PRIVILEGED AND CONFIDENTIAL ATTORNEY-CLIENT PRIVILEGE / ATTORNEY WORK PRODUCT
AUDIT COMMITTEE BRIEFING MEMORANDUM
Wells Notice Strategy Session
March 15, 2024
Prepared by:
Calderwood & Harkness LLP 425 Lexington Avenue, 30th Floor New York, NY 10017
Prepared for:
Audit Committee of the Board of Directors Belmont Ridge Bank National Association Emergency Session — March 15, 2024
Attention:
Gwendolyn Prescott, Audit Committee Chair (Independent Director)
Copies to:
Derek Sung, General Counsel / Chief Legal Officer Marcus R. Ellingham, Chief Executive Officer (at the Committee's direction)
From:
Victoria Chambers, Responsible Partner Howard Quinn, Billing Partner Jasmine Thornton, Lead Associate
Re:
SEC Division of Enforcement Investigation, File No. HO-14287 — Wells Notice Response Strategy
Matter No.: SC-MAT-2023-4172
CLASSIFICATION: FOR DISCUSSION AT MARCH 15, 2024 EMERGENCY AUDIT COMMITTEE SESSION ONLY — DO NOT DISTRIBUTE. This memorandum is a privileged attorney-client communication and constitutes attorney work product prepared in anticipation of litigation. Any disclosure of this memorandum to persons outside the attorney-client relationship, other than at the direction of the Audit Committee, may result in waiver of the applicable privileges. Recipients are directed to maintain the confidentiality of this document and to refrain from copying, forwarding, or disseminating it in any form without prior authorization from the Audit Committee Chair.
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I. Executive Summary
This memorandum has been prepared by Calderwood & Harkness LLP ("C&H") for the purpose of briefing the Audit Committee of the Board of Directors of Belmont Ridge Bank National Association ("BRB" or the "Bank") in advance of the emergency session called for March 15, 2024. The emergency session has been convened in response to the SEC Staff's Wells call on March 8, 2024, in which Branch Chief Renata Moss and Assistant Director Gregory Bonham of the Division of Enforcement's Financial Fraud Unit advised C&H that the Staff is considering recommending that the Securities and Exchange Commission bring an enforcement action against BRB.
Proposed Charges. The Staff indicated that it is considering recommending charges against BRB for violations of Sections 13(a) and 13(b)(2)(A) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and Rules 13a-1 and 12b-20 promulgated thereunder. These provisions relate to the filing of inaccurate periodic reports and the maintenance of books and records that accurately and fairly reflect the transactions and dispositions of the issuer's assets. Importantly, these are non-fraud, non-scienter-based charges.
Absence of Fraud Charges. Notably, the Staff did not indicate that it was considering recommending scienter-based fraud charges under Section 10(b) of the Exchange Act or Rule 10b-5 promulgated thereunder, nor under Section 17(a) of the Securities Act of 1933, as amended. This is a significant positive signal. The absence of fraud charges materially reduces BRB's penalty exposure and narrows the range of potential remedies available to the Commission, as discussed further in Section III below.
Core Allegation. The core of the Staff's theory is that BRB's FY 2022 Annual Report on Form 10-K (filed February 28, 2023) and its Quarterly Reports on Form 10-Q for Q1 2023 (filed May 10, 2023) and Q2 2023 (filed August 9, 2023) materially understated the allowance for credit losses ("ACL") for BRB's BridgeFin consumer lending portfolio. Specifically, the Staff's preliminary view is that the ACL for the BridgeFin portfolio should have been approximately $180.8 million (representing 4.41% of the $4.1 billion in outstanding BridgeFin loans) rather than BRB's reported ACL of $143.5 million (3.50% of the outstanding balance). This represents a potential understatement of $37.3 million.
Materiality Threshold. BRB's internally established materiality threshold, as applied to its financial statements, is 5% of pre-tax income. For the relevant periods, BRB's pre-tax income was $612 million, yielding a materiality threshold of $30.6 million. The alleged $37.3 million understatement exceeds this threshold by $6.7 million, a fact the Staff will undoubtedly emphasize. However, as discussed in Section VII, materiality is a mixed quantitative and qualitative determination, and numerous qualitative factors weigh against a finding of materiality in this case.
Key Disputed Item. The central point of contention is BRB's treatment of 12,847 re-aged or modified BridgeFin loans with an aggregate outstanding balance of $236.4 million. BRB's CECL model treated these modified loans as "current" after modification, effectively resetting the delinquency clocks for these accounts. The Staff contends that these loans should have remained in their original vintage delinquency buckets for loss-rate estimation purposes, which would have resulted in a significantly higher ACL. As set forth in greater detail below, C&H believes BRB's treatment was reasonable, supported by OCC supervisory guidance, consistent with industry practice, and within the range of acceptable accounting estimates under ASC 326.
Defense Position. BRB has a strong defense position. The Bank's CECL methodology was within the range of acceptable estimates under FASB Accounting Standards Codification Topic 326 ("ASC 326"). The Office of the Comptroller of the Currency ("OCC") concurred with BRB's approach during its concurrent supervisory assessment, and BRB's independent auditor, Whitfield Keane LLP, issued unqualified audit opinions on the relevant financial statements and has not required or recommended a restatement. Additionally, BRB proactively enhanced its BridgeFin-related disclosures in its Q3 2023 Form 10-Q, demonstrating a commitment to transparency.
Scope of This Memorandum. This memorandum is organized as follows:
(a) Risk assessment matrix, including probability-weighted analysis of potential outcomes;
(b) Litigation-cost projections under multiple scenarios;
(c) Settlement versus contest analysis;
(d) D&O insurance coverage implications and recovery projections;
(e) Recommended Wells Submission strategy, including a five-pillar defense framework; and
(f) Recommended timeline and next steps for Committee approval.
C&H respectfully requests that the Audit Committee review this memorandum in advance of the March 15, 2024 emergency session and be prepared to authorize the actions set forth in Section X below.
II. Background and Procedural History
A. Origin of the Investigation
The SEC Division of Enforcement's interest in BRB's financial reporting for the BridgeFin consumer lending portfolio first became known to the Bank on September 18, 2023, when BRB's securities reporting counsel, Caldwell Pratt & Stein LLP ("CPS") — specifically, Martin Caldwell, lead partner, 51 West 52nd Street, 24th Floor, New York, NY 10019 — received a voluntary request letter from the Staff. The request letter sought documents and information relating to BRB's ACL estimation methodology for the BridgeFin portfolio, including documents concerning loan modifications, re-aging practices, delinquency reporting, and internal communications regarding the adequacy of the ACL for the FY 2022 and first half of FY 2023 reporting periods.
Upon receipt of the voluntary request letter, CPS promptly notified BRB's General Counsel, Derek Sung, who in turn contacted C&H. Calderwood & Harkness was formally retained on September 20, 2023 as defense counsel for the SEC investigation. The engagement was authorized by the Audit Committee, and C&H's engagement letter was executed by Mr. Sung on behalf of BRB, with the Audit Committee's concurrence.
On September 29, 2023, Victoria Chambers, the responsible partner at C&H, submitted an initial response letter to Senior Staff Attorney Andrea Felton of the Division of Enforcement's Financial Fraud Unit. That letter formally entered C&H's appearance on behalf of BRB, confirmed BRB's intention to cooperate fully with the investigation, and requested that all further communications from the Staff be directed to C&H.
The Audit Committee was first briefed on the investigation at a special telephonic session on October 2, 2023. At that session, C&H provided an initial assessment of the Staff's likely areas of focus, recommended a cooperation posture, and outlined the anticipated timeline for the investigation. The Committee authorized C&H to proceed with a full cooperation strategy.
B. Formal Order and Subpoenas
On October 12, 2023, the Commission issued a Formal Order of Investigation, designated Order No. EN-2023-0947, authorizing the Staff to compel the production of documents and testimony by subpoena. The issuance of a formal order is a standard procedural step in SEC enforcement investigations and, standing alone, does not indicate that the Commission has reached any conclusions regarding potential violations. However, it did signal that the Staff intended to conduct a comprehensive investigation and was not treating the matter as a preliminary inquiry.
The following subpoenas were subsequently issued and served:
Document Subpoena: SEC Subpoena No. HO-14287-001, issued October 15, 2023, directed to BRB. The subpoena contained 47 document requests covering, among other things, BRB's CECL methodology documentation, BridgeFin loan modification policies and procedures, internal communications regarding ACL estimation, correspondence with the OCC regarding credit-loss provisioning, Audit Committee materials relating to ACL approval, and communications with Whitfield Keane LLP regarding the BridgeFin ACL.
Testimony Subpoenas:
• Patricia Navarrete (Chief Financial Officer): Subpoena issued and served November 8, 2023; testimony scheduled for and conducted on January 18, 2024.
• Naveen Chakravarti (Senior Vice President, BridgeFin Division Head): Subpoena issued and served November 15, 2023; testimony scheduled for and conducted on January 30, 2024.
• Raymond Hu (Chief Accounting Officer): Mr. Hu's testimony was arranged by agreement between C&H and the Staff, and no formal subpoena was required for his appearance. His testimony was conducted on February 14, 2024.
Each of the three witnesses was thoroughly prepared by C&H prior to their respective testimony sessions. Detailed preparation memoranda and debriefing memoranda were provided to the Audit Committee following each session, as noted below.
C. Document Production
BRB's document production was conducted in six rolling productions between November 1, 2023 and March 1, 2024. C&H engaged Crestline Technologies Analytics LLC as the e-discovery vendor for collection, processing, hosting, and review of the responsive documents. The scope of the collection included electronic communications (email, instant messages, and other electronic correspondence), shared-drive documents, financial models, spreadsheets, board and committee materials, and hardcopy documents from the offices of key custodians.
The total production encompassed 284,617 documents, comprising approximately 1.42 million pages. Documents were Bates-stamped beginning with BRB-SEC-000001 and continuing sequentially. The six productions were delivered on the following dates:
• First Production (November 1, 2023): 52,341 documents
• Second Production (November 30, 2023): 61,208 documents
• Third Production (December 22, 2023): 48,774 documents
• Fourth Production (January 26, 2024): 44,189 documents
• Fifth Production (February 16, 2024): 39,193 documents
• Sixth and Final Production (March 1, 2024): 38,912 documents
A total of 1,847 documents were withheld or redacted on the basis of privilege, including attorney-client privilege, attorney work-product doctrine, and bank-examination privilege (the last of which protects certain communications between BRB and the OCC from third-party discovery). C&H prepared and served detailed privilege logs for all withheld and redacted documents. To date, the Staff has not formally challenged any of BRB's privilege assertions, though informal discussions with Senior Staff Attorney Felton have addressed a small number of log entries.
The document production was completed as of March 1, 2024, with the filing of the sixth and final production. C&H has confirmed to the Staff that BRB's production is complete and that no additional responsive documents have been identified.
D. Investigative Testimony
As noted above, three BRB witnesses provided testimony to the Staff during the investigation. Each testimony session was conducted at the SEC's New York Regional Office, with C&H counsel in attendance on behalf of the respective witness. The key observations from each session are summarized below. Complete debrief memoranda have been previously circulated to the Audit Committee; the following is a condensed summary for purposes of this briefing.
Patricia Navarrete (CFO) — January 18, 2024. Ms. Navarrete testified for approximately five hours. The Staff's questioning, led by Senior Staff Attorney Andrea Felton and Staff Attorney Christopher Yuen, focused on (a) the process by which BRB estimated the ACL for the BridgeFin portfolio, (b) Ms. Navarrete's role in reviewing and approving the ACL for inclusion in periodic filings, (c) the basis for her Sarbanes-Oxley certifications accompanying the relevant 10-K and 10-Q filings, and (d) her understanding of BRB's re-aging treatment of modified BridgeFin loans. Ms. Navarrete's performance was, in C&H's assessment, overall favorable. She was composed, responsive, and consistent with the documentary record. She testified that the ACL estimation process was rigorous, involved multiple layers of review, and was the product of good-faith professional judgment. She did not make any material adverse admissions.
Naveen Chakravarti (SVP, BridgeFin Division Head) — January 30, 2024. Mr. Chakravarti testified for approximately four and a half hours. The Staff's questioning, again led by Felton and Yuen, focused on (a) BridgeFin's loan modification policies, (b) the criteria for determining when a delinquent loan was eligible for re-aging, (c) the reporting of credit-quality metrics upward to BRB's corporate finance and accounting functions, and (d) the BridgeFin division's internal views regarding credit risk. Mr. Chakravarti testified clearly and consistently regarding the bona fide nature of the modifications and the operational rationale for the re-aging treatment. He emphasized that BridgeFin's modification program was designed to assist borrowers experiencing temporary financial hardship and that re-aged loans were monitored for subsequent payment performance. No material adverse admissions were made.
Raymond Hu (CAO) — February 14, 2024. Mr. Hu testified for approximately six hours. The Staff Accountant assigned to the investigation, Diane Milosevic, asked detailed technical questions concerning the CECL model inputs used for the BridgeFin portfolio, including assumptions regarding probability of default, loss given default, prepayment rates, and the economic forecast scenarios embedded in the model. Ms. Milosevic also questioned Mr. Hu regarding quarterly true-up procedures, the process for incorporating qualitative overlays, and communications between BRB's accounting function and Whitfield Keane LLP (specifically, Lorraine Dupont, the audit engagement partner). Mr. Hu's testimony was technically precise and demonstrated a thorough understanding of the model and its inputs. He did not make any material adverse admissions.
In summary, the three testimony sessions did not yield any testimony that C&H views as materially adverse to BRB's position. The witnesses were well-prepared, their accounts were internally consistent, and they were consistent with the documentary record produced to the Staff.
E. The Wells Call — March 8, 2024
On March 8, 2024, Branch Chief Renata Moss and Assistant Director Gregory Bonham of the Division of Enforcement's Financial Fraud Unit placed a telephone call to Victoria Chambers and Jasmine Thornton at C&H's offices. During the call, Ms. Moss and Mr. Bonham advised counsel that the Staff was considering recommending that the Commission bring an enforcement action against BRB.
The key elements of the Wells communication were as follows:
• Subject of Proposed Action: Belmont Ridge Bank National Association (entity only). No individual officers or directors were named in the Wells communication. This is a significant fact — the Staff's decision not to pursue individuals substantially reduces the complexity and risk profile of the matter.
• Proposed Charges: Violations of Sections 13(a) and 13(b)(2)(A) of the Exchange Act, and Rules 13a-1 and 12b-20 thereunder. These are reporting and books-and-records violations; they do not require proof of scienter.
• Right to Respond: The Staff advised that BRB has the right to make a written submission (commonly referred to as a "Wells Submission") setting forth BRB's position as to why the Commission should not bring the proposed action. The Staff indicated that the Wells Submission should be filed within 30 days of the Wells call, yielding an original deadline of approximately March 29, 2024.
• Extension Request: C&H intends to request a modest extension of the Wells Submission deadline to April 5, 2024 (one additional week), to permit the finalization of the Brindoval expert report, the execution of witness declarations, and internal review by the Audit Committee. Such extension requests are routinely granted by the Staff.
Following the Wells call, C&H promptly contacted Derek Sung, who in turn notified Audit Committee Chair Gwendolyn Prescott. Ms. Prescott convened this emergency session of the Audit Committee for March 15, 2024.
III. Risk Assessment Matrix
A. Charges and Legal Standards
An understanding of the specific provisions the Staff is considering, and the legal standards applicable to each, is essential to evaluating BRB's risk exposure and formulating an appropriate response strategy.
Section 13(a) of the Exchange Act / Rule 13a-1. Section 13(a) requires issuers with securities registered under Section 12 of the Exchange Act to file periodic reports — including annual reports on Form 10-K and quarterly reports on Form 10-Q — with the Commission, and to include therein such information as the Commission prescribes. Rule 13a-1 implements this requirement with respect to annual reports. A violation of Section 13(a) and Rule 13a-1 occurs when an issuer files a report that contains a material misstatement or omission. Critically, no scienter or intent to deceive is required; courts and the Commission have applied a negligence or even strict-liability standard to Section 13(a) violations. See, e.g., SEC v. Savoy Industries, Inc., 587 F.2d 1149 (D.C. Cir. 1978); In re Pricewaterhouse, Admin. Proc. File No. 3-13163 (SEC 2010).
Section 13(b)(2)(A) of the Exchange Act. Section 13(b)(2)(A) — commonly referred to as the "books and records" provision — requires every issuer to "make and keep books, records, and accounts, which, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the issuer." Like Section 13(a), this provision does not require scienter. The "reasonable detail" and "accurately and fairly" language imports a standard of reasonableness rather than perfection, but the provision is broadly construed. The Staff's theory here would be that BRB's internal records — including its ACL calculations and the underlying loan-level data — did not accurately reflect the credit risk of the BridgeFin portfolio because the re-aging treatment obscured the true delinquency status of modified loans.
Rule 12b-20. Rule 12b-20 requires that, in addition to the information expressly required in any report filed with the Commission, there shall be added "such further material information, if any, as may be necessary to make the required statements, in the light of the circumstances under which they are made not misleading." This is an omnibus anti-omission provision that supplements the specific disclosure requirements of the periodic-report forms.
Significance of Non-Fraud Charges. The fact that the Staff is considering only non-fraud, non-scienter-based charges is of substantial importance. Fraud charges under Section 10(b) / Rule 10b-5 or Section 17(a)(1) of the Securities Act would carry significantly greater penalty exposure, including potential officer and director bars, enhanced civil monetary penalties, and greater reputational harm. The Staff's decision to limit its proposed charges to the reporting and books-and-records provisions suggests that the Staff does not believe it can establish — or has elected not to pursue — evidence of intentional or reckless misconduct by BRB or its officers. This assessment is consistent with our review of the evidence, which reveals no indication of scienter.
B. Quantitative Risk Assessment
Potential Monetary Penalties. The monetary penalty exposure in this matter depends on the nature of the relief sought by the Staff and ultimately authorized by the Commission. The principal categories of potential monetary exposure are as follows:
Cease-and-Desist Order. A cease-and-desist order under Section 21C of the Exchange Act does not carry a direct monetary penalty. However, the entry of such an order has significant reputational implications and, as discussed below, may create collateral consequences under certain SEC rules and exemptions.
Civil Monetary Penalties Under Section 21B. Section 21B of the Exchange Act authorizes the Commission to impose civil monetary penalties in administrative proceedings where a respondent has violated, or is found to have been a cause of a violation of, any provision of the Exchange Act or rules thereunder. Penalties are tiered based on the nature of the violation:
• Tier I (per violation, no fraud element): Up to approximately $223,229 per violation, as adjusted for inflation under the Federal Civil Penalties Inflation Adjustment Act. If the Staff characterizes each inaccurate filing as a separate violation, BRB's exposure at Tier I encompasses three filings (FY 2022 Form 10-K, Q1 2023 Form 10-Q, and Q2 2023 Form 10-Q), yielding an aggregate exposure of approximately $670,000 to $2 million, depending on the Staff's theory of the number of violations and the Commission's exercise of discretion within the statutory range.
• Tier II (fraud, deceit, manipulation, or deliberate or reckless disregard of a regulatory requirement): Up to approximately $1.1 million per violation, or the amount of the respondent's gross pecuniary gain as a result of the violation, whichever is greater. The Staff has not indicated it is pursuing Tier II penalties, consistent with the non-fraud charges under consideration. However, we note this tier for completeness, as it represents the potential ceiling if the Staff were to alter its charging posture.
• Tier III (substantial losses or risk of substantial losses to other persons): Up to approximately $2.2 million per violation, or the amount of the respondent's gross pecuniary gain, whichever is greater. This tier is reserved for the most egregious violations and is unlikely to be applicable here.
Disgorgement. The Staff has not articulated a disgorgement theory, and we believe any such theory would be weak. The alleged understatement of the ACL is a reserve issue — it relates to the adequacy of a balance-sheet provision, not to a direct monetary gain realized by BRB. BRB did not sell securities during the relevant period at inflated prices, nor did it avoid a quantifiable loss, as a result of the alleged understatement. Disgorgement, which is an equitable remedy designed to deprive a wrongdoer of ill-gotten gains, would be difficult for the Staff to calculate or justify in this context.
Non-Monetary Remedies. In addition to monetary penalties, the Staff could seek the following non-monetary remedies:
Cease-and-Desist Order Under Section 21C. As noted, this is the most common remedy in non-fraud reporting cases. The order would require BRB to cease and desist from committing or causing future violations of Sections 13(a) and 13(b)(2)(A) and the rules thereunder. While seemingly declaratory in nature, a cease-and-desist order creates a baseline for future enforcement — any subsequent violation could be treated as a violation of the order itself, with enhanced consequences.
Undertakings. The Staff frequently requires respondents in consent orders to agree to undertakings — specific prospective commitments designed to address the conduct at issue. Potential undertakings in this matter could include an obligation to retain an independent compliance consultant to review and report on BRB's CECL methodology and internal controls over financial reporting, enhanced disclosure protocols for the BridgeFin portfolio, or periodic reporting to the Staff regarding credit-quality metrics. The cost of an independent compliance consultant engagement typically ranges from $300,000 to $750,000 over a 12- to 18-month engagement period.
Restatement Risk. Although the Commission does not itself order a restatement of financial statements, the filing of an enforcement action finding a material misstatement could, as a practical matter, create pressure on BRB and its independent auditor to reassess the need for a restatement. To date, Whitfield Keane LLP (audit engagement partner Lorraine Dupont) has not indicated that a restatement is required, and BRB has organically increased its BridgeFin ACL in subsequent periods. However, the dynamic could change if an enforcement action were filed or a consent order entered.
C. Probability Assessment
Based on our experience with similar matters, our assessment of the evidence in this case, and our understanding of the Staff's approach, we assign the following probability-weighted likelihoods to the potential outcomes:
These probability estimates reflect our professional judgment as of the date of this memorandum and are subject to change based on developments in the matter, including the Staff's response to the Wells Submission.
D. Qualitative Risk Factors
Factors Favoring BRB
The following qualitative factors support BRB's defense and weigh in favor of a resolution favorable to the Bank:
1. No Scienter Allegation. The Staff has not indicated it is pursuing fraud charges. The absence of a scienter-based theory substantially narrows BRB's exposure and reflects the Staff's assessment — consistent with C&H's own review — that there is no evidence of intentional or reckless misconduct.
2. Reasonableness of CECL Methodology. BRB's ACL estimation for the BridgeFin portfolio was developed using a vintage-cohort approach that is widely accepted under ASC 326. The CECL framework explicitly contemplates the use of professional judgment and estimation, and there is no single "correct" ACL for any given portfolio. BRB's estimate of $143.5 million (3.50%) was within the range of reasonable estimates, and the Staff's alternative figure of $180.8 million (4.41%) represents the high end of that range, not the uniquely correct answer.
3. OCC Concurrence. The OCC, BRB's primary federal banking regulator, conducted a concurrent supervisory assessment of BRB's ACL methodology and did not identify a material deficiency. BRB maintains a satisfactory composite CAMELS rating of 2 under OCC Charter No. 24891. The absence of an adverse supervisory finding is a powerful indicator that BRB's approach was reasonable and consistent with regulatory expectations.
4. Proactive Disclosure Enhancement. BRB voluntarily enhanced its BridgeFin disclosures in its Q3 2023 Form 10-Q (filed November 9, 2023). The enhanced disclosures included vintage-level delinquency tables and expanded Management's Discussion and Analysis ("MD&A") discussion of BridgeFin credit quality. These enhancements were undertaken at BRB's initiative, before the Staff raised any specific concerns about the adequacy of BRB's disclosures.
5. Favorable Witness Testimony. As detailed in Section II.D above, the three BRB witnesses who testified in the investigation — Ms. Navarrete, Mr. Chakravarti, and Mr. Hu — performed well under questioning. Their testimony was consistent, credible, and free of material adverse admissions. The testimony supports the defense narrative that BRB's ACL estimation was the product of a rigorous, good-faith process.
6. Improving Credit Metrics. Q4 2023 credit metrics for the BridgeFin portfolio show improving trends. The 90-plus-day delinquency rate is declining, and net charge-off rates have moderated. This trajectory validates BRB's original provisioning approach and undercuts the Staff's theory that the ACL was inadequate.
7. Expert Support. Brindoval Analytic Partners (Dr. Franklin Osei, CPA, CFF) has been retained and is preparing an expert report demonstrating the reasonableness of BRB's ACL methodology. Dr. Osei's analysis supports the conclusion that BRB's $143.5 million ACL was within the range of acceptable estimates under ASC 326.
8. Unqualified Audit Opinions. Whitfield Keane LLP (PCAOB Registration No. 2847), BRB's independent auditor, issued unqualified audit opinions on BRB's FY 2021 and FY 2022 financial statements. The auditor did not identify an error in BRB's ACL estimation and has not required or recommended a restatement. The fact that a major independent accounting firm — applying PCAOB auditing standards — concluded that BRB's financial statements were presented fairly in all material respects is a significant defense point.
9. Full Cooperation. BRB cooperated fully with the investigation throughout its duration, producing nearly 1.42 million pages of documents, making three senior officers available for testimony, and responding promptly to all Staff requests. The Staff's acknowledgment of BRB's cooperation may be relevant to the exercise of its discretion.
Factors Against BRB
The following factors present risk for BRB and will likely be emphasized by the Staff:
1. Exceedance of Internal Materiality Threshold. The $37.3 million alleged understatement exceeds BRB's own internal materiality threshold of $30.6 million (5% of pre-tax income of $612 million) by $6.7 million. While the exceedance is relatively modest in absolute terms, the fact that BRB's own internal standard is exceeded provides the Staff with a quantitative anchor for its materiality argument.
2. Identifiable Methodological Practice. The re-aging of 12,847 loans ($236.4 million in outstanding balances) is an identifiable, discrete practice that the Staff can characterize as a specific methodological flaw rather than a mere difference of judgment. The Staff is likely to argue that BRB's policy of resetting delinquency clocks upon modification systematically obscured the true credit risk of the BridgeFin portfolio and resulted in a predictable understatement of the ACL.
3. Quantitatively Significant Discrepancies. The discrepancies between BRB's reported metrics and the Staff's recalculated metrics are quantitatively significant. BRB reported a net charge-off rate of 2.14%, whereas the Staff's analysis yields a rate of 3.05%. Similarly, BRB reported a 90-plus-day delinquency rate of 1.72%, compared to the Staff's recalculated rate of 2.38% (which includes re-aged loans in their original delinquency buckets). These gaps are large enough to be characterized as evidence of a systemic understatement rather than a borderline judgment call.
4. Limited Loss History. BridgeFin is a relatively new lending platform, having launched in Q3 2020 with approximately three and a half years of operating history as of the relevant reporting dates. The limited loss history makes CECL estimation inherently less reliable and increases the importance of qualitative overlays — which the Staff may argue BRB should have applied more aggressively.
5. Collateral Consequences. Even a non-fraud enforcement action carries reputational cost and may trigger collateral proceedings. Securities class-action litigation is a common follow-on to SEC enforcement actions involving financial-reporting allegations. Shareholder derivative suits asserting breach of fiduciary duty by directors and officers are also possible. Additionally, the OCC could initiate its own supervisory actions in response to a SEC enforcement action, though this is less likely given the OCC's own prior assessment.
IV. Litigation-Cost Projections
A. Scenario-Based Cost Estimates
C&H has prepared cost projections for each of the four principal scenarios identified in the Risk Assessment Matrix. These projections include external legal fees (C&H), expert fees (Brindoval Analytic Partners and potential additional experts), potential civil penalties, and undertaking compliance costs. They do not include BRB's internal costs (management time, in-house legal resources), which are significant but difficult to quantify precisely.
Scenario 1: Wells Submission Results in Termination (No Action)
In this scenario, the Wells Submission is persuasive, and the Staff recommends no enforcement action. The investigation terminates.
Remaining Legal Costs: The principal remaining costs consist of (a) preparation and filing of the Wells Submission, including drafting of the submission itself, preparation of supporting exhibits, coordination with Brindoval and BRB witnesses, and internal review; (b) finalization of the Brindoval expert report (Exhibit A); and (c) possible supplemental submissions following the Wells filing.
Estimated Additional C&H Fees: $400,000–$600,000. This estimate reflects the intensive drafting effort required for a Wells Submission of the scope contemplated (approximately 40–45 pages plus exhibits), as well as the coordination and review process with the Audit Committee and management.
Estimated Additional Brindoval Fees: $75,000–$100,000. Dr. Osei's report is substantially advanced; remaining costs relate to finalization, peer-comparison data analysis, and preparation of Exhibit B.
Total Additional Costs Under Scenario 1: $475,000–$700,000.
Cumulative C&H Fees to Date (through February 2024): Approximately $2.8 million (net of fee-cap reduction). This figure reflects approximately six months of intensive investigation work, including document review, production, testimony preparation and attendance, and ongoing strategic analysis.
Cumulative Brindoval Fees to Date: Approximately $450,000.
Scenario 2: Negotiated Settlement (Consent Order)
In this scenario, the Wells Submission does not result in termination, but BRB negotiates a consent order on favorable terms.
Additional Costs Include: All costs from Scenario 1 (Wells Submission), plus settlement negotiations with the Staff, consent-order drafting and negotiation, Commission review process, and coordination with Northcastle Mutual regarding settlement approval (as required by the D&O policy).
Estimated Additional C&H Fees Beyond Wells: $600,000–$1,200,000. Settlement negotiations typically involve multiple rounds of discussions, exchange of draft consent-order language, and resolution of specific terms regarding findings, relief, and undertakings. The range reflects uncertainty regarding the complexity and duration of the negotiation process.
Potential Civil Penalty: $500,000–$1,500,000. As discussed in Section III.B, the Staff's penalty exposure at Tier I is limited, and we would expect to negotiate the penalty toward the lower end of the range in light of BRB's cooperation and the absence of fraud.
Undertaking Compliance Costs: If the consent order requires BRB to retain an independent compliance consultant to review its CECL methodology and internal controls over financial reporting, the estimated cost of such an engagement is $300,000–$750,000 over a 12- to 18-month period. The range reflects variability in the scope of the consultant's mandate and the intensity of the review.
Total Additional Costs Under Scenario 2: $1.4 million–$3.45 million.
Scenario 3: Contested Administrative Proceeding
In this scenario, BRB declines settlement and contests the charges before an ALJ.
Scope of Work: A contested administrative proceeding involves comprehensive pre-hearing preparation, discovery (including depositions of Staff witnesses and BRB witnesses), expert reports and depositions, an ALJ hearing (typically lasting several days), post-hearing briefs, and potential review by the full Commission. The estimated timeline from institution of proceedings to initial decision is 12–24 months.
Estimated Additional C&H Fees: $3,000,000–$6,000,000. The wide range reflects uncertainty regarding the duration and complexity of the proceeding, the number of witnesses, and the possibility of a Commission-level appeal.
Estimated Expert Fees: $500,000–$1,000,000. This includes Brindoval's expanded engagement (hearing testimony, supplemental analyses) and potential retention of additional experts (e.g., an expert on banking regulatory standards and practices).
Total Additional Costs Under Scenario 3: $3.5 million–$7.0 million.
Scenario 4: Federal Court Civil Action
In this scenario, the Commission authorizes and files a civil action in federal district court.
Scope of Work: A federal court action involves all of the elements of an administrative proceeding, plus federal civil discovery (interrogatories, requests for admission, third-party discovery), motion practice (including potential summary-judgment motions), jury or bench trial, and possible appeal to a federal circuit court. The timeline is typically longer and less predictable than an administrative proceeding.
Estimated Additional C&H Fees: $4,000,000–$8,000,000.
Other Costs (Experts, E-discovery, Consultants): $750,000–$1,500,000.
Total Additional Costs Under Scenario 4: $4.75 million–$9.5 million.
B. Summary Cost Table
The following table summarizes the estimated additional costs under each scenario and calculates a probability-weighted expected value using the midpoint of each cost range and the midpoint of each probability estimate:
The probability-weighted expected additional cost of approximately $2.3 million represents the statistical midpoint of BRB's projected exposure. This figure is in addition to the approximately $3.25 million in defense costs already incurred to date. Total projected all-in costs from inception through resolution are therefore estimated at approximately $5.5 million on a probability-weighted basis, though the actual figure could be significantly higher or lower depending on the outcome.
C. Fee Arrangement Context
C&H's engagement with BRB provides for hourly billing subject to an annual fee cap of $4.5 million. At the current run rate, the cap produces an effective 19.3% reduction on gross fees. Specifically, C&H's gross fees before application of the cap reduction through February 2024 are estimated at approximately $3.5 million; after application of the cap, approximately $2.8 million has been billed to BRB.
If the matter extends significantly — as would be the case under Scenarios 3 or 4 — the fee cap would provide meaningful savings to BRB. In a contested administrative proceeding (Scenario 3), for example, gross C&H fees could reach $6.0 million or more, but the cap would limit the net amount billed to $4.5 million per year. Over a two-year proceeding, the cap could yield savings of $1.5 million or more, depending on the intensity of the work.
C&H is monitoring fee accrual carefully and will provide the Audit Committee with updated fee projections as the matter progresses.
V. Settlement Versus Contest Analysis
The question of whether to pursue a settlement or contest any charges the Commission may bring is premature at this stage — the first priority is the Wells Submission, which is aimed at persuading the Staff not to recommend any action at all. However, the Audit Committee should be prepared for the possibility that the Wells Submission does not result in termination, and should understand the considerations that would inform a settlement-versus-contest decision at that point. C&H sets forth the relevant analysis below.
A. Arguments for Contesting (Declining Settlement / Proceeding to Litigate if Necessary)
Several factors support a strategy of contesting the charges if settlement cannot be reached on acceptable terms:
Strong Substantive Defenses. As detailed in Section VII below, BRB has strong substantive defenses rooted in the reasonableness of its CECL methodology, the OCC's concurrence, the unqualified audit opinions issued by Whitfield Keane, and the absence of scienter. These defenses, if presented effectively to an ALJ or a federal court, could result in a favorable outcome.
Realistic Probability of Termination. As reflected in the probability assessment, there is a 35–40% probability that the Wells Submission will result in termination of the investigation. BRB should not foreclose this possibility by prematurely initiating settlement discussions.
Lower Penalty Exposure. Because the proposed charges are non-fraud, non-scienter-based violations, the maximum penalty exposure is substantially lower than it would be for fraud charges. This reduces the settlement pressure that the Staff can bring to bear.
Collateral Consequences of Consent Orders. Consenting to a cease-and-desist order may create collateral consequences. For example, a consent cease-and-desist order could constitute a "disqualifying event" under certain SEC exemptions, including the "bad actor" disqualification provisions of Rule 506(d) of Regulation D. While BRB is a national bank and its primary securities offerings would generally fall under different regulatory frameworks, this issue warrants careful review. Additionally, a consent order could affect BRB's eligibility for certain regulatory privileges, its compliance certifications in commercial relationships, and its reputation with counterparties and investors.
Signal to Market and Regulators. Contesting the charges signals to the market, regulators, and other stakeholders that BRB stands behind its accounting methodology and does not believe it committed a violation. This may be important for BRB's credibility, particularly if investors or analysts question the Bank's financial reporting practices.
No Restatement Required. Whitfield Keane has not required or recommended a restatement of BRB's financial statements. A negotiated settlement, even without an admission of fraud, could be perceived by the market as an implicit acknowledgment that BRB's financial statements were materially misstated — which in turn could pressure Whitfield Keane to reassess its position on a restatement.
B. Arguments for Negotiated Resolution
Countervailing considerations support a willingness to settle on appropriate terms:
Uncertainty of Wells Submission Success. Even a well-crafted Wells Submission may not result in termination. The Staff has invested significant resources in this investigation, and institutional dynamics may favor proceeding with a recommendation. Hedging risk through a willingness to negotiate is prudent.
Routine Nature of Non-Fraud Consent Orders. Non-fraud consent orders with modest penalties and no admission of fraud or intentional wrongdoing are relatively routine in SEC enforcement practice. The market impact of such resolutions is often limited, particularly when the entity cooperated and the charges do not involve fraud.
Preservation of Management Time. The investigation has already required significant time and attention from BRB's senior management, including CEO Marcus Ellingham, CFO Patricia Navarrete, CAO Raymond Hu, and BridgeFin Division Head Naveen Chakravarti. A protracted contested proceeding would continue to divert management resources from BRB's business operations for an additional 12–24 months.
Litigation Risk in Administrative Proceedings. The litigation risk in administrative proceedings before an ALJ is non-trivial. ALJs and the Commission have historically ruled in favor of the Staff at relatively high rates, and the procedural framework of administrative proceedings — including limited discovery, relaxed rules of evidence, and the Commission's dual role as both prosecutor and adjudicator — can create an uneven playing field. While the constitutionality and fairness of SEC administrative proceedings have been challenged (cf. SEC v. Jarkesy, pending before the Supreme Court at the time of this writing), these challenges have not yet resulted in a definitive restructuring of the administrative process.
Cost Savings. The cost differential between a negotiated settlement and a contested proceeding is significant. Settlement costs are estimated at $1.4 million–$3.45 million additional, compared to $3.5 million–$9.5 million for contested proceedings. The savings of $2.1 million–$6.05 million are material to BRB.
D&O Policy Retention. BRB's D&O policy retention of $2,500,000 has already been consumed. Further costs draw directly on the policy limits. While the current tower of $25 million is sufficient for projected costs under all scenarios, a shorter, less expensive resolution preserves policy capacity for other contingencies.
C. Recommended Approach
Based on the foregoing analysis, C&H recommends the following approach:
1. File a robust Wells Submission aimed at persuading the Staff to recommend no enforcement action (i.e., termination of the investigation). The Wells Submission should present the strongest possible case for BRB, drawing on the five-pillar defense framework set forth in Section VII below.
2. Simultaneously prepare for settlement negotiations as a fallback. While the Wells Submission is pending, C&H should develop a settlement-negotiation framework, including acceptable terms (range of penalties, scope of undertakings, language of findings) and walk-away points.
3. Do NOT affirmatively approach the Staff to initiate settlement discussions before filing the Wells Submission. Pre-submission settlement overtures could signal a lack of confidence in BRB's position and undermine the Wells Submission's persuasive force. The submission should speak for itself.
4. If the Staff responds unfavorably after the Wells Submission — i.e., indicates that it still intends to recommend an enforcement action — then C&H should engage in pre-filing discussions with openness to a consent resolution on favorable terms. Acceptable terms would include: no admission of fraud or intentional wrongdoing; a civil penalty at the lower end of the Tier I range (ideally $500,000–$750,000); limited, time-bounded undertakings; and carefully negotiated findings language that does not characterize BRB's conduct in terms that could be used adversely in follow-on litigation.
5. Reserve the right to contest if the proposed settlement terms are disproportionate to the conduct at issue. BRB should not agree to a settlement that includes onerous undertakings, excessive penalties, or findings language that could be characterized as an admission of material wrongdoing.
VI. D&O Insurance Coverage Analysis
A. Policy Summary
BRB maintains the following directors and officers liability insurance coverage:
Primary Layer:
Insurer: Northcastle Mutual Assurance Company Policy Number: NMA-DO-2023-11847 Policy Period: July 1, 2023 – July 1, 2024 Aggregate Limit: $15,000,000 Entity Retention (Self-Insured Retention/SIR): $2,500,000 Coverage: The policy covers defense costs, judgments, and settlements (to the extent insurable under applicable law) arising from "securities claims" and "regulatory claims" brought against BRB's directors, officers, and the entity itself. The policy includes entity-coverage extensions for securities-related claims, which encompass SEC enforcement proceedings. Claims Counsel: Northcastle has appointed Thornfield & Rowe LLP (Brenda Alvaro, lead partner), 227 West Monroe Street, Suite 4400, Chicago, IL 60606, as claims counsel for the matter. Thornfield & Rowe has been monitoring the investigation and has participated in periodic briefings.
First Excess Layer:
Insurer: Cascade Omnivrel Insurance Group Policy Number: CFIG-XS1-2023-5598 Aggregate Limit: $10,000,000 excess of $15,000,000 Coverage: Follows form to the Northcastle primary policy, subject to the terms and conditions of the Cascade Fidelity policy. Cascade Fidelity's coverage obligations are triggered only after the full exhaustion of the Northcastle primary limit.
Total Tower (Primary + First Excess): $25,000,000
The D&O program is placed and administered through BRB's insurance broker, Ridgeline Governance Advisors LLC (Melinda Tran, Senior Vice President), 100 Federal Street, Suite 3600, Boston, MA 02110. Ridgeline has been involved in the claim from inception and has facilitated communications between C&H, BRB, and Northcastle.
B. Coverage Status
The SEC investigation was tendered to Northcastle Mutual on October 5, 2023, via Ridgeline Governance Advisors (Melinda Tran). The tender letter, prepared with input from C&H, provided notice of the investigation as a "claim" under the policy and requested advancement of defense costs.
Northcastle acknowledged the claim on October 19, 2023 and agreed to advance defense costs incurred in connection with the SEC investigation, subject to the entity retention of $2,500,000 and the other terms and conditions of the policy. Northcastle did not issue a reservation of rights letter, which is a positive indicator of the carrier's view of coverage.
As of March 15, 2024, the total defense costs incurred to date are estimated at approximately $3,250,000, comprising:
• Calderwood & Harkness LLP fees: approximately $2,800,000 (net of fee-cap reduction)
• Brindoval Analytic Partners fees: approximately $450,000
The entity retention of $2,500,000 has been satisfied. Northcastle has begun reimbursing costs above the retention. As of the date of this memorandum, approximately $750,000 in claims submissions are in various stages of processing. C&H anticipates that these submissions will be approved and paid in the ordinary course, consistent with Northcastle's prior handling of the claim.
C. Coverage Issues and Considerations
Several insurance-coverage issues warrant the Audit Committee's attention:
Insurability of Penalties. Under New York and Connecticut law (the two jurisdictions most likely to apply to the Northcastle policy, which is issued in Connecticut but covers a New York-headquartered entity), civil monetary penalties imposed by the SEC for non-fraud violations are generally insurable under D&O policies. The Northcastle policy does not contain a specific exclusion for SEC civil monetary penalties, as distinct from criminal fines, which are excluded. However, coverage could be disputed if the SEC were to characterize the penalty as a "fine" (rather than a civil penalty) or if the underlying violation were found to involve "deliberate" conduct — which could trigger the policy's "conduct" exclusion applicable to deliberately fraudulent or dishonest acts. Given the non-fraud charges under consideration, we believe the risk of a conduct exclusion being invoked is low but not zero.
Disgorgement. Following the Supreme Court's decision in Kokesh v. SEC, 581 U.S. 455 (2017), disgorgement is treated as a penalty for purposes of the statute of limitations. The insurability of disgorgement under D&O policies remains jurisdiction-dependent and unsettled in several circuits. However, as discussed above, disgorgement is unlikely to be sought in this matter given the nature of the alleged violations.
Settlement Approval. The Northcastle policy requires insurer consent to any settlement exceeding $500,000 in total. This consent requirement means that any settlement negotiations with the SEC must be conducted in coordination with Northcastle and its claims counsel, Thornfield & Rowe (Brenda Alvaro). Early engagement with Thornfield & Rowe on settlement strategy is essential to avoid a situation in which BRB negotiates a settlement that Northcastle declines to fund. C&H recommends that the Audit Committee authorize C&H to engage directly with Brenda Alvaro regarding settlement parameters.
Projected Total Costs Under Various Scenarios: