SEC Makes First Public Announcement of Credit to an Individual for Cooperation in an Investigation

March 20, 2012

On March 19, 2012, the Securities and Exchange Commission ("SEC") announced that it had credited the substantial cooperation of a former senior executive of an investment adviser in an investigation[1] by declining to take enforcement action against him.  The SEC’s announcement can be found here.  This is the first time the SEC has publicly recognized the cooperation of an individual since the announcement two years ago of its policy statement intended to incentivize individuals to cooperate in investigations, found here.[2]  This announcement provides some much needed insight into the potential benefits of cooperating in an SEC investigation.  However, the unique facts of the case mean that it will have limited application to other cases.

I.   SEC’s Cooperative Initiative

As we have discussed in a prior alert, SEC’s Initiative to Foster Cooperation–Perspective and Analysis (Jan. 14, 2010),[3], the SEC announced a new policy under which individuals could cooperate in an enforcement investigation to avoid a civil enforcement action or receive a lesser sanction. Although the evaluation of cooperation requires a case-by-case analysis of the specific circumstances presented, the Cooperation Policy Statement explained that the SEC’s general approach would be to determine whether, how much, and in what manner to credit cooperation by individuals by evaluating four considerations:  (1) the assistance provided by the cooperating individual in the SEC’s investigation or related enforcement actions; (2) the importance of the underlying matter in which the individual cooperated; (3) the societal interest in ensuring that the cooperating individual is held accountable for his or her misconduct; and (4) the appropriateness of cooperation credit based upon the profile of the cooperating individual.

II.   The Subject Investigation

On February 3, 2011, the SEC brought a settled enforcement action against AXA Rosenberg, an institutional money manager that specializes in quantitative investment strategies, alleging concealment of an error in the computer code of the quantitative investment model that the firm used to manage client assets.[4]  Under the settlement, the adviser, without admitting or denying wrongdoing, agreed to pay $217 million to clients plus a $25 million penalty. 

III.   Analysis of the Cooperation Provided by a Senior Executive of the Respondent

In a public statement on March 19, 2012, Robert Khuzami, Director of the SEC’s Division of Enforcement, praised the substantial cooperation provided by a senior executive of AXA Rosenberg, and stated that the credit given to this individual "demonstrates that the Enforcement Division fully recognizes the value of cooperation in SEC investigations, and will seek to reward such cooperation appropriately."[5]  The corresponding Litigation Release issued by the staff provides the following analysis of the cooperation provided by the executive under the four factors outlined in the Cooperation Policy Statement:

• Assistance Provided:  The executive possessed intimate knowledge of the adviser’s quantitative investment models, which allowed him to provide detailed and credible information that was important to the SEC staff’s investigation.  The executive provided the assistance voluntarily without any conditions, which bolstered his credibility.  The executive was forthcoming and provided truthful, complete, and reliable information.  
• Importance of the Underlying Matter:  The enforcement actions filed in connection with this matter were the first arising from errors in a quantitative investment model.  The SEC was able to return to clients their alleged losses, and AXA Rosenberg agreed to pay a penalty totaling $25 million.  
• Interest in Holding the Senior Executive Accountable:  The executive played a limited role in the alleged concealment of the coding error.  The executive had advocated that the firm’s CEO be informed of the error.  Steps the executive took to conceal the error allegedly were done at the firm’s direction.  The executive’s cooperation maximized the SEC’s law enforcement interests by facilitating the quick and successful resolution of its enforcement actions against the firm.
• The Executive’s Profile:  The executive is not an associated person of any regulated entity, a fiduciary for other individuals or entities regarding financial matters, or an officer or director of a public company.  The individual had no prior disciplinary history with a securities regulator.  The individual had resigned from his positions at the adviser and had retired from the investment advisory industry.

IV.   Analysis

As we have discussed in our prior alert[6] on the SEC’s cooperation initiative, one of the challenges the SEC faces in motivating individuals to cooperate is that the public lacks a record of the benefits of individual cooperation.  The SEC’s March 19 announcement represents an initial step in the direction of creating a public record of the potential rewards for cooperation.  In this case, the SEC appears to be saying that under the right circumstances, it is possible for an individual to avoid an enforcement action through cooperation. 

However, one of the other challenges we also noted is that it is difficult for the SEC to afford leniency to individuals in the securities industry consistent with its investor protection mandate.  Accordingly, we anticipated that the SEC would find few circumstances in which it can provide sufficient incentives to individuals in the securities industry to cooperate.  The unique circumstances of this case appear to reinforce the point.  Here, the executive is retired from the securities industry and thus by his own actions has addressed the SEC’s concerns about the potential for future violations. 

In sum, the SEC’s announcement is a first step in creating a public record of the potential rewards for individual cooperation in an investigation.  However, there remains a relative scarcity of guidance in this area, and this case is highly fact-specific.  The decision of whether to cooperate in an investigation will remain a highly judgmental process, dependent on a range of variables of each individual case.