This Week In Securities Litigation (Week of August 31, 2020)
The Commission expanded scope the definition of accredited investor last week, potentially increasing the number of investors who can participate in private offerings. The agency also gave the nod to cryptocurrency exchange INX Ltd., to proceed with a $117 million security token offering, according to the exchange.
The Enforcement Division filed a series of actions last week. Those included an FCPA case against dietary supplement giant Herbalife and an action based on a failure to prepare financial estimates against BorgWarner.
Be safe and health this week
Rule amendments: The Commission adopted amendments to the rules governing the disclosure of legal proceedings and risk factors under Regulation S-K on August 26, 2020 to update the rules (here).
Rule amendments: The agency adopted amendments to the accredited investor definition on August 26, 2020, potentially expanding the number of investors who can participate in private placements (here).
SEC Enforcement – Filed and Settled Actions
The Commission filed 4 civil injunctive action and 5 administrative proceedings last week, excluding 12j and tag-along-proceedings.
Fraudulent trading: SEC v. Tropiano, Civil Action No. 1:20-cv-1911 (N.D. Oh. Filed August 27, 2020) is an action which names as a defendant Dominic Tropiano, a registered representative at various brokers. Defendant placed over 500 trades involving complex securities call leveraged ETFs, high risk securities for sophisticated investors. The trades were held for very short periods. The investors were retail customers who were not suitable. The trades lost over $1 million. The complaint alleges violations of Exchange Act Section 10(b) and Securities Act Section 17(a). The case is pending. See Lit. Rel. No. 24878 (August 27, 2020); see also In the Matter of Christopher Barone, Adm. Proc. File No. 3-19947 (August 27, 2020)(similar conduct by registered representative at American Northcoast Securities in Cleveland; settled with cease and desist order based on Exchange Act Sections 10(b) and 15(b)(7), penny stock bar, officer-director bar for advisory and the payment of a $65,000 penalty that will go to a fair fund).
Records: In the Matter of Stock Transfer LLC, Adm. Proc. File No. 3-19936 (August 27, 2020) is an action against the transfer agent. The Order alleges that the firm failed to properly prepare records on turn around transactions within three business days, did not ensure that all stocks were in safekeeping, and did not keep accurate books and records in many instances. The Order alleges violations of Exchange Act Section 17A(d) and the related rules. To resolve the proceedings the firm agreed to implement a series of undertakings keyed to the violations and consented to the entry of a cease and desist order based on the section and rules cited in the Order and to the entry if a censure. The firm also agreed to pay a penalty of $65,000 which will be transferred to the general fund of the Treasury subject to Exchange Act Section 21F(g)(3).
Estimates: In the Matter of BorgWarner Inc., Adm. Proc. File No. 3-19932 (August 26, 2020) is an action which names the firm as a defendant. Over the years the firm has been named as a defendant in asbestos related personal injury suits. From 2012 through the fourth quarter of 2016 the company failed to estimate its incurred but not reported liabilities for future asbestos claims. The company did note that future claims were probable but claimed the amount could not be estimated. In fact, the firm made little effort and failed to conduct the proper analysis. In the fourth quarter of 2016 however, it recorded a pre-tax $703.6 million charge for those claims but identified the amount as a charge resulting from a change of estimate. In 2018 the firm acknowledged that was an error and did a restatement. The firm noted that it had failed to report a material weakness in its internal controls over financial reporting. The Order alleges violations of Exchange Act Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B. To resolve the proceedings the firm consented to the entry of a cease and desist order based on the sections cited in the Order. It also agreed to pay a penalty of $950,000 which will be transferred to the Treasury subject to Exchange Act Section 21F(g)(3).
Offering fraud: SEC v. Coggins, Civil Action No. 70-cv-23444 (S.D. Fla. Unsealed August 26, 2020) is an action which names as defendants David C. Coggins and Coral Gables Asset Management LLC, an investment adviser he controlled. Beginning in 2015 Defendants solicited investors using a series of lies about the nature of the investments, how the money would be invested and the performance of the funds. While about $1.85 million was raised, a substantial portion of the investor money was misappropriated. The portion that was invested performed poorly. The complaint alleges violations of Securities Act Section 17(a), Exchange Act Section 10)(b), and Advisers Act Sections 201(1), 206(2) and 206(4). The case is pending. See Lit. Rel. No. 24877 (August 26, 2020).
Misappropriation: SEC v. Boucher, Civil Action No. 20CV1650 (S.D.Ca. Filed August 25, 2020) is an action which names as defendants Mark J. Boucher and his firm, Strategic Wealth Advisor Group Services Inc. Mr. Boucher worked for Investment Adviser A from 2010 through 2016 and Investment Adviser B from 2016 through 2019. The firm was a state registered investment adviser in 2019. The complaint is based on three multi-year frauds in which Mr. Boucher misappropriated over $2 million in client funds. While working for Advisers A and B Defendant Boucher defrauded Client A by misappropriating almost $700,000 from her advisory accounts. A variety of deceptive conduct was used including forging checks and even withdrawing funds on margin where he wanted more cash than was available. In addition, about $60,000 was misappropriated from Client B’s advisory accounts by wiring sale proceeds from the account using a phone call in which Mr. Boucher impersonated the client. After Client C passed away Mr. Boucher misappropriated about $1.5 million from the trust accounts by moving the funds to his personal accounts. He also took steps to conceal his actions from the firms and later the staff during the investigation. The complaint alleges violations of Securities Act Section 17(a), Exchange Act Section 10(b) and Advisers Act Sections 206(1) and 206(2). The case is pending. See Lit. Rel. No. 24875 (August 25, 2020).
Insider trading: SEC v. Sarshar, Civil Action No. 20-cv-06965 (S.D.N.Y. Filed August 25, 2020). Defendant Sepehr Sarshar is the founder of Auspex Pharmaceuticals, Inc., a California based biopharmaceutical firm that has focused on drug development since its founding in 2001. By 2014 the firm secured a listing for its securities on NASD following an IPO at $12 per share. During the thirteen years it took to achieve the exchange listing and IPO, Mr. Sarshar and his firm conducted capital raises. The investors were family and friends investing through a vehicle. In early 2015 the CEO of Auspex began meeting with senior management from a number of large pharmaceutical companies. The firms included Israel based Teva Pharmaceutical Industries Ltd., a global pharmaceutical company whose shares are listed on the New York Stock Exchange. The prospects for a deal moved forward quickly. Multiple firms expressed interest in doing a deal. Auspex retained an investment bank in February 2015. Later the same month Teva submitted a non-binding proposal to Auspex for an all-cash tender offer at a 30% premium to market. Conditional agreements were executed by March 1, 2015. The Auspex board was interested, a fact noted at its late February meeting. As the deal unfolded Mr. Sepehr emailed the investment group that helped built the firm. The email explained to the group that since he remained on the board of directors of the company he was not allowed to communicate with anyone about non-public events. He then had discussions with his romantic companion, one of the investors from the group that helped build the company. Subsequently, she purchased shares. That pattern was repeated over the following weeks with the other five other members of the initial investment group. On March 30, 2015 Auspex announced that Teva Pharmaceutical had commenced a tender offer to acquire Auspex for $101 per share, a premium of 42% above the closing price from the prior day. The investor group had trading profits of at least $300,000. Later NASD conducted a preliminary investigation into the trading of Auspex shares prior to the deal announcement. During the inquiry Mr. Sarshar stated he had not had contact with the investor group members during the period except his brother. The statement was false, according to the complaint. The complaint alleges violations of Exchange Act Section 14(e). The case is pending. See Lit. Rel. No. 24876 (August 25, 2020).
Financial fraud: In the Matter of Super Micro Computer, Inc., Adm. Proc. File No. 3-19927 (August 25, 2020). From fiscal year 2015 through fiscal year 2017 the firm used a variety of mechanisms to prematurely recognize revenue and understate expenses. For example, revenue recognition was accelerated by recognizing it prior to delivery, sending goods to customers prior to the due date and changing the shipping terms. The firm used a similar variety of improper techniques to understate expenses. Those included under reporting certain expenses for the quarter in addition to shipping costs and repairs. Inventory was also overvalued. By 2017 the firm was required to restate its financial statements. The Order alleges violations of Securities Act Sections 17(a)(2) and (3) and Exchange Act Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B). To resolve the proceedings Respondent consented to the entry of a cease and desist order based on the sections cited in the Order and agreed to pay a penalty of $17.5 million. A fair fund was created. See also In the Matter of Howard Hideshima, Adm. Proc. File No. 3-19928 (August 25, 2020)(action against the firm’s CFO; resolved with cease and desist order based on same sections as the company and the payment of disgorgement of $260,844, prejudgment interest of $40,202 and a penalty of $50,000; a fair fund was created); In the Matter of Charles Liang, Adm. Proc. File No. 3-19929 (August 25, 2020)(president and CEO of the firm; resolved with cease and desist order based on SOX Section 304 and by reimbursing the firm $2,122,000).
Unauthorized trading: SEC v. Engler, Civil Action No. 20-cv-1625 (E.D.N.Y.) is a previously filed action which named as defendants Jonah Engler, Joshua Turney, Hector Perez and Barbara Disiderio. Each Defendant was a registered representative at the same brokerage firm. The complaint centers on an unauthorized trading scheme involving 360 accounts, $2.4 million in unlawful markups and over $4 million in net losses for the customers. Defendants Turney, Perez and Desiderio consented to the entry of permanent injunctions based on Securities Act Sections 17(a)(1) and (3) and Exchange Act Section 10(b). The question of remedies is reserved for later consideration by the Court. The Commission entered an order barring each Defendant, based on the consent judgments, from the securities business and participating in any penny stock offering. See Lit. Rel. No. 24874 (August 25, 2020).
Trading away: SEC v. Hede, Civil Action No. 1:20 – cv-06724 (S.D.N.Y. Filed August 21, 2020). Defendants Minish “Joe” Hede and Kevin Graetrz were each employed at a Broker-Dealer Firm from February 2013 to April 2017. Each was terminated for failing to cooperate with an investigation by their employer into selling away – selling securities not authorized by Broker-Dealer Firm. Broker-Dealer Firm was registered with the SEC and FINRA. Neither Defendant was registered with the Commission or FINRA. In 2013 Mr. Borland began approaching others at the firm to act as placement agents for Off-Shore Country Fund. Mr. Graetz furnished the introductions. As with other brokers, Broker-Dealer Firm had written policies that prohibited registered representatives from offering and selling any investment to firm customers absent approval by the Firm. Since the Firm had not approved selling interests in Off-Shore Country Fund, each Defendant was prohibited from engaging in such activities. FINRA rules also require that representatives such as Messrs. Hede and Graetz sell all securities to customers through the broker-dealer firm for which they are employed. If Defendants wanted to sell interests in Off-Shore Country Fund, each was required to seek and obtain the authorization of the Firm. Neither Defendant provided notice to Broker-Dealer Firm regarding selling interests in Off-Shore Country Fund. Nevertheless, each Defendant began selling interests in the Fund. Approximately $9.6 million was raised from 21 customers of Broker-Dealer Firm by selling interests in Off-Shore Country Fund. Steps were taken to conceal the activity from their employer. Yet in December 2016 the Firm received a demand letter from one of its customers who had purchased notes in the Fund. The customer informed the Firm that Messrs. Hege and Graetz had urged him to purchase the notes. In 2018 the U.S. Attorney’s Office for the Southern District of New York filed a complaint and indictment against Mr. Borland, alleging conspiracy, securities fraud and wire fraud in connection with selling interest in the Fund. U.S. v. Borland, No. 18-cr-00487 (S.D.N.Y). At the same time the SEC filed an enforcement action naming as defendants Mr. Borland, the Fund and others. SEC v. Borland, Civil Action No. 18-cv-4352. Each case alleges that Mr. Borland misappropriated millions of dollars supposedly to be invested in the Fund. In February 2019 Mr. Borland pleaded guilty to criminal charges in the criminal case. The complaint alleges violations of Exchange Act Section 15(a). The case is pending. See Lit. Rel. No. 24873 (August 24, 2020).
In the Matter of Herbalife Nutrition Ltd., Adm. Proc. File No. 3-19948 (August 28, 2020) is an action which names the Cayman based multi-level marketing developer of dietary supplements as a Respondent. The Order alleges that over a ten-year period, beginning in 2006, the Chinese subsidiary of the firm offered corrupt payments and other improper benefits to Chinese government officials. Specifically, beginning in 2012 certain employees of the subsidiary, including senior officials, made available improper benefits that included cash, gifts, trave, alcohol, meals and entertainment to government officials.
While certain firm executives received reports of high travel and entertainment spending in China and violations of the firm’s compliance policies, no action was taken. Yet by 2016 the China subsidiary was responsible for 20% of the world wide sales. The improper payments were not properly recorded in the books and records of the company, The Order alleges violations of Exchange Act Sections Exchange Act Sections 13(b)(2)(A) and 13(b)(2)(B). 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 agreed to implement certain undertakings keyed to the wrongful conduct. The firm will also pay disgorgement of $58,669,993, and prejudgment interest of $8,643,504.50 which will be transferred to the U.S. Treasury subject to Exchange Act Section 21F(g)(3).
The firm also settled criminal charges with the Department of Justice, entering into a three year deferred prosecution agreement. No penalty was imposed by the Commission in view of the criminal fine the firm will pay of $55,743,093.
IPOs: The Australian Securities and Investment Commission has provided for relief regarding the cost of going public through an IPO, according to an August 27, 2020 announcement (here).
Cross-listing: The Securities and Futures Commission authorized on August 28, 2020 the listing of two ETFs on the Stock Exchange of Hong Kong. The arrangements will facilitate cross-listing with the Mainland (here).
Report: The SFC published a report on August 25, 2020, on the asset and wealth management business. The report notes that the business had strong results in 2019 (here).