SEC v. Bank of America Corp.: Judge Rakoff Approves the Second Settlement, Damming It With No Praise

Judge Rakoff held his nose today and approved the second settlement submitted to him by the SEC and BofA. Channeling popular rage over Wall Street, bank bailouts, and excessive executive compensation, the Judge, deferring to the SEC’s judgment that the settlement is fair, reasonable, adequate, and in the public interest, and exercising judicial restraint, approves the settlement while “praising” it as “better than nothing,” and representing “half-baked justice at best.” Opinion and Order of February 22, 2009 (“Opinion”) at 14.

A. Not One for Framing

In light of Judge Rakoff’s treatment of their settlement of this case, it is unlikely that the Commission or its enforcement staff will highlight SEC v. Bank of America Corp. in their accomplishments for 2010. Judge Rakoff is not hesitant to express his views of the Commission’s work product. He announces at the beginning of his opinion that he “reluctantly” grants the Commission’s motion to approve the settlement. He makes clear up front that, based upon his review of the evidence developed by the Commission since his rejection of the first settlement presented to him in the summer of 2009, that BofA’s proxy statement sent to its shareholders in connection with the December 5, 2008 meeting called to approve the Merrill merger failed to adequately disclose the Bank’s agreement to pay Merrill executives up to $5.8 billion in bonuses and failed to adequately disclose the huge losses Merrill suffered during the fourth quarter of 2008. He belittles the Bank’s defense that the nondisclosures were not material:

“Despite the Bank’s somewhat coy refusal to concede the materiality of these nondisclosures, it seems obvious that a prudent bank shareholder, if informed of the aforementioned facts, would have thought twice about approving the merger or might have sought its renegotiation.”

Opinion at 3-4.

As I have noted in previous posts, the Judge was clearly influenced by the allegations of New York’s Attorney General, Andrew Cuomo, in his action against the Bank, Lewis, and Price, filed the day before the Commission presented its second settlement for Judge Rakoff’s approval. The Judge sought and received transcripts of Cuomo’s office’s examination of BofA General Counsel Mayopoulos and others, receiving it ex parte due to that office’s objection to making public the transcripts of such testimony (on the grounds that it would prejudice the office’s prosecution of the case against the Bank and its two former principal officers were the transcripts shared with the Bank).

The Judge rejects the Bank’s objection to his consideration of evidence from Cuomo’s case as “frivolous,” asserting that it would have been a “dereliction” of his duty to ignore evidence of Cuomo’s claims of willful misconduct to test the factual assumptions underlying the settlement presented by the Commission to him for approval. On the other hand, the Judge concedes, in a footnote, that his decision to accept the materials “ex parte” was “problematic,” acknowledging the Bank’s “legitimate concern that the Court’s determinations be made on a record fully available for [its] scrutiny.” Opinion at 6, note 3.

B. Mayopoulos’ Firing

After reviewing the evidence submitted to him, the Judge “concludes that none of the evidence directly contradicts the Bank’s assertion that Mayopoulos’ termination was unrelated to the nondisclosures or to his increasing knowledge of Merrill’s losses.” Opinion at 7. Nevertheless, the Judge is careful to note that “contrary inferences might be drawn” from the evidence, including the fact that the Bank terminated Mayopoulos on such short notice and “asked [him] to leave the premises immediately.” Id.

C. Officers of BofA Acted Negligently

Perhaps the most crucial conclusion reached by the Judge is that the evidence supports the Commission’s conclusion “that the Bank and its officers acted negligently, rather than intentionally, in causing the nondisclosures that are the predicates to the settlement here proffered, …” Id. at 8. This conclusion was “reasonable” by the SEC, supported by “substantial evidence,” and one that a “reasonable regulator could draw.” Id. It is highly unlikely the Bank will cite any language from this Opinion, but if it does it will be this text.

D. The Settlement’s Prophylactic Measures

The Judge accepts the prophylactic measures exacted from the Bank by the SEC, including the modifications to two of them that he requested, and accepts the Bank’s rejection of the suggestion that the SEC and the Court play a role in the selection of an independent compensation consultant to the Board’s compensation committee. In doing so, the Judge cannot help getting in his digs on the Bank’s officers and lawyers:

“Given that the apparent working assumption of the Bank’s decision-makers and lawyers involved in the underlying events at issue here was not to disclose information if a rationale could be found for not doing so, the proposed remedial steps should help foster a healthier attitude of ‘when in doubt, disclose.’”

Opinion at 9.

E. The Settlement’s $150 Million Fine

The Judge’s strongest criticism is for the $150 million fine agreed to by the Bank in the second settlement. Accepting the Bank’s and the Commission’s agreement to explicitly provide that distribution of the fine will not be made to Merrill “legacy” shareholders of BofA or to Bank officers or directors who had access to the undisclosed information, Judge Rakoff continues to express his outrage that innocent shareholders, including innocent Merrill legacy shareholders of BofA, are bearing the cost of the fine and not the culpable officers of Bank, even if they were guilty only of negligence:

“… the effect [of the exclusion of Merrill legacy shareholders] is very modest, amounting perhaps to no more than a few pennies per share. Moreover, while the ‘legacy’ Merrill shareholders may have received something of a windfall as a result of the nondisclosures, they were not responsible for those nondisclosures. Rather, the responsibility was that of the Bank’s executives, who, although barred from receiving any part of the $150 million fine, are not contributing to its payment in any material respect.”

Opinion at 13.

So, all in all, while the settlement, concludes Judge Rakoff, is “better than nothing, this is half-baked justice at best.” Opinion at 14.

In fact, the Judge goes as far as to state that if this proposed settlement were first presented to him, he would reject it as “inadequate and misguided.” Id. So why is he approving it? Because, explains the Judge, he would “fail in [his] duty if [he] did not give considerable weight to the S.E.C.’s position.” And, even more importantly to the Judge, he has to take into account “considerations of judicial restraint,” meaning that, having made his preferences clear, he cannot act upon them!

So, realizing that he is a judge and not an enforcement god, Judge Rakoff “while shaking [his] head,” approves the settlement.

It is safe to say that the Bank and the Commission are more than pleased to close the door on Judge Rakoff’s courtroom and exit Foley Square as quickly as possible.