Securities Industry Commentator by Bill Singer Esq

May 31, 2019

SEC Cancels PCAOB Sanctions. In the Matter of the Application of Cynthia C. Reinhart, CPA For Review of Action Taken by the PCAOB (SEC Opinion; '34 Act Rel No. 85964; Admin. Proc. File No. 3-17758 / May 29, 2019)  
As set forth in part in the SEC Opinion [Ed: footnotes omitted]:

Cynthia C. Reinhart, who was a partner at KPMG LLP, a registered public accounting firm, appeals disciplinary action by the Public Company Accounting Oversight Board ("PCAOB"), which found that Reinhart violated PCAOB Rules 3100 and 3200T by not adhering to professional auditing standards during the audit of a public company's 2007 financial statements. The PCAOB further found that those violations constituted "repeated instances of negligent conduct," which supported the imposition of a bar from Reinhart's associating with a registered public accounting firm (with leave to petition to associate after two years) and, if permitted to associate again with a registered public accounting firm, a bar from serving in certain senior roles and exercising certain oversight authority for an additional year. We base our findings on an independent review of the record and apply the preponderance of the evidence standard.

We hold that the record does not support the PCAOB's finding that Reinhart engaged in repeated instances of negligent conduct, each resulting in a violation of the applicable statutory, regulatory, or professional standard, a finding of which is necessary under Sarbanes-Oxley Section 105(c)(5) to support the sanctions imposed by the PCAOB.

The PCAOB found that Reinhart engaged in repeated instances of negligent conduct on two alternate bases. First, the PCAOB found that there were repeated instances of negligence because Reinhart's alleged auditing failures concerned "two [audit] areas . . . not just one financial statement account," with those two audit areas being (1) whether there was substantial doubt about Thornburg Mortgage, Inc.'s ("Thornburg") ability to continue as a going-concern for a reasonable period of time and (2) whether Thornburg had the intent and ability to retain its investments for a period of time sufficient to allow for any anticipated recovery in market value. Second, the PCAOB alternatively found that, "even if these two audit areas were treated as one," Reinhart's handling of certain additional audit tasks underlying her going-concern and ability-tohold inquiries also resulted in independent instances of negligent conduct. 

We find, concerning the first basis of the PCAOB's sanction, that the PCAOB has not established on the record here that the fact that two audit areas were affected by Reinhart's allegedly negligent conduct necessarily means that repeated instances of negligent conduct occurred. As to the PCAOB's alternate finding that Reinhart's decisions regarding certain audit steps independently constituted repeated instances of negligent conduct, we find that the record does not support the PCAOB's finding that Reinhart engaged in the conduct that the PCAOB found her to have engaged in regarding those audit steps or, to the extent that she engaged in that conduct, that it constituted repeated instances of negligent conduct in the context of the overall audit work Reinhart did.

We accordingly conclude that the record does not support the PCAOB's finding that Reinhart engaged in repeated instances of negligent conduct as required by Sarbanes-Oxley to support the sanctions PCAOB imposed, and we cancel the PCAOB's sanctions on that basis.  

SEC Charges Long Island Recidivist with Running $4 Million Fraud (SEC Release)
In a Complaint filed in the United States District Court for the District of New Jersey, the SEC charged Donald A. Milne III and Instaprin Pharmaceuticals, Inc. with violating the anti-fraud provisions of Section 17(a) of the Securities Act and Section 10(b) of the Securities Exchange Act and Rule 10b-5 thereunder, and the registration provisions of Section 5(a) and 5(c) of the Securities Act. Without admitting or denying the allegations in the complaint, Milne and Instaprin consented to the entry of final judgments permanently enjoining them from violating the charged provisions of the federal securities laws, ordering full disgorgement and prejudgment interest of $3,628,325, and imposing civil penalties of $554,301 and $2,771,493, respectively. Relief Defendant Island Raceway consented to the entry of a final judgment agreeing to pay $941,100 in disgorgement and prejudgment interest. As set forth in part in the SEC Release:

[M]ilne falsely told investors that their money would be used to pay for the operating expenses of Instaprin Pharmaceuticals, which was purportedly developing a revolutionary fast acting aspirin to instantly stop heart attacks and strokes. Instead, Milne allegedly used investors' money to largely pay for personal expenses, such as a vacation, clothing, spa treatments, divorce expenses, and on Island Raceway & Hobby, Inc., his now-defunct remote-controlled toy racecar business, which had previously operated in Lindenhurst, New York.
Yet again, we come across another FINRA regulatory matter involving the alleged misconduct of a registered representative during his transition from his former employer. No . . . it's not a sympathetic case for the Respondent rep, as our publisher Bill Singer makes clear. In light of the recurring nature of these battles over who "owns the customer," Bill takes the opportunity to chastise FINRA for sitting in the stands eating cotton candy rather than blowing the whistle as an impartial referee.

As set forth in part in the FINRA Notice[Ed: footnotes omitted]:

Under the Codes of Arbitration Procedure for Customer and Industry Disputes (Codes), parties exchange documents and information to prepare for arbitration through the discovery process. Parties who seek discovery from a non-party may request the panel to issue an order of appearance of witnesses or production of documents if the non-party is subject to FINRA's jurisdiction as an associated person or member firm.The Codes also authorize arbitrators to issue a subpoena if the non-party is not subject to FINRA's jurisdiction. If the panel decides to issue the order or subpoena, FINRA will transmit the signed order or subpoena to the moving party to serve on the non-party. If a non-party receiving an order or a subpoena objects to the scope or propriety of the order or subpoena, the non-party may file written objections through the Director of the Office of Dispute Resolution (Director).

FINRA amended the Codes to extend the response time for non-parties to object to an order or subpoena from 10 calendar days of service to 15 calendar days of receipt of the order or subpoena. Receipt of overnight mail service, overnight delivery service, hand delivery, email or facsimile is accomplished on the date of delivery. With each of these methods of service, parties will be able to determine the date of delivery. The amendments exclude first-class mail as an option to serve documents on the non-party and as an option for the non-party to file the objection to the scope or propriety of the order or subpoena. Finally, the amendments codify the current practice that the Director send, at the same time, objections and responses to the panel after the reply date has elapsed, unless otherwise directed by the panel. 

Four People Charged With Credit Card ‘Bust Out' Scheme To Defraud Banks (DOJ Release)
In a Complaint filed in the United States District Court for the District of New Jersey,
Shahid Akhtar; Tassadiq Hussain; Asif Ali; and Mohammad Mushtaq were each charged with one count of conspiring to defraud financial institutions. As set forth in part in the DOJ Release: The defendants are scheduled to appear later today before U.S. Magistrate Judge Joseph A. Dickson in Newark federal court.

The defendants and their conspirators used the personally identifying information of actual people, including dates of birth, drivers' license numbers, and Social Security numbers, to create "synthetic identities," sometimes by pairing the name and Social Security number of actual person with a fictitious birthdate, and sometimes by pairing the person's Social Security number with a fictitious name and birthdate. They often used the name and Social Security number of a minor and altered the birthdate to make the identity appear to be that of an adult.

The defendants and their conspirators then used the stolen and synthetic identities to obtain lines of credit, primarily through opening credit card accounts at financial institutions (the "fraud cards"). The fraud cards were maintained in good standing with the financial institutions long enough to establish the creditworthiness of the stolen and synthetic identities. The defendants and their conspirators then "busted out" the fraud cards by making large purchases and never repaying the debts.

The defendants and their conspirators also incorporated and registered in various states numerous purported companies that did little or no legitimate business (the "sham companies"). The sham companies typically reported mailing addresses that were not brick-and-mortar business locations but were in fact "virtual mailboxes" offered by a company that provides mail receiving and forwarding services, as well as virtual office space, for a fee. The defendants and their conspirators used these sham companies to make hundreds of thousands of dollars' worth of charges to the fraud cards, which were then deposited in bank accounts opened in the sham companies' names. The defendants and their conspirators then withdrew these funds in cash.

The defendants and their conspirators routinely used "drop addresses" in New Jersey, New York, and elsewhere as the purported mailing addresses for the fraud cards and the sham companies. These drop addresses were typically not residential locations, but rather mailboxes offered for lease for the receipt of mail by a commercial package delivery company. In most cases, the defendants and their conspirators rented these mailboxes using fraudulent identification documents created using stolen and altered identities. The drop addresses were then maintained for the purpose of receiving mail sent in connection with the fraud cards and the sham companies.
In a 36-count Indictment filed in the United States District Court for the Central District of California, Defendants Ara Malkhasyan, Smbat Khechumyan, Sveta Khechumyan, Harutyun Petrosyants, Artur Harutyunyan, Khachatur Chobanyan, Jivan Hakhnazaryan, Arman Grigoryan, and Artak Okhoyan were charged with engaging in a alleged check-kiting schemes that purportedly used 331 altered Armenian passports to fraudulently open bank accounts and steal, or attempt to steal, $1,556,336 from Bank of America. The Indictment alleges that Defendants actually obtained about  $1.12 million. As set forth in part in the DOJ Release:

[D]efendants used the bank accounts, which were opened in the names that appeared on the altered passports, to write bad checks to other fraudulently obtained bank accounts. The defendants allegedly exploited bank rules that allowed them to transfer money from one account to another, and then to immediately withdraw funds at ATMs in Las Vegas casinos and other locations before the checks bounced.

Montgomery Business Man Sentenced for Bank Fraud, Mail Fraud and Drug Charges (DOJ Release)
Gene Earl Easterling was convicted in the United States District Court for the Middle District of Alabama on bank fraud, mail fraud, and drug charges involving possession of cocaine with intent to distribute, and he was sentenced to 63 months in prison plus three years of supervised release, and he was ordered to pay restitution. As set forth in part in the DOJ Release:

The mail and bank fraud charges stemmed from a scheme in which Easterling others submitted a series of fraudulent loan applications and received payment. Specifically, evidence showed that from March 2015 through October 2017, Easterling represented to several Montgomery banks and credit unions that he owned a car dealership in Montgomery, Alabama named "Next-in-Line, Inc." He and others working with him would submit applications for auto loans to pay for cars from his lot. However, Easterling never owned a car lot or actually sold cars. Investigators confirmed that Next-In-Line was never issued an auto-dealer's license, and in fact, according to Next-In-Line's business license, it was a computer/gaming repair company.

Once the loans were approved and checks were sent to the applicant through the United States mail, Easterling and his co-conspirators would take them to a bank to cash. Easterling would keep a portion of the check and give a portion to his accomplices. Ultimately, no vehicles were ever purchased. Furthermore, once the loan checks were received Easterling and his co-conspirators would make one or two payments on the loan, then stop paying and attempt to discharge their debt through the bankruptcy courts.

In total, sixteen fraudulent loans checks were approved and resulted in a loss of $682,980 to the financial institutions. Easterling and his co-conspirators also submitted other applications which were not approved in the amount of $253,500. His co-conspirators also have pending cases. . . .