Securities fraud (alleged) on the blockchain

 

The word of the day is penumbra, which is the lighter outside part of a shadow. Litigation can have penumbras (penumbrae?) too: things that happen as a ripple impact of one market into another. Thus with crypto litigation there are direct ICO securities fraud and failure to register cases, which get most of the attention.  On the other hand, in the outer shadow, we are starting to see ancillary securities litigation.  In these cases, a couple of which have been filed, someone (allegedly) used blockchain as sugar for potential investors, and it turned out the stock wasn’t so sweet after all (and maybe not so much blockchain either).

 

I mean, of course you'd expect a lawsuit or two if your stock loses almost all of its value after you admit that your revenues were significantly overstated for several quarters and capital markets won't return your calls. Add a blockchain to the mix, and maybe it's even more expected. I'm referring to a lawsuit -- a putative class action -- filed Wednesday of this week in New York federal court against a company called Pareteum Corporation and its senior executives, all of whom plaintiff says violated the anti-fraud prohibitions of the Securities Exchange Act.

 

A well-drafted lawsuit draws you in with prose and this one doesn't disappoint. According to the Complaint, "[t]he Company traces its origins to Elephant Talk Communications, a languishing company on the brink of failure. Following the introduction of a new management regime led by CEO and Chairman Turner, the Company was re-branded as 'Pareteum' and as Global Cloud Communications Platform.'"

 

Plaintiffs allege that the company increased its market capitalization quickly over a three year period with press releases and social media posts promoting new customers and business and a "36 month contract revenue backlog" worth $900 million. This was all (allegedly -- it's all alleged, ok?) hokum, though, and revenue was vastly overstated and contracts were fake, or with companies "so small they had no chance of ever satisfying the value Defendants assigned to their contracts." Once analysts realized this the stock dropped significantly, and that's why the plaintiff here is filing suit.

 

The period that the class action covers is directly tied to its claimed use of blockchain technology:

 

The Class Period starts on December 26, 2017, the day Defendants began a promotion campaign of the Company’s purported involvement in the “blockchain” industry in an effort cash in on the blockchain craze. In particular, on December 26, 2017, the Company issued a press release entitled, “Pareteum Adds Blockchain Settlement for Cryptocurrency to Its Global Cloud Platform,” wherein the Company proclaimed that “Smart City, Mobile Virtual Network Operators and Internet of Things Service Providers now Able to Exchange Digital Currency and Subsidize Service.”

 

I'm not saying there's a direct correlation between the words Blockchain, Global Cloud, Smart City, MVNO IoT and "Exchange Digital Currency" all being in a press release and an alleged multi-year revenue misstatement scam but, well, that sure was some legit jargon salad.  

Actually, wait, here's an even better one:

 

On February 6, 2018, the Company issued a press release entitled, “Pareteum Publishes Blockchain White Paper Defining Opportunities in the Mobile Market: Extending our SaaS Platform with Blockchain Technology.” In the press release, Ali Davachi, Chief Technology Officer commented, “Pareteum is focused on delivering enabling technology to all of its partners. The TEUM Blockchain (TBC) will revolutionize how our customers leverage Blockchain technology. Enabling our SaaS platform with identity management, transaction settlements and payment solutions greatly expands the opportunity for our customers.” Similarly, Defendant Turner is quoted as stating, “The Digital Economy, and its monetization, requires trust, identity and device, identification, for the dependable completion of transactions. These transactions may be payment system, financial, or application and content focused. Pareteum’s support of an enabling Blockchain powered solution assures that our communications service provider customers, and, their retail, enterprise, and IoT customers, are provided the highest available, GDPR compliant, security and payment systems solutions. In conjunction with our partner, AirFox, Pareteum’s cloud platform will also service its customers by capturing new revenue streams in the telecommunications and IoT markets. Our cloud-based solution will enable the deployment of Blockchain services, delivered for our customers anywhere in the world.”

 

Ohhhh ... GDPR compliant too? Of course. And let me just say that anytime someone says in a press release that they are going to leverage anything I look nervously for my wallet and make sure I have it secured. It turns out (if the allegations are to be believed) that:

 

While Pareteum management heavily promoted the Company’s blockchain business in several press releases, in truth, the Company was not involved in any blockchain transactions and none of the Company’s services that had been launched accepted crypto currency for payment. The Company generated no revenue from customers utilizing Pareteum’s platfoms for blockchain-related services and the Company had no plan to do so in the future. Indeed, the Company had no plans to no plans to engage in any crypto currency mining, had no plans to create their own digital currency and had no plans to act as a verification service for digital currency.

 

Anyway, after a series of reports on the company were issued -- questioning its numbers and reporting -- the stock price dropped from $3.39 on June 17 to $0.30 as of Oct. 22, the day before this lawsuit was filed. 

 

Obviously much has to be sorted out still -- the lawsuit was just filed and although analysts appear to be saying prolly get out now, we don't know how the defendants will respond. Still, I'm going to give you my top line heuristic analysis right here, right now -- any company that claims to have experienced meteoric growth in a short period of time and that name checks more than 1 or 2 buzz-wordy-sounding-new-technologies needs some serious scrutinizification before I put a penny into it. This case is a, err, case in point.

 

pareteum complaint by Anonymous XdelME on Scribd