WASHINGTON, April 27 (Thomson Reuters Accelus) - Being violation-free alone does not guarantee that a public company or registered entity will not face the wrath of the U.S. Securities and Exchange Commission Division of Enforcement, its director, Robert Khuzami, told Thomson Reuters Tuesday.

"We have charged firms for having compliance failures even where there were no underlying violations. We want to send a message that businesses have to have controls in place in order to prevent fraud. Preventing wrongdoing in the first place is much better than after-the-fact enforcement, which more often than not is not going to fully compensate investors for the harm they have suffered," Khuzami said in an interview.

Khuzami pointed to a $22 million settlement with Goldman Sachs earlier this month for lacking controls over the dissemination of material non-public information through "huddles" between its analysts and traders and selected customers. The SEC, in coordination with the Financial Industry Regulatory Authority, the self-regulatory organization for broker-dealers, filed the action even though there was no actual charge of insider trading.

Khuzami, a native of Rochester, New York, graduated magna cum laude from the University of Rochester in 1979 and went on to receive his law degree from Boston University four years later. Before coming to the SEC, he headed up the Securities and Commodities Fraud Task Force of the U.S. Attorney's Office for the Southern District of New York and was on the legal team that prosecuted Omar Abdel-Rahman, the mastermind of the 1993 World Trade Center bombing. He also oversaw Americas-based litigation and regulatory enforcement for Deutsche Bank.

Here are insights into a variety of areas Khuzami addressed during a conversation in his office:

TR: You have contended that letting companies pay a fine without admitting or denying a violation raises the amount of money the agency collects for investors. In cases such as the one the SEC brought against Citigroup, judges like Manhattan U.S. District Judge Jed Rakoff said this policy may not serve the public interest. How do such rulings influence the way your office settles cases? Will you offer these terms less often? Will you modify this approach, or use other tools more often instead? 

Khuzami: While we listen to all the commentators, as well as the judges, we have not changed our "neither admit nor deny" policy except in one narrow set of circumstances. I note first that the Second Circuit Court of Appeals recently issued an opinion which strongly suggested that Judge Rakoff erred in declining to approve the Citigroup settlement. Beyond that, it is my view and that of my predecessors that "neither admit nor deny" reflects a wise policy choice. We only settle cases where we obtain what we reasonably could expect to get if we prevailed at trial, taking into account the strength and weaknesses of the evidence. Without "not admit or deny," many fewer defendants would settle due to the civil and criminal consequences of admitting wrongdoing. Thus, with this policy we are able to get relief to harmed investors today, without waiting years for a trial and verdict, and without the risk that we would lose at trial and get nothing for investors or win and get less in an award than we were offered in settlement.

Perhaps most importantly, we are able to use the resources we save to fight other frauds and return money to other harmed investors. Virtually every other civil enforcement agency uses "neither admit nor deny" or some formulation of it.

The only change we have made since Judge Rakoff's ruling is that when a company has been found guilty in a criminal trial, the admission of guilt must be made in a civil settlement with us.

TR: The SEC recently announced a sweep of the private equity sector. Are you noticing glaring compliance weaknesses in private equity? Do you envision enforcement cases coming out of the recent sweep? 

Khuzami: The recent sweeps focused less on compliance and more on so-called "zombie" funds where managers may be sitting on portfolio holdings, but not liquidating them in order not to cut off their management fees. With hedge funds in general, we have looked at compliance issues along with valuation, conflicts of interest and excessive fees.

TR: How has the quality and type of whistleblower tips differed since bounties were offered than before they were established by the Dodd-Frank Act? 

Khuzami: Anecdotally, the quality of tips has increased with more detail and greater supporting documentation. This may be explained by the fact that a greater percentage of tipsters are hiring lawyers to help them.

In large measure due to the publicity about the whistleblower program generated by Dodd-Frank, we're seeing tips across a wider range of subject areas - financial disclosure, Foreign Corrupt Practices Act, broker-dealer conduct, to name a few - and we are receiving tips from around the nation and many foreign countries. What we are not getting is an avalanche of frivolous and non-securities law related matters such as human resources and workplace claims that critics of the bounties said we would get.

TR: On Sunday, the New York Times reported that Wal-Mart hid results from the SEC and the Justice Department of an investigation it did into a massive bribery operation by company officials in Mexico. How satisfied are you generally with the cooperation your division is receiving from businesses on FCPA and other enforcement areas? 

Khuzami: I cannot comment on the Wal-Mart case specifically. What I can say in general is that many companies cooperate fully and take all the steps necessary to provide meaningful cooperation, but there are instances where companies do not act in a cooperative manner and do not get the benefits cooperation brings. One area we are seeing a troubling trend is an overly broad assertion of attorney-client privilege for a broader category of documents than the law justifies. We are also seeing an increasing frequency of internal investigations that are not as objective and searching. These tend to be more like advocacy pieces for current management rather than reflecting what is in the best interest of the real client, the shareholders who own the company.

TR: The SEC has had great success in a series of insider-trading cases unfolding in the Southern District of New York. Is the SEC taking a new "joint-task force" approach to securities enforcement and working more closely with the FBI and DOJ now than it was before your arrival? 

Khuzami: This cooperation isn't anything new. We have a long and successful partnership with criminal authorities across the country. In fact, the U.S. Attorney's Office in Manhattan has had a securities and commodities fraud task force in place since 1964. But criminal authorities are coming to us more recently, in part because financial crisis misconduct is a high priority for them, and because we now have even more specialized expertise, in the units and throughout the division, where they can get answers to specific questions about specific market practices.

TR: You mention the specialized units. One of the first things you did when you came on board two years ago was to set up five of them. Have they been an effective way to organize the Enforcement Division and if so how? 

Khuzami: The specialized units have proven to be highly effective because they have allowed staff to become focused and smarter about products, markets and transactions. People in our specialized units are better equipped to detect wrongdoing earlier because they are talking to experts, getting specific training, reading literature and doing multiple cases involving the same products, markets and transactions. If you don't need to educate yourself on the basics of every new case, you can get right to the heart of the conduct you are targeting. Even outside the specialized units, there are numerous initiatives based on specialized expertise and focus.

SEC staffers are applying the expertise developed in one case to other similarly situated institutions to see if they are involved in the same misconduct. We are also doing "deep dives" on certain institutions and practices, learning about companies, reading public filings, following blogs and news, and looking at stock price movements to see if there are any "red flags."

TR: How confident are you there is not a Madoff-size scam in operation as we speak where the SEC was warned of its presence as was the case with Madoff? 

Khuzami: No system is foolproof, especially when an agency gets the number of complaints that we do, but the SEC is in a far better position to detect a massive fraud than it was before the Madoff revelations.

The challenge then was that we were getting tips and complaints from many different forms - phone calls, emails, postcards, etc. - and they were coming into multiple portals within the agency. Now, with our new Office of Market Intelligence, we have centralized the process, such that all of the complaints are coming into a central intake point.

We are also standardizing the information in a tip into a structured format, which permits us to create a searchable database. We also have dedicated staff conducting first-level reviews of these tips, so that we can more easily risk-weight, triage, assign and monitor them in an efficient and more thorough process. It's a huge improvement in the complaint review process.

TR: How much longer do you plan to stay on the job?  

 Khuzami: I have one of the best law enforcement jobs in the country and I am thrilled to come to work every day.

Robert Khuzami is Director of the Division of Enforcement of the U.S. Securities and Exchange Commission. From 2002 through 2009, Khuzami served as General Counsel for the Americas for Deutsche Bank AG, and before that as the Bank's Global Head of Litigation and Regulatory Investigations. From 1990 through 2002, Khuzami was a federal prosecutor with the United States Attorney's Office for the Southern District of New York.

(Reporting by Ted Knutson)

This article first appeared in Compliance Complete, a Thomson Reuters Accelus service. 

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