SEC and DOJ Charge Healthcare Company and CEO with Fraudulent COVID-19 Test Kit Scheme
Commentary by Ilan T. Graff
In parallel civil and criminal actions, the SEC and DOJ charged a publicly traded healthcare company and its CEO with participating in a fraudulent COVID-19 test kit scheme.
In the Civil Complaint, the SEC alleged that in several instances, the CEO falsely stated that it had a committed purchase order to sell 2 million COVID-19 rapid test kits to a telehealth company, with a provision for an additional 2 million orders per week for 23 weeks. Additionally, the CEO falsely claimed that the company had a legitimate supplier lined up to provide the test kits to sell.
Further, the SEC alleged that the company and CEO were aware that there was no purchase order from a buyer and that there was no agreement in place for a supplier to provide the test kits but stated as such anyway. The CEO also falsely claimed that the supplier had proper FDA emergency use authorizations for the test kits, when it in fact did not. Based on this information, the share price for the company increased by 425 percent. The SEC alleges the CEO then used the proceeds from the share price increase to satisfy a large debt to a separate vendor. Ultimately, without delivering a single test kit, the CEO claimed that the purchase order and agreement with the supplier had been terminated.
As a result, the SEC found that the company and its CEO violated Securities Act Section 17(a) ("Fraudulent interstate transactions"), Exchange Act Section 10(b) ("Regulation of the Use of manipulative and deceptive devices") and SEA Rule 10b-5 ("Employment of manipulative and deceptive devices"). To settle the civil charges, the company and its CEO have agreed to (i) an officer and director bar against the CEO, (ii) disgorgement of $471,000 with $32,761.56 in prejudgment interest and (iii) a $125,000 civil penalty.
In a parallel federal criminal action, the U.S. Attorney's Office for the District of New Jersey and the DOJ Fraud Section charged the CEO with two counts of securities fraud for his participation in the alleged fraudulent scheme, which the indictment claims caused over $116 million in investor losses. The first count alleged that the CEO engaged in a securities fraud scheme by making material misrepresentations and omissions to investors, leading investors to purchase shares in the company at artificially inflated prices and sell for a loss, causing over $116 million in losses. The second count added that the CEO allegedly obtained promises, money and property in connection with the purchase and sale of the securities at an artificial price.
Regarding the first count, the DOJ found that the company and CEO violated (i) Exchange Act Sections 10(b) ("Regulation of the Use of manipulative and deceptive devices") and 32 ("Penalties"); (ii) SEA Rule 10b-5 ("Employment of manipulative and deceptive devices"); and (iii) 18 U.S.C. 2 ("Principals"), and is seeking a maximum penalty of 20 years in prison. Regarding the second count, the principals violated 18 U.S.C. 1348 ("Securities and commodities fraud"), which carries a maximum sentence of 25 years in prison.
Commentary
These parallel actions illustrate law enforcement's heightened scrutiny of Covid fraud, as foreshadowed in the President's State of the Union address. They also reflect investigative focus on sophisticated corporate actors, as distinct from DOJ's earlier prosecutions of individuals who secured Covid-related loans under false pretenses.