Pomerantz Achieves Corporate Governance Reform at Troubled State Street
POMERANTZ MONITOR | JANUARY FEBRUARY 2022
State Street Corporation is an American financial services and bank holding company headquartered in Boston, Massachusetts. It is the second-oldest United States bank, with operations worldwide and trillions of dollars of assets under management.
However, over the course of many years, State Street was encumbered with numerous high-profile problems. In 2015, State Street disclosed that for nearly twenty years, it had incorrectly invoiced clients for out-of-pocket expenses (expenses billed as the actual cost State Street was incurring). While the company paid back more than $370 million to customers, its reputation took a substantial hit. In January 2016, the SEC announced that State Street Bank and Trust Company (“SSBT”), a wholly owned subsidiary of State Street, had paid $12 million to settle claims that a senior vice president of SSBT’s public funds group caused State Street to enter into improper lobbying agreements to facilitate SSBT’s ability to obtain custody services contracts with state pension funds. The SEC also alleged that the senior vice president and an outside lawyer for State Street made and facilitated improper political campaign contributions, contrary to SSBT’s Standards of Conduct for employees, for the same purpose.
In April 2016, two former State Street executives were charged with defrauding State Street clients through undisclosed commissions applied to billions of dollars in securities trades. According to the U.S. indictment, the executives and others illegally conspired (from at least February 2010 to September 2011) to add more than $20 million in secret commissions to fixed income and equity trades performed for at least six of State Street’s institutional clients. One executive pled guilty and the other was convicted in a jury trial for conspiracy, securities fraud, and wire fraud. State Street ultimately paid $64.6 million to resolve civil and criminal investigations related to the allegations. Finally, in July 2016, State Street announced that it would pay $530 million to resolve regulatory and class action claims that it misled certain custody clients related to how the company priced indirect foreign exchange trades.
All in all, these issues caused State Street to pay over $1.2 billion in reimbursement and penalties, harming not only the company itself, but State Street’s many shareholders. To vindicate its shareholders’ rights, Pomerantz, on behalf of two of its clients (State Street shareholders) sent a letter to State Street’s Board of Directors demanding that it undertake an independent internal investigation concerning: (i) the overbilling of clients; (ii) the payment of $12 million to settle charges that the company devised a pay-to-play scheme with respect to Ohio pension funds; (iii) undisclosed commissions applied to billions of dollars in securities trades; and (iv) the $530 million settlement with regulators and public pension funds to resolve foreign exchange fraud claims.
As alleged in the complaint that was eventually filed by Pomerantz on behalf of State Street shareholders, despite the demand letter, the company’s then Board of Directors failed to take any meaningful action towards resolving the weaknesses in its corporate governance that led to the numerous issues outlined above. After a three-year investigatory process, however, the plaintiffs and State Street were able to reach a settlement agreement that required the company to implement and maintain a comprehensive collection of corporate governance and internal control reforms. The reforms included the following:
First, State Street’s Board of Directors was required to revise its corporate governance guidelines to specify that it would be explicitly responsible for overseeing management’s assessment of the adequacy and effectiveness of internal controls, ensuring, in no uncertain terms, a compliance oversight function at the Board level. The importance of the Board’s oversight function cannot be overstated. Creating a compliance oversight function at the board level is extremely important because it elevates the compliance function, separate and apart from management. The targeted language added to the Board’s guidelines will remedy the responsibility gap at State Street and help prevent the recurrence of problems that were previously overlooked, such as overbilling and overcharging State Street clients for out-of-pocket expenses.
Second, the settlement required State Street to develop, implement, and assess a “culture training program” specifically for newly hired employees. The culture training program was designed to promote high ethical standards at the company, create awareness of the risks of unethical business conduct not only for individual employees, but for State Street as an institution, and more generally to prevent the recurrence of employee misconduct that caused the company to pay millions of dollars in penalties, fines, and restitution. Finally, the settlement required State Street to maintain a large suite of policies and procedures, thirty-eight in total, on a wide variety of fronts and in potentially high-risk areas, including billing, contracts, anti-fraud policies, marketing, ethics, and client invoicing. The settlement binds the company to keep these policies and procedures in place for three years, which will considerably strengthen State Street’s internal controls, compliance with state and federal laws, promote appropriate business conduct, and force cultural changes that will persist into the future.
Overall, the corporate governance reforms specified within the settlement were designed to reduce the risk of the recurrence of issues such as those alleged within the plaintiffs’ complaint, and they positioned the company to profit from the long-term benefits of strong corporate governance. Considering the substantial benefits provided to State Street and its shareholders via the settlement, Pomerantz’s clients, and all State Street shareholders, expect that the company’s worst days are behind it.