On April 11, 2007, the Securities and Exchange Commission ("SEC") brought its first enforcement action against a broker-dealer and its principal for failing to file a Suspicious Activity Report ("SAR"), as required under the USA PATRIOT Act of 2001 ("PATRIOT Act").1 The SEC alleges that Park Financial Group ("Park") and Gordon C. Cantley, its principal, aided and abetted and caused a scheme to pump and dump the stock of Spear & Jackson ("S&J"), conducted by Dennis Crowley, the CEO and chairman of S&J.2 After obtaining a temporary restraining order against Crowley, International Media Solutions ("IMS") the investor relations firm that promoted the stock, and IMS's principals, the SEC obtained an Order instituting cease-and-desist proceedings against Park and Cantley, charging them with willfully aiding and abetting Crowley's violations of Section 10(b) of the Securities Exchange Act of 1934 ("Exchange Act") and Rule 10b-5 thereunder. The SEC also charged that Park willfully violated, and Cantley willfully aided and abetted violations of, the Exchange Act's books and records provision, Section 17(a) of the Exchange Act and Rule 17a-8 thereunder, by failing to file a SAR with respect to Crowley's activities.3
The SEC alleges that between February 2002 and July 2003, Park executed sell orders by Crowley for S&J stock on behalf of three British Virgin Island ("BVI") companies, even though Crowley was not an authorized signatory for the BVI companies and Park's procedures required the written approval of at least two authorized individuals for foreign-based accounts. In addition, according to the SEC, Park executed the trades knowing that Crowley was the CEO of S&J and that the BVI companies' accounts traded exclusively in S&J stock. Park and Cantley also allegedly knew that some of these transactions involved the transfer of stock to IMS, which was promoting S&J, and that the stock's price was rising significantly. The order further alleges that between February 2002 and July 2003, Park executed over 200 trades in S&J on behalf of the BVI companies, generating approximately $2.5 million. The SEC further pointed out that of the 98 transactions during the relevant time period, nine involved 240,000 shares of S&J, worth over $1.2 million, that were transferred to IMS
The SEC alleged that these 98 stock transfers were suspicious in various respects. First, in addition to being among only a few foreign-based accounts at Park, the BVI companies traded only in S&J stock, some at the direction of S&J's CEO, who did not have authority to trade those accounts. Second, nine of the stock transfers were to a stock promoter that Park knew was promoting S&J stock. Third, all of the transfers took place during an unexplained, sharp rise in price and trading volume of the stock. The SEC concluded that these factors raised ample red flags and that Park and Cantley should have filed a SAR reporting these activities.
The SEC also emphasized that, prior to the effective date of the rule requiring that broker-dealers file SARs, Park's compliance officer had generated multiple SARs regarding the transfer of shares from the BVI companies to IMS and had provided them to Cantley, who did not file them. The SEC viewed this fact as another red flag that should have led Park and Cantley to file SARs for the subsequent nine transfers to IMS that occurred after the SAR requirements took effect.
While broker-dealers have been charged with aiding and abetting stock fraud before, this is the first time the SEC has added violations of its books and records rules for failure to file SARs based on those fraudulent activities. It is likely that the SEC's decision to pursue a SAR reporting violation was heavily influenced by Park's seeming centrality to the pump-and-dump scheme. Nonetheless, the agency's action opens the door to potential enforcement actions based solely on a broker-dealer's failure to file a SAR that exposes fraudulent activity by a single customer.
This SEC enforcement action also follows a May 2006 enforcement action against Crowell, Weedon & Co., the first time the SEC brought a books and records violation based on a broker-dealer's failure to follow its written Customer Identification Program as required under Section 326 of the PATRIOT Act.4 In a related development, in January 2007, the SEC released an anti-money laundering "Source Tool," which is a compilation of references to key anti-money laundering laws, rules and guidance applicable to brokerdealers. The compilation was assembled by the staff at the SEC's Office of Compliance Inspections and Examinations to help its examiners, and was recently published as an aid to broker-dealers and others interested in AML compliance by broker-dealers.5 The source tool is yet another sign that the SEC intends to play a growing role in AML compliance and enforcement.