You are not going to believe this.
The Securities and Exchange Commission (SEC) is exempting past bad actors from a bad actor ban.
Columbia University School of Law Professor John Coffee lays out the case today in the New York Law Journal in an article titled — “Bad Actors and Worse Policy.” (The SEC declined to comment.)
Here’s the nutshell version.
Last year, the JOBS Act allowed nationwide solicitation of investors for private placements of securities.
But Congress said that it didn’t want bad actors — like executives convicted of securities fraud — to be involved in the process.
In July, the SEC adopted its rule (Rule 506(d)) to disqualify felons and other bad actors from the process.
But guess what?
An exemption ate the rule.
The SEC provides that only “triggering events occurring after the effectiveness of the rule amendments” will be considered.
“In effect, all existing felons and fraudsters are grandfathered,” Coffee writes.
Specifically, Rule 506(d)(1) says that an issuer cannot use Rule 506 if it or any executive officer, director, or certain other persons have ‘been convicted, within ten years before such sale’ of certain securities fraud offenses.
But it then provides in Rule 506(d)(2) that these disqualifications ‘shall not apply with respect to any conviction, order, judgment, decree, suspension, expulsion or ban that occurred or was issued before’ 60 days after publication of the amended rule in the Federal Register.”
“Think what this actually means,” Coffee writes. “A person convicted today of securities fraud could make a Rule 506 offering involving a general solicitation when that rule becomes effective later this month.”
“Put more bluntly, Bernie Madoff could use the rule — at least unless he had been otherwise enjoined.”
“Given how frequently that the SEC has been accused of only enforcing the federal securities laws in a half-hearted, equivocal fashion, one would think that the Commission would have been more sensitive to the appearance this creates that it is favoring fraudsters over investors,” Coffee writes.
“In fact, the SEC is here acting, not simply as a weak-kneed enforcer, but rather as a generous Board of Pardons, granting immunity to those few persons that it has enjoined or held otherwise accountable within the last decade. If one were seeking to further tarnish an already compromised agency’s reputation and image, this would be the way to do it.”
Why did the SEC make this change, which was not in its original rule proposal?
“Commentators on the proposed rule had divided, with five suggesting that prior “bad actor” disqualifying events should be covered on investor protection grounds, and 15 objecting that to do so would be unfair and unforeseen,” Coffee says.
“But this 3-to-1 majority in favor of grandfathering prior “bad actor” events proves only that law firms write more comment letters than do investors or public interest groups. Worse yet, counting the comment letters only incentivizes the industry to solicit more comment letters.”
Coffee says that the SEC’s action is “sadly symptomatic of the failures of the current SEC.”
“When push comes to shove, it is favoring the industry — and the most dubious members of the industry at that — over investors. Ten years ago, that would have been unthinkable at the SEC,” Coffee says.