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From Securities Regulation Daily, December 12, 2013

Court sinks SEC's claims against water company

By Rodney F. Tonkovic, J.D.

A district court found that the SEC failed to meet its burden of proof with respect to any of its causes of action against two officers of a water services company. The Commission claimed that the CEO and CFO of Basin Water, Inc. had engaged in a scheme to record phony revenues from a series of sham transactions. The court found that the transactions were legitimate and that the revenue was properly recognized (SEC v. Jensen, December 10, 2013, Real, M.).

Allegations. The Commission alleged that former CEO Peter Jensen and CFO Thomas C. Tekulve, Jr. improperly recognized revenue on six transactions. The Commission alleged further that Jensen engaged in insider trading by impermissibly trading during a blackout period and trading when he knew that Basin Water's financial statements were fraudulent. A 2008 investigation by Basin Water's audit committee concluded that there was no evidence of fraud in the transactions at issue, but the company restated its financial statements for 2006 and 2007, noting, however, that the transactions at issue were not being restated as a result of fraud.

In an interview, Carolyn Kubota of O'Melveny & Myers LLP, who represented Tekulve, said that the defense believed that this case should never have been brought. The Commission, she said "genuinely believed that the accounting for these transactions was so bad that it was fraudulent per se." But, she added, "You have to have evidence of intent."

Fraud. The court stated that no documentary evidence or witness presented at the trial showed that any of the transactions were shams. The SEC conceded that the transactions were legitimate and argued instead that the defendants knowingly recognized revenues on transactions with "no economic substance" in ways that were misleading or in contravention of GAAP. The court found that the evidence did not support the Commission's position, because revenues were recognized properly on all six transactions in accordance with GAAP, and because all the transactions had economic substance.

The court observed that that Commission's case rested on allegations of improper accountings. However, the only evidence supporting this theory came from the testimony of an expert witness whose testimony the court did not find persuasive since it relied excessively on hindsight. Everyone who examined the transactions at the time they were made, the court said, found the revenue recognitions to be consistent with GAAP. There was no evidence, the court concluded, that either Jensen or Tekulve knowingly or intentionally misled anyone, nor did they act negligently.

The court also found the Commission's insider trading claims against Jensen to be without merit. There was no evidence that Jensen possessed material, non-public information at the time he traded, and he was not subject to the blackout periods because he was no longer with the company at that time.

Reporting violations. Next, the court, having found no fraud or GAAP violations, concluded that no evidence supported the Commissions claims for reporting and recordkeeping violations under Sec. 13. The evidence also showed that Tekulve, who Ms. Kubota described in the interview as "manifestly credible," gave complete and accurate information to Basin Water's auditor. Accordingly, judgment was entered for Jensen and Tekulve on all causes of action.

The case is No. CV 11-5316-R.

Attorneys: John W. Berry for the SEC. David C. Scheper (Scheper Kim and Harris LLP) for Peter L. Jensen. Alec Johnson for (O’Melveny and Myers) for Thomas C. Tekulve, Jr. Brian William Ludeke (Garrett & Tully) for Gale Moore.

Companies: Basin Water, Inc.

MainStory: TopStory FraudManipulation CaliforniaNews Enforcement

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