By MICHAEL SMALLBERG
A draft Securities and Exchange Commission (SEC) memorandum posted today by POGO Investigator Paul Thacker in an article for Forbes sheds new light on a controversial SEC investigation into Deutsche Bank, a case that was mysteriously and abruptly closed in 2001 just before the SEC's Enforcement Director left the agency to become Deutsche's General Counsel.
The case described in Forbes was previously highlighted in Matt Taibbi's Rolling Stone piece on the SEC’s long-standing practice of destroying preliminary investigative documents (in contrast to the preliminary inquiries that were the main focus of Taibbi’s piece, the SEC’s case against Deutsche had progressed to a full-blown formal investigation). Taibbi described how Darcy Flynn, the SEC enforcement attorney who blew the whistle on the agency’s document-shredding policy, had previously worked on a case involving Deutsche and the bank’s CEO, Rolf Breuer.
Flynn and his enforcement colleagues built a case showing that Breuer made a materially misleading statement regarding Deustche’s plans to acquire Bankers Trust. The case was strong enough that the SEC enforcement staff had obtained a formal order authorizing them to issue subpoenas in the case, and were on the verge of filing charges.
But on July 10, 2001, SEC Enforcement Director Richard Walker announced he was leaving the agency, and Flynn and his colleagues were informed that Walker was recusing himself from the Deutsche case. Two weeks later, the Enforcement Division informed Deutsche that the investigation had been terminated. On October 1, Walker landed a job as Deutsche’s General Counsel.
Today’s piece in Forbes now offers damning new details on the charges that were never filed against Deutsche and Breuer, providing additional insight into Flynn’s whistleblowing. Thacker has obtained and posted a March 2001 draft “Action Memorandum,” prepared by the SEC enforcement staff in consultation with four other SEC offices, that lays out a carefully constructed case against Deutsche and Breuer and recommends enforcement action seeking injunctive relief and a civil penalty.
The draft Action Memorandum also indicates that the SEC issued a Wells notice to Deutsche and Breuer informing them of the SEC’s pending charges. As described in the SEC Enforcement Manual, a Wells notice typically “identif[ies] the specific charges the staff is considering recommending to the Commission,” and “accord[s] the recipient of the Wells notice the opportunity to provide a voluntary statement...arguing why the Commission should not bring an action against them.” It is usually one of the final stages before the SEC takes enforcement action against a firm or individual.
The Action Memorandum states that counsel for Deutsche and Breuer responded to the Wells notice by arguing that the talks between Deutsche and Bankers Trust were not material, that they did not amount to “takeover talks,” that Deutsche had no incentive to deflate the price of Bankers Trust’s stock, and that the drop in Bankers Trust’s stock price was not statistically significant. But the SEC wasn’t convinced. According to the Action Memorandum, the enforcement staff determined that Deutsche and Breuer’s arguments were “not persuasive and at times, [we]re contradictory and inaccurate.”
The fact that the SEC had already issued a Wells notice to Deutsche and Breuer and offered a rebuttal to their response makes the dropped investigation even more of a mystery.
SEC Inspector General David Kotz recently told the Times of London that his office has “been made aware of the allegation of Darcy Flynn concerning the alleged improper closing of an investigation involving Deutsche Bank in 2001 and ha[s] been investigating this particular allegation (as well as other allegations made by Flynn).” In response to Thacker’s queries, both the SEC and Deutsche declined to comment.
Thacker also raised questions about whether the SEC is likely to reopen the investigation of Deutsche and Breuer. Robert Khuzami—who spent five years overseeing Deutsche’s U.S. legal division at a time when the bank was one of the largest issuers of mortgage products that helped fuel the financial crisis—became the SEC’s Enforcement Director in February 2009 on the recommendation of Richard Walker, and has recused himself from working on any matters related to Deutsche. The Justice Department recently filed a civil lawsuit concerning the “reckless lending practices” at Deutsche’s mortgage division, but the SEC has not filed any charges against Deutsche for its role in the mortgage crisis. Meanwhile, in a separate ongoing case, prosecutors have alleged that Breuer made false comments that precipitated the bankruptcy of the Kirch Group.
After the Deutsche case was dropped, Walker repeatedly engaged the SEC on behalf of the German bank. POGO has obtained two statements filed by Walker indicating that he intended to represent Deutsche before his former colleagues in the Enforcement Division within two years of leaving the agency. One statement suggests that Walker was walking a fine line on violating post-employment restrictions related to his previous work at the SEC:
In particular, I plan on attending a meeting at the Commission on this matter this Thursday with the SEC and other regulators. I understand that there is also a possibility that discussion may arise at this meeting concerning IPO allocation issues (which have arisen in inquiries separate and apart from the research analyst matter). Should a discussion arise concerning IPO allocations, I would recuse myself from this part of the discussion and leave the room. (Emphasis added)
Two years later, Deutsche paid $87.5 million to settle charges with the SEC and other regulators regarding research analyst conflicts of interest.
Michael Smallberg is a POGO Investigator.
Image via Flickr user iSalva.