Two Attorneys, Consultant Prevail in SEC Manipulation Case

Sometimes it pays to persevere. That is clearly the case for two attorneys and a corporate consultant who battled Commission fraud charges for about seven years. Daniel Chapman, Sean Flanagan and James Ericksteen were named along with ten others as defendants in a manipulation action. Nine defendants either defaulted or settled. One lost on summary judgment. Messrs. Chapman, Flanagan and Ericksteen went to trial. Following a seven day bench trial the Court ruled in favor of the three men and against the Commission. SEC v. Exotics.com, Inc., Civil Action No. 2:05-cv-00531 (D. Nev. Filed April 25, 2005). See also Lit. Rel. Nos. 22590 (Jan. 11, 2013)(announcing the trial results); 21519 (May 6, 2010)(announcing summary judgment against auditor L. Rex Anderson on independence and other grounds and summarizing earlier dispositions re other defendants); 19207 (April 28, 2005)(filing of the complaint).

The complaint was brought against the company, a group who held stock in Exotics.com, the outside auditors and accountants and outside attorneys. Exotics.com went public through a reverse merger. Its revenue stream came from operating adult websites. Messrs. Chapman and Flanagan were principals in the law firm of Chapman and Flanagan which did the legal work for the reverse merger.

For a three year period beginning in 1999 there was a manipulation of the share of Exotics.com securities, according to the complaint. During the same period the company engaged in accounting fraud. The Commission also alleged that the individual defendants in the case made material misrepresentations and omissions which included significantly overstating Erotics.com revenue and failing to disclose the controlling interest of one defendant in the company. During the Commission’s investigation attorneys Chapman and Flanagan declined to testify, citing their Fifth Amendment Privilege.

At trial the Commission claimed that Messrs. Chapman and Flanagan located and negotiated the acquisition of the shell which became Exotics.com for the scheme. The SEC attempted to establish that the two attorneys also helped defendant Ingo Mueller conceal his control of the shell while assisting other defendants with the manipulation of the share price of the company, according to the Court’s findings. Mr. Ericksteen, a Canadian citizen, was alleged to have been a consultant to the company who also participated in the fraudulent scheme, according to the complaint.

Following trial the Court found in favor of each of the three defendants. Specifically, the Court concluded in its January 7, 2013 Findings of Fact and Conclusions of Law that: “Having considered the extensive testimony and other evidence presented at trial, and finding credible the testimony of Defendants Chapman and Flanagan regarding their knowledge and actions, the Court concludes that although it may indeed be probable that certain of the several Defendants no longer before the Court may indeed have engaged in a manipulative scheme to artificially increase the stock price of Exotics.com, Inc., and to make it appear as if there was an active market for the stock, and further that certain Defendants may have made material misrepresentations and omissions, including overstating Exotics.com, Inc.’s revenue and failing to disclose Defendant Ingo Muller’s controlling interest in the company, the evidence does not establish by a preponderance of the evidence that Defendants Chapman and Flanagan knowingly did so, or that they knowingly, intentionally or recklessly aided and abetted other Defendants in doing so . . . Based upon the foregoing . . . the Court finds that judgment should be entered in favor of Defendants Ericksteen, Chapman and Flanagan.”