On November 5, 2013, the Securities and Exchange Commission entered a cease-and-desist order and levied a $20,000 fine against a regional municipal authority in Washington State for materially misleading disclosures made in an official statement for bond anticipation notes issued to finance construction of a public multi-use arena.1 The SEC also entered cease-and-desist orders against the offering’s underwriter, its lead investment banker, the arena’s developer, and the developer’s then-president and CEO. This case marks the first time that the SEC has levied a fine against a municipal issuer and continues the Commission’s increased focus on the municipal securities market.
In 2008, at the height of the financial crisis, the Greater Wenatchee Regional Events Center Public Facilities District – a municipal entity formed by nine Washington cities and counties in order to fund the arena – issued $41.77 million in bond anticipation notes. The District defaulted on its principal payments in December 2011.
The Commission alleged that the official statement for the notes contained a number of material inaccuracies and omissions. For instance, while the official statement specified that there had been no independent review of the developer’s financial projections for the arena, in fact an independent consultant twice examined the projections and questioned the arena’s economic viability. Moreover, the official statement also did not disclose that the projections of cash available for debt service had been revised upward (by more than 125%) after the City’s former mayor “made an impassioned argument” that local residents “knew better” and would support the project in the future even though ticket sales were weak at the time. The Commission concluded that the District’s review of the final projections prior to inclusion in the official statement “was inadequate” because the District’s point person (who “had no prior experience with public financings”) did not conduct any assessment of and simply distributed the revised projections to the working group despite noting in her e-mail to the group that “we’ll be doing a fresh review on our end” and that they look “closer to what is needed”.
Additionally, although it was known at the time that the notes were to be repaid with the proceeds of future long-term bond offerings, including possibly offerings by one or more District members, the official statement omitted information that the arena’s host city, Wenatchee, was approaching its debt limit, having only $19.3 million of additional capacity. The Commission noted that an earlier draft included this disclosure, but the final official statement omitted any mention.
Due to these alleged violations, the SEC ordered the District (and the District agreed) to cease and desist from committing any violations of Section 17(a)(2) of the Securities Act. It also imposed a $20,000 civil money penalty and required the District to (1) “establish [promptly] written policies, procedures and [other] internal controls relating to” debt offering disclosure documents and continuing disclosure filings, (2) institute periodic training “for all personnel involved in [such] offerings or continuing disclosure” filings, (3) appoint, as part of such procedures and controls, “an individual within the District” with responsibility to ensure and (4) certify in writing and under oath its compliance.
Commenting on the fine, Andrew Ceresney, co-director of the SEC’s Division of Enforcement, explained that “[f]inancial penalties against municipal issuers are appropriate for sanctioning and deterring misconduct when, as here, they can be paid from operating funds without directly impacting taxpayers.”
This case, like a number of other actions against municipal issuers that the SEC has brought this year, demonstrates the Commission’s increased scrutiny of the municipal bond market. In these actions, the Commission makes it clear that it considers it appropriate, in the right circumstances, to impose penalties on municipal issuers that historically have been reserved for private misconduct.
The order and fine also highlight the cost to issuers that do not have written policies, procedures, and ongoing training in place for those employees responsible for ensuring offering document disclosure is not false and misleading. The hurdle for liability in Commission action against such issuers is significantly lower than it is for private litigants alleging the same misfeasance. The Commission need only prove that an issuer and its subject employees were negligent in not ascertaining the truth of such disclosure. To make that showing, the Commission may compare the issuer’s disclosure to the types of disclosures called for by industry “best practices” reports, such as disclosure guidelines prepared by the Government Finance Officers Association. Those guidelines explain that offering documents “should include … reports or studies known to the issuer that may have a significant bearing on” the financial feasibility of a project or on a project’s feasibility conclusion. In light of these developments, issuers should re-examine and, where appropriate develop, written policies, procedures and internal controls (and conduct at least annual training) concerning compliance with their securities law disclosure obligations.2