On Friday, the SEC charged eight officers, directors and major shareholders for failing to update their Schedule 13D stock ownership reports to reflect material changes in connection with several going-private transactions. According to the press release, each person or entity charged “took steps to advance undisclosed plans to effect going private transactions.  Some determined the form of the transaction to take the company private, obtained waivers from preferred shareholders, and assisted with shareholder vote projections, while others informed company management of their intention to privatize the company and formed a consortium of shareholders to participate in the going private transaction.” In addition, some shareholders failed to timely report their ownership of securities in the company that was going private, with some reporting months or years after the fact. In some cases, there also Section 16(a) violations. Those charged paid civil penalties ranging from $15,000 to $75,000. 

As noted in this post, SEC Chair Mary Jo White has declared an “enforcement mission” of the SEC to be implementation of the “broken windows” theory of crime deterrence made famous decades ago in NYC: “The [‘broken windows’] theory is that when a window is broken and someone fixes it – it is a sign that disorder will not be tolerated.  But, when a broken window is not fixed, it ‘is a signal that no one cares, and so breaking more windows costs nothing.’”  Likewise with securities law violations, “minor violations that are overlooked or ignored can feed bigger ones, and, perhaps more importantly, can foster a culture where laws are increasingly treated as toothless guidelines.  And so, I believe it is important to pursue even the smallest infractions. “ In September 2014, the SEC announced charges against a number of individuals and companies for violations of requirements to make filings under Sections 16 and 13 of the Exchange Act, and in November of that year, the SEC announced that it had sanctioned ten companies (generally, smaller reporting companies traded on OTC Link) for failing to make required Form 8-K disclosures related to financings and unregistered stock sales. Individual penalties were either $25,000 or $50,000, being paid to the SEC in installments. Now, Enforcement has taken on individuals and entities that allegedly did not pay sufficient attention to Schedule 13D.

Generally, Schedule 13D must be filed when a person or “group” directly or indirectly acquires beneficial ownership of more than 5% of a voting class of a company’s equity securities. The Schedule requires, among other things, a description of the purpose of the acquisition, including any plans to cause an extraordinary corporate transaction, such as a merger, reorganization or going-private transaction. Material changes are required to be reported “promptly.” In these cases, shareholder waited months or years to amend their reports. For example, in one case, a controlling shareholder submitted a concept paper and advised the company of the shareholder’s intent to take the company private, decided on a reincorporation merger followed by a reverse stock split and approved by written consent transactions to facilitate taking the company private. However, the shareholder waited eight months to update its disclosure. In another case, an affiliate who  was ultimately engaged in the Rule 13e-3 transaction, requested that management engage outside counsel to consider the transaction, discussed engaging an independent financial advisor to give an opinion regarding the fairness of a proposed reverse stock split, decided that management should make specific recommendations regarding the terms of a reverse stock split transaction, reviewed and discussed an independent valuation proposal as part of the going private effort and  participated in a number of Board meetings during which elements of the going-private transaction were discussed. In the view of Enforcement, these steps together represented a material change that should have been reflected promptly on the Schedule 13D.  Nevertheless, the affiliate waited five months to amend his 13D.