This week before Christmas Bloomberg reports that SEC Enforcement Director Robert Khuzami will resign shortly. The Director took over the Division at a difficult time and then presided over its most ambitious reorganization in history. In the last two years the Division has brought record numbers of cases.
The Commission resolved a long running action with former Enron executives while bringing two FCPA cases this week. The agency also revoked the registration statement of a Toronto based broker, brought cases centered on for financial fraud and another based on the collapse of a fund during the market crisis.
Remarks: Bruce Karpati, Chief of the Enforcement Division’s Asset Management Unit, addressed the Regulatory Compliance Association, New York City (Dec. 18, 2012). His remarks reviewed the reason for specialization, risks in the hedge fund business model, types of misconduct encountered, the use by the Division of risk-analytic initiatives and selected recent cases (here).
SEC Enforcement: Filings and settlements
Weekly statistics: This week the Commission filed 6 civil injunctive actions and 9 administrative proceedings (excluding tag-along-actions and 12(j) actions).
Financial fraud: SEC v. Shelby, Civil Action No H-03-0946 (S.D. Tex.) is a long running action against former Enron senior vice presidents Rex T. Shelby and Scott Yeager and the former CFO of Enron Broadband Services, Kevin Howard. The three men settled charges centered on claims that they made false statements about the technological prospects and performance of Enron Broadband. Messrs. Shelby and Yeager consented to the entry of a permanent injunctions prohibiting future violations of Exchange Act Section 10(b). Mr. Howard consented to the entry of a permanent injunction prohibiting future violations of Securities Act Section 17(a) and Exchange Act Sections 10(b), 13(b)(5) and from aiding and abetting violations of Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B). Each man will be bared from serving as an officer or director of a public company. In addition, Mr. Shelby will pay a civil penalty of $1 million, Mr. Yeager $110,000 and Mr. Howard $65,000. Mr. Howard also consented to the entry of an order barring him from appearing or practicing before the Commission as an accountant. The Commission voluntarily dismissed its claims against three other defendants. See also, Lit. Rel. No. 22577 (Dec. 20, 2012).
Unauthorized trading scheme: In the Matter of Claymore Advisors, LLC, Adm. Proc. File No. 3-15139 (Dec. 19, 2012); In the Matter of Fiduciary Asset Management, LLC., Adm. Proc. File No. 3-15140 (Dec. 19, 2012); and In the Matter of Mohammed Raid, Adm. Proc. File No. 3-15141 (Dec. 19, 2012) are proceedings against registered investment adviser Claymore Advisors which is the adviser to Fiduciary/Claymore Dynamic Equity Fund or HCA; its sub-adviser, Fiduciary Asset Management, LLC or FAMCO; and two principals of the sub-adviser, Mohammed Raid and Kevin Swanson. HCE’s primary investment strategy, according to its April 2005 registration statement, was to invest in equities and write call options on a substantial portion of those investments. Beginning in April 2007 FAMCO employed two new strategies. One called for HCE to write short-duration out-of-the-money S&P 500 put options. The other was short variance swaps. In September and October 2008 HCE realized about $45.4 million in losses which equaled about 45% of its net assets as of August 2008 on five written put options and variance swaps. Those trades contributed to a 72.4% decline in NAV over a two month period. FAMCO, through the portfolio managers, is alleged to have made misleading statements about HCE’s performance and strategies during the period. The Fund is now in liquidation.
The Order as to Claymore alleges violations of Investment Company Act Rule 8b-16. The Order as to FAMCO alleges violations of Section 34(b) of the Investment Company Act and Section 206(4) of the Advisers Act. The Order as to the individuals alleges violations of Exchange Act Section 10(b) and aiding and abetting FAMCO’s violations. Claymore settled, consenting to the entry of a cease and desist order based on the Rule cited in the Order and agreeing to implement certain undertakings which include a plan to distribute its remaining assets to investors. FAMCO also consented to the entry of a cease and desist order based on the Sections cited in the Order which names it as a Respondent. The firm will pay disgorgement of $644,951, prejudgment interest and a civil penalty of $1.3 million. The proceeding against the portfolio managers will be set for hearing.
Financial fraud: SEC v. TheStreet, Inc., Civil Action No. 12-CV-9187 (S.D.N.Y. Filed Dec. 18, 2012); SEC v. Ashman, Civil Action No. 12-CV-9189 (S.D.N.Y. Filed Dec. 18, 2012); and SEC v. Alwine, Civil Action No. 12-CV-9191 (S.D.N.Y Filed Dec. 18, 2012) are actions against, respectively, the company, its former CFO Eric Ashman and the co-presidents of a subsidiary, Gregg Alwine and David Barnett. The cases center on the acquisition by TheStreet.com, Inc., now TheStreet, Inc., of a privately held company in August 2007. Almost immediately there were financial difficulties at the subsidiary. Those lead to the recording of revenue prematurely in violation of GAAP. Defendant Ashman permitted the company to book revenue when the work had not been completed by the subsidiary or there was an insufficient basis to believe that it had been completed in four key transactions. The subsidiary also booked three round trip transactions structured and implemented by Messrs. Alwine and Barnett with friendly counter-parties to create or inflate revenue. These transactions caused the financial statements of the parent for the first, second, third and fourth quarters to overstated revenue by, respectively, 31%, 118%, 21% and 105% and by 152% for the entire year. The Commission’s actions alleged violations of Exchange Act Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B) by the company; Section 13(b)(5) and aiding and abetting violations of Sections 10(b), 13(a), 13(b)(2)(A) and 13(b)(2)(B) and failing to comply with SOX 304(a) by Mr. Ashman; and Sections 13(b)(5) and aiding and abetting violations of Section 10(b), 13(a) and 13(b)(2)(A) by Messrs. Alwine and Barnett.
Each defendant settled with the Commission, consenting to the entry of a permanent injunction based on the Sections cited in the pertinent complaint. In addition, Mr. Ashman agreed to pay a civil penalty of $125,000, to reimburse the parent company $34,240 under SOX 304 and to be barred from serving as a director or officer of a public company for three years. Messrs. Alwine and Barnett will pay penalties of $120,000 and $130,000 respectively and be barred from serving as officers or directors of a public company for ten years. See also Lit. Rel. No. 3232 (Dec. 18, 2012).
Failure to supervise: In the Matter of Biremis Corporation, Adm. Proc. File No. 3-15136 (Dec. 18, 2012) is a proceeding which names as Respondents Biremis, a registered broker-dealer, and its two co-founders, Peter Beck and Charles Kim. During the period 2007 through 2011 the firm operated a worldwide day trading business that had 4,000 to 5,0000 day traders in 30 different countries. The firm exercised control over the traders who acted as a proprietary trading force backed by its money. The traders used a high speed trading system and bought and sold securities around the world. Frequently they engaged in layering, spoofing or gaming, all techniques which mimicked actual market activity but are manipulative. Throughout the period Respondents failed to reasonably supervise the traders or maintain a system for conducting such activity. They also failed to maintain the required e-mails or file suspicious activity reports as required. The Respondents have repeatedly been sanctioned for securities violations. The Order alleges violations of Exchange Act Section 15(b)(4)(E), 15(b)(6). Each Respondent settled, consenting to the entry of a cease and desist order based on the Sections cited in the Order. In addition, the registration of Biremis was revoked and Respondents Beck and Kim will be barred from the securities business and from participating in any penny stock offering. Each individual Respondent agreed to pay a penalty of $250,000.
Misrepresentations: In the Matter of New England Investment and Retirement Group, Inc., Adm. Proc. File No. 3-15137 (Dec. 18, 2012) is a proceeding which names as Respondents the firm, a registered investment adviser, and its principle and sole owner, Nicholas John Giacoumakis. NEINV used five equity based models and three fixed income models to manage client assets. Investors selected a conservative, moderately conservative or other model depending on their investment goals. Beginning in 2007, and continuing through 2011, Respondents used Principia software to show how a hypothetical back-testing of the securities in one of its models measured against a benchmark index such as the S&P 5000. On several occasions Respondents sent the reports to clients or prospective clients that purported to compare the performance of a NEINV model to a fixed income or equity benchmark. The reports did not, however, reflect the actual performance of the group of securities held in the model at the time. The model also did not disclose that the risk and return statistics were hypothetical. The Order alleges violations of Advisers Act Sections 206(2) and (4). To resolve the proceeding Respondents undertook a series of remedial acts and consented to the entry of a cease and desist order based on the Sections cited in the Order. NEINV was censured and Respondents agreed to pay a civil penalty of $200,000.
Misrepresentations: In the Matter of Aladdin Capital Management LLC, Adm. Proc. File No. 3514(Dec. 17, 2012); In the Matter of Joseph A. Schlim, Adm. Proc. File No. 3-15135 (Dec. 17, 2012). The first proceeding names as Respondents Aladdin Capital Management and Aladdin Capital LLC, respectively, a registered investment advisor and a broker dealer. The second names Mr. Schlim, a former principal and CFO of each Respondent in the initial proceeding. The Orders allege that to induce investors to purchase interests in complex CDOs the Respondents represented that Aladdin Capital was also investing. Those representations were made to a municipal retirement plan, a pension plan and an individual entrepreneur. Similar misrepresentations were made between 2007 and 2010. In fact the claims were false. Each Order alleges violations of Securities Act Section 17(a)(2) and Advisors Act Section 206(2). To resolve the matter Aladdin Management consented to the entry of a cease and desist order based on Advisers Act Section 206(2). Along with the broker dealer the adviser also agreed to be jointly and severally liable for the payment of $900,000 in disgorgement along with prejudgment interest and a $450,000 civil penalty. In addition, Mr. Schlim consented to the entry of a cease and desist order based on Advisers Act Section 206(2) and Securities Act Section 17(a)(2). He agreed to pay a penalty of $50,000.
Improper professional conduct; In the Matter of J. Brian Laib, CPA, Adm. Proc. File No. 3-15133 (Dec. 17, 2012) is a proceeding against Mr. Laib, a certified public accountant, who served as the outside auditor of Life Partners Holdings, Inc. The company sold life settlements, that is, it brokered the sale of life insurance policies by policy owners to investors in the secondary market. The firm prematurely recognized revenue on those transactions between 2005 and 2008 and backdated documents to conceal the fact according to a Commission action against the company. Mr. Laib failed to conduct the audits in accord with the applicable PCAOB standards, according to this proceeding which is based on Rule 102(e). To resolve the action, Respondent consented to the entry of an order which denies him the privilege of practicing before the Commission as an accountant with a right to apply for re-entry after three years.
Market manipulation: SEC v. Spencer Pharmaceutical Inc., Case No. 1:12-cv-12334 (D. Mass. Filed Dec. 17, 2012) is an action against Spencer, a purported pharmaceutical company, Jean-Francios Amyuot, Maximilien Arella, Ian Morrice, IAB Media Inc and Hilbroy Advisory Inc. Each individual defendant was at one time an officer and/or director of the company. IAB and Hilbroy are Canadian entities that claim to be in the advisory and consultancy business. Hilbroy is controlled by Mr. Amyot. The SEC’s complaint alleges a pump-and-dump scheme centered on a fictitious offer to purchase the company which caused its stock price to jump from $0.25 per share to $0.60 per share. Before the fictitious offer was announced Messrs. Arella and Morrice, along with Mr. Amyot. created and disseminated misleading press releases. As the price increased in late 2010 and early 2011 Mr. Amyot sold about 36 million shares for gross proceeds of $5.8 million. Messrs. Amyot and Arella also arranged for the transfer of 12 million shares into an account Mr. Amyot controlled to evade the registration requirements. The complaint alleges violations of Securities Act Sections 5(a), 5(c) and each subsection of Securities Act Section 17(a) as well as Exchange Act Section 10(b). The case is in litigation. See also, Lit. Rel. No. 22574 (Dec. 17, 2012).
Financial fraud: SEC v. Biochemics, Inc., Civil Action No. 1:12-cv-12324 (D. Mass. Filed Dec. 14, 2012) is an action centered on BioChemics, a privately held company formed in 1991 by defendant John Masiz who serves as its Chairman, CEO and President. Defendant Craig Medoff provided services to the company through another entity and solicited potential investors. Defendant Gregory Kroning is a consultant to the company who also solicited potential investors. Over a three year period the defendants are alleged to have made a series of misrepresentations to potential investors in connection with the sale of BioChemics securities which defrauded 70 investors out of over $9 million. Previously, each of the individual defendants had violated the federal securities laws. The Commission’s complaint alleges violations of Securities Act Section 17(a) and Exchange Act Sections 10(b) and 15(a). The case is pending.
SEC v. Eli Lilly And Company, Case No. 1:12-cv-02045 (D.D.C. Filed Dec. 20, 2012) is an action against the pharmaceutical manufacturer alleging violations of the FCPA in Brazil, Poland and Russia. Specifically, from 2006 through 2009 the company falsified expense reports to furnish gifts and make cash payments to foreign officials. In 2007 a distributor hired by the company paid bribes to a government official to assure sales of product. In Poland between 2000 and 2003 a company subsidiary made several payments to a small charitable foundation that was administered by the head of one of the regional government health authorities when that entity was seeking the support of the official for putting company drugs on a government reimbursement list. In Russia another subsidiary paid millions of dollars to off-shore entities for services beginning as early as 1994 when in some instances it appears that the entities served as a funnel for the cash to government officials. The company also made proposals to donate, or to support, various initiatives affiliated with government officials. The complaint alleged violations of Exchange Act Sections 30A, 13(b)(2)(A) and 13(b)(2)(B). The company settled with the Commission, consenting to the entry of a permanent injunction prohibiting future violations of the Sections cited in the complaint. In addition, the company agreed to pay disgorgement of $13,955,196, prejudgment interest and a civil penalty of $8.7 million.
In the Matter of Allianz SE, Adm. Proc. File No. 3-15132 (Dec. 17, 2012). The action centers on payments by majority owned subsidiary PT Asuransi Allianz Ultama beginning in 2001 and continuing until 2008 to Indonesian officials to obtain and retain insurance business. Initially, the Marketing Manager at Ultama made payments from a special purpose bank account opened years earlier for a legitimate purpose with a local Indonesian broker years. The manager received approval from Ultama management to use the account to make the payments to obtain or retain business. The improper payments were made by disguising them as part of the policy premium. In 2005 Allianz received a complaint through its whistleblower hotline regarding the special purpose account. Internal audit examined the issue, focusing largely on whether money had been misappropriated. Eventually the examination was concluded and the account ordered closed without determining the purpose for the payments.
Despite the directive to close the account, the Marketing Manager continued to use it from 2005 through 2008 with the agreement of the Ultama’s management. While the Marketing Manager utilized various ways to make the payments none were detected by the parent company, further illustrating its flawed internal controls, according to the Order. In 2009 there was a second whistleblower complaint at the parent company. Counsel was retained to investigate. The matter was not reported to the SEC. The next year, however, another whistleblower complaint was made which resulted in a Commission inquiry that uncovered 295 government insurance contracts obtained or retained through the payment of about $650,626 to Indonesian government officials from 2001 through 2008. The Order alleges violations of Exchange Ac Sections 13(b)(2)(A) and 13(b)(2)B). The company settled with the Commission, consenting to the entry of a cease and desist order based on the Sections cited in the complaint. It also agreed to pay disgorgement of $5,315,649, prejudgment interest and a civil penalty equal to the amount of the disgorgement.
Insider trading: U.S. v. Newman, 1:12-cr-00121 (S.D.N.Y.) is an insider trading action against Anthony Chaisson and Todd Newman. Mr. Chaisson was formerly at Diamondback Capital Management LLC where he served as a portfolio manager. Mr. Newman was at expert network Level Global. The two were charged with making more than $70 million by trading on inside information in the securities of Dell Inc. and Nvidia Corporation. This week a jury returned guilty verdicts against both men. The date for sentencing has not been set.
The Australian regulator announced that John Khoo and Jia Tan pleaded guilty to insider dealing charges. Mr. Khoo is a former investment banker with Royal Bank of Canada in Sydney. He is alleged to have tipped Mr. Tan, a former day trader and director of Active Capital Management about corporate take-over transactions he learned about through his employment. Mr. Khoo pleaded guilty to four charges while Mr. Tan pleaded guilty to one. Sentencing in set for January 18, 2013.
Position limits: Deutsche Securities Asia Limited was fined $2.5 million (HK) for regulatory breaches which related to its failure of have effective position limits. The firm had previously been warned about the deficiencies but failed to take the required actions.
Disclosure: The Hong Kong regulator issued a statement encouraging listed companies to comply with their disclosure obligations by year end. Last May the SFC announced the adoption of Ordinance 2012 which established a statutory disclosure regime that requires listed companies to disclose price sensitive information in a timely manner.