A district judge in New York set a cat among the pigeons last week. He refused to endorse a settlement between the United States’ Securities Exchange Commission (“SEC”) and Citigroup, throwing wide open, a debate over whether regulators can extract settlement bargains without proving that a violation indeed took place.
Last week, this column commented (edition dated November 21, 2011) on how regulatory litigation is not similar to litigation between private parties, and how demanding that precedents interpreting law for the world at large should be wiped out in individual settlements, is against public policy. The New York Court has dealt extensively with a larger dimension to disputes being settled by regulators without having to prove a violation, and consequently, without dealing with the violation adequately.
Citigroup had been accused by the SEC of creating a fund with a view to dump toxic structured products into a fund created newly for the purpose, even while having an opposite view on the prospects of such products on its own balance sheet. Based on these charges, the SEC sought to extract money out of Citigroup to settle the dispute without either guilt or innocence being established. The complaint before the court had been filed by the SEC and it was seeking to settle the complaint in terms of the settlement reached between the parties.
Ruling that no evidentiary basis was brought to bear to help the Court decide on whether to bless the settlement, the Court ruled: “Purely private parties can settle a case without ever agreeing on the facts, for all that is required is that a plaintiff dismiss his complaint. But when a public agency asks a court to become its partner in enforcement by imposing wide-ranging injunctive remedies on a defendant, enforced by the formidable judicial power of contempt, the court, and the public, need some knowledge of what the underlying facts are: for otherwise, the court becomes a mere handmaiden to a settlement privately negotiated on the basis of unknown facts, while the public is deprived of ever knowing the truth in a matter of obvious public importance.”
Noting that long-standing policy of the SEC of extracting settlements in settling disputes was “hallowed by history, but not by reason”, the Court said consent judgments without establishing or disproving guilt “deprives the Court of even the most minimal assurance that the substantial injunctive relief it is being asked to impose has any basis…..As a matter of law, an allegation that is neither admitted nor denied is simply that, an allegation. It has no evidentiary value and no collateral estoppel effect. It is precisely for this reason that…… a consent judgment between a federal agency and a private corporation which is not the result of an actual adjudication of any of the issues... cannot be used as evidence in subsequent litigation…..It follows that the allegations of the complaint that gives rise to the consent judgment are not evidence of anything either.”
Also Read
The Court noted: “….a consent judgment…. is just as frequently viewed, particularly in the business community, as a cost of doing business imposed by having to maintain a working relationship with a regulatory agency, rather than as any indication of where the real truth lies…….It is harder to discern from the limited information before the Court what the SEC is getting from this settlement other than a quick headline.”
Refusing to “employ its power and assert its authority when it does not know the facts,” the Court further ruled: “An application of judicial power that does not rest on facts is worse than mindless, it is inherently dangerous. The injunctive power of the judiciary is not a free roving remedy to be invoked at the whim of a regulatory agency, even with the consent of the regulated. If its deployment does not rest on facts, solid facts, established either by admissions or by trials it serves no lawful or moral purpose and is simply an engine of oppression.”
Some of these observations fit what has happened in India like a glove. As an example, take the alleged IPO Scam that the Securities and Exchange Board of India (“SEBI”) has been chasing for years now. SEBI’s case is that market intermediaries registered with it ought to be various guilty of negligence and collusion (although the two cannot co-exist) for shares that would have otherwise been allotted on a proportionate basis to retail investors being cornered by a few applicants.
Various parties agreed to settle the dispute with SEBI without guilt or innocence being established, and some of them coughed up serious money just to avoid confrontation with SEBI and to get on with life. Much later, a ruling from the Securities Appellate Tribunal clearly ruled that if applicants who got allotments indeed existed, indeed had their own bank accounts and indeed had the funds to apply for the shares being issued, there could have been no scam. Those who have not settled so far continue to be dogged by controversy and SEBI has been demanding fantastic amounts from many of them for leaving them alone.
(Disclosure: This author’s firm has legal representation for several accused in the alleged “IPO scam”) (The author is a partner of JSA, Advocates & Solicitors. The views expressed herein are his own.)
