This Week In Securities Litigation (Week of April 12, 2021)

Acting is the key word these days at the Commission. The Chair is Acting; virtually all of the senior staff positions are held by someone who is Acting. It will stay this way until nominee Gary Gensler is confirmed by the Senate and sworn in as the Chairman of the SEC. Question is when will that be? The agency, those Acting and many others are waiting.

Be careful, be safe this week


Whistleblowers: The Commission awarded about $2.5 million to a whistleblower whose information and ongoing assistance was a significant contribution to an agency enforcement actions, according to an announcement made on April 9, 2021.

SEC Enforcement – Filed and Settled Actions

The Commission filed 1 new civil injunctive actions and 1 administrative proceedings last week, excluding 12j, tag-along proceedings and other similar matters.

Offering fraud: SEC v. Horwitz, Civil Action No.21-cv-2927 (C.D.CA. Filed April 5, 2021) is an action which names as defendants Zachary Horwirtz and his firm 1INMM Capital LLC. The complaint centers on allegations that the firm is a Ponzi scheme. Specifically, it alleges that over a five-year period, beginning in March 2014, Defendants sold notes to the public claiming that the offering proceeds would be used in connection with interests in major TV streaming services. The expertise of Mr. Horwitz was also emphasized. Based on these claims about $690 million was raised from the sale of promissory notes. In fact much of the capital raised from the offering was misappropriated by Defendants. Part of those proceeds were used to pay earlier investors. The complaint alleges violations of Exchange Act Section 10(b) and Securities Act Section 17(a). The case is pending. See Lit. Rel. No. 25067 (April 8, 2021).

Offering fraud: SEC v. Shkreli, Civil Action No. 15-cv-7175 (E.D.N.Y. Settled April 5, 2021). The settlement in this action involved defendant Evan Greebel, former counsel to Retrophin, Inc., a publicly traded pharmaceutical company founded by Martin Shkreli who was sentenced to serve seven years in prison after being convicted on fraud charges tied largely to his conduct concerning two hedge funds. See U.S. v. Shkreli, No. 15-cv-07175 (S.D.N.Y.). The Commission’s action here centered on the period 2013 and early 2014 when Mr. Shkreil orchestrated a fraud involving the pharmaceutical firm and his hedge funds. Specifically, Mr. Shkreli induced investors from his hedge funds to enter into agreements with the company of which he was CEO stating that certain payments they received from the company were for consulting services. In fact, the payments were for the release of potential claims against Mr. Shkreli. Mr. Greebel is alleged to have aided the scheme. To resolve the matter with the Commission Mr. Greebel consented to, and the Court entered, permanent injunctions based on Exchange Act Section 10(b). Mr. Greebel was also barred from serving as an officer or director of a public company. No monetary relief was ordered in view of the penalties imposed in the related criminal action. See Lit. Rel. No. 25065 (April 6, 2021).

Audit failure: In the Matter of Christopher E. Knauth, CPA, Adm. Proc. File No. 3-20256 (April 5, 2021). Respondent Knauth is the founder and principal of Audit Firm A, a Texas firm formed in 2017. Mr. Knauth is a certified public accountant but had never audited a public company. The firm was not registered with the PCAOB. The proceedings centers on work to be done at Issuer A, a firm whose shares were listed on the OTCQB tier of the OTC Markets until they were delisted by the Commission in 2019. Respondent Knauth executed an engagement agreement with Issuer A to audit the firm’s 2018 year-end financial statements and perform the interim quarterly reviews for the same year. The letter represented that the firm was registered with the PCAOB and that Mr. Knauth would serve as the engagement partner. Subsequently, Mr. Knauth filed Form 1 with the PCAOB to register in September 2018. Although Audit Firm A had a second partner, he was not consulted or informed. The Board sent a letter requesting clarification of certain points and additional information. Follow-up requests were also sent; no response was made to any inquiry. Finally, Respondent sent a letter stating that he would file a new application. He did not. Nevertheless, Respondent proceeded with the audit of the year-end 2018 financial statements as well as the interim reviews. The year-end audit opinion represented the firm was registered with the Board and that the work had been performed in accord with its standards. It was not. In doing the work Respondent failed to plan the year-end audit in accord with the applicable PCAOB requirements. Those standards require that the auditor prepare a plan describing the nature, timing and extent of the risk assessment procedures for the work. Similarly, the standards applicable to conducting a review of interim financial statements require that the auditor conduct procedures to understand the business and its internal controls. No meaningful process was undertaken. In performing the audit and undertaking the reviews Respondent disregarded other key PCAOB standards as well. For example, the audit work papers lacked sufficient documentation to determine what work was done. During the engagement Respondent failed to exercise due professional care and exercise professional skepticism or to properly evaluate the risks. In fact, Respondent failed to obtain sufficient appropriate audit evidence. And, no engagement quality reviews of Respondent’s work were done. The Order alleges violations of SOX Section 102(a) since the firm was not registered; Rule 2-02(b)(1) regarding the improper report and the applicable standards; Exchange Act Section 13(a) and the applicable rules requiring the issuer to file certain reports; and Rule 102(e)(1)(ii) regarding professional standards. The proceedings will be set for hearing.

Offering fraud: SEC v. Alford, Civil Action No. 1:20-cv-03164 (N.D. Ga. Ruling April 2, 2021) is an action in which the court entered judgment, awarding the Commission financial penalties, an issue that had been reserved at the time Defendant settled with the agency at the time of filing. Defendant Clarence Dean Alford was the President and CEO of Allied Energy Services, LLC. He is also a five-term member of the Georgia state legislature and a former member of the Georgia Board of Regents. Beginning in 2017 Defendant raised over $23 million from at least 100 investors who purchased unregistered, high yield promissory notes. Those notes supposedly had a return ranging from 12% to 34% annually. In marketing the notes Mr. Alford distorted the firm’s finances and hid them from the CFO by using a bank account over which only he had control. By 2019 the firm was missing payments and ultimately collapsed. Mr. Alford was arrested by state authorities. The complaint alleged violations of each subsection of Exchange Act Sections 17(a) and Exchange Act Section 10(b). To resolve the matter, Defendant consented to the entry of a permanent injunction based on the sections cited in the complaint. He also agreed to submit the question of financial remedies to the Court. The Court directed that Defendant pay disgorgement of $,849,653, prejudgment interest of $1,751,085 and a penalty of $192,768. See Lit. Rel. No. 25068 (April 8, 2021).

Offering fraud: SEC v. Skelley, Civil Action No. 18-cv-8803 (S.D.N.Y. Settled March 26, 2021) is an action which names as defendants William Skelley and Sohin Shah. Defendants co-founded Innovational Funding LLC in 2012. The next year the firm launched an on-line real estate portal. Investors were solicited using PPMs which claimed that they could become equity or debt holders in real estate projects across the U.S. The solicitations took place from October 2013 through June 2016. Investors were told their funds would be used to build the business. About $3.39 million was raised from 47 investors in 17 states. Investors were required to be accredited. Beginning in December 2015 Defendants also issued five investors promissory notes convertible to capital or common stock. The notes were issued in the principal amount of $187,5000 with a 2% rate. In fact, Defendants misappropriated over $1.1 million of the investor funds. The complaint alleged violations of each subsection of Securities Act Section 17(a) and Exchange Act sections 10(b) and 20(a). The action was resolved as to Mr. Skelley when he failed to respond and the Court entered judgment. Subsequently, on March 26, 2021 the Court entered a permanent injunction against Mr. Skelley based on Securities Act Section 17(a) and Exchange Act Section 10(b). The Court also directed that Mr. Skelley pay disgorgement of $1,073,746.65, prejudgment interest of $184655.27 and a penalty equal to the amount of the disgorgement. See Lit. Rel. No. 25066 (April 7, 2021).

Criminal Cases

Offering fraud: U.S. v. Parker, No. 21-cr-60101 (S.D. Fla. Filed April 7, 2021) is an action which names as defendants, Gerald Parker, Michael Assenza, Paul Geraci, Ted Romeo, Paul Vandivier, and Cindy Vandivier. The charges include conspiracy to commit mail fraud and wire fraud as well wire and mail fraud as to certain defendants along with conspiracy to commit money laundering. The indictment claims that since 2013 Defendants have engaged in a scheme in which interests in a firm called Social, Inc., later referred to as Stocket, Inc, were sold to investors raising about $21 million. A boiler room was used to solicit some investors. Misrepresentations were made regarding the use of the funds which in part were used for personal matters of defendants while concealing the regulatory backgrounds of certain defendants as well as the fact that investor funds were used to pay kickbacks and large, undisclosed commissions. The case is pending.

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