Imagine a company engaged in conduct that was very profitable to it. However, a unanimous Supreme Court declared the conduct illegal. Thereafter, a business executive of the relevant company testifies before Congress and complains that the Supreme Court decision is hurting its business.
I highly doubt anyone would have sympathy for the business executive or the company. After all the rule of law is the rule of law and a unanimous Supreme Court decision probably does sting.
The above analogy came to mind when reviewing a transcript of the recent “Oversight of the SEC’s Division of Enforcement” hearing by the House Committee on Financial Services, Subcommittee on Capital Markets, Securities, and Investment. (See here).
During the hearing, an SEC representative stated:
“In the Supreme Court’s decision in Kokesh v. SEC, the Court held that Commission claims for disgorgement are subject to a five-year statute of limitations. The Kokesh decision has already had a significant impact across many parts of the Division. Many securities frauds are complex and can take significant time to uncover and investigate. Some egregious fraud schemes—including, for example, the one perpetrated by Charles Kokesh himself—are well concealed and are not discovered until investors have been victimized over many years. In certain cases, Kokesh threatens to severely limit the recovery available to harmed investors. Wrongdoers should not benefit because they succeeded in concealing their misconduct. While we appreciate the need for clear statutes of limitations, we are concerned with an outcome where some investors must shoulder additional losses—and the fraudulent actor is able to keep those ill-gotten gains—because those investors were tricked early in a scheme rather than later.
The ultimate impact of Kokesh on SEC enforcement remains to be seen. However, some of the decision’s effects are already clear. For example, because of the Court’s ruling, Mr. Kokesh, who was found liable for defrauding his firm’s advisory clients out of approximately $35 million in client funds over many years, kept more than 80 percent of the money he stole, and his victims will get no recovery of those funds.
We are redoubling our efforts to uncover, investigate, and bring cases as quickly as possible. Our enforcement actions have the highest impact, and our litigation efforts are most effective, when we bring our cases close in time to the alleged wrongful conduct. But no matter how quickly we work, it is likely that Kokesh will have a significant impact on our ability to enforce the federal securities laws and obtain recovery for harmed investors in long-running frauds.”
During the hearing, Rep. Bill Huizenga (R-MI) asked:
“In June 2017, the Supreme Court held in Kokesh v. the SEC that the five-year statute of limitations applied to discouragement claims that the SEC seeks in enforcement actions by clarifying that the remedy of discouragement is a, quote, “penalty.”
In your testimony, you noted that the Kokesh decision has already had significant impact across many parts of the division. Can you please explain the effects of it and what you’ve seen so far? And do you believe that investors ultimately will have to shoulder additional losses while fraudulent actors are able to keep ill-gotten gains due to this decision?”
Steven Peikin (Co-Director of the SEC’s Division of Enforcement) stated:
“It’s a very significant decision that’s having meaningful impact on our ability to recover funds and return them to investors, particularly in cases of long-running frauds, where they’re not discovered until time has passed. We can’t reach back beyond five years and pull money out of the pockets of the wrongdoers and return them to investors. We’ve been keeping track of, you know, our litigated and settled cases of how much money we’ve had to forgo seeking recovery of, and the latest numbers are over $800 million, just in the last year or so alone …”.
Rep. Carolyn Maloney (D-NY) asked:
“I want to go back to the Kokesh decision. I want to understand how you got a 9-0 ruling. That’s very rare in the Supreme Court. Yet there seem to be a concern on both the Republican and Democratic side, and from you, that this would limit very much the Securities Exchange Commission in your mission to protect investors. Can you give me some insights on the Kokesh case and ruling? And then, secondly, what do we do about it? You identified it as a problem as did many of my colleagues on both sides of the aisle. Would it take legislation to correct it? But what were the circumstances of this case that so overwhelmingly came out in a 9-0 ruling? I don’t know of any other 9-0 ruling. It’s (ph) court seizing (ph). So, if you could give me some more understanding of the Kokesh case — and I’m responding, really, to both of your testimony that this is a big challenge for the Securities — SEC.”
“So the Kokesh decision — a couple things.
So, first of all, the case itself involved a pretty egregious fraud in which Kokesh stole, I think, like $35 million from investors. And that took place over a 10-year period. And, by the time, you know, he was prosecuted, enough time had lapsed that, in the end, as a result of the Supreme Court’s decision, he was allowed to keep all but, I think, about $5 million of that $35 million that was, you know, misappropriated from investors.
The Supreme Court’s decision, as you know, was unanimous, and we obviously accept it and it’s the law of the land. And so, you know, the issue is not with the decision, but, rather, with the effect of it, which is that, going forward, you know…”
Rep. Maloney asked:
“But, if it was a huge crime where they abused investors, you would think that the court would be sympathetic to investors being reimbursed. In other words, they cut off their ability to be reimbursed. There’s got to be a reason why.”
“Well, I think they were addressing a, you know, technical, legal question of how did the statute of limitations apply to the remedy of disgorgement. So, I think, absent a — you know, some kind of extension of the statute of limitations, you know, that’s — we’re going to live with this, and that’s what — we’ll have to act faster.
But there will be cases where there’s some ongoing fraud for years, we don’t discover it until, you know, some of that money is out of our reach. And I just would note that, you know, we respect the fact that statute of limitations are important. You know, they put limits on the government in appropriate cases.
But there are many statute of limitations that apply to financial fraud cases that are much longer than five years. For example, the Justice Department has the ability to use the Financial Institutions Recovery and Reform Act, which has a 10-year statute of limitations. So it’s not without precedent for there to be a longer statute of limitations available.”
“But the way Congress could react is by legislating, correct?”
A couple of observations.
The SEC of course seeks disgorgement in all sorts of actions, but a significant percentage of that disgorgement occurs in Foreign Corrupt Practices Act enforcement actions and many of these are the result of corporate voluntary disclosures which makes Peiken’s statement that it takes a “significant time to uncover and investigate” these matters a bit odd.
Moreover, the notion that Kokesh is preventing the SEC from returning money to investors is also odd in the context of FCPA enforcement actions (again where a significant amount of SEC disgorgement occurs). I reached out to a former high-ranking SEC enforcement official who stated:
“For any payment to the SEC (penalty or disgorgement) it goes directly to the US treasury UNLESS a Fair Fund is set up to repay investors. I’m not aware of any fair funds set up in FCPA cases, at least not recently.”
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