Issuer And CEO Charged By The SEC With Fraud And Whistleblower Protection Law Violations For Allegedly Impeding Investor Complaints
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  • Issuer And CEO Charged By The SEC With Fraud And Whistleblower Protection Law Violations For Allegedly Impeding Investor Complaints
    On November 4, 2019, the Securities and Exchange Commission (“SEC”) filed an amended complaint against Collectors Café, a Nevada-based company purportedly providing online auctions for collectibles (the “Company”), and its CEO, for making false and misleading statements to investors in connection with a $23 million securities offering.  SEC v. Collector’s Coffee, Inc. & Kontilai, No. 10-CV-04355 (S.D.N.Y. Nov. 4, 2019).  The amended complaint added charges against defendants for alleged violations of whistleblower protection laws by conditioning the return of investor money on investors signing agreements that included provisions prohibiting them from communicating with regulatory agencies, including the SEC, about anything related to the Company.
    According to the SEC’s amended complaint, the CEO and the Company raised money from investors pursuant to several securities offerings between 2007 and 2013.  The CEO touted in the offering documents that hundreds of dealers had agreed to sell a large volume of collectibles on the auction portal when, in reality, only three dealers had signed basic agreements with no set inventory requirements.  Additionally, the complaint alleged that the CEO made numerous false and misleading statements and omissions about the Company’s inventory, including a claim that he owned baseball contracts signed by Jackie Robinson that were appraised at $36 million when in reality he owned a fraction of these contracts, worth closer to $10 million.  Further, the CEO allegedly misappropriated over $6.1 million of the investors’ funds for personal use, which he attempted to conceal in an associate’s bank accounts.
    Accordingly, investors began to complain about the CEO’s alleged behavior and the lack of return on their investments.  In 2015, the CEO agreed to purchase the shares of certain investors who accused him of fraud.  The share purchase agreement with these investors included a provision stating that “[Investors] warrant and affirm that . . . they will not, directly or indirectly, individually, collectively or otherwise, contact any third-party, including, but not limited to governmental or administrative agencies or enforcement bodies, for the purpose of commencing or otherwise prompting investigation or other action relative to [the Company] or the subject matter herein.” 
    Further, in 2017, two investors alleged that the Company and the CEO had violated federal securities law and requested a return of their investments.  The Company and the CEO entered into a settlement agreement with the investors to resolve the allegations.  The settlement agreement contained a provision similar to the share purchase agreement in 2015, stating that:  “The Shareholders . . . confirm that they are not aware of, and have not had to date, and will not initiate on a going forward basis, any communications with any regulatory agencies such as the United States Securities and Exchange Commission or any other Federal, State, or Local governmental agency concerning the matters related to this Agreement.  Nothing herein would prevent the parties from responding to, and/or fully complying with, a subpoena or other governmental and or regulatory compulsory process.”  When these investors later responded to a subpoena from the SEC, the Company and the CEO filed a lawsuit against the investors for violating the terms of the settlement agreement. 
    The SEC alleges that these provisions and defendants’ efforts to take action against investors pursuant to the provisions represent violations of whistleblower protection laws under Rule 21F-17 of the Exchange Act.  Specifically, the SEC claims the provisions are intended to and did, in fact, impede reporting, which violates federal securities laws.  While whistleblower protection laws are typically applied to protect employees, this case serves as a reminder that the protections apply more broadly, including to investors.