The first week back after the shutdown was undoubtedly busy for the Enforcement Division and the entire Commission. Whether the government is going to continue past February 15 or not remains an open question and an issue which has all but dropped from the news.
The Commission filed seven cases this week, three civil injunctive actions and four administrative proceedings. The mix of cases reflects the typical pattern seen in the period prior to the December halt: The cases filed in federal court involved two offering frauds and the misappropriation of client assets by an investment adviser. The remaining cases were all virtually identical. Each involved a years long failure to correct material deficiencies in internal controls. Each was filed as a settled administrative proceeding.
SEC Enforcement – Filed and Settled Actions
The Commission filed 3 civil injunctive actions and 4 administrative proceedings this week, exclusive of 12j and tag-along actions.
Internal controls: In the Matter of Lifeway Foods, Inc., Adm. Proc. File No. 3-18970 (Jan. 29, 2019). This is one of four proceedings centered on the issue of internal controls. Respondent is a dairy food producer incorporated in 1986 which is based in Morton Grove, Illinois. The firm is controlled by a family. For nine years Lifeway Foods had “significant deficiencies in the aggregate that constituted a material weakness in 2016,” according to the Order. Those material weaknesses, beginning as early as 2007, resulted from matters such as: Incomplete, inadequate and undocumented financial reporting processes; the lack of adequate financial statement review; and the failure to consistently demonstrate effective preparation, support and review of journal entries and account reconciliation. Many of the weaknesses recurred and were tied to financial reporting, accounting or entity controls. During the period three restatements were announced. In late 2013 Respondent began remediating the issues. Two years later a SOX consultant was retained to assist. By the end of 2017 the process was completed. The consultant continues to work with the company. The Order alleges violations of Exchange Act section 13(a), 13(b)(2)(A) and 13(b)(2)(B). To resolve the proceedings Respondent consented to the entry of a cease and desist order based on the sections cited in the Order. The firm also agreed to pay a penalty of $100,000. See also Digital Turbine, Inc., Adm. Proc. File No. 3-18971 (Jan. 29, 2019)(seven years of violations ending in 2018; resolved with a cease and desist order based on Exchange Act section 13(b)(2)(B) and payment of a $100,000 penalty); In the Matter of Cytodyn Inc., Adm. Proc. File No. 84994 (Jan. 29, 2019)(nine years of violations ending in 2017; resolved with a cease and desist order based on Exchange Act section 13(b)(2)(B) and the payment of a $35,000 penalty); In the Matter of Grupo Simec S.A.B. De C.V., Adm. Proc. File No. 3-18972 (Jan. 29, 2019)(ten years of violations which are currently being remediated; resolved with a cease and desist order based on Exchange Act section 13(b)(2)(B), an order to comply which certain undertakings which in part requires the retention of an independent consultant; and the payment of a penalty in the amount of $200,000).
Offering fraud: SEC v. Shapiro, Civil Action No. 1: 12-cv-24624 (S.D. Fla.) is an action against Robert Shapiro, his firm the Woodbridge Group, a collection of 281 related entities, and ten others. The complaint, filed in 2017, alleged that defendants defrauded about 8,400 investors out of about $1.2 billion. The firm collapsed into bankruptcy after suit was filed. The Commission settled with the firm, Mr. Shapiro and ten others, obtaining orders from the Court directing the payment of disgorgement and penalties totaling about $1 billion in a case that focused on the protection of retail investors, a key priority of the agency. The company will pay, for example, $892,173,765. That sum will be deemed satisfied by a Liquidating Trust being formed under a plan in the Woodbridge Chapter 11 case in U.S. District Court in the District of Delaware, No. 17-12560. Separately, Mr. Shapiro was ordered to pay $18,546,643 in disgorgement along with $2,163,613,369 in prejudgment interest. He also consented to the entry of a permanent injunction, entered by the Court, prohibiting future violations of Securities Act sections 5 and 17(a) and Exchange Act sections 10(b), 15(a) and 20(a). In addition, Mr. Shapiro consented to the entry of an order in an administrative proceeding which will bar him from the securities business and from participating in any penny stock offering. Finally, the Court entered orders against each of the other defendants. Collectively, RS Protection Trust and several relief defendants were ordered to pay about $5.3 million in disgorgement and pre-judgment interest.
Financial fraud: SEC v. American Growth Funding II, LLC, Civil Action No. 16-cv-00828 (S.D.N.Y) is a previously filed action action which named as defendants the lending firm, its owner, Ralph C Johnson, and others. The Court entered final judgments against the firm and Mr. Johnson, enjoining each from future violations of Securities Act section 17(a) and Exchange Act section 10(b). Mr. Johnson will pay a penalty of $75,000 and an amount of disgorgement to be determined at a future date based on a calculation done by the magistrate which determined it to be $577,731 less certain deductions which must be properly documented. The underlying complaint claimed that over a two year period, beginning in 2011, the company and Mr. Johnson falsely told investors the financial statements of the firm were audited. The company also made misrepresentations in offering documents and concealed details about deteriorating loan values that may have impaired full payment. The action continues as to other defendants. See Lit. Rel. No. 24382 (Jan. 25, 2019).
Misappropriation: SEC v. Meyers, Civil Action No. 1:18-cv-05868 (N.D. Ga. Filed Dec. 26, 2018) is an action which names as defendants the Georgia-registered investment adviser and its sole owner, Joseph Meyers. Defendants are alleged to have defrauded Arjun, L.P, a private fund they managed. Specifically, over a nine-year period beginning in 2009 Defendants represented to investors that, for one group, they would be guaranteed against loss in return for a give-up of a portion of their profits and for another group a guaranteed return for a similar give-up. The funds relinquished were to be placed in certain accounts. In fact, the funds were used by Defendants. In addition, while Mr. Meer claimed to pay down the receivable in-fact he borrowed the funds thereby increasing its amount. The complaint alleges violations of each subsection of Securities Act section 17(a), Exchange Act section 10(b) and Advisers Act sections 206(1), 206(2) and 206(4). See Lit. Rel. No. 24383 (Jan. 28, 2019).
Offering fraud: SEC v. Carter, Civil Action No. 3:19-cv-00206 (N.D. Tx. Filed Jan. 25, 2019) is an action which names as defendants Phillip Carter, a real estate developer, Bobby Guess, Richard Tilford and three entities controlled by one of the individual defendants. Over a period of two years, beginning in the spring of 2015, the three individual defendants sold short-term high-yield promissory notes to over 270 individuals, raising about $44 million. The notes were supposedly from real estate entities of Mr. Carter. In fact, they were not. Rather, the notes were from shell entities denominated with similar names to the actual real estate firms to deceive the public. While investors were assured the notes were good investments and low risk, in fact Mr. Carter misappropriated about $1.2 million of the investor cash for his own purposes. The complaint alleges violations of Securities Act sections 5(a), 5(c) and 17(a) and Exchange Act sections 10(b) and 15(a). The complaint is pending. Parallel criminal charges were filed by the Texas State Securities Board.
Offering fraud: U.S. v. Jean-Pierre, No. 1:17-00008 (D. Colo. Verdict Jan. 30, 2019) is an action which names Colorado attorney Guy Jean-Pierre as a defendant. Mr. Jean-Pierre was found guilty by a jury on 28 counts of wire fraud, mail fraud, securities fraud, money laundering and conspiracy following a twelve day trial. The case centered on a scheme in which Defendant and others raised over $12 million selling the securities of a microcap shell they acquired and renamed FusionPharm. Specifically, the attorney, in conjunction with William Sears, who ran the company from behind the scenes to conceal his prior criminal conviction, and Scott Dittman, the CEO, participated in a scheme in which shipping containers were obtained and renamed “pharma pods” prior to being resold to grow marijuana using hydroponics. Attorney Jean-Pierre also executed false documents to facilitate the sale of unregistered company shares while the market was being manipulated to increase the price. At trial Attorney Jean-Pierre admitted to making mistakes but argued he did not have criminal intent. Sentencing is scheduled for July 19, 2019.
Markets: The Securities and Futures Commission and Clearing Limited or HKEX and the Federation of Share Registers Ltd have issued a consultation paper proposing revisions to the operational model for exchanges. Specifically, the paper discusses a revised system under which an uncertificated or paperless securities market would operate. The elimination of certificates in view of the ongoing technological development of the Hong Kong markets would make those markets more efficient. The implementation would take place over a period of months. The consultation is open for three months during which time comments are welcome.
Program: Save the Date of March 19, 2019 for: “Women in Compliance” held at Dorsey & Whitney LLP, 51 West 52nd St. New York, New York, 10019-6119. The program begins at 6:00 p.m. and is followed by cocktails.