JOBS Act Update: Penny Stock, Pound Foolish

Penny Wise

While some of the companies that have gone public under the Jumpstart Our Business Start-ups (JOBS) Act provisions have done well to date, critics have warned that the scaled down disclosure requirements of the Act might simply make it a lot easier for start-ups to commit securities fraud.

The JOBS Act defined nearly every organization in the U.S. as an “emerging growth company.” To qualify, a company simply had to have less than $1 billion in assets, less than $700 million in shares held publicly and less than five years as a public company. These companies can now sell stock to the public with fewer restrictions, and then report less information to their shareholders than was formally required.

Last month, the U.S. Securities and Exchange Commission (SEC) brought its first charges of securities fraud and an order to halt sales of the stock of a JOBS Act-traded company, Caribbean Pacific Marketing, Inc. The government alleged that the firm’s registration statement is materially misleading and deficient in failing to disclose that a disbarred attorney is a de facto executive officer and control person of the organization.

Permanent Can Be Such a Harsh Word

If true, this is critical information as, back almost two years ago, on October 15, 2009, a judgment was entered against this attorney, permanently barring him from serving as an officer or director of any public company and specifically barring him from participating in the offering of any penny stock. Reilly consented to the entry of the judgment without admitting or denying any of the allegations in the complaint.

Caribbean Pacific was formed back in January, initially selling 20 million shares of stock to insiders for $30,000. Its August 29, 2012 registration statement outlined a business strategy to market proprietary sun care and skincare products exclusively “through internet sales and at equestrian events, street fairs, and community events in South Florida.” The company planned to sell up to one million new shares to the public at 15 cents each, 100 times what the insiders paid. The S.E.C. allowed the offering to begin in August, although it is not clear how many shares have actually been sold.

Last week, exactly two months after the company began selling shares under this prospectus, the SEC brought civil charges against the company while the Justice Department brought separate criminal charges against the disbarred lawyer.

Stung by the “B” in “FBI”

In the parallel criminal action, the DoJ alleged that the attorney had engaged in a scheme to fraudulently sell the stock of Caribbean Pacific to a buyer who turned out to be working with the Federal Bureau of Investigation in an ongoing FBI investigation targeting penny stock fraud in South Florida.

The complaint alleges that the attorney sold the stock in two transactions ahead of the company’s initial public offering (IPO), in violation of the registration provisions of the Securities Act of 1933; a big no-no. It also alleges that the attorney violated the antifraud provisions of the federal securities laws by causing the company to file a false and misleading registration statement and prospectus with the SEC, as the attorney was secretly a control shareholder.

The complaint stated that Mr. Reilly claimed to own 9.2% of the company’s shares, although the prospectus, in its list of people who owned at least 5%, fatally, did not mention him.

Justice Will be Swift  

In the SEC’s civil action, if the Commission’s allegations are determined to be correct, a stop order will be issued to prevent the company or its shareholders from selling their privately-held shares to the public under the materially misleading or deficient registration statement until the company has corrected the deficiencies or misleading information contained in its registration statement. The Administrative Law Judge in this case is expected to issue an initial decision no later than 60 days from the date of service of the SEC’s October 29, 2012 Order. The criminal action is likely to take more time, and the defendant is currently at liberty on bail.

Cause and Effect?

Penny Stock

A stock that trades at a relatively low price and market capitalization, usually outside of the major market exchanges. These types of stocks are generally considered to be highly speculative and high risk because of their lack of liquidity, large bid-ask spreads, small capitalization and limited following and disclosure. They will often trade over the counter through the OTCBB and pink sheets.

The term itself is a misnomer because there is no generally accepted definition of a penny stock. Some consider it to be any stock that trades for pennies or those that trade for under $5, while others consider any stock trading off of the major market exchanges as a penny stock. However, confusion can occur as there are some very large companies, based on market capitalization, that trade below $5 per share, while there are many very small companies that trade for $5 or more.


Assuming that all of the government allegations are correct, the JOBS Act is demonstratively not to blame for the fraud at Caribbean Pacific Marketing. Even under the JOBS Act’s reduced reporting requirements, lying (or failing to present required material information in a truthful manner) is not legal.

What is perhaps more relevant is the fact that a penny stock is involved and South Florida is the locale.

An ongoing special federal task force focusing on potential penny stock frauds in South Florida brought 85 prosecutions, including 15 new cases, since late 2010. The South Florida region ranks number two in the nation for investment probes.

Back in May of this year, the SEC temporarily suspended trading in 379 separate penny stocks in a single day due to concerns over the accuracy and adequacy of publicly disseminated information concerning the companies’ operating status. (The previous one-day record was 35, set back in 2005).

So there are other, potentially more central, forces at work here that might best explain what has allegedly occurred at Caribbean Pacific. Personally, although often geography-challenged, the name itself would have indicated potential problems as even I know that the Caribbean is not located in the Pacific.

About Ann Longmore

Ann is Executive Vice President of Willis' Executive Risks practice. Based in New York, she has been with the compa…
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One Response to JOBS Act Update: Penny Stock, Pound Foolish

  1. Sumia says:

    Really nice information. Kindly can you tell me what is the way of guest blogging at your blog?

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