SECURITIES EXCHANGE ACT OF 1934
Release No. 42684 / April 13, 2000
ADMINISTRATIVE PROCEEDING
File No. 3-10187
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In the Matter of Rita L. Schwartz,
Respondent. |
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ORDER INSTITUTING PUBLIC CEASE-AND-DESIST PROCEEDING, MAKING FINDINGS, AND ISSUING A CEASE-AND-DESIST ORDER AGAINST RITA L. SCHWARTZ |
I.
The Securities and Exchange Commission (the "Commission") deems it appropriate that a public cease-and-desist proceeding be instituted pursuant to Section 21C of the Securities Exchange Act of 1934 ("Exchange Act") against Rita L. Schwartz ("Schwartz").
Accordingly, IT IS HEREBY ORDERED that a cease-and-desist proceeding against Schwartz be, and hereby is, instituted.
II.
In anticipation of the institution of this proceeding, Schwartz has submitted an offer of settlement ("Offer"), which the Commission has determined to accept. Solely for the purpose of this proceeding and any other proceedings brought by or on behalf of the Commission or in which the Commission is a party, and without admitting or denying the findings contained herein except that R. Schwartz admits the jurisdiction of the Commission over her and over the subject matter of this proceeding, Schwartz consents to the issuance of this Order Instituting Public Cease-and-Desist Proceeding, Making Findings and Issuing a Cease-and-Desist Order ("Order").
III.
On the basis of this Order and the Offer, the Commission makes the following findings:1
A. Incomnet, Inc., is headquartered in Woodland Hills, California, and incorporated in California. Incomnet's common stock is registered with the Commission pursuant to Section 12(g) of the Exchange Act and traded on the NASDAQ Small Cap Market. Incomnet derives the majority of its revenue from its main subsidiary, National Telephone Communications, Inc. ("NTC"). NTC sells marketing materials to independent sales representatives who in turn, on behalf of NTC, sell discounted long distance telephone service. On July 30, 1998, the Commission instituted and settled a public cease-and-desist proceeding against Incomnet and two former members of its board of directors. The Order alleged violations similar to those charged herein. See In the Matter of Incomnet, Inc., Joel W. Greenberg, and Stephen A. Caswell, Securities Exchange Act of 1934 Release No. 40281 (July 30, 1998).
B. Rita L. Schwartz ("Schwartz") 54, resides in Encino, California, and was one of Incomnet's outside directors from 1988 to November 15, 1995, when she resigned.
C. From approximately January 1988 until November 30, 1995, one individual was Incomnet's chief executive officer, president, and chief financial officer (hereinafter referred to as "Incomnet's Former CEO"). Incomnet's Former CEO stepped down as Incomnet's Chairman of the Board on November 15, 1995, but remained on the Board until November 30, 1995. Incomnet's Former CEO was at all applicable times, and still is, Schwartz's spouse.
D. Kaliber Management ("Kaliber") is an inactive privately held California corporation owned by Incomnet's Former CEO and Schwartz. Incomnet's Former CEO used a brokerage account in Kaliber Management's name (the "Kaliber Account") to buy and sell Incomnet securities.
Incomnet's BuyBack Program
E. On August 5, 1994, Incomnet publicly announced that it had instituted a stock repurchase program (the "BuyBack Program"), to repurchase up to 1,000,000 shares of Incomnet common stock. According to Incomnet's July 27, 1994 Board Minutes, its Board of Directors determined that "the acquisition of shares in the open market and in private transactions to be in shareholder's [sic] best interest due to extraordinary events which may have acted to depress the price of the shares." Incomnet's Board resolved that "the officers and directors proceed with the appropriate activity to purchase from time to time in the open market and in private transactions the shares of Incomnet, Inc. in the amount not to exceed 1,000,000 shares" and resolved that "the Chairman be authorized to secure additional financing if required from various sources to effect the purchase of the shares as according to the aforementioned authorization." According to Incomnet's filings with the Commission, Incomnet purchased 456,000 shares pursuant to its BuyBack Program, the majority of which shares Incomnet has retired.
Incomnet's Former CEO's Undisclosed Trading of Incomnet Securities in the Kaliber Account
F. From approximately June 1994 through July 1995, Incomnet's Former CEO bought over a total of 1,100,000 Incomnet shares on at least 48 occasions and sold over a total of 900,000 Incomnet shares on at least 28 occasions in his Kaliber Account in what Incomnet's Former CEO described as an attempt to defend Incomnet's share price against short sellers. With the exception of one purchase of 100,000 shares, Incomnet's Former CEO failed to timely file the reports required under Section 16(a) of the Securities Exchange Act of 1934 to disclose his trading in the Kaliber Account, as he was required to under federal securities laws.
Incomnet's August 1995 Form 8-K
G. On August 28, 1995, Incomnet filed a Form 8-K, signed by Incomnet's Former CEO, which stated that Incomnet's Former CEO had executed an Irrevocable Tender of Payment ("ITP"). The ITP was included as an exhibit to the Form 8-K, and was signed by Incomnet's Former CEO and the members of the Board, including Schwartz. The Form 8-K and ITP were drafted by counsel for Incomnet. According to the ITP, Incomnet's Former CEO tendered to Incomnet short swing profits earned and losses avoided by Kaliber (for the trading referenced in ¶ F above) to comply with Section 16(b) of the Exchange Act, and consistent with prior representations to and written agreements between Incomnet's Former CEO and Incomnet's Board of Directors. According to the ITP, Incomnet's Former CEO, with the unanimous written consent of Incomnet's Board, established a special brokerage account in the name of Kaliber Management (the "Defense Fund") to defend Incomnet's stock price from short sellers. The ITP states that in the absence of the Defense Fund and Incomnet's Former CEO's purchases and sales of Incomnet stock in the public trading market, the short sellers may have "broken the price" (caused Incomnet's stock price to decrease) and severely damaged Incomnet by eliminating its ability to raise capital and operate effectively.
H. At least one representation in the ITP (which, as discussed in ¶ G above, was attached to Incomnet's August 1995 Form 8-K) was false. Incomnet's Board, while authorizing its officers and directors to take appropriate action to defend its stock price, never specifically authorized Incomnet's Former CEO to establish a special brokerage account in the name of Kaliber Management Corporation (the "Kaliber Account") to purchase shares pursuant to the Buy Back Plan to defend Incomnet's share price against short sellers. Moreover, Incomnet's Former CEO never told some of the Board members, prior to their signing the ITP, that he sold Incomnet shares in the Kaliber Account.
I. All of Incomnet's Board members, including Schwartz read and reviewed the ITP before signing it. At the time they signed the ITP, Schwartz knew or should have known that the ITP contained some false or misleading statements. Schwartz did not inquire of counsel as to why they were asked to sign the ITP or how the ITP would be used.
Incomnet's Additional Public Statements Regarding Its August 1995 Form 8-K
J. On September 6, 1995, Incomnet issued a press release prepared by counsel which stated that the Kaliber transactions were disclosed to and approved by Incomnet's Board of Directors. The press release also stated that the Incomnet stock purchases (in the Kaliber Account) were effected pursuant to the limitations of Rule 10b-18 promulgated under the Exchange Act and that sales of stock were made solely to maintain sufficient liquidity to permit additional stabilizing purchases under Rule 10b-18.2 Some of Schwartz' or Kaliber's stock purchases did not, however, comply with the limitations of Rule 10b-18.
K. On November 14, 1995, Incomnet filed a Form 10-Q with the Commission, which among other things, stated that "[o]n August 18 [sic], 1995, the company filed a Form 8-K disclosing the tender of short swing profits to the Company by its President and Chairman pursuant to Section 16(b) of the Securities Exchange Act of 1934, as amended." Incomnet's Form 10-Q, which Incomnet's Former CEO signed, never disclosed that some of the information contained in the August 1995 Form 8-K was false or materially misleading.
L. Incomnet filed the Form 8-K regarding Incomnet's Former CEO's trading on August 28, 1995, which became available to the public shortly thereafter. On September 1, 1995, Incomnet's shares opened for trading on NASDAQ at $15.37 a share. From September 1 through September 7, several news articles were published regarding Incomnet's Former CEO's trades in the Kaliber Account and Incomnet's August 1995 Form 8-K. On September 7, Incomnet's shares closed at $9.25, down a total of $6.10.
Schwartz Caused Incomnet's Violations of Sections 10(b) and 13(a) of the Exchange Act and Rules 10b-5, 12b-20, 13a-11, and 13a-13 Thereunder Relating to Incomnet's August 1995 Form 8-K
M. Under Section 21C of the Exchange Act, the Commission, upon finding a violation of a provision of the Exchange Act has occurred, can order a person who was a cause of the violation to cease and desist from causing the violation and any future violation. The Commission must prove that the person knew or should have known that such person's inaction would contribute to the violation. In the Matter of Carole L. Haynes, 60 S.E.C. Docket 2294, 2341 (Nov. 24, 1995) ("should have known" language in Section 21C sets forth negligence standard).
N. When information comes to the attention of directors indicating that the corporation's management may have engaged in fraud or that the corporation's prior public statements may be inaccurate, corporate directors have a duty under the federal securities laws to oversee the corporation's financial reporting process and to ensure the integrity and completeness of public statements made by the corporation. See Report of Investigation in the Matter of the Cooper Companies, Inc. as it Relates to the Conduct of Cooper's Board of Directors, Exchange Act Rel. No.34-35082 (Dec. 12, 1994); Report of Investigation in the Matter of National Telephone Co., Exchange Act Rel. No. 34-14380 (Jan. 16,1978). To fulfill this duty, outside directors must maintain a general familiarity with the corporation's public disclosures and accounting practices and investigate "red flags" that come to their attention indicating that the corporation's public disclosures may be false or misleading. See National Telephone Co., Exchange Act Rel. No. 34-14380 (Jan. 16, 1978); Report of the Investigation in the Matter of Stirling Homex Corp., Exchange Act Rel. No. 34-11516 (July 2, 1975). As a result, outside directors cannot blindly rely on management to make all disclosure decisions. See National Telephone Co., Inc., Exchange Act Rel. No. 34-14380 (Jan. 16, 1978).
O. Schwartz and the other directors failed to establish procedures reasonably designed to ensure the accuracy of Incomnet's public statements.
P. Schwartz by signing a corporate document which she knew contained some false or misleading statements and thereby making the procedures instituted to ensure the accuracy of Incomnet's public statements ineffective, caused Incomnet to violate Sections 10(b) and 13(a) of the Exchange Act and Rules 10b-5, 12b-20, 13a-11 and 13a-13 thereunder when it filed the August 1995 Form 8-K.
IV.
Based on the foregoing, the Commission deems it appropriate to accept the Offer submitted by Schwartz. Accordingly, IT IS HEREBY ORDERED that:
Schwartz cease and desist from committing or causing any violations or any future violations of Section 10(b) of the Exchange Act and Rule 10b-5 thereunder and from causing any violations or any future violations of Section 13(a) of the Exchange Act and Rules 12b-20, 13a-11 and 13a-13.
By the Commission.
Jonathan G. Katz
Secretary
Footnotes
1 The findings herein are made pursuant to Schwartz's Offer of Settlement and are not binding on any other person or entity named as a respondent in this or any other proceeding.
2 Rule 10b-18 of the Exchange Act provides that, under certain conditions, a publicly held company may purchase its own shares pursuant to a buy back program without being deemed thereby to have violated Sections 9(a)(2) or 10(b) of the Exchange Act or Rule 10b-5 thereunder.