The Enforcement Division of the United States Securities and Exchange Commission (“SEC”) recently released its annual enforcement report (“Report”) for fiscal year 2018. The Report reflects an increased focus on retail investors, cryptocurrency, cybercrime, and individual accountability. Further, it showcases that SEC enforcement continues to be robust under the Trump administration, despite industry and media expectations to the contrary.
In fiscal year 2018, the SEC brought 821 enforcement actions, an approximately 8.8% increase from last year. The SEC collected approximately $3.9 billion in monetary penalties, a 4% increase from last year. Notably, however, a significant portion of this amount came from a single case, in which $1.8 billion in disgorgement and penalties were awarded for a large-scale corruption scheme. Moreover, while total monetary penalties rose, there was a decrease in the total amount of disgorgement imposed. This is likely due in part to the Supreme Court’s 2017 Kokesh decision, which held that SEC claims for disgorgement are subject to a five-year statute of limitations.
The SEC increased the number of actions it brought related to securities offerings, investment adviser issues, broker-dealer misconduct, and insider trading. In fact, securities offering cases made up the plurality of SEC actions, accounting for approximately 20% of the SEC’s 409 stand-alone actions. On the other hand, the SEC brought fewer actions related to issuer reporting and disclosure, market manipulation, and public finance. The following chart compares the number of cases by category for 2017 and 2018:
The SEC continues to focus on protecting retail investors, and advanced two initiatives to further this goal. First, it created the Retail Strategy Task Force, which focuses on data analytics and applies these analytics to areas impacting retail investors such as disclosures related to fees, expenses, and conflicts of interest; market manipulation; and fraud related to unregistered offerings. The SEC also announced a volunteer self-reporting program, the Share Class Selection Disclosure Initiative. This initiative encourages investment advisers to self-report failures to disclose financial conflicts of interest relating to marketing fees and expenses related to mutual fund share classes. For investment advisers who self-report and satisfy the initiative’s requirements, the Enforcement Division will recommend settlements with standardized terms that include antifraud charges and disgorgement, but exclude a recommendation for penalty payments.
Cryptocurrency has become an important topic for the Enforcement Division, and the Report emphasizes the need to keep pace with the latest technological advancements. The Enforcement Division teamed up with the SEC’s cyber unit this past year to address misconduct related to digital assets and initial coin offerings (“ICOs”). The SEC leveraged its own technology to conduct sophisticated data analysis and also used public statements as a way to educate investors in this new arena. The SEC initiated dozens of investigations into ICOs and cryptocurrency companies, and many are still ongoing.
Cybercrime is also a growing area of concern for the SEC, with more than 225 active investigations this past year. Notably, in many of these investigations, companies that were victims of cyberattacks are now under investigation for how they responded to the attacks. The Enforcement Division brought proceedings against companies based on failures in those companies’ cybersecurity policies and procedures related to cyber intrusions.
The SEC also continues to focus on individual accountability, especially senior corporate officers and other prominent figures within organizations. In fiscal year 2018, 72% of the stand-alone enforcement actions involved charges of at least one individual. The Report highlighted two different undertakings imposed on individual defendants as a way to demonstrate the SEC’s use of a wide range of remedial tools in novel ways to address misconduct:
- First, in a settlement with the technology corporation Theranos, a company that misled investors regarding the viability of its technology, the SEC noted an important component of the settlement was requiring that the CEO relinquish her voting rights by converting her supermajority shares to common shares, and guaranteeing that the CEO would not profit from her ownership stake in the company in a future sale or other liquidation event until $750 million had been returned to investors.
- Second, regarding the highly publicized settlement with Tesla and its Chairman and CEO Elon Musk, the undertaking required Musk to resign as Chairman and implement various independent oversight requirements, including adding two independent directors to its board and establishing a committee of independent directors to oversee the CEO’s public communications.
The Report shows that enforcement remains a priority for the SEC, even under the Trump administration, as enforcement actions continue at a steady pace. Further, the establishment of volunteer self-reporting initiatives demonstrates the SEC’s emphasis and encouragement to companies to self-report any misconduct that is discovered. Finally, as cybercrime and cryptocurrency continue to gain momentum in the financial sector, companies should be aware that the SEC is increasingly regulating and investigating these areas, and additional actions are likely to develop in the future.