have experienced greater volatility or may have heightened risks for fraud</li> <li>The impact of limited on-site due diligence reviews and other resource constraints associated with reviewing of third-party managers, investments, and portfolio holding companies</li> <li>Communications or transactions occurring outside of the firms’ systems due to personnel working from remote locations and using personal devices</li> <li>Remote oversight of trading, including reviews of affiliated, cross, and aberrational trading, particularly in high volume investments</li> <li>The inability to perform the same level of diligence during background checks when onboarding personnel – such as obtaining fingerprint information and completing required Form U4 verifications – or to have personnel take requisite examinations</li> </ul> <h2>Practices Relating to Fees, Expenses and Financial Transactions</h2> <p>OCIE’s COVID-19 risk alert also reminds firms of the fiduciary duty they owe to their clients, and highlights potential breaches of that duty related to conflicts of interest and mistakes in calculating fees collected by firms. Specifically, OCIE observed that “the current situation may have increased the potential for misconduct,” including recommending rollovers or other changes to retirement plans, borrowing money from clients, and recommendations that clients invest in higher-cost investments that generate compensation for supervised persons. </p> <p>In addition, the risk alert suggests that there is currently heightened risk of erroneous fee calculations, including advisory fee calculation errors, inaccurate calculations of tiered fees, and failures to refund prepaid fees for terminated accounts. The risk alert advises firms to “review their fees and expenses policies and procedures and consider enhancing their compliance monitoring” to mitigate these risks, and in general admonishes firms to be cognizant of risks arising from the current pandemic “when conducting due diligence on investments and in determining that the investments are in the best interests of investors.”  </p> <h2>Business Continuity</h2> <p>As part of their obligation to maintain policies and procedures that are reasonably designed to prevent violations of the Advisers Act, firms are required to create business continuity plans. “Due to the pandemic, many Firms have shifted to predominantly operating from remote sites, and these transitions may raise compliance issues and other risks that could impact protracted remote operations” which, in turn, could weaken existing business continuity measures. “For example, supervised persons may need to take on new or expanded roles in order to maintain business operations.” </p> <p>In addition, “Firms’ security and support for facilities and remote sites may need to be modified or enhanced. . . . If relevant practices and approaches are not addressed in business continuity plans and/or Firms do not have built-in redundancies for key operations and key person succession plans, mission critical services to investors may be at risk.” </p> <p>The risk alert “encourages Firms to review their continuity plans to address these matters, make changes to compliance policies and procedures, and provide disclosures to investors if [the Firms’] operations are materially impacted, as appropriate.” </p> <h2>Protection of Investor and Other Sensitive Information</h2> <p>Finally, OCIE’s COVID-19 risk alert reminds firms of their “obligation to protect investors’ personally identifiable information” under the Safeguards Rule of SEC Regulation S-P, especially while firm employees are communicating through videoconference or similar electronic means.  Of particular concern to the staff is remote access to networks and the use of web-based applications, increased use of personally-owned devices, and “changes in controls over physical records, such as sensitive documents printed at remote locations and the absence of personnel at Firms’ offices.” <br /> In addition, the risk alert cites increased opportunities for “phishing and other means to improperly access systems and accounts” due to these changes. “OCIE recommends that Firms pay particular attention to the risks regarding access to systems, investor data protection, and cybersecurity,” and “assess their policies and procedures” to account for these new risks.  </p> <p>Many of the observations and recommendations included in OCIE’s risk alert were equally relevant to pre-COVID-19 financial markets, and many simply reflect common sense compliance practice. Nonetheless, broker-dealers and investment advisers should view the risk alert as a summary of the compliance issues uppermost in the minds of OCIE’s senior staff, and as a punch list for line OCIE examiners in the next OCIE exam cycle.  </p>Mon, 31 Aug 2020 00:00:00 -0400{7C5634E0-0503-4CAB-98E2-B027A31014A9}https://btlaw.com//en/insights/blogs/government-relations/2020/dojs-first-fcpa-opinion-release-in-six-years-highlights-long-standing-principlesDOJ’s First FCPA Opinion Release in Six Years Highlights Long-Standing Principles<p>The Department of Justice’s <a rel="noopener noreferrer" href="https://www.justice.gov/criminal-fraud/file/1304941/download" target="_blank">first Foreign Corrupt Practices Act opinion procedure release since 2014</a> provides insight into the DOJ’s likely treatment of a proposed payment to a foreign subsidiary of a foreign investment bank, where that subsidiary is majority-owned by a foreign government. The Aug. 14 release confirms that even where the facts are somewhat complicated, basic FCPA principles apply and the payment would not lead to enforcement under the FCPA. The release serves both as a reminder of some of the basic components of the FCPA and that guidance is available to the public on FCPA issues through the DOJ’s opinion release program. </p> <p>The opinion release process allows any requestor that qualifies as an issuer or domestic concern under the FCPA to request an opinion of the U.S. attorney general regarding whether specific (not hypothetical) conduct would conform with the DOJ’s interpretation and enforcement policy around the anti-bribery provisions of the FCPA. The process can be long and involved; the request leading to the Aug. 14 guidance was originally submitted on Nov. 5, 2019 and involved five separate submissions of information to the DOJ. The opinion release is only binding on the requestor and it is dependent upon the submission of all relevant and accurate information by the requestor. Nevertheless, opinion procedure releases assist both the requestor and other entities in the market who may be looking for guidance on the DOJ’s likely treatment of a situation with the potential to implicate the FCPA. The DOJ maintains an index of <a rel="noopener noreferrer" href="https://www.justice.gov/criminal-fraud/opinion-releases-index" target="_blank">all FCPA opinion releases by topic</a>, including links to each opinion.</p> <p>The Aug. 14 release addresses a situation in which the requestor, a United States firm (a “domestic concern” under the FCPA), sought guidance as to whether a payment to a foreign subsidiary of a foreign investment bank would violate the FCPA. The payment was proposed to be made in connection with the successful purchase by the U.S. firm of a portfolio of assets from the foreign investment bank (a majority of the shares of which is indirectly owned by a foreign government). The subsidiary had provided services meriting a fee, and the requestor presented evidence that the proposed fee was commercially reasonable. Nevertheless, the requestor sought a determination of whether the payment would result in an FCPA enforcement action.</p> <p>This particular request presents somewhat unique and complex facts. The underlying principles reiterated in the DOJ’s guidance, however, are quite useful. Among other things, the DOJ notes that, because the payment is to an entity, not an individual, and there is no indication it will be diverted to an individual foreign official, it does not fall under the FCPA. Additionally, the DOJ notes that there is no indicia that the payment would be intended to corruptly influence a foreign official, and no evidence of a corrupt offer or promise in connection with the payment. Finally, the DOJ cites that the fee is commercially reasonable and commensurate with the services provided.  </p> <p>For more insight related to FCPA guidance and enforcement, check out our <a rel="noopener noreferrer" href="https://btlaw.com/insights/blog/government-relations#?keyword=fcpa##?" target="_blank">previous FCPA coverage</a> on the Government Enforcement Exposed blog.</p>Fri, 21 Aug 2020 00:00:00 -0400{6F408FA5-F6DE-420A-8A63-785ABB2D5FAC}https://btlaw.com//en/insights/blogs/government-relations/2020/sec-adopts-rule-amendments-regarding-proxy-voting-adviceSEC Adopts Rule Amendments Regarding Proxy Voting Advice<p>The SEC has adopted rule <a rel="noopener noreferrer" href="https://www.sec.gov/news/press-release/2020-161" target="_blank">amendments to the proxy rules</a> related to proxy voting advice businesses, such as Glass Lewis and ISS, as part of its long term effort to evaluate and improve the proxy process.</p> <p>The new rules, which fall under Rule 14a-2(b)(1) and (b)(3) under the Securities Exchange Act, were approved on July 22 after receiving and considering a substantial number of comments on the SEC’s initial proposal issued in November 2019. <a rel="noopener noreferrer" href="https://www.sec.gov/rules/final/2020/34-89372.pdf" target="_blank">The final amendments</a> “codify the Commission’s longstanding view that proxy voting advice generally constitutes a solicitation under the proxy rules, and make clear that the failure to disclose material information about proxy voting advice may constitute a potential violation of the antifraud provision of the proxy rules.” </p> <p>Under these amendments, proxy voting advice businesses may rely on exemptions from the information and filing requirements of the proxy rules on two conditions. First, the firm must disclose certain conflicts of interest. Second, the firm must adopt “publicly disclosed written policies and procedures” to ensure that their proxy voting advice is made available to the company and that the company’s response is made available to the firm’s clients.</p> <p>The final amendments stop short of the review and feedback process the SEC initially proposed in November. There are two non-exclusive safe harbors available under the new amendments. </p> <p>The amendments are part of a decade-long effort by the SEC to evaluate and improve the proxy process given the importance of proxy voting advice businesses, which are frequently relied upon by large institutional investors and investment advisers.</p> <p>In addition, the amendment modifies Rule 14a-9 to include examples of circumstances where “failure to disclose certain material information in proxy voting advice could, depending upon the particular facts and circumstances, be considered misleading within the meaning of the rule.” The examples include “material information about the proxy voting advice business’s methodology, sources of information, or conflicts of interest.”</p> <p>The SEC acknowledged commenters’ concerns about heightened litigation risk associated with these changes, but reiterated the applicability of Rule 14a-9 to “all solicitations, even those made in reliance on an exemption from the information and filing requirements of the federal proxy rules.” It therefore noted that “proxy voting advice businesses and other market participants” should have been on notice that the rule applies to proxy voting advice. </p> <p>These amendments become effective 60 days after publication in the Federal Register, but affected proxy voting advice businesses subject to the final rules are not required to comply with the amendments to Rule 14a-2(b)(9) until December 1, 2021. </p> <p>The SEC also<a rel="noopener noreferrer" href="https://www.sec.gov/rules/policy/2020/ia-5547.pdf" target="_blank"> supplemented its prior guidance</a> to investment advisers regarding their proxy voting responsibilities in light of the amendments. This guidance relates to how investment advisers can fulfill their fiduciary duties to their clients when relying on proxy advice businesses, and provides specific guidance with respect to pre-populated forms and automated voting.  </p>Wed, 29 Jul 2020 00:00:00 -0400{C4FD609A-F841-4D0F-AD35-254471A5F0DB}https://btlaw.com//en/insights/blogs/government-relations/2020/sec-hosts-roundtable-to-discuss-risks-associated-with-us-listed-chinese-companiesSEC Hosts Roundtable to Discuss Risks Associated With U.S.-Listed Chinese Companies <p>The U.S. Securities and Exchange Commission hosted a roundtable on July 9 to discuss the risks to U.S. investors of investing in emerging-market companies, particularly those in China. Panelists included capital markets lawyers, consultants, portfolio managers, auditors, and stock exchange executives. The discussion focused on how to keep U.S. markets open to foreign issuers while ensuring that U.S. investors have access to accurate financial information about those issuers. </p> <p>In particular, panelists cited concerns about Chinese companies that are backed or partially owned by the Chinese government, which could pose national security threats or be implicated in human rights violations. Other panelists raised concerns with the prevalence of financial fraud at certain Chinese companies and the lack of U.S. government oversight of the auditors charged with reviewing Chinese companies’ financial statements. </p> <p>The SEC roundtable followed close on the heels of a July 6 report issued by the SEC’s Division of Economic and Risk Analysis addressing “<a rel="noopener noreferrer" href="https://www.sec.gov/files/us-investors-exposure-domestic-chinese-issuers_20200706.pdf" target="_blank">U.S. Investors’ Exposure to Domestic Chinese Issuers.</a>” The report focused on domestic Chinese companies rather than U.S.-listed companies (which was the subject of the SEC roundtable), but the concerns raised in the report were similar: </p> <p style="margin-left: 40px;">In addition to the risks regarding an inability to conduct due diligence to verify the soundness of accounting and governance standards . . . , the design and control of the Chinese financial market by Chinese authorities creates a series of potential concerns for U.S. investors related to disclosure, liquidity, volatility, fraud, and risk management.</p> <p>Although the SEC has recently sharpened its focus on potential investment risks associated with Chinese companies, the issue isn’t new to the investment community. <a rel="noopener noreferrer" href="https://thedig.substack.com/p/china-frauds-auditors-and-regulators" target="_blank">Financial reporter Francine McKenna</a> has long warned of “the inability of investors in U.S. companies with significant operations in China to see beyond the opaque wall into the goings-on in China.” She cited an <a rel="noopener noreferrer" href="https://www.sec.gov/news/public-statement/emerging-market-investments-disclosure-reporting" target="_blank">April 2020 public statement</a> from the SEC:</p> <p style="margin-left: 40px;">Our ability to promote and enforce [transparency] standards in emerging markets is limited and is significantly dependent on the actions of local authorities—which, in turn, are constrained by national policy considerations in those countries. As a result, in many emerging markets, including China, there is substantially greater risk that disclosures will be incomplete or misleading and, in the event of investor harm, substantially less access to recourse, in comparison to U.S. domestic companies.</p> <p>Using the domestic Chinese bond market as an example, the SEC’s July 6 report highlighted specific risks arising from investments in domestic Chinese securities: </p> <ul> <li><strong>Fraud</strong>: “With frequent government intervention and limits on credible standards in corporate governance, the risk of insider dealings, market manipulation and other misconduct increase.” </li> <li><strong>Default Risk</strong>: “China’s debt ratios are steadily increasing. . . . With the recent slowdown in economic growth, this material debt load poses an increased default risk.” </li> <li><strong>Volatility</strong>: “The different nature of China’s investor base, along with the underlying riskier nature of Chinese issuers, is viewed as having contributed to trading activity that . . . led to episodes of high volatility in the Shanghai and Shenzhen markets . . . .”  </li> <li><strong>Corporate Incentive</strong>s: “Article 19 of China’s Corporate Law stipulates that ‘In companies, Communist Party organizations shall . . . be set up to carry out activities of the Party.’ Thus, Chinese companies’ priorities may be different from those of U.S. shareholders.”  </li> <li><strong>Lack of Transparency in Bond Markets</strong>: “Bond ratings in China have been characterized as systematically skewed upward, reflecting both minimum rating requirements for issuance and implicit guarantees. . . .  Many accounting or market practices with respect to bond issuers are not in line with international standards.” </li> <li><strong>Lack of Hedging Tools</strong>: “The lack of a Chinese stock-index futures market that covers medium and small-cap stocks is particularly problematic for foreign investors seeking to protect their positions.” </li> <li><strong>Shocks</strong>: “Given [China’s] large, low-income population with limited purchasing power, and a growth model that relies heavily on fixed investments and exporting, the economic impact of global macroeconomic shocks can have more significant consequence for the Chinese economy and its domestic financial market and capital flow than for those of other countries.”</li> <li><strong>National Security Risk</strong>: “The increasing exposures of U.S. investors to Chinese financial markets that are intertwined with the Chinese government’s political agenda has raised national security questions for the U.S.” </li> </ul> <p>On May 20, 2020, the U.S. Senate passed a bill aimed at mitigating some of these risks. The <a rel="noopener noreferrer" href="https://www.congress.gov/bill/116th-congress/senate-bill/945" target="_blank">Holding Foreign Companies Accountable Act</a>, which was passed unanimously, would prohibit foreign companies from listing on U.S. securities exchanges unless they have complied with the Public Company Accounting Oversight Board’s audit requirements for three years in a row. Currently, the PCAOB is not permitted to review audits of domestic Chinese companies, rendering their true financial condition opaque to U.S. investors. The bill has yet to be voted on in the House.</p>Tue, 14 Jul 2020 00:00:00 -0400{F230C93A-75AD-4DF5-BCFF-6240D77381F8}https://btlaw.com//en/insights/blogs/government-relations/2020/cftc-brings-first-fraud-case-attributed-to-pandemicCFTC Brings First Fraud Case Attributed to Pandemic<p>On July 8, 2020, the Commodity Futures Trading Commission (CFTC) brought its first case “alleging misconduct tied directly to the pandemic.” The case, <em>CFTC v. James Frederick Walsh</em>, asserts that Walsh fraudulently solicited foreign exchange customers by falsely claiming that “the returns in forex continue to grow as the rest of the financial world continues to suffer.”</p> <p>There have been additional cases filed during the time of the pandemic, but this is the first that has been openly attributed to the global health crisis. These cases illustrate the CFTC’s continued vigilance into market fraud during the COVID-19 pandemic.  </p> <p>More about the CFTC’s most recent case can be found <a rel="noopener noreferrer" href="https://www.cftc.gov/PressRoom/PressReleases/8195-20?utm_source=govdelivery" target="_blank">on its website</a>.</p>Thu, 09 Jul 2020 00:00:00 -0400{12C9B640-E924-4479-B595-D178005DF984}https://btlaw.com//en/insights/blogs/government-relations/2020/supreme-court-misses-its-chance-to-define-limits-of-secs-enforcement-authoritySupreme Court Misses Its Chance To Define Limits of SEC’s Enforcement Authority<p>Earlier this week the United States Supreme Court issued its third opinion in seven years clarifying the limits of monetary sanctions imposed in enforcement actions brought by the U.S. Securities and Exchange Commission (SEC). Like the Court’s two earlier decisions,<em><a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.supremecourt.gov/opinions/19pdf/18-1501_8n5a.pdf" target="_blank"> Liu v. Securities and Exchange Commission</a></em> confirmed that the statutory remedies available to the SEC are subject to the same constraints as similar remedies recognized under common law. Unlike the Court’s two earlier decisions, though, <em>Liu</em> established no new temporal limitations on the SEC’s ability to impose those statutory remedies in SEC enforcement actions. For this reason, and considering that the primary holding of the case was something of a forgone conclusion, <em>Liu </em>was a missed opportunity.   </p> <h2>The Lower Court Decisions</h2> <p><em>Liu </em>began as one of several SEC enforcement actions arising out of the federal government’s EB-5 Immigrant Investor Program. Defendant Charles Liu raised $27 million through the program ostensibly to build and operate a proton therapy cancer treatment center in southern California. Instead of building a therapy center, Liu funneled most of the money to himself, his wife and companies associated with them and used it to pay himself and his wife millions of dollars in “salary,” among other unauthorized expenses. The SEC sued Liu, his wife and the companies for violations of the anti-fraud provisions of the Securities Act and Securities Exchange Act.      </p> <p>As part of its order granting the SEC’s motion for summary judgment on its Securities Act claims, the district court ordered the defendants to disgorge the ill-gotten gains they made as a result of their fraud. For their part, the defendants did “not directly argue that disgorgement [was] inappropriate . . . rather they challenge[d] the amount the SEC request[ed].” The proper measure of disgorgement, they believed, was the total amount of money raised from investors, less the amount of money left in the investment funds after their fraud was discovered, <em>and </em>less the amount of the defendants’ “legitimate business expenses.” In declining to adopt the defendants’ definition of disgorgement the court relied on the Ninth Circuit Court of Appeals’ decision in <em><a rel="noopener noreferrer" rel="noopener noreferrer" href="https://scholar.google.com/scholar_case?case=18000046529344496984&q=Securities+and+Exchange+Commission+v.+JT+Wallenbrock+%26+Associates&hl=en&as_sdt=800006" target="_blank">Securities and Exchange Commission v. JT Wallenbrock & Assocs</a></em><a rel="noopener noreferrer" rel="noopener noreferrer" href="https://scholar.google.com/scholar_case?case=18000046529344496984&q=Securities+and+Exchange+Commission+v.+JT+Wallenbrock+%26+Assocs.&hl=en&as_sdt=800006" target="_blank">.</a>, holding that it “would be unjust to permit the defendants to offset against the investor dollars they received the expenses of running the very business they created to defraud those investors into giving the defendants the money in the first place.”  </p> <p>The defendants appealed the summary judgment order on various grounds, including that “[t]he federal courts are without power to award penalties absent explicit congressional authority . . . . To the extent the district court intended to grant [the SEC] . . . disgorgement as an equitable remedy, the court erred because in fact it awarded disgorgement also as a penalty.” More specifically, the defendants argued “that the district court’s order that they disgorge . . . the total amount they raised from their investors . . . less the amount left over and available to be returned . . . was erroneous.” Relying on the Supreme Court’s 2017 decision in <em><a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.supremecourt.gov/opinions/16pdf/16-529_i426.pdf" target="_blank">Kokesh v. Securities and Exchange Commission</a></em>, the defendants reasoned that “the district court lacked the power to order disgorgement in this amount” because the disgorgement award included all the funds received by Liu and his wife, not just the amount of their unjust enrichment. By refusing to deduct their “legitimate business expenses” from the total disgorgement award, the defendants believed, the court ignored the well-settled definition of disgorgement as “a reasonable approximation of <em>profits </em>causally connected to the violation.” In other words, because “expenses” cannot be “profits,” they have no place in the disgorgement calculus. </p> <p>In an unpublished opinion a panel of the Ninth Circuit Court of Appeals sided with the district court rather than the defendants. The court cited<em> JT Wallenbrock & Assocs</em>. to support its holding that “the proper amount of disgorgement in a scheme such as this one is the entire amount raised less the money paid back to the investors.” In passing, the court also rejected the defendants’ more general claim that the district court lacked authority to impose disgorgement at all insofar as disgorgement served as a penalty rather than an equitable remedy—an issue the Supreme Court raised obliquely the year before in <em>Kokesh</em>, but only to emphasize that the <em>Kokesh </em>decision was not meant to express an opinion about the scope of courts’ authority to order disgorgement in SEC enforcement cases.  </p> <h2><em>Kokesh</em> and <em>Gabelli </em></h2> <p>The disgorgement issue raised by the defendants in <em>Liu</em>, and the one the Supreme Court granted certiorari to resolve, has its roots in two earlier Supreme Court cases addressing the limitations on monetary remedies typically sought in SEC enforcement actions. In <em>Kokesh</em>, cited by Liu and his co-defendants, the Supreme Court considered whether 28 U.S.C. § 2462, the omnibus five-year statute of limitations applicable to federal civil penalties claims, applied to SEC claims for disgorgement.  Departing from the consensus that had evolved over many years in the lower courts, the Court held that it does. The decision was based in large part on the language of 28 U.S.C. § 2462 itself, which limits the provision’s reach to actions “for the enforcement of any civil fine, penalty, or forfeiture.” In an opinion by Justice Sotomayor, a unanimous Court held that “[d]isgorgement in the securities-enforcement context is a ‘penalty’ within the meaning of § 2462, and so disgorgement actions must be commenced within five years of the date the claim accrues.”   </p> <p><em>Kokesh</em>, in turn, tied up one of the loose ends left over from the Supreme Court’s 2013 decision in <em><a rel="noopener noreferrer" rel="noopener noreferrer" href="https://www.supremecourt.gov/opinions/12pdf/11-1274_aplc.pdf" target="_blank">Gabelli v. Securities and Exchange Commission</a></em> which, like <em>Kokesh</em>, scuttled what appeared to be settled case law governing the application of 28 U.S.C. § 2462 to claims for monetary penalties in SEC enforcement actions. In an opinion by Chief Justice Roberts, the Court held that the “discovery rule,” which delays the accrual of a plaintiff’s claim until it is discovered, or could have been discovered, by the plaintiff, could not be applied to delay the accrual of a cause of action brought by the government to recover civil monetary penalties, at least where those penalties did not stem from an injury to the government itself.  The decision was based in part on the Court’s reluctance to extend the protection of the discovery rule, which historically had been invoked for the benefit of private parties, to a government agency. “Unlike the private party who has no reason to suspect fraud,” the Court reasoned, “the SEC’s very purpose is to root it out, and it has many legal tools at hand to aid in that pursuit.” </p> <h2>The Supreme Court’s Decision in <em>Liu v. Securities and Exchange Commission </em></h2> <p>In <em>Liu</em>, the Supreme Court set itself the limited goal of answering the “antecedent question” it had “reserved” for itself in <em>Kokesh</em>: “whether, and to what extent, the SEC may seek ‘disgorgement’ in the first instance through its power to award ‘equitable relief’ ” under Section 21(d)(5) of the Securities Exchange Act. The Court’s holding was therefore equally limited; it decided only that “a disgorgement award that does not exceed a wrongdoer’s net profits and is awarded for victims is equitable relief permissible under” Section 21(d)(5).   </p> <p>To reach this conclusion, the Court first sought to determine whether, as a general matter, equitable disgorgement “falls into those categories of relief that were typically available in equity.”  The Court answered this question in the affirmative, but went on to observe that, while   </p> <p style="margin-left: 40px;">[e]quity courts have routinely deprived wrongdoers of their net profits from unlawful activity, * * * they also recognized the countervailing equitable principle that the wrongdoer should not be punished by pay[ing] more than a fair compensation to the person wronged . . . .  [C]ourts consistently restricted awards to net profits from wrongdoing after deducting legitimate expenses. Such remedies, when assessed against only culpable actors and for victims, fall comfortably within those categories of relief that were typically available in equity.   </p> <p>Seeking to expand this traditional understanding of disgorgement for the purposes of applying Section 21(d)(5), the SEC argued that, historical definitions notwithstanding, Congress intended the SEC’s equitable jurisdiction to go <em>beyond </em>the limits imposed by the common law. The Court rejected this view, and instead determined that “these longstanding equitable principles” were incorporated into Section 21(d)(5), and that Congress implicitly “prohibited the SEC from seeking an equitable remedy in excess of a defendant’s net profits from wrongdoing” when it enacted that provision. </p> <p>But the Court declined to go further and rule on the more nuanced arguments raised by the parties, including whether petitioners’ “disgorgement award [was] unlawful because it fail[ed] to return funds to victims” of petitioners’ fraud, and because it did not “deduct business expenses from the award.” The Court justified its decision not to resolve these issues by explaining that, “[b]ecause the parties focused on the broad question [of] whether any form of disgorgement may be ordered and did not fully brief these narrower questions, we do not decide them here.”  </p> <h2>Afterthoughts </h2> <p>Although <em>Liu </em>confirmed that a disgorgement award that “does not exceed a wrongdoer’s net profits” is permissible under the Exchange Act, it is hard to believe that that result was ever seriously in doubt. Among the SEC staffers and SEC defense attorneys I canvassed before the decision was issued I was unable to find any who thought that the SEC’s disgorgement remedy was in danger of being abolished. In fact, given its text and limited scope, it is difficult to escape the conclusion that <em>Liu </em>was intended primarily to put the lid back on the Pandora’s Box that <em>Kokesh </em>opened when it raised—as an aside—the possibility that the validity of the SEC’s disgorgement remedy was open to question.   Most puzzling was the Court’s refusal to resolve the one objective question that would have made <em>Liu </em>an important decision: in what specific circumstances does an SEC disgorgement award “exceed a wrongdoer’s net profits” and become an impermissible penalty?  Instead, <em>Liu </em>answered a question no one was asking.  </p> <p>Like <em>Kokesh </em>before it, <em>Liu </em>also left unanswered questions about the scope of other important SEC enforcement remedies, namely, whether injunctive relief—not just civil penalties and disgorgement—is also subject to a five-year statute of limitations in SEC cases. If so, the SEC would be without a meaningful remedy in nearly all SEC fraud actions commenced more than five years after the occurrence of the conduct underlying the suit. Nor did <em>Liu </em>clarify whether equitable tolling doctrines such as fraudulent concealment are also subject to the five-year cap announced in <em>Gabelli </em>and confirmed in <em>Kokesh</em>, an omission which leaves open the possibility that the SEC can safely ignore the limitations established by those cases in the run-of-the-mill SEC fraud case.  In failing to address these questions, which surface regularly in SEC litigation, the Court missed its opportunity to finish the work it began in those earlier cases and to give the final word on the permissible lifespan of civil enforcement actions.</p> <p><em>This article first appeared on Law360 on June 23, 2020.</em></p>Tue, 30 Jun 2020 00:00:00 -0400{EA4175D8-B77D-4578-AED7-3FAB09DDB9D3}https://btlaw.com//en/insights/blogs/government-relations/2019/finding-a-legal-and-regulatory-path-to-sustainable-blockchain-and-cryptocurrency-innovationFinding a Legal and Regulatory Path to Sustainable Blockchain and Cryptocurrency Innovation<p>Cryptocurrencies and blockchain technology certainly hold the promise of world-changing innovation. Early entrepreneurs and investors in the space have been confounded—and, in some cases, defrauded—by an actual or perceived lack of legal and regulatory clarity or engagement. But, as the technology increasingly mainstreams, the legal and regulatory landscape have come into sharper focus. </p> <p>In an interview I gave on the Disruptor Daily podcast, I talked about some of this clarity—including from the Securities and Exchange Commission, the Commodity Futures Trading Commission, and the Internal Revenue Service—and its impact on innovation. </p> <p>Head over to Disruptor Daily to hear the full episode of the podcast. Some of the points we covered are:</p> <p>How are the SEC and CFTC treating secondary market-makers and investors in cryptocurrencies?</p> <ul> <li>Are my overseas cryptocurrency investments taxable?</li> <li>Now that the SEC has dampened initial coin offerings as a means of fundraising, what is next for innovators?</li> <li>If I want to invest in an innovating blockchain idea, how do I avoid becoming a fraud victim?</li> </ul> <p>Here at Barnes & Thornburg, our Financial and Regulatory Litigation team continues to stay abreast of these issues. Our goal is to help our clients find the legal and regulatory path to sustainable innovation in through blockchain and cryptocurrency technology.</p> <br />Wed, 30 Jan 2019 00:00:00 -0500{009DFDEB-7AEC-47EE-9780-02CA5F67DB16}https://btlaw.com//en/insights/blogs/government-relations/2018/antitrust-standing-is-there-an-app-for-thatAntitrust Standing – Is There An App for That?<p>In the next few months, the Supreme Court will hear arguments in <em>Apple Inc. v. Pepper (In re Apple iPhone Antitrust Litig.), </em>a potentially significant “application” of antitrust law to e-commerce. At stake is the almost $11.5 billion in revenue the App Store now earns Apple annually (not to mention what other types of app stores generate these days).</p> <p>The case will address the interpretation of the Supreme Court’s “direct purchaser” rule in deciding who can sue under the antitrust laws (specifically, Section 4 of the Clayton Act) and the application of that rule to purchasers in the electronic marketplaces that play a large and ever-growing role in the economy and consumers’ lives.</p> <p>While at first glance this might seem to be slightly removed from “government enforcement,” upon closer inspection, it is not. The United States has weighed in as an amicus on Apple’s behalf (and seeks to argue alongside Apple before the Court) because, in its view, not only does the “Department of Justice ha[ve] responsibility for enforcing federal competition laws and a strong interest in their correct application,” but also because the federal government considers private antitrust enforcement to be “an important supplement to the government’s own antitrust enforcement efforts.” Moreover, both federal corporations and states have long had the ability to sue under Section 4 to combat perceived antitrust violations.</p> <p>In <em>Apple</em>, a putative class of iPhone owners who have purchased apps from the App Store allege that Apple has engaged in monopolistic behavior in the market for iPhone applications by only allowing iOS users to install applications through its App Store. Apple charges a 30 percent commission to developers on all paid app sales made through the App Store. When a customer buys an app from the App Store, Apple remits 70 percent of that purchase price (which the developer sets) to the developer and retains the balance.</p> <p>The question presented in <em>Apple </em>is whether iPhone owners who purchase applications through the App Store have antitrust standing to sue Apple because of the allegedly artificially high commission that Apple charges app developers.</p> <p>The Supreme Court first established the “direct purchaser” rule in <em>Hanover Shoe, Inc. v. United Shoe Machinery Corp., </em>392 U.S. 481 (1968) and <em>Illinois Brick Co. v. Illinois, </em>431 U.S. 720 (1977). It provides that only the “overcharged direct purchaser” of a monopoly-priced product has standing to sue under Section 4 of the Clayton Act.</p> <p>The Court has explained that two concerns animate its “direct purchaser” rule. First, the Court has worried that it would be difficult or impossible to apportion antitrust damages after multiple downstream sales of a monopoly-priced product. Second, the Court expressed concern over the possibility of duplicative damage awards if direct purchasers and downstream purchasers all have standing to sue for the same antitrust violations.</p> <p>Plaintiffs argued that they are “direct purchasers” of apps from Apple, so they satisfy the direct purchaser rule. Apple has countered that consumers actually buy apps from developers, and Apple in turn sells distribution services to those developers.</p> <p>The District Court sided with Apple and dismissed plaintiffs’ antitrust claim, relying on <em>Illinois Brick</em>. However, the Ninth Circuit reversed, agreeing with plaintiffs. The Court concluded that iPhone app buyers are direct purchasers from Apple, and that Apple is an app “distributor” which (at least in the Ninth Circuit) potentially subjected Apple to liability. The Ninth Circuit rejected Apple’s argument that its App Store is analogous to a shopping mall that simply leases physical space to various stores that actually sell to customers.</p> <p>The Ninth Circuit acknowledged that its decision conflicted with the Eighth Circuit’s decision in <em>Campos v. Ticketmaster</em>, 140 F.3d 1166 (1998). In <em>Campos</em>, the Eighth Circuit held that consumers who purchased tickets from Ticketmaster were indirect purchasers and therefore had no standing to sue.</p> <p>Both sides have submitted their principal briefs. Numerous amici, including the United States (which has sided with Apple), have weighed in also.</p> <p>Apple has said that the Ninth Circuit has simply misapplied <em>Illinois Brick</em> and that consumers are simply asserting a prohibited pass-through theory of harm. Apple has argued that, simply because consumers purchase apps through the App Store, does not make consumers direct purchasers of the app distribution services that Apple sells to app developers. Apple has also argued that the Ninth Circuit’s focus on the App Store’s distribution “function” is not only contrary to Supreme Court precedent but also unworkable in practice. The United States has essentially agreed with Apple’s positions.</p> <p>The App Store customers, by contrast, maintain that, because of how Apple has created the technology inherent both in iPhones and the App Store, consumers actually purchase apps directly from Apple, acting as a monopolist, via the App Store. Since they are purchasing apps directly from the monopolist, and not through any intermediaries, they are “direct purchasers” entitled to sue for antitrust damages under <em>Illinois Brick</em>.</p> <p>How the Court will resolve this case seems to depend at least partly on whether it views the operative transaction as taking place between Apple and consumers or between consumers and developers with Apple simply providing the marketplace where the transaction occurs.</p> <p>The Court will also need to address how concerns raised in <em>Hanover </em>and <em>Illinois Brick </em>will be impacted by its decision. For example, if the Court affirms the Ninth Circuit’s decision, would app developers also have standing to sue for the exact same damages? Would its decision be narrowly tailored to online marketplaces for digital goods, or apply broadly to all areas of commerce?</p> <p>Whatever the outcome, the Court’s effort to apply antitrust principles originally created to address products like shoes and bricks to the world of digital goods and services is likely to have profound consequences for electronic commerce and government’s enforcement of federal antitrust laws.</p>Tue, 02 Oct 2018 00:00:00 -0400{EA894379-3EC8-49FB-AF81-43F97969C2D6}https://btlaw.com//en/insights/blogs/government-relations/2018/cryptocurrencies-an-overview-of-the-legal-landscape-the-risks-of-investing-and-the-future-of-theCryptocurrencies - Risks and the Future<p><a href="/en/insights/blogs/government-relations/2018/cryptocurrencies-an-overview-of-the-legal-landscape-the-risks-of-investing-part-1" target="_blank">In my blog post yesterday</a>, I gave an overview of the legal landscape of cryptocurrencies. Today’s post focuses on the biggest risks for people who want to trade cryptocurrency as well as a peek into what the future of this market looks like.</p> <h2><strong>What are the biggest risks for people who want to trade cryptocurrency?<br /> </strong></h2> <p>The most significant risks, each of which is discussed in turn below, are price manipulation and the lack of transparent pricing, fraud scams like so-called pump and dump schemes, cybersecurity issues and other custody problems, potential counter-party concerns, and liquidity issues. </p> <p><strong>Price Manipulation</strong> — As the CFTC has said, cryptocurrencies do not trade on robustly regulated financial markets.  They lack key barometers of intrinsic value.  For these reasons, they are difficult to accurately price.  Furthermore, cryptocurrencies are often thinly traded on multiple exchanges around the world.  As a result, fixing a price—particularly when it is through reference to how a cryptocurrency trades on a particular exchange—is perilous. On any given exchange, one or two traders can corner the market of a particular cryptocurrency and drive the price up.  Or, they can put large positions on in order to make it appear there is significant demand or supply for a particular cryptocurrency, and then take those positions off after the market has reacted to them.  As a result, reference to the price of a cryptocurrency on any particular exchange is only as good as your knowledge of the exchange. One way to avoid this risk—or to minimize the risk—is to trade in derivatives of cryptocurrencies.  Bitcoin futures trade on the CME and CBOE.  The CFTC has made it plain that exchanges facilitating trading in derivatives on cryptocurrencies must employ enhanced market surveillance on the underlying spot markets.  This includes obtaining trading data from those markets to ensure they are not being manipulated in a manner that manipulates the derivative market.  This type of surveillance will increasingly become the norm at spot market exchanges, as well.  In time, underlying spot markets will consolidate, too.  This consolidation, combined with better surveillance, will make pricing on spot markets more reliable, too.  In the meantime, it is wise to be wary. </p> <p><strong>Pump and Dump Schemes</strong> — In thinly traded markets, it is easy to spike the price of a particular cryptocurrency.  Scammers use fake news, coordinated efforts with others, or just aggressive touting to get people interested in investing.  After the effort “pumps” the market, the scammers dump the cryptocurrency and it falls back to previous prices. In some instances, investors coordinate to pump the market for their own gain by buying large positions just to move the market before dropping out at the same time.  Accordingly, anyone seeking to invest in cryptocurrency should avoid investing on a single tip or without doing thorough due diligence first.  And no one investing in cryptocurrencies should do so in coordination with a group of others in an effort to drive up prices artificially. </p> <p><strong>Cybersecurity and Custody</strong> — Anyone investing in cryptocurrency needs to give thought to the nature of the exchange on which they are trading or the virtual wallet they are using.  If the exchange maintains your security key for you, your cryptocurrency is not safe from hacking.  If you maintain your own private security key but keep it in a virtual location, it is subject to being hacked.  Keep your private security key in a secure, offline location, like a so-called paper wallet or in a hard-drive wallet.  (A secured, offline hard-drive with private keys for a specific wallet can also be used to perfect a security interest in cryptocurrency, but more on that later.) And, institute controls around the security key. In June 2018, trader Joseph Kim pleaded guilty to stealing $3 million in cryptocurrencies from his employer by misusing the security key that his employer provided him so he could access his employer’s cryptocurrency for trading purposes.  While Mr. Kim’s actions are certainly criminal, the lack of secure oversight—like allowing him to check out the security key from an executive without trading authority only for authorized trades—made it easy for Mr. Kim to do what he did.  Investors must focus on security and process when making any significant investments. </p> <p><strong>Counter-party Issues</strong> — In some instances, trading cryptocurrencies may involve dealing with unsavory counter-parties, in light of the ability to obscure one’s identity.  Of course, regulated entities have an obligation, in order to prevent money laundering or other forms of corruption, to engage in thorough KYC, or know your client.  Traders, of course, have no such obligation.  Accordingly, their trading may inadvertently assist terrorists or other bad-actors in money laundering and the like.  This is simply the moral hazard of trading in this space. </p> <p><strong>Latency and Liquidity</strong> — Often, the nascent cryptocurrency exchanges have latency and a lack of liquidity that some investors find unacceptable.  High trading volume can overwhelm cryptocurrency exchange transaction recording.  This causes latency that can prevent an eager investor from buying or selling during a period of significant price movement—a situation some investors find untenable.  In addition, thinly traded markets may mean that it is difficult to find buyers or sellers for a position of any significant size reflective of the current market price.  Finally, this lack of liquidity can lead to highly volatile markets, making cryptocurrency investments potentially much more risky than investments in other asset classes. </p> <h2><strong>What do we think this market will look like in the future?</strong></h2> <p> Big institutional money is still largely on the sidelines. But, the highly volatile, risky cryptocurrency environment allows investors to profit from huge spreads.  Over time, we can expect the potential for profit, combined with the increasing burden of the growing domestic and global regulatory requirements, to lead to greater uniformity, consolidation among exchanges, perhaps even standards like with ISDA, and more security.  When that happens, institutional money is likely to come in waves, compressing current margins but making markets more predictable and eliminating many of the concerns detailed above.</p>Thu, 19 Jul 2018 15:39:59 -0400{F7FAE802-A876-463B-B870-A55CC29E66F0}https://btlaw.com//en/insights/blogs/government-relations/2018/cryptocurrencies-an-overview-of-the-legal-landscape-the-risks-of-investing-part-1Cryptocurrencies - An Overview of the Legal Landscape<p>In this two-part blog series, I will be giving an overview of the legal landscape of cryptocurrencies, touch on the biggest risks for those who want to trade cryptocurrency, as well as a look into what the future of this market looks like.</p> <h2><strong>The current legal and regulatory environment for cryptocurrencies</strong></h2> <p> Much has been said about the legal uncertainty around cryptocurrency.  Really, understanding what laws apply is quite simple.  Complying with multiple states’ laws is more difficult, of course.  As set out in the U.S. Commodity Futures Trading Commission’s (CFTC) “<a href="https://www.cftc.gov/sites/default/files/idc/groups/public/@customerprotection/documents/file/backgrounder_virtualcurrency01.pdf">Backgrounder on Oversight of and Approach to Virtual Currency Futures Markets</a>”:</p> <p><em>US law does not provide for direct, comprehensive Federal oversight of underlying Bitcoin or virtual currency spot markets. As a result, US regulation of virtual currencies has evolved into a multifaceted, multi-regulatory approach:</em> <em> </em></p> <ul> <li><em>State Banking regulators oversee certain US and foreign virtual currency spot exchanges largely through state money transfer laws.</em></li> <li><em>The Internal Revenue Service (IRS) treats virtual currencies as property subject to capital gains tax.</em></li> <li><em>The Treasury’s Financial Crimes Enforcement Network (FinCEN) monitors Bitcoin and other virtual currency transfers for anti-money laundering purposes.</em></li> <li><em>The Securities and Exchange Commission (SEC) takes increasingly strong action against unregistered initial coin offerings.</em></li> </ul> <p> The CFTC itself has “declared virtual currencies to be a ‘commodity’ subject to oversight under its authority under the Commodity Exchange Act (CEA).”  Under this authority, the CFTC regulates exchanges on which leveraged or derivative cryptocurrencies trade occur.  And, the CFTC brings enforcement actions when appropriate to enforce registration and anti-fraud requirements of the CEA.</p> <p> In other words, while the legal landscape is littered with diverse regulators, it is largely not complicated to determine which regulators will be interested in any given aspect of a cryptocurrency. With respect to the question of whether a cryptocurrency is a security or a commodity, of course, there is some nuance. Most of the established cryptocurrencies—like bitcoin and ether—are not securities. But, as the Chairman of the SEC himself has stated, crypto-tokens that are offered as part of an effort to raise money are most likely securities, particularly if it is clear that people expect to profit from the efforts of others. </p> <p> In late June 2018, we received our first judicial pronouncement on this point. It may not be binding precedent across the land, but it is a reasonably well thought out decision that many courts may look to in the future. The case is <em>Rensel v. Centra Tech</em>, in the Southern District of Florida. In it, a Magistrate Judge has recommend that the tokens issued in by Centra Tech—CTRs—were, in fact, securities. </p> <p> The Court reached this conclusion by applying the factors of the so-called Howey test: (i) an investment of money; (ii) in a common enterprise; (iii) with an expectation of profits; (iv) derived primarily from the efforts of others. In Centra Tech, the court found that the first element was met because individuals had committed resources that could be lost. The court found that there was a common enterprise, as the investors’ ability to make money depended on the efforts of those seeking the investment. And, the court found that Centra Tech’s success also was based on the success of the individuals seeking the investment. </p> <p> In other words, the CTR token did not allow its purchasers to participate in some form of enterprise themselves—it required that they place their trust in those with whom they had invested and to wait until the enterprise itself bore fruit before making money themselves. </p> <p> Ultimately, if a token is a security, it must be properly registered or only offered in accordance with the limited exemptions available from registration under U.S. securities laws. The securities disclosure regime is designed to provide investors with information material to their investment before they decide to invest. To highlight the importance of its regulations, the SEC made a fake initial coin offering—www.howeycoins.com—complete with a white paper that has a complex, yet vague, description of the investment opportunity and a countdown clock intended to “hype” the limited time left to invest in this once in a lifetime deal. The howeycoins parody is intended to demonstrate how easy it is to mislead in an unregulated market. </p> <p> Internationally, regulators have begun to take more nuanced stances toward cryptocurrency. Some countries, like China, have banned cryptocurrencies, while other countries, like India, have banned banks from accepting cryptocurrencies, making it more difficult for exchanges and businesses to accept this store of value. More recently, however, positions appear to be softening. For instance, in South Korea, although regulatory officials have banned anonymous trading of cryptocurrencies on exchanges, they are exploring making initial coin offerings legal and allowing more freedom to trade cryptocurrencies, albeit in a regulated environment. In Japan, in response to concerns about hacks in cryptocurrency exchanges, exchanges must register with the country’s Financial Services Agency, obtain a license, and be subjected to spot investigations—with significant fines and penalties issued for not meeting the FSA’s requirements. </p> <p> In short, it would appear that, globally, governments are increasingly accepting of cryptocurrencies, but are imposing regulatory requirements intended to protect investors against many risks, which I will touch on in part two of this blog post, coming tomorrow.  </p>Wed, 18 Jul 2018 15:29:15 -0400{94281348-8EEA-4A84-B4F3-7A8BA4E7DBE1}https://btlaw.com//en/insights/blogs/government-relations/2018/well-that-didnt-take-long-and-with-no-fanfare-decades-of-administrative-law-are-upendedWell, That Didn’t Take Long – and With No Fanfare, Decades of Administrative Law Are Upended<p>Perhaps the administration had this one in the can already. On Tuesday, less than three weeks after the U.S. Supreme Court decided <em>Lucia</em>, President Trump signed an executive order essentially applying the Supreme Court’s rationale in <em>Lucia</em> to the hiring of all administrative law judges (ALJs) in the federal government. Entitled, “Executive Order Excepting Administrative Law Judges from the Competitive Service,” the order creates a new exception from the federal government’s typical civil service hiring process for seemingly all ALJs, or at least those that perform adjudicative functions in regulatory enforcement proceedings. And, perhaps most importantly, tucked into the very end of the order, the order seemingly applies the same exception to removal of ALJs, thus apparently eliminating the requirement that ALJs only be removed for “good cause.” Just like the Solicitor General argued should happen, but which the Supreme Court in <em>Lucia</em> expressly refused to address multiple times. Relying exclusively on <em>Lucia</em>, the order states that “ALJs are often called upon to discharge significant duties and exercise significant discretion in conducting proceedings under the laws of the United States.” In doing so, it cited the adjudicative functions played by the Security and Exchange Commission’s ALJs. The order asserted that, because ALJs perform such important functions, they “must display appropriate temperament, legal acumen, impartiality, and sound judgment.” They must also “clearly communicate their decisions to the parties who appear before them, the agencies that oversee them, and the public that entrusts them with authority.” The order does not say that the current system does not produce ALJs with these qualities and abilities, but that seems to be implied. The order acknowledged that ALJs historically were appointed through the civil service’s examination and competitive service procedures. But <em>Lucia</em> has called the constitutionality of that hiring process into doubt. The order then says, however, that “regardless of whether those procedures would violate the Appointments Clause as applied to certain ALJs, there are sound policy reasons to take steps to eliminate doubt” about the way that ALJs are appointed. As a result, the order creates an exception to the competitive hiring rules and examinations for ALJs. Doing so, according to the order, will alleviate future Appointment Clause challenges across administrative agencies. This exception provides agency heads “with additional flexibility to assess prospective appointees without limitations imposed by competitive examination and competitive service selection procedures.” Avoiding these “complicated and elaborate examination processes” also gives agencies “greater ability and discretion to assess critical qualities in ALJ candidates, such as work ethic, judgment, and ability to meet the particular needs of the agency.” The order asserts that this change will “promote confidence in, and the durability of, agency adjudications.” Most importantly, though, the order applies the same exception to removal of ALJs and also amends 5 CFR 6.4 to read: “Except as required by statute, the Civil Service Rules and Regulations shall not apply to removals from positions” now including ALJs. Without acknowledging what this means in the order’s explanation, it appears that removing ALJs will no longer be subject to the typical civil service process which requires, among other things, good cause removal. This is what the Solicitor General argued for repeatedly in <em>Lucia</em>, claiming that the two-levels of protection afforded ALJs also violated the Appointments Clause according to <em>Free Enterprise</em>. This was the <a href="/en/insights/blogs/government-relations/2018/supreme-court-decides-lucia-but-the-saga-continues" target="_blank">result feared by Justice Breyer</a> in his partial dissent in <em>Luci</em>a.  Apparently, it did not take long for Justice Breyer’s apprehensions to come to pass. This order may conceivably be subject to challenge in the courts. It would seem that these proposed regulatory changes, seemingly implemented without any notice and comment, and apparently contrary to the requirements of the Administrative Procedures Act may face some obstacles before implementation. However, one thing is certain -- the <em>Lucia</em> majority concluded that ALJs had to be more accountable to the executive branch. This order now makes them like any other political appointee – entirely beholden to the head of the agency or the president for his or her job. For good or ill, ALJ adjudicative independence may quickly be a thing of the past.</p>Fri, 13 Jul 2018 10:08:40 -0400{A060BE73-E477-445C-88AD-B5E5C937AD5A}https://btlaw.com//en/insights/blogs/government-relations/2018/supreme-court-decides-lucia-but-the-saga-continuesSupreme Court Decides Lucia But the Saga Continues<p>After almost two years (and six blog posts), we have reached the conclusion of the <em>SEC v. Lucia</em> saga. Except we haven’t.  The U.S. Supreme Court decided <em>Lucia</em> on June 21, 2018. However, just as Marvel movies now are simply prequels to the next action movie, the fractured collection of opinions in <em>Lucia</em> is simply a cliffhanger that sets the stage for sequel cases in future Terms. Justice Kagan authored the six-Justice majority opinion and was joined by the Chief, and Justices Kennedy, Thomas, Alito, and Gorsuch. Justice Thomas, joined by Justice Gorsuch, concurred separately, offering their own expansive take on the Appointments Clause. Justice Breyer concurred in part and dissented in part. Justices Sotomayor and Ginsburg joined in the dissenting portion of Justice Breyer’s opinion, and penned their own completely dissenting opinion. Got that? Justice Kagan’s majority opinion concluded that SEC ALJs were in fact inferior officers – not merely employees as the SEC had long asserted -- and so must be appointed consistent with the Appointments Clause, meaning by the President, or the “head” of a department (which, here, means a majority of the five-member Securities and Exchange Commission). Since SEC ALJs are not appointed by the Commission itself, and instead are hired through the normal civil service process, SEC ALJs are unconstitutionally appointed. The majority reached this conclusion by focusing on two things. First, an SEC ALJ holds a “continuing office established by law” because they receive a career appointment and are not simply performing tasks episodically. Second, the Court examined the powers an SEC ALJ possessed. Like many, if not all, adjudicative ALJs in other agencies, the SEC’s five ALJs conduct adversarial proceedings in which they supervise discovery, decide motions, hear and examine witnesses, rule on the admissibility of evidence, regulate the course of proceedings and conduct of parties and counsel, and even impose sanctions. The majority noted that, in these ways, an SEC ALJ’s powers were “comparable to” a federal district judge. An SEC ALJ issues an initial decision, with findings of fact and conclusions of law, and a preliminary order. That initial decision can (but need not be) reviewed by the entire Commission.  If the Commission does not review the ALJ’s initial decision, it is “deemed the action of the Commission.” In the majority’s view, the SEC ALJs’ responsibilities made them “near-carbon copies” of the special tax judges of the United States Tax Court the Court found to be inferior officers in <em>Freytag v. Commissioner</em> back in 1991.  The “significant discretion” SEC ALJs wield when carrying out these “important functions” means that, like <em>Freytag</em>’s special tax judges, they are inferior officers, not simply SEC employees. In fact, because SEC ALJs’ decisions can become the Commission’s decisions absent further review, SEC ALJs are more officer-like than <em>Freytag</em>’s judges. In reaching its decision, the majority did not decide several things. First, despite the Solicitor General’s urging, it did not consider whether the procedure by which SEC ALJs can be removed also rendered them unconstitutionally appointed. Second, the majority did not conclusively decide the issue of remedy. The majority stated that the case could not simply return to the ALJ (Judge Elliot) who originally presided over the proceedings, even though during the pendency of the appeal, the Commission attempted to “ratify” the ALJs’ appointments – or even if the Commission chose to appoint him afresh in response to the Court’s opinion. Instead, the Commission must either conduct the hearing itself or assign the hearing to an ALJ who has received an appointment “independent of the ratification,” which probably means a newly appointed ALJ since the SEC “ratified” the appointments of all the extant ALJs including Judge Elliot at one time. Justice Thomas (with Justice Gorsuch) offered a broader view of the Appointments Clause. According to them, the Appointments Clause provides the “exclusive process” for appointing Officers of the United States.  This means that any federal civil official “with responsibility for an ongoing statutory duty” is at least an “inferior officer” and so must be appointed by the President, Courts of Law, or “Heads of Departments.” So “all federal civil officials who perform an ongoing, statutory duty – no matter how important or significant the duty” must be appointed this way. People who “performed only ministerial statutory duties” like “recordkeepers, clerks, and tidewaiters” fall within this definition. In their view, this ensures the necessary political accountability for executive action. Justice Breyer went his own way (with Justices Ginsburg and Sotomayor along for part of the ride). Drawing on his administrative law background, he would have decided the case on statutory, not constitutional, grounds. He believed that the Administrative Procedures Act, which governs the appointment of adjudicative ALJs, like SEC ALJs, does not permit an agency, like the SEC, to delegate its appointment function to its human resources staff (though many agencies beyond the SEC do just that). He sought to resolve this case statutorily because he believes that the APA also provides that ALJs can only be removed for cause which, according to the <em>Free Enterprise</em> case, could also render them unconstitutional (since the <em>Free Enterprise</em> case concluded that two-level protections from removal without cause are unconstitutional). Justice Breyer worried that, if SEC ALJs are inferior officers, their protection from removal without cause under the APA could be jeopardized, thus rendering them less independent and more dependent on the approval of the SEC. He then tried to explain why that would not be true, but nonetheless, he laid some of the groundwork for arguing that SEC ALJs, or any other adjudicative ALJs appointed pursuant to the APA, could be unconstitutionally appointed. He ultimately acknowledged that this decision, when read with <em>Free Enterprise</em>, risks “unraveling, step-by-step, the foundations of the Federal Government’s administrative adjudication system as it has existed for decades, and perhaps of the merit-based civil-service system in general.” Justice Sotomayor’s dissent tried to underscore that an officer of the United States should exercise “significant authority.” She interpreted this to require “the ability to make final, binding decisions on behalf of the Government.” For this reason, she believed that SEC ALJs were not officers because they only make initial decisions or recommendations that the full Commission either accepts or rejects. Her view of what authority an officer of the United States must have contrasts sharply with Justice Thomas’s (and Justice Gorsuch’s) view that every recordkeeper for any statutorily required government record is an inferior officer who must be appointed by the head of an executive department. Undoubtedly, this patchwork of positions will foment additional litigation.  Any respondent in an SEC enforcement action, at whatever stage, will cite <em>Lucia</em> in every filing it makes to argue that the SEC must start from scratch no matter where it is in its case. Presumably, regulated entities who are the subject of enforcement proceedings before any other agency’s administrative ALJs are right now poring over that agency’s enabling legislation to see if that agency parallels the SEC. Any agency whose head has not expressly appointed all its adjudicative ALJs will certainly be mired in litigation over the constitutionality of those ALJs’ appointments going forward. Such agencies would do well to have their “heads” immediately appoint their ALJs so that, at least prospectively, those ALJs can function constitutionally. What happens to pending enforcement actions will be messier though since wholesale “ratification” of ALJ appointments apparently does not satisfy <em>Lucia</em>’s interpretation of the Appointments Clause. Perhaps <em>Lucia</em>’s most important implications stem from the concurrences of Justice Thomas and Justice Breyer. If Justice Thomas and Justice Gorsuch’s view of the Appointments Clause gains any traction, thousands and thousands of low-level government functionaries may need to be expressly appointed by the heads of their executive departments. Imagine the diminished efficiency of, for example, the Commerce Department if every recordkeeper for every statutorily-required record of interstate or international transactions must be appointed by the Commerce Secretary. Or if every EPA inspector who keeps records required by any federal environmental statute had to be appointed by the EPA Administrator. Similarly, if Justice Breyer’s view of the combination of <em>Lucia</em> and <em>Free Enterprise</em> catches hold, any agency with adjudicative ALJs who are hired pursuant to the APA may need to restructure its adjudications to make those ALJs more accountable to – and therefore less independent from – the head of that agency or the President. Increasing political accountability necessarily means decreasing adjudicative independence. In Justice Breyer’s view, and perhaps the majority’s also, the Appointments Clause could well diminish the independence of formerly “independent” administrative agencies. <em>Lucia</em> could therefore have long-lasting impact on the administrative state, particularly with a new Supreme Court Justice.Mon, 09 Jul 2018 13:59:19 -0400{880ECC49-3B48-4CDA-A25C-079D7015C956}https://btlaw.com//en/insights/blogs/government-relations/2018/dont-overthink-it-advocate-for-easy-to-understand-jury-instructions-to-effectively-communicateDont Overthink It Advocate for Easy to Understand Jury Instructions to Effectively Communicate Your<p>Have you ever read a full set of jury instructions for a criminal trial, let alone a civil trial? What about just one instruction for one element of a crime? Can you recall Jack McCoy ever reciting the law to the jury in a closing argument on “Law and Order?” Jury instructions are a powerful tool and can play a vital role in communicating your client’s case to the jury. The key is making the instructions simple, concise and in plain English.  Far too often lawyers miss the opportunity to advocate for their clients and communicate with the jury – through the most powerful medium, the Court - simply because they fail to advocate for simpler, easier to understand jury instructions. The education level of any given juror can vary widely depending on the jurisdiction but one thing always remains the same – their short attention spans.  Most model jury instructions tend to be long, complex, and rambling sentences that would lose anyone.  And, of course, there are some jury instructions like “burden of proof,” that are such boilerplate instructions it is not worth the effort to persuade the judge to change even a word of the instruction.  So in addition to being clear and concise, you must pick the right instructions that will convey your client’s message, trial theme or defense to the jury. Last fall, Barnes & Thornburg clients Tokai Kogyo Ltd., a Japanese auto parts manufacturer and its U.S. subsidiary, Green Tokai Co. Ltd., located in Brookville, Ohio went to trial against the U.S. government to defend against allegations that the companies conspired with other manufacturers of auto body sealing parts to fix prices in violation of the Sherman Act.  The government’s alleged proof, however, was almost entirely based on events and actions that occurred in Japan, not the United States.  The government had a few documents but the lynchpin of its case was the testimony of the immunized witnesses.  To complicate matters, the witnesses were not native English speakers so they testified in Japanese then had their testimony translated into English. A tried and true defense tactic is to attack the credibility of an immunized witness and expose their motivations for testifying to the members of the jury.  So in our opening statement, we told the jury that the government was not seeking truth and justice with its prosecution and that the only “truth” they would hear from the cooperating witnesses was the government’s version of the truth. Following our opening statement and prior to calling the immunized witnesses, the Court read an <a href="https://www.btgovtenforcement.com/wp-content/uploads/2018/05/immunity-instruction_redacted.pdf">immunity instruction</a> requested by the government which was supposed to highlight for the jury that the testifying witnesses still faced some threat of prosecution by the government.  On direct, the prosecution ended its questioning of each witness with the following question: “Why did you travel here to the United States today?”  Each witness answered, “I came here because I wanted to tell the truth, as I knew, without delay, in regards to the customers and sales activities.” Then during cross-examination, the witnesses were questioned about their immunity, their non-prosecution agreements with the government, their invocation of their Fifth Amendment rights, and their fear of future of prosecution.  But all of them were confused about these U.S. Constitution-based rights and none of them feared future prosecution for their crimes of price fixing or obstruction of justice. Based on the testimony we elicited at trial and the previous immunity instruction the government requested be read to the jury, we argued that the Court and the jury had been misled by the government because the witnesses had no real fear of prosecution.  The witnesses had testified before the jury that they had only come to the United States to “tell the truth” but in reality, they had come to the United States because they had been required to do so in order to avoid prosecution completely. Therefore, we proposed that the judge add the following language to the immunity instruction previously given to the jury: It is in the discretion of the government to determine, in good faith, whether any of these witnesses have violated the September 2016 agreement.</p> The government is permitted to make these types of promises and agreements with witnesses. But you should consider the testimony of those witnesses […] with more caution than testimony of other witnesses. Consider whether their testimony may have been influenced by the government’s promises.</p> You are not to convict the defendants based on the unsupported testimony of such a witness, standing alone, unless you believe his testimony beyond a reasonable doubt.</p> The government initially objected but then relented after it was apparent that the judge was going to allow the jury instruction.  Then, in closing arguments, we reiterated to the jury what the judge had already told them – that they needed to consider the testimony of the immunized witnesses with great caution because their testimony had been influenced by the government’s promise to never prosecute those witnesses for their crimes.  These simple, concise instructions along with our presentation of key, material facts regarding the innocence of both Defendants was essential to obtaining acquittals for Tokai Kogyo and Green Tokai. In short, when it comes to instructing a jury, you may be better served to simply keep it “short and sweet.”Thu, 17 May 2018 13:42:57 -0400{A5840957-6041-45B0-841F-802B0B36930C}https://btlaw.com//en/insights/blogs/government-relations/2018/lucia-oral-argument-highlights-philosophical-tensionsLucia Oral Argument Highlights Philosophical Tensions<p>The Supreme Court heard oral argument Monday in <em>Lucia v. SEC</em>. And while it was not the “cage match” that <a href="/en/insights/blogs/government-relations/2018/could-the-supreme-courts-lucia-argument-become-a-cage-match" target="_blank">some hoped for</a>, it did raise important questions. Both the parties’ arguments and the Justices’ questions indicated that the Court has several conflicting issues to resolve in deciding whether SEC ALJs are hired in violation of the Appointments Clause. One of the tensions which got the most attention seemed to be whether SEC ALJs should be “politically accountable” to the President since they are essentially part of the executive branch or whether they should maintain a greater degree of “independence” because they function as adjudicators, akin to Article III judges. The Justices also spent substantial time trying to discern how their decision in <em>Lucia</em> might impact ALJs in other federal agencies. </p> <p> As prior posts have noted, [<a href="/en/insights/blogs/government-relations/2018/could-the-supreme-courts-lucia-argument-become-a-cage-match" target="_blank">4/6/18</a>, <a href="/en/insights/blogs/government-relations/2018/firsttime-supreme-court-advocate-appointed-to-argue-the-secs-case-in-lucia" target="_blank">1/23/18</a>, <a href="/en/insights/blogs/government-relations/2018/secs-appointments-clause-dilemma-gets-worse" target="_blank">1/16/18</a>], this case is untraditional because the Solicitor General refused to defend the SEC’s position that prevailed in the D.C. Circuit.  Instead, both Lucia (the respondent in the initial ALJ proceedings) and the SEC/DOJ argue that hiring SEC ALJs via the government’s civil service process violates the Appointments Clause because ALJs should be deemed “inferior officers.” Under Supreme Court precedent, an “inferior officer” is one whose position is “established by law,” whose duties, salary and means of appointment are specified by statute, and who potentially “exercise[s] significant discretion in carrying out important functions.” Both the Solicitor General and Lucia contend that SEC ALJs meet all these criteria when overseeing formal adjudications. However, Lucia and the Solicitor General differ over whether the process of removing SEC ALJs is also problematic (because it requires good cause and cannot be done at the pleasure of the President) and over what remedy Lucia might have. </p> <p> The task of defending the D.C. Circuit’s decision (and the SEC’s prior position) <a href="/en/insights/blogs/government-relations/2018/firsttime-supreme-court-advocate-appointed-to-argue-the-secs-case-in-lucia" target="_blank">was left to</a> court-appointed <em>amicus curiae</em>, Anton Metlitsky.  Metlitsky argued in his brief that SEC ALJs do not exercise significant discretion when adjudicating disputes because they do not make final decisions. Instead, they only make preliminary decisions that can be reviewed by the full Commission. </p> <p> The parties’ divisions persisted at oral argument, and the Justices seemed genuinely undecided as to how to resolve the issues before them. Some Justices focused on the need for accountability to the executive branch inherent in the Appointments Clause. Chief Justice Roberts worried that the current hiring scheme could frustrate the President and the SEC’s accountability for unpopular decisions by SEC ALJs because they could try to distance themselves from those decisions by saying that <span style="text-decoration: underline;">they</span> didn’t actually hire the ALJs. The Chief Justice expressed concern that the current process “operates as insulation from the political accountability that the drafters of the Constitution intended.”  Lucia’s counsel echoed that concern. Justice Breyer took the opposing view, suggesting that increased accountability to the executive branch could mean “good-bye to the merit civil service at the higher levels.” </p> <p> Metlisky downplayed the likelihood that the Commission or the President could disavow ALJ decisions, arguing that the full Commission was “100 percent accountable” for any ALJ decision because the Commission had the statutory power to delegate to ALJs in the first instance, could review the ALJ’s resulting decision, had to affirmatively approve it before it became final, and by statute, the decision “is always the decision of the Commission.” </p> <p> Meanwhile, other Justices emphasized different concerns. Justice Kagan suggested that greater accountability was a negative and that instead the ALJs’ “decisional independence” was important to maintain.  According to her, “this is a situation where we have adjudications where we typically think we want the decision maker to be insulated from political pressures. So wouldn’t putting those decision makers even closer to the political body only exacerbate the problem?” She also noted that there were multiple ways to interfere with decisional independence, from reducing the decision maker’s pay to having the ability to remove as a constant threat, to deciding who gets a job or not.  And Justice Breyer again worried that finding that ALJs had to be appointed could mean “goodbye to independence of ALJs.” </p> <p> But Lucia’s counsel argued that the ability to preside over formal adjudications independently was precisely what made an ALJ an “inferior officer.”  He argued that ALJs exercise “sovereign powers” when they do so and that “sovereign powers” can only be exercised by an officer subject to the Appointments Clause.  He pointed to the fact (disputed by Commissioner Jackson as discussed <a href="/en/insights/blogs/government-relations/2018/could-the-supreme-courts-lucia-argument-become-a-cage-match" target="_blank">previously</a>, that 90 percent of ALJ initial determinations become final without additional review as evidence that SEC ALJs conduct formal adjudications on behalf of the Commission with finality. He also asserted that ALJs could maintain their decisional independence even if they lack structural independence because they were subject to the Appointments Clause. </p> <p> For his part, the Solicitor General argued that whether an ALJ is an inferior officer turns on whether the ALJ (or other official) can bind the government or third-parties on important matters or can undertake other important sovereign functions. The government contended that SEC ALJs can do both and therefore are inferior officers. Metlitsky argued repeatedly that ALJs had no power to bind since their decisions were subject to Commission review. </p> <p> Several Justices tried to gauge what impact their decision would have on other agencies’ ALJs or other federal employees who exercise discretion. Justice Kennedy asked how many ALJs could be affected. Lucia’s counsel asserted that, by his count, it only impacted about 150 ALJs who decided adversarial proceedings (and expressly did not include Social Security ALJs). Justice Sotomayor wondered how this applied beyond the adjudicative ALJ setting because the Founding Fathers called some people employees and others not employees even though they performed somewhat similar functions. Justice Alito asked whether FBI agents were officers or employees. The Solicitor General indicated that FBI agents would not be officers because their discretion is constrained and vested in their superiors. Finally, Justice Breyer expressed reservations about how to decide <em>Lucia</em> because he had no idea what the nature of jobs was throughout the civil service and whether this decision would impact them. </p> <p> The Solicitor General also pressed the removal question again, but the Justices did not seem interested in addressing that issue (perhaps because it was not raised by the parties before). </p> <p> Most of the post-argument commentary has speculated that a majority of the Court will decide that the SEC’s ALJs are inferior officers. However, given the reticence of some of the Justices, if the Court reaches that conclusion, it may well attempt to limit the scope of its decision.  An opinion should be issued by the end of June.  Stay tuned.</p>Wed, 25 Apr 2018 15:21:36 -0400{04E8D349-6085-43F9-9311-877391FDBF4C}https://btlaw.com//en/insights/blogs/government-relations/2018/could-the-supreme-courts-lucia-argument-become-a-cage-matchCould the Supreme Court's Lucia Argument Become a Cage Match?<p>On April 23, the U.S. Supreme Court will hear what may be one of the most impactful cases for the Securities and Exchange Commission, and perhaps other federal administrative agencies, in a long time.  In <em>Lucia v. SEC</em>, the Supreme Court will hear arguments – including from the U.S. Solicitor General – that the way that the SEC’s administrative law judges (ALJs) are appointed violates the U.S. Constitution’s Appointments Clause.  For prior posts, see [<a href="/en/insights/blogs/government-relations/2018/firsttime-supreme-court-advocate-appointed-to-argue-the-secs-case-in-lucia" target="_blank">Jan 23, 2018</a>; <a href="/en/insights/blogs/government-relations/2018/secs-appointments-clause-dilemma-gets-worse" target="_blank">Jan 16, 2018</a>, <a href="/en/insights/blogs/government-relations/2017/the-secs-appointments-clause-dilemma" target="_blank">Jan 24, 2017</a>, <a href="/en/insights/blogs/government-relations/2016/dc-circuit-affirms-constitutionality-of-secs-inhouse-tribunals" target="_blank">Sept 2, 2016</a>]. </p> <p> The briefing is essentially completed, and as the Solicitor General’s recent request for divided argument suggests, the battle-lines here are untraditional.  In fact, the divergent positions staked out by the three parties that are arguing (to say nothing of those advocated by the dozens of amici) suggest that something close to Wrestlemania on First Street could erupt. </p> <p> As we have discussed earlier, the SEC’s ALJs (along with many other administrative agencies’ ALJs) are hired through the government’s civil service process.  They are not treated as “inferior officers” who are appointed pursuant to the Appointments Clause.  <em>Lucia</em> asks whether hiring ALJs this way violates the Appointments Clause because they have all the hallmarks of an “inferior officer” under Supreme Court precedent -- their positions are “established by law,” their duties, salary and means of appointment are specified by statute, and they potentially “exercise significant discretion in carrying out important functions.” </p> <p> Lucia’s argument did not prevail in the D.C. Circuit (though similar arguments did in the Tenth Circuit’s <em>Bandimere</em> decision).  With the change in administrations, however, the government has now switched sides.  In the D.C. Circuit, the SEC, speaking largely on its own, argued successfully that its ALJs were not “inferior officers” because they did not issue “final” decisions and did not exercise “significant authority” under federal law.  In the Supreme Court, however, the SEC – now speaking only through the Solicitor General’s office – sided with Lucia and filed a rarely-seen “Brief of Respondent in Support of Petitioner.”  Contrary to its prior position, the SEC/Solicitor General conceded that the SEC’s ALJs are inferior officers who are appointed in violation of the Appointments Clause because they <strong><span style="text-decoration: underline;">do</span></strong> exercise significant authority under federal law.  As an example, both Lucia and the Solicitor General have asserted that approximately 90% of SEC ALJ decisions become the Commission’s final decision without further Commission review. </p> <p> In fact, the Solicitor General has now taken a more aggressive position than Lucia.  The Solicitor General has argued explicitly to the Court that, not only are the SEC’s ALJ’s “inferior officers” whose hiring pursuant to the typical civil service process violates the Appointments Clause, but other agencies’ ALJs who have undergone the same hiring process also violate the Appointments Clause.  The Solicitor General has also raised a new argument on its own.  It has argued that SEC ALJs (and other agencies’ ALJs who oversee adversarial proceedings) are also unconstitutionally appointed because they cannot be removed at the pleasure of the President. </p> <p> Lucia’s overall focus has been narrower.  He has expressly limited his argument only to the SEC’s ALJs and does not address the removal issue (and indeed objected to the Solicitor General’s attempt to inject this issue at the certiorari stage).  On the other hand, Lucia’s brief also objects to the SEC’s <em>post hoc</em> attempt to fix the Appointments Clause issue by “ratifying” the appointments of all the ALJs, which Lucia says would leave him without a meaningful remedy. </p> <p> Because of the “substantial differences” between Lucia and the Commission, the Solicitor General has asked to split argument time with Lucia.  The Solicitor General has stated clearly that he wants to address the use of ALJs “by various agencies across the government” as well as the removal issue, and has chosen not to focus on the issue of Lucia’s potential remedy. </p> <p> While Lucia and the government have disagreed among themselves, the counsel appointed to represent the SEC’s old position, Anton Metlitsky, has simply argued that the DC Circuit correctly concluded that SEC ALJs are not “inferior officers.”  In doing so, Metlitsky therefore opposes both Lucia and the SEC/Solicitor General’s current position on the appointments issue.  But he has also essentially sided with Lucia, and against the SEC/Solicitor General, in asserting that the removal question is not properly before the Court. And, he, like the SEC/Solicitor General, has argued that the remedy issue need not be addressed by the Supreme Court and instead should be decided first by the SEC or lower court if necessary. </p> <p> Numerous other interested entities have weighed in.  Two groups advocating on behalf of federal agencies’ ALJs (including SEC ALJs) – the Federal Administrative Law Judges Conference (FALJC) and the Association of Administrative Law Judges (AALJ) -- have each filed briefs.  But even these groups do not agree.  The AALJ, which represents 1,460 ALJs in the Social Security Administration, has argued that the D.C. Circuit got it right.  But it also argued that, because SEC ALJs exercise more authority than many other agencies’ ALJs, any other decision by the Court should be limited just to those ALJs.  And it argued that anything but affirmance would open a Pandora’s Box of agency-by-agency determinations of what ALJs exercise sufficient discretion or handle sufficiently important tasks to be “inferior officers.” </p> <p> On the other hand, the FALJC, on behalf of more than 1,930 ALJs in more than 30 federal agencies that adjudicate disputes, chose not to take a position on whether ALJs are officers.  Instead, it argued primarily that the SEC’s “ratification” of its ALJs’ hiring should cure any constitutional defect.  Otherwise, it argued, it would exacerbate backlogs in adjudicating the over one million cases pending before potentially impacted ALJs. </p> <p> Finally, one of the SEC’s newest Commissioners, Robert J. Jackson, Jr., disputed the data supporting Lucia and the Solicitor General’s argument.  In a recent Columbia Law School blog post, he argued that the 90% number they touted substantially overstates the degree of autonomy SEC ALJs have.  After digging into the data (for 2014 and 2015), he concluded that at least 80% of ALJ decisions are default decisions, and many of the others the Commission did not review were because the affected entity never sought review.  He also asserted that SEC staff reviews every initial ALJ decision, regardless of whether review is sought, thus enabling the Commission to exercise considerable oversight over its ALJs’ decisions. </p> <p> So, at the argument later this month, every party will disagree with every other party, and plenty of others will have lobbed divergent opinions from the sidelines.  As a Cabinet-member’s spouse is fond of saying, “Let’s get ready to rumble.”</p>Fri, 06 Apr 2018 14:46:50 -0400{710B8C67-3F76-4D34-8387-13994751DC9A}https://btlaw.com//en/insights/blogs/government-relations/2018/cybersecurity-cftc-brings-enforcement-action-for-faulty-it-systemCybersecurity: CFTC Brings Enforcement Action For Faulty IT System<p>This past week, the Commodity Futures Trading Commission (CFTC) settled an enforcement action in which it had alleged that futures commission merchant AMP Global Clearing LLC violated 17 C.F.R. 166.3 (duty of supervision) by failing to diligently supervise implementation of a critical component of its information systems security program (ISSP).  As a result, AMP suffered a cybersecurity breach that led to loss of nearly 100,000 files, including customers’ personal identifying information.  As a result of the settlement, AMP paid a $100,000 fine and, undoubtedly, faces significant other expenses in dealing with the customers for whom it lost private information.  AMP will also have to provide written verification to the CFTC of its efforts to strengthen its network security and ensure compliance with its ISSP.</p> <p><strong>What Happened?  </strong>AMP hired a vendor to install a NASD (network attached storage device) that, unbeknownst to AMP, had a backdoor that allowed access to the NASD over the Internet.  The “backdoor” could allow intruders to copy information from the NASD.  Apparently, neither AMP nor its IT provider found this backdoor in their quarterly risk assessments—which included network penetration tests, vulnerability scans and firewall audits. </p> <p><strong>What Should Have Happened?  </strong>AMP’s IT vendor should have uncovered this backdoor in its quarterly risk assessments.  It is possible that the vendor’s assessments were not sufficiently robust.  Or, perhaps the vendor knew the backdoor existed but left it there for maintenance purposes.  After all, the feature was intended to allow another NASD to copy information out of the NASD on AMP’s system.  Such a feature could allow data recovery for a failing NASD. </p> <p> In addition, AMP’s own people should have—at least, the CFTC suggests they should have—figured out that the NASD they installed was prone to these types of security failures.  In fact, the CFTC’s press release on the matter states that “the media had reported three other incidents of unauthorized access of NASDs used by organizations other than AMP, including some from the same manufacturer of AMP’s NASD.”  In other words, a little bit of research could have prevented this problem. </p> <p> Either way, what certainly should have happened (and we simply do not know whether or not it did based on publicly available data) is AMP should have negotiated an indemnification provision in the contract with its IT provider, holding AMP harmless from any and all expenses (including the fine from the CFTC) resulting in the IT provider’s negligence.  And, AMP and the IT provider should have had robust cybersecurity insurance to cover the loss. </p> <p><strong>What is Next?  </strong>AMP has to provide two written follow-up reports “verifying AMP’s ongoing efforts to maintain and strengthen the security of its network and its compliance with its ISSP’s requirements.”  This action suggests that every CFTC registrant (except associated persons without supervisory duties) review its information systems security program, consider whether its network is vulnerable based on the hardware being used, review its contracts with its IT providers, and double-check the coverage afforded by its cyber-security insurance.</p>Mon, 19 Feb 2018 16:51:39 -0500