by T. GormanPosted on Posted in SECActions

Financial fraud actions frequently involve the improper use of accounting principles such as the premature recognition of revenue or the incorrect capitalization of expenses, each of which will improperly boost revenue and ultimately profit. The Commission’s most recent case in this area differs from the more traditional cases. It centers on what amounts to a series of sham transactions used to boost long term debt. The scheme, which continued even after the executives executing it were forced to reveal the conduct in part, was designed to secure certain government funds for the company. SEC v. Massimino, Civil Action No. 2:19-cv-01374 (C.D. Cal. Filed Feb. 25, 2019).

Defendants Jack Massimino and Robert Owen were, respectively the CEO and CFO of Corinthian Colleges, Inc., a publicly traded operator of 125 for profit colleges. About 80% of the firm’s revenue came from the federal government through student loans and grants under Title IV of the Higher Education Act of 1968.

Receipt of revenue under Title IV depended on the company achieving a certain composite score calculated by the U.S. Department of Education from certain financial metrics. Long term debt increased the institution’s composite score. If the score equaled or exceeded 1.5 the institution received unqualified access to Title IV Funds. If the composite score was below that point, the institution faced heightened scrutiny and possible delay in receiving the funds.

To ensure that Corinthian achieved a score that assured Title IV Funds would flow, at year-end the company boosted its long-term debt through borrowings on its line of credit. A short while later the borrowings would be repaid. Thus, for example, at FY year-end 2011 Corinthian borrowed $43 million which was initially added to its long term debt but was repaid within a few days. At FY 2012 the firm borrowed $52 million for the same reason which was also repaid a short time later. And, at FY 2013 year-end Corinthian borrowed $25 million, repaid within a few days.

The Department of Education sent Corinthian a letter in mid-August 2013 stating in part that the year-end borrowings were incorrectly included in long term debt for FY 2011, dubbing them “questionable accounting treatment.” Corinthian excluded the borrowings and filed a Form 8-K later the same month. The filing stated that the Department of Education required the elimination of the long term debt for 2011, that the company disagreed and that there could be no assurance there would not be “additional disagreements” with the government.

The disclosures were false and misleading, according to the complaint. Material facts were omitted because the filing did not disclose the 2012 and 2013 borrowings which were identical to those in 2011 and which were under review. The firm also failed to disclose the risk that the Department of Education would require the elimination of the claimed long-term borrowings in those two years and the impact of such a determination. The suggestion that there might be additional disagreements was not sufficient to alert investors the complaint asserted. The complaint alleges violations of Securities Act Section 17(a)(3) and Exchange Act Section 13(a).

To resolve the case each Defendant consented to the entry of a permanent injunction as to Mr. Massimino based on the sections cited in the complaint and as to Mr. Owen on Section 13(a). Mr. Massimino will also pay a penalty of $80,000 while Mr. Owen will pay $20,000. See Lit. Rel. No. 24410 (February 25, 2019).

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by T. GormanPosted on Posted in SECActions

The focus on retail investors by the Commission’s Enforcement Division is not new. The agency has long sought to protect retail investors. Over the years the Commission has brought a series of offering and microcap fraud cases along with pump-and-dump manipulations actions, all of which typically target retail investors, often seniors. The task force the Division of Enforcement recently formed to focus on these cases and the number of these actions being brought is new.

Recently the Ninth Circuit Court of Appeals summarily affirmed a grant of summary judgment in favor of the Commission in a long-running offering fraud that targeted retail investors. SEC v. Inteligentry, LTD, No. 17-1664 (9th Cir. Jan. 28, 2019). Inteligentry, Ltd., PlasmERG, Inc. PTP Licensing, Ltd and John Rohner, who formed and controlled each entity, are the defendants.

The claims trace back ten years to 2009 when Defendants began marketing an investment opportunity to acquire shares of a firm that had “developed, tested, and patented an operational ‘plasma engine’ fueled by abundant and inexpensive noble gasses . . . which will replace the internal combustion engine and can run for several months on a single charge of gas mixture at a cost of less than $1,” according to the complaint.

The final plasma engines were perched to roll of the production line shortly, according to promoters. At that point the stock would be worth billions of dollars. The stock is available now; later it would not potential investors were told. The investor funds would finance the completion of the process. Mr. Rohner, the developer, had advanced degrees from MIT.

Investors purchased the shares. About $1.8 million was paid by 98 people based on the claims. Those representations were all false. No invention; no engine; no billion-dollar stock; and no investor money — it had been syphoned off by Mr. Rohner who had no degrees from MIT.

The Circuit Court’s order affirmed the decision of the district court. That court concluded that Defendants had engaged in fraud in violation of Securities Act Section 17(a) and Exchange Act Section 10(b). It ordered the payment of $1,822,825 in disgorgement, $411,100 in prejudgment interest and $750,000 in penalties. See Lit. Rel. No. 24401 (Feb. 15, 2019).

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