Following a year of robust enforcement in the public finance sector, the Securities and Exchange Commission will focus on municipal issuer disclosure and municipal advisor misconduct in 2022.
LeeAnn Gaunt, chief of the SEC Enforcement Division’s Public Finance Abuse Unit, said that includes breaches of fiduciary duty and unregistered municipal advisor activity.
“We continue to pursue misconduct by broker-dealers, including underwriting abuses, due diligence failures, and mispricing,” Gaunt noted, adding, “we are also continuing to focus on public corruption and pay-to-play abuses that implicate the federal securities laws.”
In terms of gauging SEC enforcement trends for the coming year, Gaunt said that it’s important for public finance professionals to look closely at enforcement actions that were filed during 2021.
“What you will see is that we are pursuing misconduct across all major areas of the public finance market and that our cases involve a wide variety of market participants including issuers, issuer officials, outside auditors, municipal advisors, broker-dealers and their registered representatives,” Gaunt said.
For example, In 2021, in the public finance abuse category, the SEC brought its first-ever enforcement actions of Municipal Securities Rulemaking Board Rule G-42 regarding duties of municipal advisors.
The agency alleged that Choice Advisors LLC and two of its principals, Matthias, O’Meara, and Paula Permenter violated their fiduciary duties by entering into a prohibited fee-splitting arrangement without disclosing either the arrangement or their relationship with the underwriting firm, to their clients. The SEC further alleged that Choice, O’Meara, and Permenter unlawfully engaged in municipal advisory activities when they were not registered with the SEC or the Municipal Securities Rulemaking Board.
Permenter agreed to settle with the SEC without admitting or denying any findings. However, Choice and O’Meara recently asked a California district court to dismiss the SEC’s charges. They contend that the allegations are without merit in part because “fee splitting” is not clearly defined in the MSRB rule.
Securities lawyer Michael Botelho, partner with Updike, Kelly & Spellacy, said he sees the Rule G-42 charges as a signal that municipal advisors can expect to see greater scrutiny. This is especially true, Botelho said, where advisors breach the trust and confidence of their municipal issuer clients.
“The SEC will pursue and punish MAs when advisors act in a way that serves their financial interests and not the interests of their municipal issuer clients,” Botelho explained, adding that “conflicts of interest will [also] be a target of the SEC in this area.”
Beyond Rule G-42, the SEC brought several other public finance abuse enforcement actions in 2021.
For example, the Commission charged RBC Capital Markets and two individuals with unfair dealing in municipal bond offerings. According to the SEC, RBC allegedly improperly allocated bonds for institutional customers and dealers, who then resold or “flipped” the bonds to other broker-dealers at a profit. RBC agreed to pay more than $800,000 to resolve the charges without admitting or denying the SEC’s findings.
Botelho pointed out that a key takeaway from this case is that open and fair access to the municipal marketplace will continue to be a priority for the SEC in 2022.
“The SEC will go after actors who provide unfair advantage to certain parties or undermine priority rules and crowd out legitimate retail or institutional customers from getting access to newly issued municipal bonds,” Botelho explained.
Another action brought by the SEC in 2021 that Botelho pointed to as important, was the suspension of two former KPMG auditors from practicing before the SEC. They were charged with improper conduct in the preparation of a clean audit report for the now defunct College of New Rochelle. That audit ultimately overstated the net assets of the college by almost $34 million.
“The key takeaway [here is that] the SEC will look to professionals, such as auditors, to serve as [so-called] gatekeepers to safeguard and uphold the reliability and integrity of financial information provided to investors in the marketplace,” Botelho said “This case is a warning to advisors to exercise the requisite level of “professional care and skepticism” and not be pushed or coerced by municipal clients to take shortcuts in performing tasks,” he added.
In 2021, the SEC also brought a number of high profile actions against municipal issuers and their key officials for providing materially misleading and inaccurate information in disclosure documents.
As a result, Botelho said that in the new year, he “expects the SEC to continue its focus on the need for current financial information, data and projections related to issuers–especially in light of the COVID-19 pandemic. “The SEC will scrutinize disclosure and require that issuers update such information,” Botelho said.
Lily Becker, partner at Orrick, similarly anticipates a continued focus on both annual and periodic disclosures.
“Because the SEC looks at both omissions and misstatements, entities should be thinking carefully about both including all material information and making sure information disclosed is accurate at the time of the disclosure,” Becker said in response to the SEC’s 2021 enforcement actions.
In addition to some of the matters that the SEC filed in 2021, which Gaunt noted revealed misconduct in the public finance market that had not previously been addressed in enforcement actions, the public finance abuse unit will be vigilant in 2022.
“Public finance professionals can expect that the unit will use the high degree of expertise we have developed in the municipal market to scrutinize industry practices that may be problematic,” Gaunt said.
And, Gaunt added, “to the extent those practices cross the line into violations of the securities laws, we will vigorously pursue enforcement actions.”