Treating Individuals Like Corporations—But In a Good Way: SEC’s First Deferred Prosecution Agreement With an Individual

Since January 2010, corporations facing SEC investigations had one big advantage over individuals: they could seek a deferred prosecution agreement.

DPAs allow companies that committed wrongdoing to avoid prosecution, most often by undertaking significant compliance efforts, or engaging a corporate monitor, for a period of time. If the company does nothing else wrong and follows the DPA’s requirements, then the government’s investigation ends and any claims filed were dismissed.

According to the SEC’s press release, DPAs

encourage individuals and companies to provide the SEC with forthcoming information about misconduct and assist with a subsequent investigation. In return, the SEC refrains from prosecuting cooperators for their own violations if they comply with certain undertakings.

For the first time, the SEC has entered into a DPA with an individual defendant. This potentially changes the landscape of options for counsel advising individual defendants in SEC investigations and may encourage additional whistleblowers to come forward.

The Facts

Scott Herckis was an administrator for a hedge fund named Heppelwhite Fund LP. The fund was funded and managed by Berton Hochfeld. Heppelwhite was no SAC Capital. Its total assets were about $6 million.

According to the DPA’s statement of facts, Mr. Hochfeld paid Mr. Herckis, a CPA, $4000 per month to be the fund administrator. Over time, Mr. Hochfeld instructed Mr. Herckis to withdraw funds from Heppelwhite’s accounts and transfer them “from the Fund to accounts owned or controlled by Hochfeld.”

Mr. Herckis eventually realized that these transfers led to a negative balance in Heppelwhite’s accounts. The amounts transferred equaled more than $1.5 million. In the DPA, Mr. Herckis admitted that he “knew, or was reckless in not knowing, that these transfers were improper.”

Not only did Mr. Herckis assist in the fraud by making the transfers, but he also knowingly (or recklessly) provided “materially overstated” account statements to investors.

After an outside consultant was unable to resolve growing discrepancies in Heppelwhite’s net asset value, Mr. Herckis resigned from Heppelwhite and “contacted government authorities.”

The DPA does give Mr. Herckis credit for his action in reporting Mr. Hochfeld:

Herckis voluntarily provided immediate and complete cooperation in the resulting SEC investigation, including producing voluminous documents and helping SEC staff understand how Hochfeld was able to perpetrate his fraud.

As a result of Mr. Herckis’ cooperation, the SEC obtained an emergency order to freeze more than $6 million in assets of the fund, Mr. Hochfeld personally and an entity owned by Mr. Hochfeld. This money will be distributed to defrauded fund investors.

Mr. Hochfeld eventually pleaded guilty to securities and wire fraud in January 2013 and entered into a consent judgment with the SEC.

DPA Terms

Under the DPA, Mr. Herckis is prohibited from violating federal and state securities laws—a standard provision. More important, he’s prohibited for five years from associating with “any broker, dealer, investment advisor, municipal securities dealer, municipal advisor, transfer agent or nationally recognized statistical ratings organization.” He also cannot work for an advisory board, investment advisor or investment company.

There are also certain defined undertakings in the DPA. He has to tell the SEC if he’s questioned, charged or convicted by any federal, state or local law enforcement agency; or if he faces any disciplinary action by a self-regulatory organization or licensing board.

This is a five-year DPA—in effect until November 2018.

Mr. Herckis also must pay $48,000 in disgorgement to the fund that is being used to compensate Heppelwhite investors.

Assuming Mr. Herckis complies, the SEC “agrees not to bring any enforcement action or proceeding against [him] arising from the Investigation.”

Outcome

This DPA opens a very important door for SEC enforcement lawyers. It is no longer an all-or-nothing approach with the SEC. For defendants who voluntarily report wrongdoing but are wrongdoers themselves, it’s now possible to avoid prosecution.

Combined with the SEC’s whistleblower program, the possibility of DPAs is unquestionably an effort by the SEC to encourage more individuals and companies to report wrongdoing. It will be interesting to see if this leads to a “race to the SEC” by wrongdoers eager to report others.

I have to offer a special congratulations to Bridget Moore of Baker Botts LLP for negotiating this DPA for her client. I know Bridget well and this is but one of many examples of her amazing legal skills.

This entry was posted in Deferred Prosecution Agreement, Investor fraud, SEC Settlement, Securities fraud and tagged . Bookmark the permalink.

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