January 13, 2016 Comments (0) Blog

Overview of the SEC Wells Notice Process

(Last Updated On: January 13, 2016)

What is a Wells Notice?                                                                                                                     

A Wells Notice is a letter from the Securities and Exchange Commission (SEC) that informs an individual or entity that the SEC is planning to bring an enforcement action against them. In recent years, the Wells Notice model has been adopted by other regulatory agencies, most notably the Financial Industry Regulatory Authority (FINRA). The Notice typically includes a brief synopsis of the nature of the investigation along with the rules or laws that the Commission believes may have been violated. Additionally, the letter provides the person or entity with the opportunity to respond to the Notice and make an argument as to why an action should not be brought. However, the Wells Notice is not just a regulatory courtesy, it is an integral part of any potential litigation or enforcement action. Responding appropriately and effectively to a Wells Notice can alter the trajectory of an investigation.

Advent of the Wells Notice                                                                                                                

The Wells Notice is a relatively new addition to the SEC’s regulatory framework. It is originally a product of a 1972 SEC committee meeting that focused on ways to improve the enforcement process. The committee requested that the Commission give respondents notice of a forthcoming investigation and the opportunity to respond to the allegations against them.

“The objective of the recommended procedures is to place before the Commission prior to the authorization of an enforcement proceeding the contentions of both its staff and the adverse party concerning the facts and circumstances which form the basis for the staff recommendation.”

The Commission adopted the committee’s proposal, but with a caveat. The Wells Notice, is not required to be issued by law or by regulatory rule. That being said, a written Wells Notice is issued to the respondent in most every enforcement action. However there are some exceptions. In cases where the public interest or the integrity of the investigation are at risk, a Wells Notice may be sent late or not at all. For example, an investigation into a Ponzi scheme may not result in a Wells Notice, because doing so could result in the collapse of the scheme at the peril of investors.

When is the Notice Sent                                                                                                        

The Wells Notice is drafted at the conclusion of the Commission’s preliminary investigation. At this point, the enforcement investigators and attorneys have done a substantial review of all relevant documents and conducted legal research to ensure their allegations are supported by the law. If a Wells Notice has been sent, it means the SEC believes that not only has unlawful conduct most likely occurred, but that said conduct meets all the necessary standards and burdens to be legally prosecuted. It is important to understand that although the Commission may not yet be ready to file a formal action, they are in the process of preparing to do so.

Contents of the Wells Notice                                                                                                             

The content of a Wells Notice can vary substantially based on the facts of the case and the nature of the investigation. However, each Wells Notice should contain the following attributes and elements.

The Notice should afford the recipient the opportunity to provide a voluntary statement that explains the respondent’s side of the story. This response might include arguments as to why the Commission should not bring an action or why proposed charges or remedies should not be pursued. The response can also be used to bring any relevant facts or circumstances to the attention of the Commission that they may not have been privy to prior to the Wells Notice.

The Notice should also provide some limitations or guidance on properly responding to the notice. This will include both guidance on the length of the response and the time frame in which it must be submitted. The Notice should also include the appropriate person and address to send the response to.

Additionally, the Notice will provide a brief explanation of the suspected violations and proposed charges. It is important to note that this explanation will be far from exhaustive. However, this is not necessarily because the SEC lacks the information to describe the suspicious activity. Rather, it is a strategic move. At this point in the enforcement process, the SEC will be hesitant to lay all of their cards out on the table. There will likely not be any attached exhibits or references to specific events or conduct. It is important to keep this in mind when responding to the Notice. A response to a Wells Notice that attacks the SEC for not having enough facts to describe the activity will be ineffective.

Responding to a Wells Notice                                                                                                            

An individual is not required to respond to a Wells Notice. In fact, many respondents choose to forgo the process entirely. However, if you choose to respond, there are several strategies and pitfalls to keep in mind. First, make sure the response follows all the guidelines of an acceptable Wells Response. The response should be an appropriate length and be sent in advanced of the deadline provided in the Wells Notice. The SEC has stated that a response should not be more than 40 pages, however, most responses are far shorter. A 40-page Wells Response is not any more effective than a 20-page response or even a 5-page response. The Wells Response should not be viewed as the one and only chance a respondent has to make their case. Rather, the response should focus on key issues that a respondent believes the SEC didn’t discover during the course of their investigation, or legal arguments as to why the charges can’t and won’t be proven.

Second, a strong response focuses on the law and not the facts. A response that merely states that the respondent is an upstanding individual and didn’t break the law is a very weak response. Even a thorough and comprehensive retelling of the facts will not serve to stop or even slow the enforcement process. Instead, focus on the charges that are being leveled and what is necessary to prove those charges in a court of law. An attorney who specializes in securities law can assist you in identifying and arguing the weaker legal points of the commission’s case.

Additionally, there are several other ways a respondent can take advantage of the opportunity to submit a Wells Response. Recipients of Wells Notices have the right to request to review portions of the staff’s investigative file. While this request is not always granted, if presented in the proper manner, it can afford the respondent a unique strategic advantage. These requests are most often granted when a respondent can argue that he or she believes the commission was relying on inaccurate or outdated information. For example, the SEC may be relying on draft versions of marketing materials instead of those that were actually circulated.

In addition to requesting a review of the case file, recipients of a Wells Notice can also request a meeting with the enforcement staff. Again, the SEC is under no obligation to meet, however, a face to face meeting provides far more insight into the substance and facts behind a Wells Notice than the actual Notice. Additionally, a meeting may allow for the two sides to better discuss some of the more nuanced areas of the law and the securities trade than they possibly could in an exchange of letters.

Lastly, a respondent can use the Wells Response as an opportunity to begin the settlement process. Securities cases can be complex, convoluted, and last for years. Often times, it is in the best interest of both parties to settle before the formal enforcement process begins. Very few SEC cases make their way all the way to an administrative hearing or federal court. A respondent who seeks settlement from day one can save face, save time, and save money.

Common Mistakes                                                                                                                             

When responding to a Wells Notice, it is paramount to remember that more often than not, there is much more to be lost than to be gained. Threats and anger have never resulted in the dismissal of an enforcement action. Employing these tactics in a Wells Response will only serve to cast a respondent in a worse light. Furthermore, a respondent risks becoming embroiled in a personal war with the attorney and staff if the response is overly combative or accusatory. Even the most professional and unbiased enforcement attorneys will turn special attention to a case file where their integrity and competence has been attacked. Regardless of the content of the Wells Response, the tone should be polite and professional. The response will likely be the first time a respondent is interacting with the SEC attorneys. A polite and professional response will make settling the case or convincing the SEC to drop the case a much easier feat.

In many ways, the Wells Notice is the starting gun for an enforcement action. Any statement or correspondence following the Notice instantly becomes a part of the case, including the Wells Response. Indeed, a Wells Response can, and often is, used as a piece of evidence during trial against a respondent. More often than not this occurs for one of two reasons. The first is that the respondent makes a claim in the response that is later refuted by another source or contradicted by later testimony. This is yet another reason why it is advised to focus more on the law of the case than the facts of the case. In addition to contradictions, often times a respondent will admit to a fact that is a crucial element of the case and/or admit to a fact that was previously unknown to the SEC. Many securities cases come down to the respondent’s knowledge of the act or their intent to carry out said act. Having a securities attorney draft or review your Wells Response can protect you from accidental incrimination.

Know Your Audience                                                                                                                          

There are two distinct groups of individuals who will receive and read a Wells Response, each with a very different perspective on the case and role in the process. The first reader will likely be the investigating attorney. This individual not only led the investigation that resulted in the Wells Notice, but will also be leading the subsequent enforcement process. When drafting a Wells Response, remember that any critiques of the investigation could be construed as personal attacks. Focus instead on creating a dialogue with this individual and planting seeds of doubt that the law they cite is applicable to your case.

The second set of individuals who will read a Wells Response are the SEC commissioners. Although SEC attorneys and their supervisors are given the autonomy to conduct an investigation and issue a Wells Notice, a final enforcement action cannot be entered without a majority of the commissioners’ approval. The commissioners are five individuals, appointed by the President, who serve a five-year term as the head decision makers at the SEC. The commissioners are bipartisan and are responsible not just for oversight of the SEC, but also for setting and maintaining policy objectives. When drafting a Wells Response, consider inserting subtle arguments as to why your case is incompatible with the SEC’s stated mission and jurisdiction. These arguments might suggest that the SEC risks setting a dangerous precedent by pursuing this type of case, or that the SEC has traditionally rejected cases of this type. However, be sure to avoid directly addressing the commissioners or their role in the process.

FINRA Wells Notices                                                                                                                          

As previously mentioned, FINRA has also adopted the Wells Notice model. The FINRA model is very similar in design and execution to the SEC model, with a few minor differences. Much like the SEC Wells Notice, a FINRA Notice is issued if the investigating staff attorney has made the recommendation to begin a formal disciplinary action. Additionally, like the SEC Notice, FINRA is not required to issue a notice if doing so could harm or hinder an investigation.   However, unlike the SEC Notice, the FINRA notice is often issued first by phone and then by letter. The phone call is not recorded and thus cannot be used as evidence.  Nevertheless, a respondent should be cautious in how they handle this call. There is no need to plead your innocence or make substantive arguments during the call. Unless you believe the call is made in complete error, it is best to say very little and reserve any arguments for your written Wells Response. Lastly, upon receipt of a FINRA Wells Notice, an associated person is required to report the event on his or her U4. Failure to do so in a timely manner could result in additional sanctions.

 

The foregoing information is being provided by The White Law Group.  The White Law Group is a national securities arbitration, securities regulation and securities employment law firm.  The firm represents financial advisors in regulatory actions brought by the SEC or FINRA and in claims against their former firm.

For more information on the firm’s securities regulatory and employment practice, visit http://www.whitesecuritieslaw.com/securities-employement/.