Greyline Insights – Q1 2020 « Greyline Partners, LLC

Greyline Insights – Q1 2020

IN THIS ISSUE

As can be expected, the most dominant topic of 2020 so far has been the Covid-19 outbreak around the world. Governments and central banks have worked to lessen the economic impact of the virus on markets as best they can. We have also seen certain relief from regulators. At the height of the pandemic in Spain and Italy, European regulators instituted restrictions on short selling to help protect certain companies.

On the U.S. side, regulators have issued relief from certain requirements for registrants. These included relief for in-person board meetings, Form ADV and PF deadlines, custody, and fingerprinting requirements, amongst others. In contrast, the SEC recently stated that the compliance date for Regulation Best Interest and Form CRS would not be moved.

From a practical standpoint, the shutdown has posed a number of challenges for firms. Given that the entire nation has been affected, it is truly an unprecedented time — one during which advisers and their service providers all face disruptions. As one could expect, the SEC has already begun sweep examinations asking questions about the adviser’s business continuity plan, how it was implemented, and what actions were taken in light of the pandemic and shut down. The NFA has also issued guidance for members on their business continuity plans and urged them to ensure the plans are updated and that employees are aware of the procedures.

It is still too early to tell how much of a disruption the pandemic will be to regulators themselves. The SEC continues to examine advisers at a rate consistent with the pre-pandemic world, albeit without onsite interviews. While the SEC proposed some rules during the pandemic, the process started before the pandemic’s onset. Of most interest is the proposed new marketing and advertising rule. The comment period closed in early April, so it is unclear how long it will be until the final rule is released.

Joe Frost
Senior Associate, Greyline

Regulatory Updates

SEC’s OCIE Announces 2020 Examination Priorities

On January 7, the Securities and Exchanges Commission’s (“SEC”) Office of Compliance Inspections and Examinations (“OCIE”) announced its priorities for 2020 examinations. This year’s priorities include:

Retail investors, including seniors and those saving for retirement
Market infrastructure
Information security and cybersecurity
Focus areas relating to investment advisers, investment companies, broker-dealers and municipal advisors
Environmental, social, and governance (“ESG”) advisers and funds
Anti-money laundering programs
Financial technology (fintech) and innovation, including digital assets and electronic investment advice

Remember: These priorities are not the only areas OCIE will focus on in its examinations, alerts and outreach, but they do point to where the office sees potential risks to investors and U.S. capital markets. Many of the priorities remain year to year (like cybersecurity or protecting seniors), but it’s important to continually review these priority areas

Greyline’s complete analysis of the 2020 OCIE Priorities can be found here.

A specific analysis on how these priorities relate to registered investment companies can be found here.

FINRA Releases 2020 Risk Monitoring and Examination Priorities Letter

On January 9, the Financial Industry Regulatory Authority (“FINRA”) highlighted both new priorities as well as continuing areas of focus in its 2020 Risk Monitoring and Examination Priorities Letter. FINRA highlighted two new areas: Regulation Best Interest (“Reg BI”) and the Client Relationship Summary (“Form CRS”). Both of these have a compliance date of a June 30 compliance date, with the Form CRS deadline on that date.

Other focus areas FINRA outlines in its letter include:

Communications with the public, with a focus on private placement retail communications and communications via digital channels
Cash management and bank sweep programs
Direct market access controls
Best execution
Disclosure of order routing information
Cybersecurity

FINRA also will keep monitoring compliance in always-important areas, such as sales practice risks, insider trading and market/product manipulation.

Our complete analysis of the FINRA’s priorities can be found here.

CFTC Charges US Coin Bullion LLC and its Owners with $7.9 Million Precious Metals Fraud

On January 10, the Commodity Futures Trading Commission (“CFTC”) announced it had filed a civil enforcement action in federal courts charging US Coin Bullion LLC (“US Coin”). In connection, Salvatore Esposito and Joseph Esposito were charged with misappropriating more than $7.9 million in customer funds and with engaging in fraudulent solicitations.

The CFTC alleges that for at least seven years through July 2019, US Coin and the Espositos received more than $7.9 billion from at least 120 customers who believed they were investing in precious metals. The pair even issued false account statements and purchase orders to customers even though no metals were event purchased. Instead the money was in “Ponzi scheme-like payments to earlier customers,” trading of leveraged precious metals and paying for personal and business expenses. The Esposito’s now face both civil and criminal charges.

CFTC Obtains Nearly $2.6 Million Judgment for Commodity Pool Fraud

On January 10, the CFTC announced that the U.S. District Court for Northern Illinois ordered Richard D. Carter to pay roughly $2.6 million in restitution and fines in connection with a $1.76 million commodity pool fraud operated by Blue Guru, LLC (“Blue Guru”). Carter was also the subject of an SEC microcap fraud investigation in which he was fined for $100,000 and was subject to additional restrictions.

The order found that between April 2014 and January 2018, Carter solicited friends, family, and others to invest in Blue Guru’s pool. Carter then misled Blue Guru pool participants and prospective pool participants about the profitability of their interest in the pool, claiming they would receive 8% annually plus 50% of gross net trading profits. False account statements were issued to reflect gains when in reality, Blue Guru suffered half a million dollars in trading losses, half of which Carter caused.

Carter also said pool funds would be used to trade futures, including E-mini Dow Jones Industrial Average and S&P 500 contracts on the Chicago Mercantile Exchange but instead misappropriated the funds. With this money, Carter paid personal expenses including gym memberships, meals, and a down payment on his home.

Carter was ordered to pay $838,642 in restitution as well as a $1,760,022 monetary penalty, and was permanently banned from trading and registration.

SEC Alleges Illinois Resident Ran Ponzi-Like Scheme, Freezes Assets

On January 14, the SEC filed an emergency enforcement action against Kenneth D. Courtright, III and his company, Todays Growth Consultant Inc. (“TGC” and also known as “The Income Store”), in connection with an alleged Ponzi-like scheme that collected at least $75 million from more than 500 people.

The SEC alleges that from 2017 through at least October 2019, TGC and Courtright told investors that, for an “upfront fee,” it would either buy or build a website for an investor, then develop, market and maintain it. The larger the upfront fee paid, the larger return the minimum return was. TGC also falsely promised it would use investors’ funds solely for website-related expenses and promised investors an endless minimum guaranteed rate of return from the websites. New investor funds were used to pay earlier investors, as well as to pay off Courtright’s personal expenses. Additionally, Courtright misappropriated funds to pay for his mortgage and private schooling for his family.

The SEC’s complaint charges Courtright and TGC with violations of the antifraud and registration provisions of the federal securities laws. The SEC obtained a temporary restraining order against Courtright and TGC, as well as an asset freeze.

SEC Charges Convicted Criminal With Raising Funds in Fraudulent ICO

On January 17, the SEC charged Boaz Manor, his business associate, and two businesses, CG Blockchain Inc. and BCT Inc. SEZC, in connection with a fraudulent initial coin offering (“ICO”) that brought in $30 million from hundreds of investors.

The SEC alleges that between August 2017 and September 2018, the defendants marketed and sold digital asset securities purportedly to develop technologies for about 20 hedge funds and other investors – though they had only sent a prototype to about a dozen funds, none of which used it or paid for it. Manor presented himself as “Shaun MacDonald,” a supposed employee of his associate, Edith Pardo.

Manor “darkened his hair, grew a beard, and used aliases to hide his identity,” concealing the fact he had served a year in prison on charges related to a hedge fund collapse, the SEC says. He even told some investors that if his identity was revealed, it would result in “the company being destroyed.”

The U.S. Attorney’s Office for the District of New Jersey announced criminal charges against Manor and Pardo on the same day.

Two Men Charged With Selling Fictitious Interests in Cannabis Company

On January 21, the SEC announced charges against Guy S. Griffithe and Robert W. Russell, as well as three companies they controlled, in connection with an alleged scheme in which they sold investors purported ownership interests in a Washington-licensed recreational cannabis company.

The SEC says that between August 2015 and December 2017, Griffithe used his entity, Renewable Technologies Solution, Inc. (“Renewable”), to sell investors fake ownership interests in Russell’s SMRB LLC (“SMRB”), a Washington-based company that was licensed to grow marijuana. Griffithe misled investors into thinking that investments in Renewable would be used to operate SMRB, but they actually represented no such stake in SMRB. Due to the cannabis licensing rules, a change in ownership would have required approval from the State of Washington. Such approval was never sought. Griffthe went so far as to bring investors to the facilities and show them how their money had been used and potential other improvements that could be made with the money.

The pair raised more than $4.85 million from investors, $1.8 million of which Griffithe spent on things such as luxury cars for himself and a yacht for Russell, $1.7 million of which was deposited into Russell’s personal bank accounts, and the rest of which was used to pay some investors in a Ponzi-like fashion to keep up the scheme’s appearance, the SEC alleges.

Real Estate Investment Fraud Victims to Receive More Than $63 Million

On January 23, the SEC announced it had obtained a court order allowing for more than $63 million to be distributed to investors who were defrauded in an alleged real estate investment scheme.

The SEC alleged that New York residential and commercial real estate developer Robert C. Morgan, as well as two of his entities – Morgan Mezzanine Fund Manager LLC and Morgan Acquisitions LLC – engaged in a fraudulent real estate investment scheme. Morgan told more than 200 retail investors that their funds would be used to improve multifamily properties, but the money was used “for purposes inconsistent with the representations and disclosures made to investors.” In total, Morgan raised four funds; the first three were in a typical fund structure. The last was structured as a loan between Morgan and the investors, in an attempt to improve Morgan’s struggling cash flows. He also told investors that they would see an 11% return on their investment. As a result, incoming funds were used to pay earlier investors, and Morgan misrepresented performance to later investors.

The SEC filed its complaint in May 2019. Since then, Morgan voluntarily liquidated assets to generate funds for collection by a receiver responsible for maximizing monetary recovery for investors. On January 21, the court approved the receiver’s plan to pay out defrauded investors more than $63 million.

Husband and Wife Charged With $910 Million Ponzi Scheme

On January 24, the SEC charged Jeffrey and Paulette Carpoff, a married couple living in California, with running a Ponzi scheme that raised $910 million from 17 investors through two solar energy companies.

The SEC says the couple raised roughly $910 million between 2011 and 2018 by offering investment contracts through DC Solar Solutions Inc. and DC Solar Distribution Inc. The investments actually have a face value of $2.7 billion because 70% of the money made from investors was in the form of promissory notes. Investors were promised tax credits, lease payments and profits from the operation of mobile solar generators, but most of the purported generators were not made. In fact, none of the 6,571 generators that the Carpoffs said they would buy have ever been found. Instead, the Carpoffs ensured investors received false financial statements and other documents, and most of what they did pay out to investors came from new investor funds. The Carpoffs also used at least $140 million “to fund their lavish lifestyle, which included 150 luxury and sports cars, dozens of properties, and a share in a private jet service.”

The Carpoffs have been charged with violating the antifraud provisions of the federal securities laws. In a parallel case, the U.S. Attorney’s Office for the Eastern District of California announced criminal charges against the couple.

SEC’s OCIE Publishes Observations on Cybersecurity and Resiliency Practices

On January 27, the SEC’s OCIE issued examination observations related to market participants’ cybersecurity and operational resiliency practices. OCIE’s observations highlight approaches taken in areas such as data loss prevention, vendor management, and incident response and resiliency, as well as specific examples of cybersecurity and operational resiliency practices taken to safeguard against (and respond to) threats.

Observations include organizations devoting appropriate board and senior leadership attention to setting cybersecurity and resiliency strategy, as well as overseeing these areas; establishing vulnerability management programs that routinely scan software code, web applications, workstations and both organizational and third-party provider endpoints; and designating employees with specific roles and responsibilities in dealing with a cyber incident.

Greyline’s full analysis of the report can be found here.

Portfolio Manager, Advisory Firm, Charged With Misrepresenting Mutual Fund’s Risk

On January 27, the SEC announced charges against New York-based investment adviser Catalyst Capital Advisors LLC (“CCA”) and its President and CEO, Jerry Szilagyi, for misleading investors on how risk was being managed in a mutual fund. Those charges were settled, but the SEC also filed a complaint in a federal district court against Senior Portfolio Manager Edward Walczak for misrepresenting how he would manage risk in the fund.

In the settled case, the SEC found that CCA told investors that Catalyst Hedged Futures Strategy Fund abided by a strict set of risk parameters. Walczak even provided talking points to wholesalers of the fund that emphasized the distinct risk parameters and framework. However, during a majority of trading days between December 2016 and February 2017, it breached those parameters and failed to take corrective action. Some investors even asked Walczak specifically how risk management would operate, and he continued to describe the parameters and framework. Szilagyi also continually reached out to Walczak asking why the fund had lost money and urging him to scale back risk to what it was required to be. Instead, Walczak did not monitor the risk parameters at all. As a result, the fund lost hundreds of millions of dollars (about 20% of its value). Meanwhile, the SEC alleges that Walczak told investors that the fund’s risk management strategy prevented losses of more than 8% thanks to safeguards that in reality did not exist.

CCA agreed to pay $8,176,722 in disgorgement, $731,759 in prejudgment interest and $1.3 million in civil penalties. Szilagyi agreed to pay $300,000 in civil penalties. That money will be placed in a fund for future distribution for affected investors. The SEC alleges that Walczak violated the antifraud provisions of the federal securities laws.

Five Agencies Propose Changes to “Covered Funds” Restrictions of Volcker Rule

On January 30, the Federal Reserve Board (“FRB”), Federal Deposit Insurance Corporation (“FDIC”), Office of the Comptroller of the Currency, SEC and CFTC invited public comment on a proposal to modify regulations implementing the Volcker Rule’s prohibition on banking entities investing in or sponsoring “covered funds” (hedge funds or private equity funds).

The agencies simplified requirements for proprietary trading restrictions in November 2019 to clarify compliance uncertainty. The new proposal is meant to lift limits on certain banking services and activities they say the Volcker rule wasn’t intended to restrict.

Specifically, the proposal would exempt activities of certain funds organized outside the U.S. and offered to foreign investors from the implementing regulations’ restrictions. It also would make modifications to existing exclusions, such as allowing loan securitizations excluded from the rule to hold a small amount of non-loan assets and revising the exclusion for small business investment companies to account for those companies’ life cycle. The proposal includes exclusions for venture capital funds, credit funds, family wealth management vehicles, and other facilities for customers. These proposed exceptions are all subject to certain restrictions but show an easing of the initial restriction of the Volcker Rule contained within Dodd-Frank.

SEC Charges Man With Defrauding Amish, Mennonite Investors

On January 31, the SEC charged Philip E. Riehl, of Pennsylvania, with making false claims to Amish and Mennonite community members about how their investment funds were being used, and about guaranteed returns.

The SEC alleges Riehl provided accounting services to the Amish and Mennonites, and eventually created an investment program that raised roughly $60 million over nearly a decade via promissory notes and personally guaranteed repayment of the notes. He promised to invest the funds in business and real estate loans to others in the religious community. Some of these promissory notes were issued by Trickling Springs Creamery, a dairy business Riehl owned. However, he failed to tell investors about its growing debt and other financial difficulties. The dairy business ultimately filed for bankruptcy in December 2019. Riehl, who personally guaranteed repayment on every loan, was unable to pay back his investors.

The SEC charges Riehl with violating the antifraud provisions of the federal securities laws. Riehl agreed to a settlement that includes injunctive relief and return of allegedly ill-gotten gains plus prejudgment interest.

Jury Rules Against Massachusetts Man in Insider Trading Case

On February 4, the SEC said a trial jury found that Massachusetts restauranteur Charlie Chen engaged in insider trading related to Lexington-based Vistaprint, N.V.

Chen, who was close friends with a Vistaprint insider and her husband, received highly confidential nonpublic information, which he used in making trades ahead of five different quarterly financial reports between April 2013 through July 2014. The SEC says that on a few occasions, “Chen placed extremely aggressive bets such as wagering much of his retirement account on risky Vistaprint options before the company’s announcement of disappointing earnings results in April 2014.” In the eight quarters that Chen bet on Vistaprint, he was right all eight times. There were only two quarters where the movement was not significant enough to result in large gains.

Chen, who made more than $950,000 in illicit trading profits, claimed when questioned by the FBI in 2016 that he did not know anyone at Vistaprint and falsely denied his relationship with the Vistaprint insider and her husband.

Chen was found liable on all counts. The SEC is seeking disgorgement of Chen’s insider trading profits and might seek civil penalties of up to three times the amount of those gains.

Securities Service Provider Charged With Improper Handling of ADRs

On February 6, the SEC announced that securities service provider ABN AMRO Clearing Chicago LLC (“ABN AMRO”) would pay more than $586,000 in a settlement over its improper handling of “pre-released” American Depositary Receipts (“ADRs”).

ABN AMRO was found to have improperly borrowed pre-released ADRs from other brokers but should have known those brokers did not have the foreign shares to support the ADRs. Further, ABN AMRO did not reasonably supervise its securities lending desk personnel concerning borrowing pre-released ADRs.

ABN did not admit or deny the SEC’s findings but agreed to return more than $326,000 of ill-gotten gains, as well as pay a $179,353 penalty and $80,970 in prejudgment interest. Of note, this is the 15^th enforcement action by the SEC against a broker or bank for improper handling of ADRs. Penalties related to these actions now stand in excess of $432 million.

SEC Charges Ohio Man With Defrauding Roughly 150 Investors

On February 11, the SEC charged Ohio-based Michael W. Ackerman in connection with a digital asset scheme that defrauded roughly 150 investors, including many physicians.

The SEC says Ackerman and two business partners raised at least $33 million by claiming Ackerman created a proprietary algorithm that enabled him to generate extraordinary profits through cryptocurrency trades. One of the business partners, who is a physician, was able to get several other physicians to make investments in two entities, Q3 Trading Club and Q3 I LP. Physicians made up the majority of investors in this scheme.

The SEC alleges that Ackerman misled investors about his trading performance, as well as the use and safety of investor funds, including by doctoring computer screenshots of Q3’s trading account and monthly newsletters consistently showed performance results of over 15%. Ackerman also falsely claimed the trading account held assets of up to $310 million, when the account never held more than $6 million at any time. Moreover, the SEC says Ackerman used $7.5 million of investor funds to “purchase and renovate a house, purchase high end jewelry, multiple cars, and pay for personal security services.”

Unregistered Commodity Pool Operator, Principal, Charged With Fraud and Misappropriation

On February 14, the CFTC filed a civil enforcement action in a U.S. District Court against Joshua Christian McDonald and Perfection PR Firm LLC (“PPR”). McDonald and PPR are charged with fraud and misappropriation related to an off-exchange forex trading scheme.

The CFTC claims the defendants pooled investors’ funds in bank and trading accounts in their own names. PPR acted as an unregistered commodity pool operator and McDonald acted as an unregistered associated person of PPR. The CFTC also says beginning in at least August 2017, the defendants falsely told prospective investors that McDonald’s forex trading was profitable and promised 10% to 50% returns in a month. However, the complaint says McDonald actually lost money trading in forex and that the defendants misappropriated investor funds by either putting them into digital asset accounts or using them to pay personal expenses.

McDonald and PPR solicited at least $440,000 from at least 12 investors, who lost most or all of their funds. The CFTC is seeking full restitution to defrauded clients, disgorgement of any ill-gotten gains, a civil monetary penalty, permanent registration and trading bans, and a permanent injunction against future violations of the Commodity Exchange Act.

Colorado Resident Charged With Fraud in Digital Asset Ponzi Scheme

On February 14, the CFTC filed a civil enforcement action in a U.S. District Court against Breonna Clark and Colorado-based Venture Capital Investments Ltd., charging them with fraud and failing to register with the CFTC.

The CFTC says the defendants solicited investors to trade forex contracts, Bitcoin and other digital assets through a commodity pool they operated. Clark solicited investors through direct emails as well as social media posts on Facebook and Twitter always touting a 12%-21% monthly return. In total, $534,829 was raised from 72 people. Rather than trading with it, Clark used at least $418,000 for personal expenses, including a BMW and jewelry, and to provide Ponzi-style payments to pool participants.

The CFTC also says the defendants misled customers about her experience, expertise and investment track record; sent false account statements; and promised future profitability.

The CFTC is seeking restitution, disgorgement, civil monetary penalties, permanent registration and trading bans, and a permanent injunction against future violations of the Commodity Exchange Act.

Real Estate Company Charged With Defrauding Retail Investors

On February 18, the SEC charged Florida-based private real estate firm EquiAlt LLC, (“EquiAlt”), its CEO Brian Davison and its Managing Director Barry Rybicki in connection with an allegedly fraudulent unregistered securities offering. The SEC also issued an emergency enforcement actions and asset freeze.

The SEC claims that EquiAlt, Davison and Rybicki, as well as the entities they control, raised more than $170 million from more than 1,100 investors by misrepresenting EquiAlt’s investment strategy, its investments and how investor proceeds were put to work. To do this, they told prospective investors that the investments were “conservative,” “low-risk,” “secure,” and “safe” and that the strategy was “protect[ed] against market conditions” and was “not susceptible to interest rate hikes & lending trends.”

Investors were told their funds would be pooled, with approximately 90% going toward buying undervalued real estate that would be rented or flipped, and that they would be paid 8% to 10% in annual interest. In fact, less than half the funds were actually used to invest in properties. Instead, much of the investor money went toward Davison’s and Rybicki’s “lavish personal spending” which included private jets, fine jewelry, and cars. The scheme lasted nine years. The pair resorted to Ponzi-like tactics to pay existing investors.

SEC Settles With ICO Issuer

On February 19, the SEC announced that it had settled charges against blockchain tech startup Enigma MPC (“Enigma”), which conducted an unregistered initial coin offering (“ICO”).

The SEC says Enigma raised approximately $45 million from the sales of digital ENG Tokens in 2017. Enigma marketed its offering through a series of web and blog posts boasting that the company was an “MIT-bred team of experts, backed by top tier investors.” The SEC says that ENG Tokens are securities, that Enigma did not register its ICO as a securities offering and that the ICO did not qualify for an exemption from registration requirements.

Enigma, as part of the settlement, has agreed to return funds to harmed investors, register its tokens as securities, file periodic reports with the SEC and pay $500,000 in penalties.

CFTC Obtains $22.6 Million Judgment in Forex Fraud Trial

On February 21, the CFTC announced that a U.S. District Court ordered Husam Tayeh, of Illinois, as well as his companies, Dinar Corp., Inc. and My Monex, Inc., to pay more than $22.6 million in disgorgement and civil monetary penalties in connection with a fraudulent forex scheme.

The defendants originally were charged in a 2015 complaint with fraudulently soliciting customers to engage in financed retail forex transactions primarily involving Iraqi Dinar and Vietnamese Dong, misappropriating customer funds and various registration violations. Then in 2018, the court entered an order finding the defendants liable on each of the four counts. The defendants consented to liability but left disgorgement and civil monetary penalties up to the court. The parties went to trial starting Aug. 12, 2019, and the U.S. district court on February 14 entered a final judgment ordering the defendants to pay disgorgement of $22,559,153 and a civil monetary penalty of $140,000.

Wells Fargo to Pay $500 Million to Settle Charges Over Misleading Investors

On February 21, the SEC charged Wells Fargo & Co. (“Wells Fargo”) for misleading investors about the success of its core business strategy in the midst of its fake-accounts scandal between 2012 and 2016.

The SEC states that Wells Fargo publicly touted to investors the success of its Community Bank’s “cross-sell strategy,” characterizing it as a key part of its financial success. It pushed the importance of this metric despite the fact it was inflated by “unused, unneeded, or unauthorized” accounts – Wells Fargo had opened millions of such accounts between 2002 and 2016 and pushed customers to buy products they did not need. In essence, Wells Fargo incentivized its employee to open unauthorized accounts and commit fraud.

“Wells Fargo repeatedly misled investors, including through a misleading performance metric, about what it claimed to be the cornerstone of its Community Bank business model and its ability to grow revenue and earnings,” said Stephanie Avakian, Co-Director of the SEC’s Division of Enforcement.

Wells Fargo has agreed to pay $500 million, which will go back to harmed investors. That payment is part of a combined $3 billion settlement with the SEC and the Department of Justice.

SEC Updates List of Firms Using Inaccurate Information to Solicit Investors

On February 24, the SEC announced that it has added 25 soliciting entities and four fictitious regulators to its Public Alert: Unregistered Soliciting Entities (PAUSE) list.

The PAUSE website is used to list entities that falsely claim to be registered, licensed and/or located in the U.S., as well as entities that impersonate genuine U.S. registered securities firms and fictitious regulators, governmental agencies or international organizations. The SEC found the 29 parties it added to the list to have provided inaccurate information about themselves to solicit mostly U.S. investors.

The upgrades to the PAUSE website include revised descriptions, relevant educational material, and new search functions.

Steven Seagal Charged With Unlawfully Touting Digital Asset Offering

On February 27, the SEC announced it had settled charges against actor Steven Seagal for failing to disclose $1 million in promised payments for promoting an investment in an ICO.

Seagal failed to disclose a promise of $250,000 in cash and $750,000 worth of Bitcoiin2Gen (“B2G”) tokens in exchange for promotions such as social media posts encouraging the public not to “miss out” on the ICO, as well as a press release titled “Zen Master Steven Seagal Has Become the Brand Ambassador of Bitcoiin2Gen.” Bitcoiin2Gen also issued a press release quoting Seagal as endorsing the ICO “wholeheartedly.”

Celebrities or other individuals who promote virtual tokens or coins that are a security must disclose the nature, scope and amount of compensation received.

Seagal did not admit or deny the SEC’s findings but agreed to pay $157,000 in disgorgement (representing his actual promotional payments with prejudgment interest) and a $157,000 penalty. He also agreed not to promote any securities for three years.

SEC Amends Rules to Improve Disclosure and Encourage Issuers to Conduct Debt Offerings on a Registered Basis

On March 2, the SEC adopted amendments to the financial disclosure requirements that apply to registered debt offerings that include credit enhancements. The changes are designed to improve disclosure quality and make it more likely that issuers will conduct debt offerings on a registered basis.

Specifically, the SEC is amending Rule 3-10 and Rule 3-16 of Regulation S-X. These amendments will require disclosures that focus investors on information that’s material given the specific facts and circumstances, and make the disclosures easier to understand; reduce cost of compliance for registrants and encourage potential issuers to offer guaranteed or collateralized securities on a registered basis; and facilitate issuers’ flexibility to include guarantees or pledges of affiliate securities as collateral when they structure debt offerings.

SEC Seeks to Eliminate Misleading Fund Names

On March 2, the SEC requested public comment on current requirements restricting the use of potentially misleading fund names for registered investment companies and business development companies. Fund names are the very first piece of information that investors have about a fund, and thus can significantly weigh on whether they decide to purchase the fund.

Rule 35d-1 under the Investment Company Act of 1940 (also known as the “Names Rule”) requires registered investment companies and business development companies with a name that suggests a particular type of investment to invest at least 80% of its assets in those investments. The Names Rule has only applied to the asset make-up of a fund and not necessarily the strategy of the fund. The SEC is considering expanding the Rule into a strategy context. Interestingly, ESG-centric fund names were called out specifically in the release connecting back to the SEC’s examination priority regard ESG strategies.

The SEC’s request for comment seeks to discover whether the current requirements are effective, and whether there are viable alternatives worth consideration.

SEC Amends Registration Exemptions for Advisers to Rural Business Investment Companies

On March 2, the SEC amended two rules to implement congressionally mandated exemptions from registration for investment advisers who advise rural business investment companies (“RBICs”).

The amendments, which affect rules 203(l)-1 and 203(m)-1, include RBICs in the definition of “venture capital fund” and exclude their assets from the definition of “assets under management” for the purpose of the private fund adviser exemptions. Essentially, the assets would not count to the asset test of an exempt reporting adviser and an adviser could rely of the venture capital exemption while advising an RBIC.

These exemptions were enacted as part of the RBIC Advisers Relief Act of 2018.

SEC Proposes Rule Changes to Exempt Offering Framework

On March 14, the SEC announced it voted to propose amendments to “harmonize, simplify, and improve” the exempt offering framework, with a goal of promoting capital formation and expanding investment opportunities while maintaining and improving important investor protections.

The proposed amendments are intended to:

Address the ability of issuers to move from one exemption to another, and ultimately to a registered offering.
Provide greater certainty to issuers and protect investors by setting clear and consistent rules governing offering communications between investors and issuers.
Address potential gaps and consistencies in the SEC’s rules by increasing offering and investment limits based on the commission’s experience with the rules, marketplace practices, capital raising trends and comments received.
Harmonize certain disclosure requirements and bad-actor disqualification provisions to reduce differences between exemptions.

The proposed rule is subject to a 60 day comment period. From that point, the SEC will review the comments and determine what changes, if any, will be made to the proposed rule.

SEC Adopts Amendments to Reduce Unnecessary Burdens on Smaller Issuers

On March 12, the SEC adopted amendments to the accelerated filer and large accelerated filer definitions. By better tailoring the types of issuers included in the definitions, the SEC hopes to reduce unnecessary burdens and compliance costs for certain smaller issuers.

Smaller reporting companies with revenues of less than $100 million still must establish and maintain effective internal control over financial reporting (“ICFR”). The principal executive and officers must continue to certify that they’re responsible for establishing and maintaining ICFR, and they will continue to be subject to a financial statement audit by an independent auditor required to consider ICFR in the performance.

Unlike larger issuers, these companies will no longer be required to obtain a separate attestation of their ICFR from an outside auditor and can redirect the associated cost savings into growing their businesses.

These amendments will become effective 30 days after publication in the Federal Register.

Jury Finds Investment Adviser, Owner, Liable for Fraud

On March 16, the SEC announced that jurors in federal court returned a verdict in the SEC’s against investment adviser Westport Capital Markets, LLC (“Westport”), and its owner, Christopher E. McClure.

The jury found that Westport and McClure defrauded advisory clients by purchasing securities on multiple occasions that generated significant undisclosed compensation. Previously, the court found in a partial summary judgment that Westport and McClure failed to disclose conflicts of interest, and that Westport made (and McClure aided and abetted) unauthorized principal transactions. On March 16, the court determined that the defendants also acted intentionally, knowingly, or recklessly under the antifraud provisions of Section 206(1) of the Advisers Act, and that they acted willfully under the antifraud provisions of Advisers Act Section 207.

SEC Emergency Action Stops Digital Asset Scam

On March 20, the SEC announced an asset freeze against a former state senator and two others, as well as other emergency relief, in connection with a digital asset scheme.

The SEC alleges that Robert Dunlap and Nicole Bowdler, of Florida, worked with former Washington state senator David Schmidt to market and sell a digital asset called “Meta 1 Coin” in an unregistered securities offering. The complaint says the defendants made bogus claims, including that Meta 1 Coin was backed by a $1 billion art collection or $2 billion in gold, among other false and misleading statements, to raise more than $4.3 million from more than 150 investors in the U.S. and internationally. They also allegedly told investors that “the Meta 1 Coin was risk-free, would never lose value and could return up to 224,923%” and told investors that this return was “very conservative.”

However, the Meta 1 Coins were never distributed. Investor funds were used to pay personal expenses such as “luxury automobiles, including a $215,000 Ferrari,” and also funneled to two other parties, Pramana Capital Inc. and Peter K. Shamoun, who the SEC charged as relief defendants, seeking disgorgement with prejudgment interest.

The SEC also seeks permanent and conduct-based injunctions, disgorgement with prejudgment interest, and civil penalties against Dunlap, Bowdler and Schmidt.

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