CHICAGO - Broker-dealers who voluntarily reported disclosure missteps under the Securities and Exchange Commission's Municipalities Continuing Disclosure Cooperation initiative shouldn't just sit around waiting for the SEC to make contact.
"We are open to and would like to have conversations with entities that made submissions and so I would not wait for the SEC, for the enforcement division, to reach out to you," Eric Celauro, an attorney in the enforcement division's municipal securities and public pensions unit, said on a regulatory panel at the Bond Dealers of America's annual fixed income conference in Chicago last week.
"To the extent there are issues you feel you need to talk to the SEC about," whether they are concerns over materiality or other issues, "you should feel free to reach out and contact us about that," Celauro said.
The MCDC program, which offers reduced settlement terms to issuers and underwriters who voluntarily report instances over the past five years in which their official statements falsely claimed compliance with continuing disclosure obligations, was a key regulatory issue on the minds of conference participants. The deadline for submissions by underwriters passed Sept. 9 and issuers face a Dec. 1 deadline.
Answering a moderator's question, Celauro initially offered no assurances that an underwriter could expect to hear from the SEC prior to a decision to take enforcement action.
He later clarified his answer to say that the agency expected to contact any firm that filed a report ahead of the deadline before it launches an enforcement action.
Celaura declined to provide the number of submissions received so far except to say it was "substantial." Celaura did little to satisfy dealers' curiosity over the timing of actions and what constitutes a material violation.
He said the agency would like to initiate actions prior to the end of the year but the timing depends on the number of submissions in total and the review process.
"We want to take our time and be fair," he said.
The agency's goal would be to bring an enforcement action in "every instance where we determine there has been a material violation" and it's deemed appropriate, but also said it's too early in the process to say whether all submissions will lead to some action.
The subject of "materiality" of potential violations vexed conference participants. When the moderator said she wouldn't pursue the question as it appeared fruitless to ask, audience members chimed in "but it's key."
"There's been a lot of discussion about this and a lot of concern," Celauro acknowledged. "The enforcement division just can't give materiality guidance as it relates to individual circumstances. We don't give advisory opinions."
The decision on whether to bring an enforcement action is particular to the facts and circumstances of individual cases, he said, so to "try and give guidance on the issue of materiality in the abstract simply can't be done."
Celauro also recapped two local cases that each marked a first for the SEC. Both were filed in the U.S. District Court for the Northern District of Illinois, Eastern Division.
The SEC earlier this year filed securities fraud charges against the nonprofit UNO Charter School Network Inc. and United Neighborhood Organization of Chicago for misleading investors on $37.5 million of bonds about conflicts of interest that could have jeopardized the ability to pay debt service.
The organization did not disclose a contract entered into with a windows company owned by the brother of one of the senior officers in connection with school construction. The conflict violated requirements relating to $98 million in state grants and could have resulted in the state rescinding the grants and demanding the funds be returned.
"The fact that potential investors were not made aware of that, significantly, from our perspective, changes the risk profile of that bond and that was not disclosed," Celauro said.
UNO, which neither admitted nor denied the charges, agreed to an injunction against engaging in any further "conflicted transactions" and must pay for an independent monitor to detect and prevent other conflicts of interest, which marked a first for an SEC enforcement action, Celauro said.
In another case, the SEC filed an action this year accusing Harvey, Ill., and its now former comptroller, Joseph T. Letke, of misusing bond proceeds and misrepresenting investment risks in past bond issues.
The agency won a temporary restraining order blocking the city from a planned debt issue that allegedly was being fraudulently marketed to investors. It marked the first time the SEC had blocked with court action an issuer from making a fraudulent offering in the municipal market.
"While we were investigating [the city's past bond offerings] we became aware the city was about to go to market again with another bond offering" and "disclosures were not being made in the offering statement that was being circulated," Celauro said.
The city had not disclosed it past use of bond proceeds to bolster general coffers, or Letke's role as its advisor and author of a feasibility report tied to the bond issue.
More consolidation is likely on the horizon as firms grapple with regulation, tight spreads, and low volume, market participants said during panels at the BDA conference.
"There's always someone willing to go lower for new business; it's a challenge," said Frank Fairman, head of public finance services at Piper Jaffray. "There's a shrinkage of public finance bankers, whether through retirement or people leaving the business," he said. "We'll see that continue. It's incrementally harder for those who are smaller firms in the public finance space."
On many of the big deals, the top five or seven firms are competing hard for market share, said Casy O'Brien, head of municipal underwriting at Raymond James.
"They're trying to drive other people out of the business," O'Brien said. "Some firms will exit this part of the industry," he warned. "How many years in a row of 2% to 3% margins before they leave?"
Raymond James competes for the larger loans but also bids on regional deals, O'Brien said.
"Spread isn't the main reason why we're doing the transaction. It's about the relationship too," he said.
