Monday, November 28, 2011

Federal Court Refuses to Approve Settlement of SEC-Citigroup Enforcement Action

After agonizing over the substantial deference to be given to the SEC in approving the settlement of an agency enforcement action, a federal judge ruled that the consent judgment in an action against a large financial institution was neither fair, nor reasonable, nor adequate, nor in the public interest. It is not reasonable, said Judge Rakoff, because how can it ever be reasonable to impose substantial relief on the basis of mere allegations. It is not fair, because, despite Citigroup's nominal consent, there is a potential for abuse in imposing penalties on the basis of facts that are neither proven nor acknowledged patent. It is not adequate, because, in the absence of any facts, the court lacked a framework for determining adequacy. And, the proposed consent judgment does not serve the public interest because it asks the court to employ judicial power and assert judicial authority when it does not know the facts. Refusing to approve the proposed consent judgment, the court instead consolidated the case with an SEC enforcement action against an employee of the financial institution and directed the parties to be ready to try the case next July. SEC v. Citigroup Global Markets, Inc., SD NY, 11 Civ. 7387, Nov. 28, 2011.

An application of judicial power that does not rest on facts is inherently dangerous, emphasized the court, adding that the injunctive power of the judiciary is not a free roving remedy to be invoked at the whim of a regulatory agency, even with the consent of the regulated. If its deployment does not rest on facts, established either by admissions or by trial, it serves no lawful or moral purpose and is simply an engine of oppression.

While giving substantial deference to the views of an administrative body vested with authority over a particular area, federal courts must still exercise a modicum of independent judgment in determining whether the requested deployment of injunctive powers will serve or disserve the public interest. Anything less would not only violate the constitutional doctrine of separation of powers, said the judge, but would undermine the independence of the federal judiciary. Thus, before a federal court may employ its injunctive and contempt powers in support of an administrative settlement, it is required, even after giving substantial deference to the views of the administrative agency, to be satisfied that it is not being used as a tool to enforce an agreement that is unfair, unreasonable, inadequate, or in contravention of the public interest.

More broadly, the court said that in any case like this that touches on the transparency of financial markets whose gyrations have so depressed the economy and debilitated lives, there is an overriding public interest in knowing the truth. While apologists for suppressing or obscuring the truth may always be found, said the court, the SEC has a duty, inherent in its statutory mission, to see that the truth emerges; and if it fails to do so, a court must not, in the name of deference or convenience, grant judicial enforcement to the agency's contrivances

The court noted that the consent did not provide it with a sufficient evidentiary basis to know whether the requested relief is justified under any of the standards. The succcessful resolution of competing interests cannot be automatically equated with the public interest, noted the court, especially in the absence of a factual base on which to assess whether the resolution was fair, adequate, and reasonable.

When the SEC or any federal administrative agency asks a court to become its partner in enforcement by imposing wide-ranging injunctive remedies on a defendant, enforced by the formidable judicial power of contempt, the court needs some knowledge of what the underlying facts are, reasoned Judge Rakoff, otherwise the court becomes a mere handmaiden to a settlement privately negotiated on the basis of unknown facts, while the public is deprived of ever knowing the truth in a matter of obvious public importance.

The SEC's long-standing policy of allowing defendants to enter into consent judgments without admitting or denying the underlying allegations deprived the court of even the most minimal assurance that the substantial injunctive relief it is being asked to impose has any basis in fact.

The SEC took the position that, because the financial institution did not expressly deny the allegations, the court, and the public, somehow knew the truth of the allegations. This is wrong as a matter of law and unpersuasive as a matter of fact, said the court.. As a matter of law, an allegation that is neither admitted nor denied is simply that, an allegation. It has no evidentiary value and no collateral estoppel effect.

As for common experience, the court observed that a consent judgment that does not involve any admissions and that results in only very modest penalties is just as frequently viewed, particularly in the business community, as a cost of doing business imposed by having to maintain a working relationship with a regulatory agency, rather than as any indication of where the real truth lies.
While the financial institution gets to settle what it states was a broad-ranging four-year investigation by the SEC of its mortgage-backed securities offerings, said the court, it is harder to discern from the limited information before the court what the SEC is getting from the settlement. By the SEC's own account, Citigroup is a recidivist, and yet, in terms of deterrence, the $95 million civil penalty that the consent judgment proposes was described by the court as pocket change to this
large financial institution.

Moreover, the court found that the combination of charging the financial institution only with negligence and then permitting it to settle without either admitting or denying the allegations deals a double blow to any assistance defrauded investors might seek to derive from the SEC litigation in attempting to recoup their losses through private litigation, since private investors not only cannot bring securities claims based on negligence, but also cannot derive any collateral estoppel assistance from Citigroup's non-admission/non-denial of the allegations

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