This Week In Securities Litigation (Week ending May 24, 2018)
A new report from TRAC, an affiliate of Syracuse University, reports that the number white collar prosecutions have continued to fall in the first half of FY 2018. Specifically, the number of those actions is at its lowest point in twenty years.
The Commission brought two related actions this week tied to a medical marijuana firm that supposedly had celebrity endorsements. The firm and its CEO issued a series of false statements about the operations and the endorsements of the company as well as false financial statements. Defendants in both cases them participated in the sale of millions of unregistered shares.
The CFTC this week granted an Australian exchange’s request to give U.S. customers direct access to its trading platform. The agency also issued an advisory for listing virtual currency derivative products. At the same time the DOJ, in conjunction with the agency, is reportedly conducting a market manipulation investigation centered on virtual currencies, according to news reports.
Proposed rules: The Commission proposed FAIR Act rules that would generally establish a safe harbor for a broker or a dealer to publish or distribute research reports on investment funds under certain conditions. The proposed safe harbor is similar to one in effect for research reports about other public entities (here).
Market access: The agency announced approval of Australian Securities Exchange Limited’s application to permit direct access for U.S. customers to trade on its platform. Under the arrangement a foreign board of trade is registered with the CFTC and allowed to permit members and others in the U.S. to trade by direct access on the exchange without having to use an intermediary.
Cryptocurrency: The agency issued a joint staff advisory that gives exchanges and clearinghouses registered with the regulator guidance for listing virtual currency derivative products.
SEC Enforcement – Filed and Settled Actions
Statistics: Last week the SEC filed 2 civil injunctive cases and 1 administrative proceedings, excluding 12j and tag-along proceedings.
False statements/financial fraud: SEC v. Bud Genius, Inc., Civil Action No. 18-cv-01005 (S.D. Cal. Filed May 21, 2018). Defendant Bud Genius is a Wyoming corporation known at one time as Rightsmile, Inc. It was in the business of testing and analyzing strains of medical marijuana. The firm had a platform which assisted patients in selecting cannabis medicine paired to their specific needs. The penny stock was quoted on OTC link under the ticker RIGH. Defendant Aaron “Angel” Stanz is the sole director and CEO of Bud Genius. Others involved, and named as defendants in a related action discussed below, are Taylor Moffitt of Halydean, a venture capitalist; Carlos Febles, a former multimedia sales consultant, business partner of Mr. Moffitt and the owner of U.S. CoProducts, LLC, a firm involved in processing deceased farm animals with no active operations. Bud Genius began as a privately held firm. In January 2012 Angel Stanz and a venture capitalist caused Bud Genius to enter into a reverse merger with OTC traded Rightsmile. The resulting public company did business as Bud Genius with Mr. Stanz as CEO. Beginning two years later, and continuing for about ten months, the firm and its CEO issued a series of false press releases regarding the company and its business suggesting that the firm was operational and that it had celebrity endorsements. The financial reports for Bud Genius between 2012 and 2014 also contained false information regarding revenue, the value of certain assets and the receivables. Finally, between late 2013 and mid-2015 Defendants facilitated the sale of millions of unregistered shares through Taylor Moffitt, Carlos Febles and U.S. CoProducts. The shares traced to a transaction before the reverse merger when the former CEO of Rightsmile obtained 300,000 restricted preferred shares of Rightsmile in exchange for the transfer of a web development company. The conversion rate was 10,000 to 1. Later Messrs. Moffitt and Febles, with the assistance of Defendants, converted the interests into three billion common shares of Bud Genius. Portions of the stock were transferred and eventually sold through U.S. CoProducts under an incorrect claim of an exemption. In fact those involved acted as a statutory underwriter. Over 1 billion shares were sold for total proceeds of $543,333 of which $141,084 was transferred to Bud Genius and Mr. Stanz. The complaint alleges violations of Securities Act sections 5(a), 5(c) and 17(a)(1) and (3) and Exchange Act section 10(b). To resolve the case each Defendant consented to the entry of a permanent injunction based on the sections cited in the complaint. In addition, a five year officer and director bar and penny stock bar was imposed as to Mr. Stanz. The settlement also requires the payment of disgorgement and prejudgment interest in the amount of $158,829.
Sale unregistered stock: SEC v. Moffitt, Civil Action No. 18-cv-03034 (N.D. Iowa Filed May 22, 2018). The Defendants in this action, as well as the facts alleged in the complaint regarding the unregistered sale of securities, are detailed above. To resolve the action, which alleged violations of Securities Act sections 5(a) and 5(c), each Defendant consented to the entry of a permanent injunction based on those sections. In addition, Messrs. Moffitt and Febles agreed to the entry of penny stock bars for, respectively three years and one year. Defendants will pay, on a joint and several basis, disgorgement and prejudgment interest of $435,595. See Lit. Rel. No. 24148 (May 22, 2018).
Shell creation – cooperation: In the Matter of Arthur Kaplan, Adm. Proc. File No. 3-18504 (May 24, 2018) is a proceeding which names as a Respondent the former personal assistant to Edward Panos who was in the shell creation business. In December 2016 Mr. Pannos consented to the entry of a judgment. Mr. Kaplan, who participated in a number of transactions as an aid to Mr. Panos, cooperated in the Commission’s case and in another enforcement action. The resolution here reflects that cooperation. The Order alleges violations of Securities Act section 17(a)(3). Mr. Kaplan consented to the entry of a cease and desist order based on the section cited in the Order. No penalty was imposed because of Respondent’s cooperation.
Manipulation: U.S. v. Mitchell, No. 16-cr-234 (E.D.N.Y.) is an action in which former stock broker Louis Petrossi, was sentenced to serve 44 months in prison followed by three years of supervised release. The sentence is based on his role in the manipulation of the shares of ForceField Energy Inc. He was also ordered to pay $8 million in restitution and $335,748.78 in forfeiture. The sentence follows a two week trial in which a jury found Mr. Petrossi guility of conspiracy to commit securities fraud, conspiracy to commit wire fraud, money laundering conspiracy and securities fraud. The underlying facts demonstrated that beginning in 2009 and continuing to 2015 Mr. Petrossi and others manipulated the share price of ForceField. Mr. Petrossi received secret cash payments from a company executive in exchange for promoting the stock while acting as the CEO of an investment research firm. See also SEC v. Jensen, Civil Action No. 17-cv-5563 (E.D.N.Y.).
False SEC filings: U.S. v. Peterson, No. 3:16-cr-00230 (D.N.J.) is an action against Cary Peterson, the CEO of RVPlus, Inc. Following a two week trial Mr. Peterson was found guilty of one count of securities fraud and two counts of false certification. The charges were based on a series of filings made with the SEC which announced falsely that the firm had entered into agreements the Federal Republic of Nigeria, the Republic of Haiti and others. The date for sentencing has not been set. See also SEC v. RVPlus, Inc., Civil Action No. 2:16-cv-01428 (D.N.J.).
Manipulation: U.S. v. Reynolds, No. 1:18-mj-06151 (D. Mass. Indt. Filed May 22, 2018). Frank Reynolds is the CEO of PixarBio Corporation, a Boston based biotech firm. Jay Harold is an associate of Mr. Reynolds. Beginning in 2013 the two men engaged in a scheme to mislead investors that would inflate the share price of the firm’s stock. Initially, Mr. Reynolds made false statements about the firm, its prospects and his track record in various corporate documents. Later false statements were made to investors about the prospects of a supposed revolutionary drug. The next year Mr. Herod engaged in manipulative trading in PixarBio stock that simulated market interest and artificially boosted the price. To effect this Mr. Herod executed overlapping buy orders — matched orders — and placed small buy orders at increasing prices shortly before the close — marking the close. The trading profits were shared with Mr. Reynolds and the company. Each defendant was indicted on two counts of securities fraud. See also SEC v. Pixarbio Corp., Civil Action No. 1:18-cv-10797 (D. Mass.).
Due diligence: U.S. v. Hudspeth, No. 2:17-cr-122 (E.D.Va.) is an action which named as a defendant former investment adviser Roger Hudspeth who was the sole owner of Dominion Investment Advisors, LLC. Mr. Hudspeth, according to the court papers, sold unregistered and fraudulent securities to his clients which resulted in over $6 million in losses. Many of his clients were retirees. The securities came from friends who paid him over $700,000 in connection with the transactions. Mr. Hudspeth failed to conduct due diligence on the purchases for his clients. He was sentenced to serve 12.5 year in prison.
White Collar Criminal Prosecutions
The number of white collar prosecutions continued to decline in the first half of FY 2018, according to a new report by the Transactional Records Access Clearinghouse or TRAC of Syracuse University. The current level of white collar prosecutions represents the lowest in more than 20 years, the report notes. Overall the level is down 31.3% since 2008 and 40.8% from 1998.
Manipulation: The Federal Court in Australia found that Westpac engaged in “unconscionable conduct” with respect to the setting of the bank bill swap reference rate or BBSW on four occasions. The ruling came in a civil enforcement action brought by the Australian Securities and Investments Commission. Specifically, the Court found that the firm traded with the dominant purpose of influencing yields of traded Prime Bank Bills and where BBSW set in a way that was favorable to its rate set exposure. The Court also concluded that Westpac had inadequate procedures and training. The ASIC has brought a series of similar actions.