Category Archives: Class Actions

Supreme Court Holds 5-Year Statute of Limitations Applies to SEC Disgorgement

On June 5, 2017, by unanimous decision, the U.S. Supreme Court determined that disgorgement – a remedy that generated $3 billion in 2015 – is a “penalty” thereby subjecting it to the 5-year statute of limitations that applies to any “action, suit or proceeding for the enforcement of any civil fine, penalty, or forfeiture, pecuniary or otherwise.” Kokesh v. SEC, No. 16-529, slip op. at 1 (June 5, 2017) (quoting 28 U.S.C. §2462). The Court’s decision relieved Kokesh of a $30 million disgorgement order entered in the lower court.

The SEC had argued that disgorgement is a different animal – it simply places the defendant in the same position as he or she would have been but for the offense. The Court strongly disagreed noting the deterrent qualities of disgorgement, which is a hallmark of a penalty, “[s]anctions imposed for the purpose of deterring infractions of public laws are inherently punitive.” Id. at 8. The Court observed that the victims (if there are any) of a securities law violation need not participate in the enforcement action and may not even support it. In addition, money that is disgorged to the Treasury often stays there; i.e., there is no absolute requirement that the money that is recovered be distributed to the purportedly aggrieved investors.

Going forward, the SEC is faced with having to speed up its investigations and charging decisions.  That can be a challenge, especially in complex cases where the Enforcement Division would prefer to thoroughly build out a case in advance.

Here is the decision:

https://www.supremecourt.gov/opinions/16pdf/16-529_i426.pdf

 

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Trump Administration May Suspend DOL Fiduciary Rule

The DOL Fiduciary Rule, effective April 2017, is among the items that the new administration may put on hold upon taking office in January 2017. Once effective, the Rule makes all financial advisers providing rollover and other advice to retirement investors “fiduciaries” required to put retail customers’ interests before the advisers’ interests in getting compensated. Broker-dealers, investment advisers, and mutual fund complexes have already sunk millions of dollars into upgrading and changing their compliance and business models in anticipation of the Rule.

At the center of the Rule is the so-called “Best Interest Contract” Exemption or BIC. It permits fiduciaries to enter into prohibited transactions (e.g., accepting commissions in connection with providing rollover and other investment advice) if the financial firm and professional enter into a BIC with the customer, provide certain disclosures, adhere to Impartial Standards of Conduct, charge only “reasonable” compensation, and acknowledge fiduciary status.

Due to its complexity and related compliance costs, some firms have announced that they will not be opening new commissions-based retirement accounts. Others have said that they will continue to open such accounts but will make continuous efforts to review accounts for the appropriateness of commission-based versus fee-based compensation based on a number of factors (e.g., the amount of trading in the account).

The new administration may ask the SEC to step in and issue a unifying rule covering investment advice to retirement accounts. Currently, the SEC’s regime for registered investment advisers under the 1940 Investment Advisers Act provides that investment advisers (who typically charge a percentage of assets under management) are fiduciaries. Such advisers may enter into conflicted transactions if adequate disclosures are made to the customers and if not otherwise prohibited by law.

By contrast, SEC Rules do not impose a fiduciary duty on brokers who provide rollover and other advice to retirement accounts in return for a commission. Brokers charging a commission for transactions are not considered fiduciaries and are instead held to the lesser “suitability” standard.

Regardless of whether the DOL Rule survives, the kinds of changes and industry introspection that have occurred are probably not a complete waste of time and money. FINRA and the SEC are already monitoring investment advisers and broker-dealers for conflicted transactions and policies with respect to compensation. For example, FINRA tends to take a very broad view of whether an investment recommendation, including a rollover recommendation, is “suitable”. Further, the plaintiffs’ litigation bar has long been asserting claims for breach of fiduciary duty in FINRA arbitrations even in the technical absence of such a duty.

Bottom line: regardless of the durability of the DOL Rule, advisers and their firms should continue evaluating their business practices to conform to a “best interests” standard.

For further discussion, here is a recent article from The Hill:

http://thehill.com/policy/finance/305287-financial-adviser-rule-could-be-in-trumps-crosshairs

 

 

 

 

 

 

Fifth Time’s A Charm – A Series Of Corporate Disclosures, Together, Can Be A “Corrective Disclosure.”

On October 2, 2014, a federal appeals court revived an investor class action that had been dismissed by the trial court for failure to plead loss causation. The case is Public Employees Ret. Sys. of Mississippi v. Amedisys, Inc., 13-30580 (5th Cir. Oct. 2, 2014).[1] In it, the Court found that a series of partial disclosures could collectively constitute a “corrective disclosure” of the defendant’s misrepresentations, which the plaintiffs plausibly alleged caused a decline in the defendant’s stock price.

The plaintiffs filed a complaint against Amedisys, a home health care services provider, and certain executives alleging that the company issued false and misleading public statements that concealed its fraudulent Medicare billing practices and artificially inflated its stock price between 2005 to 2010. The complaint alleged that a series of five “partial disclosures,” spread over two years, revealed the misrepresentations and caused a decline in the stock price, as the truth became known.

The disclosures, which spanned from August 2008 to September 2010, included two news reports questioning Amedisys’s billing practices; a press release announcing the resignation of its CEO and CIO; announcements of investigations into the company by the Senate Finance Committee, the SEC, and the DOJ; and the announcement of disappointing operating results in the second quarter of 2010. During the same time period, Amedisys’s stock price gradually declined from $66.07 to $24.02, a drop of over 60%.

The district court analyzed each of the disclosures separately and found that none of them constituted a “corrective disclosure,” which exposed the falsity of Amedisys’s prior statements. The district court dismissed the complaint with prejudice for failure to adequately plead that the plaintiffs’ losses were caused by the company’s misrepresentations.

The Fifth Circuit, however, found that a corrective disclosure does not have to be a single disclosure and analyzed the five disclosures in the Complaint “collectively.” The Court admitted that, if taken alone, the individual disclosures did not make the existence of fraud more probable, noting that neither media speculation concerning wrongdoing nor the mere commencement of a government investigation constitute a corrective disclosure of fraud. Nevertheless, the Court ruled that when taken together, the entire series of events plausibly indicated that the market “was once unaware of Amedisys’s alleged Medicare fraud, had become aware of the fraud and incorporated that information into the price of Amedisys’s stock.” Importantly, the Court noted that the Complaint linked each of the partial disclosures to a corresponding drop in stock value. Accordingly, the Court held that the plaintiffs adequately pled that Amedisys’s alleged false statements caused their loss and reversed the district court’s dismissal.

[1] http://www.ca5.uscourts.gov/opinions%5Cpub%5C13/13-30580-CV0.pdf

Federal Judge Reminds Plaintiff Investors That Securities Laws Are Not Broad Insurance Against Market Losses

On September 30, a federal judge dismissed a putative class action against New Energy Systems (“New Energy”), a lithium battery company with Chinese operations, finding that plaintiffs had failed to connect the dots between the alleged misrepresentation (overstated earnings) and any drop in stock price when the “fraud” was revealed.[1] Because there was no material change in stock price when New Energy amended its SEC filings thereby “revealing” the company’s problems, the plaintiffs attempted to tie their losses to an earnings press release, issued 8 months after the amended filings. The Court flatly rejected this later, “materialization of concealed risk” theory.

The Complaint focused on income discrepancies between New Energy’s 2008-2009 filings with the SEC and its filings with the Chinese equivalent of the SEC. Plaintiffs alleged that the revenue and earnings numbers in the SEC filings were hundreds and sometimes thousands of percentage points higher than the numbers in the Chinese filings. Both sets of numbers were publicly available to investors.[2]

Then, in March 2011, New Energy amended its Chinese filings such that they conformed to the higher numbers in its SEC filings. The market had no reaction whatsoever to the amended filings. In November 2011, however, New Energy issued a press release announcing a 42% decline in year-over-year revenues for the third quarter of 2011. The stock dropped 48.6%.[3]

Plaintiffs argued that the late 2011 drop after the press release was connected to an ongoing fraud dating back to 2008 and that New Energy had merely covered up past problems by moving such losses into its late 2011 numbers, rather than coming forth and admitting that the 2008-2009 amended filings were false. The Court rejected this late “materialization of concealed risk” as too tenuous, finding no link between the loss in late 2011 and the alleged misstatements about income for 2008-2009. Among other things, the Court noted that, “private securities fraud actions are available not to provide investors with broad insurance against market losses, but to protect them against those economic losses that misrepresentations actually cause.”[4]

Importantly, it does not appear that the Court completely shut the door – the Order does not state the complaint is dismissed with prejudice. It may be that the plaintiffs can try to amend or re-file with sufficient allegations to better tie the November 2011 “corrective disclosure” to a particular fraud. But the message is clear, would-be plaintiffs must allege facts sufficient to show that their losses are at least “within the zone of risk concealed by the misrepresentations and omissions” about which the plaintiff complains.

[1] In re: New Energy Systems Securities Litig., 12-cv-01041 (LAK), Dkt. No. 49 (S.D.N.Y. Sept. 30, 2014).

[2] See id. at 3-4.

[3] See id. at 4.

[4] See id. at 7.