SEC Charges Reverse Merger – Shell Brokers, Tiber Creek and James Cassidy

On March 26, 2019, the Securities and Exchange Commission (SEC) announced settled actions against Reverse Merger Shell Brokers, James K. McKillop, attorney James M. Cassidy, and Cassidy’s firm Tiber Creek Corp.  The agency accused both men of acting as unregistered brokers and of failing to file required beneficial ownership forms with Edgar.  While that may sound dull, the case is of interest for several reasons, and in addition illustrates why going public via a reverse merger can turn out to be a poor idea.

We’ve written often about dormant shells and the people who sell them to unwary owners of private companies who want to go public.  Usually the shell vendors we’ve discussed obtain their inventory by petitioning for custodianship of the shell companies they wished to control.  Once custodianship is granted, the custodian is free to inform the transfer agent that he’s in charge.  He can issue himself stock, or a promissory note that converts to stock.  If the shell company is a delinquent SEC registrant, he can terminate registration.  But his main goal is to sell the shell to someone who wants to take his own company public.  Shell vendors always claim their shells are “clean,” but there’s no guarantee of that.  Buyers may discover too late that their new shell has a closet full of skeletons, in the form of a bad history, bad share structure with a series of reverse splits, or toxic and potentially dilutive promissory notes.  If such issues exist, the only way to resolve them is through litigation, which can be expensive and time-consuming. 

McKillop and Cassidy did not sell dormant shells. They created and sold registered blank check companies as a means of going public.  The SEC defines a blank check company as “a development stage company that has no specific business plan or purpose or has indicated its business plan is to engage in a merger or acquisition with an unidentified company or companies, other entity, or person.”  These entities have ongoing reporting obligations to the SEC, and they are, by the SEC’s definition of the term, shell companies:  they have no or nominal assets and no or nominal operations.

Once upon a time, buying a registered shell company was a popular way to go public.  Some attorneys created them as a sideline, and were able to sell them for relatively large sums.  Some could command $300,000 or more for their efforts.  But in 2008, the SEC changed Rules 144 and 145, with consequences for shells that made them far less desirable vehicles for going public.  A shell company that fell behind with its periodic filings could no longer simply deregister its stock voluntarily by filing a Form 15, because that would make it a shell once again.  Rule 144 would not be available until it filed “Form 10 information.”  Form 10 information means a new registration statement; a Form 10 or an S-1.  Until one or the other was filed and became effective, holders of restricted stock would be unable to have the restrictive legends removed so they could sell.  That could make it harder for shell companies, and even former shells, to raise money through exempt offerings. In the wake of the rule change, blank check companies became less popular and less valuable.  The slack was taken up by the increased popularity of unregistered shells.

McKillop and Cassidy’s Early Activities

McKillop, now 59, worked as a broker-dealer at Merrill Lynch for about fifteen months from 1984 to 1986.  What he did subsequently is unclear, but in 1994 he pled guilty to one count of conspiracy to commit mail fraud related to a debt consolidation scheme.  By that time, he was using “James Maserati” as his new and improbable name.  Fortunately, he had his real—and perhaps unblemished—name to return to.  By the late 1990s, he was selling “public shells” through a consulting company called “BKL BrokerLink Capital Research and Communications.”  What’s left of the BKL website suggests it offered many of the same services that would later be offered by McKillop and Cassidy working together:  capital formation, mergers and acquisitions, the sale of shells, private placements, and “the different ways of going public.”  Those were just the “investment banking services”; BKL was also willing to provide all manner of public relations, including faxes to stockbrokers—the internet was not yet firmly established—a national radio show, a national news column, introductions to market makers, and much more.

The page at the website about “going public” explains that McKillop was selling the idea of reverse mergers with “public companies.”  Today, we’d think immediately of dormant shells that still trade, though they’ve been abandoned by their old management.  But blank check companies of the kind described above are not actually public. They’ve filed a registration statement with the SEC, and have assumed the obligation of filing periodic financial reports, but they don’t have ticker symbols and they don’t trade.  For them to do so, the private company owner who buys them will need to find a sponsoring market maker willing to file a Form 211 to bring the company into compliance with SEC Rule 15c2-11, and the 211 will have to be processed by the Financial Industry Regulatory Authority (FINRA).  The market maker will also need to request a ticker from FINRA.

According to the SEC, BKL “derive[d] over 90 percent of its income from introducing private companies to a securities lawyer who takes the companies public via a reverse merger with a public shell.”  McKillop’s activities quickly caught the attention of the SEC, and in December 2000 it issued a cease and desist order to him, alleging he was acting as an unregistered broker.  In it, there’s no mention of Cassidy or any other individual, though it’s clear McKillop was involved with an attorney:

After screening potential purchasers, Respondent referred them to a securities lawyer who created public shells for this purpose. Most of the shells were Delaware corporations with 5,000,000 shares issued and outstanding, with no operating histories, no liabilities and no material assets. Respondent negotiated the prices offered for some of the public shells, ranging from approximately $100,000 to $250,000, plus attorneys fees. Respondent earned one third of the first $100,000 in fees and one half of all amounts over $100,000.

McKillop was censured by the SEC, and fined $10,000.

As we shall see, McKillop and Cassidy were running exactly the same kind of operation nearly 20 years later.  Cassidy, though considerably older than McKillop at 83, had been dealing in blank check companies in the late ‘90s as well.  He created a company called TPG Capital (not to be confused with Texas Pacific Group, a large and legitimate private equity investment firm) and used it to house his new companies.  If TPG had a website, we don’t know its name.

If Cassidy was working with McKillop around the turn of the century, no connection can be shown.  Though the SEC didn’t get to him until June 4, 2001, when it announced a cease and desist order against him and TPG, it may simply be that he took longer than his partner to agree to settle.  The offenses alleged against him are slightly different from those of which McKillop was accused, however, and the companies named in the SEC’s administrative action issued stock to Cassidy only.  So did other blank checks he created around the same time.  The Form 10 he filed for Aterian Corp on June 17, 1999 offers a list of 10.  As far as we know, McKillop was involved in none of them.

Cassidy had run afoul of the SEC by writing registration statements that contained false and misleading statements.  In January 1999, the National Association of Securities Dealers (NASD; now FINRA) issued a new rule for all companies that were quoted on the OTC Bulletin Board (OTCBB), requiring that they must file periodic financial reports with the SEC.  Until that time, not much effort had been made to distinguish Pinks from OTCBB, or delinquent OTCBB issuers from current ones.  But that would all end by June 2000.  All companies that wished to remain on the OTCBB would have to file registration statements or catch up on delinquent filings.

Quick action was required:  the rule was to be phased in over a 12-month period beginning July 1999 in what the NASD described as “alphabetical increments.”  That meant non-compliant companies had to scramble to register, or be delisted to the Pinks. In those days, OTC Markets Group—then called Pink Sheets—hadn’t yet developed its Pink Link trading platform, and its website was sketchy, so reliable information about issuers could be very hard to come by.  A possible solution for companies that wanted to stay on the OTCBB was to arrange a reverse merger with a registered shell.  Cassidy was there to accommodate those companies.  Such mergers were not against the NASD’s rules, as long as they met certain standards:

One means for bulletin board companies to meet the requirements before the deadline was by acquiring registered “blank check” companies and inheriting their status as reporting companies. These newly formed companies were not required to file financial statements until 75 days after they consummated mergers. However, if an acquisition had occurred or was probable when the blank check company filed its registration statement, then the blank check company was required to file the target company’s financial statements at the time of registration.

[Emphasis ours.]

Cassidy violated the securities laws by falsely stating in the financial reports of his shells that they had not engaged in merger negotiations when in fact they had.  The SEC offers several examples.  It describes how Cassidy lied about negotiations that had been ongoing for some time between his Alterian and Gourmet’s Choice Coffee Company:

Aterian’s Form 10-SB registration was effective on August 16, 1999. On October 25, 1999, the Respondents provided Gourmet’s Choice Coffee Company, Inc. (“Gourmet’s Choice”), a company whose securities were listed on the bulletin board, with a document entitled “Agreement to Provide a Reporting Company” and a draft of a plan of merger between Aterian and Gourmet’s Choice. On November 2, 1999, the Respondents sent Gourmet’s Choice a draft of a stock-for-stock exchange agreement. On November 3, 1999, Gourmet’s Choice paid a substantial fee to TPG Capital. On November 4, 1999, Aterian filed an Amended Form 10-SB. Cassidy drafted the Amended Form 10-SB and signed it as Aterian’s President and Director. In the Amended Form 10-SB, Aterian falsely stated that Aterian “has not engaged in any negotiations with any specific entity regarding the possibility of a business combination,” and that Aterian “has no current arrangement, agreement or understanding with respect to engaging in a business combination with a specific entity.” On November 22, 1999, Aterian and Gourmet’s Choice executed a reorganization agreement. On November 29, 1999, Aterian and Gourmet’s Choice closed the reverse merger.

That was not the only instance of Cassidy’s material misrepresentation.  The SEC provided a good deal more evidence.  In the end, Cassidy got off lightly, accepting the cease and desist order.  He was not fined or made to pay disgorgement.

McKillop and Cassidy Join Forces

McKillop and Cassidy escaped the SEC’s attention for the next 10 years and more.  Surely neither took the SEC’s cease and desist orders very seriously, since they’d suffered no real consequences as a result of their securities laws violations.  Both lived in Los Angeles, and both dealt in the same kind of shells:  blank check companies registered in Delaware.  McKillop was a salesman and promoter who could bring in customers; Cassidy was an attorney who could create the blank check companies and keep their filings current till they found buyers for them.  They were a perfect fit as partners.

Not long after Cassidy agreed to settle with the SEC, he formed a new company of his own in Delaware.  It was called Tiber Creek Corporation, and it was registered on September 8, 2003.  The name comes from an historical creek—originally called Goose Creek—in Washington D.C.  It now flows underground, but the name survives.  Cassidy studied as an undergraduate at Georgetown University, and so using a local name known mostly to locals must have pleased him.  Tiber Creek the company purported to have its headquarters in Washington, as had TPG Capital before it.  In reality, Cassidy operated out of Newport Beach, Los Angeles, and cross-registered Tiber Creek in California in 2009.  He’s the sole officer and director, and only shareholder, of the company, which would own the shells eventually to be sold.

Tiber Creek had a website called PublicShells.com, and a mirror site called PublicShell.com.  It isn’t clear when the sites were registered because the domain registration records are confusing, but according to the SEC’s complaints against both Cassidy and McKillop, they were the property of Tiber Creek.  Web Archive captures go back as far as March 2000.  The site is a little slicker than McKillop’s old BKL.com, but the information it contains is very similar.  On all its pages, it stresses the advantages and ease of going public by reverse merger:  the speed, the relatively low cost, and more.  The two sites are clearly related, which suggests McKillop contributed to, and perhaps wrote much of, the content of PublicShells.com.  Compare the following passages.

BKL.com (1999):

The private company merges into a public company and obtains the majority of its stock (usually 90% or more).  The private company normally will change the name of the public corporation (often to its own name) and will appoint and elect its management and Board of Directors.

PublicShells.com (2014):

The private company obtains the majority of the shell’s stock (usually 90%).  The private company normally will change the name of the public corporation (often to its own name) and will elect its Board of Directors which will appoint the officers.

While many attorneys who’d spent the 1990s and the first half of the 2000s creating blank check companies threw in the towel when the SEC changed its shell company rules in 2008, Cassidy did not, and neither did McKillop.  The pair had more than just a website.  In its complaint, the SEC explains that they also used search engine optimization (SEO), advertisements, videos, written solicitations, classified ads, and a paid referral network.  When a buyer showed interest, Cassidy would draw up an agreement providing for the transfer of control from Tiber Creek to to him.  The fee for the paperwork and for the shell itself was usually $100,000.  In addition, Cassidy and McKillop usually kept some stock in the issue.

The process could move quickly.  On January 19, 2018, Cassidy filed a Form 10 registration statement for an entity he called Dense Forest Acquisition Corporation.  Correctly, he noted that it was a shell company, adding further on that it was a blank check company searching for a suitor:

Tiber Creek is continually in discussion with various entities who are considering the use of a reporting company as part of the process [of] going public.  In these discussions Tiber Creek will explain the various options of becoming a reporting company including the use [of] an existing public reporting company such as Dense Forest.

The only officers and directors of Dense Forest were Cassidy, who was president and a director, and McKillop, who was vice president and a director.  The company had no other employees.  Each man owned 10 million shares of common stock.  Together, their holdings comprised all of the company’s shares outstanding.  The authorized capital was 100 million shares of commons at $.0001 par value per share, and 20 million shares of preferred stock at $.0001 par value per share.  None of the preferred had been issued.  Neither Cassidy nor McKillop would accept compensation as officers and directors.

Forms 10 become automatically effective 60 days after filing.  In response to queries from the SEC’s Division of Corporation Finance, Dense Forest filed a second amendment to its registration statement on March 7, a week after effectiveness.  That accomplished, it needed only to stay current with its periodic financial reports.

The shell found a buyer quickly.  On March 22, 2018, Tiber Creek and a private company called Global Diversified Holdings, Inc. signed a contract “to effect transactions… intended to combine Global Holdings with a United States reporting company… and for related matters.”  It was a standard agreement used by Tiber Creek with its clients; Dense Forest is nowhere mentioned by name.  As compensation for the transfer of the shell, Tiber Creek would receive $80,000 if paid at signing, or $100,000 if paid in installments.  In return, Cassidy and McKillop would turn their shares over to Global Holdings, except for 500,000, which they would keep.  If Global Holdings chose subsequently to file a registration statement to make an S-1 offering (which Tiber Creek recommended), the partners’ shares would be registered upon its effectiveness.  (Global Holdings, the entity that signed the agreement with Tiber Creek, became a subsidiary of Global Diversified Marketing Group, Inc., the surviving entity in the eventual reverse triangular merger. The new company did file an S-1 in December 2018; the McKillop and Cassidy shares are referenced, but are not set to be registered by the filing.)

For Global Holdings and its other clients, once the initial agreement was signed, Tiber Creek was willing to perform follow-up services.  It’d provide investor relations activity, introductions to investment bankers and broker-dealers.  If the client wanted it, Tiber would prepare registration statements and required periodic filings.  It would also locate a sponsoring market maker willing to file a Form 211 for the client.  That work would, of course, cost extra.

The SEC Actions

Sometime after 2012, the SEC became aware of McKillop and Cassidy’s activities.  They had not forgotten the earlier cease and desist orders, and apparently decided to see whether the two men were playing by the rules.  The agency determined they were not.

McKillop was, according to the complaint, acting as an unregistered broker.  His “compensation was drawn exclusively from the proceeds of Tiber Creek.  When McKillop redeemed his shares in the public shell during the sale transaction, he received no consideration except for the customer’s fee paid to Tiber Creek.”  He was paid as a middleman, not for his stock, and that meant he was acting as an unregistered broker.  (As noted above, the partners typically retained some of the stock issued to them by Tiber Creek; the buyers of the shells agreed to allow them to retain 250,000 shares apiece.  The SEC does not address the question of what became of that stock, and how much, if anything, Cassidy and McKillop made from its eventual sale.)

Acting as an unregistered broker was what the SEC had charged McKillop with in 2000; obviously he’d failed to take the cease and desist order seriously.  Even more stupidly, he failed to file timely Schedules 13G indicating his greater-than-5 percent ownership of the common stock of the blank check companies created by Cassidy.  Schedules 13G must be filed within 45 days of the end of each calendar year.  The SEC says McKillop failed to file those Schedules 13G “[f]or nearly nine years.”  The SEC’s work on the case evidently stretches back a decade, but the order does not address all of the material discovered, as “McKillop entered into a series of tolling agreements that extend the statute of limitations for these violations to cover conduct that has occurred since July 17, 2012.”  He only began filing delinquent reports on Schedule 13G in September 2015, when he became aware of the SEC investigation.

When he did file them, he neglected to report that he jointly owned the public shells with Cassidy, and they were acting as “a group”.  As an officer of the shells, he was also obliged to file Forms 4 when he disposed of nearly all of his 50 percent interest them.  On 69 occasions between 2012 and 2017, he failed to file Forms 4, or Forms 5 if he did not submit the Forms 4 timely.

The SEC had McKillop dead to rights, and without admitting or denying the allegations, he agreed to a consent judgment that required him to pay disgorgement of $117,000 plus interest of $17,697, and a civil penalty of $75,000.  The SEC also applied to enforce the cease and desist order from 2000, and McKillop agreed to be ordered to comply.

James Cassidy and his company Tiber Creek were dealt with in an administrative proceeding.  The SEC alleged that the respondents, like McKillop, had acted as unregistered brokers.  Cassidy, too, had failed to file Schedules 13 more than 45 times.  Again like McKillop, he’d not disclosed his “group participation” in the Schedules 13G he did submit, and had also neglected to file Forms 4.  In the end, Cassidy and Tiber Creek received penny stock bars, and were also barred from association with any broker, dealer, investment adviser, transfer agent, and more.  Perhaps most painful for Cassidy is that he’s been barred from practicing before the Commission, which will limit his ability to continue to work as a securities lawyer.  He received the same monetary penalties as McKillop.

The Takeaway

This was not a small operation.  According to the SEC, since July 2012, Cassidy and McKillop created and sold, or tried to sell, more than 100 public shells.  While the SEC doesn’t reveal how many of the shells found buyers, Tiber Creek must have raked in millions, at $100,000 a pop.  We have no idea how much more Cassidy and McKillop may have made from sales of the relatively small amounts of stock they retained after each shell was turned over to its new owner, or from registration statements filed after the sale, or from investor relations services or introductions to market makers and investment brokers.  If the men have any sense, they’ll simply retire, as they can presumably afford to do.  The monetary sanctions they agreed to shouldn’t send them to the poorhouse.

But what about the companies?  In its complaint, the SEC provides some useful tables with the names of many of them.  Some quick checking suggests that very few are trading today, and “today” is, in many cases, only a couple of years after they changed hands.  Some of the older ones have had their registrations revoked for delinquency.  Many seem never to have managed to get a Form 211 processed by FINRA.  They don’t have ticker symbols, and they’ve never traded.  Some filed S-1s, which would have helped them raise money, but even most of them seem not to have begun to trade.  Global Diversified Marketing, which we discussed earlier, is waiting for the SEC to finish with its S-1 and deem it effective.  And it’s still filed no Form 211, and has no ticker.

Any shell vendor will tell prospective clients that the chief advantage of a reverse merger is that it’s the fastest way to go public.  He may also try to tell them it’s cheaper than other means.  That just isn’t true.  Global Diversified signed its contract with Tiber Creek on March 22, 2018.  More than a year has passed, and it still isn’t trading publicly.  The Dense Forest shell cost $100,000.  The company then paid more to the lawyer—a Cassidy relative—who prepared the S-1, and to the auditor who gave his blessing to the financial reports.

The private company could instead have simply hired a good securities attorney to prepare and file an S-1 as an initial registration statement.  It would then have needed an accountant, and ultimately a sponsoring market maker who’d also apply to FINRA for a ticker.  There’d have been no need to pay $100,000 for a shell:  the SEC-registered company would be created when the S-1 was filed and deemed effective.  That would take perhaps six to eight months.  If the company seeking to go public sold some “friends and family” stock at the beginning of the process, it would probably be up and trading in less than a year.

It would have saved money and avoided involvement with sleazy shell vendors Cassidy and McKillop.  Unfortunately, owners of private businesses often understand very little about the process of going public.  They’d do well to seek advice from competent and experienced professionals who can offer advice that will help them choose the solution best suited to their and their company’s needs.

This securities law blog post is provided as a general informational service to clients and friends of Hamilton & Associates Law Group and should not be construed as, and does not constitute, legal and compliance advice on any specific matter, nor does this message create an attorney-client relationship. Please note that the prior results discussed herein do not guarantee similar outcomes.

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