Meaningful Disclosure : Hagens Berman

Wall Street Tip-Off Law Critical to Drawing Out Corporate Whistleblowers

Reed Kathrein — Thu, 12 Aug 2010 18:10:00 GMT

At one point in the 1999 movie "The Insider," 60 Minutes producer Lowell Bergman (portrayed by Al Pacino) tells distraught Big Tobacco whistleblower Jeffrey Wigand, "Guys like you are in short supply."

Bergmann's right. Whistleblowers are in short supply because they rightfully fear retribution from their employers for speaking truth to power. In "The Insider," Wigand (portrayed by Russell Crowe) watches as his family is threatened and his personal and professional reputation smeared when he blows the whistle on his former employer, the Brown & Williamson tobacco company.

However, a new law born of the Dodd-Frank Wall Street Reform and Consumer Protection Act will help incentivize and protect those like Wigand who risk coming forward with allegations and proof of corporate malfeasance.

I think the lawmakers behind the new law are on the right track. The law will help fight fraud, which played a pivotal role in the economic meltdown that millions of Americans are still trying to survive. Also, securities regulators are already stretched too thin to chase down all the bad guys. Giving Big Business insiders a monetary incentive to risk their careers and come forward with information about corporate wrongdoing will give investigators a powerful tool for rooting out transgressors.

The mechanics of the "Wall Street tip-off law", as it's come to be known in the press, are pretty simple: The law empowers the U.S. Securities and Exchange Commission to award between 10 percent and 30 percent of any monetary sanctions of more than $1 million to whistleblowers who provide information leading to a successful SEC enforcement.

Needless to say, substantial sums have already been awarded. According to an Aug. 8 Financial Times story, a woman named Karen Kaiser was awarded $1 million after she provided information that helped secure a $28 million settlement in an insider trading action the SEC brought against hedge fund giant Pequot Capital Management.

The new law, which has its foundation in Civil War era measures first put in place to combat military procurement fraud during the 1860s, already has its detractors – mostly attorneys of corporations that have to defend their clients and employers against accusations of wrongdoing.

Those skeptical of the Wall Street tip-off law have voiced concern that the SEC – already overwhelmed by vast amounts of data and information – will be forced to expend precious resources on investigations of allegations of securities fraud based on information coming from whistleblowers whose main motive is a piece of the settlement pie.
The argument is specious, at best.

First, as the law is set up now, no whistleblower is awarded a portion of any financial sanction unless the information provided leads to a successful SEC enforcement. Second, law enforcement has offered monetary rewards for information leading to the capture of suspects or the resolution of so-called "blue-collar" criminal cases for years. Why is it all right to offer monetary incentives for useful information in "blue-collar" cases, but not in "white-collar" cases?

What's more, the Internal Revenue Service has had mechanisms similar to the Wall Street tip-off law in place since at least 2006. Shouldn't the SEC – the agency charged with oversight of powerful Wall Street banks and financiers – have the same investigative tools at its disposal as the IRS?

Though some might question the motives of some whistleblowers, the critical role these individuals play in keeping powerful interests in America on the straight and narrow can be seen time and time again. Think Jeffrey Wigand and Big Tobacco. Or Sherron Watkins, whose testimony blew the lid off the shenanigans at Enron. Or Frank Serpico, the former New York Police Department detective whose testimony exposed widespread corruption among the city's plain-clothes officers during the late 1960s and early 1970s.

The list goes on and on. In many cases, whistleblowers' lives and livelihoods were threatened by their employers and colleagues. At the very least, they had to endure severe social and public ostracism. Take their bitter experiences into account and it soon becomes clear why a monetary incentive is needed for whistleblowers to come forward with useful information.
Americans are still licking their wounds from the latest round of illicit Wall Street activities. We at Hagens Berman believe the new Wall Street Tip-Off law is a step in the right direction that will help regulators crack down on securities fraud and accounting irregularities.

Interestingly, we worked very closely with Jeffrey Wigand. We represented 13 states against Big Tobacco and worked closely with Jeffrey in making sure the eventual settlements protected him. Back then, whistleblower laws didn't give him nearly the protection they do today. And Mr. Pacino was right – guys like Jeffrey are in short supply. They stick their neck out to try and do a societal good.

Oppenheimer Champion Income Fund – If it walks like a duck…

Reed Kathrein — Wed, 25 Feb 2009 00:20:00 GMT

Earlier today, we filed a class-action suit on behalf of investors in the Oppenheimer Champion Income Fund (OPCHX). We are claiming that the fund managers misled investors; we contend they painted the fund as a conservative, high-income fund with a risk profile at par with other funds in its class. Instead, we believe Oppenheimer actually morphed the fund into a much riskier, volatile fund, investing in highly speculative derivates.

You know the old saying, if it walks like a duck...

From what we see here and what we've heard from investors, this fund has more in common with a hedge fund than a high-income fund.

The issue is that when Oppenheimer touted these funds to investors, we believe they hid the ugly parts of the duck - the risk - and touted the benefits.

We are learning from clients and through our own investigations that until 2006, the fund was chugging along - dare I say waddling - delivering reasonable returns as a bond fund, but during that year, the fund managers started altering the fund's strategy, likely in hopes of goosing the returns upward. It appears that the fund managers began purchasing complex derivative instruments, along with mortgage-backed securities without informing investors of these monumental changes to the fund's risk profile.

It also appears that Oppenheimer took investor money and purchased Credit-Default Swaps (CDSs), essentially insurance-like products that protect other investors against defaults. In this approach, the fund backed the risks of others' investments in things as diverse as office-building leases. This appears to be a horrible choice. By September, it appears that the losses tied to CDSs alone cost the fund $47 million.

Investors purchased fund shares through major brokerages like Citigroup, Smith Barney, UBS and Merrill Lynch to name a few, thinking they found an investment that would provide a reasonable return for its risk class. Instead, investors lost about 80 percent in 2008, with November delivering a whopping 55 percent loss in that month alone.

Also interesting, is that Oppenheimer didn't discriminate to whom they marketed the fund. It appears about 10 percent of the fund was held by other Oppenheimer funds.

We anticipate that Oppenheimer will try to defend its actions, saying they were acting in the interests of the fund investors. They will probably point to a $150 million injection of capital to increase the fund's liquidity. They will also point to other internal changes, but we also suggest this may be in response to these issues.

For the time being, we have a lot of upset investors, who lost a lot of money and most upsetting is that it could have been avoided. We believe fund managers pushed too hard when they increased the percentage of investments in mortgage-backed investments, violating the funds policies and did so without warning the funds owners, the investors.

We're certainly hearing a lot of ‘quacking.' If you've suffered losses with the Champion Fund we'd like to hear from you - feel free to contact us at oppenheimer@hbsslaw.com.

Are Taleo's Insider Sales Suspicious in Light of Auditors Questioning Revenue Recognition Policies?

Reed Kathrein — Fri, 21 Nov 2008 17:41:00 GMT

Since going public in 2005, insiders have unloaded Taleo Corporation (NASDAQ: TLEO) stock with sales in excess of $120,558,011. Within the last six months alone, insiders sold $10,782,049 and purchased no other shares on the open market. CEO, Michael Gregoire, sold $2,500,000 on Aug. 11, 2008. Director Jeffery Schwartz sold $7,829,280 on May 22, 2008, leaving him with no shares.

On Nov. 6, 2008, Taleo's auditor, Deloitte & Touche LLP, requested that the Company review its revenue recognition policy. It was then Taleo notified the Securities and Exchange Commission (SEC) that it could not meet the Nov.10, 2008 due date for quarterly earnings reports. NASDAQ then notified Taleo that it did not meet its listing requirements.

Taleo shares hit a 52-week low on Nov. 11, 2008, after the Company announced it would delay third-quarter earning reports to review accounting practices. After the announcement, Taleo's stock fell 28 percent to $7.99 per share from its annual high of $34.20.

Analysts have expressed concern that the inevitable result will be a restatement. Other than saying that the revenue is there, it's just a matter of when the revenue should be reported. Meanwhile, the Company has remained quiet.

Just last year, Forbes, in conjunction with Audit Integrity, rated Taleo as having Aggressive Accounting & Governance Risk (AGR), receiving an AGR Score of 59 out of a possible 100. In August, Audit Integrity upgraded the rating to Average Accounting & Governance Risk (AGR), receiving an AGR Score of 71 out of a possible 100. This places them in the 64th percentile among all companies, indicating higher accounting and governance risk than 36 percent of companies.

The following forensic risk summary from Audit Integrity in August 2008 highlights the most material business issue for each risk. AGR Impact shows the deductions from a perfect 100 AGR score due to flagged metrics.

Clearly, Audit Integrity spotted some issues in revenue recognition. Usually this is the result of a lack of transparency.

Getting back to the question at hand, does the possibility of a restatement call into question the insider sales? Was there a motive to get out? While Schwarz was not on the Audit Committee, he did sell all his shares within the last six months. What did he know? There is no news indicating that, as is the usual story, that he was leaving the company, or needed the cash for a new Aspen mansion. As for Gregoire, we can see that he traded in regular bouts. Many of his sales were "automatic," meaning that they might have been part of a pre-set plan. But, even academics, the Court and SEC recognize trading plans can be an abuse. See Kevin LaCroix article, Rule 10b5-1 Plans Drawing Scrutiny.

More analysis is needed to make sense of this all. Of course, we're all waiting to see the results of the policy review. If you have information, please help us out and drop me an email at reed@hbsslaw.com. Or comment below.

Balancing Sensible Governance against Failed Principles: Is this the End to the Wild West of Investing?

Peter Borkon — Sat, 15 Nov 2008 00:58:00 GMT

Like the Wild West, hedge funds are a largely unregulated investment vehicle marketed as a tool for reaping large returns for investors willing to accept higher risk. In the current climate of market volatility, it appears that a sheriff is riding into town and the Wild West of investing may soon end.

From 1999 to 2004, hedge fund assets under management grew by more than 260 percent. It is estimated that by the summer of 2007, more than $1.9 trillion was under management at more than 9,000 hedge funds.

Recently, at the Hedge 2008 Conference in London, one prominent hedge fund manager stated, "In a fairly Darwinian manner, many hedge funds will simply disappear." According to hedge fund research, investors removed $43 billion from hedge funds during the month of September and losses for the past three months top $210 billion.

The question moving forward is, "Who will the sheriff be and when will the sheriff arrive?" As we see it, there are three possibilities.

Public Pensions and Retirement Funds

Driven to maintain or exceed a higher return rate for their retirement systems, many public pensions have decided to invest in this high-stakes corner of the investment world.

United States public pensions are uniquely poised to change how these investments are regulated including advocating for transparency from hedge funds and pursuing recovery for investors.

By early 2007, United States public pension funds had invested $24 billion in hedge funds.

The dilemma is clean, in a climate nearly devoid of oversight, hedge funds do not report trading positions or holdings. They are not required to report how much they owe or to whom they owe. Such strategies are typically at odds with the transparency requirements for pensions.

The Securities and Exchange Commission

Regulation of hedge funds has been a recurring battle and one the SEC has lost on numerous occasions.

In 2006, the Securities and Exchange Commission passed the Hedge Fund Rule that required hedge funds managing more than $25 million to register with the SEC, provide details about operations and submit to periodic audits.

The SEC's attempt to impose regulation was as short lived as the sheriff riding into early Tombstone. The Hedge Fund Rule became effective on Feb. 1, 2006, and by June of 2006, the Court of Appeals for the D.C. Circuit shot the rule off its horse.

On Sept. 17, 2008, SEC Chairman Cox asked the commission to consider an emergency disclosure rule requiring hedge funds and other large investors to disclose their short positions. Managers with more than $100 million invested in securities would be required to begin publicly reporting their daily short positions.

The SEC's proposed rule was altered when the SEC changed course because hedge fund managers complained that requiring public disclosure would put them out of business because other investors could copy their investing strategies. In response, the new SEC rule only requires hedge fund managers to report their short positions to the SEC on a weekly basis and not to the investing public.

On Oct. 15, 2008, the SEC extended the rule to Aug. 1, 2009.

Additional SEC efforts to regulate are likely to emerge in the short term. Turning to the last option, legislators are faced with the burden of fixing a broken market.

Legislators

So, what reforms may be riding into town?

We know that hedge funds are fiercely protective of their investment strategies and that they are girding themselves for a fight over disclosure and regulation. It is clear that this industry is currently under the microscope and there is strong backing from political leaders throughout the country to regulate hedge funds.

There are three schools of thought emerging in Washington:

Analysts are floating ideas about disclosing investments 45 days after the close of a quarter to allow for a cooling period - making any disclosures historic;

Full disclosure to the SEC is necessary but can be confidential; or
Total transparency to the market - meaning full disclosure to all.
Regardless of the source or solution, reform will take time.

Before reform is agreed upon and in place, the leading edge may come through private litigation. Numerous hedge funds are being sued by investors, including public pensions, for various causes of action including breach of fiduciary duty, gross mismanagement, breach of contract, fraud, negligence, and violations of federal and state securities laws.

As Ann Yerger, executive director of the Council of Institutional Investors recently stated, "Now is not the time to yield to pressure from Wall Street lobbyists to further shelter financial firms."

Indeed, now is the time to guide hedge fund reform and to create sensible reforms in the face of failed principles.

You can contact me and view my LinkedIn profile here.

SEC Settlements Compared to Settlements in Private Shareholder Class Actions

Reed Kathrein — Wed, 12 Nov 2008 21:27:00 GMT

NERA Economic Consulting has just published a report on SEC Civil Enforcement Settlements over the past few years. The study, SEC Settlements: A New Era Post-SOX, provides an overview of trends NERA has identified in the number of settlements and settlement values in the six years since the enactment of SOX. The data stems from a database of litigation releases and administrative proceedings published from 31 July 2002 through 30 September 2008.

Of interest is a comparison of some of the SEC settlements with those achieved by private securities fraud class actions. While the comparison is not made in the report, NERA also published a report entitled 2008 Trends: Subprime and Auction-Rate Cases Continue to Drive Filings, and Large Settlements Keep Averages High.

Each report contains a chart of top 10 settlements, which is set out below. The first is a chart of the top 10 settlements for SEC settlements for the period of July 2002 - September 2008. The second is for the top 10 private class-action settlements. Interestingly, the lowest of the top ten settlements in private shareholder class actions starts out higher than the highest SEC settlement ($895 million versus $800 million).

The settling companies are not the same either, except for a few. For example, the SEC disgorged no funds for investors in WorldCom. While it accessed a $750 million civil penalty, civil penalties do not necessarily go to investors. Since enactment of the Sarbanes-Oxley Act of 2002, penalties may be added to disgorgement funds for the benefit of investors. Section 308 of Sarbanes-Oxley (the Fair Funds provision) allows the Commission to take penalties paid by individuals and entities in enforcement actions and add them to disgorgement funds for the benefit of victims. Penalty moneys no longer always go to the Treasury, but there is no hard and fast rule. By way of contrast, the private shareholder class action against WorldCom recovered more than $6 billion for investors, not including institutional investors who opted-out of the securities fraud class action and received their own substantial recoveries.

Similarly, the SEC accessed penalties of $300 million from Time Warner, and received no disgorgement for investors. By way of contrast, the private shareholder class action against AOL Time Warner recovered more than $2.6 billion for investors. This recovery does not include the recoveries of institutions that opted-out of the class action and pursued their own suits.

The SEC Settlement report also states that the number of SEC enforcement actions with recoveries relating to misrepresentation claims for the six-year period totals 197 settlements. The Private Shareholder Class Action report, by way of contrast reveals that more than 200 class actions are filed per year with a 60% settlement rate -- or more than 1200 suits with 720 settlements.

Our comparisons, here, are rough. Hopefully, NERA will do a more in depth statistical and case by case comparison that would stand up to expert review. But even based on this rough comparison, what do we conclude?

Private class actions remain the most important vehicle for investor recovery, and dollar-wise provide the biggest deterrent to securities fraud in the area of public company misstatements or omissions.
The SEC report, however, remains the primary watch dog for actions involving boiler room operations, pump and dump schemes, Ponzi schemes, financial services (brokers) misappropriation of funds and misrepresentations to clients, and insider selling, and recoveries against individuals. NERA's report has statistics covering each of these areas too.

This first chart is from the SEC Settlements: A New Era Post-SOX:

The following is a list of top settlements in Private Securities Class Actions from the NERA Shareholder Class Action Report: