Securities Regulation Daily Cargill to pay $10 million to settle charges for concealing swap mark-ups and supervisory failures
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Tuesday, November 7, 2017

Cargill to pay $10 million to settle charges for concealing swap mark-ups and supervisory failures

By Brad Rosen, J.D.

The CFTC issued an order simultaneously filing and settling charges against Cargill, Inc., of Minnesota, for providing mid-market marks that concealed its full mark-up on certain swaps from counterparties and its swap data repository (SDR), in violation of the Commodity Exchange Act and Commission regulations. In settling the matter, Cargill, one of the nation’s largest agribusiness concerns and a provisionally registered swap dealer since 2013, has agreed to pay a sizable monetary penalty in the amount of $10 million civil monetary penalty. Cargill has also agreed to comply with certain remedial undertakings, and cease from violating Section 4s(h)(1) of the CEA and commission regulations 23.431(a) and (d), 45.4(d)(2), and 166.3 (In the Matter of Cargill, Inc.CFTC Docket No. 18-03, November 6, 2017).

Operative facts. Specifically, the CFTC’s order in this matter found that from 2013 to the present, Cargill provided hundreds of counterparties and its SDR with inaccurate mid-market marks on thousands of complex swaps which had the effect of concealing up to ninety percent of Cargill’s mark-up. Instead, Cargill provided a mid-market mark that recognized only ten percent of its mark-up on the first day of the swap and amortized the remaining mark-up equally over the next sixty days in contravention of applicable legal requirements.

Moreover, the CFTC’s order found that Cargill concealed its full swap mark-ups because of its concern that providing accurate marks would reduce Cargill’s revenues and earnings. Cargill was also found to have failed to diligently supervise its employees in connection with the erroneous marks and the inaccurate statements made to swap counterparties.

Legislative background, legal requirements, and Cargill’s substantive violations. The Dodd-Frank Act amended the CEA to provide the Commission with authority to regulate swap dealers like Cargill, and the swap transactions that are the subject of this matter. Section 4s also imposes specific regulatory requirements for effective risk management, supervision, and transparency in swap dealing activities. This enforcement proceeding marks only the second time the CFTC has brought a case under Section 4s of the act. The only other case involving this statutory provision was brought against JPMorgan Chase Bank, N.A. in 2013 in connection with credit default swaps and the financial crisis. In that matter, the bank agreed to a $100 million penalty as part of its settlement with the commission.

Section 4s(h)(1) of the CEA required swap dealers such as Cargill to disclose to counterparties: (1) information about the material characteristics of the swap, (2) the swap dealer’s material incentives and conflicts of interest related to the swap, and (3) a daily mark of each uncleared swap transaction. Moreover, the applicable implementing regulations under Dodd-Frank provide that both the daily mark and the pre-trade mark "shall not include amounts for profit, credit reserve, hedging, funding, liquidity, or any other costs or adjustments," and that additional information about the mark be provided as that is necessary to "ensure a fair and balanced communication."

According to the Commission, Cargill fell far short on these scores. The CFTC’s order found that Cargill provided counterparties and its SDR with both pre-trade and daily mid-market marks that had the effect of concealing Cargill’s full mark-up from counterparties, in that they were calculated based on amortizing Cargill’s estimated revenue. Cargill further did not disclose to counterparties that it was employing this methodology for its marks until June 2016. As a result, Cargill’s communications with counterparties prior to June 2016 were found not to be "fair and balanced."

Failure to Supervise. The Commission also found that Cargill failed to diligently supervise its officers, employees, and agents relating to its business as a swap dealer. It noted that Cargill had no systems or procedures in place that could have prevented or corrected its inaccurate communications about pricing swaps with counterparties. Moreover, although Cargill employees were aware of problems associated with mid-market marks for complex swaps, the company took no steps to bring its marks into compliance before they were provided to counterparties or its SDR.

Director comments. The serious nature of Cargill’s violations, and the severity of the $10 million penalty, are reflected in Division of Enforcement Director James McDonald’s statement where he asserted "[t]he Commission will vigorously pursue those who undermine the fairness and integrity of our markets, as Cargill did by providing marks that concealed its full mark-up on the swaps at issue in this case. Participants in our markets are entitled to trust that information they receive from counterparties complies with governing laws and regulations," he added.

Cargill settled this matter without admitting or denying the findings and conclusions set forth in the order.

The CFTC Docket is No. 18-03.

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