Heard Off the Street: Securities and Exchange Commission targets municipal cases

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The alleged masterminds behind insider trading schemes are not the only ones being targeted by the Securities and Exchange Commission.

This month, lawyers from the agency filed civil charges against the city of Miami and its former budget director, accusing them of making false and misleading statements related to three 2009 municipal bond offerings that raised $153.5 million.

It was the third time in as many months that the SEC took on cases involving municipal bond offerings. In May, the agency charged the city of Harrisburg with securities fraud in connection with about $260 million in debt the state capital guaranteed for an ill-fated municipal trash incinerator project.

SEC officials said the city failed to submit an annual financial report and audited financial information to the group that maintains the disclosure documents municipal bond investors rely on. Moreover, the city omitted information and made misleading statements in the city budget and other documents investors turned to because of the absence of the required disclosures, the agency said.

Two weeks later, the SEC accused the city of South Miami, Fla., of misleading investors about the tax-exempt status of about $12 million in bonds issued in connection with a retail and parking complex.

"It's a signal the SEC is serious about policing municipal securities markets," said attorney Mary P. Hansen, a former assistant director of the SEC's enforcement division who now works in the Philadelphia office of Drinker Biddle & Reath.

The three cases, as well as one settled earlier this year that accused the state of Illinois of misleading investors about state funding of pension liabilities, should put municipal bond issuers on alert about honoring their disclosure obligations, Ms. Hansen said.

The tax-exempt nature of municipal bonds makes them popular among investors trying to manage their tax liabilities. However, the market is not as regulated as the market for stocks, whose issuers are subject to a more comprehensive system of disclosure requirements.

That has prompted complaints from investors like the holders of municipal bonds West Penn Allegheny Health System issued through Allegheny County's Hospital Development Authority. Last year, bondholders did not learn that Highmark had requested the hospital to file for bankruptcy before the insurer took over the region's second largest health system until one month after the insurer made the request. A recent U.S. Government Accountability Office report concluded that municipal bond investors have major complaints about the timeliness, frequency and completeness of the information they receive.

Disclosure has improved since 2009, when the Municipal Securities Rulemaking Board, a privately funded group authorized by Congress to police the municipal bond market, established an online system allowing investors to view financial and other information provided by bond issuers. MSRB said the number of monthly disclosures has increased in all but one month since the system was launched in July 2009.

The regulations require issuers to provide what is called an official statement, a detailed description of the offering that is the basis for investors deciding whether to invest. Before the bonds can be sold, the issuer has to sign an agreement requiring it to provide annual financial information, including audited financial statements, as well as operating data. They are also obligated to report 14 types of special circumstances, including ratings changes or being late in principal and interest payments.

The Harrisburg case marked the first time the SEC sanctioned an issuer after looking beyond those required disclosures. That came nearly 20 years after the SEC warned issuers that information outside of the required disclosures that is "reasonably expected" to reach investors is subject to the antifraud provisions of the regulations, said John M. McNally, a lawyer with Hawkins, Delafield & Wood in Washington, D.C.

Harrisburg and South Miami agreed to a negotiated settlement of the charges by promising to abide by disclosure requirements in the future. South Miami agreed to hire an independent consultant to review its disclosure policies and said it will abide by the consultant's recommendations.

This month, the SEC took Miami to federal court, alleging that the city violated a 2003 cease-and-desist order based on similar shortcomings. The SEC said it is the first time it accused a municipality subject to such an agreement of additional violations.

"The fact that a city official would enable these false and misleading disclosures to investors merely a few years after Miami had been reprimanded by the SEC for similar misconduct makes this repeat behavior all the more appalling and unacceptable," said George S. Canellos, codirector of the agency's enforcement division.

Detroit's bankruptcy has focused the attention of taxpayers on the tenuous finances of many states and municipalities. Likewise, the SEC is taking a harder look at the disclosures government officials make about their bond offerings, an initiative municipal bond issuers should respect, Ms. Hansen said.

"Municipalities need to take these obligations seriously," she said.

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Len Boselovic: lboselovic@post-gazette.com or 412-263-1941.


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