Initial Decision of an SEC Administrative Law Judge
In the Matter of
In the Matter of
ROBERT L. McCOOK
| INITIAL DECISION
May 21, 2002
|APPEARANCES:||Teresa J. Verges for the Division of Enforcement, Securities and Exchange Commission
Bruce Sanders for Respondent Robert L. McCook
|BEFORE:||Lillian A. McEwen, Administrative Law Judge|
Pursuant to the Equal Access to Justice Act (EAJA), 5 U.S.C. § 504(a)-(f), Robert L. McCook seeks to recover attorney fees and costs of $44,565.25 incurred as the prevailing party. McCook filed an Application for Award of Fees and Expenses (Application) on February 14, 2002. The Division of Enforcement (Division) filed a Brief in Opposition to Respondent McCook's Application for an Award of Attorneys Fees and Expenses on April 1, 2002. This Initial Decision concludes that McCook is entitled to $14,988.75 in attorney fees, plus $139 in expenses for a total of $15,127.75.
On September 26, 1997, the Securities and Exchange Commission (Commission) issued an Order Instituting Proceedings (OIP) pursuant to Section 8A of the Securities Act of 1933 (Securities Act) and Sections 15(b), 19(h), and 21C of the Securities Exchange Act of 1934 (Exchange Act) against Robert L. McCook (McCook) and co-Respondents David E. Lynch, Kent T. Black, Joel L. Hurst, and Larry E. Muller. On July 16, 1998, the Commission accepted an offer of settlement from Kent T. Black. See Kent T. Black, Order Making Findings and Imposing Sanctions and a Cease-and-Desist Order, 67 SEC Docket 1677 (July 16, 1998). On March 12, 1999, the Commission accepted offers of settlement from Larry E. Muller and Joel L. Hurst. See Larry E. Muller, Order Making Findings and Imposing Sanctions and a Cease-and-Desist Order, 69 SEC Docket 1022 (Mar. 12, 1999); Joel L. Hurst, Order Making Findings and Imposing Sanctions and a Cease-and-Desist Order, 69 SEC Docket 1018 (Mar. 12, 1999). I issued an Order Making Findings and Imposing Sanctions By Default against David E. Lynch on November 14, 2001. See Kent T. Black, Order Making Findings and Imposing Sanctions By Default against David E. Lynch, 76 SEC Docket 819 (Nov. 14, 2001), petition for review granted.
On April 28 through April 30, 1998, a public hearing as to McCook was held before me in Washington, D.C. On December 31, 2001, I issued an Initial Decision dismissing the proceeding against McCook, and finding that he had not violated the federal securities laws as alleged in the OIP. See Kent T. Black, Initial Decision, 76 SEC Docket 1842 (Dec. 31, 2001). The Division did not seek review of the Initial Decision, and on February 15, 2002, the Commission issued a Notice That Initial Decision Has Become Final asserting that it would not review the Initial Decision on its own initiative. See Kent T. Black, Notice That Initial Decision Has Become Final, 76 SEC Docket 2803 (Feb. 15, 2002).
The Commission's Rules disfavor further proceedings, such as an evidentiary hearing, on matters at issue in an EAJA application, and emphasize a prompt decision by the administrative law judge. See 17 C.F.R. §§ 201.55, .56. The findings and conclusions in this Initial Decision are based on the record, which includes the record in the original proceeding and the filings in the EAJA proceeding. Pursuant to the EAJA, "[t]he burden of proof that an award should not be made to an eligible prevailing applicant is on [the Division], which must show that its position was reasonable in law and fact." 17 C.F.R. § 201.35(a); see also 5 U.S.C. § 504(a)(1).
In 1980, Congress adopted the EAJA after finding "that certain individuals . . . may be deterred from seeking review of, or defending against unreasonable governmental action because of the expense involved in securing the vindication of their rights." H.R. Rep. No. 96-1418, at 5 (1980), reprinted in 1980 U.S.C.C.A.N. 4984, 4984. The Commission's interpretation of EAJA permits prevailing parties to obtain awards of attorney fees and other expenses against the United States in certain administrative proceedings and judicial actions:
A prevailing applicant may receive an award for fees and expenses incurred in connection with a proceeding . . . unless the position of the Office or Division over which the applicant has prevailed was substantially justified. . . . The burden of proof is on counsel for an Office or Division of the Commission, which must show that its position was reasonable in law and fact.
17 C.F.R. § 201.35(a).
The EAJA requires that McCook meet several threshold requirements. First, he must have prevailed in an "adversary adjudication," which is defined as an adjudication "in which the position of the United States is represented by counsel or otherwise." 5 U.S.C. 504(b)(1)(C); see also 17 C.F.R. §§ 201.31, .44. Title 5, Section 554 of the United States Code Annotated, covers adjudications required by statute to be determined on the record after opportunity for an agency hearing. See 5 U.S.C. § 554(a)(1). In turn, these adjudications are defined as the "agency process for the formulation of an order," 5 U.S.C. § 551(7), and an "order" is defined as the "whole or part of a final disposition." 5 U.S.C. § 551(6). A "final disposition" under the EAJA means "the date on which a decision or order disposing of the merits of the proceeding . . . becomes final and unappealable, both within the Commission and to the courts." 17 C.F.R. § 201.44(b). Section 25(a)(1) of the Exchange Act permits a "person aggrieved by a final order of the Commission" to obtain review in a United States Court of Appeals by filing a written petition within sixty days after entry of the order. 15 U.S.C. § 78y(a)(1).
Additionally, McCook must have filed his EAJA Application within thirty days of the Commission's final disposition of the proceeding. The Application was filed on February 14, 2002, and the Commission issued its Notice That Initial Decision Has Become Final on February 15, 2002. McCook must also show that he meets all of the other conditions of eligibility that are set forth in 17 C.F.R. § 201.34, which includes a showing that his net worth is not more than $2 million. See 17 C.F.R. § 201.34(b)(1).
McCook is Eligible.
Pursuant to 17 C.F.R. § 201.44, I conclude that McCook's EAJA Application was timely filed within the thirty-day time period designated by the EAJA. Moreover, based on the representations made in McCook's EAJA Application, I have concluded that McCook is an eligible prevailing applicant under the EAJA. The proceeding that prompted McCook's Application was an adversary adjudication because the United States was represented by counsel and the adjudication was required by statute to be determined on the record after opportunity for an agency hearing. The adjudication that followed the OIP constituted a final disposition of the proceeding against McCook, and neither the Division, nor the Commission sought review of the Initial Decision. The Division does not disagree with these conclusions. It contends, however, pursuant to 17 C.F.R. § 201.35, that its trial position was reasonable in law and fact, and that McCook is not entitled to an award of fees and expenses under the EAJA. I disagree.
Fees and Expenses.
McCook's Application states that he has incurred expenses for attorney fees in connection with defending himself in the administrative proceeding in the amount of $42,266.25. This amount consists of 187.85 hours of attorney time for one attorney billed at the hourly rate of $225.00 per hour. In addition, McCook also incurred other expenses of $139.00 in connection with the administrative proceeding. McCook's Application also states that he has incurred expenses for attorney fees in connection with drafting and filing his Application in the amount of $2,160.00. This amount consists of twelve hours of attorney time for one attorney billed at $180.00 per hour. The total amount of fees and expenses sought by McCook is $44,565.25.
CONTENTIONS OF THE PARTIES
McCook argues that in light of the findings made in the underlying Initial Decision, which includes my finding that the Division failed to prove by a preponderance of the evidence that McCook violated the federal securities laws, the Division cannot meet its burden of proving that there was substantial justification in law and fact for bringing its case against McCook. He further argues that the Division's insistence in initiating an administrative proceeding against him has cost him considerable amounts of money for fees and expenses in order to defend himself against this unwarranted governmental action.
The Division argues that McCook's Application for an award of fees and expenses under the EAJA is unfounded and should be summarily rejected because the Division's position in charging McCook was reasonable and more than substantially justified. Based on the record of the three-day hearing in this matter, the Division argues that there is substantial evidence in support of each element of its central claim against McCook and sufficient evidence to support bringing this case against him. Finally, the Division argues that McCook's request is in excess of the amount authorized under the Commission's Rules of Practice.
FINDINGS OF FACT
The following facts were found in the underlying Initial Decision, and are based on the record that was also cited therein. See Kent T. Black, Initial Decision, 76 SEC Docket 1842 (Dec. 31, 2001). McCook joined the investment division of Crestar Bank in 1988, and worked as a specialist in brokering odd lots of mortgage backed pass-through securities between broker-dealers.1 (Tr. 698.) In April 1993, his department became a National Association of Securities Dealers (NASD) member and assumed the name Crestar Securities Corporation (Crestar). (Tr. 699-700.) He earned $237,000 in Crestar commissions in 1993, earning $30,000 from the transactions in the instant case. (Tr. 774-75.) His direct supervisor at Crestar was sales manager Charles Wright (Wright), but he also reported to Joy Bailey (Bailey), the head of Crestar's taxable trading department. (Jnt. Ex. 11 at 1-12.)
Between April 1993 and February 1994, McCook participated in at least twelve complex transactions on behalf of Crestar where bond prices were dictated by registered representatives Joel Hurst (Hurst), Larry Muller (Muller), or David Lynch (Lynch) at First Montauk Securities Corporation, Houston Branch (First Montauk Houston). McCook thought they were repurchase agreements that were not reduced to writing, like McCook had done at Thompson McKinnon in the early 1980s. (Div. Ex. 10 at 86-88.) The risk of a verbal repurchase transaction, from McCook's point of view, was that one end of the transaction may not be honored, making the holder subject to substantial market risk. (Div. Ex. 10 at 94.) Indeed, it was just such an event, un related to the instant case, that led to McCook's departure from Crestar in April 1994. (Tr. 700-01.)
The series of transactions involving blocks of bonds trading for large sums of money grew out of the business relationship between Hurst and McCook, which began well before April 1993, while McCook still worked for Crestar Bank, and before Hurst and Lynch opened First Montauk Houston. (Jnt. Ex. 11 at 23-25.) McCook had met Hurst over the telephone, and traded with him about twice a week when Hurst was still president of Hurst-Murchison, a government securities corporation broker-dealer that Hurst formed in 1985. (Jnt. Ex. 16 at 18-20.) Most of McCook's early trades with him involved customers on whose behalf Hurst purchased securities. (Jnt. Ex. 16 at 256-58.) Although McCook had to solicit business at the beginning of his career, by 1993 he had cultivated a national network of dealer banks and broker-dealers who called him half the time. (Tr. 773-74.)
Nobody at First Montauk ever told McCook to conceal anything from Crestar. (Div. Ex. 10 at 73-74.) While Crestar had a position in the bonds until settlement, it earned interest on them, which was greater than the mark-up that McCook charged First Montauk. (Div. Ex. 10 at 75-76.) McCook did not think he was doing anything wrong by following instructions by his supervisors to insert a third party. (Div. Ex. 10 at 79-80.) Doug Livingston (Livingston) at Simmons Bank (Simmons) made 1/32 of the price off a typical trade in exchange for his assistance to Crestar and McCook by purchasing the First Montauk bonds before Crestar did; Trading Desk of Memphis Incorporated (TDI) also earned a fee for doing the same in other transactions. First Montauk did not initiate the Simmons relationship or the TDI relationship. Simmons or TDI became a third-party intermediary in the transactions, participating in each of the Crestar-First Montauk Houston agreements at issue. (Div. Ex. 10 at 85-86.) In a typical repurchase transaction, Crestar simultaneously bought from and sold to another broker-dealer a security where Crestar held the security with a one-month extended settlement date. In exchange, Crestar charged a fee of 1/32 to 2/32 of the price plus interest payments generated from the securities during the holding period. (Jnt. Ex. 11 at 11.) Because of net capital requirements, Crestar had to know its monthly securities position, and obtaining permission to do repurchases was the way that McCook kept the firm apprised of those positions. (Jnt. Ex. 11 at 31-33.) It was not until after Crestar became an NASD member, that McCook was instructed by his superior John Tomlin (Tomlin) to use a third-party intermediary, something he had not done with repurchases in the past. (Jnt. Ex. 11 at 33.)
The paperwork for the fifteen transactions generally proceeded like other routine Crestar paperwork. (Tr. 771-73.) McCook was not personally responsible for mailing confirmations to First Montauk or to any other party. (Tr. 728-41.) Part of the confirmation process is a telephone call from the back office to the contra party, during which the trade or deal may be disavowed. The transaction may also then be renegotiated or agreed upon. (Tr. 743-44.) In the normal course of business, McCook's Crestar ticket would have the same date as the First Montauk ticket for a given securities transaction. (Tr. 748-51.) The confirmation from Crestar, based on McCook's order ticket, would also be mailed to First Montauk in the ordinary course of business. (Tr. 753-55.) First Montauk charged higher prices for the same collateralized mortgage obligations (CMOs) at later dates, but McCook did not realize that anything was unusual. In 1993, he executed about 2,000 buys and sells and thus did not notice a pattern in any of the First Montauk securities. McCook generally traded short-term, high quality, low-market risk bank investment paper, which was increasing steadily in value. McCook assumed that the increase in the price of the First Montauk CMOs was a function of the same rally. (Tr. 766-67.)
Crestar took interest from the CMO coupons plus 65% of the total commission. (Tr. 769-70.) For all fifteen transactions, Crestar received the same compensation of 2/32 plus an interest rate on the bonds. McCook disclosed to his supervisors Bailey and Tomlin the full terms of each transaction. (Tr. 541-43, 552-54.) He viewed the transactions as a favor to the broker and did not view his actions as putting Crestar at risk because he was sure that the brokers would redeem the securities, which they did. (Tr. 408, 765.) McCook did not check to see whether the bonds were bought or sold at the market price, and McCook never suggested a price for First Montauk or insisted that the bonds be traded at the market price. (Tr. 408; Jnt. Ex. 11 at 75-76.) Because Crestar kept the coupon interest on the bonds during its holding period, McCook insisted that a fee of 1/32 to 3/32 be added to the sale price so that he could generate a commission of 1/3 of the mark-up from the transactions. (Jnt. Ex. 11 at 76-78.) Crestar kept the rest of the mark-up plus the coupon interest. (Tr. 409-11.)
McCook engaged in short-term financing arrangements with First Montauk Houston, Simmons, and TDI, where prices were set by the firm that sold the securities to McCook. (Tr. 406; Div. Ex. 10 at 5, 6.) McCook was unaware of mark-ups to customers on the bonds that were the subject of the transactions. (Div. Ex. 10 at 8.) Although McCook turned his ticket in on the day of the transaction for the buy and the sell-back, McCook had no way of knowing whether the parties on the other side did the same thing. (Div. Ex. 10 at 12.) McCook never saw confirmations from the contra-party in any transactions at Crestar including First Montauk and its clearing firm, and nobody mentioned any First Montauk confirmation discrepancies to McCook. (Jnt. Ex. 11 at 51-53.) McCook knew that Hurst needed short-term financing to carry the security, and that Hurst wanted to get the security from First Montauk's books onto Crestar's books. (Tr. 485.) McCook also knew that Crestar would keep track of the security for Crestar's net capital purpose. (Tr. 486.) When Bailey told McCook to insert a third party into the transaction, McCook suggested Livingston at Simmons as the third party, but McCook did not know why a third party was necessary, and he did not ask. (Tr. 490-91.) McCook viewed the trade as simply an accommodation for Hurst, whom he had done business with for six to eight years without a problem. (Tr. 495.)
Although First Montauk's president did allow the Houston office to pay for a security and then locate a customer "in a couple of instances," the Houston office "generally" was not allowed to hold a position in a security without a committed buyer. (Tr. 33.) First Montauk did not want the firm's capital placed at market risk for any length of time, because it was a small firm with limited capital and resources, even though the firm did not have "regulatory concerns." (Tr. 33-34.) Because First Montauk was a market-maker in equity securities, the firm did not want its inventory to be used for "fixed income securities" like the ones in the instant case. (Tr. 35.) As for net capital computations, the firm calculated its position "on a daily basis" and filed a FOCUS report with NASD after its net capital calculation "at month end." (Tr. 36.) Hurst, Lynch, and Muller in Houston were supposed to engage only in riskless principal transactions, where the purchase and sale occurred simultaneously. (Tr. 37-38.) As for mark-ups, even for CMOs in riskless principal transactions, First Montauk's policy was that the difference between the purchase price and the sale price for the customer should not be more than 5%. This 5% guideline does not apply to inter-dealer transactions, however, because dealers are not part of the investing public that must be protected. (Tr. 40.)
A repurchase transaction, according to First Montauk's policy, is the sale of a security with the simultaneous obligation to buy the security back at a later date for a specific price. The Houston branch office was not allowed to engage in them, although they may serve a legitimate function in the securities business. (Tr. 43-44.) First Montauk did not approve repurchase agreements in 1993 and 1994 with Crestar, TDI, or Simmons, and its general counsel, Robert I. Rabinowitz, had never seen or communicated with McCook before the hearing in the instant case. (Tr. 44-45, 60-61.) First Montauk settled cases with the Commission, the county of Escambia, Florida, National Guardian Life (NGL), and individual customers related to the activities of First Montauk Houston, before the proceeding in the instant case. (Tr. 55-60.)
First Montauk Houston did not have a principal, a branch manager, or a supervisor. (Jnt. Ex. 16 at 56-60, 62-64.) Hurst did not review outgoing correspondence to customers or the daily blotters. (Jnt. Ex. 16 at 74-77.) Trades made in Houston were called in to New Jersey to Brian Cohen (Cohen), senior vice-president of First Montauk. (Tr. 170-71; Jnt. Ex. 16 at 85-86.) Hurst set up Fiscam Group Corporation to pay the expenses for First Montauk Houston, with himself as the only officer after failing the Series 24 examination twice in 1988. (Jnt. Ex. 16 at 91-93.)
There was no compliance or supervisor's manual at First Montauk Houston. (Jnt. Ex. 16 at 113-16.) Cohen did review the back office and examined the trading blotter for Houston once a quarter, but copies of confirmations were not received in Houston from New Jersey First Montauk or a clearing firm. (Jnt. Ex. 16 at 125-27, 149-51, 181-82.) Houston customers were confirmed only after Cohen in New Jersey was notified of the trade, but Hurst never saw an order ticket that Cohen filled out in New Jersey. (Jnt. Ex. 16 at 159-60.) Neither Hurst, nor anyone else reviewed the daily blotter at the end of each month. (Jnt. Ex. 16 at 166-67.) Hurst's income for 1993 before office expenses were deducted was over $2 million. (Jnt. Ex. 16 at 244-46.)
Cohen explained to Hurst that First Montauk Houston could not hold positions because it would "put them in net capital violation," but Hurst never discussed the issue with anyone else at First Montauk. (Jnt. Ex. 16 at 261-63.) The position limit set by Cohen for the Houston branch was $1 million, the figure given to Hurst, Muller, and Lynch. (Jnt. Ex. 16 at 266-67.) Hurst did not know, however, whether First Montauk was on a trade date or settlement date on a capital basis. (Jnt. Ex. 16 at 268-70.) Hurst did not know whether the firm filed monthly or quarterly, but Cohen was asked for permission before a position over $1 million was taken. (Jnt. Ex. 16 at 269-73.) Although Cohen approved the early transactions with Simmons and Crestar, there came a time when Cohen told the traders that they could not engage in them any longer. (Jnt. Ex. 16 at 294-96, 304-06.) McCook never informed Hurst that Crestar tickets showed later dates for Simmons or TDI repurchases, although McCook always told Hurst that he needed permission from his supervisors to perform the transactions. Hurst never told McCook that he actually needed the transactions so that he could extend the settlement date to avoid the net capital restrictions for First Montauk. (Jnt. Ex. 16 at 317-22.)
First Montauk Houston registered representatives usually asked that a bond be held for thirty minutes to allow the client to commit to the purchase before finalizing the purchase of a bond. (Jnt. Ex. 14 at 153-55.) All trades were called in to New Jersey First Montauk headquarters. (Jnt. Ex. 14 at 155-56.) Even on "future settlements," New Jersey knew about the transaction, because it also would be called in as a "when - issued transaction." (Jnt. Ex. 14 at 156-60.) First Montauk Houston sold almost exclusively to institutional clients, and the salesmen sold parts of CMO tranches to them at the time of the issue of the security, and attempted to complete the sale by the future settlement date set by the offeror of the tranche, or primary dealers. (Jnt. Ex. 14 at 161-64.) The branch office also occasionally profited greatly on inverse floaters that the primary dealer set prices on but where settlement was three months forward for the new issue. (Jnt. Ex. 14 at 164-66.) Hurst eventually got into trouble because he bought CMO principal-only bonds that became worthless before he could locate a regional dealer or institutional client. (Jnt. Ex. 14 at 169-72.)
Because First Montauk Houston sold only to insurance companies and banks, suitability was based merely on the portfolio of the insurance company or bank that was looking for a particular kind of CMO. (Jnt. Ex. 14 at 178-82.) When that bond was found by the First Montauk Houston registered representative, the buy decision was made in thirty minutes and the ticket was written up simultaneously with the primary dealer; the back office at First Montauk in New Jersey had confirmation within minutes. (Jnt. Ex. 14 at 183-87.) Cohen was kept informed by telephone of every trade before headquarters confirmed it. The order tickets stayed in Houston, but the written client confirmations were sent from headquarters in New Jersey. The First Montauk Houston office staff assumed that First Montauk in New Jersey merely generated an identical order ticket for the written confirmations. (Jnt. Ex. 14 at 185-88.) Because settlement during the month was left up to the customer, however, First Montauk in New Jersey had to be capable of delivering the bonds to the customer for payment within five days. (Jnt. Ex. 14 at 187-88.)
Lynch had also bought bonds from McCook for several years before the instant trades, and knew him through Hurst. (Jnt. Ex. 14 at 287-90.) He thought that the transactions with Crestar served a legitimate business purpose, and the increased price to the customer was simply the price paid for an extraordinarily good deal for the customer that would not have been possible or available to them otherwise. (Jnt. Ex. 14 at 293-96.) Because dealers in the primary market do not see each other's inventory, the offering prices often varied considerably for the same block of CMOs, and a tranche could be bought at a substantial bargain from dealer to dealer. The prices and bonds that NGL got were sometimes outstanding in spite of the increased cost basis. (Jnt. Ex. 14 at 297-98.) The intermediate transactions with Crestar, Simmons, or TDI were a way to maintain control over the bonds until a buyer could be located, rather then running the risk of losing a sale of a good deal. (Jnt. Ex. 14 at 309-10). First Montauk in Lynch's view had a right to whatever profit it could derive from their wise purchase of a bond below market price. (Jnt. Ex. 14 at 310.) Finally, the customer might often not be able to buy the bonds that month but could pay for them a month in the future, and First Montauk did not want to lose the sale. (Jnt. Ex. 14 at 313.)
The main office at First Montauk was responsible for the firm's books and records and net capital computations, not the Houston branch. (Tr. 194-95.) Cohen had never discussed books and records or net capital issues with McCook, and nobody ever told McCook that First Montauk did not allow the Houston branch to carry inventory. (Tr. 194-97.) William J. Kurinsky (Kurinsky), vice president, chief financial officer and financial principal at First Montauk Securities, was responsible for the monthly FOCUS reporting and books and records of the firm. (Tr. 65-66, 151-52.) First Montauk computed FOCUS report inventory positions for net capital on a settlement date basis, the last day of each month. (Tr. 67-69.) Kurinsky's examination of First Montauk Houston trading eventually revealed that First Montauk bought stocks back from Crestar that it had sold to TDI. (Tr. 70-71.) In the ordinary course of business, the clearing firm handled settlements after First Montauk Houston phoned orders into First Montauk New Jersey. (Tr. 158-59.) Repurchase agreements are hedging techniques for the purpose of locking in interest rates. "Banks do them a lot." (Tr. 166-67.) However, Lynch and Muller were not supposed to do repurchase transactions. (Tr. 166-67.)
Kurinsky did not know that there was a commitment by First Montauk to Crestar to purchase back the securities that had been sold to Crestar by Simmons or by TDI, who had bought them from First Montauk in the preceding month; therefore, the First Montauk FOCUS reports to NASD and the Commission did not include that information. Thus, they were inaccurate as to net worth and liabilities for fifteen transactions. (Tr. 90, 93-95.) Adjusted net capital for First Montauk was negative $77,735 for April 1993, but First Montauk did not cease operations because Kurinsky was not aware of the nature of the First Montauk Houston office transactions. (Tr. 96-97.) For August 1993, the true net capital position would have been negative $49,000; for October 1993, it would have been negative $65,000; for November 1993 negative $1,249,511. (Tr. 99-100, 104-06, 111-12.) The same is true for several more months for First Montauk. (Tr. 113-24; Div. Ex. 6.) Kurinsky did not learn of net capital valuation problems until 1995, and he never discussed any of those matters with McCook and never saw McCook until the hearing. (Tr. 128-29.) On February 27, 1998, McCook testified for the prosecution against the First Montauk Houston employees Kent T. Black, Hurst, Lynch, and Muller in criminal case 96-4261 lodged against them by the state of Florida. (Div. Ex. 10.) The instant case proceeded to trial against McCook alone on April 28, 1998.
CONCLUSIONS OF LAW
The Division's Position at Trial.
No substantial justification existed for the Division's position at trial. "[T]he position of the agency was substantially justified" within the meaning of the EAJA only if it was "reasonable in law and fact." 5 U.S.C. § 504(a)(1); see also 17 C.F.R. § 201.35(a); Pierce v. Underwood, 487 U.S. 552, 565 (1988). An independent evaluation of the evidence in the adversary adjudication must be conducted through an EAJA perspective to determine whether or not the agency's position was substantially justified. See Rita C. Villa, 71 SEC Docket 2438, 2443-44 (Mar. 8, 2000). I concluded in the underlying Initial Decision that the Division had not proven its case against McCook by a preponderance of the evidence. I now conclude that there was no substantial justification for the Division's position at trial, pursuant to the EAJA.
The OIP alleged that between October 1992 and March 1994, McCook willfully aided and abetted violations of Sections 15(c) and 17(a) of the Exchange Act and Rules 15c3-1, 17a-3, 17a-5, and 17a-11 thereunder, in connection with sales of government agency securities by another broker-dealer. An aiding and abetting violation of the federal securities laws involves three elements: (1) a primary or independent securities law violation committed by another party; (2) awareness or knowledge by the aider and abettor that his or her role was part of an overall activity that was improper; and (3) knowing and substantial assistance by the aider and abettor in the conduct that constituted the violation. See Graham v. SEC, 222 F.3d 994, 1000 (D.C. Cir. 2000); Woods v. Barnett Bank of Fort Lauderdale, 765 F.2d 1004, 1009-10 (11th Cir. 1985); Investors Research Corp. v. SEC, 628 F.2d 168, 178 (D.C. Cir. 1980); IIT v. Cornfeld, 619 F.2d 909, 922 (2d Cir. 1980); Rolf v. Blyth, Eastman Dillon & Co., Inc., 570 F.2d 38, 47-48 (2d Cir. 1978); Woodward v. Metro Bank of Dallas, 522 F.2d 84, 94-95 (5th Cir. 1975); SEC v. Coffey, 493 F.2d 1304, 1316-17 (6th Cir. 1974); Russo Sec. Inc., 65 SEC Docket 1990, 1998 & n.16 (Oct. 1, 1997); Donald T. Sheldon, 51 S.E.C. 59, 66 (1992), aff'd, 45 F.3d 1515 (11th Cir. 1995); William R. Carter, 47 S.E.C. 471, 502-03 (1981). A person cannot escape aiding and abetting liability by claiming ignorance of the securities laws. See Sharon M. Graham, 53 S.E.C. 1072, 1084 n.33 (1998), aff'd, 222 F.3d 994 (D.C. Cir. 2000).
I concluded that the Division proved a primary or independent securities law violation by First Montauk, due to their net capital, and books and record irregularities. See Black, Initial Decision, 76 SEC Docket at 1868-69. However, the Division failed to prove a parking scheme whereby First Montauk used sham transactions to pass nominal title to its bonds to Simmons, TDI, and Crestar, while at the same time retaining the economic incidents of ownership of those bonds. In light of First Montauk Houston's prompt post-repurchase sales of the bonds to its own customers, the use of coupon benefits by Crestar, the fees charged to First Montauk Houston by the purchasers, and the refusal of First Montauk to allow its brokers to hold the bonds overnight, it would have been unreasonable to conclude otherwise.
After having found that First Montauk engaged in a primary or independent securities law violation, I concluded that McCook had no knowledge that his role was part of an overall activity that was improper. Thus, the Division failed to establish aiding and abetting liability. See id. at 1870-71. The evidence presented at trial was consistent with McCook's characterization of the transactions as usual business conduct. The acts that constituted the improper conduct in this case were performed by First Montauk Houston, and were not alleged to have been committed by Crestar employees, or to have involved Crestar customer accounts. I found that McCook was too far removed from the perpetrators in the "chain of causation" to be aware of the violations. See Warren G. Trepp, 65 SEC Docket 614, 640 (Aug. 18, 1997) (holding that respondent had not aided and abetted his customer's violations because he was too remote from the customer's violations to be aware of them or to have actively assisted them). Moreover, McCook did not attend any of First Montauk's meetings and he was not privy to any discussions among First Montauk employees about net capital issues or books and records. No reasonable fact finder could have found otherwise.
There was no evidence presented at trial that contradicted McCook's testimony that each trade was approved by Crestar management. McCook's testimony that he had recorded accurate dates for trades except when he was instructed to do otherwise by Crestar management was also unrebutted by any trial evidence. Thus, McCook's habit of getting management's approval for each buy and sell transaction that involved First Montauk, as well as his creation of tickets for each phase of the transaction approved by Crestar management, evinced his ignorance of the improper acts committed by First Montauk. (Tr. 701-11; Jnt. Ex. 11 at 16-18.)
Likewise, I also concluded that the Division failed to show that McCook knowingly and substantially assisted First Montauk's violations. The Division argued that McCook knowingly and substantially assisted First Montauk by including the third parties, Simmons and TDI, in First Montauk transactions with Crestar, and then falsely dating the Crestar order tickets. The evidence and unrebutted testimony at trial established that McCook and the majority of the First Montauk branch employees were ignorant of First Montauk's net capital problems. The suggestion of inserting third parties into the transactions came from the Crestar supervisors Bailey and Tomlin, not McCook. Moreover, McCook's denials of altering trade tickets were unrebutted. With the exception of one alteration, any changes in Crestar order tickets were generated by Crestar's back office or by its management. The Division's position is that McCook's joking conversation with one of the third party investors about going to jail and his conversation about money problems at First Montauk Houston constituted circumstantial evidence of red flags. I disagree. It would be unreasonable for the Division to regard these conversations as evidence of wrongdoing, knowledge, or scienter. One was a joke and the other was clearly a business context or rationale for the repurchase agreements that First Montauk Houston sought. Cash payment was needed immediately for the purchase of bonds that could be sold quickly to First Montauk customers. Crestar had the cash, but First Montauk Houston did not. The joking was about the complexity of the repurchase agreements. This complexity arose from the reasonable goal of Crestar management to protect the broker-dealer from loss in the event of disavowal.
The Division knew all the facts that would exculpate McCook on the date of the trial in the instant case. The OIP was filed against McCook and four other First Montauk salesmen on September 26, 1997. On February 27, 1998, McCook testified against the four co-respondents. The instant case proceeded to trial against McCook alone on April 28, 1998. At the trial, the Division failed to call the Crestar supervisors Bailey, Tomlin, and Wright to testify. However, several First Montauk employees described the greed and failure to supervise at First Montauk Houston that led to its net capital violations and other illegal activity.
McCook was not impeached with his testimony from the earlier trial. Thus, it is clear that his testimony was consistent. He blamed his two supervisors for the insertions of the third parties Simmons and TDI into the repurchase agreements between Crestar and First Montauk. He also blamed them for the false dates placed on the Crestar order tickets. These two actions constituted behavior that the Division characterized as McCook's assistance in the parking scheme and as proof of his aiding and betting. The failure of Bailey and Tomlin to testify did not pose a credibility issue, as the Division argues. Their failure to testify constituted a failure of proof. The Division left McCook's testimony unchallenged, either by his own inconsistent testimony, the testimony of other witnesses, or documents. Indeed, a recording submitted by the Division showed McCook refusing to agree to a First Montauk repurchase without checking with his supervisor first. Thus, it would be unreasonable to conclude that McCook's trial testimony was false.
McCook's exculpatory testimony was corroborated by other credible evidence in the possession of the Division before the trial. The Division's own experts attributed to Crestar several business motives to account for many features of the First Montauk repurchases, including the participation of the third parties. Finally, the First Montauk employees whom the Division called as witnesses all testified consistently with the version of relationships and events described by McCook. None of those witnesses were impeached by the Division. The Division's position at trial lacked substantial justification from an EAJA perspective because the Division knew or should have known that no credible evidence would contradict McCook's exculpatory trial testimony. Therefore, rejection of McCook's testimony would have been unreasonable.
Fees and Expenses.
McCook seeks a total of $44,565.25 in fees and expenses that he incurred in connection with defending himself in the administrative proceeding and in drafting and filing his Application. The Division disputes McCook's final accounting, and argues that $44,565.25 is excessive and entirely inappropriate. I have examined McCook's schedules of fees and expenses that he submitted in his Application and find them to be reasonable in terms of hours devoted to the instant matters and in terms of expenses. However, the schedules are in excess of the prevailing rate authorized by the Commission in the Rules of Practice. See 17 C.F.R. § 201.36(b).
Reasonable attorney fees in an EAJA proceeding include fees for litigating the EAJA proceeding as well as the original adversary adjudication. See Russo Sec., Inc., 71 SEC Docket 74, 78 & n.14 (Nov. 10, 1999) (citing Commissioner, INS v. Jean, 496 U.S. 154 (1990); Trichilo v. Secretary of HHS, 823 F.2d 702, 707 (2d Cir. 1987)). The EAJA was amended, effective March 29, 1996, to raise the maximum attorney fee payable to $125 an hour, for adversary adjudications commencing on or after that date. The Commission, however, has not amended its Rules of Practice to raise the allowable maximum, which remains at $75.00 per hour. See 17 C.F.R. § 201.36(b). Therefore, McCook's Application in the amount of $44,565.25 will be denied. Instead, I conclude that McCook should be awarded fees and expenses in the amount of $15,127.75 (199.85 hours multiplied by $75.00 per hour, plus $139.00 in expenses) as calculated by the prevailing rate authorized by the Commission's Rules of Practice.
Pursuant to Rule 351(b) of the Commission's Rules of Practice, 17 C.F.R. § 201.351(b), it is certified that the record includes the items set forth in the record index in the original proceeding against McCook issued by the Secretary of the Commission on November 23, 1999, and the items filed in this EAJA proceeding.
IT IS ORDERED that Robert L. McCook's Application for Fees and Expenses IS GRANTED in the amount of $15,127.75.
This Initial Decision shall become effective in accordance with and subject to the provisions of Rule 57 of the Commission's Rules of Practice, 17 C.F.R. § 201.57. Pursuant to that rule, a petition for review of this Initial Decision may be filed within twenty-one days after service of the Initial Decision. If neither party seeks review and the Commission does not take review on its own initiative, this Initial Decision shall become a final decision of the Commission on June 20, 2002.
Lillian A. McEwen
Administrative Law Judge
|1||"(Tr. ___.)" refers to the page of the hearing transcript from April 28 through April 30, 1998. Citations to the Division's Exhibits and the Joint Exhibits that were entered during the initial hearing will be referred to "(Div. Ex. ___)," and "(Jnt. Ex. ___)," respectively.|
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