[House Hearing, 116 Congress]
[From the U.S. Government Publishing Office]
PUTTING INVESTORS FIRST: EXAMINING
PROPOSALS TO STRENGTHEN ENFORCEMENT
AGAINST SECURITIES LAW VIOLATORS
=======================================================================
HEARING
BEFORE THE
SUBCOMMITTEE ON INVESTOR PROTECTION,
ENTREPRENEURSHIP, AND CAPITAL MARKETS
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED SIXTEENTH CONGRESS
FIRST SESSION
__________
JUNE 19, 2019
__________
Printed for the use of the Committee on Financial Services
Serial No. 116-32
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
__________
U.S. GOVERNMENT PUBLISHING OFFICE
39-452 PDF WASHINGTON : 2020
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HOUSE COMMITTEE ON FINANCIAL SERVICES
MAXINE WATERS, California, Chairwoman
CAROLYN B. MALONEY, New York PATRICK McHENRY, North Carolina,
NYDIA M. VELAZQUEZ, New York Ranking Member
BRAD SHERMAN, California PETER T. KING, New York
GREGORY W. MEEKS, New York FRANK D. LUCAS, Oklahoma
WM. LACY CLAY, Missouri BILL POSEY, Florida
DAVID SCOTT, Georgia BLAINE LUETKEMEYER, Missouri
AL GREEN, Texas BILL HUIZENGA, Michigan
EMANUEL CLEAVER, Missouri SEAN P. DUFFY, Wisconsin
ED PERLMUTTER, Colorado STEVE STIVERS, Ohio
JIM A. HIMES, Connecticut ANN WAGNER, Missouri
BILL FOSTER, Illinois ANDY BARR, Kentucky
JOYCE BEATTY, Ohio SCOTT TIPTON, Colorado
DENNY HECK, Washington ROGER WILLIAMS, Texas
JUAN VARGAS, California FRENCH HILL, Arkansas
JOSH GOTTHEIMER, New Jersey TOM EMMER, Minnesota
VICENTE GONZALEZ, Texas LEE M. ZELDIN, New York
AL LAWSON, Florida BARRY LOUDERMILK, Georgia
MICHAEL SAN NICOLAS, Guam ALEXANDER X. MOONEY, West Virginia
RASHIDA TLAIB, Michigan WARREN DAVIDSON, Ohio
KATIE PORTER, California TED BUDD, North Carolina
CINDY AXNE, Iowa DAVID KUSTOFF, Tennessee
SEAN CASTEN, Illinois TREY HOLLINGSWORTH, Indiana
AYANNA PRESSLEY, Massachusetts ANTHONY GONZALEZ, Ohio
BEN McADAMS, Utah JOHN ROSE, Tennessee
ALEXANDRIA OCASIO-CORTEZ, New York BRYAN STEIL, Wisconsin
JENNIFER WEXTON, Virginia LANCE GOODEN, Texas
STEPHEN F. LYNCH, Massachusetts DENVER RIGGLEMAN, Virginia
TULSI GABBARD, Hawaii
ALMA ADAMS, North Carolina
MADELEINE DEAN, Pennsylvania
JESUS ``CHUY'' GARCIA, Illinois
SYLVIA GARCIA, Texas
DEAN PHILLIPS, Minnesota
Charla Ouertatani, Staff Director
Subcommittee on Investor Protection, Entrepreneurship,
and Capital Markets
CAROLYN B. MALONEY, New York, Chairwoman
BRAD SHERMAN, California BILL HUIZENGA, Michigan, Ranking
DAVID SCOTT, Georgia Member
JIM A. HIMES, Connecticut PETER T. KING, New York
BILL FOSTER, Illinois SEAN P. DUFFY, Wisconsin
GREGORY W. MEEKS, New York STEVE STIVERS, Ohio
JUAN VARGAS, California ANN WAGNER, Missouri
JOSH GOTTHEIMER. New Jersey FRENCH HILL, Arkansas
VICENTE GONZALEZ, Texas TOM EMMER, Minnesota
MICHAEL SAN NICOLAS, Guam ALEXANDER X. MOONEY, West Virginia
KATIE PORTER, California WARREN DAVIDSON, Ohio
CINDY AXNE, Iowa TREY HOLLINGSWORTH, Indiana, Vice
SEAN CASTEN, Illinois Ranking Member
ALEXANDRIA OCASIO-CORTEZ, New York
C O N T E N T S
----------
Page
Hearing held on:
June 19, 2019................................................ 1
Appendix:
June 19, 2019................................................ 29
WITNESSES
Wednesday, June 19, 2019
Crimmins, Stephen J., Partner, Murphy & McGonigle PC, and former
Deputy Chief Litigation Counsel and Senior Officer, SEC's
Enforcement Division........................................... 8
Thomas, Jordan A., Partner, Labaton Sucharow..................... 4
Velikonja, Urska Professor of Law, Georgetown University Law
Center......................................................... 6
Vollmer, Andrew N., Professor of Law, University of Virginia
School of Law.................................................. 9
APPENDIX
Prepared statements:
Crimmins, Stephen J.......................................... 30
Thomas, Jordan A............................................. 40
Velikonja, Urska............................................. 48
Vollmer, Andrew N............................................ 66
PUTTING INVESTORS FIRST:
EXAMINING PROPOSALS TO STRENGTHEN ENFORCEMENT
AGAINST SECURITIES LAW VIOLATORS
----------
Wednesday, June 19, 2019
U.S. House of Representatives,
Subcommittee on Investor Protection,
Entrepreneurship, and Capital Markets,
Committee on Financial Services,
Washington, D.C.
The subcommittee met, pursuant to notice, at 3:33 p.m., in
room 2128, Rayburn House Office Building, Hon. Carolyn Maloney
[chairwoman of the subcommittee] presiding.
Members present: Representatives Maloney, Sherman, Scott,
Himes, Foster, Gottheimer, Gonzalez, Porter, Axne, Casten,
Ocasio-Cortez; Huizenga, Stivers, Wagner, Hill, Mooney, and
Davidson.
Also present: Representatives Beatty and McAdams.
Chairwoman Maloney. The Subcommittee on Investor
Protection, Entrepreneurship, and Capital Markets,will come to
order. Without objection, the Chair is authorized to declare a
recess of the subcommittee at any time. Also, without
objection, members of the full Financial Services Committee who
are not members of the subcommittee are authorized to
participate in today's hearing.
Today's hearing is entitled, ``Putting Investors First:
Examining Proposals to Strengthen Enforcement Against
Securities Law Violators.'' I now recognize myself for 3
minutes to give an opening statement.
This is a legislative hearing on eight different bills that
would strengthen the enforcement of securities laws. Proper
enforcement of the securities laws helps maintain investor
confidence in our markets. Investors need to know that their
rights will be protected and that bad actors who try to take
advantage of them will be punished.
Investors also need to know that if a bad actor is caught
and the SEC proves that the bad actor committed fraud that
investors will get their money back. At the very least,
wrongdoers shouldn't get to keep the money they have earned by
defrauding investors. This is just, fair, and common sense.
Unfortunately, the 2017 Supreme Court decision in Kokesh v.
SEC significantly damaged the SEC's ability to return funds to
harmed investors by holding that SEC claims for disgorgement of
ill-gotten profits are subject to a 5-year statute of
limitations. This means for the long-running frauds, like
Bernie Madoff's Ponzi scheme, the SEC would not be able to claw
back all of the bad actor's profits. The Kokesh decision has
already cost investors about $900 million in disgorgement of
ill-gotten profits, according to the SEC.
The Court relied on a narrow technical interpretation of
the statute and effectively invited Congress to fix this
technical issue, and SEC Chairman Clayton has asked Congress to
fix this issue, too, which he calls a ``gap in investor
protection.''
Mr. McAdams has a bill that would fix this issue and
clarify that equitable remedies like disgorgement are not
subject to a 5-year statute of limitations.
And, unfortunately, the impact of the Kokesh decision was
supercharged by another Supreme Court decision in Gabelli v.
SEC. In that case, the Court held that the 5-year clock on SEC
penalties starts when the fraud occurs and not when the fraud
is actually discovered.
This gives the SEC even less time to bring an enforcement
action against wrongdoers, because the SEC never discovers a
fraud as soon as it occurs, there is always a lag between when
the fraud occurs and when it is discovered.
Mr. Gonzalez has a bill that would reverse the harmful
Gabelli decision and would once again give the SEC the tools it
needs to crack down on securities fraud.
Finally, Ms. Porter has a bill that would strengthen the
SEC civil penalty authorities by increasing the size of the
penalties and by authorizing the SEC to seek different kinds of
penalties for different kinds of violations. This is a much-
needed update that would modernize the SEC's penalty authority
and would deter repeat offenders, and I strongly support her
bill.
I look forward to hearing from our witnesses on all of the
bills today. And with that, the Chair recognizes the ranking
member of the subcommittee, Mr. Huizenga, for 4 minutes for an
opening statement.
Mr. Huizenga. Thank you, Madam Chairwoman, and I appreciate
our panel being here with us here today.
The Securities and Exchange Commission has a three-part
mission: protect investors; maintain fair, orderly, and
efficient markets; and facilitate capital formation.
Specifically, within the Commission, the Division of
Enforcement investigates potential violations of Federal
securities law and prosecutes these cases in Federal court or
in administrative proceedings before the SEC's own
administrative law judges.
Their enforcement priorities are guided by five core
principles. First, focus on the Main Street investor. Second,
focus on individual accountability. Third, keep pace with
technological change. Fourth, impose remedies that most
effectively further enforcement goals. And finally,
consistently assess the allocation of SEC resources.
In Fiscal Year 2018, the SEC brought 821 enforcement
actions and obtained nearly $3.9 billion in disgorgement and
civil penalties resulting from those actions. Additionally,
they returned $794 million to harmed investors, suspended
trading in the securities of 280 companies, and obtained nearly
550 suspensions and bars.
The SEC has always been recognized for its effective yet
fair enforcement program which encourages capital formation
while protecting investors and markets. Today's hearing focuses
on several proposals purported to strengthen enforcement
against securities law violators for the protection of
investors and the integrity of the U.S. capital markets.
I believe in a strong and effective enforcement program
that protects investors and keeps bad actors out of the
marketplace. However, these draft proposals that we are
discussing today will do very little to help put investors
first. Instead, they create more barriers to capital formation
and limit investment opportunities for American workers and
Main Street investors.
The U.S. IPO market is steadily decreasing at an alarming
rate while foreign markets, such as in China, are continuing to
grow. In 2017, China's IPO market produced over one-third of
the world's initial public offerings, or IPOs, whereas the U.S.
is only seeing half the number of domestic IPOs that it had
just 20 years ago.
Over this same time period, the regulatory compliance cost
for businesses has doubled here in the United States. In fact,
20 years ago, American investors could pick from over 7,000
listed stocks. Today, there is just half that. This radical
reduction should be of great concern to this committee and all
the mom-and-pop investors who are out there.
We, as lawmakers, should be working to create an atmosphere
that helps promote more capital formation to allow the free
flow of capital, strengthen job creation, and increase economic
growth. Congress needs to consciously put to work John and Jane
401(k) first. We can do this by putting forward proposals that
promote economic opportunities that give those mom-and-pop
investors more choices and increase their ability to grow their
savings and retirements accounts.
And with that, Madam Chairwoman, I yield back.
Chairwoman Maloney. Thank you.
The Chair now recognizes the gentleman from California, Mr.
Sherman, for 2 minutes.
Mr. Sherman. Thank you.
Last year, the SEC and the PCAOB issued a joint statement
highlighting over 220 U.S. listed companies with a combined
total of $1.8 trillion in market capitalization for which the
PCAOB cannot provide effective audit oversight. That means a
lot of money invested by Americans where we cannot audit the
audit. I would encourage U.S. Trade Representative Lighthizer
to focus on this issue in his discussions with China.
But that is the first part of my opening statement, to
focus on where we want everything to meet the platinum
standard, where we want to make sure that there is a footnote
to a financial statement with an auditor and an oversight of
the auditor. That is wonderful. But the SEC has been reluctant
to look at the other side, the unregistered investments. They
want to live in a rarified world of polishing the platinum.
But what about such things as cryptocurrencies? These are
investments where there is no audit. There is no footnote.
There is no PCAOB. There is no registration statement. But you
have investors investing in God knows what, and the SEC says,
``Not our problem.''
First, these cryptocurrencies take the animal spirits, the
willingness of Americans to invest, take some of that out of
our economy where it would help companies employ people and
instead say, ``No, why don't you bet over here on a company
that has no employees, Bitcoin?''
And then second, we are told, ``Well, it is not an
investment.'' It is only an investment. That is why people are
buying Bitcoin, that is why it is being advertised, people buy
it and it will go up in value.
And then finally, as a medium of exchange, Bitcoin is
clearly inferior to most of the currencies available. And a
report indicates that 46 percent of the transactions where it
is used as a medium of exchange are criminal. So, it is not
really a medium of exchange for law-abiding Americans. It is an
investment whose regulation pales in comparison to the worst
financial statement Madoff ever put out.
I yield back.
Chairwoman Maloney. Thank you.
Today, we welcome the testimony of a distinguished panel of
witnesses. First, we have Jordan Thomas, who is a partner at
Labaton Sucharow in New York. Second, we have Urska Velikonja,
who is a professor of law at Georgetown University Law Center.
Third, we have Andrew Vollmer, who is a professor of law at the
University of Virginia Law School. And last but not least, we
have Stephen Crimmins, who is a partner at Murphy & McGonigle.
Witnesses are reminded that your oral testimony will be
limited to 5 minutes, and without objection, your written
statements will be made a part of the record.
Mr. Thomas, you are now recognized for 5 minutes to give an
oral presentation of your testimony. Thank you.
STATEMENT OF JORDAN A. THOMAS, PARTNER, LABATON SUCHAROW
Mr. Thomas. Chairwoman Maloney, Ranking Member Huizenga,
and members of the subcommittee, thank you for inviting me to
testify today.
Today, my testimony will be based on my experience as a
first responder to corporate wrongdoing at the Department of
Justice, the Securities and Exchange Commission, and at Labaton
Sucharow, where I head the Whistleblower Representation
Practice.
In my work I have seen firsthand the devastation that can
come from securities violations. I am increasingly concerned
that the investor protection status quo isn't working and that,
without your intervention, our financial watchdogs will be
fighting a losing battle.
The reality, and you won't hear it admitted often or
publicly, is that securities violations are extremely difficult
to detect, investigate, and prosecute. And due to the vast
scope, rapidly growing and dizzyingly complex markets,
products, and transactions they are responsible for, our
financial watchdogs are losing ground. Investors are being
injured, and too many bad guys are getting away.
Particularly troubling to me is that even when securities
violators are caught, they are not being held fully accountable
because of a series of adverse Supreme Court decisions which
undermine long-term deterrence.
Fortunately, the proposals before this committee can
provide much-needed legal relief to our financial watchdogs. It
is my hope that these proposals will enjoy some bipartisan
support that the fix to the Digital Realty decision recently
received.
Of the many proposals currently considered by this
committee, I believe the most critical one is restoring the
SEC's ability to obtain full disgorgement of ill-gotten gains
from wrongdoers. Disgorgement has always been an essential
component of SEC enforcement. Prior to Kokesh, common sense
prevailed and wrongdoers were required to return every cent of
their ill-gotten gains. Now, fraudsters engaged in long-running
schemes will be rewarded for hiding their misconduct.
And in their 2018 annual report, the SEC Division of
Enforcement estimates that the Commission will be forced to
forego approximately $900 million in disgorgement. That is 25
percent of the monetary sanctions collected annually, moneys
that could have gone to defrauded investors.
Another critical element of effective SEC enforcement is
the ability to obtain civil monetary penalties. Even if the
Commission is able to obtain full disgorgement from wrongdoers,
long-term deterrence dictates that the SEC should also receive
significant monetary penalties against these violators so that
potential violators will refrain from engaging in wrongdoing
rather than just writing it off as a low-risk detection and a
cost of doing business.
One related proposal is designed to address the Gabelli
decision that Chairwoman Maloney referenced. That decision
stated at the beginning of the statute of limitations period
was when the violation occurred, not on the date the SEC
discovers it. The proposal suggests that the SEC have an
expanded statute of limitations period of 10 years.
Again, since securities violations are incredibly difficult
to detect, and our securities law shouldn't incentivize
securities violators to conceal their wrongdoing, I strongly
believe that a legislation solution to the Gabelli decision is
important, and my written statement suggests different ways to
do so.
Another related proposal would update and strengthen the
current statutory provisions for SEC civil monetary penalties.
Among other things, the proposal would increase the statutory
maximums for civil money penalties, provide that the size of
penalties could be linked to the amount of victim losses, and
establish a fourth-tier penalty that could be imposed against
recidivist violators. This proposal is long overdue.
In particular, the provision allowing penalties to be
assessed at the level of victim harm would be an important
addition for the SEC cases because there are some cases where
wrongdoers may not have gained significant monetary profits,
but cause substantial harm.
Similarly, the provisions for enhanced penalties against
recidivists, as well as new statutory provisions regarding
penalties for violations of Federal court injunctions, would
greatly strengthen the remedies, particularly when those
standard remedies were not effective with the recidivists.
The committee is also considering oversight related to the
PCAOB, and, frankly, the PCAOB has an important mission, first-
rate staff, and in the enforcement space, less than stellar
results. I believe that the PCAOB, with actual intelligence
from whistleblowers, could be more effective, and that could
change the dynamic and increase their effectiveness.
Due to time limitations, I only briefly addressed a few of
the legislative proposals, but I stand ready to answer your
questions about all of the proposals.
[The prepared statement of Mr. Thomas can be found on page
40 of the appendix.]
Chairwoman Maloney. Professor Velikonja, you are now
recognized for 5 minutes for your testimony.
STATEMENT OF URSKA VELIKONJA, PROFESSOR OF LAW, GEORGETOWN
UNIVERSITY LAW CENTER
Ms. Velikonja. Chairwoman Maloney, Ranking Member Huizenga,
members of the subcommittee, thank you for this opportunity
today.
At Georgetown, I teach, research, and write about
securities enforcement. I am going to limit my prepared remarks
to making two points.
First, today's hearing is, ``Examining Proposals to
Strengthen Enforcement,'' but the eight discussion drafts
actually include two very different kinds of proposals. The
first kind increases market oversight and strengthens
sanctions, increases sanctions, and so forth.
The second kind, more urgent, codifies existing relief in
SEC enforcement now decades old. I am talking about
disgorgement in civil cases. So, failure to adopt the proposed
amendments doesn't preserve the status quo as is typical for
legislation. It would significantly hamper SEC enforcement.
Let me explain. Disgorgement is the second most commonly
imposed relief in SEC enforcement. It is ordered in 56 percent
of cases resolved in Fiscal Years 2010 to 2018. Only civil
fines are imposed more often, in 66 percent of cases. Where
disgorgement is imposed, it is 80 percent of monetary penalties
that that defendant is ordered to pay.
Total disgorgement orders during that period amounted to
$145 billion compared to $9.8 billion for civil fines during
the same period. Of that, $140 billion is in court cases.
Now, these figures include cases where a disgorgement order
was deemed satisfied with orders in the parallel criminal case.
So if we exclude all cases where there was a parallel action
unaffected by the Kokesh decision, we are still talking about a
lot of money threatened.
During this period, the SEC imposed $13 billion of the $23
billion monetary penalties during that period that weren't in a
second proceeding as well; 57 percent is disgorgement. Of that,
almost $10 billion is in court cases.
They include Charles Kokesh. They also include virtually
all significant FCPA cases. They include cases against
Citigroup, Morgan Stanley, Bank of America, you name it.
All of that is now in jeopardy. Why? Disgorgement in court
cases is not specifically expressly included in securities
laws, right? It is an equitable remedy the SEC has been seeking
since the 1960s. In Kokesh, the Supreme Court says disgorgement
is a penalty. Typically, courts can't impose penalties without
statutory authorization. And so if disgorgement is a penalty,
then the SEC has no authority to seek disgorgement in court at
all.
Now, the Supreme Court sort of stepped aside, didn't
actually decide this issue, but now the case is already
percolating. So this is going to happen in Congress and it is
imperative for Congress to step in and codify that the SEC can
sue fraudsters in court and seek disgorgement.
Second point, I want to offer some statistics relevant to
the limitations period, the 5-year statute of limitations you
are discussing.
Now, since Kokesh and Gabelli, as we have heard, the SEC
can no longer seek penalties for violations committed more than
5 years before the SEC filed suit. Five years is less than you
would think. The average investigation takes about 2 years to
complete. Of more than 8,000 cases filed during the same period
that I described earlier, 2010 to 2018, 37 percent included at
least some violations that took part outside the 5-year
limitations period, and that share has been increasing. In
2018, half of the cases included violations that were more than
5 years before the SEC filed suit.
Now, the limitations period doesn't affect all cases
equally. Insider trading, pump-and-dump schemes, and market
manipulations are much more likely to be detected,
investigated, and prosecuted within the 5-year period.
There are broker-dealer cases, investment advisers stealing
from their clients, Ponzi schemes, accounting frauds. They take
much longer to detect in the first place, let alone investigate
and prosecute.
So the typical case affected most significantly by the
Kokesh decision is an offering fraud by an individual offender,
the no-name defendant, someone you have never heard of. So,
Charles Kokesh in that sense is not atypical. Let me describe
what he did and what is at stake.
He owned two small investment funds from 1995 to 2007. When
the funds were dissolved, he embezzled investors' funds, paid
himself unearned fees, and reimbursed unauthorized expenses.
Ultimately, he misappropriated $35 million from 21,000
investors. He--I am quoting here from the record--specifically
targeted smaller investors, those investing $5,000 or less,
because they would be less likely to sue if they discovered his
schemes. With stolen funds, he then bought a gated mansion, a
private polo ground, and a personal stable of more than 50
horses.
The jury found Kokesh guilty, but because of the 5-year
limitations period, he was ordered to pay only $7.3 million
plus interest, far less than the $35 million he stole.
Now, the SEC did not unnecessarily delay that
investigation. There are 12,000 investment funds in the United
States. The SEC isn't currently funded to review all, even
periodically. So unless you believe bad actors should be
allowed to keep property stolen more than 5 years ago, you
should either increase the SEC's budget or put in place
realistic limitations periods.
Defendants also should care about this. The SEC is likely
to expedite investigations, perhaps being less careful.
With that, I will conclude.
[The prepared statement of Ms. Velikonja can be found on
page 48 of the appendix.]
Chairwoman Maloney. Thank you. Your time has expired.
Mr. Crimmins, you are now recognized for your 5 minutes for
your testimony.
STATEMENT OF STEPHEN J. CRIMMINS, PARTNER, MURPHY & MCGONIGLE
PC, AND FORMER DEPUTY CHIEF LITIGATION COUNSEL AND SENIOR
OFFICER, SEC'S ENFORCEMENT DIVISION
Mr. Crimmins. Thank you, Chairwoman Maloney, Ranking Member
Huizenga, and other members of the subcommittee, and thank you
for dealing with these extremely important issues for SEC
enforcement, where I was proud to serve for 14 years, now a
couple of decades ago. They are critical issues, and they come
at a tough time for the SEC.
They have had to drop 400 professionals in recent years
with a flatlined budget of $1.6 billion, even though they used
no tax dollars since 1996 thanks to Congress' legislation.
Hopefully, the proposal to increase their budget at least to
$1.85 billion will make it. But in any event, these are
important topics that the subcommittee is dealing with.
As prior speakers have said, Kokesh has created a real
problem for the SEC, defining disgorgement as a penalty,
creating all kinds of problems. The Supreme Court wrote
unanimously in an opinion by Justice Sotomayor, who is a great
scholar, in good faith finding that the disgorgement did kind
of match up with what is a penalty, but they asked a very good
question. Did Congress, having defined specific penalties under
the securities laws and those careful tiers we see in the
proposal, really want to have a separate penalty, two different
kind of penalties in the same case? How could that be?
I would urge the subcommittee to answer the question of the
Supreme Court with a resounding, ``Yes, we do want disgorgement
as a core remedy of the SEC's enforcement program!'' Since the
Texas Gulf Sulphur decision in 1971, the SEC needs it. Please
yell a loud ``yes'' in answer to the Supreme Court.
The other Kokesh issue, of course, is what should be the
statute of limitations? Should it be 5 years, which is
traditionally imposed for a penalty? Should it be not at all,
which is traditionally imposed for tamer equitable remedies, a
tame version of disgorgement? Should it be 10 years? What
should it be?
My concern with the proposal is that it uses a rule of
construction to try to interpret what should be. A rule of
construction is an invitation, frankly, to the defense bar,
where I presently live, to litigate. It is an opportunity as
part of our zealous advocacy for the people we represent as
defendants to find issues to create, to litigate, to take up to
appellate courts. We are buying the SEC 5 years or 10 years of
litigation that is really going to be kind of worthless
litigation to sort all this out.
Instead, I would urge the subcommittee to bite the bullet,
adopt a statute of limitations across-the-board for all SEC
remedies, but make it an appropriate one.
And what should that be across-the-board, a statute of
limitations, including for disgorgement and other equitable
remedies?
I would suggest that we take a page from Congress itself,
when Congress back in Sarbanes-Oxley legislated a statute of
limitations for private securities litigation and said 2 years
from discovery of the violation, reasonable discovery of the
violation, but no more than 5 years from the conduct.
The SEC should get different treatment, better treatment.
They act in the public interest. They have fewer resources. I
would suggest use Congress' framework for private-led ``2-and-
5,'' change it to something like ``3-and-5,'' 3 years from
reasonable investigation of the conduct and no more than 10
years from the actual event.
Three years is plenty of time to do an investigation, and
it serves the interests of our courts and our juries to be able
to have witnesses who can actually remember things.
So for that reason, holding the SEC's feet to the fire to
do their investigation within 3 years from reasonable discovery
is more than fair and more than enough, and 10 years from the
event is a very comfortable period.
As a safety valve, if they are getting close to the end,
they can ask the defense for a tolling agreement. It is
virtually always granted.
Moving on quickly--my time is almost up--to restitution.
That is a little bit of a concern. Restitution is different
from disgorgement where you just give up your profits.
Restitution is you go across the universe, everybody who has
lost money, and that can add up to immense amounts. And then
when we talk about some of the proposals having treble
penalties or dealing with recidivists, we can do the math and
get up into the trillions of dollars.
I am a little concerned about adding a restitutionary
remedy either directly as restitution or as part of a penalty
calculation. I think that should be thought through.
Public company oversight--I am almost out of time. Whatever
Jordan said, I totally agree. They absolutely need all the
proposed additions.
And again, thank you to the subcommittee.
[The prepared statement of Mr. Crimmins can be found on
page 30 of the appendix.]
Chairwoman Maloney. Professor Vollmer, you are now
recognized for 5 minutes for your testimony.
STATEMENT OF ANDREW N. VOLLMER, PROFESSOR OF LAW, UNIVERSITY OF
VIRGINIA SCHOOL OF LAW
Mr. Vollmer. Chairwoman Maloney, Ranking Member Huizenga,
and members of the subcommittee, thank you for inviting me here
today. As I mention in my written statement, my comments today
are solely my own and are not on behalf of anyone else.
My written remarks begin with a couple of principles that
usually guide legislation in the Federal securities area, and
the first is that securities regulation should reduce
unnecessary barriers to raising capital for large and small
businesses. We should be particularly attentive to ways to help
entrepreneurs find the capital that they need.
Two other important principles are the need to protect
investors and the need for vigorous but fair enforcement of the
securities laws.
I would like to direct my comments to one of the bills that
you are considering, and that is the bill that would deny
exchange trading to companies that have auditors not subject to
PCAOB inspection. That is a serious problem that deserves your
attention, but the solution in the bill is much more limited
than the problem is.
The potential problem exists for all reporting companies
and companies filing registration statements in registration,
but the proposed solution is limited to exchange listed or
exchange trading in those companies.
The number of exchange companies, as I think Ranking Member
Huizenga pointed out, is much smaller than the number of
reporting companies. So if legislation did no more than just
stop exchange trading for companies that don't have auditors
inspected by the PCAOB, many of those companies would continue
to trade in the United States, maybe do business as usual, in
the over-the-counter markets. That is probably not a sufficient
remedy. So in my written statement, I propose two alternatives
for you to consider.
Another set of bills that you are looking at would extend
or eliminate the 5-year statute of limitations for SEC
enforcement cases that seek penalties or disgorgement, and one
of them would give the SEC a new power to recover investor
loss. If enacted, these bills would seriously disrupt the
current enforcement system and would make it more arbitrary and
less fair.
Giving the SEC the power to recover investor loss would be
unprecedented. It would overshadow many private securities
cases and class actions. Congress should not take this dramatic
step without studying the question much more thoroughly.
The bills would also give the SEC a very long or unlimited
amount of time to bring enforcement cases. Extending the
statute of limitations would frustrate compelling social
interests that legislatures have recognized for centuries by
enacting statutes of limitations.
Another concern is that longer statute of limitations for
the SEC would cause further delay in what are already long and
damaging SEC investigations. The length of an SEC investigation
is correlated to the statute of limitations because a
reasonable statute of limitations acts as an incentive to the
staff to finish the investigation and make a decision to sue or
not.
So one of the main arguments for extending the statute of
limitations is that some misconduct is well concealed. That is
not the whole picture. All too often, SEC cases are initiated
after a violation because the SEC was aware of the potential
misconduct but failed to investigate it. There is example after
example which I give in my written statement.
I am happy to answer questions on those matters, those
bills, or any of the bills you are considering.
[The prepared statement of Mr. Vollmer can be found on page
66 of the appendix.]
Chairwoman Maloney. Thank you.
I now recognize myself for 5 minutes for questions.
Mr. Crimmins, I would like to ask you something about
Professor Vollmer, what he said in his testimony. He said that
Mr. McAdams' bill authorizing the SEC to seek disgorgement of
illegal profits beyond the 5-year statute of limitations would
be, ``a sharp break from the longstanding system.''
As a former litigator in the SEC's Enforcement Division, do
you think that is accurate? Prior to the Supreme Court's Kokesh
decision in 2017, didn't the SEC already have the authority to
seek disgorgement beyond the 5-year statute of limitations?
Mr. Crimmins. Yes, Chairwoman Maloney. Thank you.
I agree totally that before we had the Kokesh decision, it
was unlimited. The remedy of disgorgement was considered to be
a traditional equitable remedy, and it just wasn't
fundamentally fair to allow a fraudster to hold on to illegal
gain. And if that happened after 5 years, 10 years, 15 years,
or 20 years, the courts, acting in fundamental fairness and in
equity, those considerations, could do it.
So really, by extending the statute of limitations, my
proposal of a 3-and-10, bite the bullet, do a statute of
limitations rule for all claims is a practical matter to get it
done easily and in streamlined fashion.
Whatever it is for disgorgement, absolutely yes. The SEC
should be allowed to get disgorgement. Penalty is a different
matter, restitution is a different matter, and I think those
are things where we should have a conversation. But on
disgorgement, that is core. I totally agree.
Chairwoman Maloney. Thank you.
Mr. Thomas, some people have argued that the SEC doesn't
need disgorgement authority because private parties can already
sue to recoup private investor losses. But is that true? Aren't
there cases where the private parties cannot sue for damages?
For example, investors can't sue for fraud under the
Investment Advisors Act, and if private parties can't sue for
damages on their own, doesn't that mean that the SEC should
have the authority to seek disgorgement?
Mr. Thomas. That is correct, Chairwoman Maloney. I think it
is important to know that what makes our legal system great and
unique is that we have overlapping jurisdiction. So we have
both Federal and State and private litigants and public
litigants that are all policing the marketplace to ensure that
investors are protected.
Chairwoman Maloney. Thank you.
Professor Velikonja, you presented really interesting data
in your testimony showing that different types of violations
are much more profitable and much less likely to be discovered
than others.
I was particularly struck by the fact that violations of
the Foreign Corrupt Practices Act, or FCPA, are the most
profitable violations for bad actors and are also the least
likely to be discovered within the 5-year statute of
limitations. Only 4 percent of FCPA violations occur entirely
within the 5-year statute of limitations.
So in your opinion, would Ms. Porter's bill to strengthen
the SEC's civil penalties adequately deter FCPA violations?
Ms. Velikonja. That is a wonderful question.
So, yes, FCPA cases typically very. They take a long time
to detect. They also take a longer time to prosecute. FCPA
defendants typically exercise--sign a tolling agreement.
So to some extent, I will sort of push back on my own data
to say, yes, only 4 percent of the violations are entirely
within the limitations period, but in part, that is the result
that the defendant has agreed to allow the SEC to investigate
fully, go abroad, in exchange for perhaps not bringing the case
in the first place.
But limiting remedies to 5 years for disgorgement, and
disgorgement in FCPA cases is absolutely key, it is the bulk of
the monetary penalties imposed in FCPA cases, limiting that to
5 years, the defendants presumably are going to push back and
say, ``I am not going to do a tolling agreement,'' or less
likely, would reduce the sanctions. And the type of violation,
it is already detected at very load low rates. We don't have
great estimates, but the best we have says about 6 percent of
foreign bribery schemes, long-lasting foreign bribery schemes
are detected and sanctioned.
Chairwoman Maloney. Thank you. And my time has expired.
The Chair now recognizes the distinguished ranking member,
Mr. Huizenga, for 5 minutes for questioning.
Mr. Huizenga. Thank you, Madam Chairwoman. I will try and
move quickly through a number of issues.
Mr. Vollmer, are you familiar with the CHOICE Act that was
passed last Congress?
Mr. Vollmer. No.
Mr. Huizenga. Okay. Well, one of the things that the CHOICE
Act that we had come out of here was a--
Mr. Vollmer. I'm sorry. I misheard you. The CHOICE Act.
Yes. Sorry.
Mr. Huizenga. Okay. One of the things that we tried to
construct within that was making sure that there was a balance
and enhanced due process protections along with reforms to the
SEC's enforcement program. And I am curious, as you look at
this, do you see any provisions from the CHOICE Act with that
balance?
Mr. Vollmer. No. I think they are conspicuously absent. And
there were many provisions in the CHOICE Act both that helped
form capital, promoted capital formation, but also injected
notes of fairness in the SEC enforcement process.
And if I could, may I just correct a statement that was
made a moment ago? My written statement does not say that
allowing the SEC to sue for disgorgement would be a sharp break
from practice, as the other panelists have said. The SEC has
sued for disgorgement since the 1960s. What my written
statement said is allowing the SEC to sue for investor loss
would be a sharp break from precedent. I'm sorry.
Mr. Huizenga. Okay. No. I appreciate that.
Do you think it would be a healthier approach to have this
two-pronged approach on both the investor protection and due
process, as well as the enforcement?
Mr. Vollmer. I think that adding some additional fairness
elements to the SEC enforcement process would be a great gain
and would provide more certainty and predictability.
Mr. Huizenga. Okay.
Mr. Crimmins, the PCAOB whistleblower bill seems to me to
be redundant. With the SEC having primacy over that, as created
under Dodd-Frank, the SEC whistleblower office, couldn't
reporting described in this legislation be reported to the SEC
as part of this whistleblower?
Mr. Crimmins. Ranking Member Huizenga, you make a good
point in terms of the overlap. Anything that the PCAOB does, I
believe, can be done by the SEC. They have oversight, and they
do more cases focused on accounting, but the SEC always has
that power.
For that reason, in my written testimony, which you may be
referring to, I agree with you on that, that while a
whistleblower program at the PCAOB is a great idea because it
has worked well at the SEC, my concern is the cost of setting
up a whistleblower office and processing whistleblower claims.
And I am wondering if there isn't a way to team the two
agencies such that the whistleblower can go to PCAOB, have
PCAOB handle the case, and get a whistleblower bounty. With the
mechanics of processing the claim, the mechanics of evaluating
it, and so forth, which require an infrastructure, why not let
the SEC take care of that?
Mr. Huizenga. It makes sense. I would agree more isn't
always necessarily better on that.
But I do want to talk a little bit about the Transparency
Act, the Enforcement Transparency Act. If these proceedings
were made public and public companies whose financial
statements are implicated by a PCAOB enforcement proceeding
against an auditor be susceptible to negative market reaction,
and even though the allegations are untested and may not
actually involve the company themselves, do you have a concern
with that?
Mr. Crimmins. It is a concern, but it is a concern with
just about everything that the SEC does. The SEC acts publicly
in everything, and sometimes the pendency of an investigation,
if it becomes public, or the pendency, certainly, of
litigation, will have that impact. It is inevitable. But we
have a justice system that acts publicly. And when you are
dealing with public accounting firms, just, I would
respectfully suggest, that really we ought to make public, the
same way we do with the SEC.
Mr. Huizenga. I am running out of time quickly here, but it
would seem to me the PCAOB has the ability to refer those cases
to the SEC, at which point they become public anyway.
The Holding Foreign Companies Accountable Act, you
acknowledge, Mr. Vollmer, a serious problem, and you had said
the OTC markets would still be available. And it seems to me
that those investors could still invest in those companies,
just not here, and would therefore forfeit any of the
protections that our marketplace would have, and they could
invest those offshore in foreign markets. And I am going to be
following up with that.
And then I just need to make a statement about Kokesh. I
think all of us understand that we need to be going after these
bad actors, and the SEC needs those resources. And I want to
make sure that they have the ability to not keep any of those
ill-gotten gains and to be able to distribute those recovered
funds from harmed investors. I do believe that the SEC is in
the process of trying to work through that. But I am supportive
in concept, and we have seen nearly a billion dollars being
foregone. So we need to address that.
With that, you have been very kind and generous. Thank you.
Chairwoman Maloney. The gentleman yields back.
The gentleman from Georgia, Mr. Scott, is recognized for 5
minutes.
Mr. Scott. Thank you very much, Chairwoman Maloney.
This is a fantastic hearing, and you all are very informed.
But what I want to start out with, you all are aware that
the Securities and Exchange Commission's 2018 annual report
estimates that the 2017 case of Kokesh v. the SEC Supreme Court
decision held that disgorgement is a penalty and subject to a
5-year statute of limitations. But they say that because of
this, it has caused the Securities and Exchange Commission to
forego as much as $900 million in disgorgement of ill-gotten
gains.
Is that accurate? I would like to make sure everybody
agrees on that point before I go further.
Mr. Thomas. I do.
Mr. Scott. Okay. Now, do you agree that this is because
certain fraud schemes may run for years prior to the discovery?
Does everybody agree with that?
Mr. Vollmer?
Mr. Vollmer. I agree that is one of the possibilities, but
my written statement points out that there are other reasons
for delayed enforcement, not just from the concealment. And,
no, I do not agree with the $900 million figure. I think it is
an entirely suspect number.
Mr. Scott. Well, let me ask you if you agree with Mr.
Thomas. And in Mr. Thomas' testimony, he points out the paradox
that is created by this decision, stating that this decision
rewards violators who are good at hiding their misconduct.
Do you agree, Mr. Vollmer?
Mr. Vollmer. I agree that a natural consequence of statutes
of limitations is that some violations that are concealed for
very long times can go unremedied. The question is whether that
is a severe enough and substantial enough problem to alter the
general rule of a 5-year statute, and I say the evidence has
not been presented to us.
Mr. Scott. I have a short period of time, but I want to get
to these points.
It brings to light, the reason I am going through this, two
issues. First, the need to clarify whether the SEC has
disgorgement authority; and second, the need to ensure that our
regulators are equipped with the tools they need to effectively
police our markets and root out bad actors.
Now, Mr. Thomas, defend your comments.
And I think Mr. Vollmer will agree with you, won't you, Mr.
Vollmer?
Mr. Vollmer. I will agree if I possibly can.
Mr. Scott. Yes.
Mr. Thomas. I like Andy very much, but I hope he will
agree.
You know, to go to one of the points that you made,
Congressman Scott, is the SEC's estimate of $900 million as a
consequence. I actually think that number is low, and I will
just give you one example.
In the Merrill Lynch case, I represented three
whistleblowers. It resulted in the SEC recovering $415 million,
and that period of misconduct was relatively consistent, and it
was more than 5 years.
I believe that the monetary sanctions in that case would
have been halved if the Kokesh ruling had occurred before that,
and that is just one case, $200-plus million would have
disappeared from them.
Mr. Scott. And, Ms. Velikonja, you spoke very eloquently on
this. Would you like to add something to this? I saw you
shaking your head.
Ms. Velikonja. We haven't been given any explanation where
the $900 million figure comes from, so I understand both Mr.
Vollmer and Mr. Thomas. It sounds big. It also sounds sort of
right.
I would probably side with Mr. Thomas in why the number is
kind of low. It is precisely because the SEC has been using
tolling agreements, agreements extracted from the defendants to
toll the statute of limitations, allowing the SEC to complete
the investigation.
Think of a big case such as a big FCPA case, Petrobras,
which the SEC settled in September of 2018. The disgorgement
order in Petrobras alone was $933 million. Much of that was
outside the 5-year limitations period. Now, if the period is
applied stringently, that amount would be in jeopardy. It
wasn't precisely because Petrobras had executed a tolling
agreement. It might be a lot less willing to do so going
forward.
Mr. Scott. Right.
And finally, Mr. Thomas, you said something in your
testimony. You said we are fighting a losing battle. What did
you mean by that?
Mr. Thomas. I mean that the SEC is underresourced, and they
are fighting on multiple fronts in an emerging, growing market.
And if they can't, when they catch people, get all of their
ill-gotten gains, if they can't have significant penalties that
lead to real deterrence, then they are going to do what
economists would expect people to do. They would assess the
risk of detection and the potential consequence and say: I am
going to take that risk. Okay.
Chairwoman Maloney. The gentleman's time has expired.
Mr. Scott. Thank you for your courtesy, Madam Chairwoman.
Chairwoman Maloney. Thank you.
The gentlewoman from Missouri, Mrs. Wagner, is recognized
for 5 minutes.
Mrs. Wagner. I thank the Chair and the ranking member and
our witnesses for being here.
Mr. Vollmer, I recognize that China is taking advantage of
our laws and without auditor inspections from the PCAOB might
be putting audit client company assets at risk, which could
hurt Main Street investors.
I am concerned, however, that prohibiting trading in public
companies is also a drastic measure, perhaps an overcorrection
that would also adversely affect Main Street investors who
might own shares of those companies, either directly or through
mutual funds, in their retirement accounts.
What are the implications if trading prohibitions on
hundreds of public companies were implemented?
Mr. Vollmer. If it were done at once, as the bill seems to
propose, it would be quite disruptive to the marketplace.
Current shareholders need some reasonable advance notice so
they can try and sell out if there were to be a total flat ban.
That is not the proposal in the bill.
Mrs. Wagner. Right.
Mr. Vollmer. The bill would allow trading to continue in
the United States, Ranking Member Huizenga, not just abroad.
They certainly might be able to trade abroad. We can't deal
with that. But they could still be traded in the United States
in the U.S. over-the-counter markets the way the bill is
currently written. It would only prohibit exchange trading.
Mrs. Wagner. So what happens to the exchange traded funds,
the ETFs, the mutual funds that own shares of those non-U.S.
companies that would be delisted?
Mr. Vollmer. They would continue to trade, I think
reasonably well, if it is a fairly high volume traded security.
Mrs. Wagner. Are there less drastic or disruptive
alternatives, Mr. Vollmer, that would not be as harmful to the
U.S. capital markets?
Mr. Vollmer. I think there are, and I propose two in my
written statement.
One, quickly, would be a case-by-case determination by the
SEC, quite similar to a process the SEC uses today over 100
times a year to stop trading when there is inadequate public
information available, and that is called a Section 12(j)
proceeding.
The SEC could do that. Only minor changes are needed for
current law.
And then, I proposed a more creative solution, which would
be a bonding or insurance policy requirement.
Mrs. Wagner. I saw that.
Mr. Vollmer, I am also concerned about the decline in
American IPOs over the last few decades and the growing trend
of American companies opting for private capital as opposed to
public markets. Meanwhile, China's IPO market produced over
one-third of the world's IPOs in 2017, which makes the decline
in American IPOs, frankly even more troubling.
Why should we find these trends concerning, sir?
Mr. Vollmer. I agree that there are some quite concerning
trends.
I think we need more study about why the Chinese companies
have been able to engage in frequent IPOs and we have a
declining trend in the United States. I don't have an answer to
that. But I agree with you, we need to do more work.
Mrs. Wagner. What do you think some of the biggest
deterrents could be to companies going public?
Mr. Vollmer. Oh. There are many issues that scholars have
identified, and I don't think that scholars have come to rest
on any one. Regulatory burdens through the registration process
are one. A second is that when you become a reporting company,
you take on a whole series of very costly obligations.
Mrs. Wagner. But any of the bills discussed in today's
hearing create these kind of additional requirements on
American public companies, adding to their regulatory
compliance costs.
Mr. Vollmer. I agree completely. Not every one of the bills
today being considered, but many of them, increase the cost of
compliance, increase disclosure cost, and those all add to the
cost of raising capital.
Mrs. Wagner. And these increased compliance costs for
public companies deter private companies from going public, is
that correct?
Mr. Vollmer. I agree with that, yes.
Mrs. Wagner. How does a company going public not only
benefit the economy in terms of jobs, but also in terms of Main
Street investors in America?
Mr. Vollmer. Oh, there are lots of economic studies that
have been done about the benefits to our society at large from
IPOs, but mostly from almost all forms of capital raising. It
leads to economic growth, new products.
Mrs. Wagner. I just don't want to see the constant decline
as we have seen now over decades and decades. As China and
other actors move into this space, it is something that we have
to really look at, and I think you are right, study in terms of
the deterrent factors to private companies in the United States
of America going public.
I thank you for your testimony.
I yield back to the Chair.
Chairwoman Maloney. The gentleman from Florida, Mr.
Sherman, is recognized for 5 minutes.
Mr. Sherman. I have moved west on the gentleman from
California. Yes, indeed, one of those warm weather States.
I know we can do legal analysis as to whether a
cryptocurrency is a security. I would like to form a
corporation and avoid--we have talked about how difficult it is
to go public and register your company. I will just declare
that my share certificates are currency. In fact, if you bring
me a share in the company that I form, I will give you a pack
of gum. I will give you three packs of gum. Bitcoin is being
sold as an investment. That is why anybody buys it, you buy it
because you think it is going to go up.
Can anybody explain to me any practical reason why we go
through all these extraordinary efforts to protect investors?
God forbid they invest in a company where footnote number 72 is
inconsistent with FASB No. 193. Why do we go through all that
if we are going to let investors invest in bitcoin?
Yes, Mr. Crimmins?
Mr. Crimmins. I would respond to that by saying that we
can't look at it monolithically as coins or digital assets. We
are dealing with three separate things. And the SEC recently, I
think, got it right. They said, if you have shares of a
company, just what you said, or fractionalized shares of a hard
asset, maybe it is an office building or an orange grove or
whatever, and you are depending on other people and what they
are telling you to give you a return, that is just like stock.
It is a security; it needs to be regulated that way.
But they also said, the SEC, in a matter they had before
them, a no action matter, that when somebody wanted to have
tokens for a private jet rental service that would combine
different companies, and they said, you know what, those coins,
what is it, but it is no different from a New York City subway
token back when we had tokens.
Mr. Sherman. That is for somebody who--because the vast
majority of New York subway tokens are used not as investments.
Somebody could invest.
Mr. Crimmins. Precisely.
Mr. Sherman. But like a yen, yen is a currency. One-
millionth of 1 percent or a hundredth of a percent of the times
people buy yen is as an investment. The number one reason to
buy yen is because you want to buy a Toyota or a thousand
Toyotas for your dealership.
Bitcoin clearly crosses the line. It is not a medium of
exchange; it is a medium of investment. The SEC isn't doing its
job. And it has us analyzing little details of what they want
to do while ignoring their main job, which is protecting
investors.
I want to shift to another issue. My colleague from
Massachusetts, Ms. Pressley, wants to create transparency at
the PCAOB. Good. But transparency does not mean that you
disclose that somebody is under investigation or what the
investigation is. If so, we wouldn't have grand juries. We
would just say, well, there is an accusation. Let's put it on
the front page. Let's punish the defendant. We don't need a
trial. We don't need a grand jury. Just try them in public. We
first see whether there--before we punish somebody, because
there is some reason to investigate, we do the investigation.
Do any of our witnesses have a reason why, if there is just
a reason to investigate, that we should destroy the credibility
of one of the audit firms? Does anybody have a comment?
Mr. Thomas?
Mr. Thomas. Congressman Sherman, I think that one way to
look at it is that the SEC's investigations are confidential
and nonpublic, and they successfully protect the reputations of
companies and individuals. And I believe that there is a way to
provide more transparency to PCAOB investigations and
enforcement actions than currently exists.
Right now, very sophisticated people don't know the
individuals' and audit firms' failings, because of the
structure of the PCAOB. If you can get a CARFAX and know about
a bad car or a broker check for a broker, maybe we should know
more about our auditors.
Mr. Sherman. On the other hand, just because there is a
rumor about me and the police officer thinks I might be
speeding--I am going to go to the other witness sitting--
Ms. Velikonja. May I supplement this?
Mr. Sherman. Yes.
Ms. Velikonja. It is not that an investigation would be
public. It is once the proceedings are filed, which is after a
long confidential internal process, several layers of review,
like the SEC, that is the point when the process becomes
public, like the SEC. So, for example, an SEC enforcement
action is filed.
Mr. Sherman. We don't know that when there is no
indictment.
Ms. Velikonja. Excuse me?
Mr. Sherman. In the criminal justice system.
Ms. Velikonja. It is like an indictment, right? This is
what we are doing.
Mr. Sherman. It is like an indictment.
Ms. Velikonja. That is what we are talking about.
Mr. Sherman. If you meet the standard and you are going to
indict somebody, you make that public. You don't make the
nonindictment public.
Ms. Velikonja. And that is what the Pressley bill proposes
to do.
Mr. Thomas. And I agree with that, Congressman.
Chairwoman Maloney. The gentleman from Arkansas, Mr. Hill,
is recognized for 5 minutes.
Mr. Hill. Thank you, Chairwoman Maloney.
I appreciate the panel. It is a very interesting discussion
on these bills. I spent a big part of my career in the
securities business, both on the institutional and the retail
side, and one of the saddest things to witness over the past
few years was the Stanford Ponzi scheme and the impact on
retail investors, a lot in the Southwest. I live in Arkansas,
and Arkansas and Texas and Memphis were sort of
disproportionately, I think, impacted by Mr. Stanford's
malfeasance.
I am interested, Mr. Vollmer, in--that occurred over 10
years ago, the second largest in history, I think, to the
Madoff issue. Pretty contemporaneous when those two things were
happening. But the Madoff recovery has been pretty impressive,
if you look at both sets of the recovery methods, really
impressive, I think far exceeding what people thought might be
reality there. But the Stanford victims in Arkansas haven't
been as fortunate. It has only returned, I think, something
like 5 cents on the dollar.
Could you tell me why this receivership process has taken
so long and what might be done differently?
Mr. Vollmer. Representative Hill, let me start by saying
the Stanford matter is not a statute of limitations problem.
Let's understand that. The SEC staff was aware of problems at
Stanford 2 years after he registered as an investment adviser.
But your question is an important one. I am not familiar
with the details about the differences between the Madoff
recovery and the Stanford recoveries, but I do know that a
major obstacle to enforcement in the Stanford case was his use
of entities offshore, his bank and other entities that he used.
And I believe it is pretty clear that that posed lots of
problems during the investigation getting information. And so I
suspect, but I do not know, that some of the efforts to recover
might have been encountering similar international
difficulties.
And the one positive note I can sound is that there is an
office within the SEC that is dedicated to looking into
international matters and making international enforcement
matters work better. And so maybe there will be more effective
efforts available in the future.
Mr. Hill. I would invite the whole panel to send me a note
and write me your thoughts on this issue if you have better
ways, so that other future investors don't have to deal with
this kind of crisis. And I hope the Commission continues to
make an effort to pursue recovery in this matter.
Mr. Vollmer, also, I really appreciate Mr. Sherman's bill
talking about audit standards offshore, particularly in China.
He has been a major warrior on accounting standards over the
years and also in trade fairness and also transparency for
investors. And there is no doubt that companies that don't get
audited statements could put mom-and-pop investors here at
risk.
But I am concerned that by prohibiting trading in public
companies, that is also a pretty drastic step and maybe an
overreaction to what is a tough problem, which could also
affect companies. For example, we have so much of the market
now that is in mutual funds or exchange-traded funds that
include non-U.S. companies.
What are your thoughts on that? I know you have other
suggestions. You suggested using Section 12(j) on delinquent
filing cases and also a bonding method. Do you want to take a
minute and talk about those?
Mr. Vollmer. There are a couple of different aspects to
this. I do think that just cutting off trading is a serious
remedy, and if you were to do it so there was no trading in the
United States--
Mr. Hill. It puts us at a competitive disadvantage, doesn't
it? Isn't this best handled by listing standards? Why don't the
companies just change auditors?
Mr. Vollmer. There have been lots of efforts to try to
solve this problem. I leave it to those who are better informed
about it than I am. And I do think there are some alternatives.
But I don't think you want a two-tier system of disclosure
quality, and so I do think we have to deal with companies that
have auditors not subject to inspection. It is not right to
have deferential treatment, I don't think. And I do think you
have to worry about whether the absence of the inspection, in
fact, is concealing problems with the underlying financial
statement.
Mr. Hill. I agree.
Mr. Vollmer. We don't want that.
Mr. Hill. I would urge all of you, again, to write
additional thoughts on an alternative to just plain delisting
or stopping trading.
And I yield back. Thank you, Chairwoman Maloney.
Chairwoman Maloney. The gentleman's time has expired.
The gentleman from Texas, Mr. Gonzalez, is recognized for 5
minutes.
Mr. Gonzalez of Texas. Thank you, Madam Chairwoman. And
thank you to the panel.
In my law practice, for 20 years before coming to Congress,
I prosecuted fraud and breach of contract claims on behalf of
civil clients. My career both before and after being elected to
Congress has been dedicated to fighting for the rights of the
American consumer here in this committee. And what I always
learned was that fraudsters like to hide, and they want
everything done fast and loose. I believe if you like a shorter
statute of limitations, you are playing right into the hands of
the Stanfords and the Madoffs and the Gabellis and the
Kokeshes.
The Gabelli and the Kokesh cases were very simple. The
Supreme Court determined that the 5-year statute of limitations
runs from the date of offense and not the date of the discovery
of the fraud. Simple as that. Now, let's be clear. In a day and
age where people are still waiting for the compensation from
fraud from Stanford Capital Management, it is hard to believe
that we have folks who would be advocating for a shorter
statute of limitations in terms of collecting those proceeds.
I stand with the American people, who believe that we can
do much better, and we have a duty to do it here in this
committee and an opportunity to do it now.
Instead of a discovery rule which is open to much
interpretation, I believe a hard-and-fast 10 years from the
date of the offense is sufficient for the government to engage
in what the fraudsters do not want, which is careful
consideration of the evidence.
It is one thing to say we want to do something about the
fraud on our seniors and our disabled and many of our veterans
who come back with disabilities from foreign wars, and another
thing to just simply do it. Today, we have an opportunity to do
it. This is a chance to do something about it, because if we
don't, we are leaving the money in the pockets of the crooks
who abuse our seniors and our veterans and those who are in
difficult places in our society.
I have a few questions, and the first question I would like
to direct to Professor Velikonja. Can you please explain for my
constituents back home how under the current law you can use
12-year-old evidence to convict someone for fraud but then are
limited to only 5 years of theft to compensate the injured?
Ms. Velikonja. The enforcement action typically is a two-
step process. One is establishing that there was a violation
and that at least some portion of that violation took place
within the 5-year limitations period. And for that you can, in
fact, use older evidence. It may be relevant to establishing
all sorts of steps, so long as the violation was completed less
than 5 years before filing suit.
At step two, you are trying to figure out what the
appropriate monetary penalties are. Those, likewise, are
limited to 5 years. So by their sort of technical application
of the statute, that is how it works. But as I explain in my
written and oral remarks, that does mean that Charles Kokesh
gets to keep his polo ponies and his gated mansion, while his
21,000 investors that he targeted specifically so that they
wouldn't sue him because they were too small don't really get
much compensation.
But I also want to--this is not primarily about
compensation. Many of the schemes are like Congressman Hill
suggested, Ponzi schemes offering fraud. The money is gone; it
has been spent.
So it is not so much about compensation and just investor
compensation. It is about forcing the defendant to pay either
now or 20 years later, when he finally comes into some money,
and pay that disgorgement order, even if none of it ultimately
ends up in the investors' hands.
Mr. Gonzalez of Texas. So, in essence, the 5-year
limitation allows a lot of crooks to keep the money in their
pockets?
Ms. Velikonja. Yes, it would.
Mr. Gonzalez of Texas. Assume for me, if you will, that we
are left with a 5-year statute of limitations. How would that
affect the SEC's enforcement practices, in your views? Would we
be rushing to judgment to beat the deadline?
I know you mentioned earlier that sometimes they agree to
tote the statute of limitations. Believe it or not, I would
have some defendants agree to that on type cases on civil
litigation. But would we be rushing to judgment to file more
cases because of the 5-year statute? Is that happening now? And
would we file cases before we do the investigation because of
the time constraints?
Ms. Velikonja. That definitely ought to be a concern. There
is already internal--the Inspector General at the SEC has sort
of flagged this as an issue. They would expedite investigations
and chances are the SEC might, in fact, file cases a little bit
more quickly after a somewhat less thorough investigation to go
get within the statute, which is not in the defendant's
interests. It is not in the interest of safe capital markets
and it is not in the interest of the defendants, because once
you are under investigation, you are under a dark cloud. Once
you are being sued, you are under a darker cloud.
Mr. Gonzalez of Texas. Thank you. I yield back.
Chairwoman Maloney. The gentleman's time has expired.
The gentleman from Ohio, Mr. Davidson, is recognized for 5
minutes.
Mr. Davidson. Thank you, Madam Chairwoman. I first want to
say that I appreciate you holding this hearing today on the
topic, but I do want to focus on an industry that, though it
isn't necessarily addressed in these legislative proposals, it
is desperately in need of clarity as it pertains to securities
laws and how we protect investors, and that is cryptocurrency.
It has already been addressed by Mr. Sherman. And this is a
rapidly growing industry. It is poised to disrupt many parts of
our markets, and could be transformative for many parts of our
financial lives.
With yesterday's announcement that Facebook is launching
their own cryptocurrency, along with partners such as Visa,
Lyft, Mastercard, Andreessen Horowitz and many other reputable
global firms, it is a sign that these digital assets aren't
just going to go away.
It is important that we maintain core investor protections
while at the same time figuring out a principled way to enable
American markets to flourish. And toward that end, I have
introduced the Token Taxonomy Act. It would define what is and
what is not a security.
This is a nonpartisan approach. I have everyone from myself
and Josh Gottheimer in this committee, on this subcommittee
even, Tulsi Gabbard, Darren Soto, Eric Swalwell. I think there
are some folks left of Swalwell and some folks right of me. We
have the ideological spectrum covered here in Congress, eight
Members currently, and we are loading it up two by two to try
to address the regulatory certainty.
Mr. Crimmins, recently you wrote about the first draft of
this. And we collected input in December; until April we
reintroduced this legislation. What questions are facing
investors in digital assets as it pertains to securities laws,
and how is regulatory uncertainty hurting investors in this
market?
Mr. Crimmins. Right. Thank you. And I appreciate what you
did in the Token Taxonomy Act with your colleagues on both
sides of the aisle. This is something that is really different
from what it was 2 or 3 years ago. Two or 3 years ago, when we
talked about cryptocurrency, it was this murky, secretive stuff
that was trying to get transactions, financial activities away
from government, away from Wall Street, put it under a blanket,
use it to funnel drug money and terrorist financing, really
scary stuff. And that still is something that we do have to
deal with.
But what we are seeing now is what you are talking about, I
would suggest, with LIBOR and some of the other initiatives we
have seen more recently, one recently approved by the SEC, and
that is a recognition that blockchain technology, the
distributed ledger which allows for security in financial
transactions, can be used legitimately. It is not only that the
people under the blanket tried to hide their activities; it can
be used legitimately, but how, how to get it right.
Mr. Davidson. And so when you talk about how to get it
right, it is interesting. They didn't leave the United States
to avoid sunlight. Facebook has attracted all the attention
they can in the whole world, and where do they go? They went to
Switzerland, where they have regulatory certainty. It is not
clear that it is truly distributed in the sense that a
nonprofit controls it. It is not true that--it is not clear
from all that was published in the White Paper.
But are there places that are providing the certainty that
are ahead of us in providing clarity for investors and people
who would launch the product?
Mr. Crimmins. That is the problem. When regulation began,
there were small jurisdictions, I think Malta and--
Mr. Davidson. Liechtenstein.
Mr. Crimmins. Liechtenstein. Now we have Switzerland, which
is not exactly a small player in the financial scene, leading
the way ahead of America. That shouldn't be. And they have
Crypto Valley and all this stuff they are doing there. They are
trying to get it right. But the choices they make shouldn't be
the ones that dominate the world.
The choices that dominate the economies generally should be
the ones made by this country, the largest economy in the
world. We should be, in a considered fashion by your colleagues
here on both sides, working in a bipartisan fashion, as you are
with Token Taxonomy, trying to get it right.
Mr. Davidson. Thank you for that. And when you look, these
are American firms broadly launching it. We have the ideas, we
have the innovation. What we don't have is Congress providing
the certainty. And I appreciate the challenge the SEC has been
up against, the CFTC has been up against, and, frankly, we are
waiting for Congress to act.
One of the main reasons for having disclosures in
securities laws is the reduction in information asymmetry
between the investor and a promoter of an investment. And
sometimes the promoter of the investment, as has been
illustrated, isn't an entity. You know, Satoshi Nakamoto, who
is that? There is no headquarters for bitcoin. It has always
left a quandary. How do you do it? Some of these others are
transparent in their launching it. But if it is truly
decentralized and can no longer be altered, how do we do it? We
need the certainty.
Thank you for that, and I look forward to further
discussions. I think Facebook may have finally tipped the
balance to where there is momentum and more people at least
understand some of the nature of blockchain.
Chairwoman Maloney. Thank you. The gentleman's time has
expired.
The gentlewoman from California, Ms. Porter, is recognized
for 5 minutes.
Ms. Porter. I am glad to have the opportunity today to
discuss during this hearing two bills that I have introduced in
this Congress. The first significantly increases the fines that
firms must pay when they break the SEC laws, and the second is
to make sure that executive officers and not shareholders
either pay those fines or at least that investors are aware of
whether or not investors will ultimately end up paying those
fines.
The SEC's penalty scheme is outdated and it is ineffective
in disincentivizing bad behavior. According to then-SEC
Chairwoman Mary Schapiro, the Commission's statutory authority
to obtain civil monetary penalties with appropriate deterrent
effect is limited in many circumstances.
The Stronger Enforcement of Civil Penalties Act of 2019 is,
as you know, a bipartisan bill that would increase the penalty
amount in each of the three existing tiers of violations, and
then would add a fourth tier for particularly egregious rule-
breaking. And the Corporate Management Accountability Act would
require SEC-regulated firms to disclose the procedures that
they have developed to claw back and pay fines with executive
compensation, as opposed to out of the pockets of investors.
These and other consumer protection measures are really
important guardrails to make sure that we have a healthy
marketplace for American families to invest in.
As you know, over half of American families invest in the
stock market, and they are very concerned about being cheated
by bad actors on Wall Street. And so I urge my colleagues on
both sides of the aisle to support these two bills.
I wanted to ask Professor Velikonja, some people have
argued to me that increasing penalties doesn't necessarily
correlate with an increase in deterrence. And I wondered if you
could speak to whether or not there are any empirical
indications about the relationship between increased sanctions
and decreased violations?
Ms. Velikonja. Thank you for this question. The question of
deterrence and does it work has been studied extensively, yet
there is very limited evidence that deterrence works. Does the
death penalty increase crime or decrease crime? Who knows?
What we do know is that sanctions, combined with visible
and active enforcement, do tend to deter misconduct. Think
about tax evasion if it is policed more heavily. Think about
parking tickets. Think about speeding and so forth. So those
are the types of violations where we have observed that
deterrence works.
Charles Kokesh, for example, when he committed his fraud,
the threatened sanctions would have been a civil fine plus
double that for disgorgement. That is not what he was thinking
about. He was trying to not get detected. He thought he was
never going to get caught.
It is unclear that deterrence works at all with these sort
of small-time no-name defendants. Large firms, repeat players,
on the other hand, do presumably care about deterrence, right?
They know they are going to stay in the same market.
Finally, I want to point this out as we are talking about
deterrence and enforcement. That is not a goal of SEC
enforcement. If you read the statute, it talks about investor
protection and public interest, which is further defined as
capital market formation, competition--I forget the third one.
But anyway, so those are the goals of enforcement, not
deterrence.
Ms. Porter. That is right. I want to emphasize that point,
because I really agree with you that this focus solely on
deterrence or these arguments about deterrence really miss the
larger framework around penalties. So while we want to deter
wrongdoing in any instance where we can, there is an important
compensatory and normative purpose of penalties.
And so increasing these penalties is very important for
compensation for victims who may be harmed, and that is one of
the reasons that in this bill we propose to have a greater of
scheme in terms of disgorgement. It is not just a set fine
amount, but it is really looking at the harm an investor
suffered and scaling the compensation to that.
And I also wanted to ask you about--do you think that
compensation clawbacks for rule-breaking should be assessed
only when we can definitively prove that the individual is
culpable for the infraction and because the level of
culpability is often difficult to determine in the corporate
setting?
Ms. Velikonja. Precisely. In a large firm, the corporation
is going to be diffuse. In the types of firms where we worry
about investors paying twice, first when they were harmed and
then when they are paying the fine, executives delegate
authority. So it is very hard to actually find you, John Doe,
you are the one who did it.
Clawbacks are not about punishing wrongdoers; they are
about accountability. An executive, the top five people, the
highest paid executives know that the buck stops with them. And
that is what the bill does.
Ms. Porter. Thank you so much.
Chairwoman Maloney. Thank you. The gentlelady's time has
expired.
And the gentleman from Utah, Mr. McAdams, is recognized for
5 minutes.
Mr. McAdams. Thank you, Madam Chairwoman, for allowing me
to be here today. And I thank the panelists for your testimony,
both written and verbal, today.
As has been discussed, I am one of the sponsors of the
discussion draft before us specifically related to the Kokesh
v. SEC case, which held that disgorgement is a penalty and,
thus, subject to a 5-year statute of limitations, regardless of
whether or not the SEC was able to detect the violation within
that timeframe.
According to the SEC, that case has cost investors over
$800 million by limiting the time the SEC has to recover funds.
Nearly $1 billion since 2017, and that number will only climb
higher--$1 billion in potentially ill-gotten gains from
defrauded investors that are unrecoverable. SEC Chairman
Clayton has expressed an interest in a fix for this, and I
believe that my discussion draft would do exactly that.
I think we all share the goals of protecting investors and
ensuring that the SEC has the appropriate authority to deter
wrongdoing, to promote market integrity, confidence in the
market, and to ensure that investors are well taken care of.
And we may have different ideas how to balance those
objectives, and that is what I think we are here to explore
today.
So, Professor Velikonja, you mentioned your fear that the
courts will eventually rule that the SEC is not authorized to
seek disgorgement in civil actions or any equitable remedies in
civil actions and that the Kokesh decision hints at this
potential outcome. I am hopeful that you can elaborate on the
potential results of that if a court rules that way.
Specifically, would that leave investors protected or more
vulnerable, and what would that mean for the SEC's enforcement
capabilities?
Ms. Velikonja. So cases, as I mentioned, have already been
filed challenging the disgorgement authority in court. I
imagine that if you look at a Supreme Court decision and you
can't square disgorgement as a penalty and it not being--in
other words, disgorgement, if it is a penalty, a court cannot
impose it. So you could still see a court order--
Mr. McAdams. Without statutory authorization.
Ms. Velikonja. Precisely, without statutory authorization.
You might see courts ordering, in a case where you can actually
identify investors and trace their funds to the violator, maybe
order some sort of restitution remedy, but it could and would
not order disgorgement, which means that in a typical case like
an offering fraud, the civil fine would be, what, $175,000?
Mr. McAdams. Which gets to the point that it is just a cost
of doing business, right? If you are limited to actual
restitution, you may actually--
Ms. Velikonja. Precisely. You are just giving back what you
stole, right?
Mr. McAdams. So it leaves investors more vulnerable and
also undermines confidence in the market.
Ms. Velikonja. But what it does mean is, for example, in
cases where there are identifiable victims, like insider
trading in options, you might still have disgorgement and
compensation, perhaps.
Mr. McAdams. Foreign bribery, I think you--
Ms. Velikonja. Some sort of like--foreign bribery is
outside the limitations period, right? There is a problem
there. And also, if you are going to use it as a restitution,
who is the victim of foreign bribery? Can you identify one? If
you can't compensate, you can't order it.
Mr. McAdams. Right. I generally think that we make better
policy decisions when we allow data to inform our thinking. And
so I want to also follow up on some of your work outside of
this testimony, but you analyzed SEC enforcement actions filed
in 2010 through Fiscal Year 2018, right? What did that data
show you, and what does that body of information tell you about
some of this legislation we are considering today?
Ms. Velikonja. My goal with that study was to see, had the
Kokesh decision been enforced, if it is applied, what
differences would it have made in the cases filed? I made
certain assumptions. One thing I shared with you was that many
cases are affected by the Kokesh decision. If we don't get into
the question of, is disgorgement a penalty and, thus, not
allowed at all, if we just talk limited to the 5-year
limitations period, 37 percent of cases include violations
older than 5 years, half in 2018. So, this is a big issue.
Now, I mentioned earlier, tolling agreements can be used to
some extent to stretch the limitations period. Then, I focused
in my paper, in my study of then the impact is greater in cases
that are not settled. So who are we talking about? Ponzi
schemers offering frauds.
Mr. McAdams. And you talk about--we can debate the value of
deterrence in some of these cases, but what incentive does this
give to a promoter of a Ponzi scheme if disgorgement goes the
way of a penalty limited to a 5-year statute of limitations?
Ms. Velikonja. For a Ponzi schemer, typically, they don't
think they are going to get caught. They are probably still
going to do it. But what it does change is the market, the
investors' perception about fairness of the markets. If I am an
investor, I am putting money under my mattress.
Mr. McAdams. I would note that we have seen some data from
the SEC on their enforcement actions. I have severe concerns
that the Kokesh decision ties the SEC's hands, and leaves our
investors vulnerable and without appropriate remedies from bad
actors.
I would like to thank all of the witnesses for your
testimony. I would urge this committee to remedy the Kokesh
decision as soon as possible.
And with that, Madam Chairwoman, I yield back.
Chairwoman Maloney. Thank you very much.
And I want to thank all of the panelists. You gave us a lot
to think about.
Before we wrap up, I would like to take care of some
administrative matters, particularly one. Without objection, I
would like to submit letters and statements for the record from
the Council of Institutional Investors; Public Citizen; SIFMA;
the North American Securities Administrators Association; Lynn
Turner; and a statement from Mr. Himes, who had to leave early.
And I would like to thank all of our witnesses for your
testimony today, and I am deeply grateful.
The Chair notes that some Members may have additional
questions for this panel, which they may wish to submit in
writing. Without objection, the hearing record will remain open
for 5 legislative days for Members to submit written questions
to these witnesses and to place their responses in the record.
Also, without objection, Members will have 5 legislative days
to submit extraneous materials to the Chair for inclusion in
the record.
Mr. Huizenga. Madam Chairwoman?
And Mr. Huizenga is recognized.
Mr. Huizenga. Thank you, Madam Chairwoman.
I just would like to submit for the record as well an
article written by one of our witnesses, Mr. Crimmins,
entitled, ``What Restitution Could Mean for SEC Enforcement
Cases.''
Chairwoman Maloney. Without objection, it is so ordered.
Mr. Huizenga. Thank you.
Chairwoman Maloney. Thank you very much. This hearing is
adjourned.
[Whereupon, at 5:01 p.m., the hearing was adjourned.]
A P P E N D I X
June 19, 2019
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