The Dodd-Frank Act: A \'Nip and Tuck\' Approach to Credit Rating Agency Liability

$Page 1: The Dodd-Frank Act: A \'Nip and Tuck\' Approach to Credit Rating Agency Liability$
The Dodd-Frank Act: A “Nip and Tuck” Approach

to Credit Rating Agency Liability

Wendy CoutureThe Dodd-Frank Wall Street Reform & Consumer Protection Act

SymposiumGonzaga University School of Law

November 4, 2011

Increases liability exposure

Nullifies SEC Rule

436(g)

Excludes CRA

statements from § 21E safe harbor

Excepts CRAs from PSLRA’s scienter pleading standard

Stalemate Strawman So what?

Financial Crisis Inquiry Commission Report, Conclusions, p.xxv“We conclude the failures of credit rating agencies were essential cogs in the wheel of financial destruction. The three credit rating agencies were key enablers of the financial meltdown...”


Dodd-Frank Act § 931(5) Findings• “In the recent financial crisis, the ratings on structured financial products have proven to be inaccurate.” • “This inaccuracy contributed significantly to the mismanagement of risks by financial institutions and investors, which in turn adversely impacted the health of the economy in the United States and around the world.” • “Such inaccuracy necessitates increased accountability on the part of credit rating agencies.”

CRAs

Creates Office of

Credit Ratings

Addresses conflicts of

interest

Reduces reliance on

credit ratings

Requires CRAs to consider info from

non-issuers

Prevents issuers from

“shopping” for ratingIncreases

liability exposure

§ 11 of the Securities Act – Civil Liability on Account of False

Registration Statement

Imposes strict liability for material misrepresentations in the registration statement on the following parties:

• every signatory• every director of issuer• every expert who gives consent to be named as having prepared or certified expertised portion• every underwriter with respect to security

*Potential due diligence defense available to non-issuers.

§ 10(b) of the Securities Exchange Act –

Manipulative and Deceptive Devices

Imposes liability for material misrepresentations in connection with the purchase or sale of any security. The key elements of a claim are:

• materiality• falsity• scienter• reliance• loss causation


Nullifies SEC Rule

436(g)

Excludes CRA



Stalemate

Nullifies SEC Rule

436(g)

§ 11 of the Securities Act – Civil Liability on Account of False Registration Statement



Nullifies SEC Rule

436(g)




Rule 436(g) – NRSRO credit ratings “shall not be considered a part of the registration statement prepared or certified by a person within the meaning of §§ 7 and 11 of the Act.”

Nullifies SEC Rule

436(g)





Dodd-Frank § 939G – “Rule 436(g) . . . shall have no effect.”

X

Nullifies SEC Rule

436(g)






XNRSROs are withholding their consent!

Nullifies SEC Rule

436(g)






XNRSROs are withholding their consent!

• SEC No-Action Letter granting open-ended reprieve to asset-backed issuers• H.R. 1539 – Asset-Backed Market Stabilization Act of 2011


Nullifies SEC Rule

436(g)

Excludes CRA



Stalemate Strawman

Excludes CRA statements from § 21E safe harbor

§ 10(b) of the Securities Exchange Act – Manipulative and Deceptive Devices







Sec. 21E – Statutory safe harbor for issuers and persons “acting on behalf of” such issuers from liability for “forward-looking statements,” if identified as such and accompanied by meaningful cautionary language.





Sec. 21E – Statutory safe harbor for issuers and persons “acting on behalf of” such issuers from liability for “forward-looking statements,” if identified as such and accompanied by meaningful cautionary language.X





Sec. 21E – Statutory safe harbor for issuers and persons “acting on behalf of” such issuers from liability for “forward-looking statements,” if identified as such and accompanied by meaningful cautionary language.X

Not excluded from § 27A safe harbor in Securities Act!


Nullifies SEC Rule

436(g)

Excludes CRA




Excepts CRAs from PSLRA’s

scienter pleading standard


Imposes liability for material misrepresentations in connection with the purchase or sale of any security. The key elements of a claim are:• materiality, falsity, scienter, reliance, loss causation





PSLRA – requires a plaintiff who is seeking money damages in a private action to “state with particularity facts giving rise to a strong inference that the defendant acted with the required state of mind”






Dodd-Frank Act §933(b)(2)(B): “In the case of an action for money damages brought against a credit rating agency or a controlling person under this title, it shall be sufficient, for purposes of pleading any required state of mind in relation to such action, that the complaint state with particularity facts giving rise to a strong inference that the credit rating agency knowingly or recklessly failed –(i) to conduct a reasonable investigation of the rated security with respect to the factual elements relied upon by its own methodology for evaluating credit risk; or(ii) to obtain reasonable verification of such factual elements (which verification may be based on a sampling technique that does not amount to an audit) from other sources that the credit rating agency considered to be competent and that were independent of the issuer and underwriter.”

X






Dodd-Frank Act §933(b)(2)(B) – lower scienter pleading standard

X







XPSLRA – still must plead falsity with particularity







XPSLRA – still must plead falsity with particularity

Case law – in order for an opinion to be false for purposes of securities fraud, it must be both disbelieved by its maker (subjectively false) and objectively unreasonable (objectively unreasonable).


Nullifies SEC Rule

436(g)

Excludes CRA



A “Nip and Tuck” Approach to Credit Rating Agency Liability


Documents

The Dodd-Frank Act: A \'Nip and Tuck\' Approach to Credit Rating Agency Liability