On March 9, 2021, Caroline Crenshaw, a Commissioner of the Securities and Exchange Commission (“SEC”) asserted, in a speech before the Council of Institutional Investors, that the SEC has focused excessively on the indirect impact on innocent shareholders at the time of penalty when assessing corporate penalties. Instead, she called for the SEC to revisit its approach and give less weight to innocent shareholder impact as a mitigant against large corporate penalties.
Commissioner Crenshaw’s comments, which are described in more detail below, were the latest of several recent announcements and policy changes by the SEC that, when taken together, potentially signal that the SEC’s enforcement initiatives under the Biden administration will be both more aggressive and perhaps include harsher penalties. Last month, the SEC reauthorized senior enforcement officials to issue formal investigative orders without the approval of SEC commissioners. See
Shearman & Sterling Need-To-Know Litigation Weekly, “SEC Reauthorizes Senior Enforcement Officials To Issue Formal Investigation Orders,” https://www.lit-wc.shearman.com/SEC-Reauthorizes-Senior-Enforcement-Officials-To-Issue
. The SEC also announced last month that the Division of Enforcement will no longer recommend to the SEC a settlement offer that is conditioned on granting a waiver. See
Shearman & Sterling Need-To-Know Litigation Weekly, “SEC Reverses Position On Accepting Settlement Offers Contingent On Waivers, Creating Once Again Risk That Defendants Will Be Forced To Make Settlement Decisions With Significant Uncertainty,” https://www.lit-wc.shearman.com/SEC-Reverses-Position-On-Accepting-Settlement-Offers-Contingent
In her March 9th
speech, Commissioner Crenshaw expressed that the SEC has taken a “myopic approach” to assessing penalties for the last fifteen years by disproportionately focusing its analysis on the extent to which shareholders of a corporation would be “unduly burden[ed]” by a penalty. Specifically, she described the SEC’s practice of gauging whether shareholders benefitted from the corporation’s misconduct in attempting to determine a penalty under the theory that it would be unfair to impose a penalty that harms shareholders if they did not benefit from the misconduct. In Commissioner Crenshaw’s view, however, this emphasis placed on shareholders and factors other than the actual misconduct is “fundamentally flawed.” She noted that the current approach might even “allow companies to profit from fraud” because it “unnecessarily limits the Commission’s ability to craft appropriately tailored penalties that more effectively deter misconduct.”
Commissioner Crenshaw expressed that the SEC’s corporate penalties in the future should instead be “tied to the egregiousness of the actual misconduct.” She said it was “common sense” that more severe misconduct should result in “stiffer penalties,” and the current focus on the impact of a penalty on the corporation and by extension innocent shareholders distracts from the assessment of the nature and severity of the misconduct at issue. She further noted that it was difficult to identify and measure all of the benefits shareholders receive as a result of misconduct. According to Commissioner Crenshaw, in addition to assets gained by the corporation and inflated stock prices, shareholders may enjoy intangible benefits, such as a good reputation before the misconduct is discovered. She stated that some events, such as stock buybacks while the price of shares is inflated, could either harm or benefit shareholders because although the corporation is repurchasing stock, shareholders may nonetheless benefit by potentially raising earnings per share. Commissioner Crenshaw said that these factors should not deter the SEC from imposing penalties on corporations just because the misconduct is “difficult to quantify with exact precision.”
In fact, Commissioner Crenshaw called into question whether SEC penalties harm shareholders at all when viewed in the totality of circumstances. She argued that penalties, far from harming shareholders, ultimately result in higher profits because remediation, strong internal controls, clear lines of responsibility, and individual accountability lead to “better future outcomes.” Further, she stated that if the SEC were to limit penalties to cases in which the shareholders clearly benefitted from the misconduct, it would be the same as “disgorging proceeds of corporate wrongdoing,” rather than incentivizing compliance and deterring misconduct.
In outlining a potentially new approach to corporate penalties, Commissioner Crenshaw emphasized that the SEC needed more data to inform corporate penalty calculations, and that the SEC should consider other factors, such as a corporation’s self-reporting, cooperation, and remediation, in arriving at the final penalty. Additionally, she called for penalties based on the nature of the misconduct, with violations that cause more harm or that are harder to detect receiving higher penalties.
Commissioner Crenshaw was appointed in August 2020, and it remains to be seen if the SEC will indeed adopt the philosophical shift in assessing corporate penalties outlined in her recent speech. Whether that occurs or not, Commissioner Crenshaw’s comments are noteworthy, especially when coupled with other recent announcements from the SEC, and suggest that SEC enforcement efforts will be increased under the new administration.