|
2004
CASE
ANALYSIS
In
the Matter of Deutsche Bank Securities Inc
NEW YORK STOCK EXCHANGE HEARING PANEL DECISION 04-128, August 2, 2004
pursuant to a Stipulation of Facts and Consent to Penalty
http://www.nyse.com/pdfs/04-128.pdf
NOTE: New York Stock
Exchange Hearing Panel Decisions (HPD) denoting Stipulation of
Facts and Consent to Penalty (SFC) are entered into by Respondents without admitting or denying
the allegations, but consent is given to the described sanctions and to
the entry of findings.
Deutsche Bank Securities Inc, an NASD and NYSE
member organization (the “Firm”), is a registered broker-dealer with its
principal office located in New York, New York, and a subsidiary of Deutsche
Bank AG.
The Firm's “equity research department,” provides its investment
clients and the public with research reports. The Firm's research analysts "cover" a company's stock when they are
generally assigned to review the investment outlook of specific public
companies within a certain industry or sector, such as technology or
biosciences.
From July 1999 through June 2001 (the "relevant period"), Firm analysts
made themselves available via telephone, electronic mail, and in person to the
Firm’s institutional and retail sales force to answer questions about
industry sectors and companies covered by the analyst. In addition, analysts
provided periodic research updates to the sales forces through “morning calls”
held before the start of trading. The research reports were distributed
internally to various departments at the firm, made available to institutional
and retail customers, and disseminated to subscription services such as First
Call and Bloomberg. The firm’s customers received the research reports
through the firm’s website and also through electronic mail or postal mail if
they were on the firm’s mailing lists. Analysts’ recommendations were also
reported in the U.S. financial news media. The Firm held out its research
analysts as providing independent, objective and unbiased information, reports,
and recommendations upon which investors could rely in making informed
investment decisions. |
Analysts
generally:
- review the performance of the covered
companies,
- evaluate their business prospects, and provide analysis and
projections regarding the future prospects of the company,
- provide a
rating or recommendation as to whether the company presents a good investment
opportunity, and
- often provide a price target (the market price at which the
analyst expects the stock to trade within a given time).
|
When
4 Are Really 3
|
During the relevant period, the Firm had a
four-point rating system: “Strong Buy”; “Buy”; “Market Perform”;
and “Market Underperform.” However,a
substantial majority of the companies covered by the Firm’s analysts in the
technology, biotechnology, media, and telecommunications sectors received a Buy
or Strong Buy rating. In contrast, only one of the more than 250 companies
covered by the Firm during the time period had lower than a Market Perform.
Accordingly, what the Firm held out as a four-point rating system for stocks in the above sectors was effectively a
three-point system.
|
“Strong Buy” or “1”
rating:
“DBSI expects,
with a high degree of confidence, that the securities will significantly
outperform the market time frame and that the time to buy the securities
is now.” |
|
“Buy” or “2” rating:
“DBSI expects
that the securities will out perform the market by 10% or more over the
next 12 months.” |
|
“Market Perform” or “3” rating:
“DBSI expects that the
securities will broadly perform in line with the local market over a
12-month period and the share price is likely to trade within a range of
+/- 10%.” |
|
“Market Underperform” or “4” rating:
“DBSI expects the
securities to underperform against the local market by 10% or more over
the next 12 months.” |
|
During the relevant period, the Firm was the
ninth largest underwriter in the U.S. securities market, receiving about $1.15
billion in investment banking fees. The Firm’s investment banking division
assisted companies with raising capital through initial public offerings (“IPOs”),
“follow-on” offerings (subsequent offerings of stock to the public), and
private placements of stock. It also assisted companies with negotiating and
brokering other corporate transactions, such as mergers and acquisitions.
During the relevant period, investment banking accounted for approximately
29.2% of the Firm's total revenues.
The Firm generally competes with other
investment banks for selection by issuers and other sellers of securities as
lead underwriter or “bookrunner” on securities offerings. The lead
underwriters receive the largest portion of the investment banking fees, called
underwriting fees; accordingly, there are significant financial rewards to
being selected as the lead underwriter. The lead underwriters also establish
the allocation of shares in a securities offering and typically retain the
greatest number of shares for themselves. The typical IPO generates significant
investment banking fees for the lead underwriters. In addition to their
research responsibilities, analysts assisted investment bankers in performing
due diligence on investment banking transactions. The Firm’s
compensation structure rewarded analysts for investment banking deals
consummated in their sectors. Investment banking interests also played a role
in determining which companies would be covered by the firm’s analysts and
which would be dropped.
|
Because
the Firm did not charge for its research, the Americas Equity
Research Department at the Firm was a “cost center,”
substantially funded by the firm’s departments responsible for
institutional clients and investment banking.
- the equities department
funded 50% of the research department’s expenses,
- the investment banking
department funded 43%, and
- the retail department
funded 7%
|
When
Jupiter Aligns With Mars
|
In order to “align” the interests of
the analysts with the interests of the other departments at the firm whose
revenues funded the research department, the Firm created an “analyst
performance matrix” that ranked all of the Firm’s analysts based upon
several criteria. Beginning in 2000, the Firm determined bonuses for its
research analysts based upon this matrix. These bonuses, which ranged from
hundreds of thousands to millions of dollars, made up the vast majority of
most analysts’ compensation.
|
In
2000
- one-third of an analyst’s
ranking was based upon the analyst’s contribution to
investment banking,
- one-third upon his
or her contribution to the institutional investor franchise,
and
- one-third upon the
research director’s subjective assessment.
In 2001, a fourth
equally-weighted category – the analysts’ ranking in independent
surveys, such as the All American Institutional Investor Poll –
was added to the matrix. |
Analysts
received “credit” for all investment banking deals in their
sector (regardless whether they worked on the deal), as well as for
deals outside their sector to which they contributed personally.
This amount was then adjusted upward or downward by 25-30% based
upon the reviews provided by the investment bankers who worked with
the analyst. Thus, if an analyst was helpful to investment bankers
in the analyst’s sector by, for example, generating deals for his
sector, the analyst could get a high rating from the investment
banker and thus increase his rating in the matrix and, potentially,
the size of the analyst’s bonus.
|
Investment
bankers rated analysts based on a scale of
1 (“Analyst Extremely
Important To A Majority Of Investment Banking Revenue. Without The
Analyst, Our Revenue Would Have Been More Than 50% Below What We
Generated.”) to 5 (“Analyst Had A Negative Impact On
Investment Banking Revenue.”).
Analysts at the top of
the matrix – and thus who received the largest bonuses –
typically received all 1’s or 2’s from investment bankers, as
well as scored highly in other areas of the matrix. |
| The Firm’s
research management circulated draft quarterly investment banking
deal reports to analysts to verify the investment banking deals for
which analysts were to receive credit. Analysts were encouraged to,
and did, respond to these reports with additional examples of deals
in their sector or on which they had worked. In these responses and
in the yearly performance self-evaluations that analysts completed,
many analysts identified the importance of their work in bringing
investment banking business to the Firm and the value of that work
to the firm. Analysts discussed the investment banking imperatives
that they had addressed through coverage of certain areas or
companies or otherwise. Research management based promotion
decisions in part upon the analyst’s assistance to the firm’s
investment banking business. |
For
example, analysts stated in their self-evaluations:
- a. “Won two lead
managed IPO mandates ... Won one secondary offering ... as a
result of relationship with management team (our investment
bankers did not have any previous relationship with the
Company). … DBAB generated a $400K (roughly) fee. Participated
in winning mandate on … convertible debt offering despite
previous … analyst leaving DBAB. … DBAB earned a $10M
(roughly) fee…. My previous management relationships allowed
the firm to make equity investment in a number of promised
private communications equipment companies.”;
- b. “Completed 8 banking
deals ..., generating an estimated $8-10 million in fees; 7 of
the 8 were either research driven or solely research driven ...
Were invited to pitch ... the $2-3 billion … IPO; I started
the ball rolling.”
For example, in an April
2001 e-mail exchange between two analysts, one analyst said that he
was told one of his goals for the year was to “generate at least
as much in banking fees as he did last year.”
In certain instances,
research management requested that analysts complete “business
plans,” such as when transitioning coverage from one analyst to
another. |
According to the director of research, investment banking opportunities
were a factor in determining research coverage. For example, one analyst
testified that he agreed to maintain coverage of certain companies he
would otherwise drop until the banker had the opportunity to “close”
the transactions the banker was hoping to win. Analysts also routinely
identified to their investment banking counterparts private companies that
might go public. Often, it was the research analyst’s relationship with
the company that convinced the company to use the Firm’s investment
banking services. If the company did indeed use the Firm for its
investment banking business, the analyst would typically cover the company
for the Firm.
|
An analyst expressed her disappointment
in a February 2001 e-mail that the firm had not been included in an
offering by Charlotte Russe Holding Inc. The analyst stated that “the
only reason we picked up coverage of the stock [Charlotte Russe Holding
Inc.] was to be involved in IB flow.” The analyst had just rated the
company a “Buy” on December 21, 2000.
|
In July 2000, a
banker in the Hong Kong office of the Firm sent an e-mail to the
director of research stating that “the lack of coverage [of
Pacific Century Cyberworks] continues to be a major problem in our
relationship, and we have been categorically assured that none of
[the company owner’s] (very substantial) deal flow will come our
way until we make good on our promise . . . .” The director of
research later sent an e-mail to his assistant stating “we need to
have active, co-coverage of this name in the US. been [sic] a big
fee paying customer of ours that we have promised US coverage that
past US research management agreed to.”
|
|
The Firm acted as a lead underwriter for
the Webvan IPO in November 1999 and initiated coverage with a Strong Buy
rating and $50 price target shortly thereafter. At the time, the stock was
trading at $24.69. In a series of reports issued in April-July 2000,
although the new analyst covering the stock recognized and discussed
significant risk factors facing the company in his reports, he maintained
the Strong Buy rating (with no price target) even as the stock dropped to
the $6-9 range. On September 15, 2000, with the stock trading at $3.47,
the analyst downgraded Webvan to a Buy. On January 10, 2001, with Webvan
at $0.44, the analyst downgraded it to Market Perform, and held that
rating on July 9, 2001, when Webvan declared bankruptcy.
|
|
In March 2000, the Firm had a Strong Buy
recommendation on the stock of Peregrine Systems. At the time, the stock
was trading at over $70. In April 2000, although the stock had dropped to
$24.50, the Firm maintained its Strong Buy recommendation. The Firm
continued its Strong Buy recommendation until the stock price hit $0.24 in
September 2002.
|
Pitchbooks
|
Securities firms typically seek
investment banking business through a presentation that includes a "pitchbook," which
is presented to a company by the investment bankers. During the relevant period, the Firm
implicitly promised in its pitchbooks that its research analysts would
cover a company if the company gave it investment banking business ---
even going so far as to say that the Firm would “be [the company’s] leading
advocate.”
After completing some due diligence, Firm analysts
typically prepared the “Research Positioning” section of the pitchbook,
which described how the analyst would market the company to investors in research reports.
Accordingly, the
pitchbook would sometimes state that the Firm analysts would promote the
company’s “compelling business model,” its action in “rebuilding
supply chains to provide superior value to producers and customers,” or
its “huge market opportunity.” Pitchbooks described analysts as the
“key ‘Champion’” of the pitched companies. In other pitchbooks,
positive research coverage was suggested by reference to the Firm’s
positive coverage of other companies. The Firm described how the analyst
had covered another company – and how the analyst’s favorable ratings
of the stock corresponded with the stock’s rise in price.
The Firm’s pitchbooks
also typically stated that the analyst would engage in various activities in connection
with the IPO, including pre-marketing, marketing, initial coverage,
ongoing coverage, industry reports, sponsorship of visits, dinners with
key investors, and investor presentations. The analyst also assisted the
investment bankers in performing due diligence on the company and had a
say in whether the firm would participate in the offering. If the analyst
did not support the deal, the firm typically would not proceed with the
offering.
|
For example,
the December 11, 2001 pitchbook for LeapFrog Enterprises, Inc. (“LeapFrog”)
identified the analyst’s reports on another company – his buy and
strong buy ratings of that company in frequent research reports – and
graphed them against the stock price of the company to suggest that the
analyst’s ratings and reports assisted in the increase in the stock’s
price. Several months later, the Firm was selected as a co-manager for
LeapFrog and received investment banking fees.
In October 1999, the Firm had an analyst in London covering Autonomy Corp., a
European-based company, for its U.S. IPO. The Autonomy pitchbook showed a timeline for the
deal and indicated that after the “quiet period” (a period of time
after an offering during which the underwriting firms cannot 10 publish
research), the analyst would “Raise Rating and Estimates.” After the
pitch, the Firm became the lead underwriter, and the analyst began covering the company in the U.S. after its U.S. IPO at
the same Buy rating that his European counterpart had used prior to the
U.S. IPO.
|
| Research
analysts often accompanied investment bankers on the pitches to the
company. After the pitch and once the Firm was selected as the
underwriter, the analyst typically worked together with the investment
banker to (among other things) perform additional “due diligence” on
the offering and participated in so-called “roadshows” to meet
institutional investors. It was understood by all parties involved –
the analyst, the underwriters, and the issuer – that the analyst would
typically speak favorably about the issuer when initiating coverage.
Indeed, at least one pitchbook implied that the Firm would provide
favorable coverage.
The
Firm knew that companies expected the firm to commit to provide them with
research coverage before they would award the firm investment banking
business. Thus, in at
least some cases, companies demanded research coverage before selecting an
investment banker. Indeed, at least one company conditioned payment of
its investment banking fee to the Firm upon receiving research coverage
after the transaction. Proxima ASA withheld payment of
approximately $6 million in investment banking fees relating to its merger
with another company in 2000 because the Firm had not published research
on the company. After the Firm subsequently issued a September 21, 2001
research report on the company, the fee was paid.
In some instances,
the Firm’s analysts also internally suggested conditioning the
continuation of research coverage upon whether the company gave the Firm
its investment banking business. One analyst e-mailed the director of
research in April 2000 and asked whether he should tell a company whom he
believed had misled him about its earnings report that he would drop
coverage, unless they brought their recently announced financing
transaction to the Firm. The director of research responded, “I think
that is EXACLTY [sic] what you should do.” The firm ultimately did not
drop coverage.
|
An analyst sent an e-mail to an issuer
stating the analyst would provide bi-monthly research coverage on the
issuer “if [the Firm were] meaningfully included in [the issuer’s]
financing activities.” The analyst also stated that she would present
the issuer to the Firm’s salesforce once a week and to publish several
in-depth reports to send out to the Firm’s institutional base.
In an e-mail from the Firm’s Asia office, a
banker reported that a company told him that “for any future business,
[they] had to have research coverage and it had to be from a U.S. analyst
… the lack of coverage continues to be a major problem in our
relationship, and we have been categorically assured that none of deal
flow will come our way until we make good on our promise.” |
Exaggerated or Unwarranted Research
| In certain instances,
analysts gave advice to institutional clients or others that conflicted
with their published ratings on particular stocks, thus indicating that in
those instances, the Firm published research that was exaggerated,
unwarranted, or unreasonable. |
| An
analyst had a Buy recommendations for Oracle in his published research on March 1,
2001, March 15, 2001, and April 30, 2001. After meeting with the analyst
in the spring of 2001, the institutional investor placed an order with the
Firm to sell more than a million shares of its position in the stock.
Immediately after that sale, the Firm institutional salesperson
responsible for the account sent an e-mail to the director of research,
commending the analyst’s performance and stating that the client would
be sending its Institutional Investor votes to the analyst. (Subscribers
vote for analysts that have provided information in an annual poll of the
most influential research analysts conducted by Institutional Investor
magazine.) Other institutional salespeople also commented about the
analyst’s helpfulness to them, stating that he had put a “great sell
on Oracle.” |
| An
analyst in the software
application sector e-mailed an investment banker in April 2001 on another
stock he covered, Eprise Corp., with a “request to drop coverage,”
stating that the “stock continues to trade below $1 and these guys are
permanent toast.” The analyst had a January 5, 2001 Market Perform
rating on the stock at the time. |
|
In April 2002, an analyst
communicated to an executive officer of the Firm’s investment banking
client, Getty Images, Inc., about the price target he had given the
company in an April 5, 2002 report. He told the executive not to worry
about the current price target, because he would consider raising it at
another time: I
thought my approach was appropriately supportive of my
favorite company, but still realistic…. My best guess is the stock stays
in a trading range pending another quarter’s evidence of [the client’s]
superior operating skills, leveraged by further improvements in the ad
market. This leaves me room to boost the target price in conjunction with
future increases in the earnings estimates. I certainly wouldn’t want to
put you under any near-term pressure by raising the bar too high. After
all, I’m only thinking about you! |
Filthy
Lucre
| During the relevant
time period, the Firm received over $1 million from other investment banks
for services that included research coverage of those firms’ banking
clients. In addition, it made payments of approximately $10 million to
other brokers for services that included research coverage of the Firm’s
banking clients. These payments were made from the underwriting proceeds
of the transaction, and in certain instances, were directed by the
issuers. In a January 2000 e-mail discussing the “norm” on Wall
Street, a banker stated that for transactions above $75 million, “there
are plenty of gross spread dollars to be allocated for future research
coverage in the management fee.” During the relevant time period, the Firm received payments
on at least four deals for which it was not the lead or co-lead manager.
Internal documents at the firm reflect that these payments were made for
research. |
In
each of the four instances where the Firm received a payment for research,
the Firm was not a member of the underwriting syndicate. (In several of
the instances, the Firm was considered a member of the “selling group;”
however, the selling group members do not retain any underwriting risk and
the Firm did not acquire or sell any shares in these offerings.) The
payments were made from the underwriting proceeds of the offerings. The
payments totaled over $900,000. In each instance, the Firm issued
research reports recommending the stocks of the issuers involved in the
offerings. Emisphere was initiated at a “Buy”; the ratings of the
three stocks already covered by the Firm did not change. However, in all
four instances, the Firm failed to disclose in its research reports that
the firm had received the payments and the source and amount of the
payments. |
| In
the spring of 2001, the Firm was covering
Transkaryotic Therapeutics, Inc. with a “Strong Buy” and was pitching
for the company’s investment banking business. When the company selected
another investment bank, the research analyst called Transkaryotic and
expressed his displeasure that the Firm had not been selected to do the
deal. The analyst told the company that he had spent his morning on the
phone supporting the deal and that it was the analyst’s upgrade of the
stock from a Market Perform to a Strong Buy several weeks before that had
increased the stock price and helped make the deal a success. The company
directed that the Firm receive a payment of $300,000 from the underwriting
proceeds. The analyst recorded in his self-evaluation form for that year
that the firm had been “paid for our research” on this and one other
deal. |
| Similarly,
in October 1999, a company called Emisphere, which was not being covered
by the Firm, decided to do a follow-on offering. Although the Firm did not
participate in the deal, it received an $87,500 payment from the proceeds
of the deal. The deal sheet and the $87,500 check from the lead manager
both reflected that the payment was made “for research.” In fact, the
deal sheet stated “Not in Deal / Received $87500.00 for research.”
Moreover, a contemporaneous internal e-mail from the Firm states that “[t]here
was talk about us participating in the deal but b/c of the small size,
proposed economics, etc we opted to pass. However, we did agree to pick up
research coverage and a[s] result we will be getting the sales credit on
10% of the institutional pot.” (During an offering, whenever the sale of
shares to large institutional clients cannot be attributed to the selling
efforts of any one firm, the commissions for the sales are placed into an
“institutional pot.” The credits are then divided among the firms as
selling concessions.) The Firm initiated research coverage of Emisphere
with a Buy recommendation on November 17, 1999, after the end of the quiet
period. The research report did not disclose the $87,500 payment. |
|
The Firm also
received a payment of $150,000 in March 2000 for research on United
Therapeutics, Inc. and a payment of $375,764 in December 2001 for covering
Trimeris, Inc |
|
During
the relevant period, the Firm made payments to other investment banking
firms to have them, among other things, provide research coverage of the
Firm’s investment banking clients. A senior executive in the Firm’s
Equity Capital Markets department testified that, during the relevant time
period, these payments were made on “one out of four” deals for which
the Firm was the lead or co-lead manager. Although in many instances
the payment was made at the issuer’s direction, the Firm actively
participated in the process. In its pitches for the business, the Firm
advised the issuer that it would select members for the underwriting
syndicate based upon that firm’s ability to provide research coverage.
In at least one instance, the Firm advised its client that it would be
possible to “attract specific additional Research Analysts” by
offering them free retention shares. During the relevant period, the
Firm made these payments in at least 25 offerings where it was the lead or
co-lead manager. The payments, which came from the underwriting proceeds,
were made to at least 35 other broker-dealers who either were not part of
the underwriting syndicate or who received a payment significantly in
excess of their underwriting fee on the transaction. In many of these
instances, the Firm’s internal e-mail and other internal documents
recorded these payments as “research payments.” In all, the
Firm made payments totaling over $10 million on at least 50 deals in order
to have other firms provide research coverage of the Firm’s investment
banking clients. These payments were not disclosed in the prospectus or
other publicly available documents disclosing the terms of the
underwriting deal. The Firm did not take steps to ensure that these firms
disclosed in their research reports that they had been paid to issue
research. Further, where applicable, the Firm did not disclose or cause to
be disclosed in the offering documents or elsewhere the details of these
payments.
|
The
Firm was the lead manager for U.S. Aggregates’ follow-on offering of
5.475 million shares of stock in August 1999. The dealer book (the
document used by the Firm to track firms’ involvement in the deal) noted
under one firm’s name: “RESEARCH FOR $$. ADDL 100M SHARES OF CREDIT.”
The dealer book made similar notations for other firms.
Similarly, the
Firm was the lead manager for Endwave Corporation’s follow-on offering
of 6.9 million shares of stock in October 2000. The Firm’s dealer book
reflected that another firm would receive payment as part of the deal and
notes that the Firm deal captain “spoke to Jan – their going rate is
$100,000 – no less for research, she will follow with [ ] analyst….”
On January 12, 2001, the Firm sent a $100,000 check to the firm. The
accompanying statement reflected that the payment was a “Research
Payment.” Although not all of the firms appear to have issued
research after receiving the payments, internal e-mails indicate that the
Firm policed the other firms to ensure that research was in fact issued.
Also, in connection with a Firm lead-managed follow-on offering for
Align Technologies, Inc. in January 2001, one of the deal captains wrote,
“They [another firm] owe us on a past deal for which they promised and
got paid on research but lost the analyst prior to rollout. They are
picking this up regardless with no fees associated.”
|
Failure
to Supervise
The Firm failed to establish and maintain adequate policies and
procedures to ensure the objectivity and independence of its research
reports and recommendations. Although the Firm had written policies
governing the preparation and distribution of research during the relevant
period, these policies were not reasonably designed to prevent or manage
the conflicts of interest that existed between research and investment
banking. In addition, at least several analysts were unfamiliar with
or did not comply with the policies. The Firm’s written policies in
effect after May 2001 prohibited research analysts from sending issuers
draft reports containing the analysts’ recommendations and price
targets. At least one analyst was unaware of this policy; other analysts
admitted that even though they knew of the policy, they violated it by
sending draft reports with recommendations and price targets to issuers
for comment before the reports were published.
Failure
to Produce
In April 2002, federal regulators requested that the
Firm produce all e-mail for a two-year period for certain employees in its
research and investment banking departments. At the same time, the Firm
was asked to not delete e-mail or overwrite e-mail backup tapes. The Firm
agreed to the requests, sent out such instructions, and began producing
e-mail. State regulators joined in the investigation in coordination with
the federal regulators. In their review of the Firm’s production,
federal and California state regulators noticed apparent discrepancies in
the volume of e-mail that was being produced for various individuals. The
regulators also believed that anticipated responses to certain e-mails
were missing and the production appeared to be incomplete. These
discrepancies were immediately brought to the attention of the Firm. The
Firm repeatedly assured the regulators that its e-mail production was
complete. Responding to the issues raised by the regulators, the firm
stated that the variance in the volume of emails for particular
individuals was attributable to
a) individual practices (that is, that
some people received and kept more e-mail than others),
b) the fact that
different entities that now comprised the Firm had differing historical
e-mail retention practices, or
c) the Firm’s failure to maintain all
of its e-mail for the required three-year time period, for which the firm
had been fined $1.65 million in joint actions by the Commission, the NASD,
and the NYSE in December 2002.
The regulators continued to examine the
production discrepancies. One discrepancy involved the Firm’s production
of e-mails for only twelve of the twenty-four months for the e-mail server
located in its San Francisco office. Ultimately, on the eve of the Global
Settlement in April 2003, the Firm, based on inquiries by California state
regulators, determined that one or more e-mail backup tapes had not been
restored to retrieve available e-mail, and so informed the regulators. The
Firm subsequently learned, and informed the regulators, that in numerous
instances, their production retrieval process had failed.
The Firm
relied upon the statements of low level supervisory and information
technology personnel that all available e-mail had been produced, without
confirming that such assurances were accurate. The information technology
personnel who retrieved the e-mail data from backup tapes and other
storage media did not have sufficient guidance and had not been adequately
trained on how to respond to regulatory requests for e-mail. Despite the
Firm’s assurances to regulators that e-mail would not be overwritten or
deleted a number of electronic backup tapes containing e-mail were
discarded during the production period by an employee who believed that
they contained no recoverable e-mail. Internal or external third parties
with forensic data retrieval expertise were not consulted to confirm that
the tapes were corrupted and to assess whether restoration was possible
using different technology. In certain instances, the Firm neglected
to restore backup tapes to determine whether they contained responsive
e-mail. In other instances, the Firm incorrectly identified as “unavailable”
backup tapes that were, in fact, available or in offsite storage
facilities, and also stated that certain tapes had been overwritten when
that turned out not to be the case. The Firm also discovered, after
continued questioning by the regulators, that a large volume of e-mail
still existed on file servers, an offline help desk server, and backup
tapes that had been scrapped but not yet overwritten.
Once the tapes were
restored and data retrieved from them, the Firm found certain e-mail for
analysts for whom the Firm had previously stated that no e-mail existed.
After the Firm had informed the regulators that it was close to completing
its production the Firm determined that it had the ability to retrieve
certain previously-deleted e-mail which had not been retrieved by the Firm’s
original restoration process. The Firm’s inability to reliably
locate and produce e-mail in response to regulatory requests and
subpoenas, which resulted from a lack of guidance to information
technology personnel, a lack of adequate procedures, and a lack of proper
supervision, delayed the completion of the investigation into analyst
conflicts of interest at the Firm by over a year. As the investigation
continued, the regulators were forced to invest considerable time and
resources to probe the Firm’s e-mail production failures, including
taking testimony from numerous information technology personnel. In
response to the problems that were identified by the regulators in April
2003, the Firm took steps to ensure that the previously overlooked e-mail
was restored and produced to regulators, and revised its procedures and 16
protocol for gathering and producing historical e-mail. Ultimately,
however, the failure of the Firm to fully and completely respond to the
initial requests of the regulators significantly delayed the completion of
the investigation for an unreasonable length of time. Over the course
of the following year, the Firm produced an additional 227,000 e-mail --
more than three times the volume that it produced during the investigation
as of December 2002.
|
|
Decision
The NYSE found that Deutsche
Bank Securities, Inc.:
I. Violated Exchange Rule
476(a)(6) by engaging in conduct inconsistent with just and equitable
principles of trade by:
A. Engaging in acts and
practices that created and/or maintained inappropriate influence by
investment banking over research analysts, therefore imposing conflicts of
interest on its research analysts, and failing to manage these conflicts in
an adequate or appropriate manner.
B. Issuing research reports
that were affected by the conflicts of interest imposed on its research
analysts.
C. Receiving payments for
research, directly or indirectly from underwriters and issuers, without
disclosing receipt of the payments as required by Section 17(b) of the
Securities Act of 1933, as amended.
D. Failing to disclose or
cause to be disclosed in offering documents or elsewhere payments for
research to other broker-dealers in connection with underwriting
transactions;
II. Violated Exchange Rule
476(a)(11) by failing to timely produce e-mail records requested in
connection with the investigation of the Firm’s research and investment
banking practices;
III. Violated Exchange Rule
401 by failing to adhere to the principles of good business practice in the
conduct of its business affairs by:
A. Engaging in acts and
practices that created and/or maintained inappropriate influence by
investment banking over research analysts, therefore imposing conflicts of
interest on its research analysts, and failing to manage these conflicts in
an adequate or appropriate manner.
B. Issuing research reports
that were affected by the conflicts of interest imposed on its research
analysts.
C. Receiving payments for
research, directly or indirectly from underwriters and issuers, without
disclosing receipt of the payments as required by Section 17(b) of the
Securities Act of 1933, as amended.
D. Failing to disclose or
cause to be disclosed in offering documents or elsewhere payments for
research to other broker-dealers in connection with underwriting
transactions;
IV. Violated Exchange Rule 472
relating to communications with the public by:
A. Issuing research reports
that contained recommendations and/or ratings that were exaggerated or
unwarranted claims and/or contained opinions for which there was no
reasonable basis.
B. Failing to disclose
payments it received for research as required by Section 17(b) of the
Securities Act of 1933, as amended.
C. Failing to disclose or
cause to be disclosed in offering documents or elsewhere payments for
research to other broker-dealers in connection with underwriting
transactions; and
V. Violated Exchange Rule 342
by failing to establish and maintain adequate policies, systems, and
procedures for supervision and control of its Research and Investment
Banking Departments reasonably designed to detect and prevent the foregoing
investment banking influence and manage the conflicts of interest, including
a separate system of follow-up and review to assure compliance with
applicable Exchange Rules.
Accordingly, the following
sanctions were imposed:
Censure; total payment of
$87,500,000, as specified in the Final Judgment ordered in a related action
filed by the Securities and Exchange Commission (“Final Judgment”) the
payment provisions of which are incorporated by reference herein, as
follows:
1. $25,000,000, as a
penalty;
2. $25,000,000, as
disgorgement of commissions, fees and other monies;
3. $25,000,000, to be used for
the procurement of Independent Research, as described in Addendum A:
Undertaking to the Final Judgment (“Addendum A”), incorporated by
reference herein;
4. $5,000,000, to be used for
investor education, as described in Section IX of the Final Judgment;
and
5. $7,500,000, as a penalty
for violating Exchange Rule 476(a)(11). In addition, the Firm shall complete
an undertaking to ensure compliance with the terms provided in Addendum A,
including an undertaking to inform the Exchange in writing that it has
policies, systems, and procedures reasonably designed to ensure compliance
with the provisions of Addendum A.
|
Bill Singer's
Comment
This is an amazing
case that fully explains a number of practices that were winked at by
Wall Street for all too long. The NYSE is to be complimented on
issuing such a thorough exposition of the underlying acts, the
conflicts they created, and the nature of the violations. This
case is a superb primer for the public and industry alike.
Nonetheless, there
are a number of troubling issues with this matter. First, I
would ask you to consider the sanctions imposed by the NASD in the
following research-related cases:
Now, here's what I
don't understand. In the above cases the NASD charged not only
the member firm but also the flesh-and-blood human beings it held
accountable. It's not as if firm X is named in a major decision
in August 2004 but the individuals responsible are named in separate
cases in June, July, September, and October 2004 --- and you can't
even figure out (without a scorecard) whether they were all related to
that important decision you read earlier in the year. Not that
the NASD has always been so forthcoming, but I can't fault them
recently. For years, the NASD would name the boiler room and its
owner and its supervisors and its salespersons in one often nasty
decision. However, the major firms got different
treatment. A top-tier firm got named all by itself and its human
beings were separately named in their own decisions, if at all.
Got to a point where it seemed that only smaller firms had their men
and women charged in public and the larger ones seemed to deflect that
exposure through some negotiation. And yes, it is a horrendous
form of bias Why? Because the sanctions imposed upon all
the individuals noted above in the NASD cases are expensive, and embarrassing,
and publicly disclosed --- and all those other things that are
calculated to pressure smaller firms and their officers and
employees. Conveniently, NYSE has just named Deutsche Bank
Securities in this important release and spared those individuals
responsible. Oh sure, the regulator may have named some of the
folks earlier or may name them later, but by parsing them out of the
overall case it only dilutes the impact.
Does the NYSE really
believe that checkbook regulation is the way to go in 2004? How
is it that smaller NASD firms are impeded from 3 to 6 months from
preparing or issuing research for similar types of violations but this
international conglomerate simply gets to write a check --- albeit of
some $87.5 million? This infuriates me because there continues to be
some private club that operates among regulators where large firms
just don't seem subjected to the same sanctions as their smaller
competitors. What's fraud at a small firm is just a
misunderstanding at a large one. Write us a check and we'll
forget about it. See you guys at the luncheon next week.
What possible
justification does NYSE have for not suspending Deutsche Bank
Securities from issuing research reports for several months?
Clearly, the violation is serious enough to warrant tens of millions
of dollars in fines --- not to mention the troubling aspect of the
delayed email production (if anything an exacerbating
circumstance). But no. The big guys get to write the big
checks. The little guys just get hammered and made examples
of. Either NYSE needs to get tougher or NASD needs to lighten
up. As things stand, it's just not fair and somewhat
anticompetitive given the advantage such leniency gives to larger NYSE
firms. If you think I'm overstating the case, please, go read
the NASD cases I cited above and explain the discrepancies.
|
|
