CoElco Charged With Fraud in Suit Filed by SEC : Fountain Valley Firm Accused of Securities Violations in Action

CoElco Ltd., the Fountain Valley conglomerate that ended its business acquisition binge 17 months ago with a flurry of lawsuits and bankruptcy, has been charged with fraud and other securities violations by the Securities and Exchange Commission.

After a lengthy investigation that began when trading of CoElco stock was temporarily suspended in April, 1985, the SEC filed a civil lawsuit in Los Angeles district court last week against CoElco, its founder, David D. Sterns, and the company’s accountant, John L. Van Horn.

The eight-count lawsuit asks the court to enjoin the defendants from further violations of the Securities Act and to require the defendants, if possible, to return funds to investors that were raised through misrepresentation.

None of the defendants could be reached Friday for comment.

Among the extensive allegations in the lawsuit, the SEC charges that David Sterns, as president, chief executive officer and chairman of the board of CoElco from approximately February, 1984, to May, 1985, filed statements with the SEC that overvalued CoElco’s assets.

The lawsuit also said that Sterns failed to disclose in SEC documents his ownership interest in approximately 2 million shares of CoElco stock held in the name of a private corporation that he controlled. Nor did he tell potential investors that he had been involved in a bankruptcy within the previous five years, as is required by SEC regulations.

Also, the lawsuit charges that Van Horn issued and signed unqualified audit opinions included in CoElco’s 1984 annual report and other documents at a time when his accountant’s license had been suspended. SEC investigators also said in the lawsuit that the audits were not performed in accordance with other “generally accepted auditing standards.�

Similarly, the lawsuit said that Sterns stated in a CoElco proxy statement that he was a certified public accountant, although his accountant’s license had expired in 1971.

During CoElco’s acquisition splurge--in which it acquired nine Southland companies in exchange for stock--CoElco promulgated “false and misleading� publicity about the acquired firms, SEC investigators said.

“From approximately August, 1984, through April, 1985, press releases were issued by CoElco containing false and misleading statements and omitting material information concerning the acquisitions . . . ,� the lawsuit says.

For instance, SEC investigators said that a CoElco press release in the late summer of 1984 described one of its newly acquired companies, MME Inc., as a profitable company having “annual revenue exceeding $1 million,� although MME’s 1984 tax return showed a net loss of $65,038.

Similarly, the lawsuit said that a press release issued in December, 1984, regarding the acquisition of a company called Synchem, stated that “anticipated 1985 consolidated revenues for Synchem should be in the area of $20 million.� Such an optimistic projection had “no reasonable basis,� SEC investigators said, noting that Synchem’s income statement for the seven months ending Oct. 31, 1984, showed a net operating loss of $115,026.

And the lawsuit complained that a press release announcing the acquisition of McLean Enterprises estimated that McLean would generate revenues “in excess of $2.5 million in the fiscal year ending March, 1986.� It failed to state that for the eleven months ending Jan. 31, 1985, McLean suffered a net loss of $36,053.

The SEC is also charging Sterns with stock ownership disclosure violations. The lawsuit contends that from April, 1984, to the present Sterns has owned more than 5% of CoElco’s stock, though he has not filed that information, as legally required, with the SEC.

Among the stock transactions that Sterns has illegally failed to report to the SEC, the lawsuit declares, is that between “approximately July 9, 1984, and April 18, 1985, Sterns sold, through nominees, approximately 1.5 million shares of CoElco stock in the over-the-counter market, receiving gross proceeds of approximately $600,000.�

Between March and October, 1984, the SEC alleges, Sterns sold approximately 5 million shares of CoElco stock to more than 200 investors without providing any formal written offering materials to them or giving them stock certificates. The lawsuit says that although Sterns advised the investors in a letter that their shares were being held in a trust and could be sold by the investors at any time, such a trust was never established and often when investors requested CoElco to sell their stock, CoElco failed or refused to do so.

Also, the SEC says that from October, 1984, through April, 1985, CoElco and Sterns raised about $1.2 million by selling unregistered convertible promissory notes to about 100 investors. At that time, CoElco and Sterns represented to the investors that the notes would earn interest of about 20% annually, although “there was no reasonable basis for this projected return,� the SEC said. None of the investors realized that high a return, the SEC said, and “most of these investors have received essentially no returns.�

Tom Colthurst, assistant regional administrator for enforcement for the SEC’s Los Angeles office, said investigators haven’t determined how much, if any, money is left to return to investors. He said the SEC is asking the court for an accounting from CoElco and Sterns.

In the midst of the SEC investigation, CoElco in July of 1985 sought protection from creditors under Chapter 11 of the U.S. Bankruptcy Code. At that time, CoElco’s general counsel said that “the number of lawsuits (filed by unhappy entrepreneurs who had sold their companies to CoElco) had become so burdensome it was difficult to sit down and consider business alternatives.�

CoElco ultimately was dismissed from reorganizational bankruptcy when the court decided there was no solution to the company’s financial problems. “There really were not any assets around which to organize the business,� said Gary Gastely, assistant U.S. trustee for Orange County.