THIS WEEK IN SECURITIES LITIGATION (March 5, 2010)
This week, the Supreme Court heard the appeal of former Enron executive Jeffrey Skilling, while prosecutors in the Galleon case obtained another guilty plea. DOJ settled its long running FCPA investigation with BAE. SEC enforcement focused largely on what has become a new staple – investment fund fraud cases. Finally, a new study notes that the number of restatements declined last year.
U.S. v. Skilling, No. 08-1394 (S.Ct.) is the appeal of former Enron executive Jeffrey Skilling who is serving a 24 year prison sentence. His appeal to the Supreme Court, which was heard this week, presents two issues as discussed here. The first concerns the denied motion for a change of venue and jury selection. This question hinges on Mr. Skilling’s claim that the collapse of Enron was an event of such magnitude and proportion in the Houston community where the company was headquartered that he could not receive a fair trial and, in any event, the extraordinarily short jury selection process was inadequate.
The second focuses on the constitutionality of 18 U.S.C. §1346, the honest services fraud section. Mr. Skilling argued that the statute was vague and would permit virtually any workplace lie to be turned into a federal felony. This is the third honest services fraud case the Court has heard this term. Earlier the Court heard argument in Black and Weyhrauch, both of which also raised issues regarding this statute as discussed here.
SEC enforcement actions
Investment fund fraud: SEC v. Morton, Civil Action No. 10-CV-1720 (S.D.N.Y. Filed Mar. 4, 2010) is an action based on alleged violations of Securities Act Sections 5 and 17(a) and Exchange Act Section 10(b) against Sean Morton, his wife Melissa, and their controlled entities. According to the complaint, Mr. Morton used his reputation as a nationally known psychic to convince investors to put their money in his entities which supposedly traded in foreign currencies. Investors were told Mr. Morton would use his psychic powers to guide their investments and that he had a solid track record of success. In fact, the representations were false and portions of the money were diverted to the personal use of the defendants. The case is in litigation. See also Litig. Rel. 21433 (Mar. 4, 2010).
Theft: SEC v. Wallace, Case No. 3:10-cv-440 (N.D. Tex. Filed Mar. 4, 2010) is an action against Rodney Wallace, former CEO of North American Technologies, Inc. It also names Joe Dorman and John Blank, respectively, the general counsel and former acting CFO and former controller. The complaint alleges that in 2008 Mr. Wallace stole over $538,000 from the company, primarily through fictitious purchases he claimed to have made for the company. To facilitate his scheme, he falsely certified the third quarter Form 10-Q and provided the auditors with false documents. He was charged with violations of the antifraud and reporting provisions. The other two defendants were charged with aiding and abetting violations of the internal controls and books and records provisions. Messrs. Dorman and Blank settled, consenting to the entry of permanent injunctions. Mr. Dorman also agreed to pay a $15,000 civil penalty. See also Litig. Rel. 21434 (Mar. 4, 2010). In a related administrative proceeding, the company consented to the revocation of its securities registration.
Investment fund fraud: SEC v. Mitchell, Porter & Williams, Inc., Case No. 10-CV-01567 (C.D. Cal. Filed Mar. 4, 2010) is a fraud case against Thomas Mitchell and his investment advisory firm, Mitchell Porter. It alleges that the defendants targeted retired bus drivers, convincing them to invest their retirement funds in promissory notes issued by entities operated by the investment advisory firm. About $14.7 million was solicited from 82 investors. In fact, the operation was a Ponzi scheme. The Commission obtained an emergency freeze order. See also Litig. Rel. 21432 (Mar. 4, 2010).
Investment fund fraud: SEC v. Dobens, Civil Action No. CA-10360 (D. Mass. Filed Mar. 4, 2010) alleges violations of Securities Act Sections 5 and 17(a) and Exchange Act Section 10(b) by defendants Kathleen Dobens and Charles Dobens, husband and wife, their business associate Joseph Roche, and a number of controlled entities. The complaint claims that beginning in February 2009 the defendants raised about $3.5 million from 60 investors with false claims of a guaranteed return ranging from 9 to 12%. The funds were to be invested in multi-family housing assets. In fact, there was no real estate and the funds were diverted to other purposes. The complaint also alleges that the defendants engaged in other similar schemes earlier. The case is in litigation. See also Litig. Rel. 21437 (Mar. 4, 2010).
Investment fund fraud: SEC v. Cantens, Case No. 1:10-CV-20635 (S.D. Fla. Mar. 3, 2010) is an enforcement action alleging violations of Securities Act Sections 5 and 17(a) and Exchange Act Section 10(b) against Gaston Cantens and Teresita Cantens, the founders and co-owners of real estate developer Royal West Properties, Inc. The complaint alleges that the defendants raised $135 million in a Ponzi scheme targeting Cuban American investors. Since 1993, investors were solicited to purchase “no-risk” promissory notes which supposedly paid between 9 and 16% returns. The notes, sold to over 400 investors, supposedly were backed by recorded mortgages. Since at least 2002, there has been insufficient returns to pay investors. The complaint claims the defendants have misappropriated about $20 million. The case is in litigation. See also Litig. Rel. 21430 (Mar. 3, 2010).
Financial fraud: SEC v. Verint Systems Inc., Civil Action No. 10-CV-0930 (E.D.N.Y. Mar. 3, 2010) is an action against a former subsidiary of Comverse Technology, Inc., which conducted an IPO in 2002. Beginning prior to the IPO, and continuing after, the company used its reserves to manipulate its financial statements and meet its objectives. As a result, the financial information used in the offerings was false. The complaint alleges violations of Securities Act Sections 17(a) and Exchange Act Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B). The company settled the action by consenting to the entry of a permanent injunction based on the sections cited in the complaint. The settlement reflects the cooperation of the company. See also Litig. Rel. 21428 (Mar. 3, 2010). In a separate proceeding, the Commission issued an Order Instituting Administrative Proceedings Pursuant to Exchange Act Section 12(j) to determine whether the registrations for the classes of securities of the company should be revoked. In the Matter of Verint Systems Inc., Adm. Proc. File No. 3-13802 (March 3, 2010).
Investment fund fraud: SEC v. Haugen, Civil Action No. 1: 09-CV-0129 (N.D. Ga.) is a fraud action based on Securities Act Section 17(a) and Exchange Act Sections 10(b) and 15(a) in which the court granted the SEC’s motion for summary judgment. The complaint against Ross Haugen alleged fraud in connection with the sale of shares under private placement memos in four different funds. According to the SEC, about $30 million was raised over a two year period beginning in 2006. Investors were told that their funds would be invested in “risk controlled” strategies. They were furnished with monthly statements showing returns of 4%. In fact, the money was in off shore trading platforms and the statements were false as were the representations in the PPMs furnished to investors. See also Litig. Rel. 21429 (Mar. 3, 2010).
Financial fraud: SEC v. American Equity Investment Life Holding Co., Case No. 4:10-cv-87 (S.D. Iowa Filed Mar. 3, 2010) is an action against the life insurance company, its founder and Chairman, David Noble, and CFO Wendy Waugaman. The complaint, which alleges violations of Exchange Act Section 14(a), centers on claimed failures to properly disclose certain benefits in the proxy obtained by Mr. Noble when he sold a finance company he owned to American Equity. According to the complaint, the 2006 proxy failed to disclose that in the acquisition Mr. Noble was relieved of personal guarantees he had executed for the company whose liabilities exceeded its assets at the time of the transaction. He also faced personal liability for its debts and just before the deal caused a $2.5 million distribution which constituted most of its assets. Accordingly, the disclosures in the 2006 proxy statement were false and misleading. The action was settled with each defendant consenting to the entry of a permanent injunction. In addition, Mr. Noble agreed to pay a penalty of $900,000 and Ms. Waugaman will pay a $130,000 penalty. The company also agreed to certain corporate governance undertakings. See also Litig. Rel. 21431 (Mar. 3, 2010).
Investment fund fraud: SEC v. May, Civil Action No. 3:10-cv-425 (N.D. Tex. Filed Mar. 2, 2010) is an action based on alleged violations of Securities Act Sections 5 and 17(a) and Exchange Act Section 10(b) against Alan May and his controlled entity, Prosper Oil and Gas, Inc. The complaint alleges that Mr. May raised over $6 million from investors through unregistered and fraudulent offerings in oil and gas royalties. Investors were solicited through a website and a number of publications. Investors were falsely told they would earn between 25 and 38% returns. The SEC obtained emergency relief from the court. The case is in litigation. See also Litig. Rel. 21436 (Mar. 4, 2010).
U.S. v. Hariri, Case No. 1:09-mj-02436 (S.D.N.Y. Filed Nov. 4, 2009) is the insider trading case against Ali Hariri, formerly an executive at Atheros Communications, Inc. This is one of the Galleon cases. Mr. Hariri pleaded guilty to a two count information which charged him with conspiracy and securities fraud as discussed here. The information alleges that Mr. Hariri obtained information regarding Atheros’ future earnings announcement for the fiscal quarter and furnished it to an unidentified hedge fund operator. The hedge fund operator used this information to purchase over 500,000 shares of Atheros and profited from a 6% increase in the share price when the earnings were announced. Sentencing has not been scheduled.
U.S. v. BAE Systems plc, Case No. 1:10-cr-035 (D.D.C. Filed March 1, 2010) is an FCPA case in which the company pleaded guilty to conspiring to defraud the U.S., to making false statements about its FCPA compliance program and to violating the Arms Export Control Act and International Traffic in Arms Regulations as discussed here.
The case centers on conduct from 2000 to 2002. According to the court papers, the company falsely represented to DOJ and other agencies that it would create and implement policies and procedures to ensure compliance with the FCPA and similar foreign laws implementing the Organization for Economic Cooperation and Development Anti-bribery Convention. In fact, these statements are false as evidenced by the fact that the company engaged in a series of wrongful actions such as making a number of substantial payments to shell companies and third party intermediaries that were not reviewed in accord with representations made to the U.S. government and by regularly retaining so-called “marketing advisors” to assist in selling defense items without scrutinizing the relationships and at times concealing them. The company also made corrupt payments to influence foreign officials and falsified applications for export licenses for military hardware. The company was sentenced to pay a $400 million criminal fine. It will also adopt a comprehensive FCPA compliance program.
New study on restatements
A new report prepared by Audit Analytics concludes that the number of restatements declined last year by about 27% compared to the prior year. In 2009 630 companies filed restatements compared to 674 in the prior year. For 30% of the companies filing restatements, there was no real change in reported income, while for 16% there was a positive impact. In each of the others income was reduced. The majority of the restatements were from smaller companies who do not need to conform to Section 404 of Sarbanes Oxley, according to the report.