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Second Wave of MCDC Hits Underwriters ….No Smooth Sailing Ahead!

Second Wave of MCDC Hits Underwriters ….No Smooth Sailing Ahead!

On September 30 the Securities and Exchange Commission (“SEC”) announced another round of enforcement actions against 22 municipal underwriting firms for disclosure violations in connection with municipal bond offerings. The penalties, which totaled $4.12 million, ranged from $20,000 to $500,000, the maximum penalty. This was the second wave of enforcement actions under the SEC’s Municipalities Continuing Disclosure Cooperation (MCDC) initiative, which targeted material misstatements and omissions in municipal bond offering documents. Under the initiative, the SEC agreed to recommend favorable settlement terms to underwriters and issuers of municipal securities if they voluntarily self-reported possible violations involving compliance in the past five years with prior continuing disclosure obligations under SEC Rule 15c2-12 (the “Rule”).

The SEC announced the MCDC initiative in March 2014, and in June 2015, the first wave of enforcement actions against 36 municipal underwriting firms was released. The penalties imposed under those actions totaled $9.3 million, and were assessed based on the number and dollar amount of the fraudulent offerings, up to a $500,000 cap based on the size of the firm. The SEC delineated no standard for materiality, and as a result, the examples of material misstatements included in the orders varied widely.

In this second wave of enforcement actions, the SEC found that 22 underwriting firms violated federal securities laws by making materially false statements or omissions about compliance by municipal bond issuers with their continuing disclosure obligations. As with the first wave, the SEC did not define any standard for materiality, leaving underwriters and municipal bond attorneys still in murky waters. Examples given in the 22 orders range from audits being filed 25 days late to audits being filed over a year late with no notice of such late filing being timely filed. Additionally, the firms also failed to conduct adequate due diligence to identify such false statements and omissions before offering and selling the bonds. In line with MCDC requirements, the underwriting firms did not admit or deny the SEC’s findings, but agreed to cease and desist from violating the laws in the future, and to retain an independent consultant to review its due diligence policies and procedures.

The second wave of actions did not include some of the largest underwriting firms, meaning that a third wave of enforcement actions against underwriters is likely on the horizon. The SEC could then turn to enforcement actions against municipal issuers themselves. And enforcement actions against individuals are still lurking beneath the waves – the SEC has offered no assurances that individuals associated with underwriters or issuers, including municipal officials and employees of underwriting firms, will be offered similar leniency if they have engaged in violations of federal securities laws. The SEC has said that it may recommend enforcement actions against such individuals on a case by case basis and seek remedies beyond those available through the MCDC initiative. The SEC has also indicated that underwriters and issuers that do not self-report may be liable for financial sanctions in an amount greater than the maximum penalty allowable under the MCDC initiative.

No smooth sailing yet, folks!

–This blog was co-authored by Blake C. Sharpton and Monica A. Rosenbluth

Blake SharptonRosenbluth Monica 2015