Valuable SEC Information

1. The D.I. Mailbox^TM Alerted Me to An Undisclosed SEC Investigation - Now What?

   The fact that we are alerting you to an undisclosed SEC investigation (either potential or confirmed) can be startling. It can be the sign of something serious. On the other hand, as our experience has found, it can also mean very little. So how do you know?

   You can’t – at least not with the kind of precision you and we might like. But look at it this way. All things being equal, wouldn’t you rather know that a company has this risk? We think so.

   Understanding the process that led to you receiving the alert will hopefully help you in using this tool in your investing process. With that in mind, the topics below were written to provide you with background information so our alerts are as useful to you as possible.

2. Our Process for Finding Undisclosed SEC Investigations and Issuing an Alert.

   We file about 2,500 Freedom of Information Act (FOIA) requests per year with the SEC looking for companies that have SEC investigative exposure. We started doing so back in 2000 when we were known as SEC Insight. The years of experience we garnered as SEC Insight, along with input from our expert legal counsel, taught us what we share with you now.

   In response to our requests, the SEC sends a variety of data points in black-and-white on government letterhead. However, the SEC will typically give us one of the following responses:

   1. We can be told that no records exist for the period covered by our request. This suggests to us that the company we are researching posed no SEC investigative risk for the period covered by our request.
   2. The SEC can block our access to records through assertion of either a law enforcement exemption or, separately, what is referred to as a Glomar exemption wherein the government refuses to even confirm or deny the existence of any records responsive to our request. This suggests to us that the company we are researching has SEC investigative risk.
   3. The SEC can respond to an administrative appeal we filed. In doing so, we are often told that there is a confirmed investigation. We are also told that our access to records is still blocked under the law enforcement exemption of the FOIA.
   4. We can be told that there was an investigation in the past, but it is now over. If we previously alerted clients to a potential or confirmed undisclosed SEC probe, we will make sure to update them on this new information.
   5. Rarely, we can be told our access to records was blocked in error. If we previously alerted clients to a potential or confirmed undisclosed SEC probe, we will make sure to update them on this new information.

   Most of the time, the responses we receive suggest the company in question does not have investigative exposure. In other cases, when the SEC denies our access to records on law enforcement grounds, it is clear to us the company is involved in some way with an SEC investigation. We then search a company’s SEC filings to make sure that it has not already disclosed the SEC investigation. If we can’t find a disclosure, that triggers us to send you an alert.

3. What’s the difference between a possible undisclosed and a confirmed undisclosed SEC investigation?

   Without getting into the intricacies of the FOIA, it’s pretty simple. We refer to a possible undisclosed SEC investigation when our initial request on a company is blocked on law enforcement grounds. If we are initially blocked, we then file an administrative appeal. The language in the appeal response tends to be more precise. Therefore, we give an appeal response a higher level of certainty than an initial response by referring to it as a confirmed undisclosed SEC investigation.

4. Now that I received an alert, what am I supposed to do?

   First of all, don’t panic! Look at it this way. All things being equal, aren’t you better off knowing that this risk exists? We think so. After all, investing is all about risk and reward.

   Additionally, if we have a D.I. Report® on the company, and you have a meaningful exposure, you most definitely need to read that report. In our experience, many of the risk factors that are included in a D.I. Report® are triggers for SEC investigative activity. Our report will look at those risk factors in the context of an undisclosed SEC investigative risk and try to provide some context to the alert.

   Keep this in mind though. When the SEC blocks our access to records under the law enforcement exemption, it is typically based upon the existence of an SEC investigation. However, unless a company has already disclosed the nature of its involvement in a SEC investigation, the responses we receive from the SEC relating to the investigative activity do not mean that a company is the subject of an SEC investigation. When we are blocked under the law enforcement exemption of the Freedom of Information Act, it indicates a risk for SEC investigative activity. That SEC investigative risk represents a range of possibilities from low concern to greatest concern.

   Here are some examples representative of the range of risk:

   • Low Concern: A third party unaffiliated with the company is being investigated for insider trading. The SEC will block us, but the investigation really has nothing to do with the company or its management.
   • Greater Concern: The SEC has started an informal investigation over allegations that a company bribed a foreign government official to get business.
   • Greatest Concern: The SEC has commenced a formal investigation of a company’s management for using fraudulent revenue recognition to inflate earnings.

   As an established practice, we generally encourage clients with an interest to directly contact any company on which we report either a potential or a confirmed undisclosed SEC investigation. Your goal is as follows:

   1. To make a reasoned assessment regarding the possibility that there either does/does not exist an SEC Division of Enforcement inquiry somehow related to the company, or
   2. To see if the company otherwise has information to help understand why the SEC would give us a response that suggests a potential or confirmed probe.

   If you are a full service subscriber, feel free to call us. We can help you interpret a specific disclosure and guide you on the types of questions to ask. (As a gentle but firm reminder, only full service subscribers may access our analysts. Those only registered to receive the D.I. Mailbox™ or who purchase individual reports will not be granted access.)

5. How the SEC Conducts its Investigations.

   An SEC investigation is a fact-finding inquiry. It does not necessarily mean that a public company, or anybody for that matter, has done anything wrong. Innocent until proven guilty, right? Indeed, when the SEC sends out a request for information in an investigation, it advises the recipient of the request that an investigation does not mean that anyone has broken the law or that the SEC has a negative opinion of any person, entity, or security.

   Be careful. The above summarizes the boilerplate language the SEC uses when informing a party of a probe. Public companies often put that out there. In the absence of substantive facts, it can provide great filler for those pesky press releases and EDGAR filings used to announce a company’s involvement in SEC investigative activity. With that in mind, never forget the following

   People experienced with SEC investigations tell us that the SEC generally will not commence an investigation without having a real concern that someone has engaged in wrongdoing. The SEC has limited resources and does not initiate investigations lightly.

   The SEC conducts investigations in two ways, formally and informally. Enron’s investigation started out as informal but quickly became formal. A formal investigation is one where the SEC uses its subpoena power to compel the production of documents and witnesses. An informal investigation relies on the cooperation of the persons from whom information is sought. Whether an investigation is described as formal or informal, the implications may be serious. Both kinds of investigations can lead to so-called "enforcement proceedings." Both kinds of investigations can also lead to no action at all.

   Unlike SEC investigations, SEC enforcement actions are public. The SEC initiates two basic kinds of enforcement proceedings: Lawsuits filed in federal courts and administrative proceedings initially heard by an administrative law judge and ultimately decided by the SEC Commissioners themselves. Although both kinds of proceedings are civil proceedings, not criminal actions, the consequences of SEC enforcement actions can be quite severe. Among other things, the SEC can seek and obtain substantial fines, force companies to restate their financial statements and to change their accounting practices in significant ways. The SEC can also seek to bar persons from serving as officers or directors of public companies and thus can have a serious impact on a company's management.