What to do When You Are Flagged by the SEC and Receive an SEC Subpoena
By Whitney De Agostini, Esq.
April 1, 2019
You are literally minding your business when you are slapped with a subpoena or inquiry from the SEC. Why is the SEC investigating me, and what happens now?
The SEC reached out because something about you or your company triggered a red flag—or is connected to an individual or company that was flagged. The mission of the U.S. Securities and Exchange Commission (“SEC”) is to “protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation (i.e. monitor businesses raising money).” As the enforcement body of the Securities and Exchange Act of 1933, its goal is to ensure all companies, whether offering public or private securities to investors, are following federal regulations and disclosure requirements, and are appropriating the funds consistent with investors’ expectations.
So, what now? An investigation by an arm of the Federal Government is intimidating; with seemingly unlimited funds and an unlimited scope. However, understanding the SEC’s investigation process will make the investigation less daunting, and having a strategy to navigate it can help you expedite the process and get back to your business.
The SEC utilizes two processes to investigate potential securities fraud: an informal inquiry and a formal investigation. Note that the SEC does NOT deal with criminal securities violations; they will refer criminal cases, formally or informally, to the Department of Justice (“DOJ”). If you are concerned your actions may have been criminal (especially if your situation involves insider trading, millions of dollars lost in investor funds, or a long disciplinary history), reach out to a criminal law attorney before your communicate with the SEC, as your strategy will be substantially different moving forward.
Facts are gathered and developed through an informal inquiry (or “matter under inquiry”), and responses are voluntarily. Inquiries may simply mean you are tangential to another SEC investigation, and they are gathering information. The SEC does not have subpoena authority at this stage but may reach out to your investors and/or employees requesting information on company processes, the nature of the securities, and the use of funds.
If the SEC is satisfied, they may stop contacting you; they are not required however to give you the status of the investigation, or even notice of its closure. If the informal inquiry shows potential securities law violations (which they will usually determine within 2-3 months), the SEC staff will obtain permission from the SEC Commission to conduct a formal investigation.
In a formal investigation, the SEC must issue a formal order outlining the specific federal securities provisions they believe you violated. However, even after a formal order is issued, the investigation’s focus is fact-finding, and parties have not yet been accused of any wrongdoing. If you did not receive a formal order, have your counsel request one; with it, an experienced securities attorney can usually determine why you were flagged by the SEC.
The SEC will issue subpoenas requiring numerous documents and witness testimonies. Witnesses are interviewed, under oath, by SEC staff, in the presence of a court reporter. Note however that because any statement made to SEC staff may be used in the investigation, the witness is never “off the record.” The SEC is not confined to the parameters of the formal order, nor are they limited in the number of documents or witnesses they can subpoena, so it is not uncommon for the formal investigation to go on for several months.
Toward the end of the investigation, the SEC will issue a document called a Well’s Notice. It identifies the staff’s conclusions regarding regulations that were violated and informs you that the staff intends to recommend enforcement proceedings against you. You have the option to draft a Well’s Submission disputing the staff’s conclusions. This document is an opportunity to persuade the SEC decision-makers directly. However, the decision to draft a Well’s Submission should be thoughtfully considered with your attorney in that the document will become public record and be eligible as evidence in future civil litigation by private citizens.
Following the investigation, SEC staff will present their findings to the SEC Commission for review. The Commission may authorize the staff to file a case in federal court or bring an administrative action; oftentimes, the Commission and the party charged settle the matter without trial. Note that ultimately, the conclusion of the investigation is heavily determined by the impressions of the SEC staff (and subsequent recommendations to the Commission) regarding your credibility, malice, and injury to investors. Recommended actions can vary from a fine, to a cease and desist order, to referring the case to the DOJ if they suspect criminal violations—which may lead to prison time.
If you suspect criminal liability, lock in an experienced criminal attorney, and protect yourself; and expect to put your life and business on hold. Otherwise, retain a securities attorney, and focus on maintaining credibility, and proactively and thoughtfully cooperating.
Retain a Securities Attorney
Not only is a securities attorney knowledgeable about this corner of the law and SEC investigation procedures, but the securities bar is small, and your attorney will have access to resources and information you do not. They can often deduct the scope and direction of the investigation based upon the Formal Order and communication with SEC staff attorneys. In addition, most document requests are extensive and burdensome, and your attorney can negotiate the request with SEC staff to mitigate the time/money spent on collecting, reviewing and submitting documents to the SEC. It is not uncommon for SEC staff to reach out to investigation subjects on a casual phone call, then use the conversation as evidence. It is important to maintain a buffer between you and the SEC to protect you and control information. Finally, an attorney can assist you in keeping your business legally compliant so it can maintain its operations during the investigation.
At this point, you do not want to add “process” violations (including lying to SEC staff, perjury and obstruction of justice) to your original regulatory violations. Martha Stewart after all did not go to prison for insider trading, but for lying to the SEC. You can be convicted of lying to the SEC, even if you are found innocent of the underlying securities offense. Similarly, once you are contacted by the SEC, do not destroy or alter documents, or influence the testimony of witnesses (18 U.S.C. §1512); being accused of destroying evidence during an investigation can be worse than the outcome of the original investigation. The more behaviors that show malice on your part, the more likely it is that the SEC refers your case to the DOJ for criminal prosecution.
Goodwill is critical in this process. The SEC staff you are working with will likely be deciding the outcome of the investigation, including fines, cease and desist orders and the future of your business. It is important to work with your attorney to respond promptly and exactly to all document subpoena requests, be forthright and direct in depositions, and proactively share a succinct narrative of your business dealings, rather than making the SEC staff dig for pieces to put together. Show them you prioritize your investors, just like they do. Further, have your securities attorney assess and mitigate regulatory mistakes (such as registration, fundraising, disclosure issues) on an ongoing basis to show above-board good faith efforts to comply with SEC regulations.
Remember that receiving an SEC subpoena does not mean you have done anything wrong. Most people are subpoenaed as witnesses, or to help the SEC gather information, not as targets of an investigation. The goal in this process is to assist the SEC in gathering data, while avoiding liability. This requires thoughtful preparation and the assistance of an experienced securities attorney.
Whitney De Agostini specializes in representing witnesses and businesses in SEC and other regulatory investigations. The team of securities attorneys at Wilson, Bradshaw & Cao, LLP assist clients through every step of this process. Whitney can be reached at firstname.lastname@example.org, or 801-368-8297.
 https://www.sec.gov/Article /whatwedo.html
 SEC v. Michael G. Sargent, et al., SEC Lit. Rel. No. 16373 (Nov. 29, 1999).