Mar 27, 2018 | Shareholder & Investor Protection
SEC Charges Energy Storage Company and Former Sales Executive in Fraudulent Scheme to Inflate Financial Results
On March 27, 2018, the Securities and Exchange Commission announced that it charged a California-based energy storage and power delivery product manufacturer, Maxwell Technologies, Inc. (“Maxwell”), and one of its former sales executives, Van Andrews (“Andrews”), in a fraudulent revenue recognition scheme designed to inflate the company’s reported financial results.
Premature Revenue Recognition from the Sale of Ultracapacitors to Meet Analyst Expectations
According to the SEC’s order, Maxwell Technologies, Inc. (NASDAQGS: MXWL) prematurely recognized revenue from the sale of ultracapacitors – small energy storage and power delivery products – in order to better meet analyst expectations. Andrews, a former Maxwell sales executive and corporate officer, allegedly inflated the company’s revenues by entering into secret side deals with customers and by falsifying records in order to conceal the scheme from Maxwell’s finance and accounting personnel and external auditors. Maxwell’s former CEO, David Schramm (“Schramm”), and former controller, James DeWitt (“DeWitt”), also were charged for failing adequately to respond to red flags that should have alerted them to the misconduct.
Maxwell Technologies Engaged in An Accounting Fraud Scheme that Improperly Recognized Over $19 Million in Revenue from Future Quarters
The SEC’s order stated:
From December 2011 through January 2013, Maxwell . . . engaged in an accounting fraud scheme that improperly recognized over $19 million in revenue from future quarters in violation of U.S. Generally Accepted Accounting Principles (“GAAP”). Maxwell, an SEC recidivist, issued materially false and misleading statements about its revenue, revenue growth, and gross margins, and inflated its reported financial results to better meet analysts’ expectations. Maxwell did not have sufficient internal accounting controls to identify and properly account for its revenue throughout the relevant period.
Maxwell’s primary source of revenue growth during the relevant period was expected to come from ultracapacitors, essentially small energy storage and power delivery products used in automotive, heavy transportation, renewable energy, backup power, wireless communications and industrial and consumer electronics applications. Maxwell’s ultracapacitor revenue growth was material to analysts and investors and was highlighted in all press releases and earnings calls.
Former Maxwell Executive Prematurely Recorded Ultracapacitor Revenue
The SEC’s order stated:
Maxwell, through Andrews, a former Senior Vice President of Sales and Maxwell officer, prematurely recorded ultracapacitor revenue as a result of his conduct and the failures of the company’s finance and accounting department controls. Maxwell, through Andrews, used several improper tactics to prematurely record revenue, including: customer side deals with contingent payment terms and full right of return; channel stuffing; extending payment terms; falsifying purchase orders (“POs”) and third-party confirmations; and by instructing certain distributors to order product they neither wanted nor needed at quarter-end. The fraud created the misperception that Maxwell’s ultracapacitor growth was far more successful than reality.
Maxwell’s Finance and Accounting Department, Including Its Former Controller, Repeatedly Overrode and Ignored Automated Controls and Missed Red Flags
The SEC’s order stated:
Maxwell’s finance and accounting department, including then-controller DeWitt, repeatedly overrode and ignored automated controls and missed red flags that should have alerted them to material revenue recognition departures. Although Andrews and his sales department took steps to hide the side deals from Maxwell’s senior financial personnel, the repeated override of automated controls allowed the sales to continue each quarter. Then-Chief Executive Officer (“CEO”) Schramm and Maxwell’s senior financial personnel knew that the sales took place the last days of each quarter, that certain sales were beyond approved credit limits and contained extended payment terms for up to 180 days, and that certain prior sales receivables were significantly past due. Maxwell ultimately recorded the revenue despite the fact that it should have known the sales terms were not fixed and determinable as required by GAAP for revenue recognition. Schramm also overrode automated credit limit controls to authorize large sales to distributors at quarter-end that he should have known those distributors neither wanted nor needed.
Internal Investigation Initiated After Maxwell’s Audit Committee Received Whistleblower Letter Describing the Revenue Recognition Fraud
The SEC’s order stated:
On or about January 9, 2013, Maxwell initiated an internal investigation after its audit committee received a detailed internal whistleblower letter describing the revenue recognition fraud. As a result of that investigation, on March 7, 2013, Maxwell announced that its previously issued financial statements on Form 10-K for 2011 and all quarterly reports on Forms 10-Q in 2011 and 2012 could not be relied upon. Maxwell also disclosed material weaknesses in its internal control over financial reporting due to “errors” it discovered in the “timing of recognition of revenue from sales to certain distributors.” Maxwell’s stock price declined 11.09%, closing at $8.10 per share on March 8, 2013. Soon thereafter, on March 18, 2013, Maxwell’s external auditor resigned after concluding it could not rely on representations made by senior financial personnel. After the external auditor’s resignation, Maxwell’s stock price declined an additional 20.57%, closing at $5.91 per share on the news.
Maxwell Files Restatement Which Reduced Revenue and Turned Net Income Gains Into Net Losses
The SEC’s order stated:
On August 1, 2013, Maxwell filed a restatement of the 2011 Form 10-K and Forms 10-Q for the first three quarters of 2012 that reduced revenue by 6.4% and 7.5% respectively. The restatement also turned net income gains into net losses for fiscal year-end 2011 and certain quarters in 2012.
Maxwell’s Securities Violations
The SEC’s order stated:
As a result of the conduct described herein, Maxwell violated the antifraud provisions of Exchange Act Section 10(b) and Rules 10b-5(a) and 10b-5(c) thereunder, and Securities Act Section 17(a), the reporting provisions of Exchange Act Section 13(a) and Rules 12b-20, 13a-1, 13a-11, and 13a-13 thereunder, the books and records provisions of Exchange Act Section 13(b)(2)(A), and the internal accounting control provisions of Section 13(b)(2)(B).
As a result of the conduct described herein, Andrews violated the antifraud provisions of Securities Exchange Act Section 10(b) and Rules 10b-5(a) and 10b-5(c) thereunder, and Securities Act Section 17(a) and caused Maxwell to violate Securities Act Section 17(a) and Exchange Act Sections 10(b), 13(a), 13(b)(2)(A) and 13(b)(2)(B) and Rules 10b-5(a), 10b-5(c), 12b-20, 13a-1, 13a-11, and 13a-13 thereunder. Andrews also violated Exchange Act Section 13(b)(5) and Exchange Act Rules 13b2-1 and 13b2-2.
As a result of the conduct described herein, Schramm and DeWitt caused Maxwell to violate Exchange Act Sections 13(a), 13(b)(2)(A) and 13(b)(2)(B) and Rules 12b-20, 13a-1, 13a-11, and 13a-13 thereunder.
Penalties Imposed and Fair Fund Established for the Benefit of Harmed Investors
Both Maxwell and Andrews consented to the SEC’s order without admitting or denying the allegations and agreed to pay penalties of $2.8 million and $50,000, respectively. Andrews also agreed to be barred from serving as an officer or director of a public company for five years. Without admitting or denying the findings that they caused certain violations by Maxwell, Schramm agreed to pay a total of nearly $80,000 in disgorgement, prejudgment interest, and penalty and DeWitt agreed to pay a $20,000 penalty.
The money collected in this proceeding will be used to establish a Fair Fund for the benefit of investors harmed by the accounting fraud. Maxwell’s former CFO Kevin Royal, who was not charged with wrongdoing, has reimbursed the company $135,800 for incentive-based compensation he received during the period when the company was found to have committed accounting violations.
Source: SEC.gov
Mar 23, 2018 | Shareholder & Investor Protection
SEC Charges Operators of Private Real Estate Fund Involved in Long-Term Scheme Which Raised More than $66 Million From Approximately 300 Investors
On March 22, 2018, the Securities and Exchange Commission announced that it settled charges against the operators of a real estate investment business who engaged in a multiyear scheme to bilk hundreds of investors, which included many retail investors, out of millions of dollars. The charged defendants will, as a result of the settlement, be ordered to return all ill-gotten funds to investors.
The SEC alleges in its complaint that from 2012 through 2016, Tobias Preston, his brother, Charles Preston, and his son, Caleb Preston, along with their investment advisory entity, McKinley Mortgage Co. LLC (“McKinley Mortgage”), raised more than $66 million from approximately 300 investors, most of whom were retail investors, by falsely stating that investments in their fund, Alaska Financial Company III, LLC (“Alaska Financial III”), were secure and that Alaska Financial III earned high returns from its portfolio. Alaska Financial III, however, has been insolvent and unable to generate sufficient revenue to meet its interest obligations for years.
According to the SEC, although a portion of the raised funds were invested as promised to investors, Tobias Preston misused more than $17 million to fund personal businesses and to pay for personal expenses, and McKinley Mortgage misused an additional $14 million to pay for its own operational expenses. The SEC also alleges that Charles Preston, Caleb Preston, and Accounting Manager Laura Sanford helped hide the fraud by preparing or distributing investor materials with false information and concealing information from Alaska Financial III’s auditors.
The SEC’s complaint charges violations of the anti-fraud and registration provisions of the federal securities laws. Without admitting or denying the SEC’s allegations, all defendants agreed to permanent injunctions against future violations. McKinley Mortgage Co. LLC, Tobias Preston, Charles Preston, and Caleb Preston consented to entry of a final judgment permanently enjoining them from future violations of Sections 5 and 17(a) of the Securities Act of 1933 (Securities Act), Section 10(b) of the Securities Exchange Act of 1934 (Exchange Act) and Rule 10b-5 thereunder, and Sections 206(1) and 206(2) of the Investment Advisers Act of 1940. Caleb Preston also consented to a permanent injunction against future violations of Section 15(a) of the Exchange Act; affiliated entity McKinley Mortgage Company, LLC consented to a permanent injunction against future violations of Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder; and Laura Sanford consented to a permanent injunction against future violations of Section 17(a) of the Securities Act.
The Prestons and McKinley agreed, pursuant to settlements subject to court approval, to repay the almost $30 million they improperly received that has not already been returned to Alaska Financial III and to the appointment of new management at McKinley, Alaska Financial III, and their affiliates. Tobias Preston also will be ordered to return assets he improperly acquired and to pay a $2.5 million penalty. Charles Preston and Caleb Preston agreed to pay penalties of $425,000 and $150,000, respectively.
Source: SEC.gov
Mar 20, 2018 | Shareholder & Investor Protection
Federal Court at Request of FTC Stops Activities of Individuals Who Allegedly Promoted Deceptive Cryptocurrency-Based Money-Making Schemes
On March 16, 2018, the FTC announced that at its request, a federal court halted the activities of four individuals who allegedly promoted deceptive money-making schemes involving cryptocurrencies, which falsely promised that participants could earn large returns by paying cryptocurrency such as Bitcoin or Litecoin to enroll in the schemes.
In a complaint, the FTC alleges that three defendants – Thomas Dluca, Louis Gatto, and Eric Pinkston – promoted chain referral schemes known as Bitcoin Funding Team and My7Network. Using websites, YouTube videos, social media and conference calls, the defendants promised big rewards for a small payment of Bitcoin or Litecoin.
The defendants claimed that Bitcoin Funding Team could turn a payment of the equivalent of just over $100 into $80,000 in monthly income. The FTC alleges, however, that the structure of the schemes ensured that few would benefit. In fact, the majority of participants would fail to recoup their initial investments.
Bitcoin Funding Team and My7Network participants, according to the FTC, only could generate revenue by recruiting new participants and convincing them to also pay cryptocurrency. For example, Bitcoin Funding Team participants were required to make an initial bitcoin payment to an earlier participant and pay a fee to Bitcoin Funding Team. With these payments, participants were eligible to recruit new members and receive payments from them. Promoters claimed participants could earn bigger rewards if they paid additional bitcoins.
The FTC alleges that a fourth defendant, Scott Chandler, promoted Bitcoin Funding Team and another deceptive cryptocurrency scheme, Jetcoin. Jetcoin also promoted a recruitment scheme and, additionally, promised investors a fixed rate of return on their initial Bitcoin investments as a result of Bitcoin trading. In a series of promotional calls, Chandler claimed Jetcoin participants could double their investment in 50 days. In reality, the FTC complaint alleges, the scheme failed to deliver on these claims and ceased operation within two months of launching.
The FTC charged in its complaint that the defendants violated the FTC Act’s prohibition against deceptive acts by misrepresenting the chain referral schemes as bona fide money-making opportunities and by falsely claiming that participants could earn substantial income by participating in the three schemes. As requested by the FTC, the court has issued a temporary restraining order and frozen the defendants’ assets pending trial.
FTC Cautions Digital Currency Investors
Before you invest in cryptocurrency, BE ADVISED:
- Cryptocurrencies ARE NOT backed by a government or central bank. Unlike most traditional currencies, such as the dollar or yen, the value of a cryptocurrency is not tied to promises by a government or a central bank.
- If you store your cryptocurrency online, you DO NOT have the same protections as a bank account. Holdings in online “wallets” are not insured by the government like U.S. bank deposits are.
- A cryptocurrency’s value can change constantly and dramatically.An investment that may be worth thousands of dollars on Tuesday could be worth only hundreds on Wednesday. If the value goes down, there’s no guarantee it will rise again.
- Nothing about cryptocurrencies makes them a foolproof investment. Just like with any investment opportunity, there are no guarantees.
- NO ONE can guarantee you’ll make money off your investment. Anyone who promises you a guaranteed return or profit is likely scamming you. Just because the cryptocurrency is well-known or has celebrities endorsing it DOES NOT mean it’s a good investment.
- Not all cryptocurrencies or the companies behind them are the same.Before you decide to invest in a cryptocurrency, look into the claims the company is making. Conduct an Internet search with the name of the company and the cryptocurrency with words like review, scam, or complaint. Look through several pages of search results.
Source: FTC.gov
Mar 19, 2018 | Shareholder & Investor Protection
Electronic Transaction Clearing Agrees to Settle Charges That it Illegally Placed More Than $25 million of Customer Securities at Risk to Fund Its Own Operations
On March 19, 2018, the Securities and Exchange Commission announced that Los Angeles-based Electronic Transaction Clearing, a registered broker-dealer has agreed to settle charges that it illegally placed more than $25 million of customers’ securities at risk in order to fund its own operations.
Among other things, the SEC found that Electronic Transaction Clearing violated the Customer Protection Rule, which is intended to safeguard customers’ cash and securities so that they can be promptly returned if a broker-dealer fails. The Customer Protection Rule requires broker-dealers to maintain physical possession or control of the fully paid and excess margin securities of customers.
In 2015, according to the SEC’s order, Electronic Transaction Clearing put customer securities at risk numerous times. Electronic Transaction Clearing improperly transferred almost $8 million of fully-paid securities belonging to cash customers to an account at another clearing firm to meet margin requirements on borrowed funds, and the firm used more than $17 million of securities of two customers to borrow funds without consent. The SEC’s order also finds that the company improperly commingled customers’ securities and allowed a customer’s excess margin securities to be loaned out by the other clearing firm.
The SEC’s order charged ETC with violating, among other things, the Securities Exchange Act and Customer Protection Rule. Without admitting or denying the SEC’s findings, Electronic Transaction Clearing agreed to entry of the order and an $80,000 penalty payment, in addition to cease and desist from committing or causing any similar violations in the future and to be censured. According to the SEC, the company cooperated with the SEC’s investigation and has taken remedial steps to prevent future violations.
INVESTORS: FINRA’s BrokerCheck is an online tool available to research a broker or brokerage firm to determine whether an individual or firm is registered, as required by law, to sell securities and/or offer investment advice. FINRA’s BrokerCheck data provides a summary overview of a broker’s registration and employment history, qualifications, as well as “disclosure events” regarding such things as customer complaints and arbitrations, regulatory actions, employment terminations, bankruptcy filings, and criminal or civil judicial proceedings.
Source: SEC.gov
Mar 15, 2018 | Shareholder & Investor Protection
SEC Charges Related to Massive Fraud – Holmes Stripped of Control of Theranos, Inc. for Defrauding Investors
On March 14, 2018, the Securities and Exchange Commission announced that it charged Silicon Valley-based private company Theranos Inc., its founder and CEO Elizabeth Holmes (“Holmes”), and its former President Ramesh “Sunny” Balwani (“Balwani”) with raising more than $700 million from investors through an elaborate, years-long fraud in which they exaggerated or made false statements about the company’s technology, business, and financial performance. Theranos and Holmes have agreed to resolve the charges against them. Further, besides a penalty, Holmes has agreed to give up majority voting control over the company, as well as to a reduction of her equity which, combined with shares she previously returned, materially reduces her equity stake.
The SEC complaints allege that Theranos, Holmes, and Balwani made numerous false and misleading statements in investor presentations, product demonstrations, and media articles by which they deceived investors into believing that its key product – a portable blood analyzer – could conduct comprehensive blood tests from finger drops of blood, revolutionizing the blood testing industry. In truth, according to the SEC’s complaint, Theranos’ proprietary analyzer could complete only a small number of tests, and the company conducted the vast majority of patient tests on modified and industry-standard commercial analyzers manufactured by others.
The filed complaints also charge that Theranos, Holmes, and Balwani claimed that Theranos’ products were deployed by the U.S. Department of Defense on the battlefield in Afghanistan and on medevac helicopters and that the company would generate more than $100 million in revenue in 2014. Theranos’ technology, however, was never deployed by the U.S. Department of Defense and generated a little more than $100,000 in revenue from operations in 2014.
Stephanie Avakian, Co-Director of the SEC’s Enforcement Division, said, “As a result of Holmes’ alleged fraudulent conduct, she is being stripped of control of the company she founded, is returning millions of shares to Theranos, and is barred from serving as an officer or director of a public company for 10 years.”
Theranos and Holmes have agreed to settle the fraud charges levied against them. Holmes agreed to pay a $500,000 penalty, be barred from serving as an officer or director of a public company for 10 years, return the remaining 18.9 million shares that she obtained during the fraud, and relinquish her voting control of Theranos by converting her super-majority Theranos Class B Common shares to Class A Common shares. Due to the company’s liquidation preference, if Theranos is acquired or is otherwise liquidated, Holmes would not profit from her ownership until – assuming redemption of certain warrants – over $750 million is returned to defrauded investors and other preferred shareholders.
The settlements with Theranos and Holmes are subject to court approval; Theranos and Holmes neither admitted nor denied the allegations in the SEC’s complaint; and the SEC will litigate its claims against Balwani in federal district court.
For additional information, see the BBC’s “Theranos founder Elizabeth Holmes charged with $700m fraud,” and Bloomberg’s “U.S. Fires a Warning Shot at Silicon Valley With Theranos Case.”
Primary source: SEC.gov
Mar 13, 2018 | Shareholder & Investor Protection
Investors Should Only Use an Online Digital Trading Platform or Entity Registered with the SEC
Recently, the SEC published a public statement about online trading platforms where investors can buy and sell digital assets, including coins and tokens offered and sold in Initial Coin Offerings (“ICOs”). Often, the online trading platforms claim to give investors the ability to quickly buy and sell digital assets, and many platforms bring buyers and sellers together in one place and offer investors access to automated systems that display priced orders, execute trades, and provide transaction data.
Further, a number of these platforms provide a mechanism for trading assets that meet the definition of a “security” under the federal securities laws. If a platform, according to the SEC, offers trading of digital assets that are securities and operates as an “exchange,” as defined by the federal securities laws, then the platform must register with the SEC as a national securities exchange or be exempt from registration. The federal regulatory framework governing registered national securities exchanges and exempt markets is designed to protect investors and prevent against fraudulent and manipulative trading practices.
Investors Should Use a Platform or Entity Registered with the SEC When Trading Digital Assets
To get the protections offered by the federal securities laws and SEC oversight when trading digital assets that are securities, investors should use a platform or entity registered with the SEC, such as a national securities exchange, alternative trading system (“ATS”), or broker-dealer.
Investors Should NOT ASSUME Online Trading Platforms Are SEC-Registered and Regulated Marketplaces
Many online trading platforms appear to investors as SEC-registered and regulated marketplaces when, in fact, they are not. Many trading platforms refer to themselves as “exchanges,” which can give the misimpression to investors that they are regulated or meet the regulatory standards of a national securities exchange. Although some of these platforms claim to use strict standards to pick only high-quality digital assets to trade, the SEC does not review these standards or the digital assets that the platforms select, and the so-called standards should not be equated to the listing standards of national securities exchanges. The SEC also does not review the trading protocols used by these platforms, which determine how orders interact and execute, and access to a platform’s trading services may not be the same for all users. The SEC cautions investors NOT TO ASSUME that the trading protocols meet the standards of an SEC-registered national securities exchange. Finally, many of these platforms give the impression that they perform exchange-like functions by offering order books with updated bid and ask pricing and data about executions on the system, but there is no reason to believe that such information has the same integrity as that provided by national securities exchanges.
Questions the SEC Reminds Investors to Ask Before Trading Digital Assets Via an Online Trading Platform
Is the online trading platform registered as a national securities exchange, a securities exchange that has registered with the SEC under Section 6 of the Securities Exchange Act of 1934? Please click here for a list of active national securities exchanges registered with the SEC under Section 6(a) of the Exchange Act.
Is the online trading platform operating as an alternative trading system, and if it is, has the ATS registered as a broker-dealer which has filed a Form ATS with the SEC? Please click here for the SEC’s list of active alternative trading systems.
Have you check for information in FINRA’s BrokerCheck ® about any individuals or firms operating the online trading platform?
How does the platform select digital assets for trading? Who can trade on the platform?
What are the trading protocols? How are prices set on the platform?
Are platform users treated equally? What are the platform’s fees?
How does the platform safeguard users’ trading and personally identifying information?
What are the platform’s protections against cybersecurity threats, such as hacking or intrusions?
What other services does the platform provide? Is the platform registered with the SEC for these services?
Does the platform hold users’ assets? If so, how are these assets safeguarded?
Online Trading Platforms and Alternative Trading Systems – Other Considerations
A platform that trades securities and operates as an “exchange,” as defined by the federal securities laws, must register as a national securities exchange or operate under an exemption from registration, such as the exemption provided for ATSs under SEC Regulation ATS. An SEC-registered national securities exchange must, among other things, have rules designed to prevent fraudulent and manipulative acts and practices. Additionally, as a self-regulatory organization (“SRO”), an SEC-registered national securities exchange must have rules and procedures governing the discipline of its members and persons associated with its members and enforce compliance by its members and persons associated with its members with the federal securities laws and the rules of the exchange. Further, a national securities exchange must itself comply with the federal securities laws and must file its rules with the SEC.
An entity seeking to operate as an ATS is also subject to regulatory requirements, including registering with the SEC as a broker-dealer and becoming a member of an SRO. Registration as a broker-dealer subjects the ATS to a host of regulatory requirements, such as the requirement to have reasonable policies and procedures to prevent the misuse of material non-public information, books and records requirements, and financial responsibility rules, including, as applicable, requirements concerning the safeguarding and custody of customer funds and securities. The overlay of SRO membership imposes further regulatory requirements and oversight. An ATS must comply with the federal securities laws and its SRO’s rules, and file a Form ATS with the SEC.
Some online trading platforms may not meet the definition of an exchange under the federal securities laws, but directly or indirectly offer trading or other services related to digital assets that are securities. For example, some platforms offer digital wallet services (to hold or store digital assets) or transact in digital assets that are securities. These and other services offered by platforms may trigger other registration requirements under the federal securities laws, including broker-dealer, transfer agent, or clearing agency registration, among other things. In addition, a platform that offers digital assets that are securities may be participating in the unregistered offer and sale of securities if those securities are not registered or exempt from registration.
See also Regulation of Exchanges and Alternative Trading Systems.
Source: SEC.gov
Image: Pixabay, Gerd Altmann (Geralt), CC0 1.0 Universal
Cryptocurrency & Initial Coin Offering Investors
If you are a cryptocurrency or Initial Coin Offering investor who has suffered investment losses and have questions or concerns about your potential legal rights or claims, please complete the form above on the right or e-mail [email protected]. Alternatively, please contact John Kehoe, Esq., [email protected], (215) 792-6676, Ext. 801.
