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Initial Decision of an SEC Administrative Law JudgeIn the Matter of
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In the Matter of CLARKE T. BLIZZARD and
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INITIAL DECISION June 13, 2003 |
| APPEARANCES: | Linda B. Bridgman and Sandra J. Bailey for the Division of Enforcement, Securities and Exchange Commission
Marc B. Dorfman and Adam J. Eisner of Foley & Lardner for Respondent Clarke T. Blizzard Respondent Rudolph Abel pro se |
| BEFORE: | Carol Fox Foelak, Administrative Law Judge |
SUMMARY
This Initial Decision sanctions Clarke T. Blizzard, formerly associated with Shawmut Investment Advisers, Inc., for his role in marketing its money management services to Local 710 of the International Brotherhood of Teamsters. After concluding that Shawmut violated the antifraud provisions, and Blizzard aided and abetted the violations, the Initial Decision fines Blizzard $100,000, orders him to disgorge ill-gotten gains of $548,233, suspends him from association with an investment adviser for ninety days, and imposes a cease-and-desist order. The Initial Decision clears Rudolph Abel of all charges against him.
I. INTRODUCTION
A. Procedural Background
The Securities and Exchange Commission (Commission) initiated this proceeding by an Order Instituting Proceedings (OIP) on September 9, 1999.1 The proceeding was authorized against Respondents Clarke T. Blizzard and Rudolph Abel pursuant to Sections 203(f) and 203(k) of the Investment Advisers Act of 1940 (Advisers Act). The proceeding was stayed between May 25, 2000, and May 3, 2001, at the request of the United States Attorney for the Northern District of Illinois pending the prosecution of United States v. William V. Close, et al., Criminal Case No. 00 CR 288-CRN (N.D. Ill.).2 See Michael J. Rothmeier, 72 SEC Docket 1471 (A.L.J. May 25, 2000); Michael J. Rothmeier, Admin. Proc. No. 3-10007 (A.L.J. May 3, 2001) (unpublished). Thereafter, the hearing was postponed because of a criminal trial against a Respondent, and then again because of two interlocutory rulings that the Commission reviewed. See Clarke T. Blizzard, 77 SEC Docket 1505 (Apr. 23, 2002) (ruling on subpoena issue); Clarke T. Blizzard and Rudolph Abel, 77 SEC Docket 1515 (Apr. 24, 2002) (disqualifying Respondent Abel's then-attorney from representing him in this proceeding). The Commission recognized that this would cause further delay. See Abel, 77 SEC Docket at 1520.
The undersigned held eight days of hearings in Boston, Massachusetts, October 15-24, 2002, and three days of hearings in Washington, D.C., November 12-13 and 18, 2002. The Division of Enforcement (Division) called sixteen witnesses from whom testimony was taken, including Respondents Blizzard and Abel. Respondents Blizzard and Abel did not call any witnesses in their direct cases. A large number of exhibits were admitted into evidence.3
The findings and conclusions in this Initial Decision are based on the record. Preponderance of the evidence was applied as the standard of proof. See Steadman v. SEC, 450 U.S. 91, 97-104 (1981). Pursuant to the Administrative Procedure Act, 5 U.S.C. § 557(c), the following posthearing pleadings were considered: (1) the Division's March 13, 2003, Proposed Findings of Fact and Conclusions of Law and March 17, 2003, Post-Hearing Brief; (2) Respondent Blizzard's April 25, 2003, Proposed Findings of Fact and Conclusions of Law and Post-Hearing Brief; (3) Respondent Abel's April 24, 2003, Proposed Findings of Fact and Conclusions of Law and Post-Hearing Brief; and (4) the Division's May 8, 2003, Reply Memorandum. All arguments and proposed findings and conclusions that are inconsistent with this Initial Decision were considered and rejected.
B. Allegations and Arguments of the Parties
The OIP alleges that Clarke T. Blizzard and Rudolph Abel aided and abetted and caused violations by Shawmut Investment Advisers, Inc., (Shawmut) of the antifraud provisions of the Advisers Act - Sections 206(1) and 206(2). Shawmut allegedly violated those provisions because it failed to disclose to its clients that it used brokerage commissions generated from client transactions, or soft dollars, to compensate brokers for client referrals. The allegations involve two courses of conduct concerning Shawmut's soft dollar practices. The "research broker" allegations concern Shawmut's directing trades to several broker-dealers in return for client referrals. The "Local 710" allegations concern arrangements by which Shawmut obtained accounts from the International Brotherhood of Teamsters (IBT) Local Union 710 pension plan (Local 710).
The OIP alleges that Shawmut, its predecessor, and successor employed Blizzard as vice president for sales and marketing from May 1993 to May 1996 to market Shawmut's asset management services to large institutional investors, primarily pension plans. The OIP alleges that shortly after his arrival, he requested Shawmut to include on its list of research brokers certain brokers that had been helpful to him in obtaining new clients and to direct client transactions to these brokers. The OIP alleges that he persisted in this, despite advice that the research these brokers produced was insufficient, and caused Shawmut to direct trades to these brokers beginning in 1993. The OIP also alleges that Shawmut and its predecessor employed Rudolph Abel as Chief Investment Officer (CIO) from January 1992 until September 15, 1994. From mid-1993 until his departure, the OIP alleges, Abel improperly directed Shawmut's traders to direct trades to the brokers that Blizzard recommended.
In a separate course of alleged wrongdoing, the OIP alleges that Blizzard arranged with Christopher P. Roach to obtain Local 710's accounts for Shawmut in return for Shawmut's directing a specified amount of brokerage commissions to Roach's broker-dealer, East West Institutional Services, Inc. (East West). Abel is not involved in the Local 710 allegations.
The OIP alleges that a total of $1 million in equity commissions and fixed income mark-ups and markdowns was directed to East West, and $842,702 in commissions was directed to the other brokers that Blizzard selected. The OIP alleges that Blizzard received $3,385,047 in sales commissions during the time at issue. The Division requests that Blizzard be barred from association with an investment adviser and be ordered to cease and desist from further violations and to pay disgorgement of $2,026,006 and a civil penalty of $200,000. The Division requests that Abel be barred for three to five years from association with an investment adviser and be ordered to cease and desist from further violations and to pay a civil penalty of $50,000.
Respondents deny any wrongdoing and urge that the proceeding be dismissed.4
II. FINDINGS OF FACT
A. Shawmut
Shawmut, Respondents' employer, was an investment adviser registered with the Commission pursuant to Section 203(c) of the Advisers Act through December 31, 1995, when it went out of existence after its parent corporation was acquired by Fleet Financial Group, Inc., which had its own investment adviser subsidiary. 10/17 Tr. 111-12; Ex. 3. Thereafter the combined entity was known as, and registered as an investment adviser with the Commission as, Fleet Investment Advisers, Inc. (Fleet). Ex. 3. From its start in 1984 until October 29, 1993, Shawmut was known as One Federal Asset Management, Inc. (OFAM). Ex. 2D; Ex. 150 at 10-11. Shawmut's parent, Shawmut National Corporation, was a large New England financial institution listed on the New York Stock Exchange. 10/18 Tr. 117, 10/21 Tr. 118. The parent corporation had a compliance department because of the need to comply with various state and federal banking and securities laws. 10/21 Tr. 118-19. By virtue of its history, in which its parent acquired what was once known as Connecticut National Bank, Shawmut had offices in Boston, Massachusetts, and Hartford, Connecticut. 10/21 Tr. 131. Also because of that history, there were turf battles, and unpleasant memories of people terminated in Boston when the investment operations in Hartford and Boston were integrated, and it was a challenge to get the people to work together. 10/21 Tr. 131-34. Shawmut had numerous competitors in the investment advisory business, including Fleet, before the takeover. 10/21 Tr. 121.
An investment adviser manages the portfolios of its clients - in the instant case, several pension funds. The investment adviser makes investment decisions and then executes the transactions through broker-dealers that, usually, it chooses. As a fiduciary it must obtain the best price and execution for its clients. Best price and best execution include inventory in the case of bonds and can include inventory for large equity transactions or thinly traded stocks. 10/16 Tr. 232-33, 10/17 Tr. 148. However, an investment adviser may pay more than the minimum price to a broker-dealer that provides "research," using a practice known as "soft dollars," which are a means of paying brokerage firms for their research, as well as execution, services through commissions, rather than through direct hard cash payments.5 An investment adviser may use soft dollars, or brokerage commissions, to pay the broker through which it executes transactions in client accounts for the broker's proprietary research, or the research may originate with a third-party vendor, for example, Bloomberg, that the broker compensates.6 10/18 Tr. 68-69. At times, a small firm's research or execution services can be better than those provided by a large, well-known firm, such as Merrill Lynch. 10/21 Tr. 114-15. Shawmut's Form ADV disclosed that it directed brokerage commissions to obtain research services.7 Ex. 1 at LIT31454, Ex. 2K at F439-40. During the time at issue, vast quantities of "research," some of which was potentially valuable, arrived daily by mail from brokers; one receptionist was fully occupied all day opening it. 10/17 Tr. 143-44.
Shawmut executed trades with numerous broker-dealers during the time at issue. 10/21 Tr. 120-21. Shawmut set a "budget," in dollars, allocating brokerage commissions to selected broker-dealers; the allocations were targets for Shawmut's traders in selecting broker-dealers to execute transactions in client accounts. Ex. 147 at 35-36. There were also client-directed trades, pursuant to a client's direction letter telling Shawmut where to direct commissions for its accounts. 10/15 Tr. 147.
There were three components of the commission allocation budget, the retainer amount, chits, and specific research services. First, the retainer amount was a portion of the budget allocated to brokerage firms that provided recurring research that was recognized through commissions on an ongoing basis to provide a continuous incentive for research. 10/18 Tr. 70; Ex. 75, Ex. 147 at 40, Ex. 148 at 35. The head of research coordinated the input for the retainer portion. 10/15 Tr. 129, 10/21 Tr. 170-73; Ex. 148 at 35. Second, "chits" allowed an analyst or portfolio manager to recognize, on a one-time basis, a good idea from a source that was not on the commission list; a request to allocate up to $10,000 to the source would be signed by the head of research and the CIO. 10/18 Tr. 69-70; Ex. 75, Ex. 147 at 101, Ex. 148 at 35. The CIO decided how much would be available for chits. Ex. 148 at 35. Third, specific research services were purchased for a specific amount of soft dollars. Ex. 75, Ex. 148 at 35. The equity trading desk coordinated the pieces that were requested for specific services. Ex. 148 at 35-36. All those inputs were merged into a budget and fine-tuned by a Commission Allocation Committee (CAC) against the following year's estimated commissions. Ex. 148 at 35-37.
The allocation process was flexible, particularly for the retainer portion, and akin to "horse-trading," as shown in the way it was described by several witnesses as to selection of brokers and amounts of commissions to be directed to each. 10/15 Tr. 85, 87-88, 116-18, 10/17 Tr. 164, 10/18 Tr. 30-33, 10/21 Tr. 14, 168-70, 177, 181, 188-92, 10/22 Tr. 40-41, 67, 70; Ex. 148 at 35 et seq. While some brokers were allocated higher amounts than others, in no way was there a precise calculation of the value of each broker's research. 10/22 Tr. 40; Ex. 67. Shawmut's portfolio managers and research analysts voted on brokers they wanted to recognize; the votes were weighted and tallied and a budget put together for the retainer portion. 10/21 Tr. 167-69, 190-92; Ex. 148 at 37. The research analysts had a set of criteria that they used to select brokers. 10/21 Tr. 167, 169-70. The criteria included access to the source of the research for follow-up discussions. 10/21 Tr. 167, 183. Periodically, as often as monthly, the trading activity was compared with the budget. 10/17 Tr. 165-66.
The CAC evolved from casual, semi-annual meetings to monthly, more structured meetings in the summer of 1994. 10/17 Tr. 155-56, 158-59, 10/22 Tr. 147-48; Ex. 5 at F519, Exs. 8-18. Any professional employee was welcome to attend. 10/21 Tr. 89-90. Compliance personnel began to attend the meetings during the summer of 1994. 10/21 Tr. 135, 150. Originally the participants were all located in Hartford; as it expanded, participants in Boston joined by conference call. 10/22 Tr. 147.
Shawmut set a schedule of commission rates that it would pay to brokers (based on what similar institutions were doing and periodically reviewed to make sure they were competitive). 10/18 Tr. 117-18; Ex. 148 at 67. Therefore, commission rates did not play a role in obtaining the best execution price; Shawmut's price was set. Ex. 148 at 67.
B. Respondents
Respondent Rudolph Abel, born in 1936, was employed at Shawmut or its predecessors from 1985 to September 16, 1994. 10/17 Tr. 6, 115-16, 126; Ex. 2J at F17545. His primary office was in Hartford. Abel was President and CIO of Shawmut or its predecessor, OFAM, from January 1992 to October 1993, when Michael Rothmeier replaced him as President. 10/17 Tr. 120, 126, 128; Exs. 2A-2E, Ex. 2J at F17545. Abel resigned in January 1994 but stayed on as acting CIO until a replacement could be installed. 10/18 Tr. 142. Since leaving Shawmut, he has been employed as a portfolio manager at Jamison, Eaton & Wood, Inc., an investment adviser in Chatham, New Jersey. 10/17 Tr. 6. During the 1993-94 period he reported to Rothmeier or Gunnar Overstrom. 10/21 Tr. 115.
The heads of Shawmut's portfolio management groups, the research department, and fixed income and equity trading reported to Abel as CIO; there were over 125 employees in these groups in Hartford and Boston. 10/17 Tr. 129, 134. Abel chaired the CAC until his departure from Shawmut and had ultimate responsibility for commission allocations and for the commission allocation budget. 10/17 Tr. 135-36, 10/21 Tr. 164-65. Abel's view of the Safe Harbor provision of Section 28(e) of the Exchange Act is that (unless the client has directed the use of specific brokers) the investment adviser's obligation is to get the best price for effecting a transaction, and that, among brokers that offer the best price, the adviser can use research, or information as Abel refers to it, among the considerations in deciding which brokers to do business with.8 10/17 Tr. 137-46. Abel prefers the term "information" because "research" implies an extensive project whereas a flow of smaller pieces of information is important in making investment decisions. 10/17 Tr. 141-47.
To the extent that Abel attended CAC meetings during his lame duck period, he was not proactive. 10/15 Tr. 113. Abel has a reputation for the highest standard of character and integrity among those with whom he worked. 10/16 Tr. 234, 10/18 Tr. 145, 10/22 Tr. 99, 208, 10/24 Tr. 40. Shawmut employees David Rajala and James Bixler, although critical of the soft dollar practices at issue, asked him for references in the late 1990s, after the events in question. 10/22 Tr. 47, 207.
Respondent Clarke Blizzard, born in 1954, began working in the investment advisory industry in 1980. 10/15 Tr. 50-51, 55. He joined Shawmut, then known as OFAM, on April 29, 1993, and left Fleet on May 7, 1996. 10/15 Tr. 63-66; Ex. 201. He was located in Boston. 10/15 Tr. 66. His title was Senior Vice President and then Managing Director; his primary responsibility was for sales and marketing. 10/15 Tr. 66. Blizzard was a star salesman who was hired to increase Shawmut's business and brought in more new business than any other salesman at Shawmut. 10/16 Tr. 181, 10/22 Tr. 15, 29, 213-14, 10/24 Tr. 91, 125; Exs. 204, 205. He described his role in the sales process as a "door-opener" for a meeting with a potential client, at which a portfolio manager would provide detail on the services that Shawmut proposed to provide. 10/15 Tr. 67. Blizzard was a member of the CAC for a time, and also attended its meetings regularly when he wanted to add a broker to the list. 10/15 Tr. 102-05, Exs. 11a, 13a, 14, 15, 16-B, 17-B, 18-C. Blizzard had no responsibility or function with respect to preparing or reviewing Shawmut's Form ADV. 10/21 Tr. 120. Shawmut paid Blizzard a $110,000 base salary, a signing bonus of $35,000, and a bonus of $30,000 for each quarter for the first three quarters after joining Shawmut; additionally he was to receive fifty-five percent of first year fees for assets he brought under management in excess of $200,000. 10/15 Tr. 69-70; Ex. 201. Since leaving Fleet he has worked at a subsidiary of American Express, marketing investment products of American Express and some other companies to large institutional funds. 10/15 Tr. 52-53.
C. Shawmut, Fleet Associated Persons and Others
Michael Rothmeier was the President and Chief Executive Officer (CEO) of Shawmut. 10/15 Tr. 63, 10/17 Tr. 121-22. He recruited Blizzard. 10/15 Tr. 63, 10/22 Tr. 213-14. Rothmeier approved Blizzard's request to become a member of the CAC. 10/17 Tr. 188-89, 10/15 Tr. 102. Rothmeier was asked to resign following the events at issue. 10/16 Tr. 113-14.
James Bixler has been employed with Fleet and its predecessors, off and on, since 1979. 10/22 Tr. 120-21. During the time at issue until October 1995, he had responsibility for oversight of equity trading, managed the performance measurement function, and had some compliance functions. 10/21 Tr. 45, 10/22 Tr. 122-23; Ex. 148 at 21-28. He reported to Abel, and, after Abel left, to Donald Berry. 10/22 Tr. 123. Four equity traders, including Daniel Willey, and two support staff reported to Bixler, trading for fifty to sixty portfolio managers. 10/21 Tr. 117-18, 10/22 Tr. 123. Bixler was a member of the CAC, and together with Willey, was the convener; normally Bixler prepared the minutes. 10/22 Tr. 124. Usually Bixler was in Hartford, but at times he was in Boston; at either location he took the minutes. 10/22 Tr. 147, 149.
Daniel Willey was employed by Shawmut in Hartford, Connecticut, as head of equity trading from October 1991 to October 1994. 10/18 Tr. 5. He supervised three traders and a trading assistant as part of his responsibilities for timely and appropriate execution and settlement of equity trades. 10/18 Tr. 6. He was also a member of the CAC. 10/18 Tr. 6. Willey's expertise in trading was widely respected. 10/21 Tr. 117.
David O. Rajala was employed by Shawmut and its predecessor and successor organizations from 1971 to January 1996. 10/21 Tr. 156-58. At one point he was President of OFAM. 10/21 Tr. 157. During a reorganization known as the Saturday Night Massacre, Rajala's position was eliminated, but, with Abel's assistance, he was appointed director of equity research, located in Hartford. 10/21 Tr. 131-34, 157. He reported to Abel until Abel's departure in September 1994, then to Berry, and, after the Fleet acquisition, to Thomas O'Neill. 10/21 Tr. 158. During the time at issue, a credit analyst and four to six equity analysts reported to him. 10/21 Tr. 159. He was responsible for providing recommendations and information (research) to equity portfolio managers at Shawmut. 10/21 Tr. 159-60. His duties included identifying "research brokers," that is brokers to which Shawmut allocated business because of research of some sort that they provided. 10/21 Tr. 160-61. He was also a member of the CAC. 10/21 Tr. 162.
Maureen O'Malley had compliance responsibilities for Shawmut. 10/16 Tr. 221, 225, 10/18 Tr. 132, 10/21 Tr. 45. Bud Fuller was the compliance officer for the investment adviser. 10/18 Tr. 132, 10/22 Tr. 176. As such he oversaw the compliance activities of Bixler and Maureen O'Malley. 10/22 Tr. 176; Ex. 231. During the time at issue Maureen O'Malley was responsible for coordinating the compilation of data for Shawmut's Forms ADV. 10/22 Tr. 218. She knew of Blizzard's requests for brokerage allocations. 10/22 Tr. 159, 218. Mark MacDonnell, who reported to Fuller, also had compliance responsibilities. 10/22 Tr. 60, 181; Ex. 69.
Donald C. Berry was acting CIO after Abel left Shawmut, until the Fleet acquisition. 10/15 Tr. 137, 10/21 Tr. 158, 10/22 Tr. 34; Ex. 2J at F17541-44. As such he became head of the CAC.
Michael Spencer was employed at Shawmut from 1986 to July 1995 as senior portfolio manager and acting director of fixed income. 10/16 Tr. 180-81. He reported to CIOs Abel and Berry. 10/16 Tr. 181.
Perry Macrohon, a lawyer, was employed at the Shawmut Bank and its predecessors from 1967 to February 1995, when he was told that his position was eliminated. 10/24 Tr. 7; Ex. 149 at 17-19. He worked in Hartford for the bank's trust department. 10/24 Tr. 7-8. As a trust attorney, his duties and responsibilities included reviewing contracts and other documents related to trusts before an officer of the bank signed them. 10/24 Tr. 9. He also provided interpretations of legal documents for trust administrators. 10/24 Tr. 10. He was not a securities lawyer and was not familiar with the content of Shawmut's Form ADV disclosure. 10/24 Tr. 32, 34.
Bernard Welch was trust counsel for the Shawmut Bank, in Boston, from 1970 until he retired at the end of December 1995. Ex. 150 at 5-6. His duties were to review all documents, agreements, trusts, wills, and pension agreements that the bank signed, pursuant to a requirement of the Controller of the Currency that counsel review all contracts that the bank signed in the trust area. Ex. 150 at 6-7. He also reviewed investment adviser agreements if they were not on Shawmut's standard forms. Ex. 150 at 11-12, 27-28. Welch disapproves of Section 28(e) of the Exchange Act and of soft-dollar arrangements generally. Ex. 150 at 46-48. He did not know whether Shawmut had soft-dollar arrangements. Ex. 150 at 46-48.
Thomas O'Neill has been in the investment advisory business since 1977. 10/24 Tr. 76-78, 82-84. He joined Fleet as President, CEO, and CIO on September 11, 1995, just prior to the merger with Shawmut. 10/24 Tr. 85-87. He continued the same responsibilities for the merged entity as of January 1, 1996, when Shawmut went out of existence. 10/24 Tr. 87-88.
Peter M. "Murphy" Vandervelde was managing director and head of equity trading at Fleet from the end of December 1995 to July 2000; he was offered the position in November 1995. 10/23 Tr. 89-90, 165-66. He has been employed in the investment industry since he graduated from college in 1987. 10/23 Tr. 85-86, 89-90, 134-35.
Michael Fee is a partner in the Ropes & Gray law firm. In April 1996, Fleet retained Ropes & Gray to investigate brokerage commission allocation practices. 10/17 Tr. 10-12. Fleet was concerned because Shawmut's Form ADV had not disclosed allocating brokerage commissions on the basis of sales assistance. 10/17 Tr. 13. Blizzard was a focus of the investigation. 10/17 Tr. 12-13. Fee testified that Blizzard's demeanor at the interview was hostile. 10/17 Tr. 22-23. Blizzard said that Fleet was threatening his family's livelihood, that Fleet had created a perception in the marketplace that he had broken his word by ceasing to send commissions to brokerage firms to which he had promised business, and that Fleet owed him a large sum of money. 10/17 Tr. 23-24. Nonetheless, Fee testified, Blizzard answered Fee's questions. 10/17 Tr. 22-23. Fee's account of Blizzard's answers to his questions generally accords with Blizzard's testimony in this hearing. 10/17 Tr. 24-46, 74-89; Exs. 108(a), (b), (c).
In 1999, Federal Bureau of Investigation (FBI) Agent Stuart Robinson, in conjunction with the Department of Labor (DOL), conducted an investigation into possible kickbacks paid to trustees of IBT pension funds to influence their selection of money managers. 10/16 Tr. 128-30. Robinson, with DOL Agent Denise Long, interviewed Blizzard on October 19 and 22 and November 1, 1999. 10/16 Tr. 130-32. Robinson asked the questions and Long took notes. 10/16 Tr. 134, 161. Long drafted a report combining the three interviews, Robinson reviewed the draft and suggested corrections, and Long finalized the report and signed it. 10/16 Tr. 134-35, 161, 176. Robinson's recollection of what Blizzard said about his dealings with Roach and Local 710 largely accords with Blizzard's testimony at the hearing. 10/16 Tr. 137-53.
D. Client Referrals
Referrals are important for obtaining business in the investment adviser industry. 10/16 Tr. 125, 10/21 Tr. 128. Abel and Blizzard understood that it was not appropriate to allocate brokerage commissions solely for referrals, without research, unless the practice was disclosed to Shawmut's customers and potential customers in its Form ADV. 10/15 Tr. 84, 10/21 Tr. 27, 65. After arriving at Shawmut in 1993, Blizzard asked Abel whether certain brokers that had been helpful in the past and might provide future client referrals could be added to the list of brokers to which commissions were allocated. 10/15 Tr. 83-84, 10/17 Tr. 179, 10/21 Tr. 93-94. Abel responded that Shawmut had an open door policy for brokers trying to get on the list; he told Blizzard what he told such suppliants, that the policy of Shawmut was to do business on the basis of net realized price, trading capability, and research, and if the brokers could provide referrals, all the better. 10/16 Tr. 124-25, 10/17 Tr. 180, 10/21 Tr. 80, 82, 86, 93-94, 112, 125. Blizzard also met with Bixler and Willey to recommend brokers that were helpful, assuming that they had best execution and good research. 10/15 Tr. 79-83. Brokers that Blizzard recommended appeared on the monthly trading activity reports in 1993.9 10/17 Tr. 184-87; Ex. 64. Blizzard became a member of the CAC by July 1994. 10/17 Tr. 188-92; Ex. 11(a).
1. Blizzard Recommended, and Abel Approved, Trading Through Brokers that had Been Helpful in Obtaining Client Referrals.
Much space in the record is devoted to establishing that Blizzard recommended that Shawmut trade through certain brokers because they had been helpful in obtaining client referrals. E.g., 10/18 Tr. 8-27. However, there is no doubt, as Blizzard readily indicated, that he recommended certain brokers who had been helpful in obtaining client referrals, assuming that they had good research and best execution.10 10/15 Tr. 79-84, 128, 137-39, 10/18 Tr. 108-10. There is also no doubt that Blizzard did not have the authority to require the trading desk to use his brokers. 10/22 181-82. He promoted the brokers he recommended by lobbying the trading desk and other Shawmut personnel.11 10/21 Tr. 187-88, 10/22 Tr. 29, 182. A star salesman who had been hired to increase Shawmut's business, Blizzard knew that his previous employers, including Investment Advisors, Inc., had approved allocating commissions to brokers who had referred clients, and he did not believe the practice to be improper.12 10/15 Tr. 55-56, 134-35, 10/18 Tr. 109-10. Further, the allocation of commissions to brokers that Blizzard recommended was processed through the CAC and approved by higher Shawmut management. 10/15 Tr. 134-35. Blizzard assumed that if this was not a proper way of doing business, Shawmut management would not have allowed it. 10/15 Tr. 135.
Much space in the record is also devoted to issues of Abel's and Blizzard's attendance at various CAC meetings and adherence to or changes in Shawmut's procedures in allocating brokerage to Blizzard's brokers. E.g., 10/16 Tr. 194-206, 10/18 Tr. 6-53, 70-97 et seq. There is, however, no doubt that Abel knew that Blizzard's brokers were receiving commission allocations at least in part in recognition of client referrals and regarded this as appropriate as long as Shawmut was also receiving research and best execution.13
Including marketing considerations in allocating brokerage was a change from Shawmut's historical way of doing business. 10/22 Tr. 138. Bixler, for example, felt that the practice, although followed by some money managers, was beneath Shawmut, which upheld old-fashioned values. 10/22 Tr. 185-86. The question was thoroughly debated at Shawmut and was approved by Rothmeier; compliance as well as management participated in the process.14 10/16 Tr. 169, 10/18 Tr. 119, 10/22 Tr. 41-42, 193.
The controversy over Blizzard's brokers increased in the spring of 1994; there had always been competition in the CAC over the commission budget because various groups were competing over a "finite pie," but in 1994 the overall commission budget had to shrink. 10/17 Tr. 162-63, 10/18 Tr. 53-56, 116-17, 10/21 Tr. 111, 10/22 Tr. 25, 137-38; Ex. 8(a), 8(b). Shawmut had reduced its commission schedule, reducing the cents per share it paid on trades. 10/17 Tr. 159, 162-63, 10/22 Tr. 137-38; Ex. 147 at 77. This meant that the total dollar amount of commissions was reduced, and in addition, to accommodate Blizzard's brokers, the amount of commissions directed to brokers historically on the allocation list was reduced further. Ex. 147 at 77. The shortfall potentially affected research received from third-party vendors, but not the retainer amount of research received on a regular basis from broker-dealers. 10/18 Tr. 116-17. A number of meetings, including meetings of the CAC, were held to address the pressure put on the budget. 10/17 Tr. 194-202, 206-08; Exs. 8-19.
2. Blizzard's Brokers Provided Best Execution and Research.
There is no question that Blizzard's brokers provided best execution and that Shawmut paid them the same rates that it paid other brokers that executed its transactions. There is also no question that Shawmut received research from Blizzard's brokers. 10/16 Tr. 119, 10/18 Tr. 110-11, 114-15, 10/21 Tr. 9-10, 126, 10/22 Tr. 183, 210; Ex. 270. Abel confirmed with Bixler and Willey that there were no problems in execution or trading with Blizzard's brokers; Abel insisted that research should be received and confirmed that research was received; he considered that the trading conformed with Shawmut's policies. 10/21 Tr. 125-26, 149.
In addition to opposing Blizzard's brokers on the issue of client referrals, Rajala opposed them on the basis of the quality of research they provided.15 10/18 Tr. 37, 10/21 Tr. 133, 181, 193-94. Rajala frequently expressed concerns about the quality of research received from brokers. 10/21 Tr. 11, 23-24. He supported research that came directly to research analysts, but was inclined to criticize research from brokers that portfolio managers wanted to use. 10/21 Tr. 133, 10/22 Tr. 4-7, 10, 16-17, 30-31; Ex. 265. It was not unusual to have disagreements among portfolio managers and analysts about the value of any particular research. 10/18 Tr. 144.
Abel generally made no effort to evaluate the quality of the research from brokers, including Blizzard's brokers; it would have been a Sisyphean task, and, in any event, the value of research frequently is in the eyes of the beholder and can only be determined after the fact. 10/21 Tr. 36-38; 10/22 Tr. 42-45. Abel conveyed his subordinates' concerns about Blizzard's brokers to his superiors, Rothmeier and Overstrom. 10/21 Tr. 33-35, 67, 113, 147.
3. Shawmut's Forms ADV did not Address Client Referrals.
The Forms ADV filed by Shawmut and its predecessor, OFAM, and in effect during the period 1993 through 1995, disclosed on Schedule F, in response to Part II, Item 12-A, that it "will consider the contribution made to its investment product by the research offered by brokers when selecting brokers whose execution is acceptable." Further, it "will attempt to obtain research that will be of benefit to the largest number of accounts," but warned that in some instances an account's commissions will be used to obtain research that will not benefit that particular account. Ex. 1 at LIT31453, Exs. 2A-2J, Ex. 2K at F439, Ex. 2N at F496.16 The responses to Part II, Item 12-A did not address client referrals: they did not disclose that, if execution and research were otherwise acceptable, client referrals would also be considered in selecting brokers, nor did they represent that client referrals would not be considered.
4. Abel was not Present at the September 15, 1994, CAC Meeting.
The CAC adopted an exception procedure at its September 15, 1994, meeting; it specifically authorized the CIO to approve additions to the allocation list. 10/22 Tr. 195-96; Ex. 14. The exception procedure was developed to deal with Blizzard's brokers, to provide a formal means to authorize trading with them if they were not on the pre-existing CAC allocation list. 10/22 Tr. 213. It is found that Abel was not present at the CAC meeting of September 15, 1994, the day before his last day at Shawmut. At most, he may have visited the meeting briefly, but had no influence on the decisions taken. The minutes of the meeting indicate that he was present. Ex. 14. However, the minutes do not provide a reliable indication of those present. No formal roll call was taken, the minutes do not distinguish those who looked in briefly from those who attended the entire meeting, and Bixler could not see all of the participants. 10/22 147-49. Abel does not recall being present. 10/17 Tr. 208-09, 10/21 137-38. No one who was there can recall his being there or his saying anything. 10/15 Tr. 113 (Blizzard), 10/18 Tr. 143 (Willey), 10/22 Tr. 206-07 (Bixler). Finally, it is not believable that an individual who was expected to leave an organization on September 16 would have any influence on the organization's decisions on September 15.
E. Blizzard Won New Accounts
During 1993, 1994, and 1995, Blizzard brought several accounts under Shawmut management. These included accounts of the Retirement Board of the Employees Retirement System, Providence, Rhode Island (Providence or Retirement Board), the Ohio Police and Firemen's Disability and Pension Fund, and Teachers Retirement System of Louisiana (TRSL), as well as Local 710.
1. Providence
Blizzard won three Providence accounts. 10/15 Tr. 140-42; Exs. 43, 45, 46. The contracts, which were negotiated and signed on Shawmut's behalf by Blizzard, contained an acknowledgement by Providence that it had received Part II of Shawmut's Form ADV. Ex. 43 at F3994, Ex. 45 at F4110, Ex. 46 at F4062. James Quattrocchi was a trustee on the Retirement Board. 10/15 Tr. 86. He voted against Shawmut when the accounts were awarded, as he favored Fleet, at that time a competitor of Shawmut. 10/15 Tr. 97-98, 149, 153. Providence required investment advisers that it hired to do business with Quattrocchi. 10/15 Tr. 97, 147, 149-51. Tom D'Amico, chairman of the Retirement Board, orally advised Shawmut that commissions should be directed to Quattrocchi, but that they should be allocated from trades for accounts unrelated to Providence. 10/15 147-49, 151; Ex. 63. The CAC knew of the relationship between Providence, Quattrocchi, and the direction of commissions to him. 10/15 Tr. 161-62.
2. Ohio Police and Firemen's Disability and Pension Fund
The Ohio Police and Firemen's Disability and Pension Fund provides retirement, disability, survivor, and health care benefits for all Ohio municipalities' police officers, firefighters, and their beneficiaries. 10/18 Tr. 154. In 1994 the fund had $4.5 billion in assets. 10/18 Tr. 157. A nine-member board of trustees, which included trustees Patrick White and McCullough Williams, supervised the fund and selected money managers. 10/18 Tr. 155, 164; Ex. 134. Theodore Hall, the fund's long-time CIO, provided information and advice to the board. 10/18 Tr. 153-55.
The board involved Callan Associates (Callan) in its 1994 search for a money manager for a small cap portfolio; Callan invited and screened applicants and provided the board with a list of finalists and its recommendations. 10/18 Tr. 160-62. Blizzard believed, incorrectly, that Callan included Shawmut among the finalists. 10/15 Tr. 183-84, 10/17 Tr. 40-41. The board's minutes for March 28 and 29, 1994, reflect that Callan recommended that the choice be made among four finalists, none of which was Shawmut. 10/18 Tr. 162-63; Ex. 134. The board deleted two contenders from Callan's list and added three, including Shawmut, for finalist presentations. 10/18 Tr. 163; Ex. 134. On March 30, the board awarded Shawmut a contract to manage a $112.5 million small cap value equity portfolio; the vote awarding the contract to Shawmut was five, including White and Williams, to three. 10/18 Tr. 167; Ex. 135 at LIT 12626.
After Shawmut won the contract, Blizzard dealt with Hall. 10/18 Tr. 156-57. Blizzard and Hall signed the contract on May 19, 1994. 10/18 Tr. 156; Ex. 47. Hall sent Blizzard a direction letter, dated May 31, 1994, stating that the fund was directing up to twenty percent of the brokerage commissions generated by transactions for its accounts to Alpha Management, Inc., as soft dollar payments for Callan's benefit, and to Capital Institutional Services (CIS), as soft dollar payments for research services provided by Institutional Research Services. 10/15 Tr. 166, 10/18 Tr. 156-60; Ex. 87. Hall provided no other instructions concerning brokerage, and had no other discussions with Blizzard concerning soft dollars. 10/18 Tr. 158-60. Peter Larson, Shawmut's small cap value portfolio manager, who made the presentation and managed the portfolio, agreed there were no other instructions concerning directed brokerage. 10/22 Tr. 66, 71-74.
Blizzard, however, requested from Shawmut that trustee White of Maxus Investments, Tim Hyland of McDonald & Co., who knew trustee White, and trustee Williams of Pryor Govan receive brokerage in connection with this client.17 10/15 Tr. 162-69, 10/18 Tr. 168-69, 179. At the hearing Blizzard maintained that these firms received brokerage because of an Ohio requirement that a certain percentage of brokerage go to Ohio firms and to minority firms. 10/15 Tr. 164. The fund had no such requirement.18 10/18 Tr. 158.
Blizzard did not disclose to Hall, and Hall was unaware, that Shawmut directed brokerage to any broker because of his assistance to Blizzard in obtaining the fund's account or that Shawmut directed brokerage at all to brokers selected because of their assistance to Blizzard. 10/18 Tr. 167-68, 178-79. Blizzard disclosed to trustees Tom Bennett, Ray Gallagher, and Elmer Kahl that Hyland was receiving commissions from Shawmut in part because of his assistance in obtaining the account.19 10/15 Tr. 169. Fleet still has the fund's account. 10/18 Tr. 180-82.
3. TRSL
TRSL is a pension plan covering about 190,000 active and 40,000 retired teachers in Louisiana. 10/24 Tr. 45. Although investment advisers manage its funds, it trades internally, as Blizzard knew. 10/15 Tr. 172, 182, 10/24 Tr. 57. That is, when an investment adviser decides on a transaction for the TRSL's account, it calls the TRSL's trading staff, which places the trade through a broker or brokers of TRSL's choice. 10/24 Tr. 56-57. TRSL also arranges with its brokers to recapture commissions to obtain the lowest possible transaction cost; that is, it pays the going rate of, for example, six cents a share for transactions, and at the end of the month or quarter, the broker pays TRSL a rebate at the rate of, for example, three cents a share. 10/24 Tr. 58-59.
During 1995, TRSL conducted a money manager search for four portfolios, including mid cap equity. 10/24 Tr. 46-47. Blizzard obtained the $100 million mid cap equity account in July 1995. 10/15 Tr. 169-70; Ex. 57.
TRSL had a pension fund consultant, Holbein Associates, of Dallas, and no other consultants. 10/24 Tr. 47. Ron Salyer of Smith Barney did not provide consulting or any other type of service to the fund. 10/24 Tr. 47. Salyer assisted Blizzard, however, by introducing him to a board member, which helped get his foot in the door, enabling him to participate in the competitive bidding process. 10/15 Tr. 174-75. Blizzard, Rothmeier, and portfolio manager Annette Hellmer attended the presentation to TRSL. 10/24 Tr. 56. Blizzard did not disclose to the account that Shawmut directed brokerage to Salyer in connection with introducing him to the account.20 10/15 Tr. 182-83, 10/24 Tr. 60.
As part of TRSL's vetting process for Shawmut's mid cap equity proposal, it obtained confirmation from Shawmut that Shawmut had no "formal or informal solicitor agreement or any like agreement (finder's fee, etc.) with any individual or firm . . . result[ing] in the receipt of any compensation . . . by that individual or firm resulting from activities that culminate in [Shawmut's] selection . . . to provide investment services." 10/24 Tr. 49-52; Ex. 132. TRSL obtained such assurances from money managers to preclude undue influence on TRSL trustees or staff to lobby for a particular firm outside the decision-making process. 10/24 Tr. 50-55. To obtain this assurance TRSL directed a letter, dated May 16, 1995, to Berry; Shawmut's June 1, 1995, reply was signed by Wade A. Fox, Marketing Officer. Ex. 132.
F. Local 710
The Local 710 Pension Fund is a defined benefit plan covering thousands of retirees and active employees, mostly in the trucking business. 10/23 Tr. 5-6, 66. At the time at issue, the Pension Fund was governed by six trustees, William Close, Robert Baker, and Mike Murphy representing employers, and Frank Wsol, Hugh Corcoran, and Bill Joyce representing the union. 10/23 Tr. 6, 8-9. Baker, who also sat on the Central States Southeast/Southwest Areas (Central States) Health, Welfare and Pension Fund Board, was the only trustee with investment experience. 10/23 Tr. 9, 66, 68. Local 710's Pension Fund had about $1 billion in assets, and the Central States pension fund was over ten times as large. 10/23 Tr. 9, 21.
In the 1980s the Local 710 Pension Fund was managed internally and wholly invested in Government National Mortgage Association notes (GNMAs), which it held until redemption. 10/23 Tr. 8, 44. During the 1990s the trustees decided to diversify and to hire professional money managers. 10/23 Tr. 8. They established an Investment Committee, consisting of Baker, Close, and Corcoran, to screen money managers for their consideration. 10/23 Tr. 10-11, 67. Through 1994 Baker decided which money managers the Investment Committee would interview. 10/23 Tr. 10-11, 68. During that period the trustees went along with all of Baker's recommendations concerning money managers. 10/23 Tr. 11.
In December 1994 the trustees decided to hire a pension fund consultant to recommend money managers, and interviewed two candidates, Smith Barney and Performance Analytics. 10/23 Tr. 11-13. In January 1995 they hired the consultant recommended by Baker, Performance Analytics. 10/23 Tr. 12, 15. Local 710 paid Performance Analytics's fee in hard dollars. 10/23 Tr. 15. The Local 710 Pension Fund did not have any arrangements to direct brokerage to pay Performance Analytics or its representative Les Golembo. 10/23 Tr. 16.
Chris Woessner, a salesman at investment adviser Duff & Phelps, introduced Blizzard to Roach in October 1994, telling him that Roach could help him get an account with the IBT pension funds.21 10/16 Tr. 5-6, 10-12. Blizzard understood from Roach that, to gain his assistance in obtaining IBT accounts, it first would be necessary for Shawmut to set up an account to trade through Roach's broker-dealer, East West. 10/16 Tr. 6-9, 12-13, 15, 21. Blizzard told Roach that for Shawmut to direct commissions to East West, it would be necessary to have a letter of direction from the client or to receive research in addition to best execution. 10/16 Tr. 21, 23. Roach told him there would be no direction letter. 10/16 Tr. 21. East West, did not have a trading desk; the trades were sent to its designated clearing brokers; after the clearing brokers executed and cleared the trades, they apportioned part of the commission to East West; the research came from the clearing brokers as well. 10/16 Tr. 13-14, 16, 10/18 Tr. 111-14. At a second meeting a few weeks later, Roach identified $125 million in equity assets of Local 710 pension funds as an account that he would help Blizzard obtain. 10/16 Tr. 16-19. Roach also told him that to obtain business from Local 710, he would have to make a presentation through Golembo. 10/16 Tr. 18. Blizzard returned to Boston, advised Rothmeier of his discussion with Roach, and made a presentation to the CAC urging that East West be added to the broker allocation list. 10/16 Tr. 26, 36-37. Blizzard told the CAC that he had ascertained that East West's clearing brokers had best execution and that Roach could assist Shawmut in getting business from Local 710. 10/16 Tr. 39-40. Thereafter, through the end of 1994, $42,962 in commissions was directed to East West. Ex. 84.
Next, Blizzard made a presentation for the Local 710 account to Golembo; Roach and his associate Richard Tringale were present; Blizzard returned with a portfolio manager for a second presentation. 10/16 Tr. 40-41. Blizzard understood that, in order to get business through Golembo, it was necessary to direct some trading through Lakeview Securities (Lakeview), with which Golembo was also associated. 10/16 Tr. 18, 41-42, 51. Roach told Golembo that Blizzard had delivered commissions for East West and could do the same for Golembo. 10/16 Tr. 42. Blizzard also made presentations to Golembo for several accounts other than Local 710, Golembo selected Shawmut as a finalist, and Shawmut was chosen by Duplex, Stepan, Chicago Roofers, Whitcomb, Riley and Zenith; after obtaining these accounts Shawmut directed a portion of its trading through Lakeview. 10/16 Tr. 49-53. Blizzard did not find Golembo's requirements unusual; it was similar to the practices of another consultant, Callan; if Callan reviewed a money manager's product and selected it to be in a final contest with several other contenders, and if the client selected that money manager, Callan would solicit the client to direct twenty percent of the brokerage to a particular broker-dealer. 10/16 Tr. 41, 50, 121-22.
At Baker's direction, Blizzard and representatives of three other investment advisers were invited to make presentations at the December 8, 1994, meeting of Local 710's trustees. 10/16 Tr. 53-55, 10/23 Tr. 12; Exs. 129-30. On December 7, Blizzard met Roach and rehearsed his presentation; Roach warned him not to mention Roach or East West to the trustees. 10/16 Tr. 54. The day after the presentation, Golembo telephoned Blizzard to say that Shawmut was likely to receive the account.22 10/16 Tr. 55-56. The account was funded several months later after the GNMAs were liquidated. Following this and other presentations, Shawmut received three accounts from Local 710: $250 million fixed income, dated May 9, 1995 (Ex. 50), $250 million fixed income together with Great Northern, dated May 9, 1995 (Ex. 128), and $150 million equity, dated June 15, 1995 (Ex. 52). 10/16 Tr. 60-63. Rothmeier and others approved these contracts and Shawmut's relationship with Local 710; Blizzard was not authorized to enter them on his own. 10/16 Tr. 120.
Local 710 also engaged Shawmut to liquidate a $600 to $700 million portfolio of GNMA securities to fund accounts at several investment advisers. 10/16 Tr. 184-86. Blizzard told Spencer, Shawmut's fixed income director, that Local 710 wanted East West included among the brokers used for the liquidation. 10/16 Tr. 186-90. Blizzard said that Local 710 would not provide a letter of direction, but that Baker wanted East West included. 10/16 Tr. 189-90. Blizzard did not tell him about his arrangement with Roach to direct commissions in return for referrals, or Roach's demand that East West not be mentioned during meetings with Local 710. 10/16 Tr. 190-91. Spencer told Blizzard that he would include East West in the bidding process, but would not favor it over another broker that offered better execution. 10/16 Tr. 225-26. Roach provided Spencer with a list of clearing brokers, and Spencer selected CIS, which he knew to be a good bond broker from prior dealings, better than Goldman Sachs, Salomon, and others, at times. 10/16 Tr. 192, 226-27. Spencer met with Local 710 to report on the liquidation in June 1995. 10/16 Tr. 193. Blizzard also attended the meeting and again did not mention East West. 10/16 Tr. 193.
Blizzard received commissions (also referred to as incentive awards) on Local 710 accounts totaling $548,233. Ex. 29.23
1. The Roach-Baker-Close Kickback Scheme
Local 710 never had any arrangement of any kind with East West or Roach. 10/23 Tr. 17-18. Instead, Roach, Baker, and Close had a kickback scheme: Roach found reputable and capable money managers that would agree to direct trades to the benefit of East West and Roach; Baker and Close ensured that Local 710 selected these managers to manage its portfolio; and Roach split the net proceeds after taxes and expenses, giving Baker and Close each twenty-five percent. 11/12 Tr. 23-26. Roach deposited the proceeds in accounts in the Cayman Islands and also paid off Baker and Close in cash. 11/12 Tr. 29. Les Golembo of Performance Analytics was brought in as an additional layer in the scheme. 11/12 Tr. 30-35. Baker died in 1997. 11/12 Tr. 17, 113. Close was convicted on his plea of guilty to a federal indictment for receiving kickbacks with the intent to be influenced in his decisions as trustee of union pension funds, including Local 710's; he is presently incarcerated, serving a twenty-three month sentence. 11/12 Tr. 16; Ex. 330. Roach was convicted on his plea of guilty to federal charges of racketeering and money laundering related to the kickback scheme and is presently incarcerated, serving a thirty-six month sentence. 11/12 Tr. 100-03; Exs. 113, 152.
Blizzard acceded to Roach's request not to mention Roach or East West at meetings of the Local 710 trustees and Investment Committee. Blizzard attended several meetings of the trustees and of the Investment Committee for sales presentations and neither he, nor anyone else, mentioned Roach, East West, or any arrangement whereby Shawmut would direct brokerage to East West in return for Roach's help in landing Local 710 accounts. 10/16 Tr. 193, 10/23 Tr. 20-26, 72-74; Ex. 130. Nor did he or anyone else disclose the arrangement whereby Shawmut would direct brokerage for Golembo's benefit in connection with his assistance with Local 710 accounts. 10/23 Tr. 73-74. The evidence concerning this non-disclosure of the arrangements with Roach and Golembo comes from the Local 710 Pension Fund's long-time administrator Brian O'Malley (O'Malley)24 and from trustee Corcoran.25 There is no conflicting evidence in the record that suggests that the arrangements were disclosed by Blizzard or anyone else at the meetings, to O'Malley, or to any trustee other than Baker and Close.
Roach continually pressured Blizzard to maintain or increase commission allocations to East West, threatening him with loss of the accounts if Blizzard did not comply. 10/16 Tr. 69. In January 1995, Blizzard sought an increase of commission allocations to East West to $250,000. 10/16 Tr. 70. The allocation was larger than allocations to major firms such as Salomon Brothers, First Boston, Donaldson Lufkin Jenrette, and Morgan Stanley. Ex. 89. In July and August 1995, the CAC discussed a further increase in allocations to East West; Berry decided to obtain another clearing broker, Dean Witter, which would execute the trades and forward eighty percent of the commissions to East West. 10/16 Tr. 76-78, 203-05, 224; Ex. 95, 98. On business-related social occasions when they met, later in 1995, Close urged Blizzard to maintain East West's commissions, suggesting that Shawmut risked losing Local 710's accounts by falling behind. 10/16 Tr. 86-88, 92-93. As an incentive, in November 1995, Roach told Blizzard that if Shawmut continued to have good performance and to share commissions with East West, he would introduce him to an opportunity to compete for managing assets of the IBT Central States Pension Fund.26 10/16 Tr. 90-92.
2. What Blizzard Knew
Blizzard acknowledged that he knew during the time at issue that Roach went to the Cayman Islands. 10/16 Tr. 83. Blizzard also testified that Roach, while concealing the Roach-Baker-Close kickback scheme, proposed a side arrangement, which Blizzard rebuffed: if Blizzard increased commissions to East West, Roach would route some of the increase to Blizzard using Cayman Islands banking; 10/16 Tr. 84-85.
The Division argues that Blizzard knew about the Roach-Baker-Close kickback scheme. Blizzard testified, however, that he did not know about the kickback scheme during the time at issue, and that Roach was very secretive about his relationship with Baker and Close. 10/16 Tr. 81-85, 88. To find that Blizzard knew about the kickback scheme during the time at issue, it would be necessary to rely on the testimony of Roach and Close, who each testified that he knew about the scheme.27 As described below, however, the testimony of each is unreliable and not credible. Thus, the record does not support a finding that Blizzard knew about the kickback scheme, and, in light of the Division's burden of proof, it is found that Blizzard did not know about the Roach-Baker-Close kickback scheme.
Close, who did not claim to have first-hand knowledge of Blizzard's awareness of the kickback scheme, reasoned that Roach would have revealed it to persuade Blizzard to participate in bidding on Local 710's account. 11/12 Tr. 57. Roach testified that he told Blizzard about the kickbacks to Baker and Close more than twenty times, starting in March or April 1995, and also advised him to invest in the Cayman Islands so that he could evade paying taxes.28 11/12 Tr. 160-64.
The credibility of Roach and Close is lowered by the fact that each was convicted of a crime of moral turpitude arising out of facts that are related to those at issue in this proceeding. Additionally, Close has previously given inconsistent testimony as to various facts at various times, including as to Woessner's awareness of a similar scheme involving brokerage allocations of his employer, Duff & Phelps. 11/12 Tr. 69-73, 77-79; Ex. 331 passim, Ex. 332 passim. Also, while Roach claimed to be telling the truth at the hearing, he stated under oath that he lied many times under oath and otherwise concerning the kickback scheme.29 11/12 Tr. 104-11. He testified that he renounced lying after his April 2000 indictment because he feared a longer sentence if caught in a lie. 11/12 Tr. 107-111. In addition to his false testimony, Roach has lied on various other documents and occasions, including after April 2000, the date when he claimed to have renounced false testimony and other lies. 10/16 Tr. 158-60, 11/13 Tr. 35-51, 60-85.
It is found that Roach's and Close's testimony on disputed facts is not reliable. The unreliability of Roach's and Close's testimony was even demonstrated by their inconsistent testimony at the hearing. For example, Roach testified that as between Baker and Close, Close was the leader in running the kickback scheme. 11/13 Tr. 61. Close testified that it was Baker. 11/12 Tr. 16-18, 21, 24-25. Since each knew the truth, the testimony of one was untruthful. Additionally, Roach's stated reason for reform, fear of prosecution and a longer sentence, could cause him to err on the safe side, and shade his testimony toward the prosecution and against the defense.
G. Fleet Fires Blizzard; Local 710 Fires Fleet
After the Fleet takeover, Blizzard and Rothmeier met with Vandervelde, the new head of equity trading, and O'Neill, the new CEO and CIO, several times concerning allocation of commissions to brokers. 10/15 Tr. 151-59, 10/16 Tr. 94, 10/23 Tr. 91. Blizzard believed that everyone involved, including the new management, knew about the Local 710 account and the commissions directed to East West and other brokers. 10/16 Tr. 96-99, 111-12. He believed that the new management approved what he and Shawmut had been doing. 10/16 Tr. 94. Vandervelde, however, assumed that the commissions Blizzard sought were client directed. 10/23 Tr. 95, 102, 142-46. In 1996, neither Vandervelde, nor O'Neill, was aware that some investment advisers compensated brokers who referred clients with soft dollars. 10/23 Tr. 148-49, 10/24 Tr. 132-34.
Rothmeier and Blizzard met with Vandervelde shortly after Vandervelde's arrival at Fleet in December 1995. 10/16 Tr. 94, 10/23 Tr. 91. Blizzard sought Vandervelde's aid in remedying shortfalls in brokerage allocations. 10/23 Tr. 93-95; Ex. 99. Vandervelde and O'Neill were anxious to assist in light of Blizzard's contributions to Shawmut's business. 10/23 Tr. 95-96, 10/24 Tr. 99. Vandervelde requested Blizzard to supply him with specific information concerning the names of the accounts, brokers, and consultants. 10/23 Tr. 96. Blizzard prepared a memo in response. 10/15 Tr. 151-59, 10/16 Tr. 94-95; Ex. 101. Vandervelde considered that the memo was an incomplete response, and even raised questions. 10/23 Tr. 100-07.
Next, Blizzard and Rothmeier met with Vandervelde and O'Neill. 10/23 Tr. 107-08, 10/24 Tr. 93-94. O'Neill stated that it would be necessary to obtain letters of direction from the clients before allocating commissions to Blizzard's brokers. 10/24 Tr. 98-99, 137. Blizzard agreed to provide more information and letters of direction. 10/23 Tr. 108-09, 10/24 Tr. 97. Blizzard provided more information, and the four met again in March 1996. 10/23 Tr. 110-14, 10/24 Tr. 100; Ex. 103. Blizzard produced several letters of direction, but Vandervelde eventually understood that he could not get a letter of direction from the Local 710 account and from some other accounts. 10/23 Tr. 116, 124, 130-31, 149, 10/24 Tr. 103. Vandervelde then told Blizzard that Fleet could continue to do business with East West only if East West provided research. 10/23 Tr. 116. Shortly, he received invoices for consulting services from East West. Ex. 105. He told Blizzard these were insufficient, and Blizzard replied by memo. 10/23 Tr. 118-20; Ex. 106. Around this time, serendipitously, Vandervelde learned of the additional allocation to East West through Dean Witter and of Quattrocchi's position with the City of Providence. 10/23 Tr. 120-23.
Blizzard testified that he told Vandervelde and O'Neill that there were four or five direction letters, and that he had a verbal direction from Baker. 10/16 Tr. 95-99. Blizzard did not tell Vandervelde and O'Neill that he had a client direction letter from Local 710; he denied doing so, and there is no evidence in the record that he affirmatively did so. 10/16 Tr. 97-98. Blizzard testified that Vandervelde told him to have Roach send invoices and he would be paid with hard dollars. 10/16 Tr. 99-106, 107-10; Exs. 105, 106.
To the extent that there is any inconsistency between Blizzard's testimony, on the one hand, and Vandervelde's and O'Neill's, on the other, it is explained by the fact that Vandervelde and O'Neill assumed that Blizzard requested brokerage allocations based on letters of direction and by the fact that Blizzard assumed that everyone was aware that his requested allocations for the Local 710 and other accounts were for client referrals.30 Additionally, Blizzard was attempting to provide whatever the new management wanted in order to continue doing business as he had in the past.
The four met again in early April, and O'Neill told Rothmeier and Blizzard that they would no longer honor their requests for brokerage allocations and that he had turned over the information to Fleet's in-house legal counsel. 10/23 Tr. 123, 10/24 Tr. 103-04. Blizzard and Rothmeier were put on leave. 10/24 Tr. 106. Vandervelde directed the trading desk to discontinue directing commissions to Blizzard's brokers at the end of March. 10/23 Tr. 130-31. Soon after, Fleet engaged Ropes & Gray and asked Blizzard and Rothmeier to resign. 10/16 Tr. 113-14. Blizzard did not receive all of the commissions that he believed he was due; he estimated the shortfall at over $1.7 million. 10/16 Tr. 120-21.
In the summer of 1996, Local 710 terminated its relationship with Fleet. 10/23 Tr. 39, 10/24 Tr. 139.
III. CONCLUSIONS OF LAW
In this section it is concluded that Blizzard willfully aided and abetted and caused Shawmut's violations of Sections 206(1) and 206(2) of the Advisers Act. The violations occurred in connection with Shawmut's dealings with Roach, East West, and the Local 710 accounts. Blizzard's secondary liability is based on conclusions that he knew that his role was part of an overall activity that was improper and that he substantially assisted Shawmut's violative conduct. The aiding and abetting and causing charges against Abel are unproven.
A. Advisers Act Antifraud Provisions
Blizzard and Abel are charged with aiding and abetting and causing violations of the antifraud provisions of the Advisers Act, Sections 206(1) and 206(2), which make it unlawful for any investment adviser, by jurisdictional means, to directly or indirectly:
1) employ any device, scheme, or artifice to defraud any client or prospective client, or
2) engage in any transaction, practice, or course of business which operates or would operate as a fraud or deceit upon any client or prospective client.
Scienter is required to establish violations of Section 206(1) of the Advisers Act. It is "a mental state embracing intent to deceive, manipulate, or defraud." Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 n.12 (1976); see also Aaron v. SEC, 446 U.S. 680, 686 n.5, 695-97 (1980); SEC v. Steadman, 967 F.2d 636, 641 (D.C. Cir. 1992). Recklessness can satisfy the scienter requirement. See David Disner, 52 S.E.C. 1217, 1222 & n.20 (1997); see also SEC v. Steadman, 967 F.2d at 641-42; Hollinger v. Titan Capital Corp., 914 F.2d 1564, 1568-69 (9th Cir. 1990). Reckless conduct is conduct which is "`highly unreasonable' and . . . represents `an extreme departure from the standards of ordinary care . . . to the extent that the danger was either known to the defendant or so obvious that the defendant must have been aware of it.'" Rolf v. Blyth, Eastman Dillon & Co., Inc., 570 F.2d 38, 47 (2d Cir. 1978) (quoting Sanders v. John Nuveen & Co., 554 F.2d 790, 793 (7th Cir. 1977)).
Scienter is not required to establish a violation of Section 206(2) of the Advisers Act; a showing of negligence is adequate. See SEC v. Capital Gains Research Bureau, Inc., 375 U.S. 180, 195 (1963); see also SEC v. Steadman, 967 F.2d at 643 & n.5; Steadman v. SEC, 603 F.2d 1126, 1132-34 (5th Cir. 1979), aff'd on other grounds, 450 U.S. 91 (1981).
Material misrepresentations and omissions violate Advisers Act Sections 206(1) and 206(2). See Charles K. Seavey, 79 SEC Docket 3455 (Mar. 27, 2003). The standard of materiality is whether or not a reasonable investor or prospective investor would have considered the information important in deciding whether or not to invest. See SEC v. Steadman, 967 F.2d at 643; see also Basic Inc. v. Levinson, 485 U.S. 224, 231-32, 240 (1988); TSC Indus., Inc. v. Northway, Inc., 426 U.S. 438, 449 (1976). Investment advisers are fiduciaries and have an affirmative duty of utmost good faith and full and fair disclosure of all material facts. See Capital Gains Research Bureau, 375 U.S. at 191-92, 194, 201.
Shawmut is accountable for the actions of its responsible officers, including Blizzard, Abel, and others. See C.E. Carlson, Inc. v. SEC, 859 F.2d 1429, 1435 (10th Cir. 1988) (citing A.J. White & Co. v. SEC, 556 F.2d 619, 624 (1st Cir. 1977)). A company's scienter may be imputed from that of the individuals controlling it. See SEC v. Blinder, Robinson & Co., 542 F. Supp. 468, 476 n.3 (D. Colo. 1982) (citing SEC v. Manor Nursing Ctrs., Inc., 458 F.2d 1082, 1096-97 nn.16-18 (2d Cir. 1972)). As associated persons of Shawmut, Blizzard's and Abel's conduct and scienter are also attributed to the firm. See Section 203(e) of the Advisers Act.
1. Aiding and Abetting; Causing
For aiding and abetting liability under the federal securities laws, three elements must be established: (1) a primary or independent securities law violation committed by another party; (2) awareness or knowledge by the aider and abettor that his or her role was part of an overall activity that was improper; also conceptualized as scienter in aiding and abetting antifraud violations; and (3) that the aider and abettor knowingly and substantially assisted the conduct that constitutes the violation. See Graham v. SEC, 222 F.3d 994, 1000 (D.C. Cir. 2000); see also Woods v. Barnett Bank, 765 F.2d 1004, 1009 (11th Cir. 1985); Investors Research Corp. v. SEC, 628 F.2d 168, 178 n.61 (D.C. Cir. 1980); IIT v. Cornfeld, 619 F.2d 909, 922 (2d Cir. 1980); Woodward v. Metro Bank, 522 F.2d 84, 94-97 (5th Cir. 1975); SEC v. Coffey, 493 F.2d 1304, 1316-17 (6th Cir. 1974); Russo Sec. Inc., 53 S.E.C. 271, 278 & n.16 (1997); Donald T. Sheldon, 51 S.E.C. 59, 66 (1992), aff'd, 45 F.3d 1515 (11th Cir. 1995); William R. Carter, 47 S.E.C. 471, 502-03 (1981). A person cannot escape aiding and abetting liability by claiming he was ignorant of the securities laws. See Sharon M. Graham, 53 S.E.C. 1072, 1084 n.33 (1998), aff'd, 222 F.3d 994 (D.C. Cir. 2000). The knowledge or awareness requirement can be satisfied by recklessness when the alleged aider and abettor is a fiduciary or active participant. See Ross v. Bolton, 904 F.2d 819, 824 (2d Cir. 1990); see also Cornfeld, 619 F.2d at 923, 925; Rolf, 570 F.2d at 47-48; Woodward, 522 F.2d at 97.
A respondent who aids and abets a violation also is a cause of the violation, within the meaning of Section 203(k) of the Advisers Act. See Sharon M. Graham, 53 S.E.C. at 1085 n.35. Negligence is sufficient to establish liability for causing a primary violation that does not require scienter. See KPMG Peat Marwick LLP, 74 SEC Docket 384, 421 (Jan. 19, 2001), recon. denied, 74 SEC Docket 1351 (Mar. 8, 2001), aff'd, 289 F.3d 109 (2002), reh. en banc denied, 2002 U.S. App. Lexis 14543 (July 16, 2002).
2. Willfulness
The Division requests sanctions pursuant to Sections 203(f), 203(k), 203(i), and 203(j) of the Advisers Act. The Commission must find willful violations to impose sanctions under Sections 203(f) and 203(i) of the Advisers Act. A finding of willfulness does not require an intent to violate, but merely an intent to do the act which constitutes a violation. See Wonsover v. SEC, 205 F.3d 408, 413-15 (D.C. Cir. 2000); see also Steadman v. SEC, 603 F.2d at 1135; Arthur Lipper Corp. v. SEC, 547 F.2d 171, 180 (2d Cir. 1976); Tager v. SEC, 344 F.2d 5, 8 (2d Cir. 1965).
B. Statute of Limitations
The Division requests a cease-and-desist order, a three to five year bar, and a $50,000 civil penalty against Abel. Abel did not attend, and did not participate in the decision-making at, the September 15, 1994, committee meeting. Thus, none of Abel's conduct at issue in this proceeding occurred within five years of September 9, 1999, the date when the proceeding was initiated. Therefore, the requested bar and civil penalty are barred by 28 U.S.C. § 2462, a statute of general applicability that provides a five-year statute of limitations for the enforcement of any civil fine, penalty, or forfeiture. See Johnson v. SEC, 87 F.3d 484 (D.C. Cir. 1996) (holding that censure and suspension are penalties within the meaning of 28 U.S.C. § 2462). A cease-and-desist order is not, however, barred by 28 U.S.C. § 2462. A prospective cease-and-desist order that a Respondent not violate the securities laws in the future is not a penalty. See Herbert Moskowitz, 77 SEC Docket 481, 500-02 (2002) ("Cease-and-desist proceedings are remedial in nature and not subject to Section 2462.").
C. Violations
1. Primary Violations by Shawmut
Shawmut violated Sections 206(1) and 206(2) of the Advisers Act when it omitted to disclose to Local 710 that it directed thousands of dollars in commissions to East West and Roach for the sole purpose of obtaining and retaining Local 710 accounts.
a. Material Misrepresentations/Omissions
Shawmut directed over $40,000 in commissions to East West and Roach during late 1994, before it was awarded Local 710 accounts, as a down payment on obtaining the accounts, and it continued allocating large amounts of commissions to East West and Roach to retain the accounts throughout the time at issue. Roach and East West, an unknown broker-dealer that did not provide its own execution, settlement, or research services, provided no service except to guarantee that Shawmut would obtain and retain Local 710 accounts. Shawmut allocated commissions to East West for no other reason. Shawmut did not disclose the arrangement to Local 710's board of trustees. The omitted information was clearly material; a reasonable investor would have considered the information important in deciding whether or not to invest.
b. Scienter
The record shows Blizzard's, Rothmeier's, and Berry's scienter, which is attributed to Shawmut. Their conduct was reckless - highly unreasonable and an extreme departure from the standards of ordinary care. Their recklessness consisted of ignoring red flags in the pursuit of obtaining and retaining the lucrative Local 710 accounts. The red flags included the requirement to direct a large amount of commission business to East West, an unknown broker-dealer that did not provide its own execution, settlement, or research services as a condition precedent to obtaining a Local 710 account and the requirement to continue directing a large amount of business to East West - larger than amounts directed to well-known broker-dealers - for the sole purpose of obtaining and retaining Local 710 accounts. Rothmeier approved these arrangements and Berry facilitated carrying them out, even requiring that commissions be laundered through two clearing firms to disguise the amount East West was receiving. An additional red flag was Roach's warning to Blizzard not to mention his name or East West to Local 710's trustees. Also, Blizzard knew of Roach's frequent trips to the Cayman Islands and Roach's invitation to engage in a dishonest transaction involving the Cayman Islands. These red flags should have alerted Shawmut to investigate Roach thoroughly. Had it done so, it might have discovered that Roach was involving Shawmut in a corrupt scheme.
In sum, it is concluded that Shawmut violated Advisers Act Sections 206(1) and 206(2) in its dealings with Local 710. Thus, the first element of the aiding and abetting charges against Blizzard, primary violations by Shawmut has been established. The remaining elements - substantial assistance and awareness - are present as to Blizzard as well.
c. Other Accounts and Brokers
The record contains evidence concerning additional accounts, such as those of Providence, the Ohio Police and Firemen's Disability and Pension Fund, and TRSL, and concerning many brokers to which Shawmut directed commissions. Directing brokerage to brokers who provided client referrals in addition to best execution and research, without more, did not violate the antifraud provisions.31 Respondents and Shawmut did not have fair notice that it was necessary to affirmatively disclose that commission brokerage was directed to brokers in part because they provided client referrals in addition to best execution and research. Neither the Commission, nor the courts, has held that an investment adviser that disclosed that it allocated brokerage to brokers that provided research and best execution and did not disclose that it also considered marketing considerations when selecting among such brokers has violated the antifraud provisions.32 Further, the Commission has twice proposed rules that would have required expanded disclosure of soft dollar practices and twice terminated the rule making proceedings without adopting the proposed rules. In 1995, the Commission adopted a Notice of Proposed Rule Making (NPRM), Disclosure by Investment Advisers Regarding Soft Dollar Practices, File No. S7-5-95, 58 SEC Docket 2279, 60 Fed. Reg. 9750 (Feb. 21, 1995). The NPRM proposed a new rule that would have required extensive disclosure of investment advisers' direction of client brokerage transactions and their receipt of products and services received in connection with those transactions. The Commission declined to adopt the rule and terminated the rule making proceeding as of October 1, 1996. See Regulatory Flexibility Agenda, 61 Fed. Reg. 63548, 63569 (Nov. 29, 1996). In 2000, after the events in question, the Commission adopted an NPRM, Electronic Filing by Investment Advisers; Proposed Amendments to Form ADV, File No. S7-10-00, 72 SEC Docket 268, 65 Fed. Reg. 20524 (Apr. 17, 2000). The NPRM included proposed amendments to Part II of Form ADV to provide enhanced disclosure concerning conflicts of interest in advisers' use of soft dollars including, specifically, the use of client brokerage to reward brokers that refer clients. The Commission adopted final rules in S7-10-00 and terminated the rule making proceeding without adopting any amendments to Part II of Form ADV. See Final Rule, File No. S7-10-00, 73 SEC Docket 808, 65 Fed. Reg. 57438 (Sept. 22, 2000); see also Regulatory Flexibility Agenda, 65 Fed. Reg. 74988, 75001 (Nov. 30, 2000).
No primary violations by Shawmut from 1993 through September 16, 1994, Abel's last day, have been established. Thus, the aiding and abetting and causing charges against Abel are unproven.
2. Substantial Assistance
Knowing and substantial assistance to the conduct that constituted Shawmut's violations is clearly present. Blizzard negotiated the arrangement to direct commissions to East West with Roach. He attended presentations to Local 710's board of trustees at which he complied with Roach's instruction not to mention the arrangement, Roach, or East West to the trustees. He followed up by making a presentation to the CAC urging that East West be added to the allocation list.
3. Awareness or Knowledge
The awareness or knowledge requirement is satisfied by recklessness when the alleged aider and abettor is a fiduciary or an active participant. As an associated person of an investment adviser, Blizzard was a fiduciary. He was also an active participant in omitting to disclose the arrangement with East West to the Local 710 trustees in compliance with Roach's instruction of secrecy and in urging Shawmut to allocate brokerage to East West. Blizzard was reckless in ignoring the red flags posed by Roach's conduct. Roach's suspicious actions included telling Blizzard not to mention his and East West's names to the trustees, his trips to the Cayman Islands for offshore banking, and his invitation to engage in a dishonest transaction involving Cayman Islands banking. The requirement that Shawmut direct thousands of dollars in commissions to East West in advance of receiving the Local 710 account was a red flag. The fact that East West provided no service at all - research, execution, and settlement were provided by other brokers - except introducing Shawmut to Local 710 was also a red flag.
Blizzard argues that he relied on decisions made by others, such as Rothmeier. Rothmeier's position at the firm vis-à-vis Blizzard does not, however, excuse him from the consequences of his participation. See Nicholas P. Howard, 79 SEC Docket 2332 (Feb. 12, 2003), appeal pending, No. 03-1098 (D.C. Cir.);33 see also Charles K. Seavey, 79 SEC Docket 3455 (Mar. 27, 2003);34 Sharon M. Graham, 53 S.E.C. at 1084-86;35 cf. James J. Pasztor, 70 SEC Docket 2611, 2624 (Oct. 14, 1999).36
In sum, it is concluded that Blizzard willfully aided and abetted Shawmut's violations of Sections 206(1) and 206(2) of the Advisers Act. Blizzard's actions and omissions were clearly intentional. Thus, his violations were willful. Since he aided and abetted the violations, he also caused them.
IV. ULTIMATE CONCLUSIONS
Shawmut violated Sections 206(1) and 206(2) of the Advisers Act in its dealings with Local 710, and Blizzard willfully aided and abetted and caused Shawmut's violations. No violation alleged in the OIP against Abel was proved, and the proceeding will be dismissed as to him.
V. SANCTIONS
The Division requests these sanctions against Blizzard: a cease-and-desist order; disgorgement of $2,026,006; third-tier civil money penalties of $200,000; and a bar from association with an investment adviser. Blizzard argues that no sanctions are warranted. For the reasons discussed below, these sanctions will be ordered: a cease-and-desist order; disgorgement of $548,233; a civil penalty of $100,000; and a ninety-day suspension from association with an investment adviser.
A. Sanction Considerations
When the Commission determines administrative sanctions, it considers:
[T]he egregiousness of the defendant's actions, the isolated or recurrent nature of the infraction, the degree of scienter involved, the sincerity of the defendant's assurances against future violations, the defendant's recognition of the wrongful nature of his conduct, and the likelihood that the defendant's occupation will present opportunities for future violations.
Steadman v. SEC, 603 F.2d at 1140 (quoting SEC v. Blatt, 583 F.2d 1325, 1334 n.29 (5th Cir. 1978)).
The Commission determines sanctions pursuant to a public interest standard.37 Thus, in addition to issues related to the violator, it "weigh[s] the effect of [its] action or inaction on the welfare of investors as a class and on standards of conduct in the securities business generally." Arthur Lipper Corp., 46 S.E.C. 78, 100 (1975); see also Richard C. Spangler, Inc., 46 S.E.C. 238, 254 n.67 (1976). The amount of a sanction depends on the facts of each case and the value of the sanction in preventing a recurrence. See Berko v. SEC, 316 F.2d 137, 141 (2d Cir. 1963); see also Leo Glassman, 46 S.E.C. 209, 211-12 (1975).
B. Sanctions
1. Cease and Desist
Section 203(k) of the Advisers Act authorizes the Commission to issue a cease-and-desist order against a person who "is violating, has violated, or is about to violate" any provision of the Acts or rules thereunder. Whether there is a reasonable likelihood of such violations in the future must be considered. See KPMG, 74 SEC Docket at 429. The Commission has held, "[i]n the ordinary case and absent evidence to the contrary, a finding of past violation raises a risk of future violation sufficient to support" a cease-and-desist order. WHX Corporation, Exch. Act Rel. No. 47980 at 19 (June 4, 2003). In the instant case, "evidence to the contrary" is lacking, and a cease-and-desist order is appropriate in light of the combination of sanctions ordered. Accordingly, Blizzard will be ordered to cease and desist from committing or causing any violations or future violations of Section 206 of the Advisers Act.
2. Disgorgement
Section 203(j) of the Advisers Act authorizes the Commission to order Blizzard to disgorge ill-gotten gains. Disgorgement is an equitable remedy that requires a violator to give up wrongfully obtained profits causally related to the proven wrongdoing. See SEC v. First City Fin. Corp., Ltd., 890 F.2d 1215, 1230-32 (D.C. Cir. 1989); see also Hateley v. SEC, 8 F.3d 653, 655-56 (9th Cir. 1993). It returns the violator to where he would have been absent the violative activity. The amount of the disgorgement ordered need only be a reasonable approximation of profits causally connected to the violation. See Laurie Jones Canady, 69 SEC Docket 1468, 1487 n.35 (April 5, 1999) (quoting SEC v. First Jersey Sec., Inc., 101 F.3d 1450, 1475 (2d Cir. 1996)); see also SEC v. First Pac. Bancorp, 142 F.3d 1186, 1192 n.6 (9th Cir. 1998) (holding disgorgement amount only needs to be a reasonable approximation of ill-gotten gains); accord First City Fin. Corp., 890 F.2d at 1230-31.
The Division requests disgorgement of $2,026,006. However, the profits Blizzard obtained that are causally related to his proven wrongdoing amount to $548,233, his commissions related to the Local 710 accounts. Blizzard will be ordered to disgorge that amount, with prejudgment interest.
3. Civil Money Penalty
Section 203(i) of the Advisers Act authorizes the Commission to impose civil money penalties for willful violations of the Advisers Act. In considering whether a penalty is in the public interest, the Commission may consider six factors: (1) fraud; (2) harm to others; (3) unjust enrichment; (4) previous violations; (5) deterrence; and (6) such other matters as justice may require. See Section 203(i)(3) of the Advisers Act; see also New Allied Dev. Corp., 52 S.E.C. 1119, 1130 n.33 (1996); Jay Houston Meadows, 52 S.E.C. 778, 787-88, aff'd, 119 F.3d 1219 (5th Cir. 1997); Consolidated Inv. Servs., Inc., 52 S.E.C. 582, 590-91 (1996); First Sec. Transfer Sys., Inc., 52 S.E.C. 392, 395-96 (1995).
Blizzard aided and abetted antifraud violations, so his violative actions "involved fraud" within the meaning of Section 203(i)(2)(B) of the Advisers Act. Blizzard was unjustly enriched to the extent that he received compensation related to the Local 710 accounts. Concerning harm to others, Local 710 received best execution even though East West received commissions from its transactions. Blizzard has no previous violations. However, a penalty is appropriate for deterrence, particularly since investment advisers and their associated persons are fiduciaries and have an affirmative duty of utmost good faith and full and fair disclosure of all material facts.
Thus, a penalty is in the public interest in this case. A penalty in addition to the cease-and-desist order, suspension, and disgorgement is necessary for the purpose of deterrence. See Section 203(i)(3)(E) of the Advisers Act; see also H.R. Rep. No. 101-616 (1990). A third-tier penalty, as the Division requests, is appropriate because the violative acts involved fraud, reckless disregard of a regulatory requirement, and resulted in substantial pecuniary gain to the violator. See Section 203(i)(2)(C) of the Advisers Act.
The maximum third-tier penalty applicable in this case for each act or omission is $100,000 for a natural person.38 Section 203(i) of the Advisers Act, like most civil penalty statutes, leaves the precise unit of violation undefined. See Colin S. Diver, The Assessment and Mitigation of Civil Money Penalties by Federal Administrative Agencies, 79 Colum. L. Rev. 1435, 1440-41 (1979). The Division requests a $200,000 third-tier penalty. The events at issue concerning Local 710 will be considered as one course of action resulting in one unit of violation. Blizzard will be ordered to pay a third-tier penalty of $100,000. In the circumstances of this case, this sum is sufficient for deterrence and other purposes of the penalty statutes.
4. Suspension
The Division requests, pursuant to Section 203(f) of the Advisers Act, that Blizzard be barred from association with an investment adviser. Based on the Steadman factors, a ninety-day suspension is in the public interest. Blizzard's aiding and abetting violation was serious, but not egregious. It was isolated in that it pertained to one client, but it continued for many months. Blizzard did not have a high degree of scienter, but he was reckless in ignoring the red flags posed by Roach's conduct. Consistent with a vigorous defense of the charges against him, Blizzard has not affirmatively acknowledged the wrongful nature of his conduct. He is employed in the financial industry, and his occupation will present the opportunity for future violations. A ninety-day suspension, combined with the other sanctions ordered, is an appropriate remedy and deterrent and consistent with Commission precedent.39 Accordingly, a ninety-day suspension will be ordered.
VI. RECORD CERTIFICATION
Pursuant to Rule 351(b) of the Commission's Rules of Practice, 17 C.F.R. § 201.351(b), it is certified that the record includes the items set forth in the record index issued by the Secretary of the Commission on February 27, 2003.
VII. ORDER
Based on the findings and conclusions set forth above:
IT IS ORDERED that, pursuant to Section 203(f) of the Investment Advisers Act of 1940, 15 U.S.C. § 80b-3(f), Clarke T. Blizzard IS SUSPENDED from association with an investment adviser for ninety days, effective on the first business day following the date when this Order becomes effective.
IT IS FURTHER ORDERED that, pursuant to Section 203(i) of the Investment Advisers Act of 1940, 15 U.S.C. § 80b-3(i), Clarke T. Blizzard PAY A CIVIL MONEY PENALTY OF $100,000.
IT IS FURTHER ORDERED that, pursuant to Section 203(j) of the Investment Advisers Act of 1940, 15 U.S.C. § 80b-3(J), Clarke T. Blizzard DISGORGE $548,233 plus prejudgment interest at the rate established under Section 6621(a)(2) of the Internal Revenue Code, 26 U.S.C. § 6621(a)(2), compounded quarterly, pursuant to Rule 600 of the Commission's Rules of Practice, 17 C.F.R. § 201.600. Pursuant to Rule 600(a), prejudgment interest is due from June 1, 1996, through the last day of the month preceding which payment is made.
Payment of the money penalty and disgorgement shall be made on the first business day following the day this Order becomes effective by certified check, U.S. Postal money order, bank cashier's check, or bank money order payable to the Securities and Exchange Commission. The check and a cover letter identifying the Respondent and Administrative Proceeding No. 3-10007, should be delivered by hand or courier to the Comptroller, Securities and Exchange Commission, Operations Center, 6432 General Green Way, Stop 0-3, Alexandria, Virginia 22312. A copy of the cover letter should be sent to the Commission's Division of Enforcement at the same address.
IT IS FURTHER ORDERED that, pursuant to Section 203(k) of the Investment Advisers Act of 1940, 15 U.S.C. § 80b-3(k), Clarke T. Blizzard CEASE AND DESIST from committing or causing any violations or future violations of Section 206 of the Investment Advisers Act of 1940, 15 U.S.C. § 80b-6.
IT IS FURTHER ORDERED that this administrative proceeding IS DISMISSED as to Rudolph Abel.
This Order shall become effective in accordance with and subject to the provisions of Rule 360 of the Commission's Rules of Practice, 17 C.F.R. § 201.360. Pursuant to that rule, a petition for review of this Initial Decision may be filed within twenty-one days after service of the decision. It shall become the final decision of the Commission as to each party who has not filed a petition for review pursuant to Rule 360(d)(1) within twenty-one days after service of the Initial Decision upon such party, unless the Commission, pursuant to Rule 360(b)(1), determines on its own initiative to review this Initial Decision as to any party. If a party timely files a petition for review, or the Commission acts to review as to a party, the Initial Decision shall not become final as to that party.
____________________________
Carol Fox Foelak
Administrative Law Judge
ENDNOTES
1 The proceeding was originally captioned Michael J. Rothmeier, Clarke T. Blizzard, Rudolph Abel, Donald C. Berry, Christopher P. Roach, Craig Janutol, and East West Institutional Services, Inc. It ended on April 13, 2000, as to Respondents Rothmeier, Berry, and Janutol, who settled, when the Securities and Exchange Commission issued Orders Making Findings and Imposing Sanctions as to each of them. It ended on February 28, 2002, as to Respondents Roach and East West Institutional Services, Inc., who defaulted, when the undersigned entered an Order Making Findings and Imposing Sanctions by Default as to them.
2 The criminal and administrative proceedings involved aspects of the same alleged unlawful arrangement for referral of securities business from pension plans through investment advisers and clearing brokers.
3 Citations to the hearing transcript are cited by hearing date and page number, for example, "10/15 Tr. 1." Abel offered one exhibit, noted as Abel Ex. 1. The Division's exhibits are numbered 1 through 152, and Blizzard's exhibits are numbered 201 through 332. Citations to the Division's and Blizzard's exhibits will be noted as "Ex. __."
4 Respondent Abel also requests reimbursement of $111,712 of attorney's fees and $5,100 of additional expenses. This request, which is premature, can only be made under the Equal Access to Justice Act (EAJA), 5 U.S.C. § 504, and Sections 201.31-.59 of the Commission's Rules, 17 C.F.R. §§ 201.31-.59. The EAJA and the cited Commission Rules specify the circumstances under which an award of fees and expenses will be made to a party.
5 See Barron's Dictionary of Finance and Investment Terms 540 (4th ed. 1995).
6 See Interpretive Release Concerning the Scope of Section 28(e) of the Securities Exchange Act of 1934 and Related Matters, 35 SEC Docket 905, 908; 51 Fed. Reg. 16004, 16007 (Apr. 30, 1986); Inspection Report on the Soft Dollar Practices of Broker-Dealers, Investment Advisers and Mutual Funds, 11-12, 29-36 (Sept. 22, 1998) available at http://sec.gov/new/studies/softdolr.htm. Some broker-dealers provide products and services under soft dollar arrangements as their only business activity. See id., at 25.
7 Investment advisers use Form ADV to register with the Commission (Part I) and to disclose their practices to clients and prospective clients (Part II). See Advisers Act Section 203(c)(1) and Rules 203-1 and 204-2 and Form ADV.
8 Section 28(e) provides a "safe harbor" for brokerage commissions in excess of the minimum for research, referred to as soft dollars.
9 Blizzard-recommended brokers appear on a September 30, 1993, monthly trading report indicating that little was paid out year-to-date of budgeted amounts; budgeted amounts were Josephthal, $50,000; Shearson, $50,000; Dominion Research, $40,000. Ex. 64. These brokers did not appear on Rajala's January 1994 list of brokers recommended by research and portfolio management groups of Shawmut and the Shawmut Bank. Ex. 66.
10 Three brokers whom Blizzard recommended were added to Shawmut's list in 1993 - Ron Salyer at Shearson, later at Smith Barney, Jim Quattrocchi at Josephthal, later at PaineWebber, and Joseph O'Donald at Dominion Research, later known as RBC Dominion. 10/15 Tr. 85-87. Eventually, aside from East West, five more of his brokers were added: Smith Barney (Ron Salyer), Legg Mason (Steve Schott), Alex Brown ("Bill"), Dean Witter (Sabrina Suilders), Maxus (Patrick White). 10/15 Tr. 137-39. Additionally, Blizzard requested Raymond James, and the Callan Associates subsidiary Alpha Management, Inc., but these were not added. 10/15 Tr. 139. He also recommended target dollar amounts to be allocated to the brokers, although these amounts were not necessarily granted. 10/15 Tr. 87. He based these recommendations on ten to twenty percent of his roughly calculated prediction of commissions related to the client. 10/15 Tr. 87-89, 96.
11 Abel told Blizzard to stop calling the trading desk constantly; this was not a productive use of his time and answering his calls took the traders away from trading securities for the portfolio managers. 10/17 Tr. 203, 205, 211.
12 The OIP alleges that Perry Macrohon, a Shawmut Bank trust attorney, warned Blizzard against entering into arrangements to direct commissions to brokers that provided client referrals. OIP, at ¶ III.C.6. The evidence of record does not support this allegation, and it is found that Blizzard received no meaningful advice from Macrohon or any other attorney employed by Shawmut or the Shawmut Bank concerning the propriety of allocating commissions for client referrals. Blizzard denies that he ever spoke with Macrohon or asked him for advice. 10/15 Tr. 126-28, 134-35. Macrohon met Blizzard once at a social occasion and would not recognize him if he saw him today. 10/24 Tr. 22-23. He has a vague recollection that Blizzard telephoned him on one occasion and discussed generally giving business to brokers who provided client referrals. 10/24 Tr. 22-30, 36-39; Ex. 149 at 51-56. Trust attorney Welch, who was unaware that Shawmut had soft-dollar arrangements, never discussed allocating brokerage for client referrals with Blizzard or anyone else. Ex. 150 at 17, 46-48. His only contact with Blizzard was a phone call in which Welch expressed his opinion that Shawmut should not accept letters of direction from pension fund clients, as a precaution against lawsuits by beneficiaries. Ex. 150 at 23-25, 28-29, 34-43.
13 Abel was apprised of trading, including "exceptions" - trading with a broker who was not on the allocation list, within the policy that called for best execution - by reviewing monthly trading reports. 10/17 Tr. 167-71, 10/18 Tr. 140-41. In July 1994, Willey sought and obtained Abel's authorization to continue directing trades to Blizzard-recommended brokers Dominion Securities, H.C. Wainwright, Institutional Services, Josephthal, Kemper, McDonald, Pryor Govan, and Smith Barney. 10/18 Tr. 82-87, 10/21 Tr. 4-8; Ex. 11(b).
14 In 1994, the CAC was reconstituted with ex officio representation that included compliance and discussed the issue of whether allocating commissions to Blizzard's brokers should be specifically disclosed on Shawmut's Form ADV. 10/18 Tr. 121-25, 132, 10/21 150, 10/22 Tr. 193-95; Exs. 13(a), 71, 249. As Abel knew, compliance personnel, including Fuller, were aware that Shawmut was trading with Blizzard's brokers, and that the brokers were providing research and also referring clients. 10/21 Tr. 86-87, 10/22 Tr. 213. A review of soft dollar services, carried out by the compliance staff in the summer of 1994 considered the allocation of commissions to Blizzard's brokers. 10/21 Tr. 128; Exs. 69, 249. The target of that audit was the proper allocation of soft and hard dollars for mixed-use services. 10/22 Tr. 192.
15 The research department never included any of Blizzard's brokers on its input to the allocation process. 10/21 Tr. 193.
16 Abel signed OFAM's and Shawmut's Forms ADV in 1993, during the time he was President of the investment adviser. 10/17 Tr. 121-22; Exs. 2(A), 2(D). Abel believed that the Forms ADV had been thoroughly checked by compliance and legal personnel because bank regulators were looking closely at the Shawmut Bank and other New England banks at that time because of questions of soundness related to real estate loans. 10/17 Tr. 122-25.
17 It was Abel's opinion that McDonald provided excellent research, especially on regional, small, and mid cap companies and provided excellent execution, such that at times, its services were better than that of major Wall Street firms. 10/21 Tr. 114-15.
18 Larson corroborated Hall's testimony that there were no instructions concerning directed brokerage, other than the May 31, 1994, direction letter, concerning use of Ohio brokers. 10/22 Tr. 73. There is no conflicting testimony from anyone associated with the fund.
19 Blizzard believed that Hyland was being compensated with commissions from accounts other than Ohio Police and Firemen's Disability and Pension Fund. 10/15 Tr. 168-69.
20 Blizzard noted that Salyer did not receive any benefit directly from the TRSL account, as TRSL traded its own account. 10/15 Tr. 182-83.
21 Roach also met Rothmeier and a few other persons in Rothmeier's office. 10/16 Tr. 127.
22 The first contract that Local 710 awarded to Shawmut was in May 1995, a fixed income contract. 10/23 Tr. 18-19; Ex. 50. Prior to May 1995, no one from Local 710 informed Blizzard that Shawmut had been awarded any account. 10/23 Tr. 16, 19.
23 Ex. 29 lists net payments, including downward adjustments applied at the end of 1995, of commissions on Local 710 accounts from the fourth quarter of 1994 through 1995. There is no evidence in the record that Blizzard received commissions on Local 710 accounts during 1996.
24 O'Malley, a Certified Public Accountant, joined the Local 710 Health and Welfare and Pension Funds in 1980 and was administrator of the funds at the time at issue. 10/23 Tr. 5. He attended the meetings of the trustees and of the Investment Committee, reported on financial matters, and was the point of contact with money managers that the trustees hired. 10/23 Tr. 6-7. O'Malley attended all the meetings of the Investment Committee and of the Board of Trustees between 1993 and 1996. 10/23 Tr. 10. He had never heard of East West or Roach at that time, and neither was ever discussed at any meetings of the trustees or the Investment Committee. 10/23 Tr. 17-18. Blizzard never disclosed anything to O'Malley concerning arrangements with East West or Golembo and Performance Analytics. 10/23 Tr. 33-34.
25 The first time that Corcoran heard of East West and Roach was in the summer of 1996, from an article in the Wall Street Journal. 10/23 Tr. 69.
26 Roach testified that it was not he, but Baker, who suggested the possibility of a Central States account in November 1995; he claimed that Close and Blizzard told him that Baker told Blizzard that if he continued performing as he had been, Baker would get him a Central States account. 11/12 Tr. 164-66. There is, however, no reason for Blizzard to have misidentified the source of the statement. Additionally, when confronted with questions as to the date of Baker's supposed statement, Roach then stated that Baker said it twice, including in November 1995, but was unable to explain why Baker would have made such a statement when Shawmut had fallen behind in its commission payments to East West. 11/13 Tr. 77-80.
27 FBI Agent Robinson recalled that Blizzard had said that Roach eventually told him that his trips to the Cayman Islands were to obtain cash, in undisclosed amounts, to pay off Baker and Close. 10/16 Tr. 151-53, 166, 175. Robinson could not fix the date of Roach's disclosure except to say it was before 1999. 10/16 Tr. 166, 175.
28 Roach also testified that Baker revealed the kickback scheme to Blizzard. He claimed that this was shown by the supposed November 1995 conversation that, he claimed, Blizzard and Close reported to him, in which Baker said if Blizzard continued to do a good job he would get him assets of Central States. 11/12 Tr. 164-66.
29 Robinson interviewed Roach in December 1996. 10/16 Tr. 158. Robinson found almost all of Roach's answers to his questions inconsistent with other information he gathered during his investigation. 10/16 Tr. 158-60.
30 For example, Blizzard testified that Vandervelde told him to get invoices from East West, while Vandervelde testified that he told Blizzard that the only way they could allocate commissions to East West was on the basis of research and that invoices suddenly appeared. Blizzard testified that he told Vandervelde and O'Neill that he had four or five direction letters and a verbal direction from Baker, while they testified that he left them with the impression that he had direction letters from all the accounts.
31 Shawmut may have violated the antifraud provisions by its arguably false representation to TRSL that it had no solicitor agreement by which anyone received compensation resulting from activities that culminated in Shawmut's selection to provide investment services. There is no evidence in the record that indicates that Blizzard had any knowledge of the representation, so it is unnecessary to address this issue in this proceeding against Blizzard.
32 It goes without saying that settlements, such as Duff & Phelps Inv. Mgmt. Co., Inc., 75 SEC Docket 3033 (Sept. 28, 2001) and Fleet Inv. Advisors Inc., 70 SEC Docket 1654 (Sept. 9, 1999), are not precedent, as the Commission has stressed many times. See Richard J. Puccio, 52 S.E.C. 1041, 1045 & n.7 (1996) (citing David A. Gingras, 50 S.E.C. 1286, 1294 (1992), and cases cited therein); see also Kelley ex rel. Mich. Dep't of Natural Res. v. FERC, 96 F.3d 1482, 1489-90 (D.C. Cir. 1996), and cases cited therein; Robert F. Lynch, 46 S.E.C. 5, 10 n.17 (1975) (citing Samuel H. Sloan, 45 S.E.C. 734, 739 n.24 (1975); Haight & Co. Inc., 44 S.E.C. 481, 512-13 (1971); Security Planners Assocs., Inc., 44 S.E.C. 738, 743-44 (1971)). Commission settlement orders contain disclaimers to this effect. See, e.g., Duff & Phelps, 75 SEC Docket at 3034 n.1, Fleet, 70 SEC Docket at 1655 n.1.
33 In Howard, the Commission held a broker-dealer's vice president in charge of marketing liable for aiding and abetting the fraudulent closing of a part-or-none offering. He had relied on the broker-dealer's corporation finance and compliance departments and outside legal counsel for compliance with the securities laws; the Commission rejected this defense, stating that a securities professional has an ongoing obligation to familiarize himself with pertinent legal requirements to protect investors from illegality.
34 In Seavey, the Commission held an associated person of an investment adviser liable for aiding and abetting antifraud violations based on his participation in a letter to hedge fund investors that misrepresented the fund's assets by including assets that the fund purchased from sellers who fraudulently failed to deliver. The Commission recognized that the associated person diligently attempted to obtain delivery and urged, albeit unsuccessfully, the investment adviser to inform the investors and to initiate civil and criminal proceedings against the fraudulent sellers. The Commission took these factors into account in ordering sanctions, but emphasized that they did not excuse liability.
35 In Graham, the Commission held a registered representative liable for aiding and abetting a customer's antifraud violations despite direction and reassurance from the broker-dealer's branch manager and owner that the trades were legal. The Commission emphasized the registered representative's responsibility to comply with the law. Accord, Adrian C. Havill, 53 S.E.C. 1060, 1068-70 (1998).
36 In Pasztor, the Commission held that a branch manager failed reasonably to supervise a registered representative who aided and abetted a customer's antifraud violations. The branch manager tried to stop the violative trades, but was overruled by the broker-dealer's owner. In finding his efforts insufficient, the Commission emphasized the branch manager's responsibility despite his superior's role in the violations.
37 See Sections 203(f) and 203(i) of the Advisers Act.
38 The Commission increased the $100,000 value set in Section 203(i)(2)(C) of the Advisers Act for violations occurring after December 9, 1996, and, again, for violations occurring after February 2, 2001. See 17 C.F.R. §§ 201.1001 (1996 adjustment), .1002 (2001 adjustment). The 1996 and 2001 adjustments to the civil penalty amounts are pursuant to the Federal Civil Penalties Inflation Adjustment Act of 1990, as amended by the Debt Collection Improvement Act of 1996. Each federal agency is required to adopt regulations at least once every four years adjusting for inflation the maximum civil penalties under the statutes that it administers.
39 See, e.g., Monetta Fin. Servs., Inc., Adv. Act Rel. No 2136 at 23-24 (June 9, 2003) (imposing a ninety-day suspension, cease-and-desist order, and $100,000 penalty on the president of an investment adviser and investment companies who aided and abetted the investment adviser's antifraud violations by failing to disclose that the investment adviser was allocating shares of initial public offerings to accounts of certain investment company directors and trustees. The investment adviser was sanctioned with a censure, cease-and-desist order, and $200,000 penalty.); see also Howard, 79 SEC Docket at 2343 (imposing a three-month suspension, cease-and-desist order, and $50,000 penalty on a broker-dealer salesman who aided and abetted the fraudulent closing of a part-or-none offering by failing to disclose material information to investors.).
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