Gray Fin. Grp., Inc. v. Sec. & Exch. Comm'n

• Decision Date: 04 August 2015
• Docket Number: CIVIL ACTION NO. 1:15–CV–0492–LMM
• Citation: 166 F.Supp.3d 1335
• Parties: Gray Financial Group, Inc., et al., Plaintiffs, v. Securities and Exchange Commission, Defendant.
• Court: U.S. District Court — Northern District of Georgia

166 F.Supp.3d 1335

Gray Financial Group, Inc., et al., Plaintiffs,

v.Securities and Exchange Commission, Defendant.

CIVIL ACTION NO. 1:15–CV–0492–LMM

United States District Court, N.D. Georgia, Atlanta Division.

Signed August 4, 2015

Kathryn S. Gostinger, Michael James King, Terry Robert Weiss, Ernest L. Greer, Greenberg Traurig, LLP, Atlanta, GA, for Plaintiffs.

Adam A. Grogg, Justin M. Sandberg, Matthew J. Berns, Steven A. Myers, Jean Lin, United States Department of Justice, Washington, DC, for Defendant.

ORDER

LEIGH MARTIN MAY, UNITED STATES DISTRICT JUDGE

This case comes before the Court on Plaintiffs Gray Financial Group, Inc. (“Gray Financial”), Laurence O. Gray, and Robert C. Hubbard, IV's Motion for Preliminary Injunction [41]. On June 3, 2015, Plaintiffs filed their Second Amended Complaint, seeking to (1) declare the SEC's appointment and removal processes for its Administrative Law Judges (“ALJ”) unconstitutional, and (2) enjoin Plaintiffs' administrative proceeding. The Court heard oral argument on July 13, 2015. After a review of the record and due consideration, Plaintiffs' Motion [41] is GRANTED for the following reasons:

I. Background¹

Plaintiff Gray Financial is an investment advisory group which is registered with the Securities and Exchange Commission (“SEC”), Georgia, and Michigan. 2d Am. Compl., Dkt. No. [28] ¶ 14. Gray Financial provides consulting services on a non-discretionary basis to public and private pension plans, including: assisting pension boards with preparation, monitoring, and annual review of investment guidelines; conducting searches, due diligence, and presentations by investment money managers; and monitoring investment performance and providing a performance analysis. Id. ¶ 15. Plaintiff Lawrence O. Gray is the founder and principal of Gray Financial, and Plaintiff Robert C. Hubbard is its Co–Chief Executive Officer. Id. ¶¶ 11–12.

Relevant here, Gray Financial, as a part of its investment services, offered Georgia pension plans an opportunity to invest in a “fund of funds alternative investment,” known as Fund II. Id. ¶¶ 20–22. While Plaintiffs claim that there have been no indication of client losses due to Fund II investments, the SEC alerted Plaintiffs in August 2013 that it was investigating whether Plaintiffs' Fund II complied with the Georgia Public Retirement Systems Investment Authority Law (“Georgia Pension Law”), O.C.G.A. § 47–20–87. Id. ¶ 23.

On May 21, 2015, the SEC served Plaintiffs with an Order Instituting Cease–and–Desist Proceedings (“OIP”), which initiated the SEC's administrative enforcement action against Plaintiffs. Id. ¶ 29; OIP, Dkt. No. [41–3]. The SEC alleges Plaintiffs have violated Sections 17(a), 17(a)(1), and 17(a)(3) of the Securities Act, Section 10(b) of the Exchange Act and Rules 10b–5(a) and (c) thereunder, and Sections 206(1), 206(2), and 206(4) of the Investment Advisors Act and Rule 206(4)–8(a)(1) and (2) thereunder by offering Fund II to Georgia clients, as that fund allegedly did not comply with the Georgia Pension Law. OIP, Dkt. No. [41–3] at 7.

A. SEC Administrative Process

The Exchange Act authorizes the SEC to initiate enforcement actions against “any person” suspected of violating the Act and gives the SEC the sole discretion to decide whether to bring an enforcement action in federal court or an administrative proceeding. See 15 U.S.C. §§ 78u(d), 78u–1, 78u–2, 78u–3. The Administrative Procedure Act (“APA”), 5 U.S.C. § 500, et seq., authorizes executive agencies, such as the SEC, to conduct administrative proceedings before an Administrative Law Judge (“ALJ”). SEC administrative proceedings vary greatly from federal court actions.

The SEC's Rules of Practice, 17 C.F.R. § 201.100, et seq., provide that the SEC “shall” preside over all administrative proceedings whether by the Commissioners handling the matter themselves or delegating the case to an ALJ; there is no right to a jury trial. 17 C.F.R. § 201.110. When an ALJ is selected by the SEC to preside—as was done by the SEC in Plaintiffs' case—the ALJ is selected by the Chief Administrative Law Judge. Id. The ALJ then presides over the matter (including the evidentiary hearing) and issues the initial decision. 17 C.F.R. § 201.360(a)(1). However, the SEC may on its own motion or at the request of a party order interlocutory review of any matter during the ALJ proceeding; “[p]etitions by parties for interlocutory review are disfavored,” though. 17 C.F.R. § 201.400(a).

The initial decision can be appealed by either the respondent or the SEC's Division of Enforcement, 17 C.F.R. § 201.410, or the SEC can review the matter “on its own initiative.” 17 C.F.R. § 201.411(c). A decision is not final until the SEC issues it. If there is no appeal and the SEC elects not to review an initial order, the ALJ's decision is “deemed the action of the Commission,” 15 U.S.C. § 78d–1(c), and the SEC issues an order making the ALJ's initial order final. 17 C.F.R. § 201.360(d)(2).

If the SEC grants review of the ALJ's initial decision, its review is essentially de novo and it can permit the submission of additional evidence. 17 C.F.R. §§ 201.411(a), 201.452. However, the SEC will accept the ALJ's “credibility finding, absent overwhelming evidence to the contrary.” In re Clawson, Exchange Act Release No. 48143, 2003 WL 21539920, at *2 (July 9, 2003) ; In re Pelosi, Securities Act Release No. 3805, 2014 WL 1247415, at *2 (Mar. 27, 2014) (“The Commission gives considerable weight to the credibility determination of a law judge since it is based on hearing the witnesses' testimony and observing their demeanor. Such determinations can be overcome only where the record contains substantial evidence for doing so.”) (footnote and internal quotation marks omitted).

If a majority of the participating Commissioners do not agree regarding the outcome, the ALJ's initial decision “shall be of no effect, and an order will be issued in accordance with this result.” 17 C.F.R. § 201.411(f). Otherwise, the SEC will issue a final order at the conclusion of its review.

If respondents such as Plaintiffs lose with the SEC, they may petition for review of the SEC's order in the federal court of appeals (either their home circuit or the D.C. Circuit). 15 U.S.C. §§ 78y(a)(1), 80a–42(a), 80b–13(a). Once the record is filed, the court of appeals then retains “exclusive” jurisdiction “to affirm or modify and enforce or to set aside the order in whole or in part.” 15 U.S.C. § 78y(a)(3). The SEC's findings of facts are “conclusive” “if supported by substantial evidence.” 15 U.S.C. § 78y(a)(4). The court of appeals may also order additional evidence to be taken before the SEC and remand the action for the SEC to conduct an additional hearing with the new evidence. 15 U.S.C. § 78y(a)(5). The SEC then files its new findings of facts based on the additional evidence with the court of appeals which will be taken as conclusive if supported by substantial evidence. Id.

B. SEC ALJs

SEC ALJs, including ALJ Elliot who presides over Plaintiffs' case, are “not hired through a process involving the approval of the individual members of the Commission.” SEC Aff., Dkt. No. [35–1] ¶ 4; see also 5 C.F.R. § 930.204 (“An agency may appoint an individual to an administrative law judge position only with prior approval of OPM, except when it makes its selection from the list of eligibles provided by OPM. An administrative law judge receives a career appointment and is exempt from the probationary period requirements under part 315 of this chapter.”). An ALJ's salary is set by statute. 5 U.S.C. § 5372.

Congress has authorized the SEC to delegate its functions to an ALJ. 15 U.S.C. §§ 78d–1(a), 80b–12. Pursuant to that authority, the SEC has promulgated regulations, which set out its ALJ's powers. 17 C.F.R. § 200.14 makes ALJs responsible for the “fair and orderly conduct of [administrative] proceedings” and gives them the authority to: “(1) Administer oaths and affirmations; (2) Issue subpoenas; (3) Rule on offers of proof; (4) Examine witnesses; (5) Regulate the course of a hearing; (6) Hold pre-hearing conferences; (7) Rule upon motions; and (8) Unless waived by the parties, prepare an initial decision containing the conclusions as to the factual and legal issues presented, and issue an appropriate order.” 17 C.F.R. § 200.14(a) ;² see also 17 C.F.R. § 200.30–9 (authorizing ALJs to make initial decisions).

The SEC's website also describes SEC ALJs in the following manner:

Administrative Law Judges are independent judicial officers who in most cases conduct hearings and rule on allegations of securities law violations initiated by the Commission's Division of Enforcement. They conduct public hearings at locations throughout the United States in a manner similar to non-jury trials in the federal district courts. Among other actions, they issue subpoenas, conduct prehearing conferences, issue defaults, and rule on motions and the admissibility of evidence. At the conclusion of the public hearing, the parties submit proposed findings of fact and conclusions of law. The Administrative Law Judge prepares an Initial Decision that includes factual findings, legal conclusions, and, where appropriate, orders relief.

...

An Administrative Law Judge may order sanctions that include suspending or revoking the registrations of registered securities, as well as the registrations of brokers, dealers, investment companies, investment advisers, municipal securities dealers, municipal advisors, transfer agents, and nationally recognized statistical rating organizations. In addition, Commission Administrative Law Judges can order disgorgement of ill-gotten gains, civil penalties, censures, and cease-and-desist orders against these entities, as well as individuals, and can suspend or bar persons from association with these entities or from participating in an offering of a penny stock.

SEC Office of Administrative Law Judges, http://www.sec.gov/alj (last visited August 3, 2015).

C. Plai...