SEC Investigations 101: Establishing the Pace and Scope

November 27, 2018

This post is the third in a series of posts for non-lawyers, or non-securities lawyers, who might suddenly find themselves on the wrong end of a Securities and Exchange Commission document request, subpoena or call from SEC’s Enforcement division staff.

SEC HQ front.jpgBy Dan Portnov

Unless you are, say, Elon Musk, the SEC may not make very clear the theory it has as to what you did wrong. Instead, SEC Enforcement Division staff may have a broad or vague idea of the alleged misconduct at the start of an investigation and deliberately cast a wide net, resulting in a subpoena (or document request) that is both substantively broad and covers a long period of time. In some cases, you may be left shaking your head at just how little the Staff seems to understand your business.

Still, this early stage presents a great opportunity to take some control of the investigation[1] as well as build credibility with the staff conducting the investigation. This post will walk through the first few steps that you, as the subject of or witness[2] in the investigation, should take.

The Formal Order of Investigation

As we wrote earlier, it is imperative that you ask the SEC whether a formal order of investigation has been issued and, if so, request it immediately.[3] The formal order doesn’t give away a lot, but it will tell you who or what is at the heart of the investigation. For example:

  • In the Matter of Swindle Securities LLC – the investigation centers on a specific entity.
  • In the Matter of certain Scandinavian Reverse Mergers – the investigation concerns specific transactions and the roles of various parties in them.

The formal order will also list sections of securities laws or rules promulgated thereunder that have may have been violated, allowing you to understand the elements and defenses that will come into play.

Subpoena vs. Document Request

The issuance of the formal order of investigation allows the staff to issue subpoenas for books, records, documents and on-the-record testimony. SEC subpoenas, like civil and criminal subpoenas, may be enforced in federal district court, if necessary.

Document requests or requests for information, on the other hand, are less formal, often taking the form of a letter. These are issued during the MUI stage and cannot be enforced in court. However, SEC-regulated entities such as registered investment advisors and broker-dealers have strong incentives to comply with these requests, so they should consider the request as seriously as they would a subpoena. (When the regulator who can shut down your business asks you for documents, it’s generally a good idea to be cooperative in your response.) This doesn’t mean that you have to buckle and produce everything the SEC requests (see below), but it does mean that you don’t want to ignore the request and hope the SEC just forgets about it.

Further, should the enforcement staff suspect that the receiving party is being evasive or less than forthcoming in response to a request, they may convert the MUI to an investigation and issue subpoenas instead. In short, it is always good practice to respond to a document request as you would a subpoena.

Responding to the Subpoena/Document Request

In most instances, the requests – the numbered list of documents and information demanded – made by the enforcement staff are broad in subject, scope and time. Responding fully to each would require a lengthy and expensive undertaking while carefully navigating privilege landmines and the disclosure of sensitive personal or financial information. This would be difficult for a large financial institution and nearly impossible for smaller entities or individuals.

A large document dump is also daunting for enforcement staff, as only one or two attorneys (plus a few interns or contractors) will be tasked with reviewing and digesting everything. Ironically, neither side is actually helped by searching for and turning over every single responsive document at once.

At this stage, you (the client) or, more likely, your counsel, should establish a line of communication with enforcement staff to limit or prioritize their requests. These discussions will help manage expectations, ease the pressure from the client and (hopefully) tease out where the staff’s real focus lies. As you do this, keep in mind several important principles:

  1. Sometimes the requests are aspirational and not realistic. Do not panic if the requests appear to cover every document your company has ever created.
  2. Statute of limitations. In light of the standard five-year statute of limitations on securities laws, as well as recent Supreme Court and C. Circuit decisions classifying disgorgement and injunctive relief as penalties subject to the same five year period, the relevant time period for all requests should be capped to five years (absent justifiable exceptions or tolling agreements).
  3. Document retention requirements and policies. Before engaging with the staff, counsel should review the relevant document retention requirements that govern the client’s business and transactions. In certain instances, a statute (such as Dodd-Frank) sets the period of retention in stone. In other instances, your IT department (or default email server settings) may inadvertently have made that decision.
  4. Educate the staff in order to limit time and expense of the investigation. The more the staff understands the client’s business, organizational charts, individual responsibilities and key events, the more limited and precise its requests will be. Both sides will benefit from a focused and efficient response.
  5. Sometimes enforcement staff will request a broad swath of documents while secretly hoping counsel and the client will make their lives easier by creating a composite or data compilation instead. Do not be afraid to suggest this alternative, but do note that this document will be created solely in response to the SEC’s requests and not in the ordinary course of the client’s business. (Bonus points for stressing how difficult and time consuming it was to create the document.)
  6. Rolling productions and follow-up requests will make the investigation more manageable, invite dialogue and encourage the staff to think carefully before demanding additional materials. Each opportunity to speak with the staff is an opening to gain more information about how it views the investigation and the client’s role in alleged misconduct.
  7. The Purposeful Production Without Privilege Review can be your friend.

Notwithstanding the above, if you are concerned that you might have engaged in problematic or illegal conduct without a good-faith justification or mitigating circumstances, you and your counsel should strongly consider the benefits of cooperating with the investigation at the outset. (NB: there is a significant difference between complying with the staff’s requests and actual cooperation).

In our next SEC 101 installment, we will discuss the decision to cooperate with the SEC’s investigation.

[1] We use the term investigation to also encompass the matter under inquiry (MUI). MUIs are precursors to investigations and, though the formal order of investigation has not yet been issued, MUIs are often converted to investigations.

[2] The SEC does not officially use these terms to describe entities involved in their investigations.

[3] The magic language for the written request can be found in the SEC Enforcement Manual (Section at pages 18-19).

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