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Securities and Exchange Commission v. Securities Investor Protection Corporation

February 9, 2012


The opinion of the court was delivered by: Robert L. Wilkins United States District Judge


This case was commenced by an Application of the Securities and Exchange Commission ("SEC"). (Dkt. No. 1). The SEC seeks an order from this Court mandating that the Securities Investor Protection Corporation ("SIPC") file an application for a protective decree with the United States District Court for the Northern District of Texas (the "Texas federal court"). If filed, the SIPC application would seek to commence a liquidation proceeding in the Texas federal court pursuant to Section 5(a)(3) of the Securities Investor Protection Act ("SIPA"), 15 U.S.C. § 78eee(a)(3).

In support of its Application, the SEC has filed an Ex Parte*fn1 Motion for an Order to Show Cause why SIPC should not be ordered to file an application in the Texas federal court with respect to the Stanford Group Company. (Dkt. No. 2). SIPC, in turn, has filed a Motion to Strike the Ex Parte Motion for an Order to Show Cause. (Dkt. No. 3). SIPC also requests that this Court convene a case management conference pursuant to FED. R. CIV. P. 16. Id. This matter is before the Court for resolution of the SEC Motion for an Order to Show Cause and the SIPC Motion to Strike.


This case is an outgrowth of the 2009 collapse of a group of companies owned or controlled by Robert Allen Stanford. Stanford allegedly sold more than $7 billion worth of certificates of deposit ("CDs") that were issued by the Stanford International Bank, Ltd. ("SIBL"), an Antiguan bank. The CDs were marketed by the Stanford Group Company ("SGC"), a now-defunct broker-dealer that was registered with the SEC and that was a member of SIPC. The SEC contends that Stanford actually misappropriated billions of dollars and operated a fraudulent "Ponzi scheme" in which obligations of the CDs were paid using the proceeds from the sale of new CDs rather than from earnings, liquid assets or reserves. Following an investigation, the SEC brought a civil enforcement action against Stanford and his entities in the Texas federal court. Federal prosecutors have also brought criminal charges against Stanford in that court. The Texas federal court has appointed a Receiver to oversee the assets of SGC and other Stanford entities. The Receiver reports that, as of February 2009, SGC had approximately 32,000 active accounts for which it acted as the introducing broker.

In early 2009, the Receiver asked SIPC to review whether the SGC customers who were allegedly defrauded were entitled to protection from SIPC. When Congress passed the SIPA, it sought to protect customers of failed broker-dealers who "found their cash and securities on deposit either dissipated or tied up in lengthy bankruptcy proceedings," leading to "disastrous effects on customer assets and investor confidence . . . ." SIPC v. Barbour, 421 U.S. 412, 415 (1975). Congress created SIPC, a non-profit, private membership corporation to which most broker-dealers registered with the SEC, including SGC, are required to join. Id. at 416. SIPC members pay assessments, and when SIPC member firms encounter financial difficulties, SIPC has the authority to commence a "liquidation proceeding, applicable only to member firms, designed to accomplish the completion of open transactions and the speedy return of most customer property." Id. Such a liquidation proceeding is commenced by SIPC filing an "application for a protective decree" in the United States District Court. 15 U.S.C. § 78eee(a)(3)(A). If the court issues the decree, the court must appoint a trustee*fn2 and order the removal of the liquidation proceeding to bankruptcy court. 15 U.S.C. § 78eee(b)(4). Once the trustee is appointed, customers of the SIPC member firm can file claims against the SIPA estate, and "[t]o the extent that the ratable distribution of customer property is insufficient to return to customers all cash and securities owed to them on a net basis, SIPA also provides for advances by SIPC to the trustee, within statutorily specified limits, to allow for additional relief to customers." 1 ALAN N. RESNICK & HENRY J. SOMMER, COLLIER ON BANKRUPTCY ¶ 12.02[1][a] at 12-9 (16th ed. 2011). The trustee would then evaluate each claim, and the claimant could appeal a denial of payment by the trustee to the bankruptcy court, and either the trustee or the claimant could appeal the ruling of the bankruptcy court, and so on. Id. at ¶¶ 12.11-12.16.

In this case, SIPC has declined to file an application for a protective decree for the SGC customers in the Texas federal court -- the court which would have jurisdiction over the liquidation proceeding. SIPC has apparently concluded that the SGC customers are not covered by the statute because, among other grounds, SGC did not perform a custody function for the customers who purchased the SIBL CDs. (Dkt. No. 3 at 2-3). According to SIPC, the SEC shared this conclusion from sometime in 2009 until June 2011 when the SEC "abruptly reversed course." Id. at 3. This timing allegedly corresponds with a threat of a United States Senator to interfere with the confirmations of two SEC commissioners unless the SEC revisited the issue of SIPC protection for the SGC customers. Id. On June 15, 2011, the SEC delivered a formal analysis to SIPC ("SEC Analysis") arguing that SGC "has failed to meet its obligations to customers," that the SGC customers were in need of the protections of the SIPA, and that SIPC should seek to commence a liquidation proceeding. Id. at 3; Dkt. No. 1-3 at 2. SIPC has advised the SEC that it has considered the SEC Analysis, that it disagrees with the SEC, and that it will not seek to commence a liquidation proceeding.

The SIPA gives the SEC authority to seek to compel SIPC to file an application for a protective decree when the SEC believes that SIPC is failing to discharge its obligations under the statute. As set forth in the statute:

In the event of the refusal of SIPC to commit its funds or otherwise to act for the protection of customers of any member of SIPC, the Commission may apply to the district court of the United States in which the principal office of SIPC is located for an order requiring SIPC to discharge its obligations under this chapter and for such other relief as the court may deem appropriate to carry out the purposes of this chapter. 15 U.S.C. § 78ggg(b). By its application to this Court, the SEC seeks to exert this statutory authority over SIPC. Both the SEC and SIPC advise the Court that this is the first instance in the 42 years since SIPA was enacted that the SEC has filed such an application. Thus, this is a matter of first impression.


At this stage, the primary dispute between the parties revolves around how this matter should be characterized and how it should proceed. The SEC contends that because the statute states that "the Commission may apply to the district court" for an order, the Commission need only file an application and that a formal complaint and summons pursuant to Rules 3 and 4 of the Federal Rules of Civil Procedure are not required. The SEC further states that discovery is neither necessary nor appropriate, because the only issues before this Court are:

(1) whether the Commission in fact has determined that SGC, a SIPC member, has failed or is in danger of failing to meet its obligations to customers; (2) whether one or more of the other statutory conditions required for a protective decree are met; and (3) whether SIPA Section 11(b) authorizes the Court to order SIPC to file an application for a protective decree in the Texas Court.

(Dkt. No. 2 at 4). Indeed, the SEC contends that its "preliminary determination that SGC has failed or in danger of failing to meet its obligations to customers is not subject to judicial review by this Court." Id. By its Motion for an Order to Show Cause, the SEC requests that this Court order SIPC to respond to the Application, and that, following such response, the Court conduct a summary proceeding to determine whether the Application should be granted.

SIPC, on the other hand, contends that the statutory language in SIPA does not require the Court to conduct a summary proceeding. SIPC argues that the SEC should file a formal complaint, that the parties should be allowed to conduct discovery, and that this matter should proceed as a normal civil action pursuant to the Federal Rules of Civil Procedure. (Dkt. No. 12 at 18-22). SIPC argues that the SEC's interpretation of SIPA is not entitled to deference by this Court and that the statutory language does not support the contention that the SEC's preliminary determination that SGC has failed to meet its obligations to its customers is unreviewable by this Court. (Dkt. No. 3 at 5). SIPC maintains that the SEC is seeking improperly to shift the burden onto SIPC and to evade review because the SEC cannot show that SGC's customers meet the statutory requirements necessary to obtain the protections conveyed by a SIPC liquidation proceeding. (Dkt. No. 12 at 6-7). SIPC argues that tens of ...

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