Powers On… Why the SEC is not your friend (and how to deal with that)

Powers On... is a new monthly opinion column from Marc Powers, who, after a stint with the SEC, spent much of his 40-year legal career working with complex, securities-related cases in the United States. He is now an adjunct professor at Florida International University School of Law, where he teaches the course “Blockchain, Crypto and Regulatory Considerations.”

In 40 years of practicing law — including five years with the Securities and Exchange Commission’s, or SEC’s, Enforcement Division and 35 years in private practice— I came to learn certain truths. My awareness of these truths helped save many clients from untold personal stress, financial ruin and government action. Due to my career there, this was especially so when a client was subject to investigations and enforcement proceedings from the SEC.

Litigation actions by the SEC in its complaint against Ripple highlight the need for a dose of reality regarding the agency’s habit of overreach.

When I was with the SEC, the staff in the Enforcement Division mainly consisted of lawyers and investigators either trained in finance or formerly employed by brokerage firms and mutual funds. These were SEC lifers, who clearly planned to make a career in public service and generally had a reasonable approach to enforcement. They had seen the ebb and flow of priorities (depending on the administration in power) and were unlikely to be zealots in their handling of any particular case.

But then, as now, there were also those lawyers who saw the SEC as a stepping stone toward enhancing their future career prospects.

Which brings me to the first immutable truth, as immutable as blockchain technology itself.

Powers’ Immutable Truths: Number One

The SEC is not your friend. If you provide the SEC an opportunity to roll over you, it will.

Immediate and consistent pushback is necessary to keep the government in check and reduce the chances of a poor outcome. As an example of this strategy, let’s look at the SEC’s recent discovery requests in its ongoing lawsuit against Ripple.

The SEC alleges that from 2013 through 2020, Ripple and its officers promoted a continuous token offering that should have been registered with the agency. It claims that the token offerings constituted the sale of “investment contracts.” Bradley Garlinghouse, CEO of Ripple, and Christian Larsen, executive chairman and co-founder of Ripple, are named as co-defendants in the lawsuit. Per the complaint, Garlinghouse and Larsen directly violated — and aided in Ripple’s violations of — the Section 5 registration provisions of the Securities Act of 1933.

There are, however, no allegations of fraud in the complaint, neither under the Securities Act nor the anti-fraud provisions of the Securities Exchange Act of 1934. Plus, according to the Ripple court docket and filings, the SEC has sought the personal financial records from Garlinghouse and Larsen for the past eight years — from both the defendants themselves and from five banks, including the Federal Reserve Bank of New York. This is all despite no allegations that either of them had misappropriated any investor funds from the offerings, or committed fraud.

This is clear overreach, and the individual defendants’ response of objecting to this is right and appropriate. (This is regardless of the interesting tidbits set forth in the SEC’s complaint that the defendants had twice sought legal advice on the question of whether XRP was a “security” and were advised in the affirmative, plus that the SEC had previously sued Larsen for registration violations involving another of his companies in 2008.)

In overseeing the case, United States District Judge Analisa Torres has referred discovery disputes to a federal court magistrate judge. Meanwhile, the individual defendants have claimed that the personal financial information sought by the SEC is an invasion of privacy and that no reasonable rationale related to the allegations has been articulated. They also note that under the Right to Financial Privacy Act, courts would never tolerate such an overly broad and intrusive request spanning eight years of information.

The response by the SEC, according to the defendants’ letter of objection to the magistrate, is that discovery requests are allowed to be broad in civil litigation. The SEC claims it wants to obtain these records to establish the “motive” of these individual defendants for seeking these token offerings for Ripple.

Nonsense! The defendants are right to push back on this.

Now, some of you may ask, “Why is it a big deal to provide this information if they have nothing to hide, or have done nothing wrong?” Rest assured, it is a big deal. If you give the government an inch, no matter how innocuous the inch may seem, you have no assurance that that inch will not turn into a foot. Which gets me to what I unabashedly call…

Powers’ Immutable Truths: Number Two

Only do or provide what is reasonable to the government, since you never know the true motives on the other side.

Let me explain. As noted earlier, many government attorneys are selfless public servants who seek to do justice and the right thing. However, there are those in the government who will seek to win at all costs, having your client as the next notch in their proverbial belt. Unfortunately, it is not always easy to discern where a particular SEC attorney stands. Will your professional courtesy or reasonable action on behalf of your client lead to reciprocity? Or, will it lead to never-ending requests from an overly aggressive, ethically questionable staffer? 

Unfortunately, the maxim that ‘less is more’ has never been truer. The less you offer, the more safe your client can feel. And that is codified in…

Powers’ Immutable Truths: Number Three

Never speak with or testify to the government, unless you can absolutely speak the truth without creating legal exposure for yourself. If you cannot, say nothing.

Decline to be interviewed by having your attorney make a proffer of what you would say, or assert your Fifth Amendment privilege against self-incrimination if subpoenaed to testify. It is much better to force the government to make its own case against your company or startup, rather than inadvertently handing them the proof they seek on a silver platter. The worst outcome is testifying falsely, giving the government an easy criminal case of perjury, where else they may not have been able to make or prove a civil securities case.

Now, there are many nuances to all of these points. Also, each investigation or litigation has its own set of facts and applicable laws to be considered when choosing how best to proceed in matters involving the government. I also appreciate the school of thought — as advocated by the government — that if you provide “full cooperation” to the SEC, a state regulator or a U.S. Attorney, then they will be more lenient on you in any charges or penalties.

Well, I have generally found that “full cooperation” only advances your client’s interests if they are essentially caught dead to rights, with unambiguous documents and third-party witnesses available for the government to independently prove the case. Too often, however, “full cooperation” or “playing nice” doesn’t cut it. In my experience, after seeing many so-called white-collar defense lawyers rolling over for the SEC, the clients end up in a worse position.

Which all leads, in true circular fashion, right back to the first immutable truth...

The SEC is not your friend.

That is why the defense counsel for the Ripple founders is doing what is necessary for their clients, even if the SEC doesn’t think it’s nice.

The opinions expressed are the author’s alone and do not necessarily reflect the views of the University or its affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.