Transcript Application of the Federal Securities Laws to Disclosures

Application of the Federal
Securities Laws to Disclosures
Made by Municipal Securities
Issuers
Michael Cafiso|[email protected]| 602.445.8451
GREENBERG TRAURIG, LLP | ATTORNEYS AT LAW | WWW.GTLAW.COM
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APPLICATION OF THE FEDERAL SECURITIES LAWS BY THE
SECURITIES EXCHANGE COMMISSION (“SEC”) TO DISCLOSURES
MADE BY MUNICIPAL SECURITIES ISSUERS
 Three principal contexts:
1. Primary disclosure
 Official statement prepared by an issuer in connection with a new
offering of securities to the public
Examples:

March 2013 – State of Illinois (for actions in 2005)
 Charged the State with securities fraud for misleading municipal
bond investors about the State’s approach to funding its pension
obligations
 State disclosed pension holidays and other legislative amendments;
did not disclose the effect of those changes on the contribution
schedule and ability to meet pension obligations
 SEC issued an order instituting settled administrative proceedings
against the State
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
July 2013 – City of Miami, Florida (for actions starting in 2007)
 Charged the City and former budget director with securities fraud in
connection with several municipal bond offerings and other
disclosures made to investors
 False and misleading statements and omissions about certain
interfund transfers in three offerings totaling $153.5 million; also
included false and misleading information in the City’s fiscal year
2007 and 2008 CAFRs
 Violated SEC cease-and-desist order that was entered against the
City in 2003 based on similar misconduct. Civil monetary penalties
against both the official and the City
2. Secondary market disclosures
 Rule 15c2-12, promulgated under the federal Securities Act of 1934,
applies to underwriters and does not apply to issuers
 Underwriters cannot offer an issuer’s securities unless they have
reasonably determined that the issuer will provide the required
secondary market disclosures
 Continuing disclosure agreement – issuer will provide specified annual
financial information (audited financial statements and update the type
of information in official statement) and make disclosure regarding
certain specified events
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Example:

July 2013 – West Clark Community Schools (Indiana) (for actions in
2007)
 Charged the District and its underwriter with securities fraud for
falsely stating in an official statement that the District was in
compliance with its continuing disclosure obligations, when in fact it
had not made any continuing disclosure filings in the years
preceding the bond issue
 Charged the issuer with violation of Rule 10b-5 (scienter-based) as
well as Section 17(a)(2) (negligence-based). Use of the scienterbased charge underscores serious nature of the violation. See
discussion below
3. Releases or statements by an issuer or its officials that are
reasonably expected to reach investors and the trading markets
 Websites, rating agency presentations, press releases, public
statements by issuer officials and responses by issuer officials to
inquiries from the public
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Example (first ever of its kind):

May 2013 – City of Harrisburg, Pennsylvania
 Charged the City with securities fraud for misleading public
statements in the City’s budget report, annual and mid-year
financial statements, and a state of the City address, while its
financial condition was deteriorating and financial information
available to municipal bond investors was either incomplete or
outdated
 As part of the Harrisburg settlement, SEC released a 21(a) Report.
Three key points:
1. Public officials should be mindful that their public statements,
whether written or oral, may affect the total mix of information
available to investors, and should understand that these public
statements, if they are materially misleading or omit material
information, can lead to potential liability under the antifraud
provisions of the federal securities laws
2. Because statements are evaluated for antifraud purposes in light
of the circumstances in which they are made, the lack of other
disclosures by the municipal entity may increase the risk that
municipal officials’ public statements may be misleading or may
omit material information
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3. In light of this potential liability, public officials who make public
statements concerning the municipal issuer should consider
taking steps to reduce the risk of misleading investors. Such
steps include adopting policies and procedures that are
reasonably designed to result in accurate, timely, and complete
public disclosures; identifying those persons involved in the
disclosure process; evaluating other public disclosures that the
municipal securities issuer has made, including financial
information and other statements, prior to public dissemination;
and assuring that responsible individuals receive adequate
training about their obligations under the federal securities laws
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 Remember, there is no general obligation to disclose all material
information. The disclosure requirements only apply when in a primary
offering period or if a specified material event set forth in a continuing
disclosure agreement has occurred
 Although municipal securities are exempt from registration, the antifraud
provisions of the federal securities laws do apply in all three of the
contexts described above. Rule 10b-5 of the 1934 Act
“unlawful for any person … to make any untrue statement of a
material fact or to omit to state a material fact necessary in order
to make the statements made, in the light of the circumstances
under which they were made, not misleading ….”
 Actions for violations of Rule 10b-5
 SEC can bring an administrative action (before an administrative law
judge of SEC), a civil action in federal court, or can refer a case to the
Department of Justice for criminal proceedings
 SEC can also issue a report pursuant to Section 21(a) of the 1934 Act
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 SEC has to demonstrate under Rule 10b-5
 That there was a materially misleading misstatement or omission,
 Such misleading misstatement or omission was made or omitted with
scienter (fraudulent intent or recklessness)
“Recklessness” = “an extreme departure from the standards of
ordinary care and which presents a danger of misleading
[investors] that is either known to the defendant or is so obvious
that the actor must have been aware of it.”
 such misleading misstatement or omission was made in connection
with the purchase or sale of a security
 SEC may also bring an action against an issuer under Sections 17(a)(2)
or 17(a)(3) of the federal Securities Act of 1933. For purposes of such
actions, SEC must simply show negligence instead of scienter
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 A private plaintiff can also seek damages under Rule 10b-5
 In addition to the three elements of any SEC action, must also show
damages and reliance on the misleading disclosure
 As described above, SEC can bring specific types of enforcement actions,
such as administrative or civil actions or a criminal referral to the Justice
Department. In the context of municipal securities, SEC can bring such
enforcement actions against
 The governmental issuer of the securities,
 Individual members of the legislative body of the issuer (has never
happened-yet),
 Government officials and employees
 Third parties, such as underwriters, financial advisors, and bond
counsel
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 Trends
 Taken together, I think [two recent SEC actions – Harrisburg and
Victorville] make an additional point worth stressing. Although cities
and municipal issuers are distinct legal entities, in fact they act
through individuals. And they meet their primary and continuing
disclosure obligations under state and federal law through the conduct
of public officials. So when we find material misstatements or
omissions by public officials in connection with municipal securities,
WE CAN, SHOULD, AND WILL TAKE ACTION TO HOLD THE
APPROPRIATE PUBLIC OFFICIALS ACCOUNTABLE. (emphasis added)
May 2013 SEC Commissioner Gallagher
 City of South Miami has a population of 11,000 and West Clark
Community Schools has a staff of 400 and a student population of
4,500. Both were the subject of recent SEC actions – size and
sophistication have not made a difference.
 Recent actions by SEC directly or indirectly relate to the absence of
disclosure practices and procedures. Remedial measures involving
retention of a consultant over a multi-year period to prepare such
practices and procedures and report on their implementation has
been a factor in SEC’s agreements to settle cases
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