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Speech by SEC Staff:
Municipal Securities in the Information Age: Responsibilities under the Federal Securities Laws

Remarks of

Stephen J. Weinstein

Attorney, Office of Municipal Securities
U.S. Securities & Exchange Commission

Before the Georgia Government Finance Officers Association
15th Annual Conference
Augusta, GA

October 3, 2000

The Securities and Exchange Commission, as a matter of policy, disclaims responsibility for any private publication or statement by any of its employees. The views expressed herein are those of Mr. Weinstein and do not necessarily reflect the views of the Commission, the Commissioners, or other members of the Commission's staff.

I appreciate your invitation to participate in this Georgia GFOA meeting here in Augusta, and the opportunity to join my fellow speakers in your program. My name is Steve Weinstein, and I am an attorney with the Office of Municipal Securities of the U.S. Securities and Exchange Commission in Washington. Before beginning, I am required to remind you that my remarks here today represent my own views, which are not necessarily shared by my colleagues on the Commission staff or by the Commission.

In the next few minutes, I would like to talk about the basic principles of the antifraud provisions of the Federal Securities Laws, application to changing technology, and developments during this past year involving electronic disclosure, secondary markets and selective disclosure of municipal securities information. As state and local government officials and attorneys who participate in issuing municipal securities, you are responsible for complying with this body of law.

The municipal securities market in the United States is very large, extremely diverse and increasingly a model for other countries around the world. States and local governments have been issuing municipal bonds in this country for two centuries. Annual trading volume today averages around $ 600 billion, comprised about equally of new issuances and secondary markets. Approximately $ 1.5 trillion of U.S. municipal securities are currently outstanding, representing 1.5 million separate issuances. Individuals hold nearly three-fourths of this amount, either directly or through mutual funds.

Here in Georgia, during 1999, state and local governments issued approximately $ 6 billion of new municipal securities in 247 transactions, ranking 12th in the nation in volume; issuance in Georgia has grown by over 70 % over the last three years. Regulation of the municipal securities market in our country is based upon disclosure of information to investors.

On a personal note, I have dealt from your professional perspective with many of the issues I am discussing with you today. My own experience traces back to the New York City fiscal crisis, an unfortunate saga in American local government finance. Both the problem, of unprecedented proportion, and the solution, of first impression, centered on municipal securities. I was privileged to be part of the team of professionals carrying out what became a successful decade-plus workout, serving as Counsel and as Executive Director of the Municipal Assistance Corporation For The City of New York, or "MAC."

It is now, finally, the year 2000, and everything is pretty much still working all around the world, largely unaffected by the transition from two digits to four digits in computing operations. That is one less thing to worry about, at least for the next eight thousand years. But we are also, all of us, squarely in the "information age." Technological change abounds. Our ability to communicate one-to-one takes on new dimensions, and offers new choices. Resources are being rapidly expanded for storing and transmitting information as well, and the adaptation of the working professional worlds to the new technology seems to be accelerating beyond our common expectations.

This yet unnamed "information revolution" of the twenty-first century has the potential fundamentally to alter workplaces and societies on a scale similar to that of the "industrial revolution" of the nineteenth century. But that is a topic well beyond the scope of this series of meetings, and far outside of my own expertise.

Not surprisingly, however, the subject matter of this conference and the areas of regulatory concern to the Commission are by no means immune to this "information revolution." The issuance and trading of municipal securities are not isolated from the rapidly changing means of communication, transaction and dissemination of information. Just now is the municipal securities industry, along with the corporate stock community, beginning to experiment with incorporating fundamental technological evolution into its issuance and trading practices. This could prove an exciting time for issuers and investors alike. At the same time, however, today's juncture calls for careful consideration of compliance with the Federal Securities Laws by state and local government issuers, like yourselves, and your professional advisors, in monitoring and implementing change that will adhere to the fundamental legal principles.

The "information age" for municipal securities did not arrive with the onset of the year 2000, nor did it originate with the technological stirrings of the 1990's. For securities offerings in the United States, the information age began in the 1930's with the enactment of the statutes comprising the Federal Securities Laws, one of the milestones of the New Deal. The antifraud provisions of the 1933 Securities Act and the 1934 Securities and Exchange Act, applying to municipal securities as well as corporate stocks, were based on a simple principle – information disclosure. That principle has not changed over the years, nor has its overriding objective – protecting the investor.

The disclosure of information by securities issuers and securities brokers and dealers is the fundamental precept of United States law, regulation and practice. It is a policy deliberately crafted and chosen from alternatives as the foundation for regulation in this country. The guiding philosophy underpinning our system is most eloquently expressed in the words of Justice Brandeis: "Sunlight is said to be the best of disinfectants."

Our "disclosure-based" securities regulatory system stands in stark contrast to the other principal alternative of "merit-regulation." In that approach, a governmental securities agency analyzes the strength or risk of the credit, shares its conclusions with the investing public, and may bar particular issuances from reaching the market. Merit-based regulation is increasingly disfavored in those jurisdictions where it has been previously practiced, including some state governments in this country and many nations in Asia. Movements continue away from merit regulation, and in favor of mandating full and fair disclosure of information to facilitate credit judgments that take place in the open market.

Corporate securities offerings in the United States are subject not only to the antifraud provisions, but to the requirements that they be registered with the Commission. Registration and issuance of corporate securities must conform to Commission regulations as to information format and content for initial and periodic filings. These requirements are in the nature of a "legal checklist."

In contrast, municipal securities were expressly exempted from those registration requirements at the time of the 1933 and 1934 enactments, and that exemption was retained by Congress after consideration again forty years later at the time of its passage of the 1975 Amendments to the Federal Securities Laws. (The Amendments, among other things, created the Municipal Securities Rulemaking Board, and provided it and the Commission with certain rulemaking authority over municipal securities dealers, as I will point out again later.) This distinction, with municipal securities subject only to the disclosure-based "antifraud provisions," developed out of our political and constitutional history in the United States, as well as perceived differences in the practices and abuses prevalent in each of those respective market sectors.

Information- or disclosure- based regulation is increasingly attracting the attention in an expanding international arena of municipal securities, known in most other nations as "sub-sovereign debt." This is particularly so in the emerging and transitioning countries of Central and Eastern Europe, along with the Newly Independent States (formerly parts of the Soviet Union). It is being emulated in both mature and developing economies principally because it has proven so effective as a capital resource in the United States.

The antifraud provisions require full and fair disclosure of material information to investors in all securities, municipal as well as corporate. However, no specific content for municipal offerings is mandated by the Federal Securities Laws or by the Commission. Neither does statute or regulation prescribe particular format. While there is no "template" or "checklist" for disclosure, the concepts of materiality, accuracy and completeness, as found in Rule 10b-5, are applied to substance and presentation. Compliance is marked with flexibility as it is shaped by the issuer and by the market. All participants in municipal securities transactions are responsible for complying. The "official statement" in a new issuance of municipal securities is usually the principal disclosure document, and it is the issuer's document under the Federal Securities Laws. Disclosure in all forms and media is subject to enforcement by the Commission.

Rule 10b-5 says it all:

"It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails, or of any facility of any national securities exchange,

(1) to employ any device, scheme, or artifice to defraud,

(2) to make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in light of the circumstances in which they were made, not misleading, or

(3) to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of a security."

Rule 10b-5 applies to every participant in every securities transaction in this country.

Adherence to this rule and the antifraud provisions by you, as officials and attorneys of issuing governmental bodies, and by the legal and financial professionals you may employ, depends, of course, on the facts and circumstances of each offering situation. But such application is infused with common sense, informed by interpretive releases of the Commission, and enlightened by nearly 150 court cases and administrative proceedings brought by the Commission in municipal securities enforcement actions. We are nearing the end of the seventh decade of the information age for municipal securities in the U.S. system, which continues to prove flexible and adaptable to evolving practices and evolving technologies.

The statutory provisions and the underlying precepts of the Federal Securities Laws remain based on full and fair disclosure of all material information. Changes in preparation methodologies or distribution techniques throughout the decades have not altered disclosure standards, but have been measured by them. Developments in new types of securities practice and differing fact situations have not led to deviation from the disclosure standards, but have been shaped by them.

The antifraud provisions apply to all markets at all times. In addition, the Commission has adopted one rule specifically dealing with disclosure in the municipal market. That provision, Rule 15c2-12, applies to both initial issuance and secondary market disclosure. In initial issuances, it requires that an underwriter enter into a contract with an issuer specifying that the issuer furnish the underwriter official statements, and that the underwriter file those statements with designated repositories. [Related rules of the MSRB require that the underwriter distribute such official statements to customers (G-32) and file them with the Board itself (G-36).]

SEC Rule 15c2-12 also requires that the contract provide for disclosure to the secondary market on a continuing basis so long as the particular municipal securities are outstanding. The rule bars an underwriter from purchasing or selling municipal securities unless the issuer has entered into an agreement to make certain ongoing financial and operating information available to bondholders, through a designated repository. [www.sec.gov/consumer/nrmsir.htm ] The rule also requires filing with one of the repositories if any of eleven specified material events occurs during the life of the securities.

During the past six years, the Commission has brought more than 100 enforcement actions under the Federal Securities Laws in the area of municipal securities. Enforcement developments over the last year illustrate particular facts and circumstances. Although too lengthy to read from the podium, a text highlighting some of those developments appears as an appendix to this paper. These summaries of actual enforcement actions provide a useful reference for state and local government officials and professional participants in issuances, including disclosure situations, cases of conflicts, and securities markups. Also attached to this paper is a list of selected sources of guidance for municipal securities.

This is a good place to point to the SEC website, www.sec.gov/enforce.htm, where you may find the particular files in which to obtain additional information on these and other enforcement proceedings. It is also an appropriate moment to emphasize the Commission's ongoing concern with application of the antifraud provisions to situations of conflict of interest and corruption in connection with the offering of municipal securities.

The principles that form the bases of all these Commission actions over the past year or so illustrate the fundamental precepts of the Federal Securities Laws. The underpinnings of the U.S. system will continue to be applicable to municipal securities issuance circumstances and fact situations yet to unfold. These recent actions also illustrate applicability to all issuance participants -- – issuers, their officials, bankers, lawyers, accountants and conduit parties. The underlying principles will also continue to apply to whatever form of technology is devised and implemented in the issuance or information dissemination processes. The "information age" for municipal securities regulation will continue into its eighth decade with its principles intact, just as breakthroughs in new technology will provide new means of composing and communicating required disclosure in the enabling and accelerating "information revolution" of the twenty-first century.

Returning to that theme of municipal securities in the information age, issuers and regulators alike must be cognizant of technological evolution all around us. The world of technology and communication techniques is changing rapidly. Your task is to measure those changes in conducting your financings, not only in terms of resource allocation and market perception, but by their compliance with the antifraud provisions.

Today's municipal bond investors do have next day internet access to trade information for any municipal bond that trades four times or more a day. In addition to information available from central repositories, financial news services report matters ranging from failure to file annual reports to defaults and bankruptcies, along with more general municipal market news. You have the option and opportunity to communicate with investors electronically, as several issuers have demonstrated. Other issuers, small and big, are following. And you may sell your bonds over the internet, a process that has begun with issuers using private companies and may expand to direct internet sales by issuers themselves. The antifraud provisions apply in all these instances, just as they do in the more traditional forms of municipal securities offerings. Statements that violate the Federal Securities Laws when set in type and printed on paper are not somehow cleansed if they are converted to electrons and appear on screens.

The medium is not the message. The medium is simply the medium. It is like the color of the paper or the style of the typeface or the choice of mail or messenger. The message is the message. And it is the message that is tested against the full and fair disclosure requirements of the antifraud provisions. Our disclosure-based regulation of the municipal market does not specify any format preferences or content particulars. The Commission's 1994 interpretive release, which should be read cover to cover by market participants, stresses the goals of clarity and conciseness, but leaves the choice of presentation and substance in achieving those goals to the market.

Dissemination of information utilizing new internet capabilities is subject, of course, to the criteria of compliance with antifraud and related rules, as well as SEC Rule 15c2-12 and related MSRB Rules G-32 and G-36. You should note, however, that electronic distribution does not now displace paper; electronic disclosure for municipal securities must also be available on paper for delivery by underwriters to investors who do not consent to internet delivery, and for filing by dealers with the MSRB. Today, 62% of households in this country do not have access to the internet. The technological parameters of systems and languages and safeguards and composition are the province of specialized technicians who create and operate internet websites, so long as they are not violative of the antifraud provisions. The antifraud standards are straightforward and time-tested, and apply equally to any means of disclosure distribution.

The Commission issued its Interpretive Release on Use of Electronic Media this Spring. From time to time, the Commission provides guidance relating to topics of general interest to the business and investment communities by issuing "interpretive releases," containing its views on a topic and interpreting the Federal Securities Laws and its own regulations in connection with the topic. This guidance on disclosure over the internet applies to municipal as well as corporate securities. The antifraud provisions apply to all persons in all markets – that is, to municipal and corporate issuers alike. This release also speaks specifically to the municipal market in several respects. [ Interpretive Release on Use of Electronic Media, Securities Act Release No. 33-7856, Exchange Act Release No. 34-42728, Investment Company Act Release No. 24426 (April 28, 2000); www.sec.gov/rules/concept/34-42728.htm ].

In the introduction to this release, the Commission notes that "the increased availability of information through the internet has helped to promote transparency, liquidity and efficiency in our capital markets." The Commission "considered the significant benefits that investors can gain from the increased use of electronic media … and the potential for electronic media … to be used to defraud the investing public." The guidance is intended to advance the central goals of the Federal Securities Laws: "ensuring full and fair disclosure to investors; promoting the public interest, including investor protection, efficiency, competition and capital formation; and maintaining fair and orderly capital markets." The release expressly states that is designed to provide guidance to issuers of all types, including municipal securities issuers.

Several points relate specifically to the official statements that constitute the basic disclosure documents of the issuer of municipal securities:

  • "A municipal securities underwriter may rely on a municipal securities issuer to identify the documents on, or hyperlinked from, the issuer's web site that comprise the preliminary, deemed final and final official statements, even if the issuer's web site contains other documents or hyperlinks to other web sites."
  • " Hyperlinks embedded within an official statement itself, however, will be considered part of the official statement, even if a municipal securities issuer has not specifically identified the embedded hyperlinked information."
  • "For any municipal securities offering subject to Rule 15c2-12, the paper and versions of each of the preliminary, deemed final and final official statements must be the same."

Although the release does not address the implications of on-line offerings of municipal securities, the Commission specifically encouraged comments on this topic.

Another important subject on which the Commission did not take a position in the electronic release concerns outdated information on an issuer's web site. It observed but did not adopt the view of some legal commentators that a statement may be considered to be "republished" each time it is accessed by an investor or each day that it appears on a web site and potentially give rise to liability under the antifraud provisions. Instead, the Commission expressly requested comment on "how to facilitate the availability of historical information on the Internet consistent with the federal securities laws."

All of the guidance in the electronic media release relates, of course, to the responsibility of market participants under the antifraud provisions. "It is important for issuers to keep in mind that the federal securities laws apply in the same manner to the content of their web sites as to any other statements made or attributable to them." The ultimate determination of liability would still be based on whether a claim has been established under Section 10(b) of the Exchange Act and Rule 10b-5.

Neither are the disclosure requirements of antifraud somehow diluted nor compliance relieved by an up-cycle of the national or regional economy, no matter how pronounced or how prolonged. The current wave of economic expansion in the United States is unprecedented. The direction and duration are remarkably consistent across all areas of the country. This remarkable business cycle is reflected in the cash receipts of our state and local governments, where general fund surpluses have become the norm. A leading industry publication recently observed that "municipal issuer upgrades continue to outpace downgrades by a wide margin….."

Issuers and investors alike, however, would be remiss not to provide or demand accurate and complete information about municipal securities even in today's economic environment. The Federal Securities Laws mandate disclosure that is not materially misleading in good times as well as in bad or changing times. Good sense requires the same vigilance in providing full and fair disclosure for investors. Avoiding disclosure of bad news in good times can be the source of just as much trouble for an issuer as in bad times.

Furthermore, even in overall good times, there may be particular sensitivity in certain sub-sectors of the municipal market, which may consist of riskier credits, experience higher default rates or be particularly complex or untested. For example, even over the past few years, as before, there have been numerous defaults in the land-based real estate development sector of the municipal market, the so-called "dirt-bonds," such as reported by authorities for experience in the State of California. Eight of the Commission's enforcement proceedings to date have involved land-based financings.

In another significant example, the health care sector indicates that not everyone is enjoying prosperity, even today. A volatile situation can only increase the risk of misleading disclosure that falls short of providing all material information known to the issuer. The health care sector is most frequently singled out by analysts as filing stale annual reports.

Information released to the market must be complete and accurate to comply with the antifraud provisions. Good practice may dictate further that material information be released promptly. Municipal issuers in sectors that are stressed or complex may wish to consider whether they should report publicly on a more frequent basis than the annual requirement of Rule 15c2-12, as the housing sector does already.

You have a central role to play in our regulatory system, as informed issuers. In discharging your responsibilities, you should also make certain that the finance industry professionals you retain are also informed and expert in this field. And you should remember that your bondholders are your investors, who are in a very real sense a second constituency for state and local governmental entities issuing securities. In short, know the law, know your advisors, know your responsibilities, know your practices, know our guidance, respect your constituency and apply common sense.

Please avail yourselves of the resources of the Commission in this area. The Office of Municipal Securities is conducting an extensive program of reaching out to market participants, in forums like this one, in professional dialogues, and in compilation of written references. Our compendium of Commission actions and is available on the internet at www.sec.gov/offices/munisec/mbonds/omstoc.htm. Our phone number is 202-942-7300. Our e-mail address is oms@sec.gov. And for those of you preferring stamps and envelopes, we do have a postal address as well – 450 Fifth Street, N.W., Washington, D.C. 20549-0509.

We will host the Second Annual Municipal Market Roundtable on Thursday, October 12, 2000, at the Commission's headquarters in Washington, D.C., with a cross-section of industry panels on current topics, and we invite all of you to attend. The Commission sponsored the first roundtable last fall, and the transcript is also accessible on our web site, at www.sec.gov/rules/othrindx.htm. Our purpose in these roundtables is to help you make the best use of the disclosure framework discussed here today and to continue to improve communication with your investors. The roundtables bring different groups of market participants together, such as issuers, bond lawyers and investors, to discuss their perspectives on current market practices face to face. The date again is October 12th.

In conclusion, why does disclosure matter? Complete and accurate disclosure of facts material to an investment in a security is essential to a prospective purchaser because of the unusual nature of the commodity. A share or a bond has no intrinsic value, but represents a defined right in a private or public enterprise. A security is unique in not being susceptible to any form of tangible inspection by anyone. The investor's evaluation of an investment decision is dependent upon access to relevant and truthful information uniquely within the control of the issuer. Protection from fraudulent or misleading material statements or omissions is the regulatory means of ensuring the full and free flow of information to the marketplace. Disclosure defines the information age in municipal securities.


This action against a municipal issuer and senior city officials involves both initial and secondary market disclosure.

In the Matter of the City of Miami, Florida, Cesar Odio and Manohar Surana, Securities Act Release No. 7741, Exchange Act Release No. 41896, A.P. File No. 3-10022 (September 22, 1999): Last fall, the Commission instituted cease-and-desist proceedings against the City of Miami and against two top city officials – Cesar Odio, the City Manager, and Manohar Surana, its Director of Finance. The Commission's order alleged that the City, through Odio and Surana, violated the antifraud provisions in connection with the offer and sale to the public of municipal bonds issued by the City in June, August and December of 1995. The order also alleged that the City, through Odio, violated the antifraud provisions when it disseminated its "Comprehensive Annual Financial Report" for fiscal year 1994 to the investing public in September 1995. Odio and Surana have entered into settlements without admitting or denying the allegations. The proceeding against the City is still pending.

The next three cases, in Federal District Courts in Florida, Georgia and Pennsylvania, are civil suits brought by the Commission that involve conflicts of interest, including receipt of undisclosed compensation, in violation of the antifraud provisions.

SEC v. William Jay Ramsey, Civ. Action No. 4-99CV-303-WS (N.D. Fla.); Litigation Release No. 16241 (August 4, 1999): Last August, the Commission announced the filing and settlement of an enforcement action against William J. Ramsey, a former board member of the Florida Housing Finance Agency, for failing to disclose his receipt of compensation in connection with selecting a brokerage firm for the Agency's bond business, Stephens Inc. of Little Rock, Arkansas. Without admitting or denying the allegations, Ramsey agreed to settle the action by paying a $ 10,000 penalty, disgorging the compensation he received plus interest, and consenting to the entry of an injunction prohibiting him from future violations of the antifraud provisions. In a related action, Stephens, without admitting or denying the findings, consented to the issuance of an administrative order that found, among other things, that Stephens secretly paid Ramsey and failed to disclose the actual and potential conflict of interest created thereby to the Agency and investors in the Agency's bonds. In the Matter of Stephens Inc., Securities Act Release No. 7612, Exchange Act Release No. 40699, A.P. File No. 3-9781 (November 23, 1998).

SEC v. Paschal Gene Allen, Civ. Action No. 1-99-CV-2986 (N.D. Ga.); Litigation Release No. 16362 (November 18, 1999): In November of 1999, the Commission filed a complaint against Paschal Gene Allen, a former public finance banker in the Atlanta office of Stephens Inc., for taking undisclosed payments in connection with an investment that he recommended to his financial advisory client – Fulton County, Georgia. The complaint also charges Allen with taking undisclosed compensation from underwriter's counsel in connection with five local bond issues in Georgia. The complaint, filed in the Northern District of Georgia, alleges that, in conduct from 1991 through 1998, the defendant did not disclose arrangements for payments to him by other participants in the transactions, and that his failure to disclose the actual and potential conflicts of interest created thereby violated the antifraud provisions (along with MSRB Rule G-17 on fair dealing). Without admitting or denying allegations, Allen agreed to the entry of a final judgment permanently enjoining him from future violations of the antifraud provisions and MSRB Rule G-17. In addition, Allen agreed to pay disgorgement of just over $ 6,000 and a civil penalty of $ 20,000. He also agreed to the entry of a Commission order barring him from associating with any securities broker or dealer or municipal securities dealer.

SEC v. Patrick H. McCarthy, Civ. Action No. 1-99-cv-2003 (M.D. Pa.); Litigation Release No. 16356 (November 17, 1999) (and six related actions): Also last November, the Commission filed a complaint for securities fraud against Patrick H. McCarthy, a Philadelphia attorney and former fundraiser and senior advisor to the past Treasurer of the Commonwealth of Pennsylvania. The complaint charged McCarthy with arranging for his law firm to receive undisclosed compensation, in violation of his fiduciary duty, and for influencing the selection of a securities dealer in two Pennsylvania refunding bond offerings in 1994. This is a complicated story involving multiple relationships among consultants and attorneys advising a state issuer of municipal securities, and I refer you to the court papers for the particulars. The Commission's complaint alleged that the defendant had knowingly or recklessly failed to disclose to the Treasurer's office or to the Commonwealth that he had a conflict of interest arising from his payment arrangements with a financial advisor and a broker-dealer relating to the refunding offerings. Without admitting or denying the Commission's allegations, McCarthy consented to the entry of a final judgment. That judgment enjoins him from violating the antifraud provisions and to pay a civil penalty of $ 100,000; in addition, his law firm voluntarily returned to the Commonwealth of Pennsylvania more than $ 172,000 in payments it had received from a consulting firm and from a broker-dealer, Alex. Brown and Sons Incorporated. The Commission also instituted administrative proceedings with other individuals and entities involved with the Pennsylvania refundings, including BT Alex. Brown Incorporated, Alex. Brown's corporate successor, and Arthurs Lestrange & Company, another broker-dealer involved in the transactions. In the Matter of BT Alex. Brown Incorporated, Securities Act Release No. 7772, Exchange Act Release No. 42145, A.P. File No. 3-10097 (November 17, 1999) (Settled Final Order); In the Matter of Arthurs Lestrange & Company and Michael P. Bova, Securities Act Release No. 7775, Exchange Act Release No. 42148, A.P. File No. 3-10100 (November 17, 1999) (Settled Final Order).

Four related administrative proceedings and court cases filed in the spring concern disclosure in the secondary market, as distinguished from initial issuance.

In the Matter of Allegheny Health, Education and Research Foundation, Exchange Act Release No. 42992, A.P. File No. 3-10245 (June 30, 2000); In the Matter of Albert Adamczak, C.P.A., Exchange Act Release No. 42743, A.P. File No. 3-10196; In the Matter of Stephen H. Spargo, C.P.A., Exchange Act Release No. 42742, A.P. File No. 3-10195; SEC v. David W. McConnell and Charles P. Morrison, Civ. Action No. 00CV2261 (E.D. Pa.), Litigation Release No. 16524 (May 2, 2000):

In May, the Commission instituted proceedings against a non-profit healthcare organization in Pennsylvania, the Allegheny Health, Education and Research Foundation, or AHERF, and two senior officers in its accounting department (Albert Adamczak and Stephen H. Spargo), and filed a complaint against two senior executives of the organization (David W. McConnell and Charles P. Morrison).

AHERF was the parent holding company of numerous subsidiaries, which filed for Chapter 11 bankruptcy on its own behalf and four of its subsidiaries in July 1998. Those subsidiaries were hospitals and health care organizations that were contractually obligated to make payments to cover debt service on bonds issued publicly on their behalf by tax-exempt issuers in Pennsylvania. At the time of the Commission's actions, such outstanding municipal securities aggregated more than $ 900 million.

The Commission found in its orders that AHERF, Adamczak and Spargo, and alleged in its complaint that McConnell and Morrisson, had violated Section 10(b) of the Exchange Act and Rule 10b-5 thereunder by (1) overstating the net income of one of AHERF's subsidiaries for 1996 and (2) overstating AHERF's own and a subsidiary's net income for 1997 in its annual financial statements which it then included in its "Secondary Market Disclosure Reports." Those were the reports it filed pursuant to its contractual commitments with its underwriters for continuing disclosure, as required by the Commission's Rule 15c2-12, with a "nationally recognized municipal securities repository." AHERF, Adamczak and Spargo entered into settlements simultaneous with the filings, without admitting or denying the Commission's findings; the orders also barred them from practicing before the Commission pursuant to its Rule 102(e). Without admitting or denying the allegations, McConnell agreed to the entry of a final judgment enjoining him from violating the antifraud provisions and ordering him to pay a penalty of $40,000. Litigation of the action against Morrison is pending.

The Commission's orders stated: "Section 10(b) of the Exchange Act and Rule 10b-5 thereunder make it unlawful to make any untrue statement of material fact or to omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading. Any issuer that releases information to the public that is reasonably expected to reach investors and trading markets will be subject to the antifraud provisions. … The antifraud provisions are equally applicable to disclosures in the secondary market for municipal securities. …" Issuer officials should pay close attention to disclosure in the secondary as well as initial issuance markets. You should also pay attention to disclosure on behalf of obligated entities as well as on your own behalf.

Another recently settled proceeding concerns breach of fiduciary duty as well as misleading disclosure in the sale of government securities to municipal issuers.

Yield-Burning, www.sec.gov/news/extra/yeildb.htm (April 6, 2000): In April of this year, the Commission announced that it had brought and settled civil administrative fraud charges against ten Wall Street and regional brokerage firms for overcharging municipalities for U.S. Treasury securities in a practice commonly known as "yield-burning." The settlements were part of a "global resolution" of all yield-burning claims, with a total of 17 brokerage firms, by requiring them to pay a total of more than $ 120 million to the United States Treasury. (Those payments will preserve the tax-exempt status of more than 3,600 separate issues of municipal bonds.) In addition, municipalities will receive directly more than $ 18 million. The global resolution payments are the largest settlement in any municipal securities case, and among the largest ever paid in any SEC settlement. Without admitting or denying the findings, each firm consented to a censure, a cease-and-desist order prohibiting future violations, and agreed to disgorge ill-gotten gains. (Together with four previously settled yield-burning actions, 21 brokerage firms have paid $ 148 million into the U.S. Treasury and $ 22 million to municipal issuers concerning over 3,700 tax-exempt issues.)

In addition, two of the firms, Dain Rauscher Incorporated and William R. Hough & Co., were charged with violations of Section 10(b) and Rule 10b-5 of the Securities Exchange Act of 1934. In the case of those two firms, the Commission found that they had breached their fiduciary duty to a financial advisory client (a public entity issuing municipal securities) by failing to make necessary and important disclosures in connection with a refunding and by charging excessive, undisclosed markups on securities sold to the clients. SEC v. Rauscher Pierce Refsnes, Inc., Dain Rauscher Incorporated and James Feltham, Civ. Action No. 98-CV-0027 PHX ROS (D. Ariz.), Litigation Release No. 16505, A.P. File No. 3-10182 (April 6, 2000); In the Matter of William R. Hough & Co., Securities Act Release No. 7826, Exchange Act Release No. 42632, A.P. File No. 3-10176 (April 6, 2000).