U.S. SECURITIES AND EXCHANGE COMMISSION
Litigation Release No. 19800 / August 10, 2006
Accounting and Auditing
Enforcement Release No. 2473 / August 10, 2006
SEC v. Paul W. Mikus and John V. Cracchiolo, Civil Action No. SACV 06-734 JVS (MLGx)(C.D.Cal.).
SEC Charges Former CEO and CFO of Endocare With Fraud
The Securities and Exchange Commission (Commission) announced that, on August 9, 2006, it filed securities fraud charges against Paul W. Mikus, the former chief executive officer and chairman of the board of Endocare, Inc., and John V. Cracchiolo, Endocare's former chief financial officer and chief operating officer, for orchestrating a financial fraud perpetrated on the investing public in 2001 and 2002. At the time, Endocare, based in Irvine, Calif., developed and distributed medical devices for use in the treatment of various types of cancers and urological ailments.
The Commission's complaint, filed in U.S. District Court in Santa Ana, Calif., alleges that Mikus, age 40, of Irvine, Calif., and Cracchiolo, age 50, of Gardnerville, Nev., significantly overstated Endocare's income by booking false sales, engaging in improper revenue recognition practices, and improperly understating or delaying the recognition of expenses in order to inflate Endocare's earnings. The complaint further alleges that, during conference calls with Wall Street analysts, Mikus and Cracchiolo misled investors about the number of procedures that had been performed using Endocare's devices. According to the complaint, the procedure numbers were critical to Endocare because these numbers reflected the present and future market acceptance for Endocare's devices.
The complaint alleges that, as a result of the fraudulent accounting, Endocare overstated net revenue by at least 16% for 2001, 17% for the first quarter of 2002, and 33% for the second quarter of 2002. Additionally, Endocare's financial statements understated its pre-tax loss for 2001 by 20%, and falsely reported pre-tax earnings for the first two quarters of 2002, rather than properly reporting substantial pre-tax losses.
The complaint further alleges that Mikus and Cracchiolo approved a press release announcing the termination of Endocare's acting controller for conduct "materially injurious to the company" after the acting controller had raised questions about Endocare's accounting practices. The complaint alleges that the press release was misleading because it was issued one week after Endocare had disclosed that the company's independent auditors, KPMG LLP, had concluded that KPMG could no longer rely on the representations of management, which included Mikus and Cracchiolo. As alleged in the complaint, the press release falsely implied that Endocare had terminated the bad actors responsible for KPMG's concerns. The complaint also alleges that Mikus approved another misleading press release in which Endocare announced that, after an independent investigation, the audit committee had concluded that there "was no indication of fraud or intentional wrongdoing by management." The complaint alleges this statement was false and misleading because, first, the company in fact had not conducted an "independent" investigation, and second, an internal review had in fact revealed substantial evidence of fraud or intentional wrongdoing.
The Commission charged Mikus and Cracchiolo with violating the antifraud provisions, Section 17(a) of the Securities Act of 1933, Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder; the record-keeping and internal controls provisions, Section 13(b)(5) of the Exchange Act and Rule 13b2-1 thereunder; and the false statements to auditors provision, Rule 13b2-2 of the Exchange Act. Mikus and Cracchiolo were also charged with aiding and abetting Endocare's violations of the reporting provisions, Section 13(a) of the Exchange Act and Rules 12b-20, 13a-1, 13a-11, and 13a-13 thereunder; the record-keeping provision, Section 13(b)(2)(A) of the Exchange Act; and the internal controls provision, Section 13(b)(2)(B) of the Exchange Act.
The Commission seeks permanent injunctions against Mikus and Cracchiolo, an order that they repay their ill-gotten gains, civil monetary penalties, and an order barring them from serving as officers or directors of publicly-traded companies.
The Commission previously filed settled actions against Endocare, its senior vice president of sales, Kevin Quilty, and the former president of an Endocare subsidiary, Jerry W. Anderson, see Litigation Release No. 19772 (July 25, 2006), and instituted a settled cease-and-desist proceeding against Endocare's former director of sales for the Southeast region, L. Michael Hart, see Exchange Act Release No. 54172, Accounting and Auditing Enforcement Release No. 2460 (July 19, 2006).
The Commission's investigation is continuing.
SEC Complaint in this matter