Subject: S7-04-23: Webform Comments from Anonymous
From: Anonymous
Affiliation:

Oct. 29, 2023

RE: File No. S7-04-23 You claim to support anonymous
comments, yet you have red stars next to the email address and phone
number forms. Surely you see how that is antithetical to anonymity?
Your form mutilates peoples comments by removing all the line breaks,
harming the intent of their feedback and making it harder for you to
understand. Your website has a pitifully small maximum file size limit
of 12MB total. It's the year 2023 guys, and I know you're
funded with hundreds of millions of dollars, if not billions. Your
rule also affects billions of dollars of congress. Pitiful. You should
call up your colleagues over at the federal register and let them know
that this rule concerning cryptocurrencies doesn't even show up
if you search for "cryptocurrency." Specifically: 

https://federalregister.gov/documents/2023/08/30/2023-18667/safeguarding-advisory-client-assets-reopening-of-comment-period#addresses

The first possible APA violation. Searching cryptocurrency,
cryptocurrencies, virtual currency or virtual currencies in that box
doesn’t bring up all the important and currently open for comment
results. Saying you want comments, and then hiding the issues from
people searching for them; misleading them that they don’t exist, is
perhaps a violation of the APA.

How is anyone going to have faith in your agency when you can't
even follow your own rules properly?

Here's the rule. 5 U.S. Code § 553 - Rule making
U.S. Code
Notes
prev | next
(a)This section applies, according to the provisions thereof, except
to the extent that there is involved—
(1)a military or foreign affairs function of the United States; or
(2)a matter relating to agency management or personnel or to public
property, loans, grants, benefits, or contracts.
(b)General notice of proposed rule making shall be published in the
Federal Register, unless persons subject thereto are named and either
personally served or otherwise have actual notice thereof in
accordance with law. The notice shall include—
(1)a statement of the time, place, and nature of public rule making
proceedings;
(2)reference to the legal authority under which the rule is proposed;
and
(3)either the terms or substance of the proposed rule or a description
of the subjects and issues involved.
Except when notice or hearing is required by statute, this subsection
does not apply—
(A)to interpretative rules, general statements of policy, or rules of
agency organization, procedure, or practice; or
(B)when the agency for good cause finds (and incorporates the finding
and a brief statement of reasons therefor in the rules issued) that
notice and public procedure thereon are impracticable, unnecessary, or
contrary to the public interest.
(c)After notice required by this section, the agency shall give
interested persons an opportunity to participate in the rule making
through submission of written data, views, or arguments with or
without opportunity for oral presentation. After consideration of the
relevant matter presented, the agency shall incorporate in the rules
adopted a concise general statement of their basis and purpose. When
rules are required by statute to be made on the record after
opportunity for an agency hearing, sections 556 and 557 of this title
apply instead of this subsection.
(d)The required publication or service of a substantive rule shall be
made not less than 30 days before its effective date, except—
(1)a substantive rule which grants or recognizes an exemption or
relieves a restriction;
(2)interpretative rules and statements of policy; or
(3)as otherwise provided by the agency for good cause found and
published with the rule.
(e)Each agency shall give an interested person the right to petition
for the issuance, amendment, or repeal of a rule.
(Pub. L. 89–554, Sept. 6, 1966, 80 Stat. 383.)

Judicial case law has created further requirements of you, the SEC,
but as you're getting paid to read this, and I'm not getting
paid to write it, I don't really feel like looking for them right
now. How is the pay over there by the way? You guys make lots more
than the judicial branch does right? Does that create animosity when
you are in front of the court, or do you usually just play pretend
court with your own internal judges?

Speaking of which, here is that ruling that found your internal courts
unconstitutional. United States Court of Appeals
for the Fifth Circuit
No. 20-61007
George R. Jarkesy, Jr.; Patriot28, L.L.C.,
Petitioners,
versus
Securities and Exchange Commission,
Respondent.
Petition for Review of an Order of
the United States Securities and Exchange Commission
No. 3-15255
Before Davis, Elrod, and Oldham, Circuit Judges.
Jennifer Walker Elrod, Circuit Judge:
Congress has given the Securities and Exchange Commission
substantial power to enforce the nation’s securities laws. It often
acts as both
prosecutor and judge, and its decisions have broad consequences for
personal
liberty and property. But the Constitution constrains the SEC’s
powers by
protecting individual rights and the prerogatives of the other
branches of
government. This case is about the nature and extent of those
constraints in
securities fraud cases in which the SEC seeks penalties.
United States Court of Appeals
Fifth Circuit
FILED
May 18, 2022
Lyle W. Cayce
Clerk
Case: 20-61007 Document: 00516323784 Page: 1 Date Filed: 05/18/2022
No. 20-61007
2
The SEC brought an enforcement action within the agency against
Petitioners for securities fraud. An SEC administrative law judge
adjudged
Petitioners liable and ordered various remedies, and the SEC affirmed
on
appeal over several constitutional arguments that Petitioners raised.
Petitioners raise those same arguments before this court. We hold
that:
(1) the SEC’s in-house adjudication of Petitioners’ case violated
their
Seventh Amendment right to a jury trial; (2) Congress
unconstitutionally
delegated legislative power to the SEC by failing to provide an
intelligible
principle by which the SEC would exercise the delegated power, in
violation
of Article I’s vesting of “all” legislative power in Congress;
and (3) statutory
removal restrictions on SEC ALJs violate the Take Care Clause of
Article II.
Because the agency proceedings below were unconstitutional, we GRANT
the petition for review, VACATE the decision of the SEC, and REMAND
for further proceedings consistent with this opinion.
I.
Petitioner Jarkesy established two hedge funds and selected Petitioner
Patriot28 as the investment adviser. The funds brought in over 100
investors
and held about $24 million in assets. In 2011, the SEC launched an
investigation into Petitioners’ investing activities, and a couple
of years later
the SEC chose to bring an action within the agency, alleging that
Petitioners
(along with some former co-parties) committed fraud under the
Securities
Act, the Securities Exchange Act, and the Advisers Act. Specifically,
the
agency charged that Petitioners: (1) misrepresented who served as the
prime
broker and as the auditor; (2) misrepresented the funds’ investment
parameters and safeguards; and (3) overvalued the funds’ assets to
increase
the fees that they could charge investors.
Petitioners sued in the U.S. District Court for the District of
Columbia
to enjoin the agency proceedings, arguing that the proceedings
infringed on
Case: 20-61007 Document: 00516323784 Page: 2 Date Filed: 05/18/2022
No. 20-61007
3
various constitutional rights. But the district court, and later the
U.S. Court
of Appeals for the D.C. Circuit, refused to issue an injunction,
deciding that
the district court had no jurisdiction and that Petitioners had to
continue with
the agency proceedings and petition the court of appeals to review any
adverse final order. See Jarkesy v. SEC, 48 F. Supp. 3d 32, 40 (D.D.C.
2014),
aff’d, 803 F.3d 9, 12 (D.C. Cir. 2015).
Petitioners’ proceedings moved forward. The ALJ held an
evidentiary hearing and concluded that Petitioners committed
securities
fraud. Petitioners then sought review by the Commission. While their
petition for Commission review was pending, the Supreme Court held
that
SEC ALJs had not been properly appointed under the Constitution. Lucia
v.
SEC, 138 S. Ct. 2044, 2054–55 (2018). In accordance with that
decision, the
SEC assigned Petitioners’ proceeding to an ALJ who was properly
appointed.
But Petitioners chose to waive their right to a new hearing and
continued
under their original petition to the Commission.
The Commission affirmed that Petitioners committed various forms
of securities fraud. It ordered Petitioners to cease and desist from
committing further violations and to pay a civil penalty of $300,000,
and it
ordered Patriot28 to disgorge nearly $685,000 in ill-gotten gains. The
Commission also barred Jarkesy from various securities industry
activities:
associating with brokers, dealers, and advisers; offering penny
stocks; and
serving as an officer or director of an advisory board or as an
investment
adviser.
Critical to this case, the Commission rejected several constitutional
arguments Petitioners raised. It determined that: (1) the ALJ was not
biased
against Petitioners; (2) the Commission did not inappropriately
prejudge the
case; (3) the Commission did not use unconstitutionally delegated
legislative
power—or violate Petitioners’ equal protection rights—when it
decided to
Case: 20-61007 Document: 00516323784 Page: 3 Date Filed: 05/18/2022
No. 20-61007
4
pursue the case within the agency instead of in an Article III court;
(4) the
removal restrictions on SEC ALJs did not violate Article II and
separationof-powers principles; and (5) the proceedings did not
violate Petitioners’
Seventh Amendment right to a jury trial. Petitioners then filed a
petition for
review in this court.
II.
Petitioners raise several constitutional challenges to the SEC
enforcement proceedings.1
We agree with Petitioners that the proceedings
suffered from three independent constitutional defects: (1)
Petitioners were
deprived of their constitutional right to a jury trial; (2) Congress
unconstitutionally delegated legislative power to the SEC by failing
to
provide it with an intelligible principle by which to exercise the
delegated
power; and (3) statutory removal restrictions on SEC ALJs violate
Article II.
A.
Petitioners challenge the agency’s rejection of their constitutional
arguments. We review such issues de novo. See Emp. Sols. Staffing Grp.
II,
L.L.C. v. Off. of Chief Admin. Hearing Officer, 833 F.3d 480, 484 (5th
Cir.
2016); Trinity Marine Prods., Inc. v. Chao, 512 F.3d 198, 201 (5th
Cir. 2007).
B.
Petitioners argue that they were deprived of their Seventh
Amendment right to a jury trial. The SEC responds that the legal
interests
at issue in this case vindicate distinctly public rights, and that
Congress
therefore appropriately allowed such actions to be brought in agency
1 Multiple amici have filed briefs with this court as well: the Cato
Institute, Phillip
Goldstein, Mark Cuban, Nelson Obus, and the New Civil Liberties
Alliance. Each argues
that the SEC proceedings exceeded constitutional limitations for
reasons that Petitioners
raise.
Case: 20-61007 Document: 00516323784 Page: 4 Date Filed: 05/18/2022
No. 20-61007
5
proceedings without juries. We agree with Petitioners. The Seventh
Amendment guarantees Petitioners a jury trial because the SEC’s
enforcement action is akin to traditional actions at law to which the
jury-trial
right attaches. And Congress, or an agency acting pursuant to
congressional
authorization, cannot assign the adjudication of such claims to an
agency
because such claims do not concern public rights alone.
1.
Thomas Jefferson identified the jury “as the only anchor, ever yet
imagined by man, by which a government can be held to the principles
of its
constitution.” Letter from Thomas Jefferson to Thomas Paine (July
11,
1789), in The Papers of Thomas Jefferson 267 (Julian P. Boyd ed.,
1958). And
John Adams called trial by jury (along with popular elections) “the
heart and
lungs of liberty.” The Revolutionary Writings of John Adams 55 (C.
Bradley
Thompson ed., 2000); see also Jennifer W. Elrod, Is the Jury Still
Out?: A Case
for the Continued Viability of the American Jury, 44 Tex. Tech L. Rev.
303,
303–04 (2012) (explaining that the jury is “as central to the
American
conception of the consent of the governed as an elected legislature or
the
independent judiciary”).
2
2 Veneration of the jury as safeguard of liberty predates the American
Founding.
Our inherited English common-law tradition has long extolled the jury
as an institution.
William Blackstone said that trial by jury is “the glory of the
English law” and “the most
transcendent privilege which any subject can enjoy or wish for, that
he cannot be affected,
either in his property, his liberty, or his person, but by the
unanimous consent of twelve of
his neighbors and equals.” Mitchell v. Harmony, 54 U.S. 115,
142–43 (1851) (quoting 4
William Blackstone, Commentaries on the Laws of England 227–29
(Oxford, Clarendon
Pr. 1992) (1765)); see also Jennifer W. Elrod, W(h)ither The Jury? The
Diminishing Role of the
Jury Trial in Our Legal System, 68 Wash. & Lee L. Rev. 3, 7
(2011). Indeed, King George
III’s attempts to strip colonists of their right to trial by jury
was one of the chief grievances
aired against him and was a catalyst for declaring independence. The
Declaration of
Independence para. 20 (U.S. 1776).
Case: 20-61007 Document: 00516323784 Page: 5 Date Filed: 05/18/2022
No. 20-61007
6
Civil juries in particular have long served as a critical check on
government power. So precious were civil juries at the time of the
Founding
that the Constitution likely would not have been ratified absent
assurance
that the institution would be protected expressly by amendment. 2 The
Debate on the Constitution 549, 551, 555, 560, 567 (Bernard Bailyn ed.
1993)
(collecting various state ratification convention documents calling
for the
adoption of a civil jury trial amendment); The Federalist No. 83
(Alexander
Hamilton) (“The objection to the plan of the convention, which has
met with
most success in this State [i.e., New York], and perhaps in several of
the other
States, is that relative to the want of a constitutional provision for
the trial by
jury in civil cases.”); Mercy Otis Warren, Observations on the
Constitution
(1788), in 2 The Debate on the Constitution 290 (Bernard Bailyn ed.
1993)
(worrying that the unamended Constitution would lead to “[t]he
abolition of
trial by jury in civil causes”); Parsons v. Bedford, 28 U.S. (3
Pet.) 433, 446
(1830) (“One of the strongest objections originally taken against
the
constitution of the United States, was the want of an express
provision
securing the right of trial by jury in civil cases.”).
3
Trial by jury therefore is a “fundamental” component of our legal
system “and remains one of our most vital barriers to governmental
arbitrariness.” Reid v. Covert, 354 U.S. 1, 9–10 (1957).
“Indeed, ‘[t]he right
to trial by jury was probably the only one universally secured by the
first
American state constitutions . . . .’” Parklane Hosiery Co., Inc.
v. Shore, 439
3 See also Kenneth Klein, The Validity of The Public Rights Doctrine
in Light of the
Historical Rationale of the Seventh Amendment, 21 Hastings Const. L.Q.
1013, 1015 (1994)
(“At the time the Constitution was proposed, the people of the
United States greatly
distrusted government, and saw the absence of a guaranteed civil jury
right as a reason,
standing alone, to reject adoption of the Constitution; only by
promising the Seventh
Amendment did the Federalists secure adoption of the Constitution in
several of the state
ratification debates.”).
Case: 20-61007 Document: 00516323784 Page: 6 Date Filed: 05/18/2022
No. 20-61007
7
U.S. 322, 341 (1979) (Rehnquist, J., dissenting) (quoting Leonard
Levy,
Legacy of Suppression: Freedom of Speech and Press in Early American
History 281 (1960)). Because “[m]aintenance of the jury as a
fact-finding
body is of such importance and occupies so firm a place in our history
and
jurisprudence[,] . . . any seeming curtailment of the right to a jury
trial should
be scrutinized with the utmost care.” Dimick v. Schiedt, 293 U.S.
474, 486
(1935).
The Seventh Amendment protects that right. It provides that “[i]n
Suits at common law, where the value in controversy shall exceed
twenty
dollars, the right of trial by jury shall be preserved, and no fact
tried by a jury,
shall be otherwise reexamined in any Court of the United States, than
according to the rules of the common law.” U.S. Const. amend. VII.
The
Supreme Court has interpreted “Suits at common law” to include all
actions
akin to those brought at common law as those actions were understood
at the
time of the Seventh Amendment’s adoption. Tull v. United States, 481
U.S.
412, 417 (1987). The term can include suits brought under a statute as
long
as the suit seeks common-law-like legal remedies. Id. at 418–19. And
the
Court has specifically held that, under this standard, the Seventh
Amendment jury-trial right applies to suits brought under a statute
seeking
civil penalties. Id. at 418–24.
That is not to say, however, that Congress may never assign
adjudications to agency processes that exclude a jury. See Atlas
Roofing Co.
v. Occupational Safety & Health Rev. Comm’n, 430 U.S. 442, 455
(1977).
“[W]hen Congress properly assigns a matter to adjudication in a
non-Article
III tribunal, the Seventh Amendment poses no independent bar to the
adjudication of that action by a nonjury factfinder.” Oil States
Energy Servs.,
LLC v. Greene’s Energy Grp., LLC, 138 S. Ct. 1365, 1379 (2018)
(internal
quotations omitted).
Case: 20-61007 Document: 00516323784 Page: 7 Date Filed: 05/18/2022
No. 20-61007
8
Whether Congress may properly assign an action to administrative
adjudication depends on whether the proceedings center on “public
rights.”
Atlas Roofing, 430 U.S. at 450. “[I]n cases in which ‘public
rights’ are being
litigated[,] e.g., cases in which the Government sues in its sovereign
capacity
to enforce public rights created by statutes within the power of
Congress to
enact[,] the Seventh Amendment does not prohibit Congress from
assigning
the factfinding function and initial adjudication to an administrative
forum
with which the jury would be incompatible.” Id. Describing proper
assignments, the Supreme Court identified situations “where the
Government is involved in its sovereign capacity under an otherwise
valid
statute creating enforceable public rights. Wholly private tort,
contract, and
property cases, [and] a vast range of other cases as well are not at
all
implicated.” Id. at 458.
The Supreme Court refined the public-right concept as it relates to
the Seventh Amendment in Granfinanciera, S.A. v. Nordberg, 492 U.S. 33
(1989). There, the Court clarified that Congress cannot circumvent the
Seventh Amendment jury-trial right simply by passing a statute that
assigns
“traditional legal claims” to an administrative tribunal. Id. at
52. Public
rights, the Court explained, arise when Congress passes a statute
under its
constitutional authority that creates a right so closely integrated
with a
comprehensive regulatory scheme that the right is appropriate for
agency
resolution. Id. at 54.
The analysis thus moves in two stages. First, a court must determine
whether an action’s claims arise “at common law” under the
Seventh
Amendment. See Tull, 481 U.S. at 417. Second, if the action involves
common-law claims, a court must determine whether the Supreme
Court’s
public-rights cases nonetheless permit Congress to assign it to agency
adjudication without a jury trial. See Granfinanciera, 492 U.S. at 54;
Atlas
Roofing, 430 U.S. at 455. Here, the relevant considerations include:
Case: 20-61007 Document: 00516323784 Page: 8 Date Filed: 05/18/2022
No. 20-61007
9
(1) whether “Congress ‘creat[ed] a new cause of action, and
remedies
therefor, unknown to the common law,’ because traditional rights and
remedies were inadequate to cope with a manifest public problem”;
and
(2) whether jury trials would “go far to dismantle the statutory
scheme” or
“impede swift resolution” of the claims created by statute.
Granfinanciera,
492 U.S. at 60–63 (quoting Atlas Roofing, 430 U.S. at 454 n.11, 461
(first and
second quotations)).
2.
The rights that the SEC sought to vindicate in its enforcement action
here arise “at common law” under the Seventh Amendment. Fraud
prosecutions were regularly brought in English courts at common law.
See 3
William Blackstone, Commentaries on the Laws of England *42
(explaining
the common-law courts’ jurisdiction over “actions on the case
which allege
any falsity or fraud; all of which savour of a criminal nature,
although the
action is brought for a civil remedy; and make the defendant liable in
strictness to pay a fine to the king, as well as damages to the
injured party”).
And even more pointedly, the Supreme Court has held that actions
seeking
civil penalties are akin to special types of actions in debt from
early in our
nation’s history which were distinctly legal claims. Tull, 481 U.S.
at 418–19.
Thus, “[a] civil penalty was a type of remedy at common law that
could only
be enforced in courts of law.” Id. at 422.
Applying that principle, the Court in Tull held that the right to a
jury
trial applied to an action brought by an agency seeking civil
penalties for
violations of the Clean Water Act. Id. at 425. Likewise here, the
actions the
SEC brought seeking civil penalties under securities statutes are akin
to those
same traditional actions in debt. Under the Seventh Amendment, both as
originally understood and as interpreted by the Supreme Court, the
jury-trial
right applies to the penalties action the SEC brought in this case.
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No. 20-61007
10
That conclusion harmonizes with the holdings of other courts
applying Tull. The Seventh Circuit followed the Supreme Court’s lead
in
that case and has specifically said that when the SEC brings an
enforcement
action to obtain civil penalties under a statute, the subject of the
action has
the right to a jury trial. SEC v. Lipson, 278 F.3d 656, 662 (7th Cir.
2002)
(“Because the SEC was seeking both legal and equitable relief (the
former
under the Insider Trading Sanctions Act, 15 U.S.C. § 78u–1, which
(in
subsection (a)(1)) authorizes the imposition of civil penalties for
insider
trading at the suit of the SEC[)] . . . [the defendant] was entitled
to and
received a jury trial.”); see also id. (explaining that another
circuit was wrong
to tacitly assume “that civil penalties in SEC cases are not a form
of legal
relief”4
). Some district courts have applied Tull similarly. See, e.g., SEC v.
Badian, 822 F. Supp. 2d 352, 365 (S.D.N.Y. 2011) (explaining that
“whether
the facts are such that the defendants can be subjected to a civil
penalty . . . is
a question for the jury, [and] the determination of the severity of
the civil
penalty to be imposed . . . is a question for the Court, once
liability is
established”); SEC v. Solow, 554 F. Supp. 2d 1356, 1367 (S.D. Fla.
2008)
(applying Tull for the proposition that civil penalties are “legal,
as opposed
to equitable, in nature,” and that it therefore “was [the
defendant’s]
constitutional right to have a jury determine his liability, with [the
court]
thereafter determining the amount of penalty, if any”).
Other elements of the action brought by the SEC against Petitioners
are more equitable in nature, but that fact does not invalidate the
jury-trial
right that attaches because of the civil penalties sought. The Supreme
Court
has held that the Seventh Amendment applies to proceedings that
involve a
mix of legal and equitable claims—the facts relevant to the legal
claims
4 The Seventh Circuit was referring to the Ninth Circuit’s opinion
in SEC v.
Clark, 915 F.2d 439, 442 (9th Cir. 1990). Clark did not address the
issue whatsoever.
Case: 20-61007 Document: 00516323784 Page: 10 Date Filed: 05/18/2022
No. 20-61007
11
should be adjudicated by a jury, even if those facts relate to
equitable claims
too. See Ross v. Bernhard, 396 U.S. 531, 537–38 (1970); see also
Lipson, 278
F.3d at 662 (noting that the defendant was entitled to a jury trial
because the
SEC sought legal relief in the form of penalties, even though the SEC
also
sought equitable relief). Here, the SEC sought to ban Jarkesy from
participation in securities industry activities and to require
Patriot28 to
disgorge ill-gotten gains—both equitable remedies. Even so, the
penalty
facet of the action suffices for the jury-trial right to apply to an
adjudication
of the underlying facts supporting fraud liability.
3.
Next, the action the SEC brought against Petitioners is not the sort
that may be properly assigned to agency adjudication under the
public-rights
doctrine. Securities fraud actions are not new actions unknown to the
common law. Jury trials in securities fraud suits would not
“dismantle the
statutory scheme” addressing securities fraud or “impede swift
resolution”
of the SEC’s fraud prosecutions. And such suits are not uniquely
suited for
agency adjudication.
Common-law courts have heard fraud actions for centuries, even
actions brought by the government for fines. See Blackstone, supra at
*42; see
also Tull, 481 U.S. at 422 (“A civil penalty was a type of remedy at
common
law that could only be enforced in courts of law.”). Naturally,
then, the
securities statutes at play in this case created causes of action that
reflect
common-law fraud actions. The traditional elements of common-law fraud
are (1) a knowing or reckless material misrepresentation, (2) that the
tortfeasor intended to act on, and (3) that harmed the plaintiff. In
re
Deepwater Horizon, 857 F.3d 246, 249 (5th Cir. 2017). The statutes
under
which the SEC brought securities fraud actions use terms like
“fraud” and
“untrue statement[s] of material fact” to describe the prohibited
conduct.
Case: 20-61007 Document: 00516323784 Page: 11 Date Filed: 05/18/2022
No. 20-61007
12
See 15 U.S.C. §§ 77a–77aa, 78j(b), 80b-6. When “Congress uses
terms that
have accumulated settled meaning under . . . the common law, a court
must
infer, unless the statute otherwise dictates, that Congress means to
incorporate the established meaning of these terms.” Nationwide Mut.
Ins.
Co. v. Darden, 503 U.S. 318, 322 (1992) (quoting Cmty. for Creative
NonViolence v. Reid, 490 U.S. 730, 739 (1989)); see also Felix
Frankfurter, Some
Reflections on the Reading of Statutes, 47 Colum. L. Rev. 527, 537
(1947)
(explaining that “if a word is obviously transplanted from another
legal
source, whether the common law or other legislation, it brings the old
soil
with it”).
Accordingly, the Supreme Court has often looked to common-law
principles to interpret fraud and misrepresentation under securities
statutes.
See, e.g, Omnicare, Inc. v. Laborers Dist. Council Indus. Pension
Fund, 575 U.S.
175, 191 (2015) (considering the Restatement (Second) of Torts to
determine
whether material omissions are actionable under a securities statute);
Dura
Pharms., Inc. v. Broudo, 544 U.S. 336, 343–44 (2005) (relying on
“the
common-law roots of the securities fraud action” in “common-law
deceit
and misrepresentation actions” to interpret the statutory
securities-fraud
action); SEC v. Cap. Gains Rsch. Bureau, 375 U.S. 180, 192–95 (1963)
(considering the principles of common-law fraud to determine the
requirements of fraud under the Advisers Act). Thus, fraud actions
under
the securities statutes echo actions that historically have been
available under
the common law.
Next, jury trials would not “go far to dismantle the statutory
scheme”
or “impede swift resolution” of the statutory claims. See
Granfinanciera, 492
U.S. at 60–63. For one, the statutory scheme itself allows the SEC
to bring
enforcement actions either in-house or in Article III courts, where
the jurytrial right would apply. See Dodd–Frank Act § 929P(a), 15
U.S.C. § 78u-2(a).
If Congress has not prevented the SEC from bringing claims in Article
III
Case: 20-61007 Document: 00516323784 Page: 12 Date Filed: 05/18/2022
No. 20-61007
13
courts with juries as often as it sees fit to do so, and if the SEC
has in fact
brought many such actions to jury trial over the years,5
then it is difficult to
see how jury trials could “dismantle the statutory scheme.”
Congress could
have purported to assign such proceedings solely to administrative
tribunals,
but it did not. And there also is no evidence that jury trials would
impede
swift resolution of the claims.6
In this case, for example, the SEC took seven
years to dispose of Petitioners’ case and makes no argument that
proceedings
with a jury trial would have been less efficient.
Relatedly, securities-fraud enforcement actions are not the sort that
are uniquely suited for agency adjudication. Again, Congress has not
limited
the SEC’s ability to bring enforcement actions in Article III
courts. Consider
the statutory scheme in Atlas Roofing for contrast. The statutes in
that case
were new and somewhat unusual. They provided elaborate enforcement
mechanisms for the sorts of claims that likely could not have been
brought in
legal actions before that point. See Atlas Roofing, 430 U.S. at 445
(describing
how the statutes required factfinders to undertake detailed
assessments of
workplace safety conditions and to make unsafe-conditions findings
even if
no injury had occurred). But the federal courts have dealt with
actions under
5
Indeed, the SEC regularly brings securities-fraud actions in Article
III courts and
adjudicates them through jury trials. See, e.g., SEC v. Fowler, 6
F.4th 255, 258–60 (2d Cir.
2021); SEC v. Johnston, 986 F.3d 63, 71 (1st Cir. 2021); SEC v. Life
Partners Holdings, Inc.,
854 F.3d 765, 772 (5th Cir. 2017); SEC v. Quan, 817 F.3d 583, 587 (8th
Cir. 2016); SEC v.
Miller, 808 F.3d 623, 626 (2d Cir. 2015); SEC v. Jasper, 678 F.3d
1116, 1119, 1121–22 (9th
Cir. 2012); SEC v. Seghers, 298 F. App’x 319, 321 (5th Cir. 2008).
6 The dissenting opinion contends that these considerations are “not
decisive”
(that the SEC has for decades sued in Article III courts under
securities statutes) or “not
determinative” (that those same suits are not unique to agency
adjudication). To disregard
these facts is to ignore the Supreme Court’s explanation for what
public rights are made of.
And in any event, though the facts may not in isolation make up a
private right, they
together establish (along with the other considerations discussed
above) that the right being
vindicated here is a private right, not a public one.
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the securities statutes for many decades, and there is no reason to
believe that
such courts are suddenly incapable of continuing that work just
because an
agency may now share some of the workload. In fact, for the first
decades of
the SEC’s existence, securities-fraud actions against nonregistered
parties
could be brought only in Article III courts. Thomas Glassman, Ice
Skating
Uphill: Constitutional Challenges to SEC Administrative Proceedings,
16 J. Bus.
& Sec. L. 47, 50–52 (2015).7
The SEC counters that the securities statutes are designed to protect
the public at large, and that some circuits have identified SEC
enforcement
actions as vindicating rights on behalf of the public. Indeed, the SEC
says,
the statutes allow for enforcement proceedings based on theories
broader
than actions like fraud that existed at common law.
Those facts do not convert the SEC’s action into one focused on
public rights. Surely Congress believes that the securities statutes
it passes
serve the public interest and the U.S. economy overall, not just
individual
parties. Yet Congress cannot convert any sort of action into a
“public right”
simply by finding a public purpose for it and codifying it in federal
statutory
law. See Granfinanciera, 492 U.S. at 61 (explaining that “Congress
cannot
eliminate a party’s Seventh Amendment right to a jury trial merely
by
relabeling the cause of action to which it attaches and placing
exclusive
jurisdiction in an administrative agency or a specialized court of
equity”).
Purely private suits for securities fraud likely would have a similar
public
purpose—they too would serve to discourage and remedy fraudulent
7 Moreover, the Supreme Court has noted that agency adjudicators
generally do
not have special expertise to address structural constitutional
claims—precisely the issues
central to this case. Carr v. Saul, 141 S. Ct. 1352, 1360 (2021)
(“[T]his Court has often
observed that agency adjudications are generally ill suited to address
structural
constitutional challenges, which usually fall outside the
adjudicators’ areas of technical
expertise.”).
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15
behavior in securities markets. That does not mean such suits concern
public
rights at their core. Granted, some actions provided for by the
securities
statutes may be new and not rooted in any common-law corollary. The
fact
remains, though, that the enforcement action seeking penalties in this
case
was one for securities fraud, which is nothing new and nothing foreign
to
Article III tribunals and juries.
That being so, Petitioners had the right for a jury to adjudicate the
facts underlying any potential fraud liability that justifies
penalties. And
because those facts would potentially support not only the civil
penalties
sought by the SEC, but the injunctive remedies as well, Petitioners
had a
Seventh Amendment right to a jury trial for the
liability-determination
portion of their case.
4.
The dissenting opinion cannot define a “public right” without
using
the term itself in the definition. That leads to a good bit of
question-begging.
It says at times that the “SEC’s enforcement action” is itself
“a ‘public
right’ because it is a case ‘in which the Government sues in its
sovereign
capacity to enforce public rights.” Post at 37. So the action is a
public right
because (1) the SEC is the government, and (2) it is vindicating a
public right.
And what is that public right being vindicated? The dissenting opinion
does
not say. In reality, the dissenting opinion’s rule is satisfied by
the first step
alone: The action is itself a “public right” because the SEC is
the
government. And the not-so-far-removed consequences that flow from
that
conclusion: When the federal government sues, no jury is required.
This is
perhaps a runner-up in the competition for the “Nine Most Terrifying
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Words in the English Language.”8
But fear not, the dissenting opinion’s
proposal runs headlong into Granfinanciera: “Congress cannot
eliminate a
party’s Seventh Amendment right to a jury trial merely by relabeling
the
cause of action to which it attaches and placing exclusive
jurisdiction in an
administrative agency or a specialized court of equity” 492 U.S. at
61. With
that limit in place, the dissenting opinion’s bright-line rule burns
out.
Congress cannot change the nature of a right, thereby circumventing
the
Seventh Amendment, by simply giving the keys to the SEC to do the
vindicating.
In this light, this approach treats the government’s involvement as
a
sufficient condition for converting “private rights” into public
ones. But
from 1856 to 1989, the government’s involvement in a suit was only a
necessary condition, not a sufficient condition, for determining
whether a suit
vindicated public rights. See Granfinanciera, 492 U.S. at 65–66,
68–69
(Scalia, J., concurring in part) (referring to Murray’s Lessee v.
Hoboken Land
& Improvement Co., 18 U.S. (How.) 272, 283 (1856), and N. Pipeline
Constr.
Co. v. Marathon Pipeline Co., 458 U.S. 50, 68–69 (1982) (plurality
op.)); cf. N.
Pipeline Constr. Co., 458 U.S. at 69 n.23 (“It is thus clear that
the presence of
the United States as a proper party to the proceeding is a necessary
but not
sufficient means of distinguishing ‘private rights’ from ‘public
rights.’”).
Then Granfinanciera said that a dispute between two private parties
could
still vindicate “public rights,” such that the government was no
longer a
necessary condition for such suits. See 492 U.S. at 53–55. The
dissenting
opinion thus says that, after Granfinanciera, the government is no
longer a
necessary condition, but it is now a sufficient condition. That is at
odds with
Granfinanciera and does not follow from any of the Court’s previous
8 Cf. Ronald Reagan, Presidential News Conference (Aug. 12, 1986),
https://www.presidency.ucsb.edu/documents/the-presidents-news-conference-957.
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decisions, which stressed that the government’s involvement alone
does not
convert a suit about private rights into one about public rights.
The question is not just whether the government is a party, but also
whether the right being vindicated is public or private, and how it is
being
vindicated. Tracing the roots of, and justification for, the
public-rights
doctrine, the Supreme Court has explained “that certain prerogatives
were
[historically] reserved to the political Branches of Government.” N.
Pipeline
Constr. Co., 458 U.S. at 67. Specifically, “[t]he public-rights
doctrine is
grounded in a historically recognized distinction between matters that
could
be conclusively determined by the Executive and Legislative Branches
and
matters that are ‘inherently . . . judicial.’” Id.. at 68
(quoting Ex parte Bakelite
Corp., 279 U.S. 438, 458 (1929)).
The inquiry is thus inherently historical. The dissenting opinion
tries
to avoid the history by again emphasizing that Granfinanciera dealt
with
private parties, not the government. But again, if the right being
vindicated
is a private one, it is not enough that the government is doing the
suing. That
means we must consider whether the form of the action—whether
brought
by the government or by a private entity—is historically judicial,
or if it
reflects the sorts of issues which courts of law did not traditionally
decide.
As discussed in Part II.B.2, history demonstrates that fraud claims
like
these are “traditional legal claims” that arose at common law.
Even aside
from post-Atlas Roofing refinements of the “public rights”
doctrine, this fact,
among others, distinguishes that case. In Atlas Roofing, OSHA
empowered
the government to pursue civil penalties and abatement orders whether
or
not any employees were “actually injured or killed as a result of
the [unsafe
working] condition.” 430 U.S. at 445; see also id. at 461
(“[Congress] created
a new cause of action, and remedies therefor, unknown to the common
law
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.. . . .”). The government’s right to relief was exclusively a
creature of statute
and was therefore distinctly public in nature.
In contrast, fraud claims, including the securities-fraud claims here,
are quintessentially about the redress of private harms. Indeed, the
government alleges that Petitioners defrauded particular investors.
Cf. 15
U.S.C. §§ 77q(a), 78j(b), 80b-6. As explained above, these fraud
claims and
civil penalties are analogous to traditional fraud claims at common
law in a
way that the “new” claims and remedies in Atlas Roofing were not.
See Atlas
Roofing, 430 U.S. at 461.
That being so, Granfinanciera’s considerations about whether
Congress created a new action unfamiliar to the common law, and
whether
jury trial rights are incompatible with the statutory scheme, are
appropriate
for us to address even if the suit involves the federal government.
And as
discussed above: (1) this type of action was commonplace at common
law,
(2) jury trial rights are consistent and compatible with the statutory
scheme,
and (3) such actions are commonly considered by federal courts with or
without the federal government’s involvement. Thus, the agency
proceedings below violated Petitioners’ Seventh Amendment rights,
and the
SEC’s decision must be vacated.
C.
Petitioners next argue that Congress unconstitutionally delegated
legislative power to the SEC when it gave the SEC the unfettered
authority
to choose whether to bring enforcement actions in Article III courts
or within
the agency. Because Congress gave the SEC a significant legislative
power
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19
by failing to provide it with an intelligible principle to guide its
use of the
delegated power, we agree with Petitioners.9
“We the People” are the fountainhead of all government power.
Through the Constitution, the People delegated some of that power to
the
federal government so that it would protect rights and promote the
common
good. See The Federalist No. 10 (James Madison) (explaining that one
of the
defining features of a republic is “the delegation of the government
.. . . to a
small number of citizens elected by the rest”). But, in keeping with
the
Founding principles that (1) men are not angels, and (2) “[a]mbition
must be
made to counteract ambition,” see The Federalist No. 51 (James
Madison),
the People did not vest all governmental power in one person or
entity. It
separated the power among the legislative, executive, and judicial
branches.
See The Federalist No. 47 (James Madison) (“The accumulation of all
powers, legislative, executive, and judiciary, in the same hands,
whether of
one, a few, or many, and whether hereditary, self-appointed, or
elective, may
justly be pronounced the very definition of tyranny.”). The
legislative power
is the greatest of these powers, and, of course, it was given to
Congress. U.S.
Const. art. I, § 1.
The Constitution, in turn, provides strict rules to ensure that
Congress exercises the legislative power in a way that comports with
the
People’s will. Every member of Congress is accountable to his or her
constituents through regular popular elections. U.S. Const. art I,
§§ 2, 3; id.
amend. XVII, cl. 1. And a duly elected Congress may exercise the
legislative
power only through the assent of two separately constituted chambers
9 This is an alternative holding that provides ground for vacating the
SEC’s
judgment. “This circuit follows the rule that alternative holdings
are binding precedent
and not obiter dictum.” Texas v. United States, 809 F.3d 134, 178
n.158 (5th Cir. 2015)
(quoting United States v. Potts, 644 F.3d 233, 237 n.3 (5th Cir.
2011)).
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(bicameralism) and the approval of the President (presentment). U.S.
Const.
art. I, § 7. This process, cumbersome though it may often seem to
eager
onlookers,10 ensures that the People can be heard and that their
representatives have deliberated before the strong hand of the federal
government raises to change the rights and responsibilities attendant
to our
public life. Cf. Rachel E. Barkow, Separation of Powers and the
Criminal Law,
58 Stan. L. Rev. 989, 1017 (2006). (“[T]he Framers weighed the need
for
federal government efficiency against the potential for abuse and came
out
heavily in favor of limiting federal government power over crime.”).
But that accountability evaporates if a person or entity other than
Congress exercises legislative power. See Gundy v. United States, 139
S. Ct.
2116, 2134 (2019) (Gorsuch, J., dissenting) (“[B]y directing that
legislating
be done only by elected representatives in a public process, the
Constitution
sought to ensure that the lines of accountability would be clear: The
sovereign people would know, without ambiguity, whom to hold
accountable
for the laws they would have to follow.”). Thus, sequestering that
power
within the halls of Congress was essential to the Framers. As John
Locke—
10 Indeed, President Woodrow Wilson, the original instigator of the
agency that
became the SEC, believed agencies like that one could solve the
“problem” of
congressional gridlock and the burden of popular accountability. See
Cochran v. SEC, 20
F.4th 194, 218 (5th Cir. 2021) (Oldham, J., concurring) (“Wilson’s
‘new constitution’
would ditch the Founders’ tripartite system and their checks and
balances for a ‘more
efficient separation of politics and administration, which w[ould]
enable the bureaucracy to
tend to the details of administering progress without being encumbered
by the
inefficiencies of politics.’” (quoting Ronald J. Pestritto,
Woodrow Wilson and the Roots of
Modern Liberalism 227 (2005))), cert. granted sub nom., SEC v.
Cochran, 21-1239, 2022 WL
1528373 (U.S. May 16, 2022); see also id. (“Wilson’s goal was to
completely separate ‘the
province of constitutional law’ from ‘the province of
administrative function.’” (quoting
Philip Hamburger, Is Administrative Law Unlawful? 464 (2014))).
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a particularly influential thinker at the Founding—explained, not
even the
legislative branch itself may give the power away:
The legislative cannot transfer the power of making laws to any
other hands; for it being but a delegated power from the people,
they who have it cannot pass it over to others. The people
alone can appoint the form of the commonwealth, which is by
constituting the legislative, and appointing in whose hands that
shall be. And when the people have said we will submit to rules,
and be governed by laws made by such men, and in such forms,
nobody else can say other men shall make laws for them; nor
can the people be bound by any laws but such as are enacted by
those whom they have chosen and authorised to make laws for
them.
Id. at 2133–34 (quoting John Locke, The Second Treatise of Civil
Government and a Letter Concerning Toleration § 141, p. 71 (1947)).11

Article I of the Constitution thus provides that “[a]ll legislative
Powers herein granted shall be vested in a Congress of the United
States.”
U.S. Const. art. I, § 1 (emphasis added). In keeping with Founding
conceptions of separation of powers,12 the Supreme Court has made
clear
that Congress cannot “delegate to the Courts, or to any other
tribunals,
powers which are strictly and exclusively legislative.” Wayman v.
Southard,
23 U.S. (10 Wheat.) 1, 42 (1825); see also A.L.A. Schechter Poultry
Corp. v.
11 Locke’s perspective on the legislature’s delegation of its
power was influential in
the United States around the time of the framing of the Constitution.
See Hamburger, supra
at 384.
12 Principles of non-delegation had even taken hold in England before
the American
Founding. See Hamburger, supra at 381 (explaining that “even under
[King] James I, the
judges recognized that the king’s prerogative power came from his
subjects—that he was
exercising a power delegated by the people” and, as a result, he
could not transfer the royal
powers to anyone else); see also id. (“[P]arliamentary
subdelegations were widely
understood to be unlawful.”).
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United States, 295 U.S. 495, 529 (1935) (“Congress is not permitted
to
abdicate or to transfer to others the essential legislative functions
with which
it is thus vested.”). According to the Supreme Court’s more recent
formulations of that longstanding rule,13 Congress may grant
regulatory
power to another entity only if it provides an “intelligible
principle” by which
the recipient of the power can exercise it. Mistretta v. United
States, 488 U.S.
361, 372 (1989) (quoting J.W. Hampton, Jr., & Co. v. United
States, 276 U.S.
394, 409 (1928)). The two questions we must address, then, are (1)
whether
Congress has delegated power to the agency that would be legislative
power
but-for an intelligible principle to guide its use and, if it has, (2)
whether it
has provided an intelligible principle such that the agency exercises
only
executive power.14
We first conclude that Congress has delegated to the SEC what would
be legislative power absent a guiding intelligible principle.
Government
actions are “legislative” if they have “the purpose and effect
of altering the
legal rights, duties and relations of persons . . . outside the
legislative
branch.” INS v. Chadha, 462 U.S. 919, 952 (1983). The Supreme Court
has
noted that the power to assign disputes to agency adjudication is
“peculiarly
13 Some contemporary academics have argued that the non-delegation
doctrine
lacks a sound historical basis. See Julian Davis Mortenson &
Nicholas Bagley, Delegation at
the Founding, 121 Colum. L. Rev. 277 (2021); but see Ilan Wurman,
Nondelegation at the
Founding, 130 Yale L.J. 1490 (2021) (arguing that the doctrine was
present at the
Founding); Philip Hamburger, Delegating or Divesting?, 115 Nw. U. L.
Rev. Online 88
(2020) (similar). Of course, our role as an inferior court is to
faithfully apply Supreme
Court precedent, so we do not reach the proper historical scope of the
non-delegation
doctrine. See Morrow v. Meachum, 917 F.3d 870, 874 n.4 (5th Cir.
2019).
14 Adrian Vermeule, No, 93 Tex. L. Rev. 1547, 1558 (2015) (“[T]here
is [no]
delegation of legislative power at all so long as the legislature has
supplied an ‘intelligible
principle’ to guide the exercise of delegated discretion. Where
there is such a principle,
the delegatee is exercising executive power, not legislative power.”
(emphasis and footnote
omitted)).
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within the authority of the legislative department.” Oceanic Steam
Navigation Co. v. Stranahan, 214 U.S. 320, 339 (1909).15
And, as discussed
above, in some special circumstances Congress has the power to assign
to
agency adjudication matters traditionally at home in Article III
courts. Atlas
Roofing, 430 U.S. at 455. Through Dodd–Frank § 929P(a), Congress
gave
the SEC the power to bring securities fraud actions for monetary
penalties
within the agency instead of in an Article III court whenever the SEC
in its
unfettered discretion decides to do so. See 15 U.S.C. § 78u-2(a).
Thus, it
gave the SEC the ability to determine which subjects of its
enforcement
actions are entitled to Article III proceedings with a jury trial, and
which are
not. That was a delegation of legislative power. As the Court said in
Crowell
v. Benson, “the mode of determining” which cases are assigned to
administrative tribunals “is completely within congressional
control.” 285
U.S. 22, 50 (1932) (quoting Ex parte Bakelite Corp., 279 U.S. at 451).
The SEC argues that by choosing whether to bring an action in an
agency tribunal instead of in an Article III court it merely exercises
a form of
prosecutorial discretion—an executive, not legislative, power. That
position
reflects a misunderstanding of the nature of the delegated power.
Congress
did not, for example, merely give the SEC the power to decide whether
to
bring enforcement actions in the first place, or to choose where to
bring a case
among those district courts that might have proper jurisdiction. It
instead
effectively gave the SEC the power to decide which defendants should
15 Moreover, at the Virginia Ratifying Convention in 1788,
then-delegate John
Marshall suggested that it is proper to the legislative power to
determine the expedience of
assigning particular matters for jury trial. See John Marshall on the
Fairness and
Jurisdiction of the Federal Courts, in 2 The Debate on the
Constitution 740 (Bernard
Bailyn ed. 1993) (“The Legislature of Virginia does not give a trial
by jury where it is not
necessary. But gives it wherever it is thought expedient. The Federal
Legislature will do
so too, as it is formed on the same principles.”).
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receive certain legal processes (those accompanying Article III
proceedings)
and which should not. Such a decision—to assign certain actions to
agency
adjudication—is a power that Congress uniquely possesses. See id.
Next, Congress did not provide the SEC with an intelligible principle
by which to exercise that power. We recognize that the Supreme Court
has
not in the past several decades held that Congress failed to provide a
requisite
intelligible principle. Cf. Whitman v. Am. Trucking Ass’ns, Inc.,
531 U.S. 457,
474–75 (2001) (cataloguing the various congressional directives that
the
Court has found to be “intelligible principle[s]”). But neither in
the last
eighty years has the Supreme Court considered the issue when Congress
offered no guidance whatsoever. The last time it did consider such an
openended delegation of legislative power, it concluded that Congress
had acted
unconstitutionally: In Panama Refining Co. v. Ryan, 293 U.S. 388,
405–06
(1935), the Court considered a statutory provision granting the
President the
authority to prohibit the transportation in interstate commerce of
petroleum
and related products. The Court scoured the statute for directives to
guide
the President’s use of that authority, but it found none. Id. at
414–20. It
therefore explained:
[I]n every case in which the question has been raised, the Court
has recognized that there are limits of delegation which there is
no constitutional authority to transcend. We think that section
9(c) goes beyond those limits. As to the transportation of oil
production in excess of state permission, the Congress has
declared no policy, has established no standard, has laid down
no rule.
Id. at 430.
Congress’s grant of authority to the SEC here is similarly
open-ended.
Even the SEC agrees that Congress has given it exclusive authority and
absolute discretion to decide whether to bring securities fraud
enforcement
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actions within the agency instead of in an Article III court. Congress
has said
nothing at all indicating how the SEC should make that call in any
given case.
If the intelligible principle standard means anything, it must mean
that a total
absence of guidance is impermissible under the Constitution.16
See Gundy,
139 S. Ct. at 2123 (Kagan, J., plurality op.) (noting that “we would
face a
nondelegation question” if the statutory provision at issue had
“grant[ed]
the Attorney General plenary power to determine SORNA’s
applicability to
pre-Act offenders—to require them to register, or not, as she sees
fit, and to
change her policy for any reason and at any time” (emphasis added))..
We
therefore vacate the SEC’s judgment on this ground as well.
D.
The SEC proceedings below suffered from another constitutional
infirmity: the statutory removal restrictions for SEC ALJs are
unconstitutional.17
SEC ALJs perform substantial executive functions. The
President therefore must have sufficient control over the performance
of
their functions, and, by implication, he must be able to choose who
holds the
16 As a member of this court aptly noted just last year, the fact that
the modern
administrative state is real and robust does not mean courts are never
called to declare its
limits. See Cochran, 20 F.4th at 222 (Oldham, J., concurring) (“If
administrative agencies
‘are permitted gradually to extend their powers by
encroachments—even petty
encroachments—upon the fundamental rights, privileges and immunities
of the people,’
the Court warned that ‘we shall in the end, while avoiding the fatal
consequences of a
supreme autocracy, become submerged by a multitude of minor invasions
of personal
rights, less destructive but no less violative of constitutional
guaranties.’” (quoting Jones
v. SEC, 298 U.S. 1, 24–25 (1936))).
17 Because we vacate the SEC’s judgment on various other grounds, we
do not
decide whether vacating would be the appropriate remedy based on this
error alone. See
Collins v. Yellen, 27 F.4th 1068, 1069 (5th Cir. 2022) (remanding to
the district court to
determine what remedy, if any, is appropriate in light of the Supreme
Court’s holding that
removal restrictions applicable to the Director of the Federal Housing
Finance Agency
were unconstitutional).
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positions. Two layers of for-cause protection impede that control;
Supreme
Court precedent forbids such impediment.
Article II provides that the President must “take Care that the Laws
be faithfully executed.” U.S. Const. art. II, § 3. The Supreme
Court has
held that this provision guarantees the President a certain degree of
control
over executive officers; the President must have adequate power over
officers’ appointment and removal.18
Myers v. United States, 272 U.S. 52, 117
(1926). Only then can the People, to whom the President is directly
accountable, vicariously exercise authority over high-ranking
executive
officials. Free Enterprise Fund v. Public Co. Accounting Oversight
Bd., 561 U.S.
477, 498 (2010). Yet not all removal restrictions are constitutionally
problematic. “Inferior officers” may retain some amount of
for-cause
protection from firing. See, e.g., Morrison v. Olson, 487 U.S. 654,
691–92
(1988). Likewise, even principal officers may retain for-cause
protection
when they act as part of an expert board. Seila Law LLC v. CFPB, 140
S. Ct.
2183, 2192 (2020).
But a problem arises when both of those protections act in concert. In
Free Enterprise Fund, the Supreme Court considered the
constitutionality of
two layers of for-cause protection for members of the Public Company
Accounting Oversight Board (PCAOB). 561 U.S. at 492. The members of
the board answered to the SEC Commissioners. But the SEC could remove
them only for “willful violations of the [Sarbanes–Oxley] Act,
Board rules,
or the securities laws; willful abuse of authority; or unreasonable
failure to
enforce compliance—as determined in a formal Commission order,
rendered
on the record and after notice and an opportunity for a hearing.”
Id. at 503.
18 Of course, the President’s authority over appointments derives
from the
Appointments Clause as well. See U.S. Const. art. II, § 2, cl. 2.
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On top of that, the President could only remove SEC Commissioners for
“inefficiency, neglect of duty, or malfeasance in office.” Id. at
486–87, 502.
The Supreme Court held that this extensive system insulating PCAOB
members from removal deprived the President of the ability to
adequately
oversee the Board’s actions. Id. at 492, 496.
The question here is whether SEC ALJs serve sufficiently important
executive functions, and whether the restrictions on their removal are
sufficiently onerous, that the President has lost the ability to take
care that
the laws are faithfully executed. Petitioners’ argument on this
point is
straightforward: SEC ALJs are inferior officers; they can only be
removed by
the SEC Commissioners if good cause is found by the Merits Systems
Protection Board; SEC Commissioners and MSPB members can only be
removed by the President for cause; so, SEC ALJs are insulated from
the
President by at least two layers of for-cause protection from removal,
which
is unconstitutional under Free Enterprise Fund. The SEC responds that
this
case is not like Free Enterprise Fund. First, it contends that SEC
ALJs
primarily serve an adjudicatory role. Second, it asserts that the
for-cause
protections for ALJs are not as stringent as those which applied to
PCAOB
members at the time of Free Enterprise Fund—or, at least, that this
court
should read the removal protections for ALJs that way to avoid
constitutional
problems.
We agree with Petitioners and hold that the removal restrictions are
unconstitutional. The Supreme Court decided in Lucia that SEC ALJs are
“inferior officers” under the Appointments Clause because they
have
substantial authority within SEC enforcement actions. Lucia v. SEC,
138 S.
Ct. 2044, 2053 (2018). And in Free Enterprise Fund it explained that
the
President must have adequate control over officers and how they carry
out
their functions. 561 U.S. at 492, 496. If principal officers cannot
intervene
in their inferior officers’ actions except in rare cases, the
President lacks the
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control necessary to ensure that the laws are faithfully executed. So,
if SEC
ALJs are “inferior officers” of an executive agency, as the
Supreme Court in
Lucia indicated was the case at least for the purposes of the
Appointments
Clause, they are sufficiently important to executing the laws that the
Constitution requires that the President be able to exercise authority
over
their functions. Specifically, SEC ALJs exercise considerable power
over
administrative case records by controlling the presentation and
admission of
evidence; they may punish contemptuous conduct; and often their
decisions
are final and binding. Lucia, 138 S. Ct. at 2053–54. But 5 U.S.C. §
7521(a)
provides that SEC ALJs may be removed by the Commission “only for
good
cause established and determined by the Merit Systems Protection Board
(MSPB) on the record after opportunity for hearing before the
Board.”
(Parenthetical not in original.) And the SEC Commissioners may only be
removed by the President for good cause.
The dissenting opinion’s response is all built on dicta from Free
Enterprise Fund. There, in noting what issues the Court was leaving
open,
the Court identified characteristics that were true of ALJs that were
not true
of PCAOB members: “[U]nlike members of the [PCAOB], many” ALJs
“perform adjudicative rather than enforcement or policymaking
functions.”
Free Enterprise Fund, 561 U.S. at 507 n.10. Far from “stat[ing]”
that this
“may justify multiple layers of removal protection,” post at 22,
the Court
merely identified that its decision does not resolve the issue
presented here.
In any event, the Court itself said in Myers that
“quasi[-]judicial” executive
officers must nonetheless be removable by the President “on the
ground that
the discretion regularly entrusted to that officer by statute has not
been on
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the whole intelligently or wisely exercised.” 272 U.S. at 135.19 So
even if
ALJs’ functions are more adjudicative than PCAOB members, the fact
remains that two layers of insulation impedes the President’s power
to
remove ALJs based on their exercise of the discretion granted to
them.20
Finally, the SEC urges us to interpret the for-cause protections for
ALJs to instead allow removal for essentially any reason. Even if we
could do
so (and the statutory language likely does not give us that
flexibility), that
19 The dissenting opinion deems this proposition from Myers to be
obiter dicta that
the Court subsequently disregarded in Humphrey’s Executor v. United
States, 295 U.S. 602,
626–28 (1935). Post at 54 n.113. But that itself is to disregard the
Supreme Court’s more
recent guidance, which fortifies the Court’s “landmark decision”
in Myers and narrowed
Humphrey’s Executor. See Seila Law, 140 S. Ct. at 2191–92,
2197–99 & n.2 (limiting the
Humphrey’s Executor exception to Myers to cases involving
“for-cause removal protections
[given] to a multimember body of experts, balanced along partisan
lines, that perform[]
legislative and judicial functions and [are] said not to exercise any
executive power,” while
casting doubt on the existence of wholly non-executive,
quasi-legislative or quasi-judicial
agency powers altogether); see also City of Arlington v. F.C.C., 569
U.S. 290, 305 n.4 (2013)
(noting that “[agency] activities take ‘legislative’ and
‘judicial’ forms, but they are
exercises of—indeed, under our constitutional structure they must be
exercises of—the
‘executive Power’” (citing U.S. Const. art. II, § 1, cl. 1)).
20 In the next breath, the dissenting position draws from a law review
article that
“[t]he ALJs’ role is similar to that of a federal judge.” Post
at 52. It then concludes that
they must be insulated from removal by the president to maintain their
independence. But
that analogy runs out under a little scrutiny. The SEC’s ALJs are
not mere neutral arbiters
of federal securities law; they are integral pieces within the SEC’s
powerful enforcement
apparatus. The ALJs report to the Commission itself and act under
authority delegated by
it. SEC Organization Chart (2020),
https://www.sec.gov/about/secorg.pdf; 15 U.S.C.
§ 78d-1(a); 17 C.F.R. § 200.30-10. As the amicus brief by the Cato
Institute points out,
these administrative proceedings differ significantly from cases
resolved in federal district
courts and reviewed by federal courts of appeals. Cato Amicus Br. at
19–31. First, the
Commission has ex parte discussions with the prosecutors to determine
whether to pursue
securities-fraud claims. Then the Commission itself decides what
claims should be brought
by the prosecutors. Only then do ALJs resolve the claims, which are
then again reviewed
by the Commission. Suffice it to say, even if ALJs have some of the
same “tools of federal
trial judges,” Lucia, 138 S. Ct. at 2053, they use those tools at
the direction of and with the
power delegated to them by the Commission.
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would not solve the Article II problem. As noted above, the MSPB is
part of
the mix as well. Furthermore, MSPB members “may be removed by the
President only for inefficiency, neglect of duty, or malfeasance in
office.” 5
U.S.C. § 1202(d). So, for an SEC ALJ to be removed, the MSPB must
find
good cause and the Commission must choose to act on that finding. And
members of both the MSPB and the Commission have for-cause protection
from removal by the President. Simply put, if the President wanted an
SEC
ALJ to be removed, at least two layers of for-cause protection stand
in the
President’s way.
Thus, SEC ALJs are sufficiently insulated from removal that the
President cannot take care that the laws are faithfully executed. The
statutory removal restrictions are unconstitutional.
III.
In sum, we agree with Petitioners that the SEC proceedings below
were unconstitutional. The SEC’s judgment should be vacated for at
least
two reasons: (1) Petitioners were deprived of their Seventh Amendment
right
to a civil jury; and (2) Congress unconstitutionally delegated
legislative
power to the SEC by failing to give the SEC an intelligible principle
by which
to exercise the delegated power. We also hold that the statutory
removal
restrictions for SEC ALJs are unconstitutional, though we do not
address
whether vacating would be appropriate based on that defect alone.21
We GRANT the petition for review, VACATE the decision of the
SEC, and REMAND for further proceedings consistent with this opinion.
21 Petitioners also argue that the SEC violated their equal protection
rights, and
that its decision was infected with bias and violated their due
process rights. Because we
vacate the SEC’s decision on other grounds, we decline to reach
these issues.
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31
W. Eugene Davis, Circuit Judge, dissenting:
The majority holds that (1) administrative adjudication of the SEC’s
enforcement action violated Petitioners’ Seventh Amendment right to
a jury
trial; (2) Congress unconstitutionally delegated an Article I
legislative power
to the executive branch when it gave the SEC the discretion to choose
between bringing its enforcement action in an Article III court or
before the
agency without providing an intelligible principle to guide the
SEC’s
decision; and (3) the removal protections on SEC administrative law
judges
violate Article II’s requirement that the President “take Care
that the Laws
be faithfully executed.” I respectfully disagree with each of these
conclusions.
I.
The majority holds that the Seventh Amendment grants Petitioners
the right to a jury trial on the facts underlying the SEC’s
enforcement action,
and administrative adjudication without a jury violated that right. In
reaching
this conclusion, the majority correctly recognizes that a case
involving
“public rights” may be adjudicated in an agency proceeding without
a jury
notwithstanding the Seventh Amendment.1 But, the majority then
erroneously concludes that the SEC’s enforcement action does not
involve
“public rights.” In my view, the majority misreads the Supreme
Court’s
decisions addressing what are and are not “public rights.”
1 See, e.g., Granfinanciera, S.A. v. Nordberg, 492 U.S. 33, 42 n.4
(1989) (“If a claim
that is legal in nature asserts a ‘public right,’ . . . then the
Seventh Amendment does not
entitle the parties to a jury trial if Congress assigns its
adjudication to an administrative
agency or specialized court of equity. The Seventh Amendment protects
a litigant’s right
to a jury trial only if a cause of action is legal in nature and it
involves a matter of ‘private
right.’” (citation omitted)).
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A.
As declared by Professors Wright and Miller, “A definitive statement
by the Supreme Court regarding congressional authority in this context
is
found in Atlas Roofing v. Occupational Safety & Health Review
Commission.”2
That case concerned the Occupational Safety and Health Act (“OSHA”
or
“the Act”), which created a new statutory duty on employers to
avoid
maintaining unsafe or unhealthy working conditions. OSHA also
empowered
the Federal Government, proceeding before an administrative agency
without a jury, to impose civil penalties on those who violated the
Act.3 Two
employers who had been cited for violating the Act argued that a suit
in a
federal court by the Government seeking civil penalties for violation
of a
statute is classically a suit at common law for which the Seventh
Amendment
provides a right to a jury trial; therefore, Congress cannot deprive
them of
that right by simply assigning the function of adjudicating the
Government’s
right to civil penalties to an administrative forum where no jury is
available.4
The Court, in a unanimous opinion, disagreed:
At least in cases in which “public rights” are being litigated—
e.g., cases in which the Government sues in its sovereign
capacity to enforce public rights created by statutes within the
power of Congress to enact—the Seventh Amendment does
not prohibit Congress from assigning the factfinding function
and initial adjudication to an administrative forum with which
the jury would be incompatible. . . . This is the case even if the
Seventh Amendment would have required a jury where the
2 9 Charles Alan Wright & Arthur R. Miller, Federal
Practice and Procedure § 2302.2, at 59 (4th ed. 2020) (citing Atlas
Roofing Co. v.
Occupational Safety & Health Rev. Comm’n, 430 U.S. 442 (1977))
(italics added).
3 Atlas Roofing, 430 U.S. at 445.
4
Id. at 449–50.
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adjudication of those rights is assigned instead to a federal
court of law instead of an administrative agency.5

Atlas Roofing drew its definition of “public rights” from, inter
alia, Crowell v.
Benson, which described “public rights” in slightly broader terms:
matters
“which arise between the Government and persons subject to its
authority in
connection with the performance of the constitutional functions of the
executive or legislative departments.”6
The Supreme Court has never retreated from its holding in Atlas
Roofing.
7
In fact, the Court implicitly re-affirmed Atlas Roofing’s definition
of
“public rights” as recently as 2018, when it decided Oil States
Energy
Services, LLC v. Greene’s Energy Group, LLC.
8 That case involved the LeahySmith America Invents Act, which granted
the Patent and Trademark Office
(“PTO”) the power to reconsider a previously-issued patent via an
administrative process called “inter partes review.”9 This was a
departure
from historical practice, which placed this function in Article III
courts
alone.10 The petitioner argued that inter partes review violated both
Article
5
Id. at 450, 455 (emphasis added; paragraph break omitted); see also
id. at 458
(“Our prior cases support administrative factfinding in only those
situations involving
‘public rights,’ e.g., where the Government is involved in its
sovereign capacity under an
otherwise valid statute creating enforceable public rights.”).
6
Id. at 452 (quoting Crowell v. Benson, 285 U.S. 22, 50 (1932))
(emphasis added);
see also id. at 456, 457, 460 (citing Crowell, 285 U.S. 22).
7 Gideon Mark, SEC and CFTC Administrative Proceedings, 19 U. Pa. J.
Const.
L. 45, 95 (2016).
8
138 S. Ct. 1365 (2018).
9
Id. at 1370–72.
10 Id. at 1384 (Gorsuch, J., dissenting) (“[F]rom the time it
established the
American patent system in 1790 until about 1980, Congress left the job
of invalidating
patents at the federal level to courts alone.”).
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III and the Seventh Amendment.11 The Court disagreed and explained
that
Congress has “significant latitude” to assign adjudication of
“public rights”
to non-Article III tribunals that do not use a jury.12 Moreover, the
Court,
quoting Crowell, defined “public rights” as “matters ‘which
arise between
the Government and persons subject to its authority in connection with
the
performance of the constitutional functions of the executive or
legislative
departments.’”13
As mentioned, Atlas Roofing’s definition of “public rights” is a
slightly narrower version of Crowell’s definition. Thus, when Oil
States reaffirmed Crowell, it necessarily re-affirmed Atlas
Roofing’s definition as
well.14
Oil States is also significant because it held that historical
practice is
not determinative in matters governed by the public rights doctrine,
as such
matters “‘from their nature’ can be resolved in multiple
ways.”15
Accordingly, the Court rejected the view that “because courts have
traditionally adjudicated patent validity in this country, courts must
forever
continue to do so.”16
11 Id. at 1372.
12 Id. at 1373, 1379.
13 Id. at 1373 (quoting Crowell, 285 U.S. at 50).
14 Oil States did not purport to provide an exhaustive definition of
“public rights,”
and the opinion alludes to the possibility that, under certain
circumstances, matters not
involving the Government may also fall within the realm of “public
rights.” See id.
However, the Court did not need to address these other, “various
formulations” of “public
rights,” because inter partes review fell squarely within
Crowell’s definition. See id. This
court reached a similar conclusion in Austin v. Shalala, discussed
below.
15 Id. at 1378 (quoting Ex parte Bakelite Corp., 279 U.S. 438, 451
(1929)).
16 Id.; see also id. (“That Congress chose the courts in the past
does not foreclose
its choice of the PTO today.”).
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Like Oil States, this court relied on Crowell to define “public
rights”
in Austin v. Shalala.
17 That case involved the Government’s action to recover
overpayment of social security benefits via an administrative
proceeding
before the Social Security Administration.18 Austin rejected the
plaintiff’s
argument that the proceeding violated her Seventh Amendment right,
explaining that “if Congress may employ an administrative body as a
factfinder in imposing money penalties for the violation of federal
laws”—as
was done in Atlas Roofing and in the securities statutes at issue
here—“it
plainly may employ such a body to recover overpayments of government
largess.”19
Consistent with the above cases, our sister circuits routinely hold
that
an enforcement action by the Government for violations of a federal
statute
or regulation is a “public right” that Congress may assign to an
agency for
adjudication without offending the Seventh Amendment.20 For example,
the
Eleventh Circuit relied solely on Atlas Roofing when it rejected a
Seventh
Amendment challenge to administrative adjudication of an SEC
enforcement action and declared “it is well-established that the
Seventh
17 994 F.2d 1170, 1177 (5th Cir. 1993).
18 Id. at 1173.
19 Id. at 1177-78 (citing Oceanic Steam Navigation Co. v. Stranahan,
412 U.S. 320,
339 (1909)).
20 See, e.g., Imperato v. SEC, 693 F. App’x 870, 876 (11th Cir.
2017) (unpublished)
(administrative adjudication for violations of the Securities Exchange
Act); Crude Co. v.
FERC, 135 F.3d 1445, 1454–55 (Fed. Cir. 1998) (Mandatory Petroleum
Allocation
Regulations); Cavallari v. Office of Comptroller of Currency, 57 F.3d
137, 145 (2d Cir. 1995)
(Financial Institutions Reform, Recovery and Enforcement Act); Sasser
v. Adm’r EPA, 990
F.2d 127, 130 (4th Cir. 1993) (Clean Water Act).
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Amendment does not require a jury trial in administrative proceedings
designed to adjudicate statutory ‘public rights.’”21
The SEC’s enforcement action satisfies Atlas Roofing’s definition
of a
“public right,” as well as the slightly broader definition set
forth in Crowell
and applied in Oil States and Austin. The broad congressional purpose
of the
securities laws is to “protect investors.”22 For example, the
Securities Act of
1933 was “designed to provide investors with full disclosure of
material
information concerning public offerings of securities in commerce, to
protect
investors against fraud and, through the imposition of specified civil
liabilities, to promote ethical standards of honesty and fair
dealing.”23 The
Dodd-Frank Act, which, inter alia, expanded the SEC’s authority to
pursue
civil penalties in administrative proceedings,24 was “intended to
improve
investor protection,” particularly in light of the Bernard Madoff
Ponzi
scheme.25 Other circuits have consistently recognized that “[w]hen
the SEC
sues to enforce the securities laws, it is vindicating public rights
and
furthering public interests, and therefore is acting in the United
States’s
21 Imperato, 693 F. App’x at 876 (citing Atlas Roofing, 430 U.S. at
455–56).
22 Smallwood v. Pearl Brewing Co., 489 F.2d 579, 592 (5th Cir. 1974).
23 Ernst & Ernst v. Hochfelder, 425 U.S. 185, 195 (1976). In a
similar vein, the
Investment Advisers Act of 1940 seeks to “protect[] investors
through the prophylaxis of
disclosure,” in order to eliminate “the darkness and ignorance of
commercial secrecy,”
which “are the conditions upon which predatory practices best
thrive.” SEC v. Capital
Gains Research Bureau, Inc., 375 U.S. 180, 200 (1963).
24 Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L.
No. 111-
203, Sec. 929P, 124 Stat. 1376, 1862–64 (2010) (codified at 15
U.S.C. §§ 77h-1(g), 78u-2(a),
80a-9(d), 80b-3(i)).
25 Mark Jickling, Congressional Research Service, R41503 The
Dodd-Frank Wall
Street Reform and Consumer Protection Act: Title IX, Investor
Protection at i (2010).
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sovereign capacity.”26 Thus, the SEC’s enforcement action is a
“public
right” because it is a case “in which the Government sues in its
sovereign
capacity to enforce public rights created by statutes within the power
of
Congress to enact.”27 It is also a matter “which arise[s] between
the
Government and persons subject to its authority in connection with the
performance of the constitutional functions of the executive or
legislative
departments.”28
Because the SEC’s enforcement action is a “public right,” the
Seventh Amendment does not prohibit Congress from assigning its
adjudication to an administrative forum that lacks a jury.29 As
discussed
below, the fact that the securities statutes at issue resemble (but
are not
identical to) common-law fraud does not change this result.30 It also
makes
26 SEC v. Diversified, 378 F.3d 1219, 1224 (11th Cir. 2004), abrogated
on other
grounds by Kokesh v. SEC, 137 S. Ct. 1635 (2017); see also SEC v.
Rind, 991 F.2d 1486, 1491
(9th Cir. 1993); United States v. Badger, 818 F.3d 563, 566 (10th Cir.
2016).
27 Atlas Roofing, 430 U.S. at 450.
28 Crowell, 285 U.S. at 22; Oil States, 138 S. Ct. at 1373; Austin,
994 F.2d at 1177.
The majority asserts that “[t]he dissenting opinion cannot define a
‘public right’
without using the term itself in the definition.” First, I rely on
definitions the Supreme
Court has provided. Second, while Atlas Roofing does use “public
rights” to define “public
rights,” Crowell does not. Furthermore, Granfinanciera observed that
Atlas Roofing “left
the term ‘public rights’ undefined” and so looked to Crowell to
fill in any perceived gap.
Granfinanciera, 492 U.S. at 51 n.8; see also id. at 53 (noting that,
under Atlas Roofing, a
“public right” is simply “a statutory cause of action [that]
inheres in, or lies against, the
Federal Government in its sovereign capacity”).
29 Atlas Roofing, 430 U.S. at 450; Granfinanciera, 492 U.S. at
52–54; Oil States, 138
S. Ct. at 1379.
30 See Granfinanciera, 492 U.S. at 52 (“Congress may fashion causes
of action that
are closely analogous to common-law claims and place them beyond the
ambit of the
Seventh Amendment by assigning their resolution to a forum in which
jury trials are
unavailable” if the action involves “public rights.”).
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no difference that federal courts have decided claims under the
securities
statutes for decades.31
B.
The majority’s conclusion that the SEC’s enforcement action is not
a
“public right” is based primarily on an erroneous reading of
Granfinanciera,
S.A. v. Nordberg.32 Specifically, the majority interprets that case as
abrogating
Atlas Roofing. Granfinanciera did nothing of the sort.
In Granfinanciera, a bankruptcy trustee sued in bankruptcy court
(where a jury was unavailable) to avoid allegedly fraudulent transfers
the
defendants had received from the debtor.33 The defendants argued that
they
were entitled to a jury trial under the Seventh Amendment.34 A key
issue was
whether the trustee’s claim involved “public” or “private”
rights. The
Court held that the action was a private right.35
Unlike Atlas Roofing, Granfinanciera did not involve a suit by or
against the Federal Government. This distinction is important. In
discussing
what constitutes a “public right,” Granfinanciera, citing Atlas
Roofing,
recognized that “Congress may effectively supplant a common-law
cause of
action carrying with it a right to a jury trial with a statutory cause
of action
shorn of a jury trial right if that statutory cause of action inheres
in, or lies
31 See Oil States, 138 S. Ct. at 1378 (“[W]e disagree with the
dissent’s assumption
that, because courts have traditionally adjudicated patent validity in
this country, courts
must forever continue to do so. Historical practice is not decisive .
.. . [in] matters governed
by the public-rights doctrine . . . . That Congress chose the courts
in the past does not
foreclose its choice of the PTO today.”)
32 492 U.S. 33.
33 Id. at 36.
34 Id. at 40.
35 Id. at 55, 64.
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against, the Federal Government in its sovereign capacity.”36
Granfinanciera
then clarified that “the class of ‘public rights’ whose
adjudication Congress
may assign to administrative agencies . . . is more expansive than
Atlas
Roofing’s discussion suggests”;37 i.e., the “Government need not
be a party
for a case to revolve around ‘public rights’” provided certain
other criteria
are met.38 Nevertheless, and contrary to what is implied by the
majority,
Granfinanciera’s recognition that the public-rights doctrine can
extend to
cases where the Government is not a party in no way undermines or
alters
Atlas Roofing’s holding that a case where the Government sues in its
sovereign capacity to enforce a statutory right is a case involving
“public
rights.”39
Because the bankruptcy trustee’s suit involved only private parties
and not the Government, Granfinanciera’s analysis is solely
concerned with
whether the action was one of the “seemingly ‘private’
right[s]” that are
36 Granfinanciera, 492 U.S. at 53 (citing Atlas Roofing, 430 U.S. at
458) (emphasis
added).
37 Id. at 53 (emphasis added).
38 Id. at 54 (citing Thomas v. Union Carbide Agric. Prods. Co., 473
U.S. 568, 586,
596–99 (1985)).
39 Granfinanciera itself makes this clear when it states:
The crucial question, in cases not involving the Federal Government,
is
whether “Congress, acting for a valid legislative purpose pursuant
to its
constitutional powers under Article I, [has] create[d] a seemingly
‘private’
right that is so closely integrated into a public regulatory scheme as
to be a
matter appropriate for agency resolution with limited involvement by
the
Article III judiciary.” If a statutory right is not closely
intertwined with a
federal regulatory program Congress has power to enact, and if that
right
neither belongs to nor exists against the Federal Government, then it
must
be adjudicated by an Article III court.
Id. at 54-55 (quoting Thomas, 473 U.S. at 593–94) (footnote omitted;
emphasis added;
bracketed alterations in original).
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within the reach of the public-rights doctrine. Thus, any
considerations or
requirements discussed in Granfinanciera that go beyond Atlas Roofing
or
Crowell apply only to cases not involving the Government.
This understanding of Granfinanciera is supported by our subsequent
decision in Austin, which stated:
Although the definition is somewhat nebulous, at a minimum,
suits involving public rights are those “which arise between the
Government and persons subject to its authority in connection
with the performance of the constitutional functions of the
executive or legislative departments.” Crowell v. Benson, 285
U.S. 22, 50, 52 S. Ct. 285, 292, 76 L.Ed. 598 (1932). Beyond
that, certain other cases are said to involve public rights where
Congress has created a “seemingly ‘private’ right that is so
closely integrated into a public regulatory scheme as to be a
matter appropriate for agency resolution with limited
involvement by the Article III judiciary.” Granfinanciera, 492
U.S. at 54 . . . .40
Similarly, while Oil States acknowledged that Crowell did not provide
the sole
definition of what constitutes a “public right,” it did not
discuss any of the
other “formulations” because Crowell’s definition was met.41
The majority overlooks the fact that Granfinanciera’s expansion of
the
public-rights doctrine applies only when the Government is not a party
to the
case. As a result, the majority applies “considerations” that have
no
relevance here. For example, the majority, quoting Granfinanciera,
states
that “jury trials would not ‘go far to dismantle the statutory
scheme’ or
‘impede swift resolution’ of statutory claims.” Again,
Granfinanciera
discussed these considerations in the context of a suit between
private
40 Austin, 994 F.2d at 1177 (emphasis added).
41 Oil States, 138 S. Ct. at 1373.
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persons, not a case involving the Government acting in its sovereign
capacity
under an otherwise valid statute creating enforceable public rights.
42
Indeed,
neither Austin nor Oil States, both of which were decided after
Granfinanciera
and which found public rights to exist, mentions these
considerations.43
The majority also states that the securities statutes at issue created
causes of action that “reflect” and “echo” common-law fraud.
But this does
not matter, because, as Granfinanciera itself recognized, the
public-rights
doctrine allows Congress to “fashion causes of action that are
closely
analogous to common-law claims and place them beyond the ambit of the
Seventh Amendment by assigning their resolution to a forum in which
jury
trials are unavailable.”44
The majority asserts that Atlas Roofing is distinguishable from the
SEC’s enforcement action because “OSHA empowered the government to
pursue civil penalties regardless of whether any employe[e]s were
‘actually
injured or killed as a result of the [unsafe working]
condition.’”45 But the
securities statutes share this feature: The SEC may impose civil
penalties on
42 Granfinanciera, 492 U.S. at 61, 63.
43 The same goes for the out-of-circuit decisions cited in footnote 20
above. Atlas
Roofing, in a footnote, does make a passing reference to “go far to
dismantle the statutory
scheme.” 430 U.S. at 454 n.11. But the Court was merely describing
its reasoning in another
bankruptcy case. Nothing in Atlas Roofing suggests that this
consideration is relevant to
whether Congress may assign the Government’s enforcement action to
an administrative
proceeding lacking a jury.
44 Granfinanciera, 492 U.S. at 52 (citations omitted); see also id. at
53 (“Congress
may effectively supplant a common-law cause of action carrying with it
a right to a jury trial
with a statutory cause of action shorn of a jury trial right if that
statutory cause of action
inheres in, or lies against, the Federal Government in its sovereign
capacity.” (citing Atlas
Roofing, 430 U.S. at 458)); accord Crude Co., 135 F.3d at 1455 (“The
public right at issue is
not converted into a common law tort simply because the theory of
liability underlying the
enforcement action is analogous to a common law tort theory of
vicarious liability.”).
45 Majority Op. at 17–18 (quoting Atlas Roofing, 430 U.S. at 445).
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a person who makes a material misrepresentation even if no harm
resulted
from the misrepresentation.46 The statutory cause of action created by
the
securities statutes is as “new” to the common law as the one
created by
OSHA.47
Relatedly, the majority harps on the fact that federal courts have
dealt
with actions under the securities statutes for decades. But Oil States
makes
clear that “[h]istorical practice is not decisive here.”48 “That
Congress
chose the courts in the past does not foreclose its choice of [an
administrative
adjudication] today.”49
The majority also states that “securities-fraud enforcement actions
are not the sort that are uniquely suited for agency adjudication.”
Again, this
is not relevant. As Oil States explained, “the public-rights
doctrine applies to
matters ‘arising between the government and others, which from their
nature
46 See 15 U.S.C. §§ 78u-2(c), 77h-1(g)(1), 80a-9(d)(3), 80b-3(i)(3).
47 Atlas Roofing recognized that, before (and after) OSHA, a person
injured by an
unsafe workplace condition may have an action at common law for
negligence. See Atlas
Roofing, 430 U.S. at 445. Through OSHA, specific safety standards were
promulgated, and
the Government could bring an enforcement action for a violation even
if no one was
harmed by the violation. Id. Similarly, before enactment of the
securities statutes, an
investor who was defrauded in the course of a securities transaction
had a common-law
action for fraud. Like OSHA, the securities statutes expressly
prohibited certain conduct
and empowered the SEC to bring an enforcement action for a violation,
even if no one was
actually harmed by the violation.
48 138 S. Ct. at 1378.
49 Id. Oil States likewise refutes the majority’s assertion that
“[t]he inquiry is thus
inherently historical.” I add that the majority’s support for this
proposition consists of a
concurring opinion in Granfinanciera and the plurality opinion in
Northern Pipeline
Construction Co. v. Marathon Pipeline Co., 458 U.S. 50 (1982)
(plurality), which addressed
whether a bankruptcy court may decide a breach of contract action
between two private
parties.
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do not require judicial determination and yet are susceptible of
it.’”50 Indeed,
“matters governed by the public-rights doctrine ‘from their
nature’ can be
resolved in multiple ways.”51
Finally, it should be emphasized that Tull v. United States52 does not
control the outcome here. That case concerned the Government’s suit
in
district court seeking civil penalties and an injunction for
violations of the
Clean Water Act.53 Tull did not involve an administrative proceeding.
Thus,
while Tull concluded that the Government’s claim was analogous to a
“Suit
at common law” for Seventh Amendment purposes,54 the Court did not
engage in the “quite distinct inquiry” into whether the claim was
also a
“public right” that Congress may assign to a non-Article III forum
where
juries are unavailable.55 Tull itself acknowledges in a footnote prior
decisions
“holding that the Seventh Amendment is not applicable to
administrative
proceedings,” making clear that it was not deciding whether the
defendant
would be entitled to a jury in an administrative adjudication.56
C.
In summary, the SEC’s enforcement action against Petitioners for
violations of the securities laws is a “public right” under
Supreme Court
precedent as well as our own. Accordingly, Congress could and did
validly
50 Id. at 1373 (citing Crowell, 285 U.S. at 50) (emphasis added).
51 Id. at 1378 (quoting Ex parte Bakelite Corp., 279 U.S. at 451).
52 481 U.S. 412 (1987).
53 Id. at 414–15.
54 Id. at 425.
55 Granfinanciera, 492 U.S. at 42 n.4; accord Sasser, 990 F.2d at 130.
56 Tull, 481 U.S. at 418 n.4 (citing Atlas Roofing, 430 U.S. at 454;
Pernell v. Southall
Realty, 416 U.S. 363, 383 (1974)).
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assign adjudication of that action to an administrative forum where
the
Seventh Amendment does not require a jury.
II.
I also disagree with the majority’s alternative holding that
Congress
exceeded its power by giving the SEC the authority to choose to bring
its
enforcement action in either an agency proceeding without a jury or to
a court
with a jury. The majority reasons that giving the SEC this power
without
providing guidelines on the use of that power violates Article I by
delegating
its legislative authority to the agency. The majority’s position
runs counter
to Supreme Court precedent. As set forth below, by authorizing the SEC
to
bring enforcement actions either in federal court or in agency
proceedings,
Congress fulfilled its legislative duty.
In support of its determination that Congress unconstitutionally
delegated its authority to the SEC, the majority relies on Crowell v.
Benson,
wherein the Supreme Court explained that “the mode of determining”
cases
involving public rights “is completely within congressional
control.”57
Crowell did not state that Congress cannot authorize that a case
involving
public rights may be determined in either of two ways. By passing
DoddFrank § 929P(a), Congress established that SEC enforcement
actions can be
brought in Article III courts or in administrative proceedings. In
doing so,
Congress fulfilled its duty of controlling the mode of determining
public
rights cases asserted by the SEC.
The majority maintains that because the SEC has “the power to
decide which defendants should receive certain legal processes (those
accompanying Article III proceedings) and which should not,” then
such a
57 285 U.S. at 50 (quoting Ex parte Bakelite Corp., 279 U.S. at 451).
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decision falls under Congress’s legislative power. The Supreme
Court’s
decision in United States v. Batchelder58 demonstrates that the
majority’s
position on this issue is incorrect.
In Batchelder, the issue presented was whether it was constitutional
for
Congress to allow the Government, when prosecuting a defendant, to
choose
between two criminal statutes that “provide[d] different penalties
for
essentially the same conduct.”59 The defendant had been convicted
under
the statute with the higher sentencing range, and the Court of Appeals
determined that the delegation of authority to prosecutors to decide
between
the two statutes, and thus choose a higher sentencing range for
identical
conduct, was a violation of due process and the nondelegation
doctrine.60
Specifically, the Court of Appeals determined that “such
prosecutorial
discretion could produce ‘unequal justice’” and that it might be
“impermissibl[e] [to] delegate to the Executive Branch the
Legislature’s
responsibility to fix criminal penalties.”61
The Supreme Court disagreed. The Court explained that “[t]he
provisions at issue plainly demarcate the range of penalties that
prosecutors
and judges may seek and impose.”62 The Court further stated: “In
light of
that specificity, the power that Congress has delegated to those
officials is no
broader than the authority they routinely exercise in enforcing the
criminal
laws.”63 The Court concluded: “Having informed the courts,
prosecutors,
58 442 U.S. 114 (1979).
59 Id. at 116.
60 Id. at 123, 125–26.
61 Id. at 125–26.
62 Id. at 126.
63 Id.
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and defendants of the permissible punishment alternatives available
under
each Title, Congress has fulfilled its duty.”64
The Supreme Court has analogized agency enforcement decisions to
prosecutorial discretion exercised in criminal cases.65 If the
Government’s
prosecutorial authority to decide between two criminal statutes that
provide
for different sentencing ranges for essentially the same conduct does
not
violate the nondelegation doctrine, then surely the SEC’s authority
to decide
between two forums that provide different legal processes does not
violate
the nondelegation doctrine. Thus, the SEC’s forum-selection
authority is
part and parcel of its prosecutorial authority.66
Although no other circuit court appears to have addressed the
particular nondelegation issue presented in this case, a district
court did so in
Hill v. SEC.
67 Like the majority does here, the plaintiff in Hill relied on I.N.S.
v. Chadha68 to assert that the SEC’s choice of forum is a
legislative action
because it “alter[s] the rights, duties, and legal relations of
individuals.”69
Chadha addressed the question whether a provision in the Immigration
and
64 Id. (citation omitted).
65 See Heckler v. Chaney, 470 U.S. 821, 832 (1985) (“[W]e recognize
that an
agency’s refusal to institute proceedings shares to some extent the
characteristics of the
decision of a prosecutor in the Executive Branch not to indict—a
decision which has long
been regarded as the special province of the Executive Branch . . .
..”).
66Cf. SEC v. Chenery Corp., 332 U.S. 194, 203 (1947) (“[T]he choice
made between
proceeding by general rule or by individual, ad hoc litigation is one
that lies primarily in the
informed discretion of the administrative agency.”) (citation
omitted).
67 114 F. Supp. 3d 1297 (N.D. Ga. 2015) (holding that SEC’s
forum-selection
authority does not violate the nondelegation doctrine), vacated and
remanded on other
grounds, 825 F.3d 1236 (11th Cir. 2016).
68 462 U.S. 919 (1983).
69 Hill, 114 F. Supp. 3d at 1312 (quoting Chadha, 462 U.S. at 952).
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Nationality Act (INA) allowing one House of Congress to veto the
Attorney
General’s decision to allow a particular deportable alien to remain
in the
United States violated the Presentment Clauses and bicameral
requirement
of Article I.70 Specifically, it addressed whether Congress, after
validly
delegating authority to the Executive, can then alter or revoke that
valid
delegation of authority through the action of just one House.
I agree with the district court in Hill that if Chadha’s definition
of
legislative action is interpreted broadly and out of context, then any
SEC
decision which affected a person’s legal rights—including charging
decisions—would be legislative actions, which is contrary to the
Supreme
Court’s decision in Batchelder.
71 Chadha, one of the primary authorities the
majority relies on, does not touch on any issue involved in this case.
I agree with the persuasive and well-reasoned decision of the district
court in Hill that “Congress has properly delegated power to the
executive
branch to make the forum choice for the underlying SEC enforcement
action.”72 In sum, it is clear to me that Congress’s decision to
give
prosecutorial authority to the SEC to choose between an Article III
court and
an administrative proceeding for its enforcement actions does not
violate the
nondelegation doctrine.
III.
Finally, the majority concludes that the statutory removal
restrictions
applicable to SEC administrative law judges are unconstitutional
because
they violate Article II’s requirement that the President “take
Care that the
70 462 U.S. at 923, 946.
71 Hill, 114 F. Supp. 3d at 1313.
72 Id.
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Laws be faithfully executed.” Specifically, the majority determines
that SEC
ALJs enjoy at least two layers of for-cause protection, and that such
insulation
from the President’s removal power is unconstitutional in light of
the
Supreme Court’s decisions in Free Enterprise Fund v. Public Company
Accounting Oversight Board73 and Lucia v. SEC.
74 I disagree. Rather than
support the majority’s conclusion, these cases explain why the SEC
ALJs’
tenure protections are constitutional: ALJs perform an adjudicative
function.
Free Enterprise concerned the Public Company Accounting Oversight
Board (“PCAOB”), which Congress created in 2002 to regulate the
accounting industry.75 The PCAOB’s powers included promulgating
standards, inspecting accounting firms, initiating formal
investigations and
disciplinary proceedings, and issuing sanctions.
76 In other words, PCAOB
members were inferior officers who exercised “significant executive
power.”77 The President could not remove the members of the PCAOB;
rather, they could be removed by the Securities and Exchange
Commission
under certain, limited circumstances.78 Furthermore, SEC Commissioners
cannot themselves be removed by the President except for inefficiency,
neglect of duty, or malfeasance in office.79 While prior cases upheld
restrictions on the President’s removal power that imposed one level
of
protected tenure, Free Enterprise held that these dual for-cause
limitations on
73 561 U.S. 477 (2010).
74 138 S. Ct. 2044 (2018).
75 Id. at 484-85.
76 Id. at 485.
77 Id. at 514.
78 Id. at 486, 503.
79 Id. at 487.
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the removal of PCAOB members unconstitutionally impaired the
President’s
ability to ensure that the laws are faithfully executed, because
“[n]either the
President, nor anyone directly responsible to him, nor even an officer
whose
conduct he may review only for good cause, has full control over the
[PCAOB].”80
Free Enterprise, however, “did not broadly declare all two-level
forcause protections for inferior officers unconstitutional.”81
Furthermore, the
Court expressly declined to address “that subset of independent
agency
employees who serve as administrative law judges.”82 The Court made
two
observations about ALJs that potentially distinguished them from the
PCAOB: (1) whether ALJs are “Officers of the United States” was,
at that
time, a disputed question, and (2) “unlike members of the [PCAOB],
many
administrative law judges of course perform adjudicative rather than
enforcement or policymaking functions or possess purely recommendatory
powers.”83
The Supreme Court subsequently addressed the first observation in
Lucia v. SEC.
84 There, the Court held that SEC ALJs are “inferior officers”
within the meaning of the Appointments Clause in Article II.85
However, the
Court again expressly declined to decide whether multiple layers of
statutory
removal restrictions on SEC ALJs violate Article II.
86
80 Id. at 496.
81 Decker Coal Co. v. Pehringer, 8 F.4th 1123, 1122 (9th Cir. 2021).
82 Free Enter. Fund, 516 U.S. at 507 n.10.
83 Id. (citations omitted; emphasis added).
84 138 S. Ct. 2044 (2018).
85 Id. at 2055.
86 Id. at 2051 & n.1.
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Thus, neither Free Enterprise nor Lucia decided the issue raised here:
whether multiple layers of removal restrictions for SEC ALJs violate
Article
II. As the Ninth Circuit recently concluded, the question is open.87
It is important to recognize that the Constitution does not expressly
prohibit removal protections for “Officers of the United
States.”88 The
concept that such protections may be unconstitutional is drawn from
the fact
that “Article II vests ‘[t]he executive Power . . . in a President
of the United
States of America,’ who must ‘take Care that the Laws be
faithfully
executed.’”89 The test is functional, not categorical:
The analysis contained in our removal cases is designed not to
define rigid categories of those officials who may or may not be
removed at will by the President, but to ensure that Congress
does not interfere with the President’s exercise of the
“executive power” and his constitutionally appointed duty to
“take care that the laws be faithfully executed” under Article
II.90
Consistent with this standard, Free Enterprise thoroughly explained
why two levels of removal protection for the PCAOB interfered with the
executive power.91 The first step in the Court’s analysis focused on
the fact
that the PCAOB exercised “significant executive power”92 as it
87 See Decker Coal Co., 8 F.4th at 1122.
88 ERWIN CHEMERINSKY, CONSTITUTIONAL LAW § 4.2 (5th ed. 2015) (“No
constitutional provision addresses the [President’s] removal
power.”).
89 Free Enter. Fund, 561 U.S. at 483 (quoting U.S. CONST. , art. II
§§ 1 & 3).
90 Morrison v. Olson, 487 U.S. 654, 689–90 (1988) (footnote omitted;
emphasis
added).
91 Free Enter. Fund, 561 U.S. at 495–96.
92 Id. at 514.
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“determine[d] the policy and enforce[d] the laws of the United
States.”93
Then the Court explained how the PCAOB’s removal protections
subverted
the President’s ability to oversee this power.94 The point here is
that the
function performed by the officer is critical to the analysis—the
Court did
not simply conclude that because members of the PCAOB were “Officers
of
the United States” (which was undisputed)95 that dual for-cause
protections
were unconstitutional.
Unlike the PCAOB members who determine policy and enforce laws,
SEC ALJs perform solely adjudicative functions. As the Lucia Court
stated,
“an SEC ALJ exercises authority ‘comparable to’ that of a
federal district
judge conducting a bench trial.”96 Their powers include supervising
discovery, issuing subpoenas, deciding motions, ruling on the
admissibility of
evidence, hearing and examining witnesses, generally regulating the
course
of the proceeding, and imposing sanctions for contemptuous conduct or
procedural violations.97 After a hearing, the ALJ issues an initial
decision that
is subject to review by the Commission.98 Commentators have similarly
observed that “SEC ALJs do not engage in enforcement or
rulemaking”99
93 Id. at 484; see also id. at 508 (describing the PCAOB as “the
regulator of first
resort and the primary law enforcement authority for a vital sector of
our economy”).
94 Id. at 498.
95 Id. at 506.
96 Lucia, 138 S. Ct. at 2049 (quoting Butz v. Economou, 438 U.S. 478,
513 (1978)).
97 Id.
98 Id.
99 Mark, supra, at 107.
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and proceedings before them are “analogous to that which would occur
before a federal judge.”100
Free Enterprise stated, albeit in dicta, that the fact that an ALJ
performs
adjudicative rather than enforcement or policymaking functions may
justify
multiples layers of removal protection.101 I believe this to be the
case. The
ALJs’ role is similar to that of a federal judge;102 it is not
central to the
functioning of the Executive Branch for purposes of the Article II
removal
precedents.103 As the Southern District of New York concluded,
invalidating
the “good cause” removal restrictions enjoyed by SEC ALJs would
only
“undermine the ALJs’ clear adjudicatory role and their ability to
‘exercise[ ]
.. . . independent judgment on the evidence before [them], free from
pressures
by the parties or other officials within the agency.’”104
In fact, the Ninth Circuit recently employed similar reasoning in
Decker Coal Co. v. Pehringer, which held that two layers of removal
protection
for ALJs in the Department of Labor do not violate Article II.105 Like
SEC
ALJs, the ALJs in Decker Coal performed “a purely adjudicatory
100 David Zaring, Enforcement Discretion at the SEC, 94 Tex. L. Rev.
1155, 1166
(2016).
101 561 U.S. at 507 n.10.
102 Lucia, 138 S. Ct. at 2049.
103 Free Enter. Fund v. Public Co. Accounting Oversight Bd., 537 F.3d
667, 669 (D.C.
Cir. 2008) (Kavanaugh, J., dissenting) (citing Morrison, 487 U.S. at
691–92).
104 Duka v. SEC, 103 F. Supp. 3d 382, 395–96 (S.D.N.Y. 2015),
abrogated on other
grounds by Tilton v. SEC, 824 F.3d 276 (2d Cir. 2016) (quoting Butz,
438 U.S. at 513–14).
See also Mark, supra, at 102–08 (arguing that multiple layers of
removal protection for SEC
ALJs do not violate Article II); Zaring, supra, at 1191–95 (same).
105 Decker Coal Co., 8 F.4th at 1133.
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function.”106 The majority’s decision is in tension, if not direct
conflict, with
Decker Coal.
Free Enterprise also noted that the exercise of “purely
recommendatory powers” may justify multiple removal protections.107
When an SEC ALJ issues a decision in an enforcement proceeding, that
decision is essentially a recommendation as the Commission can review
it de
novo.108 Even when the Commission declines review, the ALJ’s
decision is
“deemed the action of the Commission.”109 Furthermore, the
Commission
is not required to use an ALJ and may elect to preside over the
enforcement
action itself.110 This further supports the conclusion that the SEC
ALJs’
removal protections do not interfere with the President’s executive
power.
The majority reasons that because Lucia determined that SEC ALJs
are inferior officers under the Appointments Clause, “they are
sufficiently
important to executing the laws that the Constitution requires that
the
President be able to exercise authority over their functions,” and,
consequently, multiple for-cause protections inhibit the President’s
ability to
take care that the laws be faithfully executed. But nowhere does the
majority
explain how the ALJs’ tenure protections interfere with the
President’s
ability to execute the laws. The majority does not mention Free
Enterprise’s
observation that the performance of “adjudicative rather than
enforcement
or policymaking functions” or “possess[ing] purely recommendatory
powers” distinguishes ALJs from the PCAOB and may justify multiples
106 Id.
107 Free Enter. Fund, 561 U.S. at 507 n.10.
108 See Lucia, 138 S. Ct. at 2049 (citing 17 C.F.R. § 201.360(d)); 5
U.S.C. § 557(b).
109 Lucia, 138 S. Ct. at 2049 (quoting 15 U.S.C. § 78d-1(c)).
110 Id. (citing 17 C.F.R. § 201.110).
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layers of removal protection for ALJs.111 The majority does not
mention that
Lucia found SEC ALJs to be similar to a federal judge.112
The majority does
not mention Decker Coal. Instead, the majority applies what is
essentially a
rigid, categorical standard, not the functional analysis required by
the
Supreme Court’s precedents.113
Accordingly, I disagree with the majority that multiple layers of
removal protection for SEC ALJs violate Article II. Because SEC ALJs
solely
perform an adjudicative function, and because their powers are
recommendatory, these removal restrictions do not interfere with the
President’s ability to “take Care that the Laws be faithfully
executed.”
IV.
I find no constitutional violations or any other errors with the
administrative proceedings below. Accordingly, I would deny the
petition for
review.
111 561 U.S. at 507 n.10.
112 138 S. Ct. at 2049.
113 Morrison, 487 U.S. at 689–90. The majority also cites Myers v.
United States, 272
U.S. 52, 135 (1926), for the proposition that quasi-judicial executive
officers must be
removable by the President. But that part of Myers is dicta, which is
why the Court
disregarded it in Humphrey’s Executor v. United States, 295 U.S.
602, 626–28 (1935).
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What affect will it have on the proposed rule that you have lost your
last 4 of 5 cases in the supreme court?
Is there actually a revolving door between the giant megacorps that
you guys slap on the wrist with tiny fines, while totally savaging the
small companies? Have you refuted this study? This is just one of many
such studies: The SEC Revolving Door and Comment Letters?
Michael Shen
NUS Business School, National University of Singapore
Samuel T. Tan
School of Accountancy, Singapore Management University
Abstract
Government officials, advocacy groups, and the business press have
raised concerns that former
SEC employees may continue to influence the SEC after leaving the
agency. Using hand-collected
data on the characteristics of 1,384 lawyers who represented firms in
responding to SEC comment
letters between 2005 and 2016, we examine the impact of post-revolving
SEC employees on the
SEC comment letter process. Among other determinants, we find that
older and larger firms with
a history of litigation are more likely to hire former SEC lawyers
over non-SEC lawyers. Relative
to firms that involve only non-SEC lawyers, we find that firms that
involve former SEC lawyers in
responding to SEC comment letters negotiate to a greater extent with
the SEC, and have a lower
likelihood and number of amendment filings, after matching on lawyer,
law firm, comment letter,
and firm characteristics.
Keywords: Revolving door, regulatory capture, SEC comment letters,
external counsel
JEL: G18, K22, M41, M48
?We thank Marco Trombetta (editor), two anonymous reviewers, Minyue
Dong (discussant), Ira Yeung (discussant)
and other conference participants at the 2018 AAA Western Region
Meeting, the 2018 AAA Annual Meeting, the 2019
SMU/NTU/NUS Accounting Research Conference, and the 2019 EAA Annual
Congress; and workshop participants
at American University, Hong Kong University of Science and
Technology, and University of Technology Sydney for
very helpful comments. Shen acknowledges financial support from
National University of Singapore’s Start-Up Grant
(A-0003869-00-00), and Tan acknowledges financial support from
Singapore Management University’s Della Suantio
Fellowship and Start-Up Research Grant.
Email addresses: bizshen@nus.edu.sg (Michael Shen),
samueltan@smu.edu.sg (Samuel T. Tan)
April 5, 2023
1. INTRODUCTION
In this paper, we examine how the revolving door at the Securities and
Exchange Commission
(hereafter SEC) affects its oversight on corporate disclosure.
Specifically, we examine whether
firms that involve former SEC lawyers in the comment letter process
negotiate to a greater extent
with SEC, and have more favourable outcomes as a result of the
process.
The flow of personnel and expertise from the SEC to the private sector
has been the subject of
scrutiny and debate by government officials, advocacy groups, the
business press, and academics in
recent years. A 2013 report by the Project On Government Oversight
(POGO) found that over 400
former SEC employees filed statements between 2001 and 2010 that they
intended to represent
an external party before the SEC, and expressed the concern that “a
rapidly spinning revolving
door can weaken the agency’s protection of investors” (Smallberg,
2013, quotation at p. 37).1
In
response to the POGO report, U.S. Senator Chuck Grassley wrote that
“The SEC has to fix this
problem once and for all” (Grassley, 2013). Furthermore, much of the
recent media coverage
on the SEC revolving door has skewed negatively, and the agency has
also received numerous
comments from the public about the issue.2 Critics of the revolving
door cite the risk of regulatory
capture—the risk that regulators “created to act in the public
interest [...] end up acting directly or
indirectly in the interests of those they regulate.” (Brown, 2016,
p. 1). Based on data compiled by
POGO, the majority of former SEC employees who filed post-employment
disclosures revolved to
private law firms, where they may represent clients before the SEC.3
1For two years after they have left the SEC, former SEC employees who
intend to represent a client before the SEC
or in communications with the SEC are required to file statements with
the SEC’s Office of the Ethics Counsel (see 17
CFR §200.735-8b).
2Examples of negative media coverage include “SEC Lawyer One Day,
Opponent the Next” (McGinty, 2010a,
The Wall Street Journal); “SEC ’Revolving Door’ Under Review”
(McGinty, 2010b, The Wall Street Journal); “SEC
staff’s ’revolving door’ prompts concerns about agency’s
independence” (Hilzenrath, 2011, The Washington Post); and
“S.E.C.’s Revolving Door Hurts Its Effectiveness, Report Says”
(Protess and Craig, 2013, The New York Times). A
search for the term “revolving door” on the SEC’s website also
reveals numerous and often strongly-worded comments
from the public about the revolving door.
3Based on 2001–2010 post-employment statements filed by former SEC
employees that disclose their intention to
represent an external party before the SEC, obtained by POGO via
Freedom of Information Act requests. Retrieved in
August 2017 from
https://protect2.fireeye.com/v1/url?k=31323334-50bba2bf-3132d782-4544474f5631-36c37628fcfc4bd8&q=1&e=0f8ec12d-e43b-4a7b-9ff0-a6793fd596e3&u=http%3A%2F%2Fwww.pogo.org%2Ftools-and-data%2Fsec-revolving-door-database%2F.
2
There are two mechanisms by which the revolving door might compromise
regulatory oversight efforts. The first is that it could incentivize
individuals at regulatory agencies to act in the
interests of prospective employers before they join the private
sectors. deHaan et al. (2015) provide empirical evidence against this
form of regulatory capture, finding that SEC trial lawyers’
enforcement efforts are not compromised before they revolve to private
law firms; instead, these
lawyers are associated with more aggressive enforcement, consistent
with the human capital theory of the revolving door.4 A second
mechanism is that individuals formerly at a regulator may
influence it after revolving to the private sector, on behalf of a
private sector client. This mechanism is a primary concern of POGO’s
2013 report.5 Several studies have examined the impact of
post-revolving SEC employees; for example, deHaan et al. (2015) and
Shive and Forster (2017)
find evidence that former employees of regulators, including the SEC,
help their clients reduce
damages from enforcement actions, although Shive and Forster (2017)
cautions that they “do not
find strong evidence” (p. 1480) that firms that hire former
regulators face more lenient enforcement. The SEC itself has argued
that ethics rules safeguard against conflicts of interest, and that
the revolving door actually improves regulatory compliance.6
Our study extends this line of research by examining the impact of
post-revolving SEC employees on the SEC comment letter process, which
affects every issuer in the United States and
could result in adverse consequences for firms. This is an ideal
setting because each comment letter conversation involves a dialogue
between representatives of the firm and SEC staff, and firms
often involve lawyers in their response (see Bozanic et al., 2019),
who may have formerly worked
4The human capital theory “focuses on incentives the revolving door
creates for regulators to signal the type of
human capital valued by industry employers” (Zheng, 2015, p. 1268).
5See Smallberg (See 2013, p. 2): “Former employees of the Securities
and Exchange Commission (SEC) routinely
help corporations try to influence SEC rulemaking, counter the
agency’s investigations of suspected wrongdoing,
soften the blow of SEC enforcement actions, block shareholder
proposals, and win exemptions from federal law.”
6
In a 2005 speech, then-SEC Commissioner Paul Atkins said that the
revolving door improves compliance in the
private sector because “people with regulatory backgrounds become
good proselytes for lawful behavior” (Atkins,
2005); and in 2007 he said that “people who leave government to
return to industry can help to instill a proper sense
of the importance of complying with legal obligations [...] strong
ethics rules guard against potential conflicts of
interest when people leave the government for the private sector.”
(Atkins, 2007). Such ethics rules include former
SEC employees being permanently barred from appearing before the SEC
on a matter they worked on while at the
SEC (see 18 USC §207).
3
at the SEC. The SEC issues comment letters when its staff identifies
disclosure deficiencies, and
may make requests of the firm, for example to amend prior SEC filings
(see Bozanic et al., 2017).
The firm may negotiate for more desirable outcomes, for example to
revise future filings instead.
Former SEC lawyers may be better positioned to help their clients
secure more desirable outcomes
than other lawyers due to their familiarity with former colleagues
still at the SEC, for example
prior studies have documented that negotiation outcomes may be
affected by the extent of familiarity and trust between the parties
(e.g. Lumineau and Henderson, 2012; Druckman and Olekalns,
2013). In Appendix A, we describe the comment letter process in more
detail, and include examples of comment letter conversations involving
lawyers formerly employed by the SEC.
In order to identify the involvement of former SEC lawyers in SEC
comment letters, we handcollect the characteristics of the individual
lawyers involved in our sample of comment letter conversations from
public sources, primarily LinkedIn profiles and biographies on law
firm websites.7
Our dataset includes the former SEC employment status, educational
background, and other characteristics of over 1,300 unique lawyers.
After attrition our final sample comprises 4,524 comment
letter conversations initiated between 2005 and 2016 that involve
external counsel; about 7.2 percent of the sample involve lawyers who
were formerly employed by the SEC.
We first examine the determinants of hiring a former SEC lawyer over
only non-SEC lawyers.
We find that larger and older firms, firms that recently faced
securities class action lawsuits, and
firms that do not use top- or second-tier audit firms are more likely
to retain a former SEC lawyer
relative to only non-SEC lawyers. These results suggest that financial
and reputational concerns,
and the risk of litigation and misstatements, may contribute to the
decision to hire a former SEC
lawyer. As these incentives may confound our tests of the consequences
of hiring such lawyers, in
our main analyses we propensity-match conversations involving former
SEC lawyers against conversations involving non-SEC lawyers along
lawyer and law firm characteristics, the complexity
7Firms often involve external counsel in responding to comment
letters: they were involved in about a third of our
initial sample of comment letter conversations. We restrict the
hand-collection to lawyer-law firms with at least two
conversations in our initial sample. Please see Section 4 and Table 1
for details on our sample selection procedure.
4
of and the issues raised in the initial comment letter, and firm
characteristics.
We next examine whether resistance to the SEC is greater when the firm
retains a former SEC
lawyer relative to when it retains other lawyers, consistent with
regulatory capture. We construct a
composite measure of the extent of negotiation based on the length of
the conversation in days, the
number of letters exchanged, and whether the conversation took
multiple rounds to resolve. We
find that relative to matching firms that involve non-SEC lawyers,
firms that involve former SEC
lawyers negotiate to a greater extent with the SEC. We additionally
find that they are more likely
to request confidential treatment.
Finally, we examine whether former SEC lawyer involvement is
associated with fewer amendments. We find that relative to matching
firms that involve non-SEC lawyers, firms that involve
former SEC lawyers have about a 32 percent lower odds of amending
their periodic filings after
receiving a comment letter, and file 0.38 fewer amendments to periodic
filings on average. We
find that abnormal returns during the period are 3.9 percentage points
greater for firms that involve
former SEC lawyers. However, on aggregate we do not find that former
SEC lawyer involvement
is associated with the likelihood of adverse restatement or securities
class action lawsuits, suggesting that they help firms reduce the cost
of amending filings, but not to the extent of avoiding
disclosures that would have resulted in adverse restatements or
litigation.
As our study documents a relationship between involvement of former
SEC lawyers and outcomes of the comment letter process, an alternative
interpretation of our findings is that firms
predisposed to certain outcomes are more likely to hire former SEC
lawyers. That is, our findings
may be influenced to an extent by endogenous sorting between firms and
lawyers. We acknowledge
and caution readers that this possibility limits to some degree our
ability to draw causal inferences
from our empirical analyses. However, we mitigate selection bias with
our research design in several ways. First, we identify the impact of
former SEC lawyers by using firms that hire non-SEC
lawyers in the control group, which precludes selection bias due to
the choice of whether to hire a
lawyer. Second, we propensity-match conversations involving former SEC
lawyers against those
that involve only non-SEC lawyers along a large set of observable
lawyer, law firm, comment let5
ter, and firm characteristics, which mitigates selection bias due to
the choice of whether to hire a
former SEC lawyer relative to a non-SEC lawyer.
Finally, we examine our proposed mechanisms for the impact of former
SEC lawyers on outcomes of the comment letter process using of
cross-sectional tests. As we detail in Section 2.2,
former SEC lawyers are likely to be more familiar with current SEC
staff, allowing them to more
effectively influence the outcomes of the process on behalf of their
clients. In cross-sectional tests,
we find that the impact of former SEC lawyers on increasing the extent
of negotiation, reducing the
likelihood of amendments amendments, and reducing the likelihood of
restatements or litigation,
are driven to a larger extent by former SEC lawyers who had left the
SEC more recently.
To our knowledge, our study is the first to examine the impact of the
revolving door between
the public and private sectors on the SEC comment letter process. Our
study therefore contributes
to three streams of research. First, our study contributes to the
literature on the revolving door
itself. Extant literature on the revolving door examine how it affects
regulatory agents’ actions before they join prospective employees
(e.g. Lucca et al., 2014; deHaan et al., 2015; Cornaggia et al.,
2016; Tabakovic and Wollmann, 2018), and the impact of former agents
on their new employers’
outcomes (e.g. Luechinger and Moser, 2014; deHaan et al., 2015; Shive
and Forster, 2017). We
extend the latter literature by examining the impact of former SEC
lawyers on the SEC comment
letter process, a ubiquitous and consequential mechanism for
disclosure oversight, in which negotiation between SEC staff and
representatives of the firm plays a crucial role. Consistent with
regulatory capture, we find evidence that former SEC lawyers impede
the effectiveness of the
comment letter process.
Second, our study contributes to the growing literature on the SEC
comment letter process.
Recent studies (e.g. Bens et al., 2016; Kubick et al., 2016; Wang,
2016; Johnston and Petacchi,
2017; Calderon and Gao, 2022) have documented that SEC regulatory
oversight over corporate
disclosures improves firms’ information environments and accounting
choices. For example, Kubick et al. (2016) find that firms decrease
their tax avoidance behavior after receiving tax-related
comment letters, and Johnston and Petacchi (2017) find that the
comment letter process decreases
6
firms’ information asymmetry and increases their earnings response
coefficients. However, few
studies have examined factors that could impede effective oversight of
the comment letter process.
One factor that has been examined empirically (e.g. Kedia and
Rajgopal, 2011; Ege et al., 2020) is
resource constraints at the SEC. For example, Ege et al. (2020) find
that waves of transactional filings (e.g., IPO) reduces the quality of
comment letters for periodic firm filings. Our paper extends
this line of research by documenting that the SEC revolving door also
impedes effective oversight
on corporate disclosure by the SEC.
Last, our study contributes to the emerging literature on the role of
firms’ external legal counsel in financial reporting (e.g. deHaan et
al., 2015; Bozanic et al., 2019; Dechow and Tan, 2021).
Bozanic et al. (2019) find that firms that involve law firms in SEC
comment letter conversations are
more likely to file confidential treatment requests and file fewer
amendments, but have improved
disclosures in the long run, consistent with law firms serving as
client advocates while also improving their clients’ disclosures. In
contrast, Dechow and Tan (2021) find that the spread of stock
option backdating was facilitated by the network of shared external
law firms. Our study examines
former SEC lawyers within a sample of companies that retain law firms,
so unlike Bozanic et al.
(2019) we do not make inferences on the impact of hiring a law firm,
relative to not hiring one.
Instead, our study contributes to this line of research by documenting
that the characteristics of
individual lawyers—for example former SEC employment
status—matter, and may be associated
with adverse long-run accounting and shareholder outcomes.
2. RELATED LITERATURE AND HYPOTHESIS DEVELOPMENT
2.1. Related literature
To our knowledge, our study is the first to examine the impact of the
SEC revolving door
on the SEC comment letter process, one of the SEC’s most important
mechanisms for oversight
over corporate disclosures. Our study therefore builds on literature
that examines the impact of
SEC lawyers on public companies after they have revolved from the SEC
to the private sector.
7
In particular, deHaan et al. (2015) and Shive and Forster (2017)
examine the impact of former
regulators, including former SEC personnel, on their clients’
outcomes in enforcement actions.8
deHaan et al. (2015) focus on the regulatory actions of SEC lawyers
while they are at the SEC,
but also examine whether law firms with more former SEC lawyers with
enforcement experience
at the SEC help their clients secure more lenient enforcement
outcomes. They find that law firms
hiring more former SEC lawyers secure lower damages, and some evidence
that they secure fewer
criminal charges, for their clients. They find that the results are
not driven by former SEC lawyers
who had worked in the same team or office as a current SEC lawyer on
the case, which is inconsistent with a social influence story, and
more consistent with former SEC lawyers having gained
“unique training and insider knowledge” from their tenure at the
SEC (footnote 35). Shive and
Forster (2017) find that financial firms that hire former employees of
regulatory agencies including
the SEC have lower firm risk and improved risk management activities,
and “do not find strong
evidence” (p. 1480) that these firms face more lenient enforcement,
although they do not rule it
out. Specifically, they find that no evidence that enforcement actions
are less likely when a former
regulator is hired, and some evidence that fines are smaller.
Our study extends this line of research by examining the SEC comment
letter process instead
of enforcement actions. First, the SEC comment letter process is a
setting over which former
SEC employees are much more likely to be able to exert influence,
because the process is based
on negotiations between representatives of firms and SEC staff. Filing
reviews are completed by
staff accountants and staff examiners, and senior staff members are
only involved upon the firm’s
request.9
In contrast, the outcomes of enforcement actions are decided at the
highest levels of the
8Several empirical studies have examined the revolving doors at other
government offices or regulatory agencies,
including state public utility commissions (Law and Long, 2012), the
U.S. Department of Defense (Luechinger and
Moser, 2014), legislators’ offices (Igan and Mishra, 2014), credit
rating agencies (Cornaggia et al., 2016), and the U.S.
Patent and Trademark Office (Tabakovic and Wollmann, 2018).
9We outline the comment letter process and provide examples of legal
counsel involvement at Appendix A. Detailed information on how the SEC
conducts the comment letter process is also publicly available on the
SEC’s website, for example
https://www.sec.gov/divisions/corpfin/cffilingreview.htm and
https://www.sec.gov/oig/reportspubs/
aboutoigaudit259finhtm.html.
8
SEC, limiting the extent to which a representative of the firm may
influence outcomes.10
Second, the comment letter process represents an early and preemptive
stage of the SEC’s oversight on issuers’ disclosures, and
therefore has important implications for firms’ future disclosure
quality and shareholder value. For example, recent studies have found
that the comment letter
process improves firms’ information environments (e.g. Bens et al.,
2016; Wang, 2016; Johnston
and Petacchi, 2017; Calderon and Gao, 2022), and may also trigger
restatements (e.g. see Kubic,
2020) and lead to enforcement actions (Karpoff et al., 2008). In
contrast, enforcement actions are
typically the end of a long investigation, occurring long after
disclosure deficiencies are revealed
and most of the damage done to shareholder value. Karpoff et al.
(2008) document that abnormal negative returns are greatest around the
trigger events (−25.24% per trigger on average), and
smallest around the enforcement filings themselves (−6.56% per
filing on average).
Finally, outcomes of the SEC comment letter process affect thousands
of firms every year,
while few firms ever reach the stage where they would be attempting to
influence the outcome of
an enforcement action: Karpoff et al. (2008) document a total of only
585 enforcement actions
initiated by the SEC and the DOJ between 1978 and 2002. In contrast,
as discussed in more detail
in Appendix A, the SEC reviews firms’ filings every three years;
over 100,000 comment letter
conversations were initiated between 2005 and 2016 (see Table 1).
Another thread of related literature examines the impact of firms’
external legal counsel on
financial and financial reporting outcomes (e.g. Krishnan and Masulis,
2013; deHaan et al., 2015;
Bozanic et al., 2019; Dechow and Tan, 2021). In particular, Bozanic et
al. (2019) compare firms
that involve external legal counsel in SEC comment letter
conversations against firms that do not,
finding that the former are more likely to file confidential treatment
requests and file fewer amendments as a result of the comment letters,
but have improved disclosures and fewer restatements and
10For example, formal orders of investigation are authorized and
issued by the director of the Division of Enforcement, and enforcement
actions are voted upon by the SEC commissioners, who may question the
recommendations
of the staff. See the SEC’s Enforcement Manual, particularly
sections 2.3.4 and 2.5, available at the SEC’s website
at https://www.sec.gov/divisions/enforce/enforcementmanual.pdf, and
see also Correia (2014) for a discussion of the
SEC enforcement process.
9
comment letters in the two years following resolution of the comment
letter. While our study also
uses the SEC comment letters setting, we do not make inferences on the
impact of hiring a law
firm and instead examine a different research question: the impact of
the SEC revolving door on
the comment letter process. Our study therefore contributes to this
line of research by documenting that the characteristics of individual
lawyers—for example former SEC employment status—
matter, and may be associated with adverse long-run accounting and
shareholder outcomes.11
2.2. Hypothesis development
We hypothesize that former SEC lawyers are better able to influence
the outcomes of their
clients’ comment letter conversations with SEC staff, relative to
lawyers who had never been employed by the SEC. Former SEC lawyers are
likely to be more familiar with current SEC staff,
and prior literature has documented that the outcomes of negotiations
are affected by the degree
of trust between the parties (e.g. Lumineau and Henderson, 2012;
Druckman and Olekalns, 2013).
If former SEC lawyers exert their influence on the SEC comment letter
process on behalf of their
clients, we would expect to observe greater resistance by the clients
to the process in the form of
more protracted negotiation. The null hypothesis is therefore that
there is no difference in resistance between firms that retain former
SEC lawyers and other lawyers. We summarize this in the
following formal hypothesis, in alternative form.
Hypothesis 1.
The involvement of a lawyer formerly employed by the SEC in the SEC
comment letter process
is associated with greater negotiation than the involvement only of
lawyers who had not been
employed by the SEC, ceteris paribus.
If former SEC lawyers are more effective at influencing the SEC
comment letter process, we
would expect to observe more favourable outcomes of the comment
letter, particularly a reduction
11Several studies (e.g. Kwak et al., 2012; Hopkins et al., 2015; Ham
and Koharki, 2016) have also examined the
role of general counsel on firms’ disclosure policies, financial
reporting quality, and risk management. Our study
focuses on external counsel rather than general counsel because based
on a database of 2001–2010 post-employment
disclosures compiled by POGO (retrieved in August 2017 from
https://protect2.fireeye.com/v1/url?k=31323334-50bba2bf-3132d782-4544474f5631-4b533c6e4d38b6eb&q=1&e=0f8ec12d-e43b-4a7b-9ff0-a6793fd596e3&u=http%3A%2F%2Fwww.pogo.org%2Ftools-and-data%2Fsec-revolvingdoor-database%2F),
former SEC employees are substantially more likely to revolve to law
firms than public companies.
10
in the likelihood and number of amendment filings, and fewer adverse
events including restatements and shareholder litigation.
Hypothesis 2.
The involvement of a lawyer formerly employed by the SEC in the SEC
comment letter process is
associated with more favourable firm outcomes than the involvement
only of lawyers who had not
been employed by the SEC, ceteris paribus.
3. RESEARCH DESIGN
3.1. Impact of involving former SEC lawyers
We test Hypotheses 1 and 2 by regressing each outcome variable against
a dummy variable
(SEC) that takes the value of one if the firm referenced a former SEC
lawyer in a comment letter
in the conversation, and zero otherwise:
Extent of Negotiation = α + β SEC + γ Lawyer, CL, and Firm Controls
(1)
Outcomes = α + β1 SEC + γ Lawyer, CL, and Firm Controls (2)
We include controls for lawyer and law firm characteristics, comment
letter complexity and issues,
firm characteristics, and industry and year fixed effects. We estimate
the models using ordinary
least squares, logistic regressions, and poisson regressions for the
models with continuous, dummy,
and count dependent variables respectively.
3.2. Propensity score matching
To further mitigate bias due to confounding by one or more control
variables, we estimate each
of the regression models after propensity-matching treatment (SEC = 1)
and control (SEC = 0)
conversations along the control variables (detailed at Section 3.5
below), including industry fixed
11
effects. Specifically, we estimate the following model using a
logistic regression:
SEC = α + γ Lawyer, CL, and Firm Controls (3)
The logistic regressions allow us to obtain the predicted probability
that a conversation with a given
set of lawyer, comment letter, and firm characteristics involves a
former SEC lawyer.
We then apply matching procedures to minimize the difference in
predicted probabilities, or
the distance scores, between the treatment and control conversations.
We first discard observations
outside of the support of the distance score, which drops extreme
observations from the sample and
ensures that treatment and control conversations are comparable (see
Stuart, 2010, Section 3.3). We
next minimize the difference in distance scores using full matching
(Rosenbaum, 1991; Hansen,
2004), which produces a set of weights that we apply to each
observation remaining in the sample
when estimating the regression models.12
3.3. The extent of negotiation
We measure the extent of negotiation using a composite variable,
Negotiation, which is based
on the length of the comment letter conversation both in days and in
the number of letter exchanged. Specifically, we use the first
principal component of the log-transformed length of the
comment letter conversation in days (ConvT ime), the number of comment
letters in the conversation (NumLetters), and whether the conversation
takes at least two rounds of exchanges (i.e. at
least five letters) between the firm and the SEC to resolve
(MultiRound). Please see Appendix B
for detailed variable definitions.
To further explore how the negotiation process is influenced by former
SEC lawyers, we also
examine whether the involvement of former SEC lawyers is associated
with a greater likelihood of
12Full matching matches treatment and control units (or vice versa)
one-to-many. To take into account potential
changes in the underlying prediction model over time, we carry out the
matching procedure within two-year windows.
The matching procedures in our analyses are carried out using the
MatchIt package (Ho et al., 2011) in R, and full
matching uses functions from the optmatch package (Hansen and Klopfer,
2006). See also Armstrong et al. (2010) for
one of the first studies in accounting that use propensity score
matching.
12
confidential treatment requests. A lawyer who has greater influence on
the SEC may use that influence to secure redaction of sensitive firm
information in the comment letter disclosures. Bozanic
et al. (2019), for example, documents that the involvement of lawyers
in the comment letter process
increases the likelihood of confidential treatment requests.
3.4. Outcomes of the comment letter conversation
Of the disclosure corrections usually requested by the SEC, amendments
of prior filings are the
most costly, and managers would prefer to obscure any deficiencies in
its prior filings by revising
future filings instead. As the comment letter process aims to correct
disclosure deficiencies, any
undue delay or reduction in amendments associated with former SEC
lawyer involvement would
be disadvantageous to shareholder welfare. We therefore examine 10-K
or 10-Q amendments filed
as a result of the comment letter (Amendment, NumAmend). As in Cassell
et al. (2013, see
footnote 34), we use the start and disclosure dates of the
conversation as the window in which a
company would make disclosure corrections related to the comment
letters.13 We also examine
size-adjusted returns during the period (CLReturns): if firms
involving former SEC lawyers file
fewer amendments, we would expect them to have higher abnormal returns
during the period.14
Finally, we also examine the relationship between former SEC lawyers
involvement and whether
the comment letter resulted in restatements or litigation. We use a
composite variable, Adverse,
that is equal to one if an adverse restatement or securities class
action lawsuit was filed as a result of the comment letter.15 A
significantly negative relationship would suggest that former SEC
13For the few conversations in our sample with multiple disclosure
dates, i.e. the letters in the conversation were
made public on EDGAR at different dates, we use the last available
date. A small number of conversations in our final
sample have disclosure dates more than two years after the end of the
conversation; we truncate these at two years.
14We use CRSP size deciles based on the year before the start of the
conversation, and include delisting returns,
assuming that shareholders invest in the corresponding size portfolio
after delisting. In our regression involving
CLReturns, observations with missing CRSP size portfolio or missing
portfolio returns are dropped.
15We examine shareholder lawsuits filed on or after the start of the
conversation, for which the class period overlaps
with the period referenced by the comment letter conversation, and we
examine adverse restatements filed between the
start of comment letter conversation and the disclosure of the
conversation, for which the restatement period overlaps
with the periods referenced by the comment letters. Assuming that
Forms 10-K (10-Q) are filed 90 days (45 days)
after the end of the fiscal period, we use the period spanned by start
of the earliest fiscal period referenced and the last
periodic filing date referenced as the period referenced by the
comment letter conversation.
13
lawyers help firms avoid the disclosure of information that would
reveal GAAP misstatements or
fraud.
3.5. Control variables
Following prior studies, we use three sets of control variables in
this study: lawyer and law firm
characteristics, SEC comment letter complexity and issues, and firm
characteristics. Several of the
lawyer and law firm characteristics are based on our hand-collected
database of lawyers described
in detail in Section 4. We outline the control variables in this
section briefly for brevity; please see
Appendix B for detailed variable definitions.
Lawyer and law firm characteristics. We include proxies for the
lawyers’ and law firms’ prior
experience in advising clients on SEC comment letters, and the
lawyers’ educational backgrounds.
Lawyers often detail their prior experience and education in their
online biographies, suggesting
that this information is useful to current and prospective clients.
Furthermore, in a different setting,
Karsten et al. (2019) provide evidence that lawyers’ education and
expertise could affect their
clients’ outcomes. We include educational background proxies based
on universities with topfourteen (“T14”) law schools,
widely-regarded as the premier law schools in the United States.16
Finally, we control for the number of lawyers involved by the firm,
which could be mechanically
correlated with the probability that one of the lawyers was formerly
employed by the SEC, and
include proxies for gender and estimated age. The literature on the
legal profession (e.g. see Bruck
and Canter, 2008; Adams and Engel, 2015) has suggested that there are
differences in education,
career trajectories, or salary between male and female lawyers, even
at the SEC (Choi et al., 2019),
while the lawyer’s age provides an additional proxy for
experience.17
16For example, see Adams and Engel (2015) (“Virtually all
prospective law students who thoroughly research law
schools across the nation are aware of a phenomenon referred to as the
T-14, a list of 14 law schools that are annually
ranked in the top 14 of the U.S. News & World Report Law School
Rankings”, page 1216, internal quotation marks
omitted). The T14 are the law schools of Columbia University, Cornell
University, Duke University, Georgetown
University, Harvard University, New York University, Northwestern
University, Stanford University, the University
of California, Berkeley, the University of Chicago, the University of
Michigan, the University of Pennsylvania, the
University of Virginia, and Yale University. We thank an anonymous
referee for suggesting that we partition the T14
schools further into the top three schools (Harvard, Stanford, or Yale
Law School) and the rest of the T14.
17Companies may involve more than one lawyer in the comment letter
conversation; in our sample, about 14 percent
14
Comment letter complexity and issues. We control for the complexity of
the initial comment
letter from the SEC using the length of the letter and the number of
SEC filings referenced in the
initial letter. We control for the specific issues raised by the SEC
at the initial comment letters,
coded based on Audit Analytics’ issue variables and taxonomy keys.
As in Bozanic et al. (2019),
we use dummy variables that take the value of one if a specific issue
was referenced. We include
a dummy variable equal to one if the initial comment letter mentions
the word “amend”, to proxy
for whether the SEC suggested or requested that the firm file an
amendment of prior filings in
response. Finally, when estimating the relationship between the
outcomes and former SEC lawyer
involvement (Model 2), we also include a proxy for the extent of
negotiation, NumLetters, in the
matching and regressions to control for any indirect effect of former
SEC lawyers via the length of
the conversation.
Firm characteristics We control for a large set of firm
characteristics. These include proxies
for the the size, growth, performance, volatility, and age of the
firm, to proxy for the reputation and
financial performance of the firm, which would affect incentives to
retain higher-quality or more
expensive external legal counsel. We also include recent evidence of
disclosure issues including
recent restatements and shareholder litigation, to control for
underlying accounting and disclosure
issues. Cassell et al. (2013), for example, find that companies that
restated during the fiscal year
under review by the comment letter, or the prior year, have longer
comment letter conversations.
Finally, we control for the tier of the firm’s auditor, which may be
associated with the extent to
which the firm requires external assistance in responding to the SEC.
Please see Table B.2 for a
more complete list of the variables and their definitions. Finally, we
include industry fixed effects
based on one-digit SIC codes to control for possible variation between
offices at the SEC.18 We
also include year fixed effects based on the calendar year in which
the conversations began.
of conversations do so. Since our unit of analysis is the comment
letter conversation, we aggregate the lawyer and
law firm controls variables when necessary. For example, F emale takes
the value of one when any of the lawyers
involved by the firm was female, and HSY School is equal to one if any
of the lawyers involved in the conversation
attended a university with a top-three law school (please see the
notes to Table B.1 for further details).
18Review of filings at the SEC’s Division of Corporation Finance is
organized by industry: filings are assigned to
one of eleven offices, each of which covers a broad industry group.
15
4. SAMPLE AND DESCRIPTIVES
4.1. Sample selection and data sources
We retrieve comment letter conversations initiated between 2005 and
2016 that reference a 10-
K filing from Audit Analytics’ Comment Letter Conversations
database. We begin our sample in
2005 because the comment letters data is sparse before then. We
require the firms in the conversations to be covered by Compustat as
of the most recent fiscal year, and by CRSP as of the starting
date of the conversation, resulting in an sample of 16,734
conversations. Similar to Bozanic et al.
(2019), we omit conversations with only one letter and conversations
below the bottom percentile
of the time to resolution. These steps result in an initial sample of
16,351 conversations involving
5,534 unique firms. Please see Panel A of Table 1 for details.
Next, we retrieve and require legal advisor data (Panel B of Table 1).
We retrieve data on law
firm personnel referenced in firms’ replies to SEC comment letters
(i.e., CORRESP files) using
the People Search tool on auditanalytics.com, restricting the search
to comment letters referencing
periodic filings. Of the 16,351 conversations in our initial sample,
5,580 conversations have replies
by firms in which lawyers were referenced.19 In other words, firms
involved lawyers in about 34%
of conversations. In these 5,580 conversations, firms referenced a
total of 2,865 unique lawyers
from 539 unique law firms.
We next require the availability of hand-collected data on the
characteristics of the individual
lawyers referenced in firms’ replies. For each unique lawyer-law
firm combination, we retrieve
and read the lawyer’s biographies on public sources, primarily
LinkedIn profiles and biographies
on law firm websites. We collect each lawyer’s individual
characteristics including the lawyer’s
educational history, gender, and SEC affiliation before joining the
law firm, if any. We restrict
our hand-collection to the lawyer-law firms with at least two
conversations in our initial sample.20
19We also omit 82 conversations in which the lawyers were not named.
20We avoid using lawyers who appear only once in the data, because
they are more likely to have been involved
incidentally, rather than as lawyers specialising in securities law
and government relations.
16
We also identify and omit several individuals that Audit Analytics
appeared to have miscoded as
external counsel. This restricts the sample to 4,689 conversations
involving 1,407 unique lawyers
and 326 unique law firms. We were able to collect data on 1,384 of the
lawyers. For several lawyers
for whom we could not locate certain educational characteristics
needed to construct the control
variables (particularly LawyerAge and NumDegrees), we extrapolate the
missing educational
information from other available information.21
Finally, we require the availability of variables used in our
analyses, resulting in a final sample
of 4,524 conversations involving 2,140 unique firms. The number of
unique firm-years in the
sample, 4,507, is very close to the sample size, indicating that the
conversations in our sample map
almost uniquely to firm-years.
For our analyses involving future lawsuits in the dependent variable
(Adverse), we further
omit comment letter conversations that follow a securities lawsuit
filing (i.e. we omit conversations
where P astLit = 1). We do so because securities lawsuits may take
several years to resolve, and
different lawsuit filings may be consolidated into a single case.
Therefore if similar issues triggered
both the comment letter conversation and the pre-conversation lawsuit
filing, any future litigation
related to the comment letter may be consolidated into the existing
lawsuit.
4.2. Descriptive statistics
4.2.1. Lawyer characteristics
Our hand-collected dataset includes 1,447 unique combinations of
lawyers and law firms represented in our sample.22 There are 1,384
unique lawyers in the data, indicating that only a small
proportion of the lawyers in our sample switched law firms, and 320
unique law firms in our sam21Specifically: (1) If the lawyer’s
degree years were all unavailable, we use the year the lawyer was
admitted to the
bar as the year of his or her terminal degree. From our reading of the
lawyers’ biographies, almost all were admitted
to the bar at or around the year of their terminal degree. (2) If the
year of the lawyer’s first degree was unavailable, we
use the year of his or her next available degree minus three years,
the median time between first and second degrees of
the lawyers for whom the data was available. (3) Several lawyers only
disclosed one of their degrees. We set the floor
of NumDegrees to two because lawyers generally require a graduate
degree (e.g. a Juris Doctor) to practice.
22We collect the data at the lawyer-law firm level to take moves
between law firms into account. For example, to
collect the SEC variable, we examine whether the lawyer was employed
by the SEC before joining the focal law firm.
17
ple. Table 2 documents the descriptive statistics for our dataset of
lawyers involved in the comment
letter process.23 Panel A of Table 2 documents the characteristics of
the 1,384 unique lawyers in
our dataset. On average, a lawyer is referenced in about 4.1 comment
letter conversations in our
sample, and are almost always associated with only one unique law firm
throughout the sample. 62
of the 1,384 lawyers had previously been employed by the SEC, about
4.5 percent of our sample.
21.1 percent of the lawyers had attended a university with a top-three
law school, 45.2 percent had
attended a university with other top-fourteen law schools, and most
have up to two degrees. About
16.5 percent of the lawyers are female.
Panel B of Table 2 compares the former SEC lawyers in our sample with
the lawyers who
were not formerly employed by the SEC. Former SEC lawyers are involved
in more than one more
conversation in our sample than non-SEC lawyers on average, although
the statistical significance
of the difference is slightly lower than conventional significance
levels. There are statistically
significant differences in educational background between former SEC
and non-SEC lawyers: SEC
lawyers are a little more likely to have earned more than two degrees,
but are less likely to have
attended a university with a top law school. The difference in the
number of law firms the lawyers
are associated with or the likelihood that the lawyers are female are
not statistically significant at
conventional significance levels.
4.2.2. Comment letter conversations
Our sample comprises 4,524 comment letter conversations initiated
between 2005 and 2016,
after our sample selection procedure detailed at Table 1. Table 3
documents descriptive statistics
for our sample at the conversation level, which is the unit of
observation in our study.24
Panel A of Table 3 shows descriptive statistics of the outcome
variables. As a principal compo23Unless otherwise stated, the
descriptives in this subsection are based on raw values, without
winsorization or other
outlier removal method.
24At the conversation level, we reduce the impact of outliers by
winsorizing annually count variables such as
NumLawyers and NumF ilings at the top percentile, and other
non-discrete variables such as ConvT ime and
ROA at the top and bottom percentiles. We do not winsorize variables
based on returns, specifically BHR and
StdRet. Please see Appendix B for variable definitions.
18
nent, Negotiation is centered on zero, and about 19.6 percent of
conversations discuss confidential
treatment requests. About 17.1 percent of conversations result in a
10-K or 10-Q amendment, and
the mean number of amendments is higher, at 0.243, because some
conversations result in more
than one amendment. On average, abnormal returns from the start to the
disclosure of the conversation is close to zero, and about 7.6 percent
of conversations result in adverse restatements or
shareholder litigation.
Panel B of Table 3 shows descriptive statistics for the lawyer and law
firm characteristics at
the conversation level. About 7.2 percent of conversations involve a
former SEC lawyer. This
is higher than the 4.5 percent at the lawyer level, likely driven by
former SEC lawyers being
involved in more conversations in our sample than non-SEC lawyers (see
Table 2). On average,
the most experienced lawyer (law firm) in the conversation was
involved in less than one (more
than eight) other conversation(s) in the year before the focal
conversation, and a conversation
involves about 1.2 lawyers. Most lawyers have at least two degrees,
and about 26.0 and 49.5
percent of conversations involve a lawyer who attended a university
with a top-three law school
or other top-fourteen law schools respectively. About 17.3 percent of
conversations involved a
female lawyer, and the average log-transformed age of the oldest
lawyer in the conversation is
3.298, corresponding to about 27 years between the start of the
conversation and the lawyer’s first
degree.
Panel C of Table 3 shows descriptive statistics for proxies for
comment letter complexity and
issues. The average log-transformed length of the initial comment
letters is 6.893, corresponding to
985 words, and the initial comment letters reference 1.8 SEC filings
on average. The proportion of
the initial comment letters that raise specific issues range between
10.8 percent (risk factor issues)
and 77.1 percent (accounting issues). About 80.6 percent of the
initial comment letters reference
issues that do not fit standard issue categories as coded by Audit
Analytics. About 58.2 percent of
the initial comment letters mention the word “amend”.
19
Finally, Panel D of Table 3 shows descriptive statistics for the firm
controls.25 The average
log-transformed firm size and age are 6.675 and 2.513 respectively,
corresponding to a market
capitalization of $792 million, and over 11 years since the firm’s
first appearance in CRSP. On
average, the firms had raw buy-and-hold returns of 12.5 percent over
the 12 months before the
start of the conversation, the monthly returns had a standard
deviation of 13.0 percent, and the
book-to-market ratio was 0.580. The firms had return on assets close
to zero on average, sales
growth of about 20.2 percent, and R&D intensity of about 5.2
percent. Most firms (94.6 percent)
are domestic, and 64.7 percent were incorporated in Delaware. About
78.3 percent were audited by
a Big Four audit firm, and 11.2 percent were audited by a second-tier
audit firm. Finally, 46.7, 5.2,
and 16.9 percent of conversations had a prior comment letter
conversation, a securities litigation
filing, and a restatement within the two years leading up to the start
of the focal conversation.
5. EMPIRICAL RESULTS
5.1. Determinants of retaining a former SEC lawyer
We first examine the determinants of retaining a former SEC lawyer by
estimating logistic
regressions of SEC, the dummy variable indicating that the firm
retained a former SEC lawyer,
against the controls for comment letter complexity and issues, firm
characteristics, and industry
and year fixed effects. The results are documented at columns 1 to 3
of Table 4. Column 1
includes controls for comment letter complexity and issues, column 2
includes controls for firm
characteristics, and column 3 include both sets of controls. We
include industry and year fixed
effects in all three specifications.
Of the controls for comment letter complexity and issues, we find that
the only two determinants are statistically significant. The length of
the letter is positively associated with the likelihood
of retaining a former SEC lawyer: the coefficient of 0.395 on
LetterLength suggests that a ten
25Unless otherwise stated, the firm controls are based on the most
recent fiscal year ended before the start of a
conversation.
20
percent increase in the length of the initial letter increases the
odds that the firm retains a former
SEC lawyer by about 3.8 percent (= 1.1
0.395 − 1). However, the coefficient becomes insignificant
in Column (3), suggesting that the impact of letter length is subsumed
by firm characteristics. We
also find that firms are significantly less likely to involve a former
SEC lawyer when the initial
comment letter mentions management discussion and analysis disclosure
issues. Of the controls
for firm characteristics, we find that larger and older firms are
significantly more likely to retain a
former SEC lawyer, as are firms that faced recent litigation or that
do not have big four or tier two
audit firms.
We note that the pseudo-R-squared of our determinants model is only
4.7 percent, indicating
that many other factors drive the decision to hire a former SEC
lawyer. Some additional factors
could include whether the law firm retained or usually used by the
company has a former SEC
lawyer, or simply the availability of former SEC lawyers when the firm
receives a comment letter.
We note that it is rare for a lawyer to have had SEC experience—only
about seven percent of our
sample of conversations involve former SEC lawyers—so we would not
expect every firm to be
able to hire a former SEC lawyer if they chose to do so.
As these determinants may confound our main tests of the consequences
of hiring a former
SEC lawyer, we carry out a propensity matching of treatment (SEC = 1)
and control (SEC = 0)
observations along the control variables.
5.2. Impact of propensity score matching
Due to the differences between former SEC and non-SEC lawyers, and the
comment letter and
firm determinants of retaining a former SEC lawyers, our analyses
control for potential confounding. We include the control variables in
our regressions to mitigate linear confounding, and also
implement propensity score matching between treatment (SEC = 1) and
control (SEC = 0) observations as described in our research design at
Section 3.2. Table 5 shows the impact of matching
treatment (SEC = 1) and control (SEC = 0) observations on the
propensity scores and covariate
balance. For brevity, we only tabulate descriptives for the first
matching procedure in our analyses:
21
full matching for Model 1, along the controls for lawyer and law firms
characteristics, comment
letter complexity and issues, firm characteristics, and industry fixed
effects.
Table 5 reports the propensity score and covariate balance before
matching (columns 2–5 on
the left), and after matching (columns 6–9 on the right), in both
cases after observations outside the
support of the propensity score are discarded. We report the
difference in means of each variable,
and the absolute standardized difference between the variables for
assessing covariate balance. We
use a cutoff absolute standardized difference of 25 percent as an
indicator for large differences in
the covariate means (e.g. Rosenbaum and Rubin, 1985).
After matching, the difference in weighted average propensity score
reduces from 19 percentage points to -0.1 percentage points, with the
absolute standardized difference decreasing from
120 percent to less than one percent after matching. This indicates
that the matching procedure
was successful in reducing the difference in the propensity of
treatment. From columns 2 to 5,
before matching, a number of covariates have absolute standardized
differences above the cutoff
even after discarding observations outside the support of the
propensity score. From columns 6 to
9, after matching, all the individual covariates in the table have
absolute standardized differences
of less than the cutoff of 25 percent.
5.3. The extent of negotiation
We test Hypothesis 1 at Table 6. Column (1) of Table 6 documents the
results from estimating
Model 1. The coefficient on SEC is 0.220 and statistically significant
at 1%, indicating that
the involvement of a former SEC lawyer is associated with a
significant increase in the extent
of negotiation, relative to matching control firms. To the extent that
the extent of negotiation
represents an undue delay in the correction of disclosure
deficiencies, or efforts by the firm to
avoid correcting disclosure deficiencies, this finding suggests that
the involvement of former SEC
lawyers is negatively related to shareholder welfare.
Column (2) examines the relationship between confidential treatment
requests and former SEC
lawyer involvement. The coefficient estimate on SEC is 0.501 and is
statistically significant at
22
1% level, which corresponds to about a 65 percentage points increase
in the odds of a confidential
treatment request, and suggests that former SEC lawyers are more
likely to assist firms in securing
redaction of sensitive firm information in the comment letter
disclosures than lawyers who had
never been employed by the SEC. Turning to the control variables, we
find that the extent of
negotiation is associated with comment letter that raise accounting or
event disclosure issues, and
interestingly with longer letter that reference fewer filings.
5.4. Outcomes of the comment letter process
We test Hypothesis 2 at Table 7. The coefficients of SEC are
significantly negative at conventional levels in Columns (1) and (2),
suggesting that former SEC lawyer involvement is associated
with both fewer amendments, and a decreased likelihood of filing any
amendments. Specifically,
former SEC lawyers are associated with a 31.9 percentage point
decrease in the odds of an amendment and 0.380 fewer amendments on
average, relative to non-SEC lawyers. This again suggests
that the involvement of former SEC lawyers is negatively related to
shareholder welfare, as it suggests that they are associated with a
reduction in the correction of disclosure deficiencies. The
coefficient on SEC in Column (3) is significantly positive at five
percent level, indicating that
firms that involve former SEC lawyers experience positive abnormal
returns between the start and
disclosure of the comment letter conversation, relative to matching
firms.
Finally, in Column (4), we do not find a statistically significant
relationship between the involvement of former SEC lawyers and adverse
restatements or shareholder litigation. This suggests that while
former SEC lawyer involvement is associated with a reduction in
amendments,
there is not evidence that this is to the extent to avoiding
disclosures that would have resulted in
avoiding restatements or litigation.
6. CROSS-SECTIONAL ANALYSES
The proposed mechanism for our findings is that former SEC lawyers are
better able to influence
the comment letter process than other lawyers due to greater
familiarity with former colleagues
23
still at the SEC. We therefore perform cross-sectional analyses to
validate this: our results should
continue to hold when we restrict our treatment sample to comment
letter conversations involving former SEC lawyers that had left the
SEC more recently. For comparison, we examine two
additional cross-sections more likely to capture the expertise and
knowledge of the lawyer rather
than their familiarity with SEC staff. Specifically, we examine
whether the former SEC lawyer had
experience with the Division of Corporation Finance (DCF), the SEC
division that administers the
comment letter process, and the extent to which the lawyer recently
represented clients in response
to SEC comment letters.
We collect data on the year each lawyer left the SEC, and information
on whether he or she
had worked at the DCF, from publicly-available biographies. We proxy
for experience representing clients using LawyerExp. For each of the
cross-sectional analyses, we partition the treatment
sample to observations above or below the median time since leaving
the SEC (14 years), whether
there was information that the lawyer had previously worked at the
DCF, and whether the observation was above or below the annual median
of LawyerExp. We then replicate our key regressions after the
respective restrictions to the treatment sample, using the same
propensity matching
weights per observation to allow for comparability of the coefficients
with our main results.26
Table 8 documents the results from replicating our main analyses with
each cross-section of the
treatment sample. Panels A, C, and E use treatment conversations
involving former SEC lawyers
who had left the SEC more recently, have prior experience at the DCF,
and have greater experience
in representing clients in responding to SEC comment letters,
respectively. Panels B, D, and F
use treatment conversations involving former SEC lawyers who had left
the SEC further in the
past, do not have prior experience at the DCF, and have less
experience in representing clients in
responding to SEC comment letters, respectively.
26For several lawyers, we had to infer the year of leaving the SEC
from other information, for example based
on information on how long the lawyers had spent working at law firms
since leaving the SEC. For conversations
involving more than one former SEC lawyer, we use the minimum
available time since leaving the SEC, and whether
there was information that any lawyer had worked at the DCF. The
treatment observations for which we were unable to
collect the year of leaving the SEC are retained in both
cross-sections, and we omit LawyerExp from the regression
controls for cross-sectional analyses that partition on LawyerExp.
24
The results in Panel A show that former SEC lawyers who had left the
SEC recently are associated with greater negotiation and fewer
amendments, as expected. The corresponding coefficients
in Panel B, for former SEC lawyers who had left further in the past,
are not statistically significant.
Interestingly, we find that abnormal returns between the start and
disclosure of the comment letter
conversation is significantly positive only for former SEC lawyers who
had left the SEC further in
the past (Column 4). We also find that former SEC lawyers who had left
the SEC more recently are
associated with fewer adverse restatements or shareholder litigation.
Comparing the corresponding
coefficients between Panels A and B statistically, we find that
difference in coefficients between
Panels A and B are statistically significant only for Columns (1) and
(5), that is, the results for the
extent of negotiation, and adverse restatements or shareholder
litigation.
The cross-sectional analyses based on DCF experience (Panels C and D)
and prior comment
letter experience (Panels E and F) have mixed or null results, for
example none of the coefficients
on SEC is statistically significant in Column (2). We interpret these
results as suggesting that the
impact of former SEC lawyers is driven more by familiarity with
colleagues at the SEC rather than
experience with the comment letter process.
7. CONCLUSION
Our study examines whether former SEC lawyers increase firms’
resistance to the SEC comment
letter process, and affect the outcome of the process, relative to
lawyers who had never been employed by the SEC. Using hand-collected
data on the characteristics of individual lawyers involved
in our sample of comment letters, we find that relative to matching
firms that retain non-SEC
lawyers, firms that retain former SEC lawyers negotiate to a greater
extent with the SEC after receiving a comment letter, are less likely
to issue amendments as a result of the comment letter, and
issue fewer amendments on average as a results of the comment letter.
They also experience higher
abnormal returns between the start and disclosure of the comment
letter conversation. Our results
suggest that former SEC lawyers help companies secure more favourable
outcomes for firms, but
25
that their involvement may be disadvantageous to shareholder welfare
as it is associated with a
lower likelihood of correcting disclosure deficiencies. In
cross-sectional tests, we also find that
our results on negotiation and amendments are driven more by former
lawyers who left the SEC
more recently, consistent with our main results being driven by former
SEC lawyers having greater
familiarity with their former colleagues at the SEC.
Our study therefore sheds light on the impact of the SEC revolving
door on the SEC comment
letter process, and has important implications for firms, investors,
and regulators. We find that the
SEC revolving door impedes the effectiveness of one of the SEC’s
most important mechanisms for
disclosure oversight. Our study has implications for future research,
which could examine whether
former SEC employees play a role in influencing the SEC in other
settings, and whether changes
to existing SEC regulations and codes of ethics could be effective at
mitigating the effects of the
SEC revolving door.
26
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30
Table 1: Sample selection
Unique Unique Unique
conversations firm-years firms
Panel A: Initial sample selection
Conversations initiated between 2005 and 2016 that reference
a 10-K filing, after requiring Compustat and CRSP coverage 16,734
16,531 5,584
Omit conversations with only one letter 16,470 16,376 5,550
Omit conversations in the bottom 1% of time to resolution 16,351
16,270 5,534
Panel B: Requiring legal advisor data and variables for analysis
Restrict to conversations referencing legal counsel† 5,580 5,560
2,814
Require lawyer-law firm to have at least two conversations‡ 4,689
4,671 2,221
Require the availability of variables used in the analyses 4,524 4,507
2,140
† We also omit 82 conversations in which the lawyer was not named.
The 5,580 conversations at
this step involve 2,865 unique lawyers and 539 unique law firms.
‡ After requiring lawyer-law firms to be associated with at least
two conversations, there are 1,407
unique lawyers and 326 unique law firms associated with the
conversations in the sample. We
were able to collect data for 1,384 of the unique lawyers from 320
unique law firms.
31
Table 2: Descriptives of the lawyer characteristics database
Panel A: Characteristics per unique lawyer
N Mean SD Q1 Q25 Q50 Q75 Q99
# Conversations 1, 384 4.081 3.446 2 2 3 5 18
# Law firms 1, 384 1.046 0.219 1 1 1 1 2
SEC 1, 384 0.045 0.207 0 0 0 0 1
HSY School 1, 384 0.211 0.408 0 0 0 0 1
OtherT opSch 1, 384 0.452 0.498 0 0 0 1 1
NumDegrees 1, 384 2.171 0.402 2 2 2 2 3
F emale 1, 384 0.165 0.371 0 0 0 0 1
Panel B: Former SEC lawyers (N = 62) versus other lawyers (N = 1,322)
Overall SEC = 0 SEC = 1 Diff. p-valuet/χ2
mean mean mean in means
# Conversations 4.08 4.01 5.53 1.52 (13.54%)
# Law firms 1.05 1.04 1.08 0.04 (30.23%)
HSY School 0.21 0.22 0.10 −0.12∗∗ (2.43%)
OtherT opSch 0.45 0.46 0.32 −0.14∗∗ (4.87%)
NumDegrees 2.17 2.17 2.27 0.11∗
(8.74%)
F emale 0.16 0.16 0.16 −0.004 (100.00%)
This table shows descriptive statistics of the characteristics of the
1,384 lawyers
from 320 law firms in our sample. # Conversations is the number of
comment letter conversations in our sample that reference the lawyer,
and # Law firms is the
number of unique law firms the lawyer is associated with in our
sample, before
requiring the availability of other variables; and the other variables
are as defined
in Appendix B. Panel A documents descriptive statistics for the full
sample of
lawyers. Panel B documents univariate differences in the variables
between the
lawyers who were formerly employed by the SEC (SEC = 1) and the
lawyers
who had not been employed by the SEC (SEC = 0). For the binary outcome
variables (HSY School, OtherT opSch, and F emale) we examine the
difference in proportions using chi-squared tests with p-values
computed by Monte
Carlo stimulation with 10,000 replicates. For the other outcome
variables we examine the difference in means using t-tests.
32
Table 3: Descriptives of the comment letter conversations sample
N Mean SD Q1 Q25 Q50 Q75 Q99
Panel A: Outcome variables
Negotiation 4, 524 −0.000 1.549 −2.295 −1.405 −0.001 1.164
3.760
ConfT reat 4, 524 0.196 0.397 0 0 0 0 1
Amendment 4, 524 0.171 0.376 0 0 0 0 1
NumAmend 4, 524 0.243 0.609 0 0 0 0 3
CLReturns 4, 494 −0.003 0.335 −0.731 −0.139 −0.016 0.100 1.083
Adverse 4, 524 0.076 0.265 0 0 0 0 1
Panel B: Lawyer and law firm characteristics
SEC 4, 524 0.072 0.259 0 0 0 0 1
LawyerExp 4, 524 0.725 1.131 0 0 0 1 5
LawF irmExp 4, 524 8.163 8.667 0 2 5 11 36
NumDegrees 4, 524 2.195 0.411 2 2 2 2 3
NumLawyers 4, 524 1.202 0.462 1 1 1 1 3
HSY School 4, 524 0.260 0.438 0 0 0 1 1
OtherT opSch 4, 524 0.495 0.500 0 0 0 1 1
F emale 4, 524 0.173 0.378 0 0 0 0 1
LawyerAge 4, 524 3.303 0.319 2.485 3.091 3.332 3.555 3.892
Panel C: Comment letter complexity and issues
LetterLength 4, 524 6.893 0.478 5.999 6.553 6.847 7.197 8.135
NumF ilings 4, 524 1.821 0.943 1 1 2 2 5
AccIssue 4, 524 0.771 0.420 0 1 1 1 1
EventIssue 4, 524 0.185 0.389 0 0 0 0 1
MDAIssue 4, 524 0.664 0.472 0 0 1 1 1
NonF itIssue 4, 524 0.806 0.395 0 1 1 1 1
RegisIssue 4, 524 0.160 0.367 0 0 0 0 1
RegSKIssue 4, 524 0.562 0.496 0 0 1 1 1
RegSXIssue 4, 524 0.173 0.378 0 0 0 0 1
RiskIssue 4, 524 0.108 0.311 0 0 0 0 1
RefAmend 4, 524 0.582 0.493 0 0 1 1 1
Panel D: Firm characteristics
BHR 4, 524 0.125 1.597 −0.840 −0.241 0.035 0.307 2.299
BigF our 4, 524 0.783 0.412 0 1 1 1 1
BTM 4, 524 0.580 0.644 −0.355 0.246 0.455 0.762 2.753
Delaware 4, 524 0.647 0.478 0 0 1 1 1
Domestic 4, 524 0.946 0.226 0 1 1 1 1
F irmAge 4, 524 2.513 0.843 0.740 1.924 2.617 3.087 4.369
Growth 4, 524 0.202 0.614 −0.644 −0.020 0.090 0.248 3.172
P astConv 4, 524 0.467 0.499 0 0 0 1 1
P astLit 4, 524 0.052 0.223 0 0 0 0 1
P astRes 4, 524 0.169 0.375 0 0 0 0 1
RD 4, 524 0.052 0.104 0 0 0 0.062 0.522
ROA 4, 524 −0.002 0.185 −0.752 −0.017 0.026 0.072 0..357
Size 4, 524 6.675 1.794 2.718 5.436 6.712 7.896 11.123
StdRet 4, 524 0.130 0.094 0.031 0.073 0.109 0.160 0.473
T ierT wo 4, 524 0.112 0.315 0 0 0 0 1
This table shows descriptive statistics for the variables used in the
study, for the 4,524 comment letter
conversations in our final sample. Please see B for variable
definitions.
33
Table 4: Determinants of retaining a former SEC lawyer
Model Dependent variable: SEC; Logistic Regressions
Full Sample
(1) (2) (3)
LetterLength 0.395∗∗ 0.295
(0.192) (0.195)
NumF ilings 0.025 0.061
(0.070) (0.071)
AccIssue 0.061 −0.003
(0.166) (0.169)
EventIssue 0.212 0.212
(0.150) (0.153)
MDAIssue −0.234∗ −0.245∗
(0.142) (0.144)
N onF itIssue −0.264 −0.230
(0.162) (0.164)
RegisIssue −0.010 0.016
(0.174) (0.175)
RegSKIssue −0.054 −0.023
(0.143) (0.144)
RegSXIssue 0.059 0.091
(0.155) (0.157)
RiskIssue −0.265 −0.295
(0.210) (0.213)
RefAmend −0.015 0.050
(0.132) (0.134)
BHR −0.186 −0.189
(0.131) (0.132)
BigF our −0.640∗∗∗ −0.619∗∗∗
(0.203) (0.204)
BTM 0.145 0.126
(0.096) (0.097)
Delaware 0.004 0.004
(0.136) (0.136)
Domestic −0.111 −0.088
(0.276) (0.277)
F irmAge 0.349∗∗∗ 0.356∗∗∗
(0.081) (0.081)
Growth −0.026 −0.033
(0.118) (0.117)
P astConv −0.150 −0.137
(0.130) (0.130)
P astLit 0.501∗∗ 0.477∗∗
(0.234) (0.235)
P astRes 0.173 0.116
(0.154) (0.156)
RD −1.479 −1.457
(0.957) (0.969)
ROA −0.392 −0.368
(0.462) (0.465)
Size 0.152∗∗∗ 0.151∗∗∗
(0.045) (0.045)
StdRet −0.781 −0.861
(0.957) (0.964)
T ierT wo −0.557∗∗ −0.557∗∗
(0.252) (0.253)
Industry FEs Yes Yes Yes
Year FEs Yes Yes Yes
Observations 4,524 4,524 4,524
McFadden R2 0.019 0.041 0.047
The table documents the results from regressing SEC against the
control variables for comment
letter complexity and issues, firm characteristics, and industry and
year fixed effects. Please see
Appendix B for variable definitions. Year and industry fixed effects
are based on the calendar year
in which the conversation began, and one-digit SIC codes,
respectively.
34
Table 5: Impact of propensity score matching on propensity scores and
covariate balance
After omitting observations outside the support of the propensity
score (N = 3,429)
Means before weighting Means after weighting
SEC = 0 SEC = 1 Diff. |Std. Diff.| SEC = 0 SEC = 1 Diff. |Std. Diff.|
Propensity score 0.07 0.26 0.19† 119.78% 0.26 0.26 −0.001 0..29%
Covariate balance: lawyer and law firm characteristics
LawyerExp 0.71 1.24 0.53† 42.03 1.24 1.24 0.01 0.36
LawF irmExp 7.87 6.84 −1.03 14.10 6.63 6.84 0.21 3.21
NumDegrees 2.21 2.24 0.03 6.82 2.22 2.24 0.02 4.46
NumLawyers 1.20 1.29 0.09 18.40 1.32 1.29 −0.03 4.59
HSY School 0.21 0.11 −0.10† 27.22 0.11 0.11 −0.0004 0.14
OtherT opSch 0.47 0.33 −0.13† 27.09 0.31 0.33 0.02 4.45
F emale 0.18 0.22 0.03 8.51 0.22 0.22 −0.002 0.42
LawyerAge 3.33 3.43 0.11† 37.76 3.45 3.43 −0.01 5.57
Covariate balance: comment letter complexity and issues
LetterLength 6.90 6.95 0.04 9.25 6.93 6.95 0.01 2.71
NumF ilings 1.82 1.93 0.11 11.24 1.84 1.93 0.09 8.37
AccIssue 0.76 0.81 0.05 11.63 0.80 0.81 0.01 2.80
EventIssue 0.18 0.23 0.05 11.85 0.18 0.23 0.04 10.54
MDAIssue 0.69 0.65 −0.04 8.40 0.66 0.65 −0.003 0.72
NonF itIssue 0.81 0.80 −0.02 3.99 0.78 0.80 0.02 5.16
RegisIssue 0.17 0.18 0.01 2.22 0.18 0.18 −0.01 1.71
RegSKIssue 0.59 0.57 −0.02 3.48 0.55 0.57 0.02 3.99
RegSXIssue 0.17 0.21 0.03 8.95 0.17 0.21 0.03 7.94
RiskIssue 0.11 0.09 −0.02 6.19 0.09 0.09 −0.001 0.22
RefAmend 0.59 0.63 0.04 7.97 0.62 0.63 0.01 1.87
Covariate balance: firm characteristics
BHR 0.12 0.06 −0.06 4.59 0.10 0.06 −0.03 4.48
BigF our 0.77 0.75 −0.02 5.45 0.74 0.75 0.01 3.06
BTM 0.60 0.64 0.03 4.67 0.69 0.64 −0.06 8.08
Delaware 0.63 0.60 −0.03 6.94 0.60 0.60 −0.01 1.51
Domestic 0.95 0.95 0.01 2.44 0.95 0.95 0.01 3.46
F irmAge 2.56 2.70 0.14 16.05 2.75 2.70 −0.05 5.85
Growth 0.18 0.16 −0.01 2.37 0.13 0.16 0.03 5.36
P astConv 0.50 0.47 −0.03 5.64 0.47 0.47 0.001 0.11
P astLit 0.05 0.06 0.01 2.42 0.06 0.06 −0.01 2.44
P astRes 0.16 0.17 0.01 2.81 0.17 0.17 0.01 1.93
RD 0.05 0.04 −0.01 11.16 0.04 0.04 0.001 1.21
ROA 0.001 0.01 0.01 4.95 0.002 0.01 0.01 4.30
Size 6.72 6.87 0.14 7.39 6.72 6.87 0.14 7.00
StdRet 0.13 0.12 −0.01 10.39 0.12 0.12 −0.004 4.71
T ierT wo 0.12 0.11 −0.005 1.56 0.13 0.11 −0.01 4.32
This table documents the impact of our full matching procedure on the
propensity scores and covariate balance over
all years. We report the treatment and control means and the
difference in means, after omitting observations not in
the support of the propensity score. We also report the absolute
values of the standardized difference in means, defined
as the difference between the treatment and control means scaled by
the root mean squared standard deviations in the
treatment and control subsamples. Columns 2 to 5 are based on the
means and standard deviations before applying
the weights constructed by the matching procedure; columns 6 to 9 are
based on the weighted means and standard
deviations. †
indicates absolute standardized differences greater than 25 percent.
35
Table 6: Representation by a former SEC lawyer and the extent of
negotiation
Dep. Var. (model) Negotiation (OLS) ConfT reat (Logistic)
(1) (2)
SEC 0.220∗∗∗ 0.501∗∗∗
(0.079) (0.164)
LawyerExp 0.019 −0.177∗∗∗
(0.019) (0.045)
LawF irmExp 0.002 −0.009
(0.004) (0.008)
NumDegrees 0.093∗ −0.106
(0.054) (0.123)
NumLawyers −0.046 0.177
(0.048) (0.109)
HSY School 0.069 0.307∗
(0.075) (0.161)
OtherT opSch 0.159∗∗∗ 0.175
(0.054) (0.120)
F emale 0.215∗∗∗ 0.242∗
(0.059) (0.125)
LawyerAge −0.160∗ −0.808∗∗∗
(0.091) (0.196)
LetterLength 1.610∗∗∗ 1.163∗∗∗
(0.076) (0.169)
NumF ilings −0.201∗∗∗ −0.133∗∗
(0.029) (0.064)
AccIssue 0.217∗∗∗ −0.420∗∗∗
(0.064) (0.141)
EventIssue 0.127∗∗ −0.450∗∗∗
(0.062) (0.143)
MDAIssue −0.091 −0.460∗∗∗
(0.057) (0.136)
NonF itIssue −0.012 0.571∗∗∗
(0.063) (0.162)
RegisIssue 0.084 0.112
(0.067) (0.140)
RegSKIssue 0.019 0.124
(0.058) (0.135)
RegSXIssue 0.022 0.069
(0.062) (0.137)
RiskIssue −0.097 0.056
(0.083) (0.165)
RefAmend −0.096∗ 0.311∗∗
(0.053) (0.123)
Other Controls & FEs Yes Yes
Observations 3,429 3,429
Adj. / McF. R2 0.322 0.191
This table documents the results from estimating Model 1. Negotiation
is the first
principal component of ConvT ime, NumLetter, and MultiRound, and we
use full
matching of the treatment and control subsamples. Please see Section 3
for details on our
research design and matching, and Appendix B for other variable
definitions. Year fixed
effects are based on the calendar year in which the conversation
began, and industry fixed
effects are based on one-digit SIC codes. We report adjusted R2
s for the OLS model, and
McFadden R2
s for the logistic models.
36
Table 7: Representation by a former SEC lawyer and outcomes of the
comment letter
Dep. Var. Amendment NumAmend CLReturns Adverse
Regression Logistic Poisson OLS Logistic
(1) (2) (3) (4)
SEC −0.384∗ −0.380∗∗ 0.039∗∗ 0.067
(0.215) (0.163) (0.018) (0.295)
LawyerExp −0.064 −0.020 −0.004 0.041
(0.050) (0.034) (0.004) (0.071)
LawF irmExp −0.013 −0.0001 0.002∗∗ −0.012
(0.010) (0.007) (0.001) (0.016)
NumDegrees 0.334∗∗∗ 0.121 0.027∗∗ −0.034
(0.124) (0.086) (0.013) (0.217)
NumLawyers 0.046 0.051 −0.034∗∗∗ 0.643∗∗∗
(0.122) (0.081) (0.011) (0.176)
HSY School 0.019 −0.061 0.003 0.419
(0.212) (0.154) (0.018) (0.290)
OtherT opSch 0.205 0.126 0.030∗∗ −0.102
(0.142) (0.100) (0.013) (0.245)
F emale 0.297∗∗ 0.104 −0.032∗∗ 0.055
(0.150) (0.106) (0.013) (0.233)
LawyerAge −0.535∗∗ −0.216 −0.038∗ 0.126
(0.240) (0.157) (0.021) (0.376)
LetterLength −0.357∗ −0.012 −0.079∗∗∗ 0.570∗
(0.207) (0.141) (0.019) (0.321)
NumF ilings 0.206∗∗∗ 0.155∗∗∗ −0.002 0.182
(0.070) (0.045) (0.007) (0.121)
AccIssue −0.084 −0.390∗∗∗ 0.062∗∗∗ 0.478
(0.169) (0.118) (0.015) (0.305)
EventIssue −0.134 0.055 −0.017 0.172
(0.154) (0.098) (0.014) (0.243)
MDAIssue 0.347∗∗ 0.169 0.005 −0.430
(0.168) (0.124) (0.013) (0.273)
NonF itIssue 0.206 0.135 0.025∗ −0.348
(0.189) (0.136) (0.014) (0.282)
RegisIssue 0.267∗ 0.021 0.009 0.552∗∗
(0.159) (0.107) (0.016) (0.243)
RegSKIssue 0.704∗∗∗ 0.354∗∗∗ −0.001 −0.248
(0.163) (0.120) (0.013) (0.242)
RegSXIssue −0.016 0.038 0.005 −0.219
(0.171) (0.108) (0.015) (0.266)
RiskIssue −0.281 0.029 −0.014 0.440
(0.217) (0.136) (0.020) (0.295)
RefAmend 1.389∗∗∗ 1.021∗∗∗ −0.044∗∗∗
−0.969∗∗∗
(0.160) (0.114) (0.012) (0.236)
Other Controls & FEs Yes Yes Yes Yes
Observations 3,309 3,309 3,284 2,783
Adj. / McF. R2 0.273 0.403 0.109 0.336
This table documents the results from estimating Model ?? using full
matching of the treatment and control subsamples. Please see Section 3
for details on our research design and matching, and Appendix B
for variable definitions. The control variables comprise the lawyer
and law firm characteristics, comment
letter complexity and issues, firm characteristics, and the number of
comment letters in the conversation
(NumLetters). Year fixed effects are based on the calendar year in
which the conversation began, and
industry fixed effects are based on one-digit SIC codes. We report
adjusted R2
s for the OLS model, and
McFadden R2
s for the poisson and logistic models. 37
Table 8: Cross-sectional analyses by SEC lawyer characteristics
Dep. Var. Negotiation Amendment NumAmend CLReturns Adverse
Regression OLS Logistic Poisson OLS Logistic
(1) (2) (3) (4) (5)
Panel A: Former SEC lawyers who left the SEC recently
SEC 0.446∗∗∗ −0.609∗∗ −0.488∗∗ 0.028 −1.119∗∗
(0.104) (0.294) (0.222) (0.023) (0.530)
Controls & FEs Yes Yes Yes Yes Yes
Observations 3,308 3,188 3,188 3,163 2,668
Adj. / McF. R2 0.332 0.279 0.407 0.117 0.366
Panel B: Former SEC lawyers who left the SEC further in the past
SEC 0.004 −0.202 −0.338 0.057∗∗ 1.007∗∗∗
(0.107) (0.282) (0.216) (0.025) (0.374)
Controls & FEs Yes Yes Yes Yes Yes
Observations 3,299 3,175 3,175 3,150 2,659
Adj. / McF. R2 0.279 0.410 0.238 0.112 0.355
Panel C: Former SEC lawyers with prior experience at the Division of
Corporation Finance
SEC 0.275∗∗∗ −0.350 −0.338∗ 0.024 −0.387
(0.090) (0.241) (0.188) (0.020) (0.385)
Controls & FEs Yes Yes Yes Yes Yes
Observations 3,366 3,246 3,246 3,221 2,722
Adj. / McF. R2 0.328 0.272 0.403 0.112 0.351
Panel D: Former SEC lawyers without prior experience at the Division
of Corporation Finance
SEC 0.189 −0.455 −0.580∗ 0.098∗∗ 1..215∗∗
(0.174) (0.484) (0.348) (0.040) (0.516)
Controls & FEs Yes Yes Yes Yes Yes
Observations 3,204 3,080 3,080 3,055 2,573
Adj. / McF. R2 0.355 0.288 0.417 0.122 0.371
Panel E: Former SEC lawyers with more experience with SEC comment
letters
SEC 0.215∗∗ −0.279 −0.425∗ 0.038 −0.644
(0.103) (0.285) (0.220) (0.023) (0.464)
Controls & FEs Yes Yes Yes Yes Yes
Observations 3,309 3,189 3,189 3,164 2,671
Adj. / McF. R2 0.333 0.281 0.411 0.118 0.361
Panel F: Former SEC lawyers with less experience with SEC comment
letters
SEC 0.226∗ −0.505 −0.311 0.038 0.791∗∗
(0.118) (0.319) (0.238) (0.027) (0.384)
Controls & FEs Yes Yes Yes Yes Yes
Observations 3,271 3,147 3,147 3,122 2,633
Adj. / McF. R2 0.334 0.278 0.408 0.113 0.355
This table documents the results from replicating the regressions at
Panel A of Tables 6 and 7, under the restrictions to the treatment
sample detailed at Section 6. Panels A, C, and E use treatment
conversations involving
former SEC lawyers who left the SEC more recently, previously worked
at the Division of Corporation Finance,
and have greater prior experience in representing clients in
responding to SEC comment letters, respectively;
Panels B, D, and F use the opposite cross-sections. The number of
years since leaving the SEC was unavailable
for several observations (28 of our final sample of 4,524); we retain
these observations in both Panels A and B.
The partitioning variable LawyerExp is omitted as a regression control
in Panels E and F. Please see Section 6
for additional details.
38
A. THE SEC’S FILING REVIEW PROCESS AND OUTCOMES
The Sarbanes-Oxley Act of 2002 requires the SEC to review firms’
filings “for the protection
of investors”, at least once every three years.27 At the SEC, review
of filings is carried out by
the Division of Corporation Finance through eleven offices categorized
by industry. The SEC
sends comments to the firm when its staff “identifies instances
where it believes a company can
improve its disclosure or enhance its compliance with the applicable
disclosure requirements”.
Between 2005 and 2016, the SEC initiated over 100,000 comment letter
conversations with firms
(see Table 1).
Initiation of a comment letter conversation leads to a dialogue
between the firm and SEC staff.
During the dialogue, the SEC may make requests of the firm, for
example that the firm provide
additional information, amend prior SEC filings, or revise future SEC
filings. The firm, in turn,
may propose alternative solutions. For example, in the following
exchange between the SEC and
the external counsel of Chase Issuance Trust, the SEC requested that
the firm amend its Form 10-
K or explain why an amendment is unnecessary. The firm declined
amending through its external
counsel and instead stated that they would clarify in future Form
10-Ks “if applicable”.28
SEC Staff comments to Chase Issuance Trust (September 13, 2012,
excerpt):
Please amend your Form 10-K to identify in the body of the 10-K each
instance of noncompliance and the scope of the transactions to which
each instance of noncompliance relates or
tell us why such an amendment is not necessary.
Chase Issuance Trust’s response, via external counsel (October 2,
2012, excerpt):
In the future, beginning with our next Form 10-K, if applicable and to
avoid confusion,
27See §408 of the Sarbanes-Oxley Act. Other information in this
section on the SEC’s filing review process is
obtained from publicly-available sources, specifically the SEC’s
“Division of Corporation Finance Filing Review Process” webpage at
https://www.sec.gov/divisions/corpfin/cffilingreview.htm, and comment
letters on the SEC’s online
EDGAR database.
28The letters are available on the SEC’s EDGAR database at
https://www.sec.gov/Archives/edgar/data/869090/
000000000012050064/filename1.pdf and
https://www.sec.gov/Archives/edgar/data/1174821/000119312512412640/
filename1.htm.
39
we will add a sentence in the body of the Form 10-K to clarify whether
or not a disclosed
material instance of noncompliance is relevant to the Company’s
transactions.
Since the comment letter conversation often involves negotiations
between the company and
the SEC, persuasion and social influence may play important roles. A
conversation between the
SEC and Owens-Illinois, Inc. in 2006, for example, had carried on for
multiple exchanges of
letters, but was resolved after a conference call between the company
and SEC staff. The SEC had
requested that the firm either explain its basis of accounting related
to a special purpose vehicle, or
amend prior 10-K and 10-Q filings. This exchange followed multiple
exchanges of letters between
SEC staff and the firm in which the SEC questioned the firm’s
accounting related to the special
purpose vehicle. After a conference call with SEC staff, the SEC
allowed the firm to resolve the
issue by simply revising future filings.29
SEC Staff comments to Owens-Illinois, Inc. (August 21, 2006, excerpt):
Please tell us your basis in GAAP for treating the collection of your
accounts receivable by
SPV1 as an operating cash inflow rather than an investing cash inflow.
Otherwise, please
amend your Forms 10-Q for the quarters ended March 31 and June 30,
2006 and, if material,
your Form 10-K for the year ended December 31, 2005 to reflect
subsequent collection of
the receivables previously sold to SPV1 as an investing activity.
Owens-Illinois, Inc.’s response, copied to former SEC counsel
(October 10, 2006, excerpt):
As agreed in the telephone conference with the SEC Staff on Friday,
September 15, 2006,
the Company will, in future filings, reclassify certain items in its
statement of cash flows to
reflect the cash inflows related to the subsequent collection of the
accounts receivable held by
SPV1 at the consolidation date of December 13, 2005 as cash flows from
investing activities.
Notably, the company copied an external counsel who was formerly the
director of the SEC’s
29The letters are available on the SEC’s EDGAR database at
https://www.sec.gov/Archives/edgar/data/812074/
000000000006040461/filename1.pdf and
https://www.sec.gov/Archives/edgar/data/812074/000110465906065678/
filename1.htm.
40
Division of Corporation Finance, the division of the SEC that reviews
filings.
When the firm has resolved all of the SEC’s comments, the SEC sends
a final letter confirming
completion of the review. A comment letter conversation with only one
round of exchanges will
therefore generally comprise at least three letters—the SEC’s
initial comment letter, the firm’s
response, and the SEC’s “no further comments” letter—and a
conversation with two rounds of
exchanges will generally comprise at least five letters, and so on. In
the above example, the SEC
replied with the following confirming review completion.30
SEC Staff’s response to Owens-Illinois, Inc. (November 21, 2006,
truncated):
We have completed our review of your Form 10-K and related filings and
have no further
comments at this time.
The comment letter conversation is made public on EDGAR at least 20
business days after comments are resolved. Dechow et al. (2016)
documents negative returns around and a negative drift
after the date that comment letters related to revenue recognition are
made public, and significant
abnormal insider trading prior to that day.
30The letter is available on the SEC’s EDGAR database at
https://www.sec.gov/Archives/edgar/data/812074/
000000000006057629/filename1.pdf.
41
B. VARIABLE DEFINITIONS
Tables B.1 and B.2 list definitions for variables used in this study.
Table B.1 includes the definitions of the dependent variables, and
variables related to lawyer
and law firm characteristics. Because our unit of analysis is the
comment letter conversation, in the
case of conversations in which the firm referenced more than one
lawyer or law firm, the lawyer
and law firm characteristics are aggregated as explained in the table
notes.
Table B.2 includes definitions of variables capturing comment letter
complexity and issues, and
firm characteristics. Unless otherwise stated, the firm
characteristics are based on the most recent
fiscal year before the first comment letter in a conversation.
In addition, the year fixed effects used in our study are based on the
calendar year in which
a conversation began, and the industry fixed effects are based on
one-digit SIC codes. Please see
Section 3.5 for a more detailed discussion of the control variables.
42
Table B.1: Outcome variables and lawyer characteristics
Variable Definitions
Outcome variables
Negotiation The first principal component of ConvT ime, NumLetters,
and MultiRound.
ConvT ime The natural logarithm of one plus the length of the
conversation in days.
NumLetters The number of comment letters in the conversation.
MultiRound One if NumLetters ≥ 5 and zero otherwise.
ConfT reat One if the company requests confidential treatment, and
zero otherwise
Amendment One if NumAmend > 0 and zero otherwise.
NumAmend The number of 10-K or 10-Q amendments filed between the start
and the disclosure of the conversation.
CLReturns Size- and delistings-adjusted buy-and-hold abnormal returns
from the month after the start of the comment letter conversation to
the month of disclosure
Adverse One if Litigation or Restatement are one, and zero otherwise.
Litigation One if a securities class action lawsuit was filed on or
after the start of the conversation, and the class
period of the first or reference lawsuit overlaps with the period
referenced by the conversation, and zero
otherwise.†
Restatement One if an adverse restatement was filed between start of
the conversation and the disclosure of the
conversation, and the restatement period overlaps with the period
referenced by the conversation, and
zero otherwise.†
Lawyer and law firm characteristics
SEC One if the firm involved a lawyer formerly employed by the SEC in
a comment letter in the conversation,
and zero otherwise.
LawyerExp The number of conversations in which the lawyer was involved
over the year prior to the start of the
focal conversation.‡
LawF irmExp The number of conversations in which the law firm was
involved over the year prior to the start of the
focal conversation.‡
NumDegrees The number of degrees earned by the lawyer, truncated on
the left at two.‡
NumLawyers The number of lawyers involved in firms’ responses to the
SEC.
HSY School One if the firm referenced a lawyer who attended a
university with a top-3 law school (Harvard, Stanford,
or Yale Law School), and zero otherwise.
OtherT opSch One if the firm referenced a lawyer who attended a
university with a top-14 law school other than the
top 3, and zero otherwise.
F emale One if the firm involved a female lawyer in a comment letter,
and zero otherwise.
LawyerAge The natural logarithm of one plus the number of years
between the start of a conversation and the year
of the lawyer’s first degree.‡
This table lists the definitions for the dependent variables and
variables related to lawyer or law firm characteristics. See
Table B.2 for definitions of our comment letter and firm controls.
† The period referenced by the conversation is defined as the period
beginning with the start of the first fiscal period referenced, and
ending with the filing date of the last 10-K or 10-Q referenced.
‡ We use the maximum values of LawyerExp, LawF irmExp, NumDegrees,
and LawyerAge for conversations in
which the firm referenced more than one lawyer or law firm.
43
Table B.2: Comment letter and firm control variables
Variable Definitions
Comment letter (CL) complexity
LetterLength The natural logarithm of one plus the number of words in
the initial CL.
NumF ilings The number of filings referenced in the initial CL.
Specific issues raised by the SEC
AccIssue One if the initial CL mentions accounting rule issues, and
zero otherwise.
EventIssue One if the initial CL mentions event disclosure issues, and
zero otherwise.
MDAIssue One if the initial CL mentions MD&A disclosure issues,
and zero otherwise.
NonF itIssue One if the initial CL mentions issues not fitting
standard categories, and zero otherwise.
RegisIssue One if the initial CL mentions registration statement
issues, and zero otherwise.
RegSKIssue One if the initial CL mentions Regulation S-K issues, and
zero otherwise.
RegSXIssue One if the initial CL mentions Regulation S-X issues, and
zero otherwise.
RiskIssue One if the initial CL mentions risk factor disclosure
issues, and zero otherwise.
RefAmend One if the initial CL mentions “amend”, and zero
otherwise.
Firm characteristics
BHR The firm’s raw buy-and-hold return over the 12 months before the
start of the conversation.
BigF our One if the firm is audited by a Big 4 accounting firm
(Compustat: au is non-missing and strictly less
than 9) and zero otherwise.
BTM Common equity (ceq) divided by the market value of equity (prcc f
× csho).
Delaware One if the firm is incorporated in Delaware (incorp =
“DE”), and zero otherwise.
Domestic One if the firm is domestic (loc = “USA”), and zero
otherwise.
F irmAge Natural logarithm of one plus the public age of the firm,
defined as the time between the start of the CL
conversation and the firm’s first appearance on CRSP in years.
Growth The change in annual total revenue (?revt) divided by the
previous year’s total revenue.
P astConv One if there was another CL conversation started in the two
years prior to the focal conversation, and
zero otherwise.
P astLit One if a securities class action lawsuit was filed within the
two years prior to the start of the conversation,
and zero otherwise.
P astRes One if the firm filed a restatement within the two years
prior to the start of the conversation, and zero
otherwise.
RD R&D expense (rd) scaled by average assets (average at).
ROA Income before extraordinary items (ib) scaled by average assets
(average at).
Size The natural logarithm of the firm’s market capitalization (prcc
f × csho).
StdRet The standard deviation of the firm’s raw monthly return over
the 12 months before the first comment
letter in a conversation.
T ierT wo One if the firm is audited by a second-tier accounting firm
(au is non-missing and equal to 11, 16, 17,
or 21), and zero otherwise.
This table lists the definitions for our comment letter and firm
control variables. See Table B.1 for definitions of the
dependent variables and variables related to lawyer or law firm
characteristics.
You guys have lots of work to do. It should be a crime the amount of
time that you consume from the public with your shoddily written
rules, that are better served by existing rules, and often, no rule at
all. You are kill America through a death by a thousand cuts. Creating
rules that long outlive those who wrote them, getting heavier and
heavier. How many of your colleagues have ever tired to create
something? Do you understand how hard, this destroys competition. Are
you familiar with Stiglitz and the theory of regulatory capture?

Regulatory capture is real, and you're doing it.