SEC Charges Real Estate Executives in Florida-Based $300 Million Investment Scheme

The SEC charged five former real estate executives who defrauded investors into believing they were funding the development of five-star destination resorts in Florida and Las Vegas when they were actually buying into a Ponzi scheme.

The SEC alleges that Cay Clubs Resorts and Marinas raised more than $300 million from nearly 1,400 investors nationwide through a network of hundreds of sales agents, marketing seminars, and podcasts that touted the profitability of purchasing units at Cay Clubs resort locations.  Investors were promised immediate income from a guaranteed 15 percent return and a future income stream through a rental program that Cay Clubs managed.  But instead of using investor funds to develop resort properties and units, the Cay Clubs executives used new investor deposits to pay leaseback returns to earlier investors.  Meanwhile they paid themselves exorbitant salaries and commissions totaling more than $30 million, and investor funds also were misused to buy airplanes and boats.  While still advertising itself as a profitable venture, Cay Clubs eventually abandoned its operations. Many investors’ properties went into foreclosure.

“These Cay Clubs executives lined their pockets with millions of dollars that they told investors would be used to develop five-star resort properties,” said Eric I. Bustillo, Director of the SEC’s Miami Regional Office.  “They continued to defraud investors as Cay Clubs collapsed.” 

For more information on the charge, visit SEC Charges Real Estate Executives in Florida-Based $300 Million Investment Scheme.

Related articles

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• SEC Charges Trader in Investment Scheme Targeting Lebanese and Druze Communities 
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• SEC Charges Three Former Bank Executives in Virginia for Understating Loan Losses During Financial Crisis 

Defending 10b5-1 Plans

We haven't seen much interest in Rule 10b5-1 plans recently. I suppose that a declining market during recent years tempered the desire to sell stock. If so, we should see a rise in the interest in such plans once again.

For those unfamiliar with these plans, a 10b5-1 plan is used by insiders in public company to sell securities of their company, without running afoul of insider trading laws. The plans are detailed, specific plans that are designed to let executives sell off shares at regular intervals, regardless of events inside the company at the time of the sales. Properly structured and executed, the plans provide a clear defense to an insider trading allegation.

Years ago the SEC began investigating the use of the plans, or rather the alleged abuse of the plans. According to the Commission, some executives were attempting to modify their plans as events at the company unfolded, causing potential violations of Rule 10b5-1, the SEC rule that permits the use of such plans. I wrote about the issue back then - 10b5-1 Plans Under Attack.

Along with a potential increase in the use of the plans, the Commission is once again looking into the use of the plans. According to the Harvard Law School Forum on Corporate Governance and Financial Regulation,  several recent Wall Street Journal articles suggest that some executives may have achieved above-market returns using the plans. These articles are reported to have drawn the interest of federal prosecutors and the SEC enforcement staff.

The problems that we have seen in the plans are in the execution of the plan itself, not in the creation of the plan. Defending executives in an SEC investigation over the use of a 10b5-1 plan  should not be a difficult endeavor. As noted in the article, although regulators and the media may scrutinize trades made under 10b5-1 plans even when above board and done according to best practices, a well-thought-out and implemented 10b5-1 plan may help a company and its executives avoid or ultimately refute accusations of impropriety.

More details are available at Rule 10b5-1 Plans: What You Need to Know

The attorneys associated with my firm include former SEC Senior Enforcement Attorneys and criminal prosecutors. In addition, I have been representing executive, financial professionals and firms in regulatory investigations and proceedings for over 25 years. If you have a question regarding an investigation, give me a call or send me an email - 212-509-6544 or astarita@beamlaw.com

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SEC Charges Former Jefferies Executive with Defrauding Investors in Mortgage-Backed Securities

The SEC charged a former executive at New York-based broker-dealer Jefferies & Co. with defrauding investors while selling mortgage-backed securities (MBS) in the wake of the financial crisis so he could generate additional revenue for his firm.

According to the SEC’s complaint filed in federal court in Connecticut, the former executive arranged trades for customers as part of his job as a managing director on the MBS desk at Jefferies.  The SEC alleges that the former executive would buy a MBS from one customer and sell it to another customer, but on many occasions he lied about the price at which his firm had bought the MBS so he could re-sell it to the other customer at a higher price and keep more money for the firm.  On other occasions, he misled purchasers by creating a fictional seller to purport that he was arranging a MBS trade between customers when in reality he was just selling MBS out of his firm’s inventory at a higher price.  Because MBS are generally illiquid and difficult to price, it is particularly important for brokers to provide honest and accurate information. 

The SEC alleges that the former executive generated more than $2.7 million in additional revenue for Jefferies through his deceit.  His misconduct helped him improve his own standing at the firm, as his bonuses were determined in part by the amount of revenue he generated for the firm.

“Brokers must always tell their customers the truth, particularly in complex securities transactions in which it is difficult for investors to determine market prices on their own,” said George Canellos, Deputy Director of the SEC’s Division of Enforcement.  “[The former executive] repeatedly lied to his customers and invented facts to bring additional profits into his firm and ultimately his own pocket at their expense.”

For more information, visit SEC Charges Former Jefferies Executive with Defrauding Investors in Mortgage-Backed Securities.

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SEC Charges Trader in Houston-Area Investment Scheme Targeting Lebanese and Druze Communities

The SEC charged a day trader in Sugar Land, Texas, with defrauding investors in his supposed high-frequency trading program and providing them falsified brokerage records that drastically overstated assets and hid his massive trading losses.

The SEC alleges that the day trader particularly targeted fellow members of the Houston-area Lebanese and Druze communities, raising more than $6 million during a five-year period from at least 33 investors. The day trader told prospective investors that he would pool their investments with his own money and conduct high-frequency trading using a supposed proprietary trading algorithm. He promised annual returns of 30 percent and assured investors that his program was safe and proven when in reality it was a dismal failure, generating $1.5 million in losses. As he failed to deliver the promised profits, the day trader told investors that his funds were tied up in the Greek debt crisis and the MF Global bankruptcy among other phony excuses.

The SEC is seeking an emergency court order to halt the scheme and freeze the day trader‘s assets and those of his firm, FAH Capital Partners.

“[The day trader’s] affinity scam preyed upon people’s tendency to trust those who share common backgrounds and beliefs,” said David R. Woodcock, Director of the SEC’s Fort Worth Regional Office. “[He] raised money by creating the aura of a successful day trader among friends and family in his community, and he continued to mislead them and hide the truth while trading losses mounted.”

For more information, visit SEC Charges Trader in Houston-Area Investment Scheme Targeting Lebanese and Druze Communities.

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SEC Charges Three Former Bank Executives in Virginia for Understating Loan Losses During Financial Crisis

The SEC charged three former executives at Norfolk, Va.-based Bank of the Commonwealth for understating millions of dollars in losses and masking the true health of the bank’s loan portfolio at the height of the financial crisis.

The SEC alleges that the CEO was responsible along with the CFOand the executive vice president for misrepresentations to investors by the bank’s parent company Commonwealth Bankshares. The consistent message in Commonwealth’s public statements and SEC filings was that its portfolio of loans — which comprised approximately 94 percent of the company’s total assets in 2008 — was conservatively managed according to strict underwriting standards aimed at keeping the bank’s reserved losses low during a time of unprecedented economic turmoil.

In reality, the SEC alleges that internal practice deviated significantly from what the public was being told. The CEO knew the true state of Commonwealth’s rapidly-deteriorating loan portfolio, yet he worked to hide the problems and engineer the misleading public statements, particularly those made in earnings releases. The CFO knew of the activity to mask the problems with the company’s loan portfolio and the corresponding effect these masking practices had on the bank’s financial statements and disclosures, yet she signed the disclosures and certified to the investing public that they were accurate. The executive vice president oversaw the bank’s largest portfolio of construction and development loans and was involved in the masking practices.

“During times of financial stress, it’s more important than ever for executives to make full and honest disclosure to the investing public,” said Scott W. Friestad, Associate Director of the SEC’s Division of Enforcement. “Commonwealth’s executives did the opposite and hid the company’s worsening performance from shareholders through masking practices that understated the losses on its most troubled loans.”

For more information, visit SEC Charges Three Former Bank Executives in Virginia for Understating Loan Losses During Financial Crisis.

Securities Enforcement and Social Media

Securities enforcement defense is a significant part of our practice. Last month we saw an important development in the application of securities law to social media. For the first time, the Enforcement Division of the SEC issued a Wells Notice based on a social media communication. We covered the news and the interaction of the securities laws and Facebook when the story broke. On the surface, this doesn't appear to be much of a Reg FD issue, given the prior release of the information, and the vast following that Netflix's CEO has on Facebook.

But it does raise a number of interesting questions. Even more if you are a securities defense attorney who is a computer-geek-wannabe and something of a social media expert.

The Harvard Law School Forum on Corporate Governance and Financial Regulation examines the issue and  the potential for liability arising from disclosures by corporate officers through social media in its article
Applying Securities Laws to Social Media Communications

SEC Charges Connecticut-Based Adviser for “Skin in the Game” Misstatements About CDOs

The SEC charged a Connecticut-based investment adviser with falsely stating to clients that it was co-investing alongside them in two collateralized debt obligations (CDO).

The SEC’s investigation found that Aladdin Capital Management’s co-investment representation was a key feature and selling point for its Multiple Asset Securitized Tranche (MAST) advisory program involving CDOs and collateralized loan obligations (CLOs). For example, Aladdin Capital Management asked in one marketing piece, “Why is an investor better off just investing in Aladdin sponsored CLOs and CDOs?” It then emphasized that the “most powerful response I can give to your question is that Aladdin co-invests alongside MAST investors in every program. Putting meaningful ‘skin in the game’ as we do means our financial interests are aligned with those of our MAST investors.” Aladdin Capital Management in fact made no such investments in either CDO, and its affiliated broker-dealer Aladdin Capital collected placement fees from the CDO underwriters.

Aladdin Capital Management and Aladdin Capital agreed to pay more than $1.6 million combined to settle the SEC’s charges. One of the firms’ former executives Joseph Schlim agreed to pay a $50,000 penalty to settle charges against him for his role in the misrepresentations.

“If you sell an investment with the pitch that you are co-investing and have ‘skin in the game,’ then you better actually have ‘skin in the game,’” said Robert Khuzami, Director of the SEC’s Enforcement Division. “Such a representation by an investment adviser or broker-dealer is an important consideration to investors in complex products.”

SEC Charges Connecticut-Based Adviser for “Skin in the Game” Misstatements About CDOs

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SEC Charges Germany-Based Allianz SE with FCPA Violations

The SEC charged Germany-based insurance and asset management company Allianz SE with violating the books and records and internal controls provisions of the Foreign Corrupt Practices Act (FCPA) for improper payments to government officials in Indonesia during a seven-year period.

The SEC’s investigation uncovered 295 insurance contracts on large government projects that were obtained or retained by improper payments of $650,626 by Allianz’s subsidiary in Indonesia to employees of state-owned entities. Allianz made more than $5.3 million in profits as a result of the improper payments.

Allianz, which is headquartered in Munich, agreed to pay more than $12.3 million to settle the SEC’s charges.

“Allianz’s subsidiary created an 'off-the-books' account that served as a slush fund for bribe payments to foreign officials to win insurance contracts worth several million dollars,” said Kara Brockmeyer, Chief of the SEC Enforcement Division’s FCPA Unit.

According to the SEC’s order instituting settled administrative proceedings against Allianz, the misconduct occurred from 2001 to 2008 while the company’s shares and bonds were registered with the SEC and traded on the New York Stock Exchange. Two complaints brought the misconduct to Allianz’s attention. The first complaint submitted in 2005 reported unsupported payments to agents, and a subsequent audit of accounting records at Allianz’s subsidiary in Indonesia uncovered that managers were using “special purpose accounts” to make illegal payments to government officials in order to secure business in Indonesia. The misconduct continued in spite of that audit.

For more information, visit SEC Charges Germany-Based Allianz SE with FCPA Violations.

SEC Charges TheStreet.com For False Financials

WallStreetCheatSheet is reporting that the Securities and Exchange Commission charged TheStreet, which operates the website TheStreet.com (NASDAQ:TST), with filing false financial reports reports throughout the year 2008 by posting revenue from fraudulent transactions at a subsidiary it had bought the previous year. Gregg Alwine and David Barnett, co-presidents of the subsidiary, are alleged to have entered into sham transactions with friendly counterparties that had little or no economic substance.

SEC Charges New York-Based Fund Manager with Conducting Fraudulent Trading Schemes

The SEC charged a New York-based fund manager with conducting a pair of illegal trading schemes to financially benefit his investment fund Octagon Capital Partners LP.

The SEC alleges that the fund manager made $831,071 during a four-year period through illicit trading while he also worked as a portfolio manager and employee at a New Jersey-based firm that served as an adviser for several affiliated investment funds.  In one scheme, he illegally matched 31 pre-market trades to benefit his own fund at the expense of one of his employer’s funds.  In the other scheme, the fund manager conducted insider trading in the securities of 19 issuers based on nonpublic information he learned in advance of their offering announcements. Furthermore, the fund manager signed two securities purchase agreements in which he falsely represented that he had not traded the issuer's securities prior to the public announcement of the offerings in which he had been confidentially solicited to invest.

The fund manager agreed to pay more than $1.3 million to settle the SEC’s charges.

“By engaging in more than 50 instances of illegal activity in his securities trading, [the fund manager] showed a complete disregard for the securities laws and our markets,” said Andrew M. Calamari, Director of the SEC’s New York Regional Office.  “[He] also misused his position of authority as a portfolio manager of his employer’s fund in order to make handsome profits for his own fund.”

According to the SEC’s complaint filed in U.S. District Court for the Southern District of New York, the fund manager conducted his schemes from 2007 to 2011.  He caused Octagon to purchase stock in small, thinly traded issuers at the going market price so that he could sell the same stock the following day to his employer’s fund at a price substantially above the prevailing market price.  Each of the sales from Octagon to the employer’s fund occurred in pre-market trading, thus the fund manager was able to ensure that the trades matched.  Later that same day or within a few days of the matched trades, he directed the employer’s fund to sell the recently-acquired stock on the open market at a loss. The fund manager generated ill-gotten gains of $586,338 for Octagon in this scheme.

For more information, visit SEC Charges New York-Based Fund Manager with Conducting Fraudulent Trading Schemes

Tipper-Tippee Liability Issues in Insider Trading

Insider trading cases can often become widespread, as the Commission moves through the chain of tips. In another case announced this week, the Securities and Exchange Commission charged an investment banker who was primarily based in Charlotte, N.C., and nine others involved in an insider trading ring that garnered more than $11 million in illicit profits trading on confidential information about impending mergers.

Keeping in mind that tippers are responsible for the trades of their tippees, this case takes on a whole new angle. And remember that the fines can include disgorgement of all profits (without giving effect to losses) and a two times penalty.

In the newest case the SEC alleges that John W. Femenia misused his position at Wells Fargo Securities to obtain material, nonpublic information about four separate merger transactions involving firm clients. Upon learning inside information about an impending deal, Femenia’s first call to set the insider trading ring in motion was typically to his longtime friend Shawn C. Hegedus, who worked as a registered broker. Femenia and Hegedus illegally tipped other friends who in turn tipped more friends or family members in a ring that spread across five states.

The SEC has obtained a court order freezing the assets of the illegal traders.

“Here you have an investment banker who clearly knew better that inside information can’t form the basis of trading decisions,” said William P. Hicks, Associate Director for Enforcement in the SEC’s Atlanta Regional Office. “Instead he basically started a phone tree of nonpublic information to enrich friends and others.”

More details are available at SEC Charges 10 in Insider Trading Ring Around Investment Banker's Illegal Tips on Impending Mergers; 2012-255; December 5, 2012.

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Do You Need to Register? Foreign Investment Firms Fined By SEC

If you are doing business in the United States, you need to follow the US securities laws, regardless of where you are located. While there are exemptions from registration and other exceptions that may be available, all firms need to examine the issue and doing business in the US is very broadly interpreted. The costs of failing to comply with the state and federal securities laws can be very costly, as four foreign financial services firms just learned.
The SEC announced charges against four financial services firms based in India for providing brokerage services to institutional investors in the United States without being registered with the SEC as required under the federal securities laws. The four firms agreed to pay more than $1.8 million combined to settle the SEC’s charges.
According to the SEC’s orders against the firms, they engaged with U.S. investors in some of the following ways despite being unregistered broker-dealers: Sponsored conferences in the U.S. Had employees travel regularly to the U.S. to meet with investors. Traded securities of India-based issuers on behalf of U.S. investors Participated in securities offerings from India-based issuers to U.S. investors.
Almost two million dollars in fines for failing to register, a process that can be costly, but certainly not two million dollars worth of costly. Now add to that the possibility that their clients may have claims against the firms because they were not registered  and this becomes a very costly oversight.
The full details are at the Commission's website - SEC Charges Four India-Based Brokerage Firms with Violating U.S. Registration Requirements; If you have questions about the registration status or requirements for any financial services firm, foreign or domestic, give us a call or email me at astarita@beamlaw.com. We have been representing financial firms across the country in compliance and registration matters for decades.

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SEC Insider Trading Cases

As our readers and followers are aware, part of our practice is the representation of targets, defendants and potential defendants in insider trading investigations and complaints. Since 1985 when I was part of the defense team for the first civil prosecution of insider trading under the misappropriation theory, this specific area of the law has been part of my practice.

In SEC vs. Materia, the trial court found that Mr. Material, a financial printing firm employee, misappropriated confidential information from his employer and traded on that information. The Second Circuit adopted that reasoning, paving the way for the Supreme Court's adoption of the misappropriation theory of insider trading some 13 years later.

That case, and the entire concept of the misappropriation theory has always struck me as being wrong and intellectually dishonest. The "fraud" is not connected to the purchase or sale of a security, and the misappropriation theory simply reads the "in connection with" requirement of 10b-5 out of the statute.

However, I can't change the law, and today, with my new association with former SEC Senior Enforcement Attorneys Jim Sallah and Jeff Cox, we continue to represent those accused of insider trading across the country, and have expanded that area of our practices.

In doing so, we have  noticed an increase in insider trading cases brought by the Commission, which was recently confirmed by the SEC. In the recap of recent insider trading cases posted at the SEC's website, the Commission provides information regarding the 57 insider trading cases that it has brought over the last two calendar years.

Many of these cases have been discussed here on our blog, but the SEC provides information on their cases brought since 2009.  As we have noted in the past, the types of individuals accused of insider trading is interesting, and includes an Investment Bank Analyst, a Public Relations Executive, Former Major League Baseball Players, a Pharmaceutical Company Executive, Five Physicians, the Founder of Equity Research Firm, a Yahoo Executive and Ameriprise Manager, a Movie Producer and Ring of Relatives and Associates, an Expert Consulting Firm  and a host of stock brokers, traders and hedge fund managers.

The entire list is at the Commission's web site, and although they do not trumpet the cases they lost, such as the one they lost in Florida last year, where Jim Sallah successfully defended a doctor in an insider trading case, the list is an interesting look at those recent enforcement cases.

SEC List of Recent Insider Trading Cases

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SEC Charges Repeat Violator in South Florida with Fraudulently Offering Investments Tied to Oil Drilling Projects

By Mark Astarita

The SEC announced that it has obtained an emergency court order to freeze the assets of a South Florida man who has been charged with fraudulently offering investments in oil drilling projects.

The SEC’s complaint in federal court in West Palm Beach, Fla., alleges that Joseph Hilton made numerous misrepresentations to investors while selling limited partnership units in two oil drilling projects earlier this year through his firm Pacific Northwestern Energy LLC. According to the court filing,  Hilton falsely told potential investors that Pacific acquired its wells from Exxon Mobil Corp., and he overstated Pacific’s experience in the oil and gas industry and the historical accomplishments of its drillers. Hilton raised approximately $789,000 from investors. 

The SEC’s action froze the assets of Hilton, Pacific, and the two limited partnerships — Rock Castle Drilling Fund LP and Rock Castle Drilling Fund II LP. The SEC alleges that Hilton’s securities offerings were not registered with the SEC as required under the federal securities laws.

The SEC’s complaint also includes allegations against Hilton, Pacific, and another company controlled by Hilton called New Horizon Publishing Inc. Through Pacific and New Horizon, Hilton additionally sold $2.5 million worth of investments in oil drilling projects sponsored by United States Energy Corp. while deceiving investors about his identity, the anticipated returns on the investments, the amount of oil being produced by U.S. Energy’s wells, and the existence of natural gas wells. Hilton also operated a boiler room of sales representatives paid on a commission basis.

There are more details at the SEC's web site and its press release.

SEC Charges Four Brokers with Defrauding Customers in $18 Million Scheme

By Mark Astarita

The SEC charged four brokers who formerly worked on the cash desk at a New York-based broker-dealer with illegally overcharging customers $18.7 million by using hidden markups and markdowns and secretly keeping portions of profitable customer trades.

The SEC alleges that the brokers purported to charge customers very low commission fees that were typically pennies or fractions of pennies per transaction, but in reality they were reporting false prices when executing the orders to purchase and sell securities on behalf of their customers. The brokers made their scheme especially difficult to detect because they deceptively charged the markups and markdowns during times of market volatility in order to conceal the fraudulent nature of the prices they were reporting to their customers. The surreptitiously embedded markups and markdowns ranged from a few dollars to $228,000 and involved more than 36,000 transactions during a four-year period. Some fees were altered by more than 1000 percent of what was being told to customers.

The SEC further alleges that when a customer placed a limit order seeking to purchase shares at a specified maximum price, the brokers filled the order at the customer’s limit price but used opportune times to sell a portion of that order back to the market to obtain a secret profit for the firm. They falsely reported back to the customer that they could not fill the order at the limit price. Meanwhile, the brokers made millions of dollars in illicit performance bonuses based on the fraudulent earnings they were generating on the cash desk.

 “These brokers stole millions of dollars by overcharging customers for trades involving stocks with high trading volumes and price volatility, which are characteristics they wrongly thought would conceal their illicit pricing scheme,” said the Director of the SEC’s Division of Enforcement. “They underestimated the SEC’s ability and resolve to pursue such illegal schemes.”

In a parallel action, the U.S. Attorney’s Office for the Southern District of New York announced criminal charges based on the same claims.

The attorneys at Beam & Astarita, LLC have been representing brokers and financial professionals for three decades in all types of SEC and FINRA investigations. If you have questions or concerns regarding any type of enforcement proceedings, give us a call at 212-509-6544 or by email at info@beamlaw.com.

The SEC's press release has more details. 

SEC Charges Hedge Fund Managers With Fraud

The SEC charged a pair of hedge fund managers and their firms with lying to investors about how they were handling the money invested in their respective hedge funds. The charges are the latest in a series of actions taken by the SEC Enforcement Division and its Asset Management Unit against hedge fund-related misconduct in the markets.

In one case, the SEC alleges that San Francisco-based hedge fund manager Hausmann-Alain Banet and his firm Lion Capital Management stole more than a half-million dollars from a retired schoolteacher who thought she was investing her retirement savings in Banet’s hedge fund. In the other case, the SEC charged Chicago-based hedge fund managers Norman Goldstein and Laurie Gatherum and their firm GEI Financial Services with fraudulently siphoning at least $147,000 in excessive fees and capital withdrawals from a hedge fund they managed.

Since the beginning of 2010, the SEC has filed more than 100 cases involving hedge fund malfeasance such as misusing investor assets, lying about investment strategy or performance, charging excessive fees, or hiding conflicts of interest. The SEC today issued an investor bulletin detailing some of those cases as examples of why investors must rigorously evaluate a hedge fund investment before making one.

“These hedge fund frauds have lured even the most sophisticated investors using the siren song of outsized returns or secured and guaranteed investments,” said the Director of the SEC’s Division of Enforcement. “As fraudsters increasingly capitalize on the cachet of hedge funds, we will maintain our strong presence in policing this industry.”

In the past few weeks alone, the SEC has charged an Atlanta-based private fund manager and his firm with defrauding investors in a purported “fund-of-funds” and then trying to hide trading losses, charged a hedge fund adviser in Oregon with running a $37 million Ponzi scheme through several hedge funds he managed, and charged a New York-based hedge fund manager who touted a diversified and controlled-risk investment strategy for his fund while in reality misusing investor assets to prop up a failing private company. The New York-based fund manager also failed to disclose conflicts of interest, and he falsely overstated his firm’s assets under management in various magazine articles he authored.

There is more information at the Commission's site.

If you have questions or concerns regarding an SEC investigation or a FINRA enforcement proceedings, our attorneys have been representing targets, subjects and witnesses in civil and criminal proceedings for decades. Contact us at info@seclaw.com

http://www.sec.gov/news/press/2012/2012-206.htm

SEC Shuts Down $600 Million Online Pyramid Operation

On Tuesday the SEC announced fraud charges and an emergency asset freeze to halt what it alleges was a $600 million Ponzi scheme on the verge of collapse.

According to the Commission's press release, thee SEC alleges that online marketer Paul Burks of Lexington, N.C. and his company Rex Venture Group have raised money from more than one million Internet customers nationwide and overseas through the website ZeekRewards.com, which they began in January 2011.

According to the SEC’s complaint filed in federal court in Charlotte, N.C., customers were offered several ways to earn money through the ZeekRewards program, two of which involved purchasing investment contracts. The offer of such contract is being considered to be a securities offering, which was not registered with the SEC as required under the federal securities laws.

The SEC further alleges that investors were collectively promised up to 50 percent of the company’s daily net profits through a profit sharing system in which they accumulate rewards points that they can use for cash payouts. However, the website conveyed the impression that the company was extremely profitable. The Commission alleges that the payouts to investors bore no relation to the company’s net profits. Most of ZeekRewards’ total revenues and the “net profits” paid to investors have been comprised of funds received from new investors in classic Ponzi scheme fashion.

“The obligations to investors drastically exceed the company’s cash on hand, which is why we need to step in quickly, salvage whatever funds remain and ensure an orderly and fair payout to investors,” said Stephen Cohen, an Associate Director in the SEC’s Division of Enforcement. “ZeekRewards misused the power of the Internet and lured investors by making them believe they were getting an opportunity to cash in on the next big thing. In reality, their cash was just going to the earlier investor.”

The SEC’s complaint alleges that the scheme is teetering on collapse with investor funds at risk of dissipation without its emergency enforcement action. Last month, ZeekRewards brought in approximately $162 million while total investor cash payouts were approximately $160 million. If customers continue to increasingly elect to receive cash payouts rather than reinvesting their money to reach higher levels of rewards points, ZeekRewards’ cash outflows would eventually exceed its total revenue.

Burks has agreed to settle the SEC’s charges against him without admitting or denying the allegations, and agreed to cooperate with a court-appointed receiver.

Our law firm regularily represents individuals and corporate entities in SEC investigations and enforcement actions. If you have any questions regarding allegations of a ponzi or pyramid scheme, or any SEC, FINRA or state enforcement action, please contact our office at info@beamlaw.com.

Fighting FINRA and the SEC

Securities litigators have always debated the concept of whether or not to take FINRA or the SEC to the mat in enforcement proceedings. After all, the downside is significant for our clients, the costs are significant, and there is this thought that the regulators do not bring cases that they will lose. After all, they have the ability to investigate the charges, in a private setting, for years, and can select the case that they want to bring. I have written about it before - Taking the SEC To Trial.

On the defense side, we do not have that luxury, and cannot force a regulator to litigate a case - or can we?

In recent years there has been an anecdotal trend towards fighting FINRA and the SEC. Years ago when the NASD changed the structure of its hearing panels, we think we saw an increase in decisions in favor of the broker or firm. We never seem to have a full set of statistics, but over recent years, we have seen evidence of FINRA and the SEC losing more often.

Just a few months ago I successfully represented a broker in a FINRA enforcement proceeding. For a variety of reasons we had to go to a hearing, and we did. FINRA came at my client with all the vigor it could muster, for a case that did not warrant half the time and effort. My client was accused of mis-marking order tickets - to the benefit of his customers, with the knowledge of his firm.

A silly case, it truly was, but FINRA would not back off, and there was a risk for my client.  If FINRA had prevailed my client would have received a significant suspension, a fine, a regulatory mark on his license, and other collateral damage. But it was a winnable case for us.

And we did win. After two days of hearing, and multiple submissions, the Hearing Panel dismissed the complaint against my client. My new colleague, Jim Sallah in Florida represented a client in an SEC insider trading case last year, and won - case dismissed, and earlier last year took a FINRA enforcement to trial and won.

But again, this is anecdotal. However, today Sutherland Asbill & Brennan LLP today announced the results of its 2012 Sutherland SEC/FINRA Litigation Study – an annual review of the litigated cases brought by the Securities and Exchange Commission (SEC) and Financial Industry Regulatory Authority (FINRA) against broker-dealers and associated persons. 

The study demonstrates that while most firms and individuals choose to settle, litigation is often a wiser choice. The attorneys analyzed cases in Fiscal Year (FY) 2011 and the first half of FY 2012 (October 2010 through March 2012) and found that:

• 15% of all litigated SEC and FINRA charges were dismissed. When represented by counsel, FINRA respondents were successful almost 20% of the time.
• Nearly 1/3 of the time, the administrative law judge (ALJ) or the Hearing Panel imposed lower monetary sanctions than the SEC or FINRA prosecutors sought.
• In FINRA hearings, 50% of the time Hearing Panels imposed shorter suspensions and 33% of the time Hearing Panels imposed lower monetary sanctions than those sought by FINRA staff.
• Nearly 43% of SEC respondents were successful in getting charges dismissed or sanctions reduced when they appealed to the Commission from an Administrative Law Judge decision. 

While there still needs to be a case by case decision, clearly fighting might be the way to go for more than a handful of cases. 

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Short Sellers Settle SEC Claims

The SEC announced that two options traders who the agency charged earlier this year with short selling violations have agreed to pay more than $14.5 million to settle the case against them. According to the Commission an investigation found that brothers Jeffrey A. Wolfson and Robert A. Wolfson engaged in naked short selling by failing to locate shares involved in short sales and failing to close out the resulting failures to deliver.

SEC rules require short sellers to locate shares to borrow before selling them short, and they must purchase securities to close out their failures to deliver by a specified date.

According to the press release, the Wolfsons made approximately $9.5 million in illegal profits from their naked short selling transactions.

The SEC has more details in its press release.

Taking the SEC To Trial

The U.S. Securities and Exchange Commission, long known for settling enforcement actions without having to prove its case in court, is struggling to cope with a surge in the number of executives and companies willing to go to trial to defend themselves.

The SEC’s office in Washington is actively litigating about 90 cases, up more than 50 percent in the past year, Matthew Martens, the SEC’s chief litigation counsel, said in an interview. At the same time, Martens’ trial unit staff has stayed relatively flat at about 36. He recently added three more lawyers to his group and is looking to hire more.

Martens said its critical that his unit present a credible threat. “At the end of the day, if we can’t win cases, then people don’t settle. That’s the reality,” he said.

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