Jan 15th 2016 – SG Lawyers.com
Ruling Shows a Federal Court Appeal is an Important Check Against SEC Overreach, but also that a Politicized SEC Can Push Innocent Professionals Out of the Business
The SEC lost the appeal of its controversial Flannery decision, which had been widely criticized as politicized SEC overreach because the Commission rejected the decision of its own Chief Administrative Law Judge – and two Republican SEC commissioners – in finding two State Street executives liable for securities fraud.
The U.S. Court of Appeals for the First Circuit handed the SEC a major loss in a controversial case, Flannery v. S.E.C., in which the SEC had previously reversed a decision by its own in-house Chief Administrative Law Judge (“ALJ”) that rejected liability for two State Street executives. The First Circuit found that the SEC’s case failed the “substantial evidence” test for upholding SEC factual findings of liability. This is a stinging rebuke to the SEC, because the substantial evidence test is “highly deferential to the agency fact-finder” and decisions are rarely overturned on this ground.I
At first, the Flannery Initial Decision was lauded as proof that SEC in-house administrative proceedings were fair. But all that changed when the SEC appealed the decision to the five-member Commission itself. In a shocking turn of events, the Commission reversed its own Chief ALJ over three years later, ruling both that (i) the statements at issue were materially misleading, and (ii) the two executives could be held liable for the statements because they substantially participated in drafting them. The Commission’s decision was as partisan as it was shocking, with the two Republican Commissioners (Gallagher and Piwowar) dissenting from the decision of the three Democratic Commissioners (Chair White, Aguilar and Stein). It also was devastating for the executives: It suspended each of them from the investment advisory business for a year, and imposed a total of $70,000 in civil penalties.
The First Circuit vacated the SEC’s politicized decision, holding that it failed to meet even a highly deferential standard of review. The Court criticized the SEC’s evidence as “thin” and “marginal” as to one executive. As to the other, the Court ruled that his main statement at issue was not misleading. In short, the Court rejected the factual premise of the SEC’s entire case.