On The Case

Lynn Tilton: It took ‘many tens of millions of dollars’ to beat skewed SEC system

(Reuters) - Lynn Tilton, the high-profile distressed-debt financier, is convinced that if she had been an ordinary defendant facing career-ending accusations by the Securities and Exchange Commission, she would have been railroaded by an SEC process she has called unfair and unconstitutional.

Tilton beat the SEC Wednesday, when Administrative Law Judge Carol Fox Foelak dismissed the commission’s case against her, which alleged that she misled investors in distressed debt funds in order to collect $200 million in management fees. The judge concluded that the SEC failed to prove Tilton deceived the highly sophisticated institutional investors in her funds about the finances of the troubled companies in her underlying portfolio.

Tilton told me she only won because she had the money to muster an army of lawyers from Gibson Dunn & Crutcher to nullify the SEC’s structural advantage in the case. The commission sued Tilton in an administrative proceeding, rather than an enforcement action in federal court. That meant the case against her was tried before an SEC administrative law judge rather than a federal judge, under evidentiary rules set by the SEC and not the court system.

“I spent many, many tens of millions of dollars,” Tilton said in an interview Wednesday. “Most people couldn’t wage that battle.”

And despite her vindication, Tilton said, she still considers the SEC’s administrative proceeding to have been a violation of her due process rights. “I feel truly grateful to Judge Foelak,” Tilton said. “But it doesn’t change my opinion that cases like these belong in federal court. I absolutely feel my rights were compromised.”

The SEC declined a request for comment on Tilton’s case by my colleague Nate Raymond.

Tilton, like several other SEC defendants, tried to head off the administrative proceeding by challenging its constitutionality. She and her lawyers went all the way to the U.S. Supreme Court, where they argued the process was not only unconstitutional on due process grounds but also a violation of the Appointments Clause because SEC administrative law judges receive their posts through a bureaucratic process. The Supreme Court declined to take Tilton’s case, but is expected to be asked to revisit the Appointments Clause issue, which has recently divided federal appellate courts.

Tilton lawyer Randy Mastro of Gibson Dunn said her case exemplified the due process disadvantage for defendants in administrative proceedings. His firm, he said, filed dozens of motions to obtain discovery that defense lawyers would have been entitled to see under the Federal Rules of Civil Procedure. Most were denied. Nor could Gibson Dunn lawyers depose SEC witnesses. (The SEC changed its rules in 2016 to give more discovery to defendants in administrative proceedings, but the new rules didn’t apply to discovery in Tilton’s case.)

So at Tilton’s trial, Mastro said, defense lawyers had to cross-examine SEC witnesses without any prior knowledge of what the witnesses would say or what their documents showed. One of the commission’s witnesses, for example, was a former Tilton accountant. Mastro said Tilton’s defense lawyers learned only after he testified that the SEC had paid the accountant’s firm to serve as a consultant in a different case.

Judge Foelak’s initial decision can be overturned by the SEC commissioners but Mastro and Tilton said they hope the SEC’s new leadership will have a different attitude about the propriety of using administrative proceedings to bring major enforcement cases. In the Obama administration, the SEC took full advantage of Dodd-Frank’s expansion of its power to litigate in administrative proceedings rather than in federal court. But with a new SEC chair and enforcement directions, Mastro said, “hopefully this case is a clarion call.”

Tilton resigned from the distressed debt funds under the cloud of the SEC case but still faces civil suits in Delaware Chancery Court and federal court in Manhattan by investors. She and Mastro said they expect Judge Foelak’s initial decision will persuade other courts that Tilton did nothing wrong.

Tilton told me she’s not planning to start another fund, regardless of what happens with the cases. She’s focused, she said, on her dozens of portfolio companies, whose management “stood by me.” With the SEC charges dismissed, Tilton said, she’ll be better able to refinance bank loans and prepare her portfolio’s successes for sale.

“The shadow,” she said, “has lifted.”