Securities Enforcement Roundup – September 2024

In this issue of our monthly Securities Enforcement Roundup, we highlight top securities enforcement developments and cases from September 2024.

In September 2024 (the last month of the US Securities and Exchange Commission’s (SEC’s) fiscal year):

• The SEC announced several settlements in connection with enforcement sweeps, including those related to off-channel communications, the Marketing Rule, and failures by institutional investment managers, individuals, and public companies to timely file information and reports with the Commission.
• Multiple firms settled with the SEC for violating the Whistleblower Protection Rule, demonstrating the SEC’s continued focus on providing whistleblowers with increased protection.
• The SEC charged two broker-dealers with violating Regulation Best Interest.
• The SEC’s Division of Enforcement reportedly dissolved its Climate and ESG Task Force, but will likely remain focused on environmental, social, and governance issues and related public disclosures.
• The SEC penalized an independent director for lack of candor regarding independence.

SEC ENFORCEMENT SWEEPS CONTINUE

The SEC announced several settlements this month in connection with enforcement sweep investigations, including those related to off-channel communications, the Marketing Rule, alleged failures by institutional investment managers, individuals, and public companies to timely file information and reports with the Commission, and violations of the Whistleblower Protection Rule (discussed further below).

Once a tool used almost exclusively by the SEC’s Division of Examinations to police registrants, the Division of Enforcement has increasingly utilized issue-focused sweep investigations over the last few years, including this past month. Sweeps bring heightened attention to recurring issues and simultaneously require less resources than a series of standalone or unique investigations, and we expect these types of sweeps to continue.

With respect to off-channel communications, the SEC made four separate announcements during September related to settlements with more than 30 entities—12 municipal advisers, six credit rating agencies, and over a dozen broker-dealers, investment advisers, and/or dual registrants—for their employees’ use of off-channel communications and violations of various recordkeeping rules, including those under Exchange Act Rule 17a-4 and Advisers Act Rule 204-2.

Consistent with prior settlements related to off-channel communications (see our August 2024 Securities Enforcement Roundup), most of these settlements involve significant civil penalties and require the firms to retain an independent compliance consultant (ICC). Two of them, however, resulted in no civil penalty (a first for an off-channel communications settlement) or imposition of an ICC, and one resulted in no imposition of an ICC (but did include a civil penalty). As discussed further in a recent LawFlash, these settlements unfortunately seem to provide only more uncertainty about what standards need to be met, what full compliance requires, and what sorts of penalties and undertakings will flow from a self-report related to off-channel communications.

The SEC also announced settlements this month in connection with the Commission’s ongoing sweep into violations of Rule 206(4)-(1) under the Investment Advisers Act of 1940 (known as the “Marketing Rule”), which became effective in November 2022. On September 9, 2024, the SEC announced charges against several investment advisers for allegedly disseminating advertisements that included untrue or unsubstantiated statements of material fact or testimonials, endorsements, or third-party ratings that lacked required disclosures. [1]

The SEC alleged in several of these settlements that the firms’ advertisements included unsubstantiated statements about providing “conflict-free” services. The advisers agreed to pay more than a million dollars in combined civil penalties to settle the charges. These settlements follow prior sweep announcements from September 2023 and earlier this year, including settlements from last year involving nine other investment advisers that agreed to pay $850,000 in combined civil penalties. [2]

SEC REMAINS COMMITTED TO PROTECTING WHISTLEBLOWERS

On September 4, the SEC announced settled charges with a broker-dealer and two affiliated investment advisers for allegedly impeding brokerage customers and advisory clients from reporting securities laws violations to the SEC in violation of Exchange Act Rule 21F-17(a) (the Whistleblower Protection Rule). [3] Specifically, the SEC alleged that three affiliated registrants impeded “brokerage customers and advisory clients from reporting securities laws violations.” [4]

The agreements were provided to 11 customers as part of “compensatory payments offered to be made to client investment accounts.” [5] The order specifically described that “[b]y including [the] clauses . . . [r]espondents took action to impede signing clients from communicating directly with the Commission staff about possible securities law violations.” [6] The entities agreed to pay a combined $240,00 in civil penalties to settle the charges. [7]

Later in the month, the SEC announced additional settlements for alleged violations of the Whistleblower Protection Rule. For example, on September 9, the SEC announced settlements with several public companies that agreed to settle the charges for a combined $3 million in civil penalties. According to the SEC, employees and independent contractors of these companies were required to waive their rights to possible whistleblower monetary awards in employment agreements and consulting agreements. [8]

Specifically, the agreements at issue contained provisions banning the filing of a claim or charge with a government agency in addition to engaging in certain protected activities. [9] The agreements also enabled certain companies to receive advance notice of any anticipated disclosure to regulators. [10] By way of example, one of the companies entered into employment agreements that “required employees to waive their right to recover a monetary award for participating in an investigation by a government agency.” [11]Further, they “required the employee to execute a general release following the end of their employment that, while expressly permitting participation in government whistleblower programs, also required the employee to waive their right to a potential award.” [12]

In one instance, a company’s consulting services agreements contained provisions that required the consultant to limit any disclosure to the extent required by law and notify the company in advance of making any disclosure. [13]To settle the charges, the SEC imposed more than $3 million in combined civil penalties.

Given the SEC’s continued focus on whistleblower protections, companies and registered entities should carefully review all agreements with confidentiality provisions—such as settlement agreements, employment agreements, customer agreements, and even employee handbooks, manuals, and internal policies with confidentiality restrictions—with an eye toward any perceived impediment to the signing party’s ability to directly contact the SEC. [14]

THE FUTURE OF ESG ENFORCEMENT?

In mid-September, it was reported that the SEC had “quietly disbanded” its Climate and ESG Task Force. [15] The Task Force was created in March 2021 within the Division of Enforcement and included 22 members from across the division. [16] Since its inception, the ESG Task Force has pursued numerous actions against companies in connection with ESG-related services, disclosures, and investment products. Prior to its recent dissolution, many took note that the SEC’s Division of Examinations recently removed ESG from its list of 2024 Examination Priorities, which is intended to provide investors and registrants with a preview into the key risks, trends, and examination topics for the upcoming year.

Recent events beg the question: is this the end of ESG Enforcement? In short, no. Rather than a sign of waning interest, the dissolution of the Task Force is more likely a recognition that, as the SEC itself noted in a statement to Bloomberg, “the expertise developed by the task force now resides across the Division.” In fact, two days before the dissolution of the Task Force was reported, the SEC announced settled charges with a public company for making allegedly inaccurate public statements regarding the recyclability of one of its products. This action demonstrates the SEC’s continued interest in companies’ ESG-related statements and claims and whether reports that are filed with the SEC are complete and accurate.

Despite the alleged dissolution of the Task Force, we expect the SEC will continue to bring ESG-related enforcement actions and that issuers will still face heightened scrutiny regarding their ESG-related disclosures and whether they are accurate and can be substantiated.

SEC CHARGES TWO BROKER-DEALERS WITH VIOLATIONS OF REG BI

The SEC announced multiple settlements in September charging broker-dealers with violations of Regulation Best Interest (Reg BI). Under the Securities Exchange Act of 1934, Reg BI establishes a “best interest” standard of conduct for broker-dealers and associated persons when they make a recommendation to a retail customer of any securities transaction or investment strategy involving securities, including recommendations of types of accounts. [17]

On September 18, the SEC announced charges against a broker-dealer for failing to maintain and enforce policies and procedures “reasonably designed” to achieve compliance with Reg BI. [18] These charges stem from the recommendation of structured notes, a type of derivative security. The SEC alleged that the broker-dealer did not have accurate customer information and documentation that was necessary to review structured note recommendations for compliance with Reg BI policies and procedures. Without admitting or denying the SEC’s findings, the firm agreed to pay a civil penalty of $325,000 to resolve the charges.

On September 27, the SEC announced settled charges against another broker-dealer and three of its registered representatives for violating Reg BI. [19] In its order, the SEC alleged that the broker-dealer “failed to exercise reasonable diligence, care, and skill to understand the potential risks, rewards, and costs” of recommending the purchase of certain corporate bonds to retail customers, which, unlike many corporate bonds, were not rated by a bond rating agency.

According to the SEC, the firm recommended the purchase of these bonds to retail customers without a reasonable basis to believe they were in the customer’s best interest and did not have written policies and procedures that were “reasonably designed” to address conflicts of interest when making such recommendations. The firm and the registered representatives agreed to pay more than $438,000 in combined penalties, disgorgement, and interest to settle the claims.

SEC PUNISHES INDEPENDENT DIRECTOR FOR FAILURE TO DISCLOSE RELATIONSHIP WITH COMPANY EXECUTIVE

On September 30, the SEC announced settled charges against a former CEO, chairman, and board member for violations of proxy disclosure rules by standing for election as an independent director without informing the board of his close friendship with another company executive. [20] According to the SEC, the director’s failure to do so caused the company’s proxy statements to contain materially misleading statements. [21]

As alleged in the SEC’s complaint, the director and the company executive vacationed internationally multiple times together and the director allegedly encouraged the executive to conceal the relationship. [22] The SEC also alleged that, when the company began a CEO succession transition, the director shared confidential details about the process with the executive to aid the executive for succession in the future. [23] Without admitting or denying the allegations, the director agreed to pay a civil penalty of $175,000 as well as a five-year bar from serving as an officer or director. [24]