Restricted Stock

Restricted Stock_________________________________________________________

In cases involving the most ruthless stock manipulators, very often these miscreants obtain fraudulent opinions under SEC Rule 144 to improperly remove restrictions from lettered securities.

For example, in the case of SEC v. Recycle Tech, et al, the attorney did little or no due diligence into the company whose stock was the subject of his opinion and ignored the several “red flags.” The attorney had information that should have told him that the company was a shell company ineligible to use Rule 144. He miscalculated the holding period. The company was delinquent on its required filings and thus the current information requirements of Rule 144 were not satisfied. The opinion relied on falsified or backdated documents and this would have been revealed by simple due diligence. The issuance relied on an old resolution and no attempt was made so see if it was still in effect. The shares to be freed up from the debt conversion would double the outstanding stock. The attorney should have known that one of the sellers was an affiliate of the company and yet he did not in his opinion letter apply the restrictions on manner of sale, amount that could be sold, and notice of sale.

The newsletters touting the stock offered only general disclaimers and did not report that they were selling into their buy recommendation.

Moreover, the newsletter only contained a general disclaimer. The newsletter disclosed:

[w]hen Pennypic.com receives free trading shares as compensation for a profiled company, Pennypic.com may sell part or all of any such shares during the period in which Pennypic.com is performing such services.”

It then specifically disclosed that it “has received from a third party non-affiliate 2.325 million free trading shares of [Recycle Tech] for advertising and marketing.”

The SEC charged that the newsletter did not, however, disclose the third party’s identity or the stock sales of Pennypic's principal.

Thus, we see here that the SEC found this disclaimer was inadequate even though it disclosed that the newsletter “may” sell, and that the stock was from a third party and the number of shares.

One violation that we note in some of these cases is that the promoters, who are themselves control persons, buy restricted stock, and in order to assist in the making the stock unrestricted, place the securities not in their names, but in the names of others who are not control persons. From there, the securities can be handed out for stock promotion or simply sold with most of the proceeds of sale remitted to the promoter.

We would advise investor relations firms who are receiving stock as consideration for their promotion to be on the alert for several violations of their clients that may ensnare the investor relations professional as well.

First, be on the alert for being given stock without a restriction that is actually restricted stock. If the client or promoter is giving you stock, make sure it is lawful.

Second, an affiliate or control person of the company may be giving you stock that was just cleared of a restriction. Be advised that the affiliate or control person has restrictions on how he can sell the stock that do not include handing it off to you. The actual sales restrictions for persons affiliated with the issuer, control persons, are limited to free market sales with volume restrictions. If you accept stock knowing or even suspecting that there are irregularities, you may be asking for trouble.

Third, if you knew or should have known that there were improprieties in the removal of the restriction or any other matter that would make the transfer of the stock to you improper, you may be roped in to a case you do not want to be in. As my father used to say, “when the police wagon comes up to the house of ill repute, they take the good girls with the bad.“ Do a little investigation to protect yourself.