Overview
In the latest development involving the Securities and Exchange
Commission's ("SEC") longstanding practice of
settling enforcement cases on a "neither admit nor deny"
basis, the Second Circuit issued an opinion on March 15, 2012
granting a stay in the case in which Judge Jed Rakoff had refused
to approve the SEC's settlement with Citigroup. A three-judge
panel of the United States Court of Appeals for the Second Circuit
granted the SEC and Citigroup's motion for a stay of district
court proceedings pending the Second Circuit's disposition of
the parties' appeal and mandamus petitions.1
This case has been closely watched because of Judge Rakoff's
criticism of the "neither admit nor deny" policy, and his
insistence on admissions on the basis of which the court could
evaluate whether the proposed settlement is in the public interest.
With this ruling, the Second Circuit seemed to accept the SEC's
policy arguments, which may be a predictor of how the Second
Circuit will rule on the merits. This development is important, as
it removes some of the uncertainty created by Judge Rakoff's
prior decisions, and is a significant step in validating the
SEC's settlement practice.
Background of the Case
On October 19, 2011, the SEC filed a complaint alleging that
Citigroup Global Markets Inc., the brokerage and securities arm of
Citigroup Inc., negligently misrepresented key deal terms for a
collateralized debt obligation it was marketing, along with
Citigroup's consent and a proposed final judgment imposing an
injunction, a $285 million civil money penalty, and certain
undertakings. On November 28, 2011, Judge Rakoff issued an order
rejecting the settlement and ordering a prompt trial.2
Judge Rakoff criticized the SEC settlement because it was
"neither reasonable, nor fair, nor adequate, nor in the public
interest," and because Citigroup did not admit to the
SEC's allegations, stating that the lack of "any proven or
admitted facts" deprived the district court of the facts
necessary to determine, among other things, whether the punishment
was adequate.3
The SEC and Citigroup both appealed that order on December 15,
2011, and the SEC alternatively petitioned to set aside that order
on December 29, 2011. The SEC also filed an emergency motion for a
stay of the district court proceedings.4 Citigroup
joined with the SEC in all of its arguments.
Second Circuit Order
The appellate panel determined that the SEC and Citigroup had
"made a strong showing of likelihood of success" that
Judge Rakoff's ruling would be overturned and had shown
"serious, perhaps irreparable, harm sufficient to justify
grant of stay."5 The court also found that the
SEC's "assessment of the importance of its settlement to
the public interest was entitled due deference."6
Notably, the panel also defended the SEC's "neither admit
nor deny" settlement policy as reasonable and
practical.7
First, the panel emphasized the limited role of a district court in
reviewing an executive branch agency's decision to settle a
claim, including the SEC's "neither admit nor deny"
policy. The panel found that it was "doubtful whether the
court gave the obligatory deference" to the SEC on a
"wholly discretionary" policy matter.8 Though
Judge Rakoff thought that "it was bad policy, which disserved
the public interest, for the SEC to allow Citigroup to settle on
terms that did not establish its liability," the panel said it
is not "the proper function of federal courts to dictate
policy to executive administrative agencies. . . . While we are not
certain we would go so far as to hold that under no circumstances
may courts review an agency decision to settle, the scope of a
court's authority to second-guess an agency's discretionary
and policy-based decision to settle is at best
minimal."9 Additionally, the panel suggested that
Judge Rakoff misinterpreted precedent regarding how to evaluate
"public interest" and exceeded his judicial authority:
"The responsibilities for assessing the wisdom of such policy
choices and resolving the struggle between competing views of the
public interest are not judicial ones."10 The panel
also saw "no basis to doubt [] the SEC's decision" to
settle or the SEC's consideration of the numerous factors that
affect a decision of whether to litigate or settle the case,
including the public interest, the risk of going to trial, and the
likelihood of obtaining a settlement, which "are precisely the
factors that the Supreme Court has recognized as making a
discretionary agency decision unsuitable for judicial
review."11
The panel also took issue with Judge Rakoff's insistence on an
admission of liability, which the panel said wrongly: (1) prejudged
Citigroup's guilt in misleading investors, (2) assumed the SEC
would succeed at trial, and (3) assumed that Citigroup would settle
even if it had to admit liability.12 The panel expressed
"doubt whether it lies within a court's proper discretion
to reject a settlement on the basis that liability has not been
conclusively determined" and stated that settlements are
"by definition a compromise" and commonly have no binding
admission of liability, nor is an admission of liability necessary
for a settlement to be in the public interest.13 The
panel further suggested that practically, parties would have a
disincentive to settle if one party had to admit liability, as
"[r]equiring such an admission would in most cases undermine
any chance of compromise."14
Finally, the panel questioned why the district court found the
settlement to be unfair to Citigroup, questioning "whether it
is a proper part of the court's legitimate concern to protect a
private, sophisticated, counseled litigant from a settlement to
which it freely consents. We doubt that a court's discretion
extends to refusing to allow such a litigant to reach a voluntary
settlement in which it gives up things of value without admitting
liability."15
The panel denied the SEC's motion to expedite its appeal on the
merits, but directed the Clerk of Court to set a briefing schedule
for counsel to submit briefs addressing the relevant issues. The
panel took the unusual step of directing the Clerk of Court to
appoint counsel to represent the district court's position,
possibly because of the "important questions" raised by
the case, including "the division of responsibilities []
between the executive and the judicial branches," "the
deference a federal court must give to policy decisions of an
executive administrative agency as to whether its actions serve the
public interest," and "the question of a court's
authority to reject a private party's decision to compromise
its case" if the court does not think the party has incurred
any liability.16
Response to the Citigroup Decisions
The SEC vigorously challenged Judge Rakoff's November
decision, as "neither admit nor deny" settlements have
been agency policy for years. After the decision, SEC Director of
Enforcement Robert Khuzami stated that Judge Rakoff's decision
"committed legal error by announcing a new and unprecedented
standard that inadvertently harms investors by depriving them of
substantial, certain and immediate benefits." In a speech on
December 1, 2011, he said that turning down settlements because of
a lack of admission would result in fewer settlements, longer
delays before victims get compensated, expended SEC resources, and
less money to investors.17
On December 16, 2011, the House Committee on Financial Services
announced that it would "hold a hearing [in 2012] to examine
the practice by the Securities and Exchange Commission of settling
cases with defendants that neither admit nor deny complaints made
by the SEC." The
SEC made a small change in its "neither admit nor deny"
policy in January 2012, when it announced that it will no longer
allow companies to say they neither admit nor deny the
Commission's civil charges when, at the same time, they admit
to or have been convicted of criminal violations.
Other courts have cited Judge Rakoff's November 2011 decision
questioning the factual premise of settlements. Judge Rudolph Randa
in the Eastern District of Washington cited Judge Rakoff in
questioning a "neither admit nor deny" settlement and
requested that the SEC "provide a written factual predicate
for why the agency believes the court should find that proposed
final judgments in an enforcement action alleging that a company
prepared materially inaccurate financial statements and lacked
adequate financial controls are fair, reasonable, adequate, and in
the public interest" before he decided whether to approve the
settlement.18 Judge Randa also questioned the
"adequacy of the SEC's proposed final judgment provision
regarding disgorgement."19 The court ultimately
approved the settlement in February 2012. Also in February 2012,
Judge Renee Marie Bumb of the District of New Jersey cited Judge
Rakoff's November 2011 decision when she blocked a proposed
settlement between the Federal Trade Commission ("FTC")
and a marketing company, arguing that the court had no facts to
judge whether the proposed settlement was fair, adequate, and in
the public interest.20 The court ordered the FTC and the
company to present facts justifying the approval of a proposed
$11.5 million settlement when the company had not admitted any
wrongdoing.21
After the Second Circuit panel issued its ruling on March 15, 2012,
Director Khuzami issued the following statement: "We are
pleased that the appeals court found 'no reason to doubt'
the SEC's view that the settlement ordering Citigroup to return
$285 million to harmed investors and adopt business reforms is in
the public interest." He further noted that "[a]s we have
said consistently, we agree to settlements when the terms reflect
what we reasonably believe we could obtain if we prevailed at
trial, without the risk of delay and uncertainty that comes with
litigation. Equally important, this settlement approach preserves
resources that we can use to stop other frauds and protect other
victims."
In sum, the Second Circuit's opinion last week was a
significant positive development for the SEC's enforcement
program. Although it was not a decision on the merits, the Second
Circuit stated that the SEC's settlement policies, including
the "neither admit nor deny" policy, were properly within
the agency's discretion. Parties should take comfort in the
fact that this decision strongly indicates that district courts
should defer to the SEC's settlement decisions, thus likely
removing the uncertainty that arose from Judge Rakoff's
decision.
Footnotes
1. U.S. Secs. and Exch. Comm'n v. Citigroup Global Mkts. Inc., No. 11-5227-cv, 11-5375-cv, 11-5242-cv, 2012 WL 851807, at *9 (2d Cir. Mar. 15, 2012).
2. U.S. Secs. and Exch. Comm'n v. Citigroup Global Mkts. Inc., No. 11 Civ. 7387, 2011 WL 5903733, at *6 (S.D.N.Y. Nov. 28, 2011).
3. Id. at *6
4 The SEC also filed a motion to stay in district court, which Judge Rakoff denied without knowing of the SEC's motion to stay filed with the Second Circuit. This motion caused Judge Rakoff to write a supplemental order expressing displeasure with the SEC's conduct, stating that the SEC made "materially misleading" statements and disregarded professional responsibility in not citing to relevant authority; he also directed parties to fax him any filings before the Second Circuit immediately after filing. The SEC responded on December 29, 2011 that it had acted "in good faith."
5 Citigroup Global Mkts. Inc., 2012 WL 851807, at *9.
6 Id.
7. See, e.g., id. at *2.
8. Id. at *4-5.
9. Id. at *4.
10. Id. at *4.
11. Id.
12. Id. at *3.
13. Id. at *6.
14. Id. at *5.
15. Id. at *5.
16. Id. at *1.
17. Robert Khuzami, Remarks Before the Consumer Federation of America's Financial Services Conference (Dec. 1, 2011), available at "www.sec.gov/news/speech/2011/spch120111rk.htm"
18. U.S. Secs. and Exch. Comm'n v. Koss Corp., No. 11-C-991-RTR, at *3 (E.D. Wis. Dec. 20, 2011).
19. Id.
20. Fed. Trade Comm'n v. Circa Direct LLC, No. 11-2172 RMB/AND, 2012 WL 589670 (D.N.J. Feb. 22, 2012).
21. Id. at *2.
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