When the newly hired General Counsel of Canopy Financial, Inc. contacted a friend at KPMG for assistance with a search for a new CFO last month, he discovered the opinion stating the accounting firm had audited the company financial statements was false. In fact, KPMG had never audited the financial statement of the company. The audit opinion had been forged. The SEC did a very quick, efficient and effective investigation. Investors had been lied to in a 2009 private placement which raised $75 million from hedge funds and others, the investigators found. The SEC filed a complaint under seal and then obtained an asset freeze against Canopy Financial and its co-founder Jeremy Blackburn. SEC v. Canopy Financial, Inc., Case No. 09 cv 7429 (N.D. Ill. Filed Nov. 30, 2009). See alsoSEC Press Release, “SEC Obtains Asset Freeze Against Co-Founder of Canopy Financial in $75 Million Offering Fraud” (Dec. 2, 2009).
Canopy Financial is a privately held, Chicago-based entity, which assists its clients with administering and managing their employees’ health savings and flexible spending accounts. Co-defendant Jeremy Blackburn is a co-founder of the company who resigned as COO, President and a board member at the beginning of November 2009.
Prior to a 2009 offering of securities, the defendants began discussions with prospective investors about the private placement. Those investors included Spectrum Equity Investors V, LP, a private equity firm, with clients such as pension plans, private foundations and individual investors. To assess the investment opportunity, Spectrum and others were furnished with certain materials which included:
• Canopy’s 2007 and 2008 audited financial statements. Those statements had an audit opinion which appeared to have been prepared by KPMG.
• Monthly operating reports for February, March, April and May 2009. Those reports listed the total number of clients, projected and actual revenues and expenses and earnings. The April and May reports also listed the current cash balances. A cover letter summarized the current and prospective business of the company.
The materials were false, according to the SEC. KPMG had never audited the company financial statements. The opinion was forged. The data in the monthly reports showing client accounts increasing from about 214,000 in February to over 1 million in May were false. As of June 2009 the company had about 81,600 clients. The cash balances were false. The approximately $8.9 million listed in the materials given to prospective investors was actually about $86,000.
The investors were in the dark about the true facts. The offering went forward. Phase one closed in July 2009 after Spectrum and other investors paid over $63 million for about 8.8 million shares of preferred stock. Phase two closed the next month, raising about $11.9 million from two additional investors for about 1.6 million preferred shares. Mr. Blackburn received about $1.6 million in the offerings by redeeming 250,000 shares of common stock. He also misappropriated about $1.17 million of the proceeds which he deposited into his personal bank account, according to the complaint.
In November, after Mr. Blackburn resigned the newly-employed General Counsel began a job search for a CFO. When he contacted an acquaintance at KPMG for possible candidates he learned that the audit opinion the company had used to solicit investors was forged.
The SEC’s complaint, dated November 30, 2009, alleges violations of Securities Act Section 17(a) and Exchange Act Section 10(b). The U.S. Attorney’s Office and the FBI participated in the investigation which is on-going. The case is in litigation.