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UNITED STATES DISTRICT COURT
COMPLAINT Plaintiff Securities and Exchange Commission (the "Commission") alleges the following against Credit Suisse First Boston Corporation ("CSFB"): SUMMARY CSFB SHARED PROFITS FROM HOT INITIAL PUBLIC OFFERINGS ("IPOS") 1. In exchange for shares in "hot" IPOs, CSFB wrongfully extracted from certain customers a large portion of the profits those customers made by flipping their IPO stock. From at least April 1999 through June 2000, CSFB employees allocated shares of IPOs to over 100 customers who were willing to funnel between 33 and 65 percent of their profits to CSFB. The profits were channeled to CSFB in the form of excessive brokerage commissions generated by the customers in unrelated securities trades that the customers generally effected solely to satisfy CSFB's demands for a share of the IPO profits. 2. The more than 100 customers involved in the conduct alleged in this Complaint were primarily small "hedge funds," private equity funds, and wealthy individuals (the "Customers"). The profit-sharing activity was pervasive in such Customer accounts serviced by CSFB's Institutional Sales Trading Desk, Private Client Services (PCS) Group and Technology PCS Group ("Tech PCS"). The Customers were a small segment of the more than 2400 accounts to which CSFB allocated IPO stock as lead managing underwriter during the relevant time; in no IPO were such Customers allocated more than 10 percent of the IPO stock. Nonetheless, IPO trading was so profitable during this period that the Customers funneled tens of millions of dollars in profits to CSFB through improper commission payments. NATURE OF THE PROCEEDINGS AND THE RELIEF SOUGHT 3. The Commission brings this action pursuant to authority conferred upon it by Sections 21(d) and 21(f) of the Securities Exchange Act of 1934 ("Exchange Act"), 15 U.S.C. §§ 78u(e) and 78u(f), to enjoin CSFB from violating provisions of the federal securities laws and the Conduct Rules of the National Association of Securities Dealers, Inc. ("NASD"). In addition, the Commission seeks other relief, including, but not limited to, disgorgement and civil penalties, and certain ancillary and further relief as is necessary and appropriate. JURISDICTION AND VENUE 4. This Court has jurisdiction over this action pursuant to Sections 21(e) and 27 of the Exchange Act, 15 U.S.C. §§ 78u(e) and 78aa. 5. Venue lies in this Court pursuant to Section 27 of the Exchange Act, 15 U.S.C. § 78aa. STATUTES AND RULES ALLEGED TO HAVE BEEN VIOLATED 6. CSFB has engaged in, and unless enjoined, will continue to engage, directly or indirectly, in transactions, acts, practices, and courses of business that constitute violations of Rules 2110 and 2330 of the NASD Rules of Conduct, and Section 17(a) of the Exchange Act, 15 U.S.C. § 78q(a), and Rule 17a-3(a)(6) thereunder, 17 C.F.R. § 240.17a-3(a)(6). DEFENDANT 7. Credit Suisse First Boston Corporation is a broker-dealer registered with the Commission pursuant to Section 15 of the Exchange Act, 15 U.S.C. § 78o. CSFB's principal offices are located at 11 Madison Avenue, New York, New York 10010. CSFB provides the full range of services offered by a multi-purpose investment bank, including securities underwriting, sales and trading, and investment banking. CSFB has 15 branch offices in the United States. The majority of the conduct described herein occurred in the New York, Boston, and San Francisco offices. FACTS The Initial Public Offering Process at CSFB 8. An IPO is the first public issuance of stock from a company that has not previously been publicly traded. A "hot" IPO is one in which the stock immediately trades at a premium in the aftermarket. 9. During the period of 1999 through 2000, three business units within CSFB had primary responsibility for IPOs: the Global Investment Banking Division ("IBD"), the Equities Division, and the Global Equity Capital Markets Department ("ECM"). 10. IBD typically assumed overall responsibility for an IPO from the initial engagement through the registration, marketing and pricing of the securities offered. 11. ECM was responsible for executing the distribution of an issuer's securities, including overseeing the allocation of an issuer's shares. ECM included the Syndicate Desk, which made allocation decisions for institutional accounts. 12. The Equity Sales Department provided brokerage services to CSFB's customers, including access to CSFB-led offerings. CSFB's equity sales force included research sales people who provided CSFB's research to institutional accounts and marketed IPOs to them; institutional sales traders, who serviced institutional accounts; PCS representatives, who serviced middle market accounts; and Tech PCS representatives, who serviced middle market clients of CSFB's technology group, among other clients. CSFB's Allocation Process 13. During the relevant time period, apart from the conduct alleged in this Complaint, CSFB regularly relied on the following criteria, among others, to make allocation decisions in IPOs: the level of business an account had done with the firm, the long or short term interest of an account in an issuer, the size of an account's anticipated long term investment, an account's track record of investment in similar issues, an account's apparent interest in the issuer as evidenced by attendance at roadshows, the account's assets under management, and the existing or potential business relationship between an account and CSFB. 14. CSFB accounts that received IPO allocations fell into two categories: institutional accounts and retail accounts. Institutional accounts ran the gamut from large mutual funds to small hedge funds and private equity funds. During the relevant time period, middle market accounts serviced by the PCS and Tech PCS group were considered retail accounts. These accounts were comprised primarily of small institutions, private equity funds, and high net worth individuals. 15. In CSFB lead-managed IPOs, more than 70% of the shares offered were typically allocated to institutional accounts from the so-called "institutional pot." During the relevant time period, the Syndicate Desk was responsible for allocating shares to institutional accounts. Institutional sales traders and research sales persons relayed information regarding their accounts' indications of interest in a particular IPO to the Syndicate Desk. 16. The PCS and Tech PCS groups were allotted specific percentages of offerings to distribute to covered accounts pursuant to understandings reached between and among ECM, PCS and Tech PCS. In PCS, managers then gave account representatives blocks of stock to allocate among their clients. Tech PCS employees allocated their shares to individual trading accounts and discretionary accounts managed by the Tech PCS group. PCS typically received 5% or less of the offering to allocate and distribute; Tech PCS typically received 3% or less to allocate and distribute. CSFB's Profit-Sharing Practices 17. Among the reasons that investors sought to obtain IPO stock during the relevant period was the large profit to be earned by "flipping" the shares if the IPO was successful. That is, some investors hoped to realize quick profits by selling the shares in the immediate aftermarket if the IPO traded at a premium to its offering price. 18. During 1999 and 2000, CSFB capitalized on the unprecedented growth in the new issue market and in the demand for shares in IPOs by using the IPO product to gain additional profits from certain of its smaller, less powerful Customers. 19. Employees of CSFB's ECM, PCS, and Tech PCS divisions informed Customers, both implicitly and explicitly, that they were expected to pay a portion of profits earned on their IPO flipping to CSFB in order to continue to receive allocations in "hot" IPOs. 20. Customers that refused to funnel a portion of their profits to CSFB received smaller allocations, and in some instances were denied allocations altogether. Most Customers, however, paid CSFB willingly, because of the huge profits to be made by flipping their allocations. 21. To maximize commission payments to CSFB, the Customers paid excessive commissions on off-setting trades in large capitalization, highly liquid, exchange-listed securities otherwise unrelated to the IPOs. CSFB employees sometimes assisted certain of the Customers in effecting these off-setting trades. 22. The sole purpose of this trading activity was to generate commissions for CSFB. Customers frequently executed one side of the trade with CSFB (e.g., a purchase at a commission as high as $3.15 per share) and then virtually simultaneously executed the off-setting side of the trade through another broker-dealer (e.g., a sale of the same quantity of the same stock) at the standard commission of $.06 per share. 23. On a number of occasions, both sides of the off-setting trades were executed at CSFB. 24. Although the off-setting purchases and sales were executed at similar prices, payment of significant commissions frequently resulted in net losses to the Customers. Because the trades were executed close in time, however, the transactions were not subject to significant market risk. 25. In order to eliminate any market risks associated with a change in price, some of the Customers often executed off-setting trades utilizing market-on-open or market-on-close trades. In some instances, CSFB employees suggested securities in which the Customers could execute such market-on-open or market-on-close orders. CSFB Kept Close Watch on Customer Profits 26. CSFB generated documents designed to keep track of the profits such Customers would have earned by selling their allocations at specific times. For example, CSFB generated a document entitled the New Issue Performance Report, which measured the hypothetical profits a Customer would have generated on all CSFB products at various intervals after their purchase, as well as the commissions the Customer had paid to CSFB. 27. Certain institutional sales traders and research sales persons used information contained in the New Issue Performance Report to urge Customers to increase their payments to CSFB in exchange for IPO allocations. In some instances, CSFB personnel told Customers that they should maintain a 3:1 ratio of IPO profit to secondary business. 28. The Tech PCS group generated numerous spreadsheets showing the assumed profits Customers would have earned by selling their IPO allocations on the first day of trading, and comparing the assumed profits to secondary commissions paid to CSFB. The spreadsheets also calculated the percentage of profits earned versus secondary commissions paid to CSFB on a year-to-date basis. CSFB Managers and Employees Actively Participated In Profit-Sharing Practices 29. Each of the CSFB business units that participated in the IPO allocation process engaged in explicit and implicit policies and practices to obtain improper payments from Customers in exchange for allocations in hot IPOs. Participation in this conduct extended to senior levels of these business units and was widespread within the relevant business units. 30. Senior executives in managerial and supervisory roles:
31. The practices described in this Complaint were not isolated occurrences. Rather, these practices were a fundamental part of the manner in which CSFB dealt with a small but significant portion of its customer base. The prevalence of these practices is reflected in numerous e-mail messages and other communications, such as those set forth below. 32. On November 10, 1999 the head of one business unit told the head of another business unit "we should feed [Customers] they are paying us 35% on deal day." 33. One of these business unit heads characterized allocations as "free money" for the Customers. Employees in this business unit were given information from the New Issue Performance Report and advised when ratios of IPO profit to secondary business for certain Customers were too high. Employees were directed to tell Customers with high ratios that they needed to increase their business to bring the ratio down. 34. This business unit head told one of his employees that market-on-open orders were used by certain Customers to generate commissions to obtain IPO allocations. He said that market-on-open orders allow Customers to minimize risk while increasing the commissions paid to CSFB. 35. A senior manager described one Customer as being on "the 4 to 1 plan which is generous. This should be really easy and painless. . . . [Customer] simply needs to be told what we have made him vs. what he has paid us. . . . ." In a subsequent e-mail, another senior manager asked "what did he pay us in Jan secondary and how much did he make." 36. CSFB sales traders told Customers that they were expected to pay for IPO stock. For example, one sales trader told a Customer "okay we got another screaming deal and I weasled you guys some stock we've yet to see any leverage out of your guys for the free dough-re-me does it make sense for me . . . to continue to feed your guys with deal stock or should I take the stock to someone who will pay us direct for the allocation." 37. In at least one instance, a CSFB employee directed the flipping activity in a Customer's account in order to ensure that the Customer paid an appropriate amount of its profits to CSFB. The Customer had complained to the employee that he was receiving small IPO allocations. The employee told the Customer that the Customer was not paying back a sufficient amount of profits to CSFB. The employee stated that CSFB expected Customers to pay one-third of their profits back in commissions in return for allocations. Because the Customer believed CSFB was overestimating his profits, he directed the employee to sell the IPO shares for him and retain one-third of the profits in commissions. The employee agreed. Thereafter, the employee sold the Customer's IPO shares. The employee and Customer engaged in telephone conversations at the end of the trading day to finalize the commissions to be placed on trades to reach the one-third level. 38. The Customer subsequently stopped receiving IPO allocations. Upon asking the employee the reason, the Customer was told that he was required to return fifty percent of his trading profits to receive allocations. The Customer refused and did not receive any further allocations. 39. In another business unit, a senior manager asked customers to place $.50 per share commissions or "put 2%" on trades when Customers had done well in an IPO. The same senior manager regularly called his best Customer to suggest large capitalization, liquid securities for the Customer to trade in order to generate commissions to pay to CSFB. 40. In another instance, an employee in this business unit told a Customer to return from vacation to generate sufficient profits to pay to CSFB in order to receive allocations in upcoming IPOs. The same employee often called the same customer in advance of hot IPOs and said he wanted 50% of the Customer's profit in order to receive IPO allocations in those particular deals. 41. In another business unit, Customers were specifically told that they were expected to pay back fifty percent of their profits to CSFB in order to receive IPO allocations. 42. Employees in this business unit called their Customers on at least a monthly basis and told them that CSFB expected them to pay fifty percent of their IPO profits to CSFB. This business unit aggressively enforced the fifty percent requirement, which was later increased to sixty-five percent. Customers that refused to increase their payments to CSFB were cut off from IPO allocations. 43. For example, on February 10, 2000 a CSFB sales trader in this business unit informed a senior salesman in the unit that the sales trader had spoken to a Customer and "told him that he was very far behind on his commissions and that we expect a 65% return on all money that we make him. I said that he still owes us for the LNUX deal not to mention the deals that have come since then. I then stated that he can do trades to increase his commissions but he will be further cut off from any syndicate in the future." The senior salesman responded "out." The sales trader responded "done." 44. Because of the profits to be made by flipping IPO shares, certain Customers created false corporate identities and often misrepresented the amount of their assets under management and the source of their wealth in order to appear to be larger, institutional accounts, worthy of receiving IPO allocations. CSFB failed to conduct due diligence regarding these Customers to verify that the information supplied on Customers' account opening forms, such as the Customer's identity and amount of assets under management, was accurate. 45. Some CSFB employees were aware of practices described in paragraph 44. For example, an employee in the PCS group told one of his Customers to open a second account using a new corporate identity. The Customer already received allocations through the Institutional Sales Group but opened a second account in order to receive allocations from the PCS group. The Payments to CSFB Were Significant 46. Customers generally paid commissions of five to six cents per share for transactions executed at CSFB. In order to funnel IPO profits to CSFB, the Customers placed a wide range of excessive commissions on certain trades, frequently paying 10, 20 or even 30 times a normal commission rate. The Customers also paid excessive markups and markdowns on transactions in over-the-counter securities. 47. For example, in July 1999, CSFB served as the lead underwriter for several "hot" IPOs including Gadzoox Networks ("Gadzoox") and MP3.com ("MP3"). 48. Gadzoox opened on July 20, 1999 and closed at a price of $74.8125, over 256 percent above its IPO price of $21. CSFB, as lead managing underwriter, distributed approximately 3.4 million shares of the 4.025 million Gadzoox shares offered. Of the 3.4 million Gadzoox shares distributed by CSFB, at least 261,025 shares were allocated to Customers that were willing to funnel a portion of their IPO profits to CSFB. 49. MP3 opened on July 21, 1999 and closed at a price of $63.3125, over 126 percent above its IPO price of $28. CSFB distributed 7.2 million of the 10.35 million MP3 shares offered through underwriters. Of the 7.2 million MP3 shares distributed by CSFB, at least 520,170 shares were allocated to Customers that were willing to funnel a portion of their IPO trading profits to CSFB. 50. In order funnel profits to CSFB, the Customers that had received allocations of shares in these two IPOs engaged in large transactions in highly liquid large capitalization securities at excessive commission rates. For example, over the three-day period of July 19, 1999 through July 21, 1999, one of the PCS Customers that had received a 4,000 share allocation of Gadzoox and a 10,000 share allocation of MP3 from CSFB paid CSFB at least $425,700 by making the following trades:
51. Similarly, on July 19, 1999 a Tech PCS Customer that had received a 2,500 share allocation of Gadzoox and a 5,500 share allocation of MP3 from CSFB paid at least $124,000 to CSFB by engaging in the following transactions:
52. Another PCS Customer that had received a 1,500 share allocation of Gadzoox and a 5,700 share allocation of MP3 from CSFB paid CSFB at least $183,750 by engaging in the following transactions:
53. Another Tech PCS Customer that had received a 2,000 share allocation of Gadzoox and a 5,000 share allocation of MP3 from CSFB paid CSFB at least $187,875 by engaging in the following transactions:
54. Some of the most dramatic instances of improper profit-sharing occurred in connection with the VA Linux Systems, Inc. ("Linux") IPO. CSFB, as lead underwriter, distributed approximately 4.1 million shares of the 5.060 million shares offered through underwriters. The Linux IPO was priced at $30 per share. The IPO opened on December 9, 1999 and closed at a price of $239.25 per share, an unprecedented increase of over 697 percent. In order to funnel IPO profits to CSFB, Customers that received at least 405,398 shares engaged in large transactions in highly liquid large capitalization securities at excessive commission rates. 55. The El Sitio IPO also opened on December 9, 1999 and closed at a price of 33.125, 108 percent above its offering price. As lead underwriter, CSFB distributed 7.5 million shares of the 9.43 million shares distributed by underwriters. CSFB distributed at least 627,378 shares to Customers willing to funnel a portion of their profits to CSFB. 56. For example, on December 9, 1999, an Institutional Customer that had received a 13,500 share allocation of Linux and a 20,000 share allocation of El Sitio from CSFB paid CSFB $1 million by placing a commission of $.50 per share on 2 million shares of Compaq. 57. A Tech PCS Customer that had received an 8,000 share allocation of Linux and a 30,000 share allocation of El Sitio from CSFB paid CSFB at least $819,800 by engaging in the following transactions:
58. Another Institutional Customer that had received a 12,500 share allocation of Linux from CSFB paid CSFB at least $565,000 by engaging in the following transactions:
59. Another Institutional Customer that had received an 8,500 share allocation of Linux from CSFB paid CSFB at least $402,650 by engaging in the following transactions.
60. Another Institutional Customer that received a 12,500 share allocation of Linux and a 10,000 share allocation of El Sitio from CSFB paid CSFB $438,960 on December 9, 1999 and $295,600 on December 10. This Customer paid commissions as high as $3 per share and executed its off-setting trades at CSFB. On December 9, the Customer bought 38,000 shares of IBM at a price of 113 and paid a commission of $2.85 per share. On the same day, the Customers sold 36,000 shares of IBM at a price of 119.54 and paid a commission of $3 per share. On December 10, the Customer bought 25,000 shares of Time Warner at a price of 67.5 and paid a commission of $1.68 per share. On the same day, the Customer sold 25,000 shares of Time Warner at a price of $68 per share and paid a commission of $1.68 per share. 61. CSFB also shared in the profits of its Customers in connection with the two IPOs that opened on March 9, 2000, Selectica and OTG Software ("OTG"). 62. The Selectica IPO closed at a price of $141.23, over 370 percent above its offering price of $30. CSFB, as lead managing underwriter, distributed approximately 3.9 million shares of the 4.6 million Selectica shares offered. Customers who were willing to pay a portion of their profits to CSFB received at least 324,903 shares in the Selectica IPO. 63. The OTG IPO closed at $56.18, over 195 percent above its offering price of $19. As lead underwriter, CSFB distributed approximately 4.9 million of the 5.75 million OTG shares offered. Customers who were willing to pay a portion of their profits to CSFB received at least 471,312 shares in the OTG IPO. 64. An Institutional Customer that had received a 5,000 share allocation of Selectica and a 10,000 share allocation of OTG paid CSFB at least $278,600 by engaging in the following transactions:
65. Another Institutional Customer that had received a 5,000 share allocation of Selectica and a 10,000 share allocation of OTG from CSFB paid CSFB $178,000 by engaging in the following transactions:
66. A Tech PCS Customer that had received a 7,000 share allocation of Selectica and a 15,000 share allocation of OTG from CSFB paid CSFB at least $166,000 by engaging in the following transactions:
67. The payments described in paragraphs 46 through 66 are representative examples of CSFB's practices during the relevant period. 68. CSFB recorded the payments described in paragraphs 46 through 66 as commissions when, in fact, the payments were made as profit-sharing in exchange for IPO allocations. 69. The Commission understands that, simultaneously with the filing of this Complaint, CSFB is entering into a Letter of Acceptance, Waiver and Consent ("AWC") with NASD Regulation, Inc. ("NASD Regulation") arising from the same matters alleged herein. In addition to the remedies imposed in the AWC, the relief sought by the Commission pursuant to this Complaint is necessary and appropriate in the public interest and for the protection of investors, within the meaning of Section 21(f)(2) of the Exchange Act. FIRST CLAIM FOR RELIEF
70. Paragraphs 1 through 69 are realleged and incorporated herein by reference. 71. NASD Conduct Rule 2110 requires members to observe high standards of commercial honor and just and equitable principles of trade. 72. CSFB violated Rule 2110 by engaging in the conduct described in paragraphs 1 through 69 above. SECOND CLAIM FOR RELIEF
73. Paragraphs 1 through 69 are realleged and incorporated herein by reference. 74. NASD Conduct Rule 2330(f) prohibits a member or any person associated with a member from sharing directly or indirectly in the profits or losses of a customer, unless certain conditions not applicable here are met. 75. As described in paragraphs 1 through 69, from at least April 1999 through June 2000, CSFB shared directly or indirectly in the profits or losses in accounts of customers carried by CSFB, in violation of Rule 2330(f). THIRD CLAIM FOR RELIEF
76. Paragraphs 1 through 69 are realleged and incorporated herein by reference. 77. As alleged above, commencing in or about April 1999, CSFB, while it was, among other things, a broker and dealer transacting a business in securities through the medium of members of national securities exchanges and a broker and dealer registered with the Commission pursuant to Section 15 of the Exchange Act, 15 U.S.C. § 78o, failed to accurately make and keep for prescribed periods such records, furnish such copies thereof and make, disseminate and file such reports as the Commission by rule, has prescribed as necessary and appropriate in the public interest and for the protection of investors. 78. Rule 17a-3, 17 C.F.R § 240.17a-3(a)(6), requires a broker-dealer to maintain a record of each order received for the purchase and sale of a security that includes the terms and conditions, including, but not limited to, the commission, mark-up, or mark-down associated with such order. 79. As described above, CSFB failed to reflect accurately the terms and conditions of its orders because it failed to record that the commissions, markups and markdowns paid by certain Customers were profit-sharing in exchange for IPO allocations. 80. By reason of the foregoing, CSFB directly and indirectly violated, and unless enjoined will again violate, Section 17(a) of the Exchange Act, 15 U.S.C. § 78q(a), and Rule 17a-3(a)(6) thereunder, 17 C.F.R. § 240.17a-3(a)(6). RELIEF SOUGHT WHEREFORE, plaintiff Commission respectfully requests that this Court enter judgment: 1. permanently restraining and enjoining CSFB, directly or indirectly, from violating Rules 2110 and 2330 of the NASD Conduct Rules and Section 17(a) Exchange Act, 15 U.S.C. § 78q and Rule 17a-3, 17 C.F.R § 240.17a-3 thereunder; 2. directing CSFB to disgorge the ill-gotten gains obtained from its conduct, plus prejudgment interest thereon; 3. requiring CSFB to pay a civil penalty pursuant to Section 21(d) of the Exchange Act, 15 U.S.C. § 78u(d); 4. issue an order requiring CSFB to institute policies and procedures to prevent the violations described herein from occurring in the future and retain an independent consultant to audit CSFB's allocation procedures; 5. granting such other and further relief as the Court may deem just and proper; and 6. retaining jurisdiction of this action in order to implement and carry out the terms of any Orders which may be entered herein.
All attorneys listed are covered by LCvR 83.2(e) as attorneys employed by an agency of the United States. http://www.sec.gov/litigation/complaints/complr17327.htm
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