This Week In Securities Litigation (Week ending May 26, 2017)

Heading into a long holiday weekend the Chairman continued to fill out the senior staff of the agency. Peter Uhlmann, a staff veteran who has held several senior management positions, was appointed as Managing Executive in the Chairman’s Office.

The Commission filed another political intelligence insider trading case this week. The action named four individuals as defendants who are alleged to have repeatedly transmitted inside information obtained from a government agency in violation of the STOCK Act regarding the re-pricing of certain medical benefits. A parallel criminal action was also filed. In addition, the agency filed an action centered on a fake tender offer used to manipulate the share price of a stock to obtain a little over $3,000 in profits. The manipulation, however, caused significant harm to the markets and investors. The SEC also filed two new offering fraud actions.

SEC

Program: The Commission and the MSRB will hold a webinar on the Series 50 Exam for Municipal Advisors on June 15, 2017.

Stay: The Commission entered an order dated May 22, 2017 staying all administrative proceedings in which a respondent has the option to seek an appeal to the Tenth Circuit Court of Appeals. The order follws the Court’s denial of the Commission’s petition for rehearing en banc in Bandimere v. SEC which held that SEC ALJs had not been appointed in accord with the Constitution. The stay will continue pending the expiration of the time in which the Commission has to file a writ of certiorari, the resolution of that petition and any resolution by the Supreme Court or further order of the Commission.

SEC Historical Society

Program: Rule Making Under the ’40 Act, a discussion with three former Directors of Investment Management, June 1, 2017, 12:00 p.m. at SEC’s Washington, D.C. offices. The program will also be webcast (here). There is not charge for the program.

SEC Enforcement – Filed and Settled Actions

Statistics: Last week the SEC filed 4 civil injunctive cases and no administrative proceedings, excluding 12j and tag-along proceedings.

Offering fraud: SEC v. Wells, Civil Action No. 17 Civ. 7738 (S.D.N.Y.) is a previously filed action against William Wells and his firm, Promitor Capital Management LLC. According to the Commission’s complaint Mr. Wells falsely told some investors he was a registered investment adviser and would place their funds in specific investments. Instead he invested in high-risk options and used portions of the money to repay others. Much of the $1.1 million raised from investors was lost. Defendants settled with the Commission, consenting to the entry of permanent injunctions based on Securities Act Section 17(a), Exchange Act Section 10(b) and Advisers Act Sections 206(1), 206(2) and 206(4). Defendants also agreed to pay disgorgement of $660,427.62 which is deemed satisfied by the over $1.5 million in forfeiture and restitution ordered in the parallel criminal case. Mr. Wells pleaded guilty in that action. In a separate proceeding Mr. Wells agreed to be barred from the securities business and from participating in any penny stock offering. See Lit. Rel. No. 23845 (May 25, 2017).

Insider trading: SEC v. Blaszczak, Civil Action No. 1:17-cv-03919 (S.D.N.Y. Filed May 24, 2017). The action named as defendants: David Blaszczak, formerly an employee of CMS who has worked for a series of consulting firms since 2005; Christopher Worrall, an employee of CMS since 1999 and longtime friend of Mr. Blaszczak; Theodore Huber, a health care analyst for Adviser A; and Jordan Fogel, also a health care analyst for Adviser A. The case centers on alleged tips of inside information by Mr. Worrall to Mr. Balaszczak about three significant rate changes at CMS between May 2012 and November 2013. CMS issues proposed and final rules that set the Medicare reimbursement rates for the following calendar year. The releases often impact the share price of firms that offer products and services covered by the impacted fee changes. Accordingly, the rate changes are announced after the close of the market. Mr. Worrall had access to material non-public CMS decisions concerning reimbursement amounts. He also had obligations under the STOCK Act, the CMS non-disclosure policy and government ethics provisions to maintain the confidentiality of that information. Despite his obligations, in three instances over a period of about one and one half years, Mr. Worrall gifted inside information on CMS rate changes that lowered reimbursement rates to his longtime friend and former co-worked, Defendant Blaszczak. The information on each occasion was transmitted in personal meetings, on the telephone, in emails and through text messages. In each instance the information was transmitted by Mr. Blaszczak to Mr. Huber and/or Mr. Forel who in turn caused Adviser A to enter into securities transactions on behalf of certain hedge funds. Mr. Worrall knew, or should have known, the information would be used for securities trading. Those transactions yielded over $3.9 million in trading profits. The complaint alleges violations of Securities Act Section 17(a)(1) and Exchange Act Section 10(b). The SEC’s case, and that of the Manhattan U.S. Attorney’s Office, is pending.

Offering fraud: SEC v. Illarramendi, Civil Action No. 3:11-cv-78 (D. Conn.) is a previously filed action against Francisco Illarramendi and others which alleged a multi-year Ponzi scheme in which investors were defrauded out of millions of dollars. Following his guilty plea in a parallel criminal case, and admissions made in connection with that plea, the Court granted summary judgment in favor of the Commission. Defendant was enjoined from future violations of Advisers Act Sections 206(1), (2) and (4) and ordered to pay disgorgement of $25,844,834 along with a $1million civil penalty. Previously, the Court barred the Defendant from the securities business. The Defendant is currently serving a 13 year prison sentence. The Court appointed receiver has recovered more than $352 million. See Lit. Rel. No. 232843 (May 24, 2017).

Offering fraud: SEC v. Guzman, Civil Action No. 3;17-cv-00276 (W.D.N.C. Filed May 24, 2017) names as a defendant Gustavo Guzman. The complaint alleges that over a five year period beginning in April 2010 Mr. Guzman raised over $2.1 million from investors who were told their funds would be placed in an equity options fund and real estate fund he managed. Instead much of the investor money was misappropriated, lost in risky trading and used to repay other investors. The complaint alleges violations of Securities Act Section 17(a), Exchange Act Section 10(b) and Advisers Act Sections 206(1), (2) and (4). The case is pending. See Lit. Rel. No. 235842 (May 24, 2017).

Fraudulent accounts: SEC v. Ponn, Civil Action No. 16-cv-10624 (D. Mass) is a previously filed action against Nathanial Ponn. The complaint alleged that Mr. Ponn repeatedly opened brokerage accounts with bogus bank transfers from 2007 to 2014 and then purchased stocks, defrauding the brokers. In a parallel criminal case he was sentenced to 15 months in prison and ordered to pay over $20,000 in restitution to three brokerage firms. In the Commission’s action the Court entered a final judgment permanently enjoining the Defendant from future violations of Exchange Act Section 10(b). A conduct based injunction was also entered, directing that in the future he furnish any broker when opening an account a copy of the Commission’s complaint in this case. See Lit. Rel. No. 23840 (May 24, 2017).

Unprofessional conduct: In the Matter of Lisa Hanmer, CPA, Adm. Proc. File No. 3-17997 (May 23, 2017); In the Matter of Daniel Millmann, CPA, Adm. Proc. File No. 3-17996 (May 23, 2017). Mr. Millmann and Ms. Hanmer are, respectively, the engagement partner and engagement manager on the audit of Madison Capital Energy Income Fund I LP conducted by PCAOB registered audit firm RSM US LLP for 2011. The Order as to Mr. Millmann alleges, essentially, an audit failure in which Respondent failed to plan, assess the risk and conduct the proper field work during the engagement. Indeed, Mr. Millmann had never worked on the audit of oil and gas properties. Ms. Hanmer knew that adequate procedures had not been performed in auditing the fair value of the investment of the Fund in the underlying royalty interests. She tried to conceal that fact, according to the Orders. The Order as to each Respondent alleges unprofessional conduct within the meaning of Rule 102(e). The proceeding will be set for hearing as to Ms. Hanmer. Mr. Millmann resolved the proceeding in which he is named as a Respondent. He is denied the privilege of appearing or practicing before the Commission as an accountant with a right to request reinstatement after two years.

Offering fraud: SEC v. Murakami, Civil Action No. 1:17-cv-10928 (D. Mass. Filed May 22, 2017) is an action which names as defendants Yasuna Murakami, Avi Chiat, MC2 Capital Management, LLC and MC2 Canada Capital Management, LLC. The individual defendants are portfolio managers for the entity defendants. Beginning in 2007, and continuing until 2016, about 50 investors entrusted $15 million to defendants based on misleading statements regarding the performance of the two funds and the risks of the investment programs. During the period about $8 million of the investor funds was diverted to personal use while another $1.3 million was used to repay investors. The Commission’s complaint alleges violations of Exchange Act Section 10(b), Securities Act Section 17(a) and Advisers Act Sections 206(1), 206(2) and 206(4). The action is pending. A parallel criminal action brought by the U.S. Attorney’s Office for the District of Massachusetts changes Mr. Murakami with one count of wire fraud. See Lit. Rel. No. 23837 (May 22, 2017).

Manipulation: SEC v. Murray, Civil Action No. 1:17-cv-03788 (S.D.N.Y. Filed May 19, 2017). Mr. Murray is a Virginia based mechanical engineer. In November 2016 he took a series of steps to prepare for, implement and execute a fake tender-offer for Fitbit shares using fake news. Essentially he pulled the name of an executive from the internet, falsified an application for EDGAR credentials and then filed a false form which claimed a tender offer was being made for Fitbit. The share price spiked over 350%. Mr. Murray, who had purchased options on the stock, realized profits of $3,118. The company later issued a press release denying that there was any tender offer. The fake news caused real harm to the capital markets. Over 25 million shares of Fitbit were traded, up 77% over the prior day. Investors purchasing shares following the announcement paid an artificial price. The complaint alleges violations of Securities Act Section 17(a) and Exchange Act Sections 10(b) and 14(e). The Commission’s case, as well as that of the U.S. Attorney’s Office, is pending. See Lit. Rel. No. 23836 (May 19, 2017).

Insider trading: SEC v. Cooperman, Civil Action No. 2:16-cv-05043(E.D. Pa. ). Hedge fund manager Leon Cooperman and his firm settled insider trading charges with the Commission. Under the terms of the settlement Mr. Cooperman consented, without admitting or denying, to the entry of a permanent injunction prohibiting future violations of Exchange Act Sections 10(b), 13(d) and 16(a). His firm, Omega Advisors, Inc., consented on the same basis to the entry of a permanent injunction prohibiting future violations of Exchange Act Section 10(b). The Defendants also agreed to pay, on a joint and several basis, disgorgement of $1,759,049 and prejudgment interest as well as a penalty equal to the amount of the disgorgement. Mr. Cooperman will pay an additional penalty of $1 million tied to the 16(a) charges. Under the terms of the settlement Omega will retain a Compliance Consultant for a term that will extend to May 1, 2022 or the point in time when firm is no longer a registered investment adviser. The Compliance Consultant, Omega and Mr. Cooperman will “implement a system that requires that Defendant, Omega and/or any of their agents . . . who make a decision to trade or otherwise commit capital to a security and/or direct a trade of any security . . .[to] certify in writing that, prior to execution of such trade, the Trader was not aware of any material nonpublic information . . .” Monthly certifications will also be submitted to the staff by the Defendants stating that they were not aware of any inside information. The Compliance Consultant will, in addition, review the training, policies and procedures and practices of the firm and Mr. Cooperman with respect to compliance and formulate recommendations for policies and procedures for Omega which will be adopted. A written report will be submitted to Omega, Mr. Cooperman and the Commission staff. The Compliance Consultant will also retain a nationally recognized law firm to conduct at least two trainings per year. The filing of Section 16(a) reports will be outsourced to a law firm not unacceptable to the Commission staff. The case centered on trading in the securities of Atlas Pipeline Partners, L.P. by defendant Omega Advisors, a registered investment adviser controlled by Mr. Cooperman, according to the Commission’s complaint. Mr. Cooperman, who held a substantial stake in the firm, was alleged to have traded prior to the deal announcement but after talking to insiders. Violations of Exchange Act Sections 10(b), 13(d) and 16(a) were alleged in the complaint.

Offering fraud: SEC v. Bryant, Civil Action No. 4:17-cv-00336 (E.D. TX. Filed under seal May 15, 2017). Defendant Thurman Bryant formed Bryant United Capital Funding, Inc., also a defendant, in June 2011. Mr. Bryant is the firm’s only employee. He began fund raising money in early 2011 before forming his firm, soliciting his father, family and friends. Marketing was by word of mouth. Investors were told orally about the investment, assured of its safety and the manner in which their funds were invested. Mr. Bryant told investors that their funds would be used to facilitate the funding of mortgage loans which would immediately be sold to third parties for a fix fee. Investor funds would be held safe in a secure escrow account and used solely to secure a line of credit from a hedge fund that Bryant United used to fund the mortgages. Investors would receive 30% distributions with no risk. To date about 100 investors have purchased interests, investing about $22.7 million with Mr. Bryant and his firm. Indeed, about $1.4 million has been raised since January 2017. Defendants’ representations, as well as the account statements investors received, were, however, false. There were no investments; all the money was diverted either to the defendants or others. The complaint alleges violations of Securities Act Section 17(a) and Exchange Act Section 10(b). The court entered a temporary freeze order and appointed a receiver at the request of the Commission. See Lit. Rel. No. 23838 (May 22, 2017).

FCPA –Anti-Corruption

Remarks: Acting Principal Deputy Asst. A.G. Trevor N. McFadden addressed the ACI’s 7th Brazil Summit on Anti-Corruption, Sao Paulo, Brazil (May 24, 2017). In his remarks Mr. McFadden reiterated the Department’s emphasis on individual accountability; noted the increase in international cooperation as resulting in more international actions; discussed alternative charges when the FCPA may not be applicable; and stated that the Criminal Division has initiated a Kleptocracy Asset Recovery Initiative which is specifically designed to target and recover the proceeds of foreign official corruption that have been laundered through the U.S. (here).

Criminal Cases

Investment fund fraud: U.S. v. Lazar, Case No. 1:09-cr-175 (E.D. Va. Filed May 22, 2017) is an action in which Angelina Lazar pleaded guilty to her role in an investment fund fraud scheme centered on foreign exchange currency. Ms. Lazar, a Canadian citizen, engaged in a scheme using her firm, Charismatic Exchange, Inc., in which she solicited investors from May 2005 through February 2007 to invest in foreign exchange currency funds she managed. Ms. Lazar claimed to have special software which would yield monthly returns of 20% or more for investors. In fact there was no software and no trades. Investors lost at least $20,000. Following her plea Ms. Lazar was immediately deported.

Securities fraud: U.S. v. Jaclin, Case No. 3:17-cr-00281 (N.D. CA. Filed May 19, 2017). Attorney Gregg Jaclin was charged with conspiracy, securities fraud, making false filings with the SEC, concealing material facts from a government agency, making false statements and obstruction of justice. The charging papers alleged that since at least March 2008 Mr. Jaclin participated in creating shell companies that engaged in reverse mergers to go public. The firms were shams. The fraud was facilitated by filings made with the SEC. The filings contained false representations about the firms, their CEOs and shareholders. See also SEC v. Husain, Civil Action No. 2:16-cv-03250 (C.D. Cal.)(parallel action which is pending); Lit. Rel. No. 23839 (May 24, 2017).

Australia

Overcharges: The Australian Securities Investment Commission or ASIC provided an update on its October 2016 action under which certain banks and financial advisers agreed to make refunds to investors. Specifically, the regulator found that certain banks had charged about 27,000 customers about $23.7 million for advice which was never provided. That amount has been paid. Since the time of that report it has been determined that an additional $37 million was charged to 18,000 for advice not provided. That sum has been repaid. At this point it is estimated at an additional $204 million plus interest needs to be refunded. The ASIC has published a table of the institutions involved along with the amounts paid and to be paid (here)

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SEC, USAO Charge Four With Insider Trading Tied to Political Intelligence

The Commission resolved an earlier action against a political intelligence firm that had ties to the Centers for Medicare & Medicate Services or CMS by requiring admissions, a cease and desist order and revamped compliance procedures. The Order asserted allegations about the handling of information obtained from CMS and charged inadequate compliance procedures. In the Matter of Marwood Group Research, LLC, Adm. Proc. File No. 3-16970 (Nov. 24, 2015). The Commission did not resolve its newest case involving a political intelligence firm with ties to CMS. To the contrary, the agency named four individuals as defendants in an insider trading case as the Manhattan U.S. Attorney’s Office brought parallel criminal charges. SEC v. Blaszczak, Civil Action No. 1:17-cv-03919 (S.D.N.Y. Filed May 24, 2017).

Named as defendants are: David Blaszczak, formerly an employee of CMS who has worked for a series of consulting firms since 2005; Christopher Worrall, an employee of CMS since 1999 and long time friend of Mr. Blaszczak; Theodore Huber, a health care analyst for Adviser A; and Jordan Fogel, also a health care analyst for Adviser A.

The action centers on alleged tips of inside information by Mr. Worrall to Mr. Balaszczak about three significant rate changes at CMS between May 2012 and November 2013. CMS issues proposed and final rules that set the Medicare reimbursement rates for the following calendar year. The releases often impact the share price of firms that offer products and services covered by the impacted fee changes. Accordingly, the rate changes are made after the close of the market.

Mr. Worrall had access to material non-public CMS decisions concerning reimbursement amounts. Through his position at CMS Mr. Worrall monitored price changes. That position imposed a duty of confidentiality on Mr. Worrall. As a CMS employee he was subject to Section 21A(h) of the Exchange Act which imposes a duty of trust and confidence on executive branch employees to the U.S. Government and the citizens of the United States with respect to material, non-public information. The Section was added to the Exchange Act by the STOCK Act of 2012. CMS, in addition, has an Employee Nondisclosure Policy that imposed similar duties regarding “market sensitive” information. The Standards of Ethical Conduct for Employees of the Executive Branch fortified those duties.

Despite his obligations, in three instances over a period of about one and one half years, Mr. Worrall furnished inside information on CMS rate changes that lowered reimbursement rates to his friend and former co-worked, Defendant Blaszczak. The information on each occasion was transmitted in personal meetings, on the telephone, in emails and through text messages. In each instance the information was transmitted by Mr. Blaszczak to Mr. Huber and/or Mr. Forel who in turn caused Adviser A to enter into securities transactions on behalf of certain hedge funds. Mr. Worrall knew, or should have known, the information would be used for securities trading. Those transactions yielded over $3.9 million in trading profits.

Mr. Blaszczak knew or should have known that the information he obtained from his long time friend was material, non-public information, according to the complaint. He knew the position of his friend at CMS and the access he had to such information. He also touted his connection to CMS and those with information about the future actions of the agency. Mr. Worrall furnished the information to his former colleague in view of the long standing friendship of the two men. He was also aware that the relationship furnished him with certain business opportunities such as the prospect of leaving CMS and entering the consulting business. While he had considered potential opportunities he did not, during the period here, accept them. Mr. Worrall did, however, use one job offer he rejected to secure a significant pay increase at CMS.

Defendants Huber and Forell knew, or should have known that the information furnished to them by Mr. Blaszczak traced to CMS. Both men knew that Mr. Blaszczak had once been employed by the agency and that he maintained contacts with the CMS staff. They were also aware that the information he provided differed from that put out by other analysis and proved to be accurate. Indeed, they sought out Mr. Blaszczak to verify information for them.

Each of the men down the tipping chain also benefitted from the illegal trading as did Christopher Worrall. Adviser A paid Mr. Blaszczak’s firm just under $200,000 during the period for the information. Messrs. Huber and Forell are believed to have been compensated for the information resulting in the profitable trades, according to the complaint. That complaint alleges violations of Securities Act Section 17(a)(1) and Exchange Act Section 10(b). The SEC’s case, and that of the Manhattan U.S. Attorney’s Office, is pending.

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