Week In Securities Litigation (Week of Jan. 13, 2020)
A look forward – a look back:
The Commission announced the initial meeting of its Asset Advisory Committee this week. The new Committee is designed to make available diverse views on the business to the Commission and provide the agency with advice. The meeting is scheduled for later this month.
OCIE announced its exam priorities this week. Those priorities are key not just for those facing exams but also in reviewing compliance systems.
Finally, the actions initiated by Enforcement continue to key on offering frauds where the focus is frequently retail investors. Actions brought by the Department of Justice this week echo those of the Commission’s enforcement program.
Exams: The exam priorities of the SEC’s Office of Inspections and Compliance or OCIE, announced on January 7, 2020, are a key priority for every investment advisor and investment company. Those priorities are critical not just for those who may be facing an exam this year but also for the industry. The priorities typically center on a combination of emerging issues, important risk areas for the firm, traditional areas of concern and current SEC priorities.
The areas identified this year are no different — they build on the past while tying those points to current Commission priorities. Those identified in the press release (here) and booklet published by the Office titled 2020 Examination Priorities, Office of Compliance Inspections and Examinations (here), are: Retail investors; market infrastructure; information security; focus areas for advisers, ICs, broker-dealers and muni advisors; AML; fintech; and FINRA and MSRB. When evaluating these points, it is critical that they be considered in the context of the overall OCIE program.
SEC Enforcement – Filed and Settled Actions
The Commission filed 3 civil injunctive actions and no administrative proceedings last week, exclusive of 12j and tag-along actions.
Offering fraud: SEC v. ARO Equity, LLC, Civil Action No. 1:20-cv-10027 (D. Mass. Filed Jan. 8, 2020). Named as defendants are: Thomas Renison, a state licensed insurance agent who was barred from the securities business by the state of Maine and from association with an investment adviser by the Commission; and ARO Equity, LLC, a private investment firm that is located in the home of Defendant Timothy Allcott, a long unemployed former manager of a billiards hall and motel. The action centers on an offering that took place over a three-year period beginning in mid-July 2015. Over $6 million was raised from about 15 investors, largely senior citizens. Investors were solicited to purchase promissory notes in ARO Equity. The notes had a term of three to five years and paid interest of 8% to 12% annually. Messrs. Renison and Allcott told investors the returns on the notes were superior to those available from other retirement products. Key to these claims were repeated representations regarding the safety of the investments. Unfortunately, the notes were anything but a safe investment, according to the Commission’s complaint. While investor capital was used to fund several small businesses, none had made a profit. Two other business that obtained about $3.3 million in loans were also unprofitable. One was later sold at a loss of about $1.3 million. Nevertheless, Mr. Renison was paid a finders fee of $580,000. Mr. Allcott was paid a salary of about $225,000. Portions of the investor capital was paid to the sons of Mr. Renison. Little was left to repay investors. The Commission’s complaint alleges violations of Securities Act Section 17(a), Exchange Act Sections 10(b) and 15(a) and Advisers Act Sections 206(1) and 206(2). The case is pending. See Lit. Rel. No. 24710 (Jan. 8, 2020).
Offering fraud: SEC v. Blakstad, Civil Action No. 20-CV-163 (S.D.N.Y. Filed Jan. 8, 20120) names as defendants Donald Blakstad, along with two of his controlled entities. Mr. Blakstad owns, controls and holds executive officer positions in Midcontinental Petroleum, Inc., a purported oil firm, and Defendants ESI, supposedly a firm engaged in the crypto mining business, and Xact Holdings Corporation, a holding company formed to acquire another entity. In July 2019 he was charged by the DOJ and the Commission with insider trading. Over a four-year period, beginning in mid- 2015, Mr. Blakstad raised funds through Midcontinental, ESI and Xact. Overall about $3.5 million was obtained from 14 or more investors. Mr. Blakstad used a variety of representations to convince investors to purchase the securities of the firms. With respect to Midcontinental, investors were told that their funds would be used to begin operations and for other costs related to the oil, gas and alternative energy exploration business. Those would include the acquisition of land leases and other equipment necessary for energy exploration. ESI investors were told that their funds would be used to purchase equipment and pay start-up costs to initiate cryptocurrency mining operations. Xact investors were told that their money would be used to purchase a Canadian firm and lease facilities in Huston, Texas. The representations made by Mr. Blakstad as to each company were false. Rather than invest the funds as represented, he used the investor capital as his “own personal piggybank” in the words of the complaint. He also used part of the funds to pay an individual used to solicit investors. The complaint alleges violations of Securities Act Section 17(a) and Exchange Act Section 10(b). The case is pending. See Lit. Rel. No. 24711 (Jan. 8, 2020).
Offering fraud: SEC v. Kelter, Civil Action No. 3:17-cv-01441 (M.D. Tenn.) is a previously filed action against Jay Costa Kelter, a former registered representative. The Commission’s complaint alleged that Mr. Kelter defrauded three retired investment clients out of over $1.8 million. He also made misrepresentations to them, including a supposed guarantee against loss. About $1.4 million of the loss resulted from Mr. Keltere’s misappropriation of funds from the investors. To resolve the proceedings, Defendant consented to the entry of a final judgment against him prohibiting future violations of Securities Act Section 17(a) and Exchange Act Section 10(b). He was also ordered to pay disgorgement of $1.4 million and prejudgment interest of $331,985, deemed satisfied by the restitution ordered in the parallel criminal case. Mr. Kelter also consented to the entry of an order barring him from the securities business. See Lit Rel. No. 24709 (Jan. 7, 2020).
Offering fraud: SEC v. Schwartz, Civil Action No. 9:20-cv-80008 (S.D. Fla. Filed Jan. 6. 2020). 1 Global Capital LLC is wholly owned by the Ruderman Family Trust, which had about 100 employees at the time it filed for bankruptcy. Carl Ruderman, a defendant in an earlier Commission action, was its CEO. Steven Schwartz, a director and COO, is named as a defendant. He is also the brother-in -law of Mr. Ruderman and a trustee of the Ruderman Family Trust. Over a four-year period, beginning in early 2014, over $287 million from about 3,400 investors in 25 states was raised. Many investors who purchased the unregistered shares of the firm did so with retirement funds. Investors were told that their money would be used exclusively for cash advances through the Merchant Cash Advance program – a business to business loan program for firms that had difficulty accessing capital through conventional sources. The investments were rigorously vetted with only one of ten qualifying, according to the program promoters. The investments were safe investors were told. In fact, the offering was run by a network of salesmen that included persons barred from the business. In reality large portions of the investor funds were diverted to other high-risk projects while portions of the investor cash was misappropriated. Investors were furnished with false statements. Mr. Schwartz is alleged to have played a key role in the fraud. Specifically, he executed an agreement conveying ownership of 1 Global to the trust. Prior to the time the firm declared bankruptcy in July 2018, Mr. Schwartz is alleged to have permitted Mr. Ruderman to use the trust to misappropriate several million dollars of investor funds for his personal use. The complaint alleges aiding and abetting violations of Securities Act Sections 17(a)(1) and (3) and Exchange Act Section 10(b). This case, along with the first, is pending. The U.S. Attorney’s Office for the Southern District of Florida filed a parallel criminal action. See Lit. Rel. No. 24707 (Jan. 6, 2020).
Offering fraud: SEC v. Espinal, Civil Action No. 2:19 Civ. 21616 (D.N.J. Filed Dec. 19, 2019) is an action which names as defendants Edward Espinal and his firm, Cash Flow Partners LLC. Over a three-year period, beginning in July 2016, Defendants solicited Spanish speaking investors through advertisements focused on them to invest in the firm which supposedly purchased and renovated homes. Investors were told of a guaranteed profit ranging from just a little over 1% to about 4%. In fact, the firm owned only two small parcels of real estate that were not sold. Much of the $5 million raised from 90 investors was misappropriated. The complaint alleges violations of Securities Act Sections 5(a), 5(c) and 17(a) and Exchange Act Section 10(b). The case is pending. See Lit. Rel. No. (Jan. 7, 2020).
Swap dealers: The Division of Swap Dealer and Intermediary Oversight issued an advisory regarding annual compliance report requirements for swap dealers, futures commission merchants and major swap participants. The Advisory clarifies annual compliance reporting requirements and provides recommendations regarding the manner in which reports are prepared (Jan 3, 20120)(here).
Offering fraud: U.S. v. Rhodes (S.D.N.Y. Plea Jan. 9, 2020) names Jason Rhodes as a defendant. Over a three-year period, beginning in 2013, Mr. Rhodes raised about $19.6 million from investors claiming that he would invest the funds in securities in his hedge fund, Sentinel Growth Fund Management, LLC. In fact, most of the funds were misappropriated. After investors uncovered the fraud Mr. Rhodes raised money from another investor to repay one of the initial investors. Investors were also furnished fraudulent account statements. Mr. Rhodes pleaded guilty to one count of conspiracy to commit securities fraud and wire fraud, one count of securities fraud, one count of wire fraud, and one count of investment adviser fraud. Sentencing is scheduled for April 6, 2020.
Offering fraud: U.S. v. Pagartanis, No. 18-CR-374 (E.D.N.Y. Sent. Jan. 9, 2020) named as a defendant Steven Pagartanis, a former registered investment adviser. Previously, he pleaded guilty to conspiracy to commit mail and wire fraud tied to orchestrating a securities fraud scheme that ran for about 18 years, beginning in January 2000. Mr. Pagartanis raised about $13 million from investors who were largely women. Investor funds were to be put into two publicly traded companies and pay an 8% return. Much of the investor money was misappropriated. Mr. Pagartanis was sentenced to serve 120 months in prison and directed to pay over $6. Million in restitution.
Offering fraud: U.S. v. Schwartz, No. 0:20-cr-60003 (S.D. Fla. Plea Jan. 9, 2020) named as a defendant Steven Schwartz, the former COO of 1Global Capital LLC. He pleaded guilty to a one count information alleging conspiracy to commit wire fraud and securities fraud. Over a four-year period, beginning in early 2014, he participated in a scheme which raised over $287 million from about 3,400 investors in 25 states. Many investors who purchased the unregistered shares of the firm did so with retirement funds. Investors were told that their money would be used exclusively for cash advances through the Merchant Cash Advance program – a business to business loan program for firms that had difficulty accessing capital through conventional sources. The investments were rigorously vetted with only one of ten qualifying, according to the program promoters. The investments were safe investors were told. In fact, the scheme was a fraud. Mr. Schwartz is alleged to have played a key role in the fraud. Specifically, he executed an agreement conveying ownership of 1 Global to the trust. Prior to the time the firm declared bankruptcy July 2018, Mr. Schwartz is alleged to have permitted Mr. Ruderman to use the trust to misappropriate several million dollars of investor funds for his personal use. The date for sentencing was not announced. See also SEC v. 1 Global Capital LLC, Civil Action No. 0:18-cv-61991 (S.D. Fla. Filed August 23, 2018, unsealed Aug. 28); SEC v. Schwartz, Civil Action No. 9:20-cv-80008 (S.D. Fla. Filed Jan. 6. 2020).
Insider trading: U.S. v. Cohen, No. 1:19-cr-00741 (S.D.N.Y. Plea Jan. 7, 2020) is an action in which defendant Bryan Cohen, formerly an investment banker based in New York, pleaded guilty to conspiring to commit securities fraud. Mr. Cohen was formerly employed in the investment banking division of a global investment banking advisory firm. His position gave him access to inside information on certain corporate transactions. Over a two year period, beginning in 2015, Mr. Cohen misappropriated inside information from his employer and passed it to a trader based in Switzerland. The trader used the information to trade, reaping substantial profits. In return for the information Mr. Cohen received benefits that included cash. The date for sentencing was not announced.
Offering fraud: U.S. v. Robertson, No. 3:16-cr-133 (E.D. Va. Sentencing Jan. 7, 2020). In this case a former football player at the University of Virginia and later in the NFL, Merrill Robertson, Jr., and his friend, Sherman Vaughn, were able to convince investors to entrust them with millions of dollars in investment funds. Following trial, a jury convicted Mr. Robertson of conspiracy, mail fraud, wire fraud, bank fraud and money laundering. The scheme traces to as early as 2008. When Mr. Robertson and his firms, Cavalier Union Investments LLC and Black Bull Wealth Management LLC, began marketing their investment program. Defendant Robertson identified potential targets from his years as a football player at Fort Union Military Academy, the University of Virginia and in the NFL. Mr. Vaughn worked to raise funds for their claimed investments. Investors were led to believe that Mr. Robertson was an experienced investment adviser and that his firm was a qualified custodian for retirement funds. Investment funds were supposedly deposited into individual tax-deferred retirement accounts. The investments were secured by tangible cash-producing assets owned by the company, according to the sale pitch. In fact, the investor funds were not invested. The money was not secured. To the contrary, the money was diverted to the personal use of Mr. Robertson and his co-conspirator, Sherman Vaughn. Despite having raised over $10 million over an eight-year period, by 2015 Mr. Robertson and his compatriot were out of cash. New capital could not be raised. Mr. Robertson then turned to assisting friends with obtaining loans in return for a cut of the proceeds using false documents. Mr. Robertson was sentenced to serve 40 years in prison.
The Australian Securities and Investment Commission charged Anthony K. Silver of Tasmania with five counts of criminal fraud. Mr. Silver is alleged to have used over $1.8 million in investor investment funds for a purpose not anticipated by the investors. He was released from custody on bail pending trial.
Priorities: The European Securities and Markets Authority announced its key priorities for 2020-2022. Those include enhancing supervisory tools, investor protection and technology innovation (Jan. 9, 2020)(here).
Licensing guidance: The Securities and Futures Commission issued guidance regarding the licensing obligations of private equity firms and family offices conducting business in Hong Konk (Jan. 7, 2020)(here).