On September 10, 2014, the Securities and Exchange Commission (SEC) announced a series of enforcement actions against 28 officers, directors, and major shareholders—so-called “insiders”—for failure to file timely reports under Sections 16(a), 13(d) and 13(g) of the Securities Exchange Act of 1934. The SEC also charged six publicly-traded companies for contributing to filing failures by insiders or for failing to report their insiders’ filing delinquencies. The SEC’s takedown heralds an enforcement focus on those filings that disclose holdings and transactions in an issuer’s stock.
Pursuant to Section 16(a) of the Exchange Act, and the rules promulgated thereunder, officers and directors of a company with a registered class of equity securities, and any beneficial owners of greater than 10 percent of such class, are required to file certain reports of holdings and transactions. The primary purpose of such filings is to prevent corporate insiders from profiting from their access to confidential information. In determining whether one is a 10 percent “beneficial owner,” reference must be made to Section 13(d) of the Exchange Act and the rules thereunder. Under Section 13(d) and Rule 13d-3, a “beneficial owner” is defined to include “any person who, directly or indirectly, through any contract, arrangement, understanding, relationship or otherwise” has or shares voting or investment power—or will have the right to obtain such power within 60 days—with respect to a registered equity security.
Section 16(a) and Rule 16a-3 require that insiders file statements of holdings and transactions on Forms 3, 4 and 5. An insider must file a Form 3 report disclosing his or her beneficial ownership within 10 days of becoming an insider or at the time the class of equity security must first be registered with the SEC. Insiders must then generally file a Form 4 disclosing any change in beneficial ownership within two business days of the change occurring. Finally, an insider must file a Form 5 within 45 days of the issuer’s fiscal year-end, disclosing any transactions that were not reported on Forms 3 or 4 during that year.
Sections 13(d) and 13(g) require any person or group who directly or indirectly acquires beneficial ownership of more than five percent of a registered equity security to file a statement with the SEC disclosing certain information that relates to the beneficial ownership. The primary purpose of reporting under Sections 13(d) and 13(g) is to notify shareholders and potential investors of significant accumulations of stock positions and the intentions of those building such positions.
As announced on September 10, the SEC filed charges in administrative proceedings and settled with 33 of 34 respondents. In evaluating filings that were delayed by weeks, months and even years, SEC enforcement staff used quantitative data sources and ranking algorithms to identify the repeat delinquent filers. Notably, the SEC charged six companies with contributing to filing failures and failing to report them. The 33 respondents that settled consented to entry of cease-and-desist orders and civil penalties ranging from $25,000 to $150,000, with total penalties of $2.6 million.
The SEC’s initiative is significant because, among other reasons, it is highly unusual for the Commission to bring so many actions at once. As Andrew J. Ceresney, Director of the SEC’s Division of Enforcement announced, the SEC is “bringing these actions together to send a clear message about the importance of these filing provisions.” Further, he noted that insiders should take note that “inadvertence is no defense to filing violations, and [the SEC] will vigorously police these sorts of violations through streamlined actions.” This SEC initiative appears consistent with the Commission’s recent strategy of aggressively pursuing all types of federal securities violations, large and small, which SEC Chairman Mary Jo White has likened to the so-called “broken windows” strategy of zero tolerance employed in the 1990s by former New York City Mayor Rudolph Giuliani and Police Commissioner Bill Bratton. It is also noteworthy that the SEC brought charges in these actions against a wide range of market participants, including: (a) officers or directors of publicly-traded companies; (b) individuals and investment firms that were beneficial owners of publicly-traded companies; and (c) publicly-traded companies.
In sum, the SEC’s action is a stark reminder to individuals and corporate entities alike of the importance of complying with the disclosure requirements under Sections 16(a), 13(d) and 13(g) of the Securities and Exchange Act. Institutional investors and publicly-traded companies may wish to review their policies and procedures to ensure that they are reasonably designed to facilitate compliance with the Exchange Act requirements.
 The “broken windows” strategy is based on the notion that when a broken window is repaired immediately, it signals that disorder will not be tolerated, but when a broken window is left unrepaired, it signals an environment of disorder that encourages more serious criminal activity.
The full and original memorandum was published by Bingham McCutchen LLP on September 15, 2014, and is available here.