This Week In Securities Litigation (Week ending Nov. 23, 2018)
During the week leading up to the Thanksgiving holiday, and the day after, the Commission filed two actions centered on initial coin offerings. Those actions, involving coin offerings that follow the issuance of the DAO section 21(a) report, set a new standard for resolving ICOs that involve securities.
The agency also filed another settled FCPA action. That action centered on allegations involving inadequate internal controls in connection with a drilling company and its efforts to acquire a deep-water drilling vessel and business from Petrobras, all of which ended in Operation Car Wash.
SEC Enforcement – Filed and Settled Actions
Statistics: Last week the SEC filed 1 civil injunctive case and 4 administrative proceedings, excluding 12j and tag-along proceedings.
Unregistered broker – EB-5: SEC v. Qi, Civil Action No. 2:17-cv-08856 (C.D. Ca.) is a previously filed action which names as a defendant, Steve Qi, an immigration attorney. The Court entered a final judgment against Mr. Qi by consent, imposing a permanent injunction against him and his law firm based on Securities Act section 17(a)(2) and Exchange Act section 15(a). The action is based on acting as an unregistered broker in connection with the sale of securities as part of the EB-5 program. The order also requires the payment of disgorgement and prejudgment interest of $180,835 and a penalty of $160,000. In a separate administrative proceeding Mr. Qi agreed to the entry of an order prohibiting him from appearing and practicing as an attorney before the Commission. The order includes representing clients in SEC matters, investigations, litigations or examinations and from advising clients about SEC filing obligations or contents. See Lit. Rel. No. 24358 (Nov. 20, 2018).
Financial fraud: SEC v. Home Solutions of America, Inc., Civil Action No. og-CV-138 (N.D. Tex.) is a previously filed action which named as defendants the firm, it former CEO Frank J. Fradella, it former CFO Jeffrey M. Mattich and four other executives who settled earlier with the Commission. Over a three year, period beginning in 2005, the firm and its executives publicized false information regarding non-existent business deals and improperly inflated the share price of the company stock. The complaint alleged violations of Securities Act section 17(a) and Exchange Act sections 10(b), 13(a), 13(b)(2)(A), 13(b)(2)(B) and 13(b)-(5). To resolve the action Mr. Fradella consented to the entry of a permanent injunction based on each of the sections cited in the complaint. He also agreed to pay disgorgement of $1 million and to the entry of an order permanently barring him from serving as an officer or director of a public company. Mr. Mattich resolved the action, consenting to the entry of a permanent injunction based on Securities Act sections 17(a)(2) & (3) and the non-fraud Exchange Act sections cited in the complaint. He agreed to pay disgorgement of $86,620 and a penalty of $50,000. See Lit. Rel. No. 24357 (Nov. 20, 2018).
Fees: In the Matter of Retirement Capital Strategies, Inc., Adm. Proc. File No. 3-18901 (Nov. 19, 2018) names the registered investment adviser as a respondent. Over an eight year period beginning in 2010 the adviser informed clients that they would receive certain fee discounts based on a break-point schedule as the amount of assets under management increased. The statements were in the advisory agreement, the adviser’s Form ADV beginning in 2011 and the firm’s written policies and procedures. Those discounts or fee reductions were not given to clients as represented. As a result, certain clients were overcharged about $304,000. After a Commission staff examination and the commencement of this action the firm reviewed the records of current and former clients, retained a compliance consultant and updated its compliance policies and procedures. The adviser has refunded the overcharges with interest. The Order alleges violations of Advisers Act sections 207, 206(2) and 206(4). To resolve the proceedings the firm consented to the entry of a cease and desist order based on the sections cited in the Order and to a censure. The firm will also pay a penalty of $50,000.
Unregistered securities – ICO: In the Matter of Carriereq, Inc., D/B/A Airfox, Adm. Proc. File No. 3-18898(Nov. 16, 2018). AirFox initially sold technology to mobile telecommunication firms in the U.S. The company decided to launch a new, consumer-facing business line in mid-2017 with the AirFox App, a beta version of its branded internet browser application. Android smartphones users would be able to earn an AirToken by viewing advertisements on the AirFox App. The tokens could be exchanged for free airtime or data from multiple prepaid mobile telecommunications providers. To facilitate this model AirFox planned to purchase mobile data time in bulk from prepaid mobile carriers. The company developed a plan to raise capital through the sale of AirTokens by August 2017. The plan called for AirFox to introduce a mobile application that would permit users to earn AirTokens and exchange them for free or discounted mobile data and other goods and services. The tokens would be issued on the Ethereum blockchain. A white paper was posted on the firm’s website. Investors were told that their funds would be used for future development of the AirFox App and the AirToken ecosystem to expand the services to international markets, add a microloan component for AirToken holders and broaden the use of AirTokens outside of the firm’s applications. The white paper described the ecosystem as being created by AirFox with the tokens serving as a medium of exchange. The ICO was completed on October 5, 2017. About $15 million was raised. 1.06 billion AirTokens were sold to over 2,500 investors. The tokens were available in the U.S. and other countries through a series of controlled websites. The Order alleges violations of Securities Act sections 5(a) and (c). To resolve the proceedings, Respondent agreed to implement a series of undertakings which require that all investor funds be repaid. The firm also consented to the entry of a cease and desist order and agreed to pay a penalty of $250,000. See also In the Matter of Paragon Coin, Inc., Adm. Proc. File No. 3-18897 (Nov. 16, 2018)(similar ICO offering also found to be the illegal sale of securities; settled on similar terms).
Fraudulent offerings: SEC v. Giga Entertainment Media, Inc., Civil Action No. 1:18-cv-06511 (E.D.N.Y. Filed Nov. 15, 2018) is an action which names as defendants: The firm, a software company; Gary Nerlinger, a convicted felon; Lawrence Silver, an officer of Gia and an associate of Defendant Nerlinger in another failed venture; and Alfred Colucci and Charles Noska, both officers of Gia; and Jarret Streinger, the nominal CEO of Gia. Over a five year period Defendants engaged in a fraudulent scheme to conceal the fact that Mr. Nerlinger was in fact in charge of the firm. They also made repeated false statements regarding an app called SELFCO by claiming that it was the number one download at the Apple App Store without disclosing that in fact they paid to run-up the number of downloads. And, Mr. Merlinger claimed that Gia was a $1 billion without any adequate basis. The complaint alleges violations of Securities Act sections 5(a), 5(c) and 17(a) and Exchange Act section 10(b). To resolve the matter each Defendant consented to the entry of a permanent injunction based on the antifraud provisions and, in addition, the order as to Gia includes the registration provisions of the Securities Act. Messrs. Colucci and Noska each agreed to pay a $25,000 penalty while Mr. Streiner will pay $15,000. The Court will decide what penalty Mr. Silver will pay and the amount of disgorgement and penalty that will be paid by Mr. Nerlinger. Messrs. Nerlinger, Silver and Colucci also agreed to the entry of a permanent officer and director bar. Mr. Steiner agreed to be barred from serving as an officer or director for five years.
Offering fraud: U.S. v. Newsholme, No. 3:17-mj-5015 (D.N.J.) is a previously filed action in which investment adviser Scott Newsholme pleaded guilty to a three count information charging him with wire fraud, aggravated identity theft and preparing fraudulent tax returns. Beginning in 2002 Mr. Newsholme encouraged clients to invest with him in a private New Jersey country club and other investments. He also represented clients in connection with traditional investments and prepared tax returns. Rather than invest the funds he misappropriated over $3 million of client investment funds. Tax returns he prepared were also fraudulent, using inflated deductions. On November 20, 2018 the court sentenced Mr. Newsholme to serve 102 months in prison.
U.S. v. Gorrin (S.D.Fla. unsealed on Nov. 20, 2018) is an action in which Raul Gorrin Belisario, a Venezuelan citizen with a residence in Miami, Florida was indicted on charges of conspiracy to violate the FCPA, conspiracy to commit money laundering and nine counts of money laundering. Mr. Gorrin is the owner of the Globovision Network in Caracas and the head of an insurance brokerage firm. On November 20, 2018 Mr. Gorrin pleaded guilty to one count of conspiracy to commit money laundering. Mr. Gorrin paid million of dollars in bribes to two high-level Venezuelan officials to secure the rights to conduct foreign currency exchange transactions at favorable rates for the government. One official was Alejandro Andrade Cedeno, the former Venezuelan national treasurer. In connection with his plea agreement he admitted to receiving over $1 billion in bribes from Mr. Gorrin and others in exchange for being selected to conduct currency exchange transactions for the government. The other was Gabriel Arturo Jimenez Aray, a Venezuelan citizen and former owner of Banco Peravia. Mr. Jimenez admitted in connection with his plea that he conspired with Mr. Gorrin and others to acquire Banco Peravia through which he helped launder bribe money and scheme proceeds. The date for sentencing has not been set.
In the Matter of Vantage Drilling International, Adm. Proc. File No. 3-18899 (Nov. 19, 2018) names as a respondent the Cayman Island firm which is an offshore drilling company. Vantage Drilling, a newly offshore drilling company in 2006, became involved with Director A, a Taiwanese shipping executive who became a director, in an effort to secure the Titanium Explorer, an ultra-deep-water drillship vessel to be delivered in 2012. In connection with VDC’s efforts to purchase the Platinum Explorer, another drilling ship, the firm learned that Director A made misrepresentations to the Korean shipyard involved and ultimately claimed to be unable to make the required payments for the vessel. Nevertheless, VDC did not strengthen its internal controls.
Rather, the firm began discussions to enter into arrangements with Petrobras for drilling operations that would involve the Titanium Explorer. Ultimately Director A, without VDC, became involved in those discussions and agreed to make bribe payment of $31 million in installments without consulting VDC – Petrobras was reluctant to enter into a drilling agreement with VDC since it did not own the Titanium Explorer.
In February 2009 the VDC entered into a drilling contract with Petrobras. The firm also entered into an arrangement with Director A regarding the Titanium Explorer under which it would make certain payments to Director A. Despite significant red flags regarding these arrangements and the dictates of its FCPA procedures, VDC continued without inquiry. While Director A was able to make part of the bribe payments, eventually he defaulted. Ultimately Director A’s corrupt scheme was unveiled in connection with “Operation Car Wash.” Petrobras cancelled the drilling contract. VDC tumbled into bankruptcy and restructured. The Order alleges violations of Exchange Act section 13(b)(2)(B).
To resolve the proceedings Respondent, which rendered significant cooperation to the staff, consented to the entry of a cease and desist order based on the section cited in the Order. The firm also agreed to pay $5 million in disgorgement.
Program: The Fifth Annual Dorsey Federal Enforcement Forum will be held on December 5, 2018. The program, centered on a tech theme and SEC enforcement, includes a keynote address on artificial intelligence and its impact on the legal profession, panels analyzing critical issues facing SEC enforcement, the question of broker protocols, trends in investment adviser inspections, how to conduct an ICO and concludes with an address on cyber-security and internal controls. A holiday gathering follows. The program and registration for it and the party are here or separate registration for the holiday party only here.