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Controls of Negotiated Settlements

Audit No. 218
September 20, 1995

SUMMARY

Controls over negotiated settlements of enforcement cases were generally adequate, based on our review. We are recommending several enhancements, including: creation of a separate unit in the Division of Enforcement to monitor compliance with settlement terms; earlier consideration of settlement issues by the Commission; consultation with the Branch of Regional Office Assistance (BROA) for all settlements; and establishing a data base of prior settlements.

OBJECTIVES AND SCOPE

Our primary objective was to determine whether controls over settlements were adequate. Also, we sought to determine whether the settlement process could be made more efficient, and whether monitoring of settlement terms could be improved.

We interviewed staff in the Division of Enforcement and three regions (Northeast, Central, and Pacific), and reviewed a judgement sample of 24 negotiated settlements. The audit was performed between September 1994 and May 1995.

BACKGROUND

Most investigations eventually result in a negotiated settlement between the Commission and the subject, resolving the allegations. Typically, the subject neither admits nor denies the violation of the securities laws, and agrees to the imposition of sanctions, such as disgorgement of profits, penalties, and a bar from the securities industry. Through settlements, the Commission avoids time-consuming litigation while still protecting investors.

The staff needs approval from the Commission to enter into settlement negotiations, and the Commission approves virtually all settlements.¹ Settlement offers are reviewed based on the facts and circumstances of the case, including the severity of the alleged conduct, the sanctions imposed in similar, prior cases, policy considerations, litigation risk, and the likelihood of future violations.

AUDIT RESULTS

Generally, controls over negotiated settlements appeared adequate. Regional cases are reviewed by the Regional Administrator, the Branch of Regional Office Assistance (BROA), relevant headquarters divisions, and the Office of the General Counsel (OGC). Headquarters cases are reviewed by senior Enforcement managers, other divisions, and OGC. All settlements are reviewed and approved by the Commission, which helps ensure consistency with policy.

The Commission has established procedures for evaluating financial hardship claims by subjects. Subjects must submit sworn financial statements, which demonstrate an inability to pay a disgorgement or penalty. Repayment is required if the financial statements prove to be false.

As discussed below, we are recommending several enhancements to settlement procedures.

Settlement follow-up

After a settlement is reached, the lead attorney for the case monitors payments of disgorgements and penalties under it. However, enforcement attorneys generally are not trained in collection procedures, and their primary focus is on current cases.

The Justice Department has a central unit with trained staff to monitor collection of funds owed it. This approach makes sense for the Commission, especially considering that settlement claims total millions of dollars.

Recommendation A

The Division of Enforcement should improve collection procedures for settlements. For example, it should consider establishing a central unit to monitor collection of settlement payments. Paralegals assigned to such a unit should be given appropriate training.

Consideration of Settlement Issues

Several staff we interviewed indicated that earlier consideration of settlement issues would be helpful and save time. Currently, at the conclusion of an investigation, the staff receive authority to negotiate a settlement through an action memorandum (which also requests authorization for enforcement action, such as the filing of civil litigation).

The action memorandum does not discuss the general parameters of an acceptable settlement. If this issue were raised by the staff and considered by the Commission, the staff would have a better basis for settlement negotiations.

Recommendation B

The Division of Enforcement and the regions should discuss the general parameters of an acceptable settlement in their action memorandum requesting negotiation authority. The action memorandum should request the Commission's views on this issue.²

Wells submissions

Subjects sometimes provide an offer of settlement with their Wells submissions.³ These offers are reviewed by the staff and the Commission, and may provide a starting point for settlement negotiations. A number of staff told us that a settlement offer provided with the Wells submission is very useful, as it expedites the settlement process.

Some subjects (particularly those associated with small companies) may not be aware that a settlement offer can be included with their Wells submission.

Recommendation C

The Division of Enforcement and the regions should informally advise subjects that a settlement offer may be included with their Wells submission. The staff should make it clear that subjects are not required to make a settlement offer.

Review by BROA

The Branch of Regional Office Assistance reviews all settlements negotiated by the regions, to ensure consistency with Commission policy. BROA does not routinely obtain copies of settlements negotiated by the Division of Enforcement, although senior Division staff informally discuss some settlements with BROA.

Obtaining copies of Division settlements would help BROA provide assistance to the regions on Commission settlement policy.

Recommendation D

The Branch of Regional Office Assistance should obtain copies of settlements negotiated by the Division of Enforcement.

Settlement Data Base

Many staff we interviewed felt that more information on acceptable settlements would be helpful in conducting negotiations. A data base containing prior, approved settlements could provide this information.

Recommendation E

The Division of Enforcement should establish a data base of settlement information, with appropriate controls. It should consult with the Office of Information Technology as necessary.

Endnotes

¹ The Secretary has delegated authority to approve settlements of administrative proceedings where complete relief is obtained and the Commission reviewed the initial order instituting the action.

² A prejudgment waiver from the subject would be necessary for administrative proceeding settlements.

³ A Wells submission is a written statement to the Commission, in which subjects on their own initiative set forth their interests and position in regard to the investigation.  It is generally submitted as the staff is preparing a recommendation for the commencement of an enforcement proceeding (17 CFR section 202.5(c)).