Speech by SEC Commissioner:
Remarks Before the SEC Speaks Conference
Commissioner Annette L. Nazareth
U.S. Securities and Exchange Commission
March 3, 2006
It is a pleasure to be here today. As you know, before I begin, I must remind you that my remarks represent my own views, and not necessarily those of the Commission, my fellow Commissioners, or the staff.1 For those of you who are repeat visitors to SEC Speaks, you may recall that I chaired this event for the past several years as the longest serving division director. In fact, I lamented that the only way to pass the task on to others was either to retire or to expire. I was clearly incorrect. It never occurred to me that there was a third way-to be appointed a Commissioner. I am delighted to be here in that capacity, and I am proud to have the opportunity to serve on the Commission. I remain passionate about our mission of protecting investors and ensuring fair and orderly markets. I am also deeply grateful to the staff with whom I continue to have the pleasure of working. The SEC staff is as professional and dedicated a group as you will find virtually anywhere. I have no doubt but that my appointment was due in large part to the 170 professionals in the Division of Market Regulation and countless others in divisions and offices throughout the Commission who made all of our efforts so effective. That level of teamwork and cooperation is critical to the agency's success.
As you know, there have been a number of issues for which it has become fashionable to criticize the staff. One of these issues was penalties. Corporate penalties were viewed as too high by a number of critics, many of whom laid the blame squarely on an "overzealous" Enforcement staff. But the last time I looked, only the Commission had the authority to settle cases, so if penalties were too high, it was because the Commission, or at least a majority of Commissioners, voted to approve those penalties. Thus, it was incumbent on the Commission, not the staff, to work towards a consensus view. And once clearly articulated, the Enforcement staff would quite enthusiastically apply that standard. I commend Chairman Cox for undertaking this task so early in his tenure, and for providing an opportunity for the Commission to thoughtfully construct the necessary guidance. I thought I would speak for a few minutes about that process and then more broadly about its significance.
Let me emphasize that, from the outset, we were united in our desire to protect investors and in our belief that civil monetary penalties are an important tool for deterrence of wrongdoing. We started our discussions by identifying the principles on which we agreed. To do this, we closely examined the sources of our authority to impose monetary penalties particularly, the law and its legislative history.
We recognized that monetary penalties are a relatively new tool in the SEC's enforcement arsenal. In 1990, Congress passed the Remedies Act, which for the first time allowed the SEC to seek civil monetary penalties against both individuals and entities for a wide range of federal securities law violations.2
The SEC had urged the adoption of the Remedies Act. Former Chairman David Ruder submitted a legislative proposal, along with an SEC memorandum in support of the proposed legislation, to Congress in January 1989.3 The SEC's memorandum specifically proposed civil penalty provisions that would permit, but not mandate, penalties against issuers. The Commission noted that in deciding whether to assess penalties, it could "properly take into account its concern that civil penalties assessed against corporate issuers will ultimately be paid by shareholders who were themselves victimized by the violations."4 The Commission specifically noted that penalties against issuers "should be imposed or sought only where the violation resulted in an improper benefit to shareholders," and it noted that it "would consider this factor and also the extent to which the passage of time has resulted in shareholder turnover."5 Thus, examining the contemporaneous documents demonstrated to us that even in 1989 when it proposed broad monetary penalty authority, the Commission was concerned that in exercising that authority it not penalize the victims of a fraud.
The SEC also provided testimony before Congress on this bill. Then Chairman Richard Breeden testified before the Subcommittee on Securities of the Senate Committee on Banking, Housing and Urban Affairs on February 1, 1990. He cited two primary reasons to authorize civil monetary penalty authority: increased deterrence and increased flexibility to tailor a remedy to the violation.6
Following the Remedies Act, the Commission has used monetary penalties as one of its tools to deter future violations and help maintain investor confidence. Large civil monetary penalties against corporations were used only rarely throughout the 1990s. However, the financial scandals of recent years have resulted in a fundamental shift in the types and magnitudes of frauds that have been uncovered. During this time period, there has been a corresponding increase in the number of cases in which the SEC has sought large financial penalties against corporations for their wrongdoing. These penalties reflected a rash of large-scale corporate wrongdoing that received nationwide focus and contributed to the passage of the Sarbanes-Oxley Act in 2002.
For purposes of the Commission's recent discussions on penalties, the Remedies Act continues to provide the appropriate framework for addressing these frauds. However, Section 308 of the Sarbanes-Oxley Act, the "Fair Funds" provision, has given the SEC an important additional tool with which to tailor our remedies. Prior to Fair Funds, any penalty money that the SEC collected went to the U.S. Treasury. Fair Funds allows the SEC for the first time to add monetary penalty amounts to any disgorgement that will be distributed to harmed investors. The availability of a Fair Fund distribution was a critical consideration in our recent discussions about the appropriateness of monetary penalties against corporations. In my view, the Fair Funds provision has the potential to substantially mitigate the concerns raised in the legislative history of the Remedies Act, and shared to this day by the Commissioners, about avoiding duplicative harm to victims of fraud. We now have the means to return monies to investors in corporate fraud cases.
All of this legislative history provided an important platform for the Commissioners to focus on the areas on which we could agree. Not surprisingly, we all agree that monetary penalties serve an important deterrence function and that they allow us to tailor a remedy more closely to the facts of each case. Thus, you will note that we made a strong statement that penalties are an essential part of an aggressive and comprehensive enforcement program.7 Our challenge was to provide added guidance and transparency about the factors that we consider in determining whether it is appropriate to impose a monetary penalty on a corporation and the size of any such penalty. After extensive discussions, we arrived at two principal considerations and seven additional considerations.
One principal factor is the presence or absence of a direct benefit to the corporation. The fact that a corporation itself has received a direct or material benefit from its wrongdoing weighs in support of the imposition of a penalty. Conversely, the fact that the current shareholders are the principal victims of the wrongdoing weighs against imposing a penalty.
The second, and equally important, principal factor, is the degree to which the penalty will recompense or further harm the injured shareholders. Imposition of penalties on a corporation may impose additional harm on shareholders. That having been said, in some cases, the penalty may be used to recompense shareholders. This ability to recover monies for injured shareholders weighs in favor of a penalty.
In addition to these two primary considerations, we have seven other enumerated factors that I won't detail today that will guide our decisions about whether to seek a monetary penalty from a corporate issuer.
In crafting the statement of principles, I was particularly mindful of the overall regulatory climate in which we operate. Since 2000, there have been an increasing number of fraud cases brought both criminally and civilly by other enforcement entities, including the U.S. Department of Justice and state attorneys general. Our counterparts on the criminal side, particularly the Department of Justice's Corporate Fraud Task Force, have faced some of the same challenges in determining when they should prosecute a corporation that we face in determining whether to seek civil monetary penalties. The SEC's actions do not occur in a vacuum but often are one piece of a larger set of government efforts to address wrongdoing. If we do not thoughtfully address these penalty issues, others may fill the void.
Our hope in setting forth these principles is that they will provide added transparency as to what we, the Commission, consider when we evaluate whether to seek monetary penalties against a public corporation. The Commissioners unanimously agree on these principles, but of course each case will be considered based on its own facts. Ultimately, each Commissioner must make an admittedly subjective determination about how these factors apply to the facts of a specific case. Since we now have a common framework within which to consider and discuss the cases, I expect that our dialogue will be productive and much more focused. As a result, I think we will be able to better understand our differences and potentially reach mutually agreeable solutions. Equally important, the guidance will be used by Commission staff in fashioning recommendations on enforcement actions. In my view the Commission must seek to provide clear guidance to the staff in other areas as well-whether it be procedures for initiating examination sweeps, or for issuing subpoenas to the press, or any number of other sensitive policy issues. If the Commission sends a clear and consistent message through guidance or otherwise, I have no doubt that we will all be more productive and effective in achieving our goals.
Thank you very much.