UNITED STATES OF AMERICA
In the Matter of
EDDIE RICHARD MECHE
ORDER INSTITUTING PUBLIC PROCEEDINGS, PURSUANT TO SECTION 8A OF THE SECURITIES ACT OF 1933 AND SECTION 21C OF THE SECURITIES EXCHANGE ACT OF 1934, MAKING FINDINGS, AND ISSUING A CEASE-AND-DESIST ORDER
The Securities and Exchange Commission ("Commission") deems it appropriate that cease-and-desist proceedings be, and hereby are, instituted pursuant to Section 8A of the Securities Act of 1933 ("Securities Act") and Section 21C of the Securities Exchange Act of 1934 ("Exchange Act") against Eddie Richard Meche ("Meche" or "Respondent").
In anticipation of the institution of these proceedings, Respondent has submitted an Offer of Settlement (the "Offer"), which the Commission has determined to accept. Solely for the purpose of these proceedings and any other proceedings brought by or on behalf of the Commission, or to which the Commission is a party, and without admitting or denying the findings herein, except as to the Commission's jurisdiction over him and the subject matter of these proceedings, Respondent consents to the entry of this Order Instituting Public Proceedings, Making Findings, and Imposing a Cease-and-Desist Order Pursuant to Section 8A of the Securities Act and Section 21C of the Exchange Act ("Order"), as set forth below.
On the basis of this Order and Respondent's Offer, the Commission finds1 that:
Meche, 39, served as Vice President and Chief Risk Control Officer of Reliant Resources, Inc. ("Reliant"), from June 1999 until his departure in 2002. Before his promotion to Chief Risk Control Officer, Meche served as Vice President for Risk Control of Reliant's Wholesale Group. At all times relevant to this Order, Meche was a Certified Public Accountant licensed in Texas.
Reliant Resources, Inc., a Delaware corporation headquartered in Houston, Texas, builds and owns electric power plants that sell energy into unregulated markets. Through its Wholesale Group, Reliant Resources also markets its own electricity and trades electricity and natural gas. Reliant Resources' common stock is registered under Section 12(b) of the Exchange Act and trades on the New York Stock Exchange under the symbol RRI.
Prior to October 1, 2002, Reliant Energy, Inc. was an electric and gas public-utility holding company that owned about 80% of Reliant Resources' common stock. Reliant Energy's common stock was registered under Section 12(b) of the Exchange Act and traded on the New York Stock Exchange under the symbol REI. Following the spin-off of Reliant Resources on October 1, 2002, Reliant Energy's regulated operations have been carried on by CenterPoint Energy, Inc., which trades on the New York Stock Exchange under the symbol CNP. Reliant Resources and Reliant Energy are referred to collectively as "Reliant."
On May 12, 2002, Reliant Resources announced that it had engaged in significant same-day commodity trading transactions ("round trip trades") involving simultaneous, pre-arranged purchases and sales with the same counterparty for the same volume at approximately the same price. The trades resulted in no meaningful profit or loss to either transacting party and were intended solely to improve Reliant's standing in the gas and power trading rankings in industry publications. The higher rankings apparently enabled Reliant to compete more effectively for energy origination business.
On May 12, 2003, the Commission issued a settled cease-and-desist order against Reliant Resources, Inc. and Reliant Energy, Inc. finding that each had violated Section 17(a) of the Securities Act and Sections 10(b), 13(a), and 13(b)(2) of the Exchange Act and Rules 10b-5, 12b-20, 13a-1 and 13a-13 thereunder. In the Matter of Reliant Resources, Inc. and Reliant Energy, Inc., Administrative Proceeding File No. 3-11110 (May 12, 2003).
In 1999 Reliant entered into five power round trip trades totaling 29.75 million megawatt hours with three counter parties: PanCanadian Energy Services, Inc. ("PanCanadian"), Merchant Energy Group of the Americas, Inc. ("MEGA"), and Public Service Company of Colorado. MEGA requested and Reliant paid an accommodation fee of $50,000 for its trade. Reliant also entered into a series of round trip gas trades that year for 182 billion cubic feet, valued at $364 million, with Cokinos Energy. In total, the 1999 power and gas round trip trades added over $1.4 billion in offsetting gross revenue and expenses to Reliant's books.
In 2000 Reliant entered into four power round trip trades totaling 30.32 million megawatt hours with two counter parties: BP Energy Company ("BP Energy") and CMS Energy Corporation ("CMS"). The 2000 trades with BP Energy and CMS added over $1 billion in offsetting gross revenue and cost of goods sold. Over 97% of this revenue was attributable to the round trip trades with CMS.
In 2001 Reliant entered into eight round trip power trades totaling 74.36 million megawatt hours with CMS and one round trip gas trade for 46 billion cubic feet with EnCana Energy Services Inc. (formerly PanCanadian). The power trades with CMS accounted for about 20% of Reliant Resources' total trading volume for the year and added over $3.6 billion in revenue and expenses.
Reliant reported all trades on a gross basis, which meant that its reported revenue figures were not netted against offsetting expenses. As a result, the round trip transactions conveyed an inaccurate picture of the company's revenues and expenses. For example, in its 2001 annual report (subsequently amended) Reliant Resources reported gross revenues of $36.5 billion, over $3.8 billion of which resulted from round trip trades. In total, the round trip trades inflated Reliant Resources' revenues and expenses by 17.7% in 1999, 5.3% in 2000, and 10.6% in 2001. In addition to recording inaccurate revenue and expenses from the round trip trades, Reliant also published inflated trading volumes in the annual and quarterly reports it filed with the Commission.
Reliant also included the overstated trading volumes and revenues in prospectuses and registration statements that it filed with the Commission in anticipation of securities offerings. In its initial public offering prospectus dated April 30, 2001, Reliant Resources represented that it was "the fifth largest power marketer in the United States for the year 2000 based on [megawatt hours] of electricity sold," and "the tenth largest marketer of natural gas for the year 2000 based on total [billion cubic feet] of natural gas sold." In addition, Reliant Energy filed a registration statement with the Commission on Form S-3 in September 1999, and Reliant Resources filed a registration statement on Form S-1 in October 2000. Both of those filings included or incorporated the revenue overstatements from previously filed annual and quarterly reports.
In late 1998 or early 1999 a series of informal strategy meetings were held within the Wholesale Group of Reliant Energy to find ways to increase trading volume. One option considered was to engage in frequent day trades in and out of power or gas positions. The group rejected this sort of transactional churning, however, after receiving an estimate of the transaction costs associated with each trade. Ultimately, the Reliant officials decided to pre-arrange a smaller number of offsetting large volume trades with willing counter parties.
Reliant officials initially considered booking the round trip trades at a price of zero, but rejected the idea because it would skew the market prices reported to FERC. Instead, the company booked the round trip trades at market prices. Based on Reliant's practice at the time of recording all trades on a gross basis, the revenues and expenses associated with the round trip trades were recorded in Reliant's books and records.
Reliant's first series of round trip trades was with Cokinos Energy for an aggregate $364 million in natural gas to be delivered from April to June 1999. The trades were never entered into Reliant's computerized trading system or its accounting and general ledger system. Instead, Reliant entered the trades into its books after the close of the second quarter of 1999 using a post-closing adjustment.
In the fourth quarter of 1999 an individual in Reliant's credit group questioned a round trip trade that exceeded the counterparty's credit limit. The Wholesale Risk Control Group told this individual that the trade was approvable so long as it did not create a margin or credit risk to Reliant. Because round trip trades had exactly offsetting buy and sell positions, they did not give rise to margin or credit risk to the company. Following this discussion, Reliant's credit department did not generate exception reports for subsequent round trip trades.
Reliant's draft annual reports on Form 10-K for fiscal years 1999, 2000, and 2001 were circulated to numerous employees of the Wholesale Group and its corporate parent, including Meche. As filed, the final versions of those reports included both overstated gross revenues and expenses due to the round trip trades, and descriptions of the magnitude of Reliant's power and gas trades. The reports specifically mentioned Reliant's ranking in terms of its energy trading volumes.
The round trip trading program at Reliant came to light in May 2002, when press reports of round trip trading at Dynegy and CMS identified Reliant as a counterparty on the CMS trades. Shortly thereafter, Reliant disclosed its round trip trades. The company undertook a number of remedial actions, which included reorganizing its Wholesale Group and restating results for fiscal years 1999, 2000, and 2001.
In July 1999, Respondent Meche had been promoted to corporate level Chief Risk Control Officer and temporarily continued as the Wholesale Group's Vice President for Risk, with oversight responsibility for recording the trading group's commodities transactions. On July 26, 1999, the Cokinos post-closing adjustment was brought to the attention of individuals in Reliant's corporate accounting department. They noticed that the transaction seemed to lack a legitimate business purpose and asked Meche about the trade. Meche was familiar with the transaction, stated that such trades were standard in the industry, and said that the trade should be entered in the company's books. Not satisfied with Meche's explanation, the individuals in Reliant's corporate accounting department brought the matter to the attention of Reliant Energy's Corporate Controller. The Corporate Controller also concluded that the trade seemed to lack a legitimate business purpose and spoke to Meche about it. Meche told the Corporate Controller that the transaction should be recorded.
During the fourth quarter of 1999, a round trip trade came to the attention of Meche's successor as Reliant's Wholesale Risk Officer. The transaction exceeded the counterparty's credit limit, and the Wholesale Risk Officer asked Meche about the trade. Meche was familiar with the transaction and instructed that such trades were approvable so long as they did not create a margin or credit risk to Reliant.
Due to his conduct with respect to the Cokinos transaction, and the fourth quarter 1999 transaction, Meche was a cause of Reliant's filing of reports, including offering materials, that included revenues and expenses related to round trip trades. The inclusion of round trip trades in Reliant's reports created a materially misleading impression of Reliant's energy trading volumes. Meche also was a cause of Reliant's misstatement of the company's transactions and disposition of its assets in its books, records, and accounts.
As a result of the conduct described above, Respondent Meche was a cause of Reliant Resources, Inc.'s and Reliant Energy, Inc.'s violations of Sections 17(a)(2) and (3) of the Securities Act, Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B) of the Exchange Act and Rules 12b-20, 13a-1, and 13a-13 thereunder.
In view of the foregoing, the Commission deems it appropriate to impose the sanctions specified in Respondent Meche's Offer.
Accordingly, it is hereby ORDERED: Pursuant to Section 21C of the Exchange Act, Respondent Meche 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 from causing any violations and any future violations of Sections 13(a), 13(b)(2)(A), or 13(b)(2)(B) of the Exchange Act or Rules 12b-20, 13a-1, or 13a-13 thereunder.
By the Commission.
Jonathan G. Katz
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