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Outside Counsel Faces Civil and Criminal Charges for Fraudulent Opinion Letters

The outside counsel to a firm charged with securities fraud was barred from practicing before the SEC and faces criminal charges for issuing fraudulent opinion letters.  The SEC alleges that the lawyer knowingly omitted material facts in order to opine that his client’s note offering did not constitute a securities offering. The lawyer rendered the opinion letters even though two other law firms came to a different conclusion.  The SEC further asserts that the lawyer rendered the fraudulent letters because he received commission on the sales of the notes.  The SEC charges the lawyer with aiding and abetting securities fraud.

The SEC (and the U.S. Attorney) will take action against securities markets gatekeepers such as outside lawyers for aiding and abetting securities violations even though the defendant is not directly registered with the SEC.  Serving as outside counsel does not allow a lawyer to further a client’s fraud. 

Large Custody Bank to Pay $89 Million for Marking Up Out-of-Pocket Expenses

A large custody bank agreed to pay almost $89 Million in fines, disgorgement, and interest to settle charges that it overcharged investment company clients by marking up purported out-of-pocket expenses for nearly two decades. The most significant markups occurred on SWIFT messages as the bank failed to adjust the charges as its internal costs decreased over time. The SEC also maintains the bank overcharged investment company clients on 12 other classes of expenses, collecting $170 Million in profit during the period. The SEC charges the custody bank with causing its fund clients to maintain inaccurate books and records.

This case should prompt fund financial officers to review the charges imposed by the custody bank. That nickel and diming on everything from wire fees to foreign custody reports may be unlawful. Service providers should also take note that the SEC will initiate enforcement for overcharging registrants even where the service provider itself is not an SEC registered or regulated entity.

Big 4 Firm Fined $50 Million for Stealing Exam Answers

The SEC fined a Big 4 audit firm $50 Million for misappropriating information from the PCAOB concerning impending inspections. Several members of firm management were also terminated and charged. The firm obtained the confidential exam information from employees that previously worked at the PCAOB as well as PCAOB employees being recruited by the firm. Information included lists of audit engagements that the PCAOB planned to inspect, specific criteria used for the inspection, and the focus areas. The SEC alleges that the firm also reviewed and revised work papers to avoid deficiencies. Separately, the firm was also charged with sharing answers and adjusting scores so that internal personnel could more readily pass internal continuing education courses. The SEC charges the firm with failing to comply with ethics and integrity standards, AICPA conduct rules, and PCAOB quality control standards. In addition to the fine, the firm agreed to retain an independent consultant.

The SEC relies on the securities markets gatekeepers, such as the large audit firms, to police the industry. When the gatekeepers act without integrity, it undermines the SEC’s ability to protect investors. This case once again raises the issue whether government officials should observe a cooling-off period before going to work for the companies they previously regulated.

Broker/Custodian Failed to File SARs for Terminated Advisers


The SEC fined a large broker/custodian $500,000 for failing to file Suspicious Activity Reports for terminated advisers suspected of engaging in risky activity.  The firm would only file SARs when an individual employee referred the adviser to the Anti-Money Laundering Department. According to the SEC, the firm failed to supervise employees making such referrals, which resulted in inconsistent referrals based on a misunderstanding of regulatory requirements.  The firm failed to file SARs despite knowledge of potentially unlawful activity such as improperly shifting trade error losses to clients, charging questionable fees, and making false statements.  The SEC charges the broker/custodian with failing to file SARs with respect to activity that had “no business or apparent lawful purpose.”

OUR TAKE: The SEC is again using a broad reading of the Bank Secrecy Act and the SAR filing requirement to force broker/custodians to police all potential wrongdoing by advisers using their platforms.  The SEC does not contend that the misbehaving advisers were engaging in money laundering or that the broker/custodian in any way assisted such activity.  Nevertheless, the broker/custodian must file a SAR anytime it has reason to believe that any regulatory violation has occurred.  It is also noteworthy that the broker/custodian did not get much credit for ceasing business activities with the questionable advisers.

Purported Lawyer Barred for Negligent Due Diligence

The SEC barred from the industry a purported lawyer that failed to investigate red flags arising in municipal bond offerings for which he served as underwriter’s counsel.  The sponsor of the offerings previously settled an SEC enforcement action pursuant to which he agreed to repay over $86 Million to investors because of misleading disclosures about compliance with municipal disclosure requirements.  The SEC faults the lawyer for engaging in a weak due diligence that failed to investigate disclosure red flags that were raised by several parties involved in the transaction.  Additionally, the respondent claimed to be a lawyer even though he was not actively admitted to the bar in any jurisdiction.  The SEC charges the respondent with fraud in the offer and sale of securities as well as causing the issuer’s legal violations.

OUR TAKE: The SEC will hold gatekeepers such as lawyers accountable for the bad acts of their clients.  This case expands gatekeeper liability by charging securities fraud even though the lawyer is not a registrant.


Fund Administrator Pays for Client’s Fraud

A fund administrator agreed to pay over $560,000 to settle charges that it caused its client’s violations of the Advisers Act’s antifraud provisions.  The client defrauded clients (and ultimately went to prison) for misappropriating client assets by creating fake loans in which the fund invested.  The fund’s custodian declined to book the fake loans because they lacked sufficient backup documentation.  Regardless, the administrator included the loans in the fund’s NAV even though, according to the SEC, it knew that the custodian excluded the loans.  The SEC faults the administrator for failing to further investigate, notify the board or shareholders, or exclude the loans from the NAV calculation.

OUR TAKE: Although it may be a legal stretch to assert that a fund administrator caused a fraudulent client’s illegal conduct, the SEC will hold securities markets gatekeepers accountable for their client’s behavior.  Service providers must conduct due diligence before accepting a client or risk being found guilty by association.


SEC Charges Lawyers for Clients’ Securities Fraud

The SEC charged two lawyers with securities fraud for providing legal opinions and other assistance to fraudulent blank check company schemes.  One of the lawyers also faces criminal charges brought by the U.S. Attorney’s Office.  The lawyers are accused of issuing due authorization and Rule 144 opinions, prerequisites to the public offering and sale of the shell companies, as well as other substantial assistance including moving assets through their lawyer trust accounts.  The Director of the SEC’s Miami Regional Office warned that “Lawyers are critical gatekeepers when it comes to protecting the integrity of our capital markets.”

OUR TAKE: Lawyers and other securities markets gatekeepers cannot plead ignorance when red flags indicate that they knew or should have known about their clients’ wrongdoing.  Firms must conduct significant due diligence both before accepting a client and during representation.  It is also noteworthy that the SEC charged the lawyers with securities fraud and not just aiding/abetting.


Lawyer Barred for Failing to Conduct Adequate Due Diligence

The SEC fined and barred an attorney from practicing before the Commission for failing to conduct proper due diligence as underwriter’s counsel for misleading municipal bond offerings.  According to the SEC, the lawyer prepared disclosure documents that contained erroneous statements that the issuer would comply, and had complied, with certain continuing disclosure obligations.  The SEC faults the lawyer for failing to conduct proper due diligence and relying solely on statements from the issuer.  The SEC also alleges that the lawyer ignored red flags that the disclosure was inaccurate.  The SEC separately prosecuted the issuer and the underwriter.

OUR TAKE: We have previously predicted that the SEC would target lawyers as a class of gatekeepers responsible for policing securities markets.  Counsel cannot ignore wrongdoing by claiming to have relied solely on client representations.


SEC Sues Audit Engagement Partner for Ignoring Client Misconduct


The SEC has instituted enforcement proceedings against an audit firm engagement partner for failing to follow professional standards, thereby allowing a venture fund manager to loot the fund by taking unearned management fees.  The SEC alleges that the venture fund manager, in order to meet cash needs for affiliates, advanced unearned management fees in amounts that would never be earned.  The SEC charges that the respondent and the audit team knew about the unearned fees but failed to fully investigate the payments and further failed to properly disclose the payments in the financial statements.  Instead, the audit firm issued unqualified opinions over a 4-year period.  The SEC also asserts that the audit partner removed relevant financial statement disclosure when management objected.

OUR TAKE: As a key securities market gatekeeper, the auditor performs a critical control function upon which investors rely.  The SEC will hold audit firms and their senior personnel accountable when clients engage in observable unlawful behavior.  The same rationale will apply to other gatekeepers including administrators, lawyers, and consultants.