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Tuesday, December 6, 2011


A federal Judge has rejected as unduly lenient a $285 million settlement reached between the U.S. Securities and Exchange Commission and Citigroup to resolve civil litigation by the SEC against the financial services giant for various alleged abuses, including some types widely thought to have materially contributed to the financial and real estate market collapses.  Judge Jed S. Rakoff of the U.S. District Court for the Southern District of New York refused to accept the settlement, finding it inadequate in multiple respects, including the amount of the payment to be required of Citigroup and the fact that Citigroup would not be required to acknowledge any wrongdoing. 

The SEC civil suit is based principally on Citigroup’s actions in marketing collateralized debt obligations (CDOs) to its customers as good investments while at the same time selling such instruments short itself (a technique essentially constituting a bet that the investment would drop in price in the future), and after having secretly included in the CDOs a great amount of highly undesirable assets, in order to unload those assets from its own books or accounts.

The proposed settlement is embodied in a consent decree providing for disgorgement of $160 million in profits by Citigroup and payment of $30 million in interest and $95 million in penalties, as well as the adoption by the conglomerate of internal controls designed to hold company officials responsible for signing public statements regarding the worthiness of the investments marketed by the company.

Judge Rakoff wrote in his opinion that in deciding whether to grant the judicial approval that is prerequisite for such consent decrees involving injunctive relief, federal judges are required by US Supreme Court precedent to consider the public in relation to the decree.  “[R]egretfully”, Judge Rakoff wrote, the proposed Citigroup consent judgment “is neither fair, nor reasonable, nor adequate, nor in the public interest."  He noted that, while

[p]urely private parties can settle a case without ever agreeing on the facts . . .when a public agency asks a court to become its partner in enforcement by imposing wide-ranging injunctive remedies on a defendant, enforced by the formidable judicial power of contempt, the court, and the public, need some knowledge of what the underlying facts are: for otherwise, the court becomes a mere handmaiden to a settlement privately negotiated on the basis of unknown facts, while the public is deprived of ever knowing the truth in a matter of obvious public importance.

The judge expressed particular concern about the SEC practice of allowing companies to enter such consent judgments without admitting or denying the underlying allegations, which, he wrote, deprived the court of critical facts by which to assess the activities involved and the relief or punishment to be imposed.

Particularly in this context Judge Rakoff criticized the payment amounts provided in the settlement:

It is harder to discern from the limited information before the Court what the S.E.C. is getting from this settlement other than a quick headline. By the S.E.C.'s own account, Citigroup is a recidivist . . . , and yet, in terms of deterrence, the $95 million civil penalty that the Consent Judgment proposes is pocket change to any entity as large as Citigroup.

Consequently, Rakoff rejected the proposed consent judgment, consolidated the case with a separate, related case against an Citigroup official individually, and “direct[ed] the parties to be ready to try this case on July 16, 2012.”

This is the latest in a series of criticisms or refusals by Judge Rakoff to approve proposed settlements by the SEC with Wall Street corporate alleged wrongdoers.  As another example, in 2009 he refused for months to approve a proposed settlement with Bank of America relating to alleged disclosure deficiencies in connection with its acquisition of Merrill Lynch.  He only approved that settlement early the following year after the penalties against the company were increased from $33 million to $150 million and safeguards were added to inhibit such conduct in the future. He also stoutly criticized a settlement of backdating claims that the SEC reached with Vitesse Semiconductor earlier this year, decrying the same SEC practice of permitting the corporation to avoid admitting any wrongdoing.  He stated, "The disservice to the public inherent in such a practice is palpable."

It is likely that the SEC will appeal Judge Rakoff’s rejection of the Citigroup settlement.  But his reputation seems now established as a firebrand judge determined not to be used by the US Executive Branch as a rubber stamp for consent judgments that he considers to be mere slaps on large, powerful corporate wrists.

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