Second Circuit Vacates Rakoff's Rejection Of SEC/Citigroup's $285 Million Settlement

Bloomberg BNA’s Corporate Law & Accountability Report is available on the Corporate Law Resource Center. This news service keeps corporate practitioners informed of legal developments of...

By Yin Wilczek  

June 4 — In a long-awaited decision, the U.S. Court of Appeals for the Second Circuit June 4 ruled that a lower court wrongly rejected a $285 million settlement proposed in 2011 by the Securities and Exchange Commission and Citigroup Global Markets Inc.

The deal would have resolved the SEC's allegations that Citigroup failed to disclose its role in the selection of assets for the portfolio of a $1 billion collateralized debt obligation that the bank structured and marketed in 2007.

In a majority opinion, Judge Rosemary Pooler wrote that Judge Jed Rakoff abused his discretion by demanding “cold, hard, solid facts, established either by admissions or by trials.” The majority vacated Rakoff's November 2011 decision. In a concurring opinion, Judge Raymond Lohier Jr. said that on the facts before him, he would have directed the district court to enter the consent decree.

Deference to SEC Reaffirmed

In a statement, Enforcement Director Andrew Ceresney said the SEC was “pleased” that the Second Circuit reaffirmed the “significant deference accorded” to the commission in determining whether to settle with parties and on what terms.

“While the SEC has and will continue to seek admissions in appropriate cases, settlements without admissions also enable regulatory agencies to serve the public interest by returning money to harmed investors more quickly, without the uncertainty and delay from litigation and without the need to expend additional agency resources,” Ceresney said.

The ruling comes as no surprise, given that the appellate court previously stayed Rakoff's decision, writing in a scathing March 2012 opinion that the SEC and Citigroup made a “strong showing” that they would succeed in their appeals.

Securities attorneys not involved in the litigation agree that the ruling is a major win for the commission.

“There's a lot for the SEC to like about this decision, which effectively says the terms of settlements are up to the SEC's discretion and the courts have almost no ability to second-guess the commission,” said Jeffrey Robertson, special counsel in Schulte, Roth & Zabel LLP's Washington office.

Rakoff, even before rejecting the SEC/Citigroup deal, had voiced skepticism over commission consent decrees. For example, the judge in 2009 rejected—in what then was a highly unusual move—the commission's initial proposed $33 million settlement with Bank of America Corp. over charges the bank misled shareholders in seeking their approval to acquire Merrill Lynch & Co.

Rakoff partially rejected the SEC/Citigroup settlement because the SEC failed to force an admission out of the bank.

Two months after she took over the SEC's helm, Chairman Mary Jo White revised the agency's traditional policy of allowing settling defendants to neither admit nor deny its allegations, saying the agency will insist on an admission in egregious and other circumstances.

Proper Standard of Review

In its June 4 opinion, the Second Circuit majority added new clarity to the proper standard under which district courts should review a proposed consent judgment involving an enforcement agency. Among other findings, the Second Circuit wrote that there is “no basis in the law” for a district court to require an admission of liability as a condition for approving a settlement between the parties. “The decision to require an admission of liability before entering into a consent decree rests squarely with the S.E.C.,” it wrote.

A district court, in reviewing a proposed consent decree, must determine whether the deal is “fair and reasonable,” the Second Circuit said. In the event that the consent decree includes injunctive relief, the court further must ensure that “public interest would not be disserved,” it said. “Absent a substantial basis in the record for concluding that the proposed consent decree does not meet these requirements, the district court is required to enter the order.”

“We omit `adequacy' from the standard,” the Second Circuit continued. “Scrutinizing a proposed consent decree for `adequacy' appears borrowed from the review applied to class action settlements, and strikes us as particularly inapt in the context of a proposed S.E.C. consent decree.”

`Fair and Reasonable.'

In determining whether the proposed settlement is fair and reasonable, the Second Circuit said a court, at minimum, should evaluate:

  •  the basic legality of the decree;
  •  whether the decree's terms, including its “enforcement mechanism,” are clear;
  •  whether the consent decree reflects a resolution of the actual claims in the complaint; and
  •  whether the consent decree “is tainted by improper collusion or corruption of some kind.”

    The SEC, should it call upon the courts to order a consent decree and to issue an injunction, must be willing to “assure” the court that the settlement it proposes is “fair and reasonable,” the Second Circuit added. “For the courts to simply accept a proposed S.E.C. consent decree without any review would be a dereliction of the court's duty to ensure the orders it enters are proper.”

    Future Impact

    Looking ahead, attorneys told Bloomberg BNA that the court's ruling may have considerable impact on future SEC settlements.

    “To the extent the SEC's policy of seeking admissions as part of settlements of `egregious' cases was prompted by judicial scrutiny of settlements, the SEC may be more willing to settle cases without admissions when insisting on admissions would otherwise derail settlements,” Schulte's Robertson said.

    “Similarly, to the extent judicial scrutiny of settlements has driven the SEC to insist on fraud (rather than lesser) charges to impose larger penalties or to name individuals rather than just corporations, there is little risk that courts will reject settlements as a result of” the Second Circuit's June 4 ruling.

    More generally, the decision will encourage settlements, said Seth Taube, head of securities litigation at Baker Botts LLP, New York, and a former enforcement chief at the SEC's New York Regional Office. “It means that what you negotiate is what will stick,” Taube told Bloomberg BNA. “A district court will rarely second guess these negotiated deals, given this opinion.”

    Taube added that the “real irony” of the Second Circuit ruling is that while the appellate court rejected Rakoff's approach, the SEC has come around to the district court's view that the most serious cases should not always include no-admit deals. “So the judge was ahead of the SEC on this one and ultimately vindicated in substance, if not in process,” he said.

    In other observations, Andrew Vollmer, a University of Virginia law school professor and a former SEC deputy general counsel, suggested that one “deficiency” in the decision was the court's failure to require district courts to be “alert” to commission overreach or abuse in the settlement process.

    One concern about the SEC enforcement program is that it imposes substantial pressure on private parties to settle, “even when a proposed enforcement case lacks merit,” Vollmer told Bloomberg BNA. Within the limited boundaries for judicial review of SEC settlements set by the Second Circuit, “district courts should be wary of signs that the charges, sanctions and remedies are excessive, although those concerns will not typically arise or need scrutiny when a party is adequately funded and well represented,” he said.

    To contact the reporter on this story: Yin Wilczek in Washington at

    To contact the editor responsible for this story: Susan Jenkins at

    The decision is available at