Evaluating SEC Non-Prosecution and Deferred Prosecution Agreements

Prosecutors have encouraged and rewarded cooperation with corporate criminal investigations over the past decade through the use of criminal non-prosecution agreements (NPAs) and deferred prosecution agreements (DPAs). Corporate criminal NPAs and DPAs ascribe culpability and exact potentially stiff fines, while permitting cooperative parties to avoid the often devastating consequences of a corporate criminal conviction. The relatively new options of resolving investigations by the Securities and Exchange Commission (“SEC”) through civil NPAs and DPAs ¹See Securities and Exchange Commission, Division of Enforcement, Enforcement Manual, §§6.2.3 – 6.2.4 (Aug. 2, 2011) [hereinafter SEC Enforcement Manual]. will not likely rise to the same level of prominence as have their criminal counterparts. The SEC can effectively encourage cooperation through traditional resolution options, and civil NPAs and DPAs only offer arguably small differences compared to other SEC settlement alternatives. Entities seeking to resolve SEC investigations may find advantages in civil NPAs and DPAs in some cases, but should seek to clarify and understand the potentially uncertain burdens they may impose.

The SEC announced the availability of NPAs and DPAs in January 2010, as part of an initiative to encourage cooperation with SEC investigations. ²See SEC Press Release No. 2010-6, “SEC Announces Initiative to Encourage Individuals and Companies to Cooperate and Assist in Investigations” (Jan. 13, 2010), available at
http://sec.gov/news/press/2010/2010-6.htm; SEC, Spotlight on Enforcement Cooperation Initiative, available at http://www.sec.gov/spotlight/enfcoopinitiative.shtml. To date, these new resolution options have not impacted civil securities enforcement as promised. Thus far, the SEC has agreed to only three NPAs and one DPA, each of which has raised questions about the benefits and burdens of these types of agreements. This article provides a basis for corporations to evaluate whether to enter into a civil NPA or DPA with the SEC by comparing those resolutions to the terms and collateral effects of other SEC resolutions. ³For purposes of this paper, “traditional resolutions” refer to declinations of an enforcement action through a “no action” letter from the SEC Staff, negotiated consents to an SEC administrative order, and negotiated consents to a settled injunctive action in federal court. The article also provides a useful SEC Resolution Comparison Chart summarizing the similarities and differences among available SEC resolutions.

In certain circumstances, NPAs and DPAs could provide clear advantages to respondents as compared to traditionally-settled SEC proceedings. For example, an NPA or DPA with the SEC may avoid statutory and regulatory collateral consequences that an administrative proceeding or injunctive action would otherwise trigger. ⁴Collateral consequences, particularly for issuers and regulated entities, may include disclosure obligations, offering disabilities, and limitations on securities industry participation. See discussion under “Potential Benefits and Pitfalls of SEC NPAs and DPAs,” infra. In other instances, however, a civil NPA or DPA may present less certainty for a settling party than traditional resolution options. Among other things, such agreements may create potentially extensive cooperation obligations, prohibit tax deductions on disgorgement payments, and/or require broad tolling provisions. Furthermore, because a traditional “no action” declination by the SEC Staff offers more benefits than an NPA, an NPA benefits a respondent only if used instead of a settled administrative proceeding or injunctive action.

The SEC’s new resolution options will likely remain an infrequent outcome. Because the SEC can continue to reward and encourage cooperation effectively without using NPAs and DPAs, the SEC may need to make NPAs or DPAs more attractive and their impact more certain before they can become an effective cooperation incentive. Until that happens, entities may still consider whether resolving an SEC investigation through an NPA or DPA provides an advantage by focusing on the distinctions between these and traditional resolutions. ⁵Many of the burdens and obligations potentially associated with a non-litigated resolution of an SEC enforcement matter are subject to negotiation. For example, a private party and the SEC could agree to unique cooperation obligations or to set the applicable tolling period to a length tailored to the circumstances of the particular case. This article analyzes SEC resolution options based largely on the parameters normally associated with traditional resolutions as demonstrated through historical SEC practice, and as actually contained in the three SEC NPAs and one SEC DPA to date.

Background and Examples of SEC Non-Prosecution Agreements and Deferred Prosecution Agreements

An SEC DPA is a written agreement between the Commission and an individual or entity where the Commission agrees to defer an enforcement action in exchange for cooperation with the SEC, compliance with certain undertakings, a long-term statute of limitations waiver, and the payment of penalties and/or disgorgement. ⁶SEC Enforcement Manual, §6.2.3. The Commission must approve each DPA. Unless the Commission directs otherwise, the DPA will be made public. ⁷The Enforcement Manual does not indicate the circumstances under which the SEC would not publicize a DPA, but the Commission has broad powers to withhold information from the public that might impact ongoing law enforcement efforts.

An SEC NPA is a written agreement between the Commission and an individual or entity where the Commission agrees not to take any enforcement action in exchange for cooperation, compliance with certain undertakings, and an agreement to pay penalties or disgorgement, where applicable. ⁸SEC Enforcement Manual, §6.2.4. While the Commission must approve each NPA, the Enforcement Manual makes no reference to circumstances under which the SEC will publish NPAs.

The SEC’s initial NPA, announced in December 2010, resolved an investigation related to allegations of improper accounting at Carter’s, Inc. ⁹See SEC Press Release No. 2010-252, “SEC Charges Former Carter’s Executive With Fraud and Insider Trading” (Dec. 20, 2010), available at
http://www.sec.gov/news/press/2010/2010-252.htm [hereinafter SEC Carter’s Press Release]. See also SEC’s First Use of A Non-Prosecution Agreement Shows Potential Benefits For Respondents But Also Demonstrates Potential Pitfalls, Clients & Friends Memo (Cadwalader, Wickersham & Taft LLP, New York, N.Y.), Jan. 10, 2011, available at
http://www.cadwalader.com/assets/client_friend/011011SECsFirstUseofNon-ProsecutionAgreement.pdf. We understand that there have not been any non-public resolutions through an SEC NPA. The SEC announced its only DPA a few months later in May 2011, when Tenaris, S.A., resolved parallel investigations by the SEC and Department of Justice (“DOJ”) into potential violations of the Foreign Corrupt Practices Act (“FCPA”). The SEC reached its only other NPAs through nearly identical settlements with Fannie Mae and Freddie Mac, announced in December 2011. ¹⁰See SEC Press Release No. 2011-267, “SEC Charges Former Fannie Mae and Freddie Mac Executives with Securities Fraud” (Dec. 16, 2011), available at
http://www.sec.gov/news/press/2011/2011-267.htm. The terms of these agreements provide the only available examples from which to discern possible conditions of future NPAs and DPAs.

NPA Examples

Carter’s. Carter’s allegedly understated its expenses and materially overstated its net income in several financial periods in connection with improperly recorded sales discounts. After an investigation, the SEC filed a civil injunctive action against a former Carter’s sales executive, alleging that he fraudulently caused the improper accounting and traded on inside information. ¹¹SEC v. Elles, 1:10-CV-4118 (N.D. Ga. filed Dec. 20, 2010). That action is still being litigated. The executive was also indicted for securities fraud, wire fraud, falsifying corporate books and records, and causing the filing of false financial statements, and has pled not guilty. See DOJ Press Release, “Former Senior Executive of Atlanta-Based Company Indicted for Securities Fraud” (Sept. 26, 2011), http://www.justice.gov/usao/gan/press/2011/09-26-11.html. In addition, a superseding indictment filed on March 20, 2012 charged Carter’s former president, Joseph Pacifico, with causing the filing of false financial statements and falsifying corporate books and records. See DOJ Press Release, “Former President of Atlanta-Based Public Company Indicted in Multi-Million Dollar Securities Fraud Cover-Up” (Mar. 20, 2012), http://www.justice.gov/usao/gan/press/2012/03-20-12.html. Simultaneously with filing the injunctive action, the SEC announced that it had entered into an NPA with Carter’s. The Commission agreed, subject to Carter’s “full, truthful, and continuing cooperation,” not to bring any enforcement action or proceeding against the company arising from the Commission’s investigation. ¹²Non-Prosecution Agreement between Carter’s, Inc. and the Securities and Exchange Commission ¶ 11 (Dec. 17, 2010), available at
http://www.sec.gov/litigation/cooperation/2010/carters1210.pdf[hereinafter Carter’s NPA].

Fannie Mae and Freddie Mac. Following a lengthy investigation, the SEC charged six former top executives of the Federal National Mortgage Association (“Fannie Mae”) and the Federal Home Loan Mortgage Corporation (“Freddie Mac”) with securities fraud on December 16, 2011. ¹³SEC v. Syron, et. al., No. 11-Civ-9201 (S.D.N.Y. filed Dec. 16, 2011) (Freddie Mac executives); SEC v. Mudd, et. al., No. 11-Civ-9202 (S.D.N.Y., filed Dec. 16, 2011) (Fannie Mae executives). The SEC alleged that the executives knew and approved of misleading public statements that the companies had relatively minimal exposure to higher-risk mortgage loans, including subprime loans. ¹⁴Id. Simultaneous with filing lawsuits against the individuals, the SEC announced nearly identical NPAs with Fannie Mae and Freddie Mac, respectively (the “Fannie/Freddie NPAs”).

The Terms of the Carter’s NPA and Fannie/Freddie NPAs. Although the Carter’s NPA and the subsequent Fannie/Freddie NPAs contain many similar terms, these latter two agreements have some noteworthy differences from the SEC’s initial NPA. Taken together, these agreements may signal the obligations the SEC will seek to impose through NPAs in the future:

• Contrasting justifications for an NPA. Consistent with the SEC’s intention to use NPAs to encourage cooperation, the SEC announced that the Carter’s NPA “reflects the relatively isolated nature of the unlawful conduct, Carter’s prompt and complete self-reporting of the misconduct to the SEC, its exemplary and extensive cooperation in the investigation, including undertaking a thorough and comprehensive internal investigation, and Carter’s extensive and substantial remedial actions.” ¹⁵SEC Carter’s Press Release. In contrast, the Fannie/Freddie NPAs explicitly stated that the parties reached those settlements because of “unique circumstances” — namely, the fact that the federal government provides financial support and acts as a conservator to both Fannie Mae and Freddie Mac, and because further defense of an action against either entity could impose substantial costs on the U.S. taxpayers. ¹⁶Non-Prosecution Agreement between Federal National Mortgage Association and the Securities and Exchange Commission ¶ 3 (Dec. 15, 2011), available at http://www.sec.gov/news/press/2011/npa-pr2011-267-fanniemae.pdf [hereinafter Fannie NPA]; Non-Prosecution Agreement between Federal Home Loan Mortgage Corporation and the Securities and Exchange Commission ¶ 3 (Dec. 15, 2011), available at http://www.sec.gov/news/press/2011/npa-pr2011-267-freddiemac.pdf [hereinafter Freddie NPA]. The NPAs declare that the agreements were “[b]ased on these circumstances and in consideration of the public interest,” and subject to full cooperation and remediation. ¹⁷Id. This language may signal that the SEC intends to limit the use of NPAs for such high-profile allegations to only those instances providing similarly “unique circumstances.”

• Possible future enforcement action. If Carter’s, Fannie Mae or Freddie Mac fail to comply with any of the terms of their respective NPAs, the SEC can decide, in its sole discretion and without judicial review, to bring an enforcement action for “any securities law violations,” including the alleged offenses originally investigated. ¹⁸Carter’s NPA at ¶ 8; Fannie NPA at ¶ 12; Freddie NPA at ¶ 12.

• No time limitations. The NPAs have no defined duration. The NPAs’ obligations appear to run in perpetuity and the agreements toll the limitations period for SEC enforcement actions indefinitely. ¹⁹Carter’s NPA at ¶ 10; Fannie NPA at ¶¶ 4, 6; Freddie NPA at ¶¶ 4, 6. The lack of a defined period and unlimited tolling of the statute of limitations present significant uncertainties and substantial burdens relative to other settlement options, which usually limit obligations and tolling to a defined period.

• Broad cooperation obligations. The parties to the NPAs agree to cooperate in the SEC’s investigations, in “any other related enforcement litigation or proceeding to which the Commission is a party,” and in other federal, state or self-regulatory organization proceedings, as directed by the SEC Staff. ²⁰Carter’s NPA at ¶ 2; Fannie NPA at ¶ 4; Freddie NPA at ¶ 4. The NPAs also require the parties to cooperate “regardless of” or “without regard to” “the time period in which the cooperation is required.” ²¹Carter’s NPA at ¶ 2; Fannie NPA at ¶ 4; Freddie NPA at ¶ 4. As discussed below, this language appears to present cooperation obligations beyond those normally included in traditional SEC resolutions.

• Additional specific cooperation obligations for Fannie Mae and Freddie Mac. In addition to the broad cooperation obligations noted above, the Fannie/Freddie NPAs also contain explicit obligations that obviously reflect practical and strategic concerns regarding the SEC’s ongoing litigation against the companies’ former executives. Those additional cooperation obligations include: authenticating materials and certifying business records; producing all materials that were provided “formally or informally to any party” for use in the SEC proceeding or any related proceeding; informing the SEC staff of any requests for information or materials from any party to related proceedings; maintaining the confidentiality of communications with the SEC staff; and refraining from entering and withdrawing from any “formal or informal” joint defense arrangements with any person relating to the SEC proceeding or related proceedings “to the extent such agreements limit Respondent’s ability to provide or share information with the Commission.” ²²Fannie NPA at ¶¶ 4(b)-(d), (h)-(j); Freddie NPA at ¶¶ 4(b)-(d), (h)-(j). Even without this language limiting joint defense agreements, a corporation that has settled with the SEC could not likely maintain a joint defense arrangement with other individuals and entities that are litigating against the SEC regarding the same conduct. Finally, the Fannie/Freddie NPAs, like the Tenaris DPA discussed below, require production of all non-privileged materials to the Commission as requested, “wherever located, in the possession custody or control” of the respondents. ²³Fannie NPA at ¶ 4(a); Freddie NPA at ¶ 4(a).

• Findings and admissions: Carter’s. The Carter’s NPA omits the SEC’s historically standard statement that the respondent “neither admits nor denies” liability, but still precludes Carter’s from publicly denying “the factual basis of any aspect” of the NPA. ²⁴Carter’s NPA at ¶ 4. The Carter’s NPA contains no recitation of “facts,” “findings” or “allegations.” Although the SEC action against the former Carter’s executive contains specific factual allegations, the Carter’s NPA does not enumerate those facts or reference the corresponding action. ²⁵The Carter’s NPA includes only a single, vague reference in the introductory paragraph to “an investigation relating to financial fraud at Carter’s, Inc.” Carter’s NPA at ¶ 1. The absence of factual statements or allegations is a potential attractive benefit.

• Findings and admissions: Fannie/Freddie. In contrast to the Carter’s NPA, but similar to the Tenaris DPA, in the Fannie/Freddie NPAs those companies agree, “without admitting or denying liability, … to accept responsibility for [their] conduct and to not dispute, contest, or contradict the factual statements” set out in a detailed exhibit attached to the NPAs. ²⁶Fannie NPA at ¶ 1; Freddie NPA at ¶ 1. The SEC has recently stated that it will require settling parties to admit to allegations to the extent the party has admitted to, or been convicted of, the same allegations in a criminal matter. See infra, note 45. The Second Circuit, however, has acknowledged that requiring a defendant’s admission of liability in an SEC settlement “would in most cases undermine any chance for compromise.” SEC v. Citigroup Global Markets Inc., No. 11-5227-cv (2d Cir. March 15, 2012) (per curiam). As discussed below, the potential collateral impact of a settling party’s “acceptance of responsibility” is not clear, but is likely worse than a traditional settlement in which a party simply neither admits nor denies any allegations.

• No penalties or disgorgement. Carter’s, Fannie Mae and Freddie Mac paid no penalty or disgorgement as a condition of their NPAs. Other NPAs in the future could require respondents to agree to pay penalties and/or disgorgement.

• Undertakings. Although the Carter’s NPA requires no undertakings, Fannie Mae and Freddie Mac agree to submit reports to the SEC staff detailing their remediation efforts, and to meet as requested with the staff regarding those efforts. ²⁷Fannie NPA at ¶ 7(b); Freddie NPA at ¶ 7(b).

DPA Example

Tenaris, S.A. Tenaris discovered, self-reported, and investigated potential violations of the FCPA. ²⁸Deferred Prosecution Agreement between Tenaris, S.A. and the Securities and Exchange Commission ¶¶ 6(z)-(bb) (May 17, 2011), available at http://www.sec.gov/news/press/2011/2011-112-dpa.pdf [hereinafter Tenaris DPA]; Non-Prosecution Agreement between Tenaris, S.A. and the Department of Justice, Appendix A, at ¶¶ 24-26, available at
http://www.justice.gov/criminal/fraud/fcpa/cases/tenaris-sa/2011-03-14-tenaris.pdf [hereinafter Tenaris DOJ NPA]. The ensuing DOJ and SEC investigations related to allegations that the company knowingly paid a third party agent who bribed government officials in connection with bids to supply oil and natural gas pipelines. ²⁹Tenaris DPA at ¶¶ 6(t); Tenaris DOJ NPA, Appendix A, at ¶¶ 20. Tenaris settled the DOJ investigation through a criminal NPA. Simultaneously, the company resolved the SEC investigation through the first-ever civil DPA.

Under the civil DPA, Tenaris agrees with the SEC to pay over $5.4 million, reflecting the disgorgement of profits it earned from the misconduct as well as prejudgment interest. ³⁰Tenaris DPA at ¶ 8(c); SEC Press Release No. 2011-112, “Tenaris to Pay $5.4 Million in SEC’s First-Ever Deferred Prosecution Agreement” (May 17, 2011) [hereinafter SEC Tenaris Press Release], available at
http://www.sec.gov/news/press/2011/2011-112.htm. With respect to the DOJ, the company entered into a non-prosecution agreement that included the payment of a $3.5 million criminal penalty. The SEC, for its part, agrees not to bring any enforcement action or proceeding against Tenaris if the company complies with the DPA for a period of two years. The SEC announced that the DPA “acknowledges and provides credit” for the company’s self-reporting, cooperation and remediation. ³¹“The Tenaris foreign bribery scheme was unacceptable and unlawful, but the company’s response demonstrated high levels of corporate accountability and cooperation… . Effective enforcement of the securities laws includes acknowledging and providing credit to those who fully and completely support our investigations and who display an exemplary commitment to compliance, cooperation, and remediation.” SEC Tenaris Press Release.

Several terms of the Tenaris DPA highlight the potential benefits and uncertainties that may accompany future SEC DPAs:

• Potential enforcement action and tolling of statute of limitations. If Tenaris fails to comply with any term of the DPA, the SEC can decide in its sole discretion to bring an enforcement action for “any securities law violations,” including the underlying alleged FCPA violations. The agreement tolls the statute of limitations applicable to SEC enforcement actions for two years. ³²Tenaris DPA at ¶¶ 5, 13.

• Specific allegations and factual statements. The SEC specifically alleges that Tenaris violated the anti-bribery, books and records, and internal controls provisions of the FCPA, and the DPA contains explicit factual statements supporting those allegations. ³³The SEC DPA prefaces the recitation of factual allegations with the assertion that “[i]f this case had gone to trial, the Commission would have presented evidence sufficient to prove the following facts … .” Tenaris DPA at ¶ 6. The DPA is similar to traditional SEC resolutions in this respect.

• No admission or denial, but “acceptance of responsibility.” Tenaris does not admit to the SEC’s statement of facts. Rather, without admitting or denying the allegations, Tenaris offers “to accept responsibility for its conduct and to not contest or contradict the factual statements” in the DPA in any future Commission enforcement action. ³⁴Tenaris DPA at ¶ 1. The lack of any admission in the SEC DPA was likely less important to the company than it would have been if it was entering into a civil settlement only. Tenaris’ agreements with both the DOJ and the SEC contained detailed and substantially similar statements of fact, and the company admitted to facts contained in the criminal NPA. Per the criminal NPA, “Tenaris admits, adopts and accepts responsibility for the conduct of its employees, agents and subsidiaries” described in the NPA’s statement of facts. Notably, it appears that parties in Tenaris’ position will no longer be allowed to settle with the SEC without admitting factual allegations. The SEC’s Director of the Division of Enforcement Division indicated in January 2012 that the SEC will no longer permit respondents that admit to facts in a criminal disposition, or are convicted of a crime, to “neither admit nor deny” allegations in a civil disposition with the SEC relating to the same conduct. Parties that are not involved in resolving parallel civil and criminal matters should still consider carefully whether they will be bound by statements of facts in an SEC DPA. See infra, note 45. As discussed below, the collateral impact of “accepting responsibility” in an SEC settlement is unclear, but arguably not as favorable as simply neither admitting nor denying the allegations.

• No time limit or jurisdictional limit on cooperation. Tenaris must cooperate in the SEC’s investigation and in any other related enforcement litigation or proceeding in which the SEC is a party, “regardless of the time period in which the cooperation is required.” ³⁵Id. at ¶ 3. Tenaris must also produce all non-privileged materials to the Commission as requested, “wherever located, in the possession custody or control” of the company. ³⁶Id. at ¶ 3(a) (emphasis added). As discussed below, cooperation without a time limit and without regard to potential data privacy laws raises issues that respondents should consider carefully before accepting.

• No tax deduction. Tenaris cannot take any tax deduction for any portion of its disgorgement payment. ³⁷Id. at ¶ 7(b). Companies cannot deduct penalties from their taxes, but in this instance the SEC went beyond what it could otherwise enforce by preventing Tenaris from taking any tax deduction for disgorgement in the United States. Although the result to Tenaris, a non-U.S. company, may be negligible, a provision like this could increase the adverse financial impact of a settlement for some parties, as discussed further below.

Comparing SEC NPAs, DPAs and Traditional Resolutions

Entities that face a possible adverse enforcement action often focus primarily on a few key issues when considering a negotiated resolution with the SEC: the violations alleged, the direct financial impact of a proposed settlement, and the potential collateral impacts of settlement on any related criminal investigations and on private civil litigation. The SEC can encourage and reward cooperation effectively by addressing these issues when negotiating a resolution — for example, by alleging violations less severe than the Commission might seek if litigating an action, reducing or not seeking civil fines or disgorgement from cooperating companies, ³⁸The SEC will not provide leniency by reducing the amount of appropriately calculated disgorgement. Disgorgement is premised simply on the calculation of an illegal gain. Nevertheless, the SEC has wide discretion to decide whether to seek disgorgement in the first instance, and there is often a variety of reasonable ways to calculate a disgorgement amount based on the facts of the case. accepting resolutions where the respondent is not required to admit allegations, and minimizing other collateral impacts.

SEC NPAs and DPAs will encourage cooperation effectively, and companies will seek to resolve investigations through those agreements, only if they provide concrete benefits to parties as compared to traditional resolutions. Respondents should seek or consent to SEC NPAs or DPAs only if they understand their obligations and perceive them to provide the best settlement alternative in light of the circumstances of the case.

The SEC Resolution Comparison Chart included in the Appendix to this article summarizes the characteristics of the various SEC resolution alternatives, and sets forth the key procedural, financial, evidentiary and collateral factors relevant to settlement considerations. ³⁹These comparisons only address potential civil resolutions. Potential criminal consequences may far outweigh considerations relating to a civil settlement for those respondents facing a parallel criminal investigation. The Chart highlights some potentially important differences among the resolution options, but also reveals significant similarities among traditional resolutions and NPAs and DPAs. The distinctions between the resolution alternatives demonstrate that civil NPAs and DPAs will provide meaningful rewards and incentives to cooperating companies beyond those available through traditional resolutions in only limited circumstances, and that in some respects and in some circumstances, NPAs and DPAs are less desirable.

Potential Benefits and Pitfalls of SEC NPAs and DPAs

In addition to the similarities and differences summarized in the SEC Resolution Comparison Chart, this section examines the most significant elements that distinguish NPAs and DPAs from traditional resolutions. Entities considering or negotiating a resolution with the SEC through an NPA or DPA will benefit from paying close attention to these issues.

An NPA is Not As Good As a “No Action” Letter. The SEC announced in its Seaboard 21(a) Report
⁴⁰Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934 and Commission Statement on the Relationship of Cooperation to Agency Enforcement Decisions, Release No. 34-44969, 76 S.E.C. Docket 220, 2001 WL 1301408 (S.E.C. Oct. 23, 2001). that declining to take any enforcement action in appropriate cases encourages and rewards cooperation. When the SEC Staff declines to seek an enforcement action (or the Commission declines to authorize an action), there is no publicity from the SEC, no penalties assessed, no cooperation obligations imposed, no tolling of the statute of limitations, and generally no other collateral adverse impact. A “no action” determination also implies that the investigation may not have uncovered factual and/or legal grounds sufficient to support an enforcement action.

An NPA is a different animal — or at least should be. As noted in the Chart, an NPA has characteristics and requirements that may appear lenient compared to traditional resolutions, but which are substantially worse compared to a non-public, “no action” declination. An NPA only acts as a genuine reward and encouragement for cooperation if it is used as a lenient response to a potential enforcement action, and not as a replacement for declinations already available and explicitly contemplated by the Seaboard 21(a) Report. ⁴¹See generally, e.g., D. Johnson & C. Lawrence, Cooperating and Getting a ‘Full Pass’ From the SEC: Is ‘Seaboard’ Still Alive?, BNA Corporate Accountability Rep. (Jul. 29, 2011). The Commission may view an NPA as an appropriate resolution in lieu of a “no action” decision when there is a concrete need for ongoing cooperation in light of related litigation. See id. (comparing the Carter’s NPA, where a former Carter’s executive was sued by the Commission and is litigating the claims, with a “no action” decision relating to an SEC investigation of Zale Corporation, where a former Zale Corporation employee was sued by the Commission but settled the charges). If legitimate reasons for a declination exist, but also the need for continuing cooperation, a company might still obtain a “no action” decision. Companies in those situations may convince the SEC Staff and the Commission to accept the company’s commitment to cooperate in related SEC actions through a separate cooperation agreement that is less formal, less onerous, and less public than an NPA, but which secures for the SEC the same ongoing assistance from the company.

SEC NPAs and DPAs Provide for a Less Formal, and Potentially Non-Public, Resolution. The Commission may choose not to publicize NPAs and DPAs in appropriate, and likely narrow, circumstances. Although the SEC has not announced any policy as to when it will keep NPAs and DPAs non-public, a non-public resolution with the SEC would provide a distinct advantage over traditional resolutions. ⁴²Companies that have previously disclosed an SEC investigation likely will need to, or at least want to, disclose its resolution, regardless of whether the SEC publicizes any agreement. Even in those instances where the SEC publishes an NPA or DPA, the market may view those private agreements as less serious than a publicly-filed court injunction or an SEC administrative order.

SEC NPAs and DPAs Do Not Require Court Approval and Can Minimize Collateral Effects. Unlike SEC injunctive actions, and similar to SEC administrative settlements, an NPA or DPA does not require court approval and therefore avoids the uncertainty and potential criticism attendant with a district court review. ⁴³See infra, Appendix, note (a) (discussing Judge Rakoff’s criticism of the Bank of America and Citigroup settlements, and the Second Circuit’s initial response thereto). In addition, unlike traditional SEC resolutions, NPAs and DPAs do not involve a court order or an administrative enforcement proceeding, and factual statements therein are unlikely to be considered “findings” of the Commission. Other SEC resolutions, especially court injunctions, may trigger far-reaching and sometimes significant collateral consequences, ranging from additional disclosure obligations and limitations on participation in the U.S. securities industry, to offering disabilities. ⁴⁴See generally, Tom Kuczajda, The SEC’s New Resolve: The Use, Collateral Effects, and Disclosure of the Enforcement Division’s Deferred Prosecution and Non-Prosecution Agreements, Sec. Reg. & L. Rep. (BNA) (July 19, 2010). The Commission may waive some of these collateral effects, at its discretion upon application. Such collateral effects have the greatest impact on regulated entities and issuers actively seeking capital formation in the U.S. public markets.

The Impact of Factual Statements in SEC NPAs and DPAs Remain Unclear. The Statement of Facts included in the Fannie/Freddie NPAs and the Tenaris DPA are similar to a typical statement of facts and allegations contained in an administrative order or a settled injunctive action. In both instances, the SEC publicizes detailed alleged facts. Likewise, in the Fannie/Freddie NPAs and the Tenaris DPA, as with traditional SEC resolutions that are not accompanied by a criminal resolution, the company “neither admits nor denies” the SEC’s allegations. ⁴⁵Under a new policy informally announced by SEC’s Director of the Division of Enforcement in January 2012, the SEC will not allow defendants to “neither admit nor deny” civil charges when resolving an SEC case if, in a criminal disposition, the party admits to or has been convicted of criminal violations relating to the same conduct. The policy change does not apply to respondents who settle with the SEC for civil securities law violations without a parallel criminal proceeding. See, e.g., E. Wyatt, “SEC to Change Policy on Companies’ Admission of Guilt,” NY Times (Jan. 6, 2012), available at http://www.nytimes.com/2012/01/07/business/sec-to-change-policy-on-companies-admission-of-guilt.html. The Enforcement Division has not formally articulated its new policy, which is particularly discomforting in light of the policy’s uncertain effect and the Commission’s long-standing policy statement on settlements codified in 17 C.F.R. §202.5(e). Fannie Mae, Freddie Mac, and Tenaris, however, also explicitly agreed “to accept responsibility for [their respective] conduct.” ⁴⁶Tenaris DPA at ¶ 1; Fannie NPA at ¶ 1; Freddie NPA at ¶ 1.

The potential collateral impact on private civil litigation of a company’s “acceptance of responsibility” in an NPA or DPA remains unclear. ⁴⁷Notwithstanding the SEC’s recent policy change relating to parallel civil and criminal resolutions, these questions remain relevant and potentially important for SEC respondents faced with an offer of an SEC DPA who are not otherwise already prepared to admit or adopt the government’s factual allegations. The Tenaris resolution explicitly considered the potential collateral use of factual allegations in a DPA. A footnote to the SEC’s Statement of Facts in the Tenaris DPA asserts: “The facts set forth in this section are made pursuant to settlement negotiations associated with the violations alleged by the Division [of Enforcement] . . . and are not binding against Tenaris in any other legal proceeding or on any other person or entity.” ⁴⁸Tenaris DPA at Statement of Facts, n. 1. The Fannie/Freddie NPAs contain language that likewise attempts to make clear that the NPAs do not impact the parties’ ability “to take legal or factual positions in litigation or other legal proceedings in which the Commission is not a party.” ⁴⁹Fannie NPA at ¶ 8, n. 1; Freddie NPA at ¶ 8, n. 1. But courts have not yet considered the evidentiary effect of a statement of facts for which a party has “accepted responsibility” and (in Tenaris’ case, for example) has agreed to pay a sizeable disgorgement and interest amount. ⁵⁰See, e.g., Fed. R. Evid. 408(a)(2) (generally prohibiting evidence of “conduct or statements made in compromise negotiations” as proof of underlying liability, but not excluding admissions made in the context of a settlement). The SEC employed language similar to “acceptance of responsibility” when it settled with Goldman Sachs over certain mortgage-backed securities. In the Goldman Sachs matter, the company explicitly “acknowledged” that certain marketing materials “contained incomplete information” and that it “regret[ed]” the “mistake.” See SEC v. Goldman Sachs, No. 10-CV-3229 (S.D.N.Y. July 14, 2010) (Consent Order at ¶ 3). Both the Goldman Sachs and the Tenaris language arguably dilute the traditional (and sometimes criticized) bulwark of “neither admitting nor denying” SEC allegations, but courts have not yet addressed whether or how the language used in either of these agreements may impact collateral litigation. See John C. Coffee, Jr., Collision Course: The SEC and Judge Rakoff, N.Y. Law Journal (Jan. 19, 2012) (opining that the language in Goldman’s Consent Judgment would not collaterally estop Goldman from defending private causes of action based on materiality or scienter, because Goldman merely “acknowledged” a “mistake”). A respondent should consider carefully the uncertain potential collateral impact of “acknowledging” or “accepting responsibility” for material misstatements, recklessness or intent.

SEC NPAs and DPAs May Require Broad, Ongoing Cooperation Obligations. NPAs and DPAs with the SEC may require potentially burdensome cooperation obligations that exceed obligations normally agreed to as part of a settled administrative proceeding or injunction. The NPAs and DPAs to date require ongoing cooperation without time limit.

Broad cooperation obligations may also raise serious issues relating to foreign legal obligations. An agreement to provide materials to the Commission “wherever located” ⁵¹See Tenaris DPA at ¶ 3(a); Fannie NPA at ¶ 4(a); Freddie NPA at ¶ 4(a). The DOJ’s criminal NPA with Tenaris also requires the production of materials as a part of the company’s ongoing cooperation, but does not include any reference to providing materials “wherever located.” See Tenaris DOJ NPA at 2. — as Fannie Mae, Freddie Mac, and Tenaris agreed — without regard to potential foreign data protection and privacy laws, may subject a respondent to conflicting legal obligations. ⁵²See, e.g., New Laws in China Regarding “State Secrets” and Related Issues: Uncertainties, obstacles, and the need to strengthen internal compliance procedures, Clients & Friends Memo (Cadwalader, Wickersham & Taft LLP, New York, N.Y.), May 2011, available at
http://www.cadwalader.com/assets/client_friend/052511NewLawsInChinaReState
Secrets.pdf (describing China’s state secrets laws and potential criminal and administrative liability that could arise from revealing information related to the Chinese government or state-owned enterprises).

The SEC’s recent subpoena enforcement action against Deloitte Touche Tohmatsu CPA Ltd. highlights the importance for respondents to seek appropriate limitations on cooperation, especially in connection with materials located in foreign jurisdictions. ⁵³Application for Order to Show Cause and for Order Requiring Compliance with Subpoena and Memorandum in Support, U.S. Securities and Exchange Commission v. Deloitte Touche Tohmatsu CPA Ltd., No. 1:11-mc-00512-DAR (D.D.C. Sept. 8, 2011), available at
http://www.sec.gov/litigation/litreleases/2011/lr22088.htm. In that matter, a Chinese audit firm argued that it would risk severe civil and criminal penalties under Chinese “State Secret” laws if it were to comply with an SEC subpoena for documents. The SEC sued to enforce the subpoena in U.S. federal court, nonetheless. ⁵⁴As of publication, the subpoena enforcement action remains pending. In early January, the magistrate judge ordered Deloitte to appear and show cause why it should not be required to comply with the SEC’s subpoena. Order to Show Cause, U.S. Securities and Exchange Commission v. Deloitte Touche Tohmatsu CPA Ltd., No. 1:11-mc-00512-DAR (D.D.C. Jan. 4, 2012). The parties have raised procedural issues that remain under consideration by the court.

Cooperation Obligations May Make The Legal Defense Of Any Remaining Respondents More Difficult. The Fannie/Freddie NPAs also reveal the potential for NPAs to set cooperation obligations that affirmatively protect and advance the SEC’s strategic objectives to the detriment of third parties litigating against the SEC in related actions. The Fannie/Freddie NPAs require the companies to provide the SEC with anything related to the investigation that they have provided already to third parties, require the companies to inform the SEC of anything those third parties request in the future, and preclude the companies from sharing communications with the SEC staff with other parties or from otherwise maintaining restrictive joint defense arrangements with them. These requirements may have only a small impact on the settling party, but may make it that much more difficult for other individuals and entities to litigate related SEC enforcement actions.

DPAs May Contain Implicit Tax Penalties. Consent agreements accompanying traditional resolutions often prohibit respondents from seeking or accepting tax deductions for civil penalties. The Tenaris DPA prohibits the company from seeking a U.S. tax deduction for its disgorgement payment to the SEC. As a practical matter, this may not impact Tenaris, a non-U.S. company; however, a domestic entity that previously paid taxes on profits that are later disgorged to the SEC would essentially realize an increased net financial impact of an SEC settlement containing such a provision.

NPAs May Require Unlimited Tolling of the Statute of Limitations. The Carter’s NPA and the Fannie/Freddie NPAs toll the statute of limitations relating to enforcement actions for an unlimited period of time — an unusual and uncertain concept that some respondents may find unpalatable.

Conclusion

Unlike the considerable differences between a criminal conviction and a criminal NPA or DPA, SEC NPAs and DPAs will not often provide a drastic advantage to other SEC disposition alternatives. Instead, the SEC can and should continue to encourage and reward cooperation by terminating investigations without an enforcement action, reducing or eliminating the financial terms of a settlement, and otherwise reducing the adverse collateral impact of a settlement. To that end, the SEC can still reward and encourage cooperation through NPAs and DPAs in appropriate circumstances. Public issuers and regulated entities may find particular benefit in reducing potential disclosure, offering, and securities industry consequences through an NPA or DPA resolution with the SEC. But the terms of the Carter’s NPA, the Fannie/Freddie NPAs, and the Tenaris DPA suggest that these resolution options may impose significant burdens, including broad cooperation obligations, adverse tax implications, and increased prospective legal exposure. A potential party to an SEC resolution must carefully consider the actual benefits, requirements and collateral effects of these new agreements, and should seek to negotiate well-defined terms before agreeing to them.