Financial Regulatory Forum

Will Goldman Complaint Repair the Damage from Madoff Fiasco?

April 23, 2010

Some former government prosecutors are cheering the SEC’s case against Goldman Sachs. Some even called it a watershed event that might rehabilitate the SEC’s image, which has been tarnished in the fallout from the financial crisis and the failure to catch financial fraudsters like Bernard Madoff. Now all the SEC has to do is win its trial against Goldman, which is vowing to fight the charges, reports WG&L, from Thomson Reuters tax and accounting specialists.Some lawyers called the SEC’s civil complaint against Goldman Sachs Group Inc.’s brokerage unit a “watershed” moment, in which the agency will be once again looked at as a tough regulator.

 “I looked up and said, ‘thank, God,’” said Stanley Sporkin, who ran the enforcement division in the 1970s and is a former federal judge. The complaint gives “tremendous credibility to the agency.”

 Sporkin said that when he was the enforcement chief, the SEC brought 28 cases against the then Big Eight accounting firms because he wanted to send a message to the accounting profession. It brought cases against law firms. It took action against Merrill Lynch, at the time the largest investment bank on Wall Street, to send a message to the securities industry.

 “The word got out that you don’t mess with the SEC,” said Sporkin during an April 19, 2010, panel discussion at the national press club in Washington. “I think that’s the kind of thing that’s going to get out now… You are part of a system that requires honesty and integrity.”

He added, “We weren’t trying to scare anybody too much, just a little bit. It worked for a while.”

In recent years, the tough-cop approach lost momentum. As the financial crisis worsened in 2008, the SEC’s public relations problems reached a fever pitch, as even Republican presidential nominee John McCain said the agency’s chief at the time, Christopher Cox, should be fired for his failure to stop the financial sector’s problems from spiralling out of control. The ultimate indignity that splattered the agency’s image was the unmasking of the Bernard Madoff Ponzi scheme, which soon led to revelations that the SEC ignored years of tips and warnings that Madoff was perpetrating a fraud on a massive scale.

 

In “naming the top bank on Wall Street in a fraud case the SEC is without a doubt sending a strong message” to the business community, said Thomas Gorman, a partner in the Washington office of the law firm Porter Wright Morris & Arthur LLP and the cochair of the American Bar Association’s white collar securities section.

 

John Reed Stark, managing director of Stroz Friedberg, said the Goldman case is the first one arising from one of the five specialized groups, a new initiative that the SEC’s enforcement director Robert Khuzami implemented to bring in more financial expertise in going after financial fraud.

For “the first time in SEC history, you are sort of saying to all SEC enforcement staff, ‘where do you want to work, what group do you want to be in?’” said Stark, the founder and former chief of SEC’s enforcement’s office of Internet enforcement. “That changes the dynamics considerably.”

Stark added that Congress is taking the welcome, but unusual, step of encouraging the SEC to engage in tougher enforcement.

“I see it as a tremendous watershed,” Stark said.

Not everyone was so enthusiastic.

“This is a matter and investigation that extends back far into 2009,” said George Curtis, a partner at Gibson, Dunn & Crutcher and until last year a regional and deputy director for SEC enforcement.

“I am impressed that the staff has moved forward on this particular front,” Curtis said. “And I am impressed as well there seems to be a general forgetfulness that this is the same group that brought subprime mortgage investigations and the two cases that are now pending. It is the same group that brought the auction rate securities.”

“I am not prepared to call this a watershed event. I am prepared to say this is an outgrowth that’s in development,” Curtis added. “It shows hope for SEC.”

Gorman added that the SEC has to either follow through and get a good settlement or win at trial.

“The SEC needs to continue bringing actions like this,” Gorman said. “One case will not restore its reputation. For example, it reportedly has other similar deals under investigation.”

Running the complaint against Goldman, which is accused of putting together a collateralized debt offering that was all but guaranteed to blow up on investors, may prove tough.

Goldman is vowing to fight the charges. The bank put out a statement that said it was “disappointed that the SEC would bring this action related to a single transaction in the face of an extensive record which establishes that the accusations are unfounded in law and fact.”

Goldman also said that there was adequate disclosure in the offering sheet and that it did not deliberately put together a deal that was designed to lose money.

“The point here is that the SEC needs to bring more significant cases out of these investigations,” Gorman said. “Bringing the Goldman case is a start. Losing the case would severely damage the SEC’s reputation given all of its recent failures.”

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