SEC’s Self-Reporting Program to Correct Misstatements Regarding Continuing Disclosure Compliance Set to Expire on September 10, 2014


The Securities and Exchange Commission’s Municipalities Continuing Disclosure Cooperation Initiative provides an opportunity for municipal bond issuers, borrowers and underwriters to correct misstatements in offering documents regarding an issuer or borrower’s compliance with its continuing disclosure obligations. Those entities that self-report violations before the program closes will face defined and favorable settlement terms, which include no monetary penalties for municipal issuers and borrowers. The SEC has indicated that it will likely seek financial sanctions against issuers and borrowers that do not self-report and are later found to be in violation of SEC rules. The self-reporting program expires at 12:00 a.m. on September 10, 2014.

In the first quarter of 2014, the Securities and Exchange Commission (“SEC”) announced a voluntary self-reporting program that permits municipal bond issuers, obligated persons (such as 501(c)(3) borrowers of municipal bonds) and underwriters to report to the SEC any instances in which misstatements have been made in final official statements regarding compliance with continuing disclosure obligations. Generally, as part of a publicly offered municipal bond issue, the issuer or obligated person covenants to provide periodic financial information to investors, as well as notice of certain events (such as rating changes or bond defaults). Further, in connection with municipal bond offerings, the issuer or obligated person is required to disclose in the final official statement any instances in which the issuer or obligated person has failed to comply in all material respects with a previous undertaking to provide continuing disclosure to investors.  

The SEC has indicated that it has significant concerns that many issuers and obligated persons have not complied with their obligations to file continuing disclosure documents and that false statements in official statements in the past five years regarding such compliance may be widespread. For instance, in 2013, the SEC charged a school district in Indiana and its underwriter with falsely stating to bond investors that the school district had properly complied with its continuing disclosure obligations, when in fact, the school district had not filed its annual financial information as required over the course of several years.  

In order to address its concerns, the SEC has launched its Municipalities Continuing Disclosure Cooperation Initiative (the “MCDC Initiative”). The MCDC Initiative allows issuers or obligated persons (referred to collectively hereinafter as “issuers”) who have made materially inaccurate statements in an official statement regarding prior compliance with their continuing disclosure obligations to enter into favorable settlement terms with the SEC. For issuers, the settlement involves no monetary penalty. Municipal bond underwriters are also permitted to report transactions that they have underwritten that contain misstatements regarding continuing disclosure compliance. While underwriters that self-report do face financial penalties, no underwriter will be required to pay more than $500,000 total in civil penalties under the MCDC Initiative.

If you have participated in a publicly offered municipal bond issuance in the past five years, you should review the official statement(s) for those bonds to determine if the description of your prior compliance with continuing disclosure undertakings was factually accurate. If not, you should consider, along with your counsel, whether participation in the MCDC Initiative presents your organization with an opportunity to correct the past securities law violation on favorable terms. Misstatements in offering documents for bonds issued more than five years ago are outside the scope of the MCDC Initiative, as a five year statute of limitations applies to SEC enforcement actions seeking financial penalties, running from the time the alleged violation occurs.
To participate in the MCDC Initiative, issuers and underwriters are required to complete a questionnaire prepared by the SEC. The issuer or underwriter will need to identify the municipal bond offering that may contain a materially inaccurate statement regarding compliance with prior continuing disclosure obligations. The SEC also requires the issuer or underwriter to identify the other members of the working group, including bond counsel, underwriter’s counsel and disclosure counsel (if any).       

Issuers and underwriters who do not self-report face the risk of remedies beyond those described in the MCDC Initiative if faced with an SEC enforcement action. For issuers, the SEC had indicated it will likely recommend and seek financial penalties. For underwriters, the SEC has indicated it will likely recommend and seek financial sanctions in amounts greater than those available pursuant to the MCDC Initiative. While it is expected that an underwriter or issuer would contact its counterparty prior to reporting a violation involving the sale of the issuer’s securities, notification is not required, and there exists the possibility that only one party will participate in the MCDC Initiative, in the process alerting the SEC to a potential violation by the other party and exposing the other party to more significant penalties.