CMKM tagged as an egregious violator by SEC lawyers

 

by Lee M. Webb
Canada Stock Watch
June 6, 2005

CMKM Diamonds Inc., a pink sheet play headed by Saskatchewan native Urban Casavant, is an egregious, repeat securities violator that will likely continue to breach its reporting obligations, according to lawyers for the U.S. Securities and Exchange Commission (SEC) enforcement division.

The U.S. regulator's rather unflattering assessment of CMKM is served up in a June 2 brief filed in the wake of a May 10 administrative hearing. According to the SEC's posthearing brief, the public interest would be best served by revoking the registration of CMKM's common stock.

As previously reported by Stockwatch, the SEC suspended trading in CMKM on March 3. Just as the 10-day trading suspension was set to expire, the SEC launched an administrative proceeding against CMKM.

According to the allegations in the March 16 SEC order instituting proceedings (OIP) against CMKM, the company was in breach of its reporting obligations for not filing required annual reports since May 9, 2002, and quarterly reports since Nov. 18, 2002.

On April 11, CMKM filed its response to the OIP. Represented by Donald Stoecklein, CMKM set out nine affirmative defences.

Among other things, the company claimed that the SEC lacked authority to conduct the proceedings; the allegations failed to state a claim upon which sanctions could be rendered; the proposed sanctions were "punitive remedies against individual and indispensable parties who have not had an opportunity for appearance"; and that a proceeding to revoke or suspend CMKM's securities was premature.

According to the SEC's posthearing brief, all nine of CMKM's affirmative defences were "rightly rejected" by the administrative law judge during a prehearing conference call on April 13.

During the April 13 conference call, Mr. Stoecklein argued that the company had no reporting obligations from July of 2003 when it filed a Form 15 to February of 2005 when it filed an amended Form 15.

According to the SEC, while the court suspected that the original Form 15 may have been "fraudulent," Mr. Stoecklein suggested that it had been filed "in good faith and/or on the advice of counsel."

"At the May 10, 2005, hearing, however, CMKM Diamonds offered no evidence regarding the circumstances surrounding the filing of the Form 15 in July 2003 and offered no evidence supporting an advice-of-counsel defense," the SEC states in its June 2 brief.

"To the contrary, substantial evidence developed at the hearing confirms that at the time CMKM Diamonds filed the Form 15, it knew or should have known that the company had more than 300 shareholders of record and thus that the filing was false," the SEC claims.

The U.S. regulator reports that CMKM authorized the issuance of more than 994 million shares to 360 individuals and entities for "field work in Canada" on Jan. 12, 2003. Therefore, the company knew that it had at least 360 shareholders of record as of January of 2003, the regulator claims.

As of July 22, 2003, the day CMKM filed the original Form 15, the company's master shareholder list showed that it had 698 shareholders of record.

According to the SEC, CMKM's transfer agent could not find any record of the company requesting the number of shareholders of record in July of 2003 "and no one affiliated with the transfer agent could recall such an inquiry from the company." Thus, says the regulator, it appears that CMKM took no steps to confirm or verify the number of shareholders before filing the Form 15.

"Compellingly, during the hearing in this matter, CMKM Diamonds' Chief Executive Officer Urban Casavant asserted his Fifth Amendment privilege and declined to answer all questions regarding these specific points on the grounds that truthful answers might incriminate him," the SEC claims in its June 2 filing.

"Because Mr. Casavant asserted his Fifth Amendment privilege in this civil proceeding, this Court may draw the adverse inference that his answers would have been damaging to him and thus to CMKM Diamonds," the SEC continues.

The U.S. regulator goes on to argue that throughout 2004, "at the same time that the company now claims it thought it did not have to file periodic reports," Mr. Casavant repeatedly assured his investors and business partner that the company was close to being reporting, that reporting efforts were "a little ahead of schedule" and that the company would be fully reporting "very shortly." Similar claims were made in a series of news releases.

"CMKM Diamonds' recent assertions that the company believed it had no reporting obligations are difficult, if not impossible, to square with its statements throughout 2004 that it was working towards compliance and reporting," the SEC states.

According to the SEC, the relevant Steadman factors counsel in favour of revoking the registration of CMKM's stock.

The so-called Steadman factors are the egregiousness of CMKM's actions; the isolated or recurrent nature of the infraction; the degree of scienter involved; the sincerity of CMKM's assurances against future violations; the company's recognition of the wrongful nature of its conduct; and the likelihood of future violations. The SEC argues that each militates in favour of revocation.

The U.S. regulator claims that CMKM's actions were egregious. The company was clearly aware of its reporting requirements early in 2003 because it filed two forms seeking extensions of time to file its periodic reports, the SEC notes.

"Moreover, in the May 2003 Form 12b-25, the company flatly misrepresented that it was current in its reporting when in fact it had not filed its Form 10-K for the preceding year," the SEC states.

"After repeatedly missing periodic reporting deadlines using Form 12b-25, CMKM Diamonds switched to a new strategy to avoid filing periodic reports: terminate its reporting obligations entirely by filing a fraudulent Form 15," the U.S. regulator claims.

According to the SEC, CMKM "began taking its reporting obligations quasi-seriously" only after it was contacted by the enforcement division in December of 2004.

"CMKM Diamonds' failures to file required reports are recurring, indeed, endemic," the SEC argues, turning to a consideration of the second Steadman factor.

Since Mr. Casavant assumed control of the company in November of 2002, CMKM has not filed a single periodic report. The SEC notes that CMKM is delinquent in filing three annual reports and seven quarterly reports.

"Thus, CMKM Diamonds has violated the federal securities laws on at least ten separate occasions," the SEC claims.

According to the SEC, the evidence indicates that CMKM "clearly acted with scienter in filing a fraudulent Form 15 to avoid its reporting obligations."

"Moreover, the company's repeated statements during 2004 about working towards 'compliance' and efforts to become fully reporting indicate that CMKM Diamonds was keenly aware of its failure to file periodic reports," the SEC argues.

Turning to the fourth Steadman factor, the SEC claims that CMKM's assurances against future violations cannot be trusted.

"Ever since assuming control of CMKM Diamonds, Urban Casavant has been making hollow assurances to the investing public and others that the company was working on preparing financial statements and would be filing shortly," the SEC states.

"All of these statements appear to have been empty promises, as the evidence indicates that during 2003 and 2004, CMKM Diamonds took absolutely no steps to compile auditable financial statements or retain independent auditors," the regulator continues.

According to the SEC, CMKM tried to persuade the court that it has turned over a new leaf and is now dedicated to becoming compliant as soon as possible under the guidance of its new director, Robert Maheu.

"These assurances cannot be trusted," the SEC argues. "The Division does not doubt that Mr. Maheu has only good intentions in this matter, yet the evidence clearly indicates that he lacks a sufficient grasp of the situation and adequate control of the company to ensure prompt compliance.

"Mr. Maheu testified that he did not know whether CMKM Diamonds had any offices; did not know the company's liabilities; did not know the company's assets; did not know how many employees the company had or what kind of work they did; had no background in mining; and that he never disagreed with any decision made by Urban Casavant since he came on the Board.

"Moreover, Mr. Maheu testified that he was under the impression that an audit of CMKM Diamonds financial statements had begun, which is, of course, incorrect.

"Likewise, Mr. Maheu only learned during the hearing in this proceeding that CMKM Diamonds still had not provided its accountants with documents requested three months earlier.

"In short, the Division shares the concern expressed by this Court that CMKM Diamonds may simply be using Mr. Maheu and paying him $40,000 per month in order to 'give some color of legitimacy' to CMKM Diamonds." (All amounts are in U.S. dollars.)

Moving on to the fifth Steadman factor, the SEC claims that CMKM's statements call into question whether the company truly recognizes the wrongfulness of its conduct.

According to the SEC, CMKM still seems prone to making inaccurate statements about the status of the company's financial statements. As an example, the U.S. regulator points to a news release issued in February in which the company claimed that it was working toward completing an audit of its financial statements.

"In fact, however, at that time CMKM Diamonds did not even have -- and still does not have -- financial statements to audit; an audit had not even begun, much less was it nearing completion," the SEC states.

In a footnote to its brief, the SEC pointed to another allegedly inaccurate news release in which CMKM claimed that it had new offices at 5375 Procyon Street in Las Vegas as of March 1. According to the SEC, CMKM's lawyers learned on April 6 that the Procyon address contained only a hot rod shop.

"Instead of correcting the error, however, it appears that the company's counsel thought the company should pretend to 'move in' to the empty warehouse and 'talk to Shawn at the hot rod shop,'" the SEC claims. The regulator adds that almost a week later CMKM was still reporting "the phony Procyon Street address."

The SEC also takes issue with CMKM's public claim that the company first identified the problem with the July, 2003, Form 15 and brought it to the attention of the regulator in February of this year. According to the SEC, the enforcement division had contacted the company about the matter two months earlier.

Among other things, the U.S. regulator also notes that CMKM informed its shareholders that its stock would still trade on the Pink Sheets regardless of the outcome of the proceeding. According to the SEC, in the event of a suspension or revocation, CMKM will not be trading anywhere.

"CMKM Diamonds' ongoing misstatements signal that the company either still does not appreciate the magnitude and potential consequences of its misconduct -- or worse -- wishes to misrepresent them to its shareholders and the investing public," the SEC argues.

Turning to the final Steadman factor, the SEC argues that CMKM's reporting violations are highly likely to continue.

"Evidence developed during the hearing in this matter demonstrates that CMKM Diamonds is not even close to becoming fully compliant in its reporting," the SEC states, going on to claim that the company has barely begun reconstructing three years worth of financial statements.

"Moreover, the auditor retained by CMKM Diamonds in January 2005, Bagell Josephs & Company LLC, has recently terminated its engagement with CMKM Diamonds," the June 2 brief reports.

"The engagement partner, Neil Levine, testified that CMKM Diamonds simply 'isn't a company that [he or his] firm wants to continue to represent," the SEC notes. "Mr. Levine also indicated his distress with the fact that he had not received requested documents from CMKM Diamonds and that he found Urban Casavant's assertion of his Fifth Amendment privilege 'problematic.'

"Thus, CMKM Diamonds currently has no independent auditor to audit its non-existent financial statements."

Under the circumstances, the SEC argues, it is extremely likely that CMKM will continue to violate securities laws by failing to file periodic reports.

Rounding out its approximately 20-page posthearing brief, the SEC argues that the public interest is best served by revoking the registration of CMKM's stock.

"Although CMKM Diamonds has not devoted any meaningful effort towards preparing auditable financial statements in the past three years, it has purportedly engaged in numerous multi-million dollar transactions," the SEC states. "For example, the company allegedly received $3-million from U.S. Canadian Minerals Inc. and $10-million from St. George Metals Inc. in exchange for mineral claims in 2004.

"Unfortunately, the company seems to have no idea where that money went and shareholders have no way of finding out.

"Likewise, it appears that CMKM Diamonds may have issued over $24.6-million worth of stock in 2003, but the company's bookkeeper does not know why.

"And, the company may have acquired $56-million in jade, but cannot definitively explain what happened to that purported asset.

"By failing to file required reports, CMKM Diamonds has been able to operate in shadows and in secret, relieved of the obligation to keep its shareholders, regulators and the investing public apprised of its actual activities or lack thereof."

According to the U.S. regulator, the registration of CMKM's common stock should be revoked because the investing public lacks access to complete and reliable information about the company and, therefore, cannot make informed investment decisions.

"Revocation under these circumstances is a measured and appropriate form of relief, not a draconian remedy," the SEC claims. "The Division acknowledges that revoking the registration of CMKM Diamonds' common stock will substantially limit the ability of CMKM Diamonds shareholders to liquidate their investment in the company.

"However, such liquidation (not to mention CMKM Diamonds insiders' liquidation of their holdings) is only at the expense of potential future investors who cannot make informed decisions about investing in CMKM Diamonds."

The SEC brief goes on to suggest that "if at some point in the future CMKM Diamonds obtains audited financial statements and is prepared to make complete and accurate disclosures of its operations in accordance with federal securities laws, it will be entitled to file a Form 10 and seek to register its stock under the Exchange Act, just like any other company seeking Exchange Act registration status for a class of stock."

In a final footnote to the June 2 posthearing brief, the SEC acknowledges that the administrative law judge has the authority to suspend CMKM's registration for up to 12 months rather than revoke it entirely.

"The Division believes, however, revocation (and not merely suspension) is warranted in light of the egregious nature of CMKM Diamonds' past infractions and the high likelihood of future violations," the SEC argues.

Stockwatch will provide coverage of expected posthearing briefs by CMKM and by an attorney representing approximately 7,000 CMKM shareholders as they become available. Stockwatch will also review the transcript from the May 10 hearing in future articles.

Meanwhile, with trades now being executed at less than one-100th of a penny, CMKM tallied a modest volume of 708.5 million shares on June 6.

The saga continues.

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