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Thomas O. Gorman,
Dorsey and Whitney LLP
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    Deutsche Bank Settles LIBOR Charges With FCA, DOJ, CFTC, NY State

    April 26, 2015

    Deutsche Bank paid $2.519 billion in fines and disgorgement, a subsidiary pleaded guilty to criminal charges and the parent entered into a three year deferred prosecution agreement which requires a monitor to resolve charges stemming from its years long manipulation of LIBOR. The investigation was conducted by: The U.K. Financial Conduct Authority; the Department of Justice; the CFTC; the SEC; the F.B.I.; and the New York Department of Financial Services. There have been five previous settlements tied to the manipulation of LIBOR.

    Deutsche Bank was a member of the panel of banks whose submissions were used to calculate LIBOR for various currencies. Those included U.S. Dollar, Yen, Pound Sterling, Swiss Frank and EURIBOR, the Euro Interbank Offered Rate.

    Over an eight year period beginning in 2003, according to the admissions of the bank in the court papers, Deutsche Bank traders undertook efforts to move the benchmark rates in a direction that favored their trading positions. Derivative traders, whose compensation was directly tied to their success, requested that LIBOR submitters at Deutsche Bank and other banks submit contributions favorable to trading positions rather than those tabulated in accord with the definition of LIBOR. For example:

    • [O]n March 22, 2005, a Deutsche Bank U.S. Dollar LIBOR submitter explained how he would manipulate the rate for a trader in New York stating [in an electronic communication] ‘if you need something in particular in the libors i.e. you have an interest in in a high or low fix let me know and there’s a high chance I’ll be able to go in a different level. Just give me a shout . . .’”
    • On May 17, 2006 “the supervisor of LIBOR submissions in London received a request from a trader in New York asking, ‘If you can help we can use a high 3m fix tom.’ The supervisor replied . . . ‘I’m off but [submitter] is your libor man . . .’ The submitter agreed . . . replying, ‘Will do chaps.’”
    • In March 2007 the bank’s LIBOR submitter told the head of Deutsche Bank’s Global Finance Unit: “’HAVE U SEEN THE 3MK FIXING TODAY? THAT WAS AN EXCELLENT CONCERED ACTION FFT/LDN. CHEEERS.’”

    These and similar actions defrauded counterparties to interest rate derivatives trades.

    To resolve potential charges arising from the investigation: DB Group Services (UK) agreed to plead guilty to one count of wire fraud and pay a $150 million fine (here); Deutsche Bank entered into a deferred prosecution agreement, admitting its role in manipulating LIBOR and participating in a price-fixing conspiracy in violation of the Sherman Act by rigging Yen LIBOR contributions with other banks. The agreement requires the bank to continue cooperating with the DOJ, pay a $625 million penalty in addition to the one paid by its subsidiary and to retain a corporate monitor for three years (here).

    Collectively the bank paid $2.519 billion in regulatory penalties and disgorgement: $800 million as a result of a CFTC action; $600 million as a result of a New York Department of Financial Services action; $344 as a result of an FCA action; and the DOJ penalties noted above.

    This Week In Securities Litigation (Week ending April 24, 2015)

    April 23, 2015

    The Department of Justice unsealed criminal charges against a U.K. trader who is alleged to have contributed to the flash crash almost five years ago. The trader is alleged to have manipulated the market for certain instruments on the CME in Chicago.

    Actions brought by the SEC this week largely reflect the broken-windows enforcement approach being followed by the agency. They include two stop order proceedings, three offering fraud actions, a proceeding based on MSRB Rules involving a sale to one customer, an action for failing to make filings after going dark for a period, another for not properly preparing reports for the board of trustees of certain funds and one centered on a conflict by a portfolio manger.

    SEC

    Whistleblowers: The Commission awarded over $1 million to a compliance professional for information that proved beneficial in an enforcement action.

    Remarks: Commissioner Michael Piwowar delivered remarks at the University of South Carolina and UNC-Charlotte 4th Annual Fixed Income Conference, Charlotte, N.C. (April 21, 2015). The Commissioner addressed current challenges in the fixed income market (here).

    SEC Enforcement – Filed and Settled Actions

    Statistics: During this period the SEC filed 0 civil injunctive cases and 9 administrative actions, excluding 12j and tag-along proceedings.

    Stop Order: In the Matter of the Registration Statement of International Precious Metals, Inc., Adm. Proc. File No. 3-16511 (April 23, 2015). The Order alleges that the registration statement for the firm, which claims to have one officer and director, is false and misleading because it has not disclosed its officers and directors and control person. The matter will be set for hearing.

    Stop Order: In the Matter of the Registration Statement of Kismet, Inc., Adm. Proc. File No. 3-16510 (April 23, 2015) is a proceeding in which the firm claims to be dependent on the efforts of one person. The firm has failed to respond when served with an investigative subpoena on three dates. The subpoena sought the testimony of the sole officer and director. The matter will be set for hearing.

    Touting: In the Matter of Huston American Energy Corp., Adm. Proc. File No. 3-1600 (August 4, 2014) is a previously filed action which names in the caption the firm, John Terwilliger, its CEO, and Undiscovered Equities, Inc., a public relations firm, and its President, Kevin McKnight. The Respondents are Undiscovered Equities and Mr. McKnight. The Order alleges that in 2009 Huston American publicized on its website that it had entered into a contract with Undiscovered Equities to increase the awareness of the investment community about Huston American. Other publicity repeated the claim. The amount of compensation was not disclosed. The proceeding was resolved with an undertaking by Mr. McKnight not to enter into any arrangements such as the one here for five years. In addition, each Respondent consented to the entry of a cease and desist order based on the Section cited in the Order. Mr. McKnight will pay a civil penalty of $22,500. Initially Mr. McKnight and Undiscovered Equities were charged in the Order alleging the offering fraud described below.

    Offering fraud: In the Matter of Houston American Energy Corp., Adm. Proc. File No. 3-16000 (Filed August 4, 2014) is a previously filed action which initially named as Respondents each person listed in the caption of the action discussed above. In this Order, which is the settlement, only Huston American and Mr. Terwilliger are named as Respondents. The Order alleged an offering fraud as detailed here. Houston American and Mr. Terwilliger resolved the proceeding, consenting to the entry of a cease and desist order based on Securities Act Section 17(a) and Exchange Act Section 10(b) and 20(b). Mr. Terwilliger will pay a civil money penalty of $150,000 while the company will pay $400,000.

    Offering fraud: In the Matter of Edward M. Daspin, Adm. Proc. File No. 3-16509 (April 23, 2015) is a proceeding which names as Respondents: Edward Daspin, founder and control person of the companies, Luigi Agostini, a director and COB of the companies, and Lawrence Lux, a director and CEO of the companies. Related entities include three companies and two entities that are consultants to the three companies. Beginning in December 2010, and continuing for another 18 months, two of the companies raised about $2.47 million from seven investors, at least $2 million of which was raised fraudulently. Mr. Daspin, the organizer of the scheme, targeted unemployed professional and solicited them for what was called a job interview. At the interview the executives were solicited to invest in the companies with a series of false statements. The companies never generated any revenue and quickly burned through the investor funds. The Order alleges violations of Exchange Act Sections 10(b) and 15(a) and Securities Act Sections 5(a), 5(c) and 17(a)(2) and (3). The action will be set for hearing.

    Sale below minimum: In the Matter of State Trust Investments, Inc., Adm. Proc. File No. 3-16507 (April 23, 2015) is a proceeding which names the broker-dealer as a Respondent. The Order alleges that the firm sold non-investment grade bonds issued by the Commonwealth of Puerto Rico in violation of Municipal Securities Rulemaking Board Rule G-15(f) which sets a minimum denomination below which such bonds cannot be sold. Specifically, in March 2014 the firm made one sale of Puerto Rico bonds to a customer below the $100,000 minimum. The sale also violated MSRB Rule G-17 by not disclosing the minimum to the customer. To resolve the matter the firm consented to the entry of a cease and desist order based on the two MSRB Rules cited in the Order and to a censure. In addition, the firm will review the adequacy of its compliance procedures and pay a civil money penalty of $90,000.

    Filings: In the Matter of W2007 Grace Acquisition I, Adm. Proc. File No. 3-16504 (April 22, 2015) is a proceeding which names the firm as a Respondent, a real estate investment entity that at one time was a reporting issuer. It went dark when the number of shareholders declined below 300, filing a Form 15 to suspend the requirement for filing periodic reports. Under Section 15(d) if the number of shareholders exceeds 300 on the first day of a fiscal year in the future, reports must be filed. Here the firm miscounted the number of shareholders as of January 1, 2014 by improperly treating certain distinct corporations and custodial accounts as single holders of record. The firm failed to begin making filings as required. The Order alleges violations of Exchange Act Section 15(d). To resolve the matter Respondent consented to the entry of a cease and desist order based on the Section cited in the Order, will resume filing periodic reports and agreed to pay a penalty of $640,000.

    Required board reports: In the Matter of Kornitzer Capital Management, Inc., Adm. Proc. File No. 3-16503 (April 21, 2015) is a proceeding which names as Respondents the registered investment adviser and its CCO, Barry Koster. Kornitzer Capital managed certain funds which had a common board of trustees. Each year the board required a report analyzing the performance of the adviser. Mr. Koster prepared reports for the board beginning in 2010 and continuing through 2013. That report included expense allocation and represented that the adviser allocated employee compensation expenses based on estimated labor hours. In fact the estimates were manipulated to show consistent performance by the adviser. This violated Section 15(c) of the Investment Company Act. To resolve the matter each Respondent consented to the entry of a cease and desist order based on the Section cited in the Order. In addition, the adviser will pay a penalty of $50,000 while Mr. Koster will pay $25,000.

    Conflicts: In the Matter of BlackBock Advisors, LLC, Adm. Proc. File No. 3-16501 (April 20, 2015). The Order names as Respondents BlackRock Advisers, a registered investment adviser, and Bartholomew Battista, the firm’s CCO. Daniel Rice III is a managing director and co-portfolio manager of energy sector assets held in BlackRock registered funds, private funds and separately managed accounts. His compensation derives in part from the management fees of the managed funds and separate accounts. In December 2006 Mr. Rice formed Rice Energy Irrevocable Trust to hold interests in Rice Energy, a name given to a then projected series of entities that would be formed. The next month Mr. Battista reviewed and discussed the matter with Mr. Rice. BlackRock concluded that the proposal did not present any conflict of interest. In February Mr. Rice formed the series of companies which were collectively known as Rice Energy. By March 2010 Rice Energy concluded a deal with ANR and formed a joint venture with Rice Energy. At the time of the deal funds and separate accounts managed by Mr. Rice held over two million shares of ANR stock. In January 2010 Mr. Rice told BlackRock that he wanted to serve on the board of directors of the joint venture. BlackRock’s Legal and Compliance Department reviewed the matter and concluded that there were potential conflicts of interest in entering into the joint venture in view of the portfolio holdings managed by Mr. Rice. The deal also raised concerns regarding access to ANR specific information that could be beneficial to Mr. Rice rather than his clients. Nevertheless, BlackRock permitted Mr. Rice to continue under certain restrictions. There was no follow-up by the firm. BlackRock did not inform the boards of directors of the Rice-managed registered funds or advisory clients about Rice Energy. No disclosure was made. Disclosure came in June 2012 when the Wall Street Journal published three articles about Mr. Rice and Rice Energy. The Order alleges violations of Advisers Act Sections 206(2), engaging in a course of conduct which constitutes a fraud and deceit, and Section 206(4)-7, failing to adopt and implement reasonable procedures to prevent the violation. In addition, Respondents caused certain BlackRock funds to violate Investment Company Act Rule 38(a)-1(a) which requires registered investment companies, through their chief compliance officer, to provide a report at least annually to the fund’s board of directors, addressing each material compliance matter that occurred since the date of the last report. To resolve the matter BlackRock agreed to a series of undertakings which include the retention of an independent compliance consultant who will prepare a report. The firm will adopt the recommendations. In addition, BlackRock consented to the entry of a cease and desist order based on the Sections cited in the Order. Mr. Battista also consented to the entry of a cease and desist order but based on Advisers Act Section 206(4) and a related rule and Investment Company Act Rule 38a-1. The firm agreed to pay a penalty of $12 million while Mr. Battista will pay $60,000. This is the first case to charge a violation of Investment Company Rule 38a-1.

    Offering fraud: In the Matter of Russell C. Schalk, Jr., Adm. Proc. File No. 31555 (April 17, 2015); In the Matter of Joseph John Labadia, Adm. Proc. File No. 3-16499 (April 17, 2015). Mr. Schalk is currently a vice president of sales for Travel International. He is also the sole control person and a one third owner of Raintree Racing and the control person and CEO of a related entity, Raintree Farm. Mr. Labadia was an unregistered investment adviser who was a one third owner and member of the management committee of Raintree Racing. He is also a certified financial analyst and holds certain securities licenses. From 2007 through 2012 Messrs. Schalk and Labadia raised over $1.9 million from investors for Raintree racing. Investors were told that they were making short term principal protected investments in the venture which were characterized as loans. Investors were told that the current rate of return was 20% and that the venture was extremely low risk. Raintree Racing, however, lacked cash flow and did not have the financial ability to pay the promised 20% return. While investors were assured that their funds was a safe, over a three year period beginning in 2007, Mr. Schalk transferred about $668,000 from Raintree Racing to Raintree Farm. Some Raintree Racing investors were also offered the opportunity to invest in Raintree Farm. Investors did in fact purchase shares. The PPM, prepared by Mr. Schalk, failed to tell those investors that the Farm had a loss, minimal assets and was funded by Racing. From 2007 through 2011 Mr. Schalk also diverted about $220,000 from Raintree Racing and Raintree Farm accounts to his personal bank account. Mr. Labadia sold unregistered shares in a second venture, Atlanta Rehab, raising over $1.1 million. Atlanta Rehab investors were furnished with statements showing that the enterprise had an investment in Raintree Racing, valuing it at the offering price. At the time, a substantial portion of Atlanta Rehab funds were invested in Raintree Racing.

    The Order in each proceeding alleges willful violations of Securities Act Sections 5(a), 5(c) and 17(a) and of Exchange Act Section 10(b). The Order as to Mr. Labadia alleges violations of Advisers Act Sections 206(1) and 206(2). Each Respondent settled, consenting to the entry of a cease and desist order based on the Sections cited in the Order in their respective action. Mr. Sahalk also agreed to pay disgorgement of $1,472,959, prejudgment interest and a third tier civil penalty of $1.6 million. An Administrative Law Judge will determine his ability to pay. Mr. Labadia is also barred from the securities business and from serving as an officer or director of a public company. He was ordered to pay disgorgement of $48,337 and prejudgment interest. Payment is suspended based on a sworn statement of an inability to pay.

    Criminal cases

    Investment fund fraud: U.S. v. Wessel (S.D.N.Y.) is an action in which Steven Wessel, who purported to be Chairman and Executive Managing Member of Steeplechase USA, LLC, an investment adviser, pleaded guilty to one count of securities fraud, one count of wire fraud and one count of aggravated identity theft. Mr. Wessel represented to an investor that his funds would be invested in securities. Subsequently, the investor was told that his $200,000 investment had appreciated substantially. In fact Mr. Wessel misappropriated it. When the investor demanded his funds back Mr. Wessel solicited a $550,000 from a second investor, claiming the funds would be used for financing a commercial real estate venture. In fact the funds were used to repay the firm investor with the balance being misappropriated. The date for sentencing has not been set.

    Investment fund fraud: U.S. v. Kerye (E.D.N.Y.) is an action which named as defendants Diane Kaylor and Jason Kerye, former employees of Agape World, Inc. The two defendants played an instrumental role in seeking out the more than 3,800 investors who put about $370,000 in Agape World based on promises that their funds would be used for lending, were safe and that a high rate of return would be paid. In fact Agape World was largely a Ponzi scheme with few loans. When the fund collapsed there were about $147 million in investor losses. Nicholas Cosmo, the mastermind of the scheme, was previously sentenced to serve 25 years in prison. Following a four week jury trial the two defendants were found guilty of securities fraud, conspiracy, mail fraud and wire fraud. The date for sentencing has not been announced.

    Manipulation: U.S. v. Bigelow (S.D.N.Y.) is an action against Dwayne Bigelow based on three pump-and-dump schemes. Specifically, Mr. Bigelow is alleged to have manipulated the shares of Emerging World Pharma, Inc., SMC Entertainment, Inc., and Sierra Resources Group, Inc., by having the firms engage in reverse mergers, retaining promoters to send e-mails touting the stock and then dumping his stock along with that of his coconspirators as the price rose. A superseding indictment contains one count of conspiracy, three counts of securities fraud and three counts of wire fraud. The case is pending.

    Manipulation: U.S. v. Sarao, Case No. 1:15-cr-00075 (N.D. Ill. Filed Feb. 11, 2015). Defendant Navinder Singh Sarao is a futures trader from Hounslow, United Kingdom. A ten count criminal complaint charges him with wire fraud and commodities manipulation.

    Mr. Sarao used an automated program to manipulate the market for E-Mini S&P 500 futures contracts on the Chicago Mercantile Exchange on May 6, 2010, contributing to the flash crash. The charging documents claim that Mr. Sarso employed a dynamic layering program in which he placed multiple orders simultaneously to sell at various price points to manipulate the market. The scheme created the appearance of market liquidity and substantial supply as well as an imbalance and pressure. When the market fell Mr. Sarao is alleged to have used futures contracts to repurchase at a lower price point. When it rose he took the opposite action. Another manipulative trading technique involved placing a large 2,000 lot sell order on one side of the market, executed another large order on the other side of the market and then cancelled the order. This created price movement which Mr. Sarao exploited, according to the criminal complaint. On May 6 five years ago as the price of the E-mini fell, the DJI followed. The Government is currently seeking extradition of Mr. Sarao from the U.K. to Chicago for trial.

    DOJ Charges A Futures Trader With Contributing To The Flash Crash

    April 22, 2015

    Almost five years ago the Dow Jones Industrial Average dropped about 600 points in five minutes, creating chaos in the markets and huge losses for many. The market debacle became known as the flash crash. The causes were investigated and debated. The SEC compiled a report. The debate continued.

    Now the Department of Justice claims to have found part of the answer – a foreign trader conducting a manipulation scheme, at least according to charges recently unsealed. U.S. v. Sarao, Case No. 1:15-cr-00075 (N.D. Ill. Filed Feb. 11, 2015). Defendant Navinder Singh Sarao is a futures trader from Hounslow, United Kingdom. A ten count criminal complaint charges him with wire fraud and commodities manipulation.

    Mr. Sarao used an automated program to manipulate the market for E-Mini S&P 500 futures contracts on the Chicago Mercantile Exchange on May 6, 2010, contributing to the overall market chaos that day the Government claims. The scheme apparently was not new or novel. It involved the use of the E-Mini which is an index futures contract based on the Standard & Poor’s 500 index. The manipulation techniques employed was dynamic layering.

    Mr. Sarao implemented the scheme by placing multiple orders simultaneously to sell at various price points. This created the appearance of market liquidity and substantial supply. The orders were modified periodically to ensure they were priced near the market. This created an imbalance in the market for E-minis and exerted pressure on the market, although the orders were typically cancelled. When the market fell Mr. Sarao is alleged to have used futures contracts to repurchase at a lower price point. When it rose he took the opposite action.

    Another manipulative trading technique contributed to the overall chaos, according to the charging papers. Mr. Sarao is alleged to have “flashed” a large 2,000 lot sell order on one side of the market, executed another large order on the other side of the market and then cancelled the order. This created price movement which Mr. Sarao exploited, according to the criminal complaint. On May 6 five years ago as the price of the E-mini fell, the DJI followed.

    The Government is currently seeking extradition of Mr. Sarao from the U.K. to Chicago for trial.

    BlackRock, CCO Settle SEC Conflict Charges

    April 21, 2015

    Conflicts of interest involving market professionals continue to be a focus of SEC enforcement. In many cases the conflict is uncovered by the inspection staff, OCIE. This time, however, the information came from an article published by the Wall Street Journal. In the Matter of BlackBock Advisors, LLC, Adm. Proc. File No. 3-16501 (April 20, 2015).

    Respondent BlackRock Advisers is a registered investment adviser with about $452 billion in assets under management. Respondent Bartholomew Battista is the CCO of BlackRock. Daniel Rice III is a managing director and co-portfolio manager of energy sector assets held in BlackRock registered funds, private funds and separately managed accounts. His compensation derives in part from the management fees of the managed funds and separate accounts.

    In December 2006 Mr. Rice formed Rice Energy Irrevocable Trust to hold interests in Rice Energy, a name given to a then projected series of entities that would be formed. Those entities would be funded with about $2.4 million in gifts and a $23.5 million term loan from Mr. Rice. The next month Mr. Battista reviewed and discussed the matter with Mr. Rice. BlackRock concluded that the proposal did not present any conflict of interest. In February Mr. Rice formed the series of companies which were collectively known as Rice Energy.

    By March 2010 Rice Energy concluded a deal which traced to mid-2008 under which Foundation Coal, which has recently completed a merger with ANR, entered into a joint venture with Rice Energy. At the time of the deal funds and separate accounts managed by Mr. Rice held over two million shares of ANR stock. By the end of the second quarter of 2010 ANR acquired Massey Energy whose shares were already held by funds and separate accounts managed by Mr. Rice.

    In January 2010 Mr. Rice told BlackRock that he wanted to serve on the board of directors of the joint venture. BlackRock’s Legal and Compliance Department reviewed the matter and concluded that there were potential conflicts of interest in entering into the joint venture in view of the portfolio holdings managed by Mr. Rice. The deal also raised concerns regarding access to ANR specific information that could be beneficial to Mr. Rice rather than his clients. Nevertheless, BlackRock permitted Mr. Rice to continue under certain restrictions. There was no follow-up by the firm.

    BlackRock did not inform the boards of directors of the Rice-managed registered funds or advisory clients about Rice Energy. No disclosure was made. Disclosure came in June 2012 when the Wall Street Journal published three articles about Mr. Rice and Rice Energy.

    The Order alleges violations of Advisers Act Sections 206(2), engaging in a course of conduct which constitutes a fraud and deceit, and Section 206(4)-7, failing to adopt and implement reasonable procedures to prevent the violation. In addition, Respondents caused certain BlackRock funds to violate Investment Company Act Rule 38(a)-1(a) which requires registered investment companies, through their chief compliance officer, to provide a report at least annually to the fund’s board of directors addressing each material compliance matter that occurred since the date of the last report.

    To resolve the matter BlackRock agreed to a series of undertakings which include the retention of an independent compliance consultant who will prepare a report. The firm will adopt the recommendations. In addition, BlackRock consented to the entry of a cease and desist order based on the Sections cited in the Order. Mr. Battista also consented to the entry of a cease and desist order but based on Advisers Act Section 206(4) and a related rule and Investment Company Act Rule 38a-1. The firm agreed to pay a penalty of $12 million while Mr. Battista will pay $60,000. This is the first case to charge a violation of Investment Company Rule 38a-1.

    SEC Files Two Offering Fraud Actions Tied To A Horse Farm

    April 21, 2015

    The Commission filed two settled offering fraud actions centered in part around an entity engaged in the purchase and sale of thoroughbred horses called Raintree Racing. A second involved an offering of interests in a real estate investment firm known as Atlanta Rehab which had invested in Raintree Racing. In the Matter of Russell C. Schalk, Jr., Adm. Proc. File No. 31555 (April 17, 2015); In the Matter of Joseph John Labadia, Adm. Proc. File No. 3-16499 (April 17, 2015). Mr. Schalk is currently a vice president of sales for Travel International. He is also the sole control person and a one third owner of Raintree Racing and the control person and CEO of a related entity, Raintree Farm. Mr. Labadia was an unregistered investment adviser who was a one third owner and member of the management committee of Raintree Racing. He is also a certified financial analyst and holds certain securities licenses.

    From 2007 through 2012 Messrs. Schalk and Labadia raised over $1.9 million from investors for Raintree racing. Investors were told that they were making short term principal protected investments in the venture which were characterized as loans. Investors were told that the current rate of return was 20% and that the venture was extremely low risk.

    Raintree Racing, however, lacked cash flow and did not have the financial ability to pay the promised 20% return. In fact Raintree Racing was dependent on the infusion of funds from investors for the continuation of its operations. Nevertheless, investors did receive interest and principal payments.

    While investors were assured that their funds was a safe, over a three year period beginning in 2007, Mr. Schalk transferred about $668,000 from Raintree Racing to Raintree Farm. These transfers were contrary to the representations made to investors and not authorized by the documents they were provided. Indeed, Raintree Racing suspended operations at the end of 2012.

    Some Raintree Racing investors were also offered the opportunity to invest in Raintree Farm. Investors did in fact purchase shares. The PPM, prepared by Mr. Schalk, failed to tell those investors that the Farm was operating at a material net loss, its operations were being funded by Racing and that it had minimal assets. Nevertheless, in late 2012 and early 2013 Mr. Schalk prepared and distributed to investors in Farm statements showing a per share value of $3.34. In fact those shares had little or no value, according to the Order. From 2007 through 2011 Mr. Schalk also diverted about $220,000 from Raintree Racing and Raintree Farm accounts to his personal bank account.

    Mr. Labadia sold unregistered shares in a second venture, Atlanta Rehab, raising over $1.1 million. Atlanta Rehab investors were furnished with statements showing that the enterprise had an investment in Raintree Racing, valuing it at the offering price. At the time, a substantial portion of Atlanta Rehab funds were invested in Raintree Racing.

    The Order in each proceeding alleges willful violations of Securities Act Sections 5(a), 5(c) and 17(a) and of Exchange Act Section 10(b). The Order as to Mr. Labadia alleges violations of Advisers Act Sections 206(1) and 206(2). Each Respondent settled, consenting to the entry of a cease and desist order based on the Sections cited in the Order in their action. Mr. Sahalk also agreed to pay disgorgement of $1,472,959, prejudgment interest and a third tier civil penalty of $1.6 million. An Administrative Law Judge will determine his ability to pay. Mr. Labadia is also barred from the securities business and from serving as an officer or director of a public company. He was ordered to pay disgorgement of $48,337 and prejudgment interest. Payment is suspended based on a sworn statement of an inability to pay.

    Internal Investigations and Cooperation Credit in FCPA Investigations

    April 19, 2015

    Cooperation credit and conducting internal investigations were key themes in recent remarks by Assistant Attorney General Leslie Caldwell at New York University Law School’s Program on Corporate Compliance and Enforcement (April 17 2015)(here). These have long been critical issues for corporations facing a question of self-reporting, particularly in the FCPA area.

    Companies considering whether to seek cooperation credit must do more than simply conduct an internal investigation and report to the Department, the Assistant AG noted. To earn credit “we expect that company to conduct a thorough internal investigation and to turn over evidence of wrongdoing to our prosecutors in a timely and complete way. Perhaps more critically, we expect cooperating companies to identify culpable individuals—including senior executives if they were involved – and provide the facts about their wrongdoing.”

    While noting that the Department does not want to tell firms how to conduct an internal investigation, there is no such thing as an “off the rack” inquiry, Ms. Caldwell noted On the other hand there are what she called “hallmarks of all good internal investigations. Chief among them is the identification of wrongdoers. The mere voluntary disclosure of corporate misconduct—by itself—is not enough.”

    It is critical that investigations be independent and designed to uncover the facts, not “spread company talking points or whitewash the truth.” The complete facts must be provided in a timely fashion. This does not mean that the investigation has to extend into unnecessary areas, expending millions of dollars. “This is particularly true in the FCPA context where the need for international evidence can add to the expense and burden of an investigation.”

    While in many instances companies spend large sums on investigations it is not always necessary, according to the Assistant AG. The Department expects internal investigations to be thorough but “we do not expect companies to aimlessly boil the ocean.” For example, if an FCPA violation is discovered in one country and there is no basis to suspect violations are occurring elsewhere, “we would not necessarily expect it [the company] to extend its investigation beyond the conduct in that country. On the other hand, if the same people involved in the violation also operated in other countries, we likely would expect the investigation to be broader.”

    Companies may chose not to cooperate. While this may delay the Department’s inquiry, it “rarely thwarts . . .” the investigation. A good example in the FCPA area is the Alstom inquiry. There the Criminal Division performed an extensive investigation without the cooperation of the company. The result: “Today, four individual Alstom executives have been charged with FCPA crimes, three of the executives have pleaded guilty; Alstom’s consortium partner, Marubeni, was charged and pleaded guilty after also opting not to cooperate, and Alstom pleaded guilty and paid a $772 million penalty – the largest criminal penalty in the history of the FCPA.”

    Firms should carefully consider these facts when evaluating whether to self-report and cooperate. In the end, the Department will continue its investigation Ms. Caldwell noted regardless of the decision by the company. At the same time if the company intends to cooperate, it is critical that in internal investigation be designed to fit the situation, comprehensive, timely and that those responsible be identified.

    This Week In Securities Litigation (Week ending April 17, 2015)

    April 16, 2015

    Microcap fraud, misappropriation by investment advisers and offering fraud cases were the focus of SEC enforcement this week. The Commission filed a microcap fraud action centered on blank check companies involving ten individuals. Two new actions focused on misappropriation by investment advisers while an additional two centered on offering fraud claims. An action was also brought based on a financial fraud that endured for over two decades.

    SEC

    Testimony: Chair Mary Jo White testified before the House Subcommittee on Financial Services and General Government Committee on Appropriations (April 15, 2015). Her testimony centered on the Fiscal Year 2016 budget request (here).

    Remarks: Commissioner Daniel M. Gallagher delivered remarks at the Harvard Law School Symposium on Building the Financial System of the 21st Century titled “An Agenda for Europe and the United States, Frankfurt, Germany (April 15, 2015). His remarks focused on regulatory harmonization (here).

    Remarks: Commissioner Kara M. Stein delivered remarks at the SIFMA Operations Conference titled “The Dominance of Data and the Need for New Tools” (April 14, 2015). Her remarks focused on new market structure, the significance of data and an office of data strategy (here).

    Remarks: Commissioner Luis A. Aguilar delivered remarks at the North American Securities Administrators Association Annual NASAA/SEC 19(d) Conference titled “Regulators Working Together to Serve Investors,” Washington, D.C. (April 14, 2015). His remarks focused on the risks of complex securities to retail investors and enhancing the regulatory partnership between the SEC and state regulators (here).

    CFTC

    Testimony: Commissioner Mark Wetjen testified before the House Committee on Agriculture, Subcommittee on Commodity Exchanges, Energy and Credit (April 14, 2015). His testimony reviewed rule making under Dodd-Frank, disruptive technologies, cybersecurity and automated trading (here).

    SEC Enforcement – Filed and Settled Actions

    Statistics: During this period the SEC filed 6 civil injunctive actions and 6 administrative proceeding, excluding 12j and tag-along proceedings.

    Microcap fraud: SEC v. McKelvey, Case No. 9:15-cv-80496 (S.D. Fla. Filed April 16, 2015) is an action which has two groups of defendants: The control group included Danile McKelvey, Alvin Mirman and Steven Sanders. The nominee group included Scott Hughes, Jeffrey Lamson and Edward Sanders. The control group implemented a scheme which involved at least 22 blank check companies that were set up for reverse mergers. The control persons retained a group of attorneys, auditors, brokers and transfer agents to implement the scheme which included keeping the periodic filings of the firms current and filing applications with FINRA and Depository Trust Company. The filings and certificates were falsified. The defendants in the second group served as nominal figureheads of the companies. About 18 of the blank check companies were sold through reverse mergers, netting about $6 million. The complaint alleges violations of each subsection of Securities Act Section 17(a), Exchange Act Sections 10(b), 13(a), 13(b)(2)(a), 13(b)(2)(B), 13(b)(5), 15d-15, 20(b) and control person liability under Exchange Act Section 20(a). Four settled administrative proceedings, each against a person who served as a nominee, were filed: In the Matter of Edward T. Farmer, Adm. Proc. File No. 3-16493 (April 16, 2015)(settled with a consent to a cease and desist order based on Securities Act Section 17(a) and Exchange Act Sections 10(b), 13(b)(2)(A), 13(b)(2)(B), 13(b)(5) and 15(d), the payment of $35,000 in disgorgement, prejudgment interest; payment of the prejudgment interest was waived based on financial condition; officer/director and penny stock bars were entered); In the Matter of William J. Gaffney, Adm. Proc. File No. 3-16494 (April `6, 2015)(consent to a cease and desist order based on the same Sections as in Farmer along with an officer/director and penny stock bar; disgorgement of $10,000 and prejudgment interest, payment of which is waived based on financial condition); In the Matter of Kevin D. Miller, Adm. Proc. File No. 3-16496 (April 16, 2015)(consent to a cease and desist order based on the same Sections as Farmer, an officer/director and penny stock bar and $10,000 in disgorgement along with prejudgment interest, payment of which is waived except for $5,000 based on financial condition); In the Matter of Ronald A. Warren, Adm. Proc. File No. 3-16495 (April 16, 2015)(consent to a cease and desist order based on the same Sections as Farmer, an officer/director and penny stock bar and the payment of disgorgement of $12,029.88 and prejudgment interest; no penalty was assessed based on financial condition). See Lit. Rel. No. 23243 (April 16, 2015).

    Misappropriation: In the Matter of Sean C. Cooper, Adm. Proc. File No. 3-16130 (April 16, 2015). Mr. Cooper was the managing member of WestEnd Capital Management, LLC, a San Francisco based registered investment adviser. He was also the portfolio manager for WestEnd Partners L.P, a hedge fund advised by WestEnd. Although the operating documents called for the payment of an annual management fee in quarterly segments, beginning in March 2010 Mr. Cooper withdrew money from the Fund as if it were his personal line of credit and in a manner which had no relationship to the fees owed. Overall he misappropriated about $211,579. The Order alleges violations of Advisers Act Sections 206(1), 206(2), 206(4) and 207. To resolve the proceeding Mr. Cooper consented to the entry of a cease and desist order based on the Sections cited. He also agreed to the entry of a bar from the securities business. In addition, he will pay disgorgement in the amount of the cash he took from the fund and prejudgment interest along with a civil penalty of $175,000.

    Subprime disclosure: SEC v. Syron, Civil Action No. 11-cv-9201 (S.D.N.Y.) is a previously filed action whose defendants included the former CEO of Freddie Mack, Richard Syron, its former Business Officer, Patricia Cook, and a former senior executive, Donald Bisenius. The Court entered an order resolving the case as to these defendants. That order requires that the three defendants refrain from signing certain periodic reports required to be filed with the SEC or SOX certifications and from violating the antifraud and reporting provisions of the federal securities laws for 18 months as to Mr. Syron and Ms. Cook and 12 months as to Mr. Bisenius. Each defendant will contribute the following amounts to a fair fund: Mr. Syron $250,000; Ms. Cook, $50,000; and $10,000 for Mr. Bisenius. See Lit. Rel. No. 23241 (April 14 2015).

    Investment fund fraud: SEC v. Evans, Civil Action No. 1:15-01118 (N.D. Ga. Filed April 13, 2015). Beginning in 2012 defendant James Evans, operating a website using the DollarMonster name through domain name Cashflowbot.com, soliciting investors with claims of big profits. The DollarMonster site stated that the payout of profits was tied to receipt of additional investment funds from others. Specifically, investors were told that their funds would be pooled and that the pool pays off the next person in line giving them a return of 200% after which that investor returns to the end of the line. Each time funds come in there is a payoff. If no funds come in the line does not change. For this service DollarMonster charged a fee of 2.5% plus a $2.24 transaction fee. The website specifically represented that DollarMonster had paid out sums exceeding those contributed by investors, which is false. It also did not tell investors that if there were no additional contributions the scheme would collapse. In 2013 the site was altered several times, making a series of false claims. When the staff issued a subpoena to the site it ceased operation, although the complaint alleges, on information and belief, that Mr. Evans continues to solicit investor funds. The complaint alleges violations of Securities Act Sections 5(a) and 5(c), each subsection of Section 17(a), Exchange Act Section 10(b) and Advisers Act Section 206(4). The case is pending.

    Offering fraud: SEC v. Brown, Civil Action No. 6:15-cv-119 (W.D. Tx. Filed April 13, 2015). DefendantLeroy Brown was a member of the United States Army for twelve years. After separating from the service he formed LB Stocks and Trades Advice LLC 2014. Mr. Brown and his firm claim on its website to furnish a variety of securities and investment related services and to be a FINRA broker dealer, none of which is correct.

    Mr. Brown, who resides near Fort Hood military instillation, began targeting military personnel to purchase $1,000 membership certificates in the company. Touting his military service, he claimed that investors would participate in LB Stocks’ speculative investments in raw, undeveloped land. Potential investors were told to wire their investment funds to Mr. Brown. Beginning in early 2014 Mr. Brown began receiving substantial deposits into his personal brokerage account. He then transferred nearly all of those funds from his brokerage account to his personal bank account. The complaint alleges violations of Securities Act Sections 5(a), 5(c) and 17(a) and Exchange Act Section 10(b). The Commission obtained a temporary freeze order at the time the complaint was filed. The case is pending.

    Offering fraud: SEC v. Mieka Energy Corporation, Civil Action No. 3:15-cv-01097 (N.D. Tx. Filed April 10, 2015). Named as defendants in the action are: Mieka Energy, a wholly owned subsidiary of another defendant, Vadda Energy Corporation, based in Flower Mound, Texas, which registered its shares under the Exchange Act; Daro Blankenship, the founder and managing director of Mieka and also the President and CEO of Vadda of which he and his wife own 79%; Robert Myers, Jr., Mieka’s vice president of project development; and Stephen Romo, previously a real estate broker, who sold interests in Mieka. Beginning in September 2010 Mieka Energy marketed what were called joint venture interests nationwide to investors, raising about $4.4 million from 60 investors. The interests were marketed through extensive boiler-room type calls. Two of the salesmen in this effort were defendants Myers and Romo. Neither was registered with the SEC or associated with a Commission registered broker-dealer. Contrary to the representations made to investors, Mieka Energy did not drill the horizontal well. It did do work on a vertical well which was not completed. When most of the investor funds were gone, Mr. Blankenship furnished investors with a series of update letters, falsely claiming that the wells would be developed and completed in the near future. The complaint alleges violations of Securities Act Section 17(a) and Exchange Act Sections 10(b), 13(a) and 15(a) and control person liability under Section 20(a). The case is pending. See Lit. Rel. No. 23239 (April 10, 2015).

    Misappropriation: SEC v. Cohen, Civil Action No. 2:15-cv-01292 (D. N.J.) is a previously filed action which named as defendants Mr. Cohen and Proteonomix, Inc., a company for which Mr. Cohen served as CEO and at times CFO. The complaint alleged that beginning in 2012 Mr. Cohen implemented a scheme by which he fraudulently obtained over $600,000 from the firm by having it issue shares to accounts he controlled. Those shares were subsequently sold at his direction. The Court entered an order containing a permanent injunction based Securities Act Sections 5(a), 5(c) and 17(a) and Exchange Act Sections 10(b), 13(a), 13(b)(2)(a), 13(b)(2)(b) and 13(b)(5). The order also provides that disgorgement, prejudgment interest and a civil penalty will be determined at a later date by the Court. Previously, Mr. Cohen pleaded guilty in a parallel criminal case. See Lit. Rel. No. 23238 (April 10, 2015).

    Financial fraud: SEC v. Fusamae, Civil Action No. 15 C 3142 (N.D. Ill Filed April 9, 2015) is an action against Katsuichi Fusamae, senior accounting officer of Molex Japan, based in Yamato, Japan. It is a subsidiary of Molex Inc. whose shares were traded on NASDAQ. Mr. Fusamae was required as part of his duties to invest excess cash in conservative instruments such as CDs. Beginning in 1989 Mr. Fusamae invested the firm’s excess cash in riskier securities. He also traded equities through a margin account. Almost immediately Mr. Fusamae suffered losses. Initially he was able to conceal the losses by borrowing from the broker and moving the funds into the accounts temporarily at year end so he could show the auditors account statement with appropriate balances. Later he used the firm’s banking relations and pledged its real estate to secure loans to cover the losses. Since he reconciled the accounts, the firm was unaware of his activities. The fraud was also concealed from the auditors through the use of forged confirmations. In late March 2010 Mr. Fusamae was unable to secure additional funding to cover the losses. The next month he mailed a letter of confession to the company, revealing losses that he estimated to be about JPY 16.6 billion or U.S. $166 million. The losses had a material impact on the financial statements of the parent company. In August 2010 Molex filed a Form 8-K disclosing that it was restating its financial statements for fiscal 2008, 2009 and the first three quarters of fiscal 2010 to account for the losses from the trading scheme. The complaint alleges violations of Exchange Act Sections 10(b), 13(b)(2)(A), 13(b)(2)(B) and 13(b)(5). The case is pending. See Lit. Rel. No. 23237 (April 9, 2015). See also In the Matter of Molex, Inc., Adm. Proc. File No. 3-1642 (April 9, 2015)(settled action against the firm).

    Criminal cases

    Misappropriation: U.S. v. Oppenheim (S.D.N.Y. April 16, 2015) is an action which charges Michael Oppenheim with wire, securities and investment adviser fraud. Mr. Oppenheim was formerly an investment adviser at an international bank. He is alleged to have embezzled about $20 million from clients over a four year period. Beginning in March 2011 he converted client funds to his own use. In some instances he convinced clients to withdraw the funds which he falsely stated would be used to purchase low risk municipal securities. The money was then converted to his personal use. To conceal the scheme clients were furnished with false account statements. The SEC filed a parallel action. SEC v. Oppenheim, Civil Action No. 15 cv 2357 (S.D.N.Y. Filed April 16, 2015). Both cases are pending.

    PCAOB

    Agreement: The Board announced that it has entered into a cooperative arrangement with the Auditors’ Public Oversight Authority of the Ministry for the National Economy of Hungary or APOA. The agreement, which is effective immediately, calls for the oversight of audit firms subject to the jurisdiction of the two regulators, contains a framework for joint inspections and provides for data protection and the exchange of confidential information.

    Australia

    Manipulation: The Australian Securities and Investment Commission banned Anton Kerstens from the securities business for five years. The order was based on findings that over a period of five months in 2012 he supported the price of Cauldron Energy shares as it was falling. Although some of his clients actually wanted to accumulate shares his strategy was not legitimate and undermined the integrity of the markets.

    U.K.

    Corruption: The Serious Frauds Office announced charges of corruption and conspiracy against Alstom Network UK and Michael Anderson, employed as a business development director for Alstom Transport SA in France. The charges relate to January 1, 2006 and October 18, 2007 regarding the supply of trains to the Budapest Metro. This is the third phase of an investigation that began with a report to the SFO from the Attorney General in Switzerland regarding Alstom Group. Previously corruption charges were brought against Alstom Network UK Ltd and Graham Hill and Robert Hallett regarding India, Poland and Tunisia. That matter is awaiting trial. Microcap fraud, misappropriation by investment advisers and offering fraud cases were the focus of SEC enforcement this week. The Commission filed a microcap fraud action centered on blank check companies involving ten individuals. Two new actions focused on misappropriation by investment advisers while an additional two centered on offering fraud claims. An action was also brought based on a financial fraud that endured for over two decades.

    SEC Files Financial Fraud Action Against Japan Based Controller

    April 15, 2015

    The Commission filed a financial fraud action against a former senior accounting officer and controller of Molex Japan Co., Ltd., the Japanese based subsidiary of publically traded Molex Inc. The scheme, which took place in Japan but impacted the books and records of the U.S. parent, was discovered after over twenty years when the controller of the Japanese firm wrote a letter of confession to the company. SEC v. Fusamae, Civil Action No. 15 C 3142 (N.D. Ill Filed April 9, 2015).

    Katsuichi Fusamae was the senior accounting officer of Molex Japan, based in Yamato, Japan. The firm is a subsidiary of Molex, headquartered in Lisle, Illinois, whose shares were traded on the NASDAQ until the firm was acquired in December 2013.

    Mr. Fusamae held various accounting positions at Molex Japan beginning in 1975. His responsibilities included investing excess cash from Molex Japan’s operations. Investments were restricted to certificates of deposit, government treasury bills, European currency deposits and prime corporate paper. The investments were made through firm brokerage accounts.

    Beginning in 1989 Mr. Fusamae invested the firm’s excess cash in riskier securities. He also traded equities through a margin account. There was no authorization for these transactions Almost immediately Mr. Fusamae suffered losses. Initially, he was able to conceal the losses by borrowing from the broker and moving the funds into the accounts temporarily at year end to provide the auditors with appropriate account statement balances.

    As the losses mounted Mr. Fusamae resorted to raising cash through the firm’s banking relationships. Although such documents had to have the company “seal,” which in Japan signified that they were authorized, Mr. Fusamae had access through his position. Mr. Fusamae collateralized the loans by pledging the firm’s real estate. He accessed the necessary documents through his position in the accounting department where they were kept. By taking control of the brokerage account and bank reconciliation process he was able to conceal his activities from the company.

    Mr. Fusamae also concealed the unauthorized trading and borrowing from the outside auditors. As part of the audit process the audit firm sent confirmations to the brokerage firms and banks. When those confirmations were sent Mr. Fusamae arranged to meet met with the brokers and bankers and obtain the executed confirmations, assuring the executives that he would return documents to the audit firm. In fact he did return the confirmations through the mail as requested by the auditors, but only after altering the documents to conceal his activities.

    In late March 2010 Mr. Fusamae was unable to secure additional funding to cover the loses. The next month he mailed a letter of confession to the company, revealing losses that he estimated to be about JPY 16.6 billion or U.S. $166 million.

    The losses had a material impact on the financial statements of the parent company. In August 2010 Molex filed a Form 8-K disclosing that it was restating its financial statements for fiscal 2008, 2009 and the first three quarters of fiscal 2010 to account for the losses from the trading scheme. For the restated years Molex recognized loses of $4.7 million in 2008, $2.7 million in 2009 and $26.7 million in 2010. Mr. Fusamae knew that the financial statements of Molex Japan were consolidated into those of the parent, according to the complaint. That complaint alleges violations of Exchange Act Sections 10(b), 13(b)(2)(A), 13(b)(2)(B) and 13(b)(5). The case is pending. See Lit. Rel. No. 23237 (April 9, 2015). The company settled a related Commission action. In the Matter of Molex, Inc., Adm. Proc. File No. 3-1642 (April 9, 2015)(here).

    SEC Files Offering Fraud and Ponzi Scheme Cases

    April 14, 2015

    A staple of SEC enforcement in recent years has been offering fraud and Ponzi scheme cases. This week the Commission filed two more of these actions, one an offering fraud targeting military personnel and a second and investment fund fraud case which virtually told investors it was a Ponzi scheme. SEC v. Brown, Civil Action No. 6:15-cv-119 (W.D. Tx. Filed April 13, 2015); SEC v. Evans, Civil Action No. 1:15-01118 (N.D. Ga. Filed April 13, 2015).

    The offering fraud: Leroy Brown was a member of the United States Army for twelve years. He joined the Army at the age of 18 in 2001. He formed LB Stocks and Trades Advice LLC and has claimed on his Facebook page to be its CEO and founder since 2004, although the required certificates for the formation of the firm were not filed with Texas state authorities until 2014.

    Mr. Brown and his firm claim on its website to furnish a variety of securities and investment related services. Those include investment advice, portfolio management, research and brokerage services for securities, currencies, commodities and real estate. The firm also claims to be a FINRA broker-dealer, although it has never registered with the regulator. The firm also claimed to offer 7,600 leading mutual funds and that investors can trade over 200 future products. These representations also were incorrect. Mr. Brown is not a licensed securities professional.

    Mr. Brown, who resides near Fort Hood military instillation, began targeting military personnel to purchase $1,000 membership certificates in the company. Touting his military service, he claimed that investors would participate in LB Stocks’ speculative investments in raw, undeveloped land. Potential investors were told to wire their investment funds to Mr. Brown.

    Beginning in early 2014 Mr. Brown began receiving substantial deposits into his personal brokerage account. Mr. Brown then transferred nearly all of these funds from his brokerage account to his personal bank account. The complaint alleges violations of Securities Act Sections 5(a), 5(c) and 17(a) and Exchange Act Section 10(b). The Commission obtained a temporary freeze order at the time the complaint was filed. The case is pending.

    The Ponzi scheme: Beginning in 2012 defendant James Evans, operating a website using the DollarMonster name through domain name Cashflowbot.com, soliciting investors with claims of big profits. The site claimed to have been working with investors since 2003 and was designed to furnish reliable, profitable returns on investments.

    The DollarMonster site stated that the payout of profits was tied to receipt of additional investment funds from others. Specifically, investors were told that their funds would be pooled, that the pool pays off the next person in line giving them a return of 200% after which that investor returns to the end of the line. Each time funds come in there is a payoff. If no funds come in the line does not change. For this service DollarMonster charged a fee of 2.5% plus a $2.24 transaction fee.

    The website specifically represented that DollarMonster had paid out sums exceeding those contributed by investors, which is false. It also did not tell investors that if there were no additional contributions the scheme would collapse.

    In 2013 the site was altered. In October the site told investors that DollarMonster was a “financial adviser” with over 120 management teams and $38 million of assets under management. The next month the site claimed DollarMonster managed a hedge fund which purchased stock. Later the site claimed DollarMonster was a private holding company. When the staff issued a subpoena to the site it ceased operation, although the complaint alleges, on information and belief, that Mr. Evans continues to solicit investor funds. The complaint alleges violations of Securities Act Sections 5(a) and 5(c), each subsection of Section 17(a), Exchange Act Section 10(b) and Advisers Act Section 206(4). The case is pending.

    SEC Files Offering Fraud Action

    April 13, 2015

    The Commission filed another offering fraud action tied to the sale of interests in the development of oil and gas wells prior to the recent downturn in the price of oil. Beginning in 2010 the defendants raised about $4.4 million from 60 investors through a nationwide offering. The defendants largely dissipated the investor funds, according to the complaint. SEC v. Mieka Energy Corporation, Civil Action No. 3:15-cv-01097 (N.D. Tx. Filed April 10, 2015). See Lit. Rel. No. 23239 (April 10, 2015).

    Named as defendants in the action are: Mieka Energy, a wholly owned subsidiary of another defendant, Vadda Energy Corporation, based in Flower Mound, Texas, which registered its shares under the Exchange Act; Daro Blankenship, the founder and managing director of Mieka and also the President and CEO of Vadda of which he and his wife own 79%; Robert Myers, Jr., Mieka’s vice president of project development; and Stephen Romo, previously a real estate broker, who sold interests in Mieka.

    Beginning in September 2010 Mieka Energy marketed what were called joint venture interests nationwide to investors. The offering package contained brochures, newspaper and magazine segments, a Confidential Information Memorandum, a joint venture agreement, a subscription agreement and an investor questionnaire. Investors were told that the funds raised in the offering would be used to drill, test and complete horizontal and vertical gas wells in Westmoreland County, Pennsylvania. The documents also authorized the payment of offering and organizational costs and discussed a fee for Mieka Energy. These were supposed to be turnkey projects undertaken with an affiliate.

    The interests were marketed through extensive boiler-room type calls. While investors were told that they would be acquiring joint venture interests, in fact they had little control. Two of the salesmen in this effort were defendants Myers and Romo. Neither was registered with the SEC or associated with a Commission registered broker-dealer.

    Contrary to the representations made to investors, Mieka Energy did not drill the horizontal well. It did do work on a vertical well. That well was not functional, however, because it was never connected to a transmission line for the gas. About $850,000 was spent on development activities. Overall the commissions and those development costs constituted a little over 21% of the total funds raised from investors.

    When most of the investor funds were gone, Mr. Blankenship furnished investors with a series of update letters. Those letters indicated that the wells would be developed and completed in the near future. Filings made with the Commission by Vadda did not disclose the true nature of the project.

    The complaint alleges violations of Securities Act Section 17(a) and Exchange Act Sections 10(b), 13(a) and 15(a) and control person liability under Section 20(a). The case is pending.