This Week In Securities Litigation (Week ending February 26, 2016)
At SEC Speaks Chair White noted that the SEC is more than a disclosure agency. In areas like exchange regulation financial standards and investment advisers the Commission engages in substantive regulation, suggesting perhaps the focus for the future. Commissioner Stein, speaking at the same conference, emphasized transparency and accountability as the future path, using EFTs as an example.
The Commission brought an unusual financial fraud case this week against the CFO of a brokerage firm who put “plug” entries into the general ledger to facilitate the month end close. The agency also filed another insider trading action against a member of the finance department of Dress Barn and an offering fraud case.
Remarks: Chair White delivered remarks titled Beyond Disclosure at the PLI SEC Speaks Conference, Washington, D.C. (February 19, 2016). After reviewing recent initiatives she noted that the agency is about more than disclosure since it has, for example, substantive authority over exchanges and sets financial standards for broker-dealers (here).
Remarks: Commissioner Kara M. Stein delivered remarks titled What Lies Ahead? At the PLI SEC Speaks Conference, Washington, D.C. (February 19, 2016). Her remarks focused on transparency and accountability as more people invest, using ETFs as an example (here).
SEC Enforcement – Filed and Settled Actions
Statistics: During this period the SEC filed 1 civil injunctive case and 3 administrative proceeding, excluding 12j and tag-along proceedings.
Insider trading: SEC v. Fishoff (D.N.J. Filed June 3, 2015) is a previously filed action which named as defendants Steven Fishoff, Paul Petrello, Ronald Cohernin and Steven Constantin, along with entities controlled by the individual defendants, engaged in an insider trading scheme. Specifically, the complaint alleges that Mr. Fishoff, and the other individual defendants posed as portfolio managers and induced investment bankers to bring them “over the wall” and share confidential information regarding pending secondary offerings. In each instance there were assurances that the information would remain confidential. In breach of their duty, the defendants traded on the information, shorting the shares. The scheme also included trading in advance of certain positive corporate news announcements regarding confidential negotiations between two large pharmaceutical companies. Overall the defendants made in excess of $4.4 million in profits. The complaint alleges violations of Securities Act Section 17(a), Exchange Act Section 10(b) and Rule 105. Mr. Petrello consented, and the court entered, a permanent injunction prohibiting him and two related entities from future violations of Securities Act Section 17(a), Exchange Act Section 10(b) and Rule 105. It also precluded Mr. Petrello and the two entities from participating in secondary securities offerings in a certain manner. Questions regarding disgorgement and penalties were not resolved. The action remains pending against the other defendants. See Lit. Rel. No. 23474 (February 24, 2016).
Financial fraud: In the Matter of Jason Maiher, Adm. Proc. File No. 3-17126 (February 23, 2016). Mr. Maiher was the CFO of KeyBanc Capital Markets, Inc. from April 2007 through November 2011. KeyBanc Capital Markets is a registered broker dealer that is a subsidiary of KeyCorp., a financial services company. Beginning at some point prior to January 2011 Respondent directed that unsubstantiated “plug” entries be made to one or more accounts in the broker’s general ledger. This was undertaken to complete the monthly close. The plug entries caused the firm’s financial records to be inaccurate. Specifically, the monthly FOCUS reports were inaccurate. In addition, the annual audited report for the year ended December 31, 2011stated that the prior period financial statements included unsubstantiated assets of over $13.6 million and omitted liabilities of over $4.3 million. The firm’s write-off of the unsubstantiated assets and accrual of the unrecorded liabilities resulted in a restatement of net income that caused a 78% reduction. The Order alleges violations of Exchange Act Section 17(a)(1). The proceeding will be set for hearing.
Insider trading: In the Matter of Nicholas A. Prezioso, Adm. Proc. File No. 3-17124 (February 19, 2016). Mr. Prezioso was the Assistant Controller of the Dress Barn subsidiary. The Order alleges that he traded on inside information in three instances:
(1) January 5, 2012 press release:This released announced “strong holiday sales” and raised earnings guidance. Same store sales for December 2011 were up 14% compared the same period one year earlier. After accessing the firm’s data system he purchased option contracts which yielded profits of $114,710 following the announcement. (2) March 1, 2012 press release: The company reported a 15% increase of net sales over the prior year’s second quarter and an 11% increase over the prior year’s six months results after the close of the market. Mr. Prezioso again bought option contracts which yielded a profit of $71,334 following the announcement. (3) May 2, 2012 tender offer announcement: The company announced a tender offer for Charming Shoppes Inc., announced on May 1, 2012. Prior to the announcement Mr. Prezioso purchased a total of 46,300 shares of Charming Shoppers common stock. After the deal announcement he sold the shares, realizing profits of $76,432. The Order alleges violations of Exchange Act Sections 10(b) and 14(e). Unlike the company CFO Reid Hackney, who had been named in an SEC insider trading proceeding earlier this year (here), Mr. Prezioso did not settle. The proceeding will be set for hearing.
Unregistered broker/securities: In the Matter of IBC Funds, LLC, Adm. Proc. File No. 3-17125 (February 19, 2016). BC Funds is a financial services company engaged in microcap financing. Under its business model IBC purchased outstanding claims from creditors of microcap issuers and then settled them in Section 3(a)(10) exchanges. Over about two years, beginning in mid 2013, the firm entered into more than 50 separate financing transactions and received securities from microcap issuers. IBC received discounted shares which it liquidated without registering as a broker-dealer as required by Exchange Act Section 15(a). In four transactions the firm also violated Section 5 of the Securities Act. This is because the 3(a)(10) exemption is not available where certain terms and conditions of the settlement are not presented to the court for consideration at a fairness hearing or where provisions are misrepresented to the court. This occurred on four occasions. For example, in one instance the company fabricated the debt involved. In another instance the creditor and issuer were affiliates and the proceeds received from IBC were used to provide consideration to the company and its CEO. Under these circumstances the exemption is not available. To resolve the proceeding the firm consented to the entry of a cease and desist order based on the Sections cited in the Order and to a censure. It also agreed to pay disgorgement of $2,200,000, prejudgment interest and a penalty of $250,000.
Offering fraud: SEC v. Halsey, Civil Action No. 3:16-cv-450 (N.D. Tx. Filed February 17, 2016). Defendant TexStar Oil Co., Ltd. is controlled by Nathan. Halsey. The action is based on two schemes. The first traces to May 2011 when Mr. Halsey formed an offshore corporation called Falcon Fund to market investment opportunities in China. He sold Fund interests in China. Subsequently, TexStar was formed and a public shell, whose name was changed to TexStar Corp., was acquired. In late 2011 Mr. Halsey invited representatives of Company A, which was seeking to raise money by selling securities in the form of oil-and-gas interests, to pitch the members of Falcon Fund. After the January 2012 presentation Mr. Halsey used the firm’s marketing materials to raise about $1.1 million from 16 Chinese investors. He used the funds to open a Shanghai office and later convinced the investors to exchange their shares for TexStar stock.
The second began with the opening of the TexStar office in Shanghai in March 2012. A number of consultants were retained to create promotional materials for TexStar and other related entities. The consultants solicited investors using the materials and making a series of false misrepresentations. The complaint alleges violations of Securities Act Section 17(a) and Exchange Act Sections 10(b) and 16(a). The case is pending. See, Lit. Rel. No. 23473 (February 19, 2016).
Manipulation: The regulator sanctioned three brokers employed at Meyers Associates L.P. in connection with a stock manipulation scheme. The three were involved in a scheme to artificially inflate the share price of a stock to secure future business from the issuer. Increasing the share price would permit the exercise of certain warrants. In part the scheme was implemented using a stock promoter. In part it was done by making buy recommendations to certain customers at increasing prices while inducing other customers to purchase shares. The registered representatives are George Johnson who was barred from the securities business; his supervisor, Christopher Wynne, suspended for two years and barred in a principal capacity and fined $25,000; and Joseph Mahalick who worked with the two and was suspended for six months and fined $20,000 for falsifying firm records and has been barred from the business in a separate action.
Investment fund fraud: Jason Keryc, a former broker of Agape World, Inc., was sentenced to serve 108 months imprisonment and ordered to pay $179 million in restitution following his conviction by a jury after a four week trial. During his tenure at Agape World Mr. Keryc was paid $8.9 million in commissions. From late 2005 through the beginning of 2009 Mr. Keryc was a broker at Agape World, soliciting clients to purchase what they were told were interests in short term loans. The scheme took about $370 million from investors. Mr. Keryc brought in about $55 million from 5,000 investors. The payments to him were not from profits but investor funds.
Inadequate controls: The Financial Conduct Authority fined W.H. Ireland Ltd. £1.2 million and restricted the firm for a period of 72 days from taking on new clients in its corporate broking division. The regulator found that the firm’s procedures were inadequate because: 1) it had deficient controls to protect inside information; 2) inadequate personal account dealing rules for employees; 3) failed to maintain effective written conflicts of interest policy; and 4) had deficient compliance oversight.