More On Legal & Compliancefrom The Advisor's Professional Library
- Client Communication and Miscommunication RIA policies and procedures must specify what type of communications should be retained. The safest course of action is for RIAs to retain all communicationsto clients, from clients, and about client accounts. To comply with fiduciary obligations, communications must be thorough and not mislead.
- Client Commission Practices and Soft Dollars RIAs should always evaluate whether the products and services they receive from broker-dealers are appropriate. The SEC suggested that an RIAs failure to stay within the scope of the Section 28(e) safe harbor may violate the advisors fiduciary duty to clients, so RIAs must evaluate their soft dollar relationships on a regular basis to ensure they are disclosed properly and that they do not negatively impact the best execution of clients transactions.
Insider trading, pyramid and Ponzi schemes—one involving $600 million—and illegal penny stock sales were among the enforcement actions taken by the SEC recently. Also active were FINRA, which took action against a broker-dealer, and the Department of Labor, which ordered the restoration of millions to a pension fund.
SEC Busts Investing Site's $600 Million Ponzi Scheme
The SEC announced an emergency asset freeze and the filing of fraud charges surrounding a website that promised customers ways to earn money but that in reality was, according to the agency, a Ponzi scheme on the verge of collapse.
ZeekRewards.com, the brainchild of online marketer Paul Burks of Lexington,N.C., and his company Rex Venture Group, was launched in January of 2011, promising its Internet customers numerous ways to earn money through its rewards program. Two of those methods involved the purchase of securities in the form of investment contracts, and neither was registered with the SEC.
SEC allegations say that investors were collectively promised up to 50% 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 company was not profitable but instead relied on cash inflows from new investors to fund payouts to older ones.
The emergency asset freeze, said the agency, was to help investors recover more of their money; last month, it said, ZeekRewards took in approximately $162 million while total investor cash payouts were approximately $160 million.
The SEC’s complaint said that ZeekRewards has paid out nearly $375 million to investors to date and holds approximately $225 million in investor funds in 15 foreign and domestic financial institutions. Those funds will be frozen under the emergency asset freeze. Meanwhile, Burks has personally siphoned several million dollars of investors’ funds while operating Rex Venture and ZeekRewards, and he distributed at least $1 million to family members.
Burks has agreed 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. He is to relinquish his interest in the company and its assets and also pay a $4 million penalty. The receiver will collect, marshal, manage and distribute remaining assets for return to harmed investors.
New Charges Brought on Insider Trading by Pro Baseball Player, CEO
The SEC has filed a second round of charges in an insider trading case that involves former professional baseball players and the former top executive at a California-based medical eye products company that was the subject of the illegal trading.
Originally, the SEC had charged former professional baseball player Doug DeCinces and three others of insider trading on confidential information ahead of an acquisition of Advanced Medical Optics. DeCinces and his three tippees made more than $1.7 million in illegal profits, and agreed to pay more than $3.3 million to settle the SEC’s charges.
Now the source of those tips is being charged: DeCinces’s close friend and neighbor James V. Mazzo, who was the chairman and CEO of Advanced Medical Optics. Also charged in this new round are two others who traded on inside information that DeCinces tipped to them: DeCinces’ former Baltimore Orioles teammate Eddie Murray, and another friend, David L. Parker, a businessman living in Utah.
Mazzo tipped DeCinces with confidential information about the upcoming transaction, and DeCinces began to purchase Advanced Medical Optics stock in several brokerage accounts. DeCinces bought more and more shares as the deal progressed and as he continued communicating with Mazzo. DeCinces tipped at least five others who traded on the inside information, including Murray, Parker and the three traders who settled their charges along with DeCinces last year: physical therapist Joseph J. Donohue, real estate lawyer Fred Scott Jackson, and businessman Roger A. Wittenbach.
Murray, without admitting or denying the SEC’s allegations, agreed to settle the SEC’s charges by paying $358,151. The SEC’s case continues against Parker and Mazzo, the latter of whom was directly involved in the tender offer and tipped the confidential information to DeCinces along the way.
Puerto Rico-Based Ponzi Scheme Targeted Evangelicals, Factory Workers
The SEC charged a Puerto Rico resident and his company with conducting a Ponzi scheme that targeted evangelical Christians and factory workers in Puerto Rico.
According to the SEC’s complaint filed in U.S. District Court for the District of Puerto Rico, Ricardo Bonilla Rojas and his firm, Shadai Yire, raised at least $7 million from as many as 200 investors living primarily in Puerto Rico but also on the U.S. mainland in states including Florida, New York and North Carolina.
The complaint alleges that Rojas actively solicited investors through personal discussions with individuals both over the phone and in person, and he also marketed the investment opportunity in presentations to evangelical Christian groups and factory workers who were often inexperienced investors. He hired some sales agents to help him solicit investors, and paid commissions based on a percentage of the investor funds they raised.
Rojas and his sales agents pitched the investment opportunity to individuals as a risk-free way to earn high returns in a short period of time. Rojas also created phony account statements that were sent to investors to hide his misuse of investor money and lead them to believe their investments were growing.
Falsely assuring investors that their principal contributions were “100% guaranteed” and promising returns up to 50%, Rojas said he’d be investing their money in commodities. However, he used new contributions to pay earlier investors, in classic Ponzi fashion, and kept $700,000 for himself.
In a parallel action, the U.S. Attorney’s Office for the District of Puerto Rico announced criminal charges against Rojas.
The SEC charged a New York-based firm, E-Lionheart Associates, and its owner, Edward Bronson, with conducting a penny stock scheme in which they bought billions of stock shares from small companies and illegally resold those shares in the public market.
According to the SEC’s complaint filed in U.S. District Court for the Southern District of New York, Bronson, who lives in Ossining, N.Y., and E-Lionheart, which also does business under the name Fairhills Capital and is located in White Plains, reaped more than $10 million in unlawful profits from selling shares they bought at deep discounts from approximately 100 penny stock companies and then resold at about double the price they paid. No registration statement was filed or in effect for any of the securities that Bronson and E-Lionheart resold, and no valid exemption from the registration requirements of the federal securities laws was available.
Bronson and the firm purported to rely on an exemption from registration under Rule 504(b)(1)(iii) of Regulation D, which exempts transactions that are in compliance with certain types of state law exemptions—in particular, a Delaware state law registration exemption. But the transactions had little or no connection to the state of Delaware and no such state law exemptions were applicable.
Acting at Bronson’s direction, E-Lionheart personnel systematically cold-called penny stock companies quoted on the OTC Link to ask if they were interested in obtaining capital. If the company was interested, E-Lionheart personnel would offer to buy stock in the company at a rate that was deeply discounted from the trading price of the company’s stock at that time. Typically, Bronson and E-Lionheart began reselling the shares to the investing public through a broker within days of receiving the shares from the company.
The SEC seeks disgorgement of more than $10 million in ill-gotten gains and penalties, as well as penny stock bars against E-Lionheart and Bronson. The complaint also names Fairhills Capital as a relief defendant for the purpose of recovering the illegal proceeds it received.
FINRA Fines Rodman & Renshaw, Sanctions Three
FINRA announced that it has fined Rodman & Renshaw $315,000 for supervisory and other violations related to the interaction between the firm's research and investment banking functions. The agency also took action against its former chief compliance officer, William Iommi Sr., and two research analysts, Lewis Fan and Alka Singh.
Rodman, the New York-based broker-dealer subsidiary of Direct Markets Holdings Corp., provides investment banking services, including private investments in public entities (PIPEs) and registered direct offerings, to public and private companies.
FINRA found that from January 2008 to March 2012, Rodman failed to have an adequate supervisory system to monitor interactions between its investment banking and research functions. As a result, Rodman failed to prevent research analysts from soliciting investment banking business.
In addition, the firm compensated a research analyst for his contribution to the firm's investment banking business and failed to prevent Rodman's CEO, a member of the firm's research analyst compensation committee while simultaneously engaged in investment banking activities, from having influence or control over research analysts' evaluations or compensation.
Iommi was fined $15,000, suspended from acting in a principal capacity for 90 days and must requalify as a general securities principal. Fan was fined $10,000 and suspended for 30 business days for violating NASD Rule 2711 by participating in efforts to solicit investment banking business from two public companies, and Singh was fined $10,000 and suspended for six months after FINRA found that she attempted to arrange a concealed fee from a public company for which she provided research coverage.
In concluding the settlement, Rodman, Iommi, Fan and Singh neither admitted nor denied the charges, but consented to the entry of FINRA's findings.
DOL Sues to Restore $34 Million to Pension Funds
The U.S. Department of Labor has sued to restore more than $34 million in assets to two retirement funds of Michigan-based vehicle parts manufacturer Metavation that allegedly were used in violation of the Employee Retirement Income Security Act.
George Hofmeister, chairman and director of Metavation, and Bernard Tew, managing director of Tew Enterprises and Bluegrass Investment Management, were named in the DOL lawsuit, filed in the U.S. District Court for the Eastern District of Kentucky. The latter two companies acted as investment advisors to the two plans. The suit also names Metavation, a subsidiary of Lexington, Ky.-based Revstone Industries.
In 2008, the Revstone subsidiary Cerion acquired Metavation, formerly Hillsdale Automotive, and took control of the pension plans. The results of an investigation by the Labor Department’s Employee Benefits Security Administration (EBSA) found numerous ERISA violations beginning in February 2009, just three months after Hillsdale had been acquired.
The suit alleges that, as a result of the defendants engaging in these prohibited transactions, approximately $12.1 million from the Hillsdale Salaried Pension Plan and approximately $22.5 million from the Hillsdale Hourly Pension Plan were improperly used.
The department’s suit asks the court to order the defendants to correct all prohibited transactions related to the loans and use of plan assets, restore any losses to the plans (including interest) resulting from fiduciary breaches and transfer to the plans all gains resulting from their ERISA violations. The suit also asks the court to remove the defendants as fiduciaries of the plans and prohibit them from serving as fiduciaries or service providers in the future to any plan covered by ERISA. Finally, the suit seeks the appointment of an independent fiduciary to administer the plans.