UNITED STATES OF AMERICA
|In the Matter of
DOUGLAS E. CARTER,
|ORDER INSTITUTING ADMINISTRATIVE
PROCEEDINGS, MAKING FINDINGS,
ISSUING A CEASE-AND-DESIST
ORDER, AND IMPOSING
The Securities and Exchange Commission (the "Commission") deems it appropriate and in the public interest that public administrative proceedings be, and they hereby are, instituted pursuant to Section 8A of the Securities Act of 1933 ("Securities Act") and Section 15(b)(6) of the Securities Exchange Act of 1934 ("Exchange Act") against Douglas E. Carter ("Carter").
In anticipation of the institution of these proceedings, Carter has submitted an offer of settlement, which the Commission has determined to accept. Solely for the purpose of these proceedings and any other proceeding brought by or on behalf of the Commission or in which the Commission is a party, and prior to a hearing pursuant to the Commission's Rules of Practice and Procedure, 17 C.F.R. § 201.100 et seq., Carter, without admitting or denying the findings contained herein, except that he admits to the jurisdiction of the Commission over him and over the subject matter of these proceedings, consents to the entry of the findings, the institution of the cease-and-desist order, and the imposition of the remedial sanctions set forth below.
Based on the foregoing, the Commission finds as follows:1
Douglas E. Carter, age 51, is a resident of Charlotte, North Carolina and was employed by Alex. Brown & Sons, Inc. ("Alex. Brown") from May 1990 until July 1997. From approximately March 1, 1994 until his departure from the firm, Carter served as head of Alex. Brown's Public Finance Department. 2
This matter arises out of two municipal bond refunding transactions by the Commonwealth of Pennsylvania in 1994 (referred to jointly as the "Pennsylvania Refundings").3 In each of the refundings, Alex. Brown sold United States Treasury securities to the Commonwealth to fund defeasance escrows. Carter did not participate in the first refunding, but was the lead Alex. Brown banker on the second refunding. Carter knew or should have known that Alex. Brown had overcharged the Commonwealth for the escrow securities on the first refunding, and he failed to disclose this fact to the Commonwealth.
In September 1993, Alex. Brown was selected as the financial adviser to the Office of the Treasurer of the Commonwealth of Pennsylvania. Alex. Brown's lead banker working with the Treasurer's office was Carter's predecessor as head of Alex. Brown's Public Finance Department (the "Predecessor"). On behalf of Alex. Brown, Carter's Predecessor entered into a financial advisory contract with the Treasurer's office which provided, among other things, that "The contractor [Alex. Brown] shall maintain the highest standards of integrity in the performance of this agreement and shall take no action in violation of state or federal laws, regulations, or other requirements that govern contracting with the Commonwealth."
In 1993, the Commonwealth began consideration of a series of refunding bond issues. Ultimately, two issues resulted: (1) the Commonwealth of Pennsylvania $494,145,000 General Obligation Bonds First Series, which closed in March 1994 (the "March Refunding") and (2) the Commonwealth of Pennsylvania $469,616,337.34 General Obligation Bond Second Series 1994, which closed in June 1994 (the "June Refunding"). As the department responsible for investing the Commonwealth's funds, the Treasurer's office was responsible for purchasing the defeasance escrow securities for the Pennsylvania Refundings.
Alex. Brown was selected by the Treasurer's office to sell to the Commonwealth the U.S. Treasury securities to be placed in the defeasance escrow for the March Refunding. In connection with this transaction, the Predecessor and the Treasurer's office agreed that Alex. Brown would be permitted to charge a markup of 4.5 basis points in price on the escrow portfolio.4 The Predecessor, however, instructed his staff to mark up the defeasance escrow securities by a factor of 0.0045, which is a 45 basis point markup, or .45%.
The Predecessor departed Alex. Brown after the March Refunding. Carter, who had headed Alex. Brown's office in Charlotte, North Carolina, succeeded the Predecessor as head of Alex. Brown's Public Finance Department and became the senior person at Alex. Brown responsible for dealings with the Pennsylvania Treasurer's office. Soon after Carter assumed this role, senior staff within the Treasurer's office told Carter that they believed Alex. Brown had charged a 45 basis point markup on the sale of the escrow securities in the March Refunding instead of the agreed 4.5 basis point markup. Carter told the senior staff members that he would look into the matter.
Carter reviewed Alex. Brown's file relating to the March Refunding and spoke to a quantitative analyst who had worked with Carter's Predecessor on the transaction. Carter learned from the analyst that Alex. Brown had taken a markup of 45 basis points on the March Refunding escrow. In the transaction file, Carter saw handwritten notes that said "4.5 basis points." Carter believed that these notes were probably his Predecessor's. The analyst told Carter, however, that the Predecessor had instructed that the escrow be marked up by a factor of 0.0045.
D. Legal Analysis
Section 17(a) of the Securities Act prohibits materially false or misleading statements, or material omissions when there is a duty to speak, in the offer or sale of any security. Section 17(a)(1) requires a showing of scienter; however, Sections 17(a)(2) and 17(a)(3) do not require such a showing. Aaron v. SEC, 446 U.S. 680, 697 (1980). Violations of Sections 17(a)(2) and 17(a)(3) may be established by showing negligence. SEC v. Hughes Capital Corp., 124 F.3d 449, 453-54 (3rd Cir. 1997); SEC v. Steadman, 967 F.2d 636, 643 n. 5 (D.C. Cir. 1992).
A duty to speak arises, and material omissions become fraudulent, when a person or entity has information that another is entitled to know because of a fiduciary or similar relationship of trust and confidence. See Affiliated Ute Citizens v. United States, 406 U.S. 128, 153-55 (1972); Chiarella v. United States, 445 U.S. 222, 228 (1980); In re Arleen W. Hughes, 27 S.E.C. 629 (1948), aff'd, 174 F.2d 969 (D.C. Cir. 1949). A fiduciary violates the antifraud provisions of the securities laws when it sells securities as principal to its fiduciary client without disclosing "all material circumstances fully and completely." Arleen W. Hughes, 27 SEC at 636; see also Restatement 2d of Agency, section 390, comment a.
As financial adviser to the Treasurer's office, Alex. Brown acted as a fiduciary in the Pennsylvania refundings. The Treasurer's office reposed trust in the skill and integrity of Alex. Brown, and placed the Commonwealth's pecuniary interest in Alex. Brown's charge with respect to the refundings. The Treasurer's office also had a "just foundation for belief" that Alex. Brown was acting in the Commonwealth's best interest. See Antinoph v. Laverell Securities, 703 F.Supp. 1185 (E.D. Pa. 1989); Lazin v. Pavilion Partners, 1995 U.S. Dist. LEXIS 15255, Civ.A. No. 95-601, 1995 WL 614018 (E.D. Pa. Oct. 11, 1995). By the express terms of its financial advisory contract, Alex. Brown was bound to act according to "the highest standards of integrity." As the head of Alex. Brown's Public Finance Department, and the senior Alex. Brown official responsible for dealings with the Pennsylvania Treasurer's office during the June Refunding, Alex. Brown's disclosure duties devolved upon Carter.
Carter knew or should have known that Alex. Brown had overcharged the Commonwealth on the escrow portfolio for the March Refunding. Carter was told by the Treasurer's staff that the agreement had been for a markup of 4.5 basis points, and he learned from the analyst that Alex. Brown had charged 45 basis points. Carter failed to make any disclosure of the overcharge during the period when he was working with Commonwealth officials on the planning for the June refunding. It was material to the Commonwealth in connection with the purchase of the escrow portfolio for the June Refunding to know that Alex. Brown had overcharged the Commonwealth on the March Refunding portfolio. Carter's nondisclosure was in the offer or sale of the escrow securities for the June Refunding because it facilitated Alex. Brown's selection as escrow provider for that refunding.
On the basis of the foregoing, the Commission finds that Carter willfully violated Sections 17(a)(2) and (3) of the Securities Act.5
Carter has submitted an Offer of Settlement in which, without admitting or denying the findings herein, he consents to the Commission's entry of this Order, which: (1) makes findings, as set forth above; (2) censures Carter; (3) orders Carter to cease and desist from committing or causing any violations and any future violations of Sections 17(a)(2) and (3) of the Securities Act; and (4) orders Carter to pay a civil penalty in the amount of $35,000.
In view of the foregoing, the Commission deems it appropriate and in the public interest to accept the Offer of Settlement submitted by Carter.
Accordingly, IT IS ORDERED, pursuant to Section 8A of the Securities Act and Section 15(b)(6) of the Exchange Act, that:
1. Carter is censured.
2. Carter shall cease and desist from committing or causing any violation and any future violations of Sections 17(a)(2) and (3) of the Securities Act.
3. Carter shall, within thirty (30) days of the date of this Order, pay a civil money penalty in the amount of $35,000 to the United States Treasury. Such payment shall be: (1) made by United States postal money order, certified check, bank cashier's check or bank money order; (2) made payable to the United States Securities and Exchange Commission; (3) hand-delivered or mailed to the Comptroller, Securities and Exchange Commission, Operations Center, 6432 General Green Way, Stop 0-3, Alexandria, VA 22312; and (4) submitted under cover letter that identifies Carter as a Respondent in these proceedings, and states the file number of these proceedings, a copy of which cover letter and money order or check shall be sent to Brian A. Ochs, Assistant Director, Division of Enforcement, Securities and Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549-0805.
By the Commission.
Jonathan G. Katz
1 The findings herein are not binding on anyone other than the Respondent.
2 Alex. Brown has since merged with BT Securities Corporation, and changed its name to BT Alex. Brown Incorporated.
3 For a discussion of advance refunding bond issues and defeasance escrows used in such transactions see In the Matter of Lazard Freres & Co. LLC, Exchange Act Release No. 41318 (April 21, 1999).
4 A basis point is 1/100th of 1% or 0.0001. Correspondingly, 4.5 basis points means 0.045%, or 0.00045.
5 In applying the term "willful" in Commission administrative proceedings instituted pursuant to Sections 15(b), 15B, 15C, 17A and 19(h) of the Securities Exchange Act, Section 9 of the Investment Company Act, and Section 203 of the Investment Advisers Act, the Commission evaluates on a case-by-case basis whether the respondent knew or reasonably should have known under the particular facts and circumstances that his conduct was improper. In this case, as in all Commission administrative proceedings charging a willful violation under these statutory provisions, the Commission applies this standard to persons -- specifically, securities industry professionals -- who are directly subject to Commission jurisdiction and who have a responsibility to understand their duties to the investing public and comply with the applicable rules and regulations which govern behavior.
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