Tag: SEC

With a name like HeadSpin Inc., you would probably expect nothing less than what has transpired over the past few months with the former Silicon Valley darling and unicorn. According to a Securities and Exchange Commission (SEC) Press Release, in August 2021, the SEC sued Manish Lachwani, the company’s former Chief Executive Officer (CEO), stating he “engaged in a fraudulent scheme to propel HeadSpin’s valuation to over $1 billion by falsely inflating the company’s key financial metrics and doctoring its internal sales records.” Lachwani, “controlled all important aspects of HeadSpin’s financials and sales operations, significantly inflated the value of numerous customer deals and fraudulently treated potential deal amounts that he had discussed with customers as if they were guaranteed future payments.” He created fake invoices and altered genuine invoices to make it appear as though customers had been billed higher amounts.
Lesson No. 1 – (with a nod to Elizabeth Holmes) Don’t Be a Fraudulent Unicorn
All of this was done so Lachwani could garner additional investor monies through Series B and Series C funding rounds which would eventually drive the company’s value over the $1 billion mark so it could obtain magical unicorn status. Lachwani is alleged to have enriched himself by selling $2.5 million of his HeadSpin shares in a fundraising round during which he made misrepresentations to an existing HeadSpin investor. All of this brought the attention of the SEC.
Lesson No. 2 – The Most Important Internal Control is Segregation of Duties
 How could Lachwani get away with such shenanigans in an entity allegedly worth over $1 billion? In addition to lying, cheating, creating fraudulent invoices and other forms of creative financing, he abrogated one of the most basic internal controls in compliance (and finance) – segregation of duties (SODs). According to the SEC Complaint (Lachwani Complaint), “Lachwani was able to carry out his fraudulent scheme for years because he controlled and managed all the key aspects of HeadSpin’s financials and sales operations, and he kept HeadSpin employees in those different departments isolated from each other. For instance, virtually all the information provided to HeadSpin’s bookkeeper, including the supporting documentation for claimed revenue amounts, flowed through Lachwani.”
The Lachwani Complaint specifically noted, “Lachwani dictated the inflated revenue numbers each quarter to HeadSpin’s bookkeeper, who recorded those numbers in the company’s financial statements. He frequently sent the numbers without supporting documentation (like contracts and invoices) notwithstanding the bookkeeper’s regular requests for such backup, and he sometimes sent her fake or altered invoices that he had created, including the three fictional invoices related to Customer 2 and a doctored invoice related to Customer 1.”
Lesson No. 3 – Returning the Money to Those Harmed is Very Significant
 All of this played out last week when Lachwani’s former employer HeadSpin settled a SEC enforcement action via a Complaint (HeadSpin Compliant). What relief did the SEC receive? (It is awaiting Court approval.) The SEC asked for “an order permanently enjoining Defendant from directly or indirectly violating Section 10(b) of the Exchange Act”. There was no request for monetary fine, penalty or profit disgorgement. How did HeadSpin achieve this notable goal? Through its remediation efforts.
The two critical remedial steps were to get rid of the corrupt (now former) CEO Lachwani and to repay investors from the Series B and Series C funding rounds. The HeadSpin Complaint stated, “HeadSpin revised its valuation from approximately $1.1 billion down to approximately $300 million. The company also returned approximately 70% of principal to investors in the Series B and C funding rounds through a recapitalization process. The company further offered to return the remaining funds in the form of promissory notes with one percent interest. Approximately 31 investors chose to retain their HeadSpin stock instead of exchanging for promissory notes.”
This is obviously a step more than profit disgorgement. Here the money was returned to those who invested based upon the fraudulent misrepresentations. Additionally, HeadSpin offered to return money to additional investors beyond the Series B and Series C investors.
Lesson No. 4 – Structural Remedial Measures are Critical
Another set of remedial steps were generally described in the SEC Press Release announcing the HeadSpin resolution. The Press Release note, “HeadSpin’s remedial actions also included hiring new senior management, expanding its board, and instituting processes and procedures designed to ensure transparency and accuracy of deal reporting and associated revenues.” This was phrased slightly differently by HeadSpin, who said in their Press Release, “Upon learning of the alleged actions approximately two years ago, the Company immediately replaced its CEO, strengthened its leadership team, appointed an external auditor and implemented numerous financial and internal controls and corporate governance practices.”
What remediation did HeadSpin engage in which persuaded the SEC not to ask for financial penalties? There are several key actions every compliance professional should study.

1. The Board convened a special committee of independent directors to lead an investigation.
2. The Board (through its investigation) identified the CEO as the person responsible for the illegal conduct and terminated his employment.
3. Additionally, the Board removed key senior management, here the Chief Operating Officer (COO), General Counsel (GC) and Controller who, although not responsible for or a part of the illegal conduct, failed to carry out their responsibilities to prevent such wrongdoing.
4. After this clean sweep, the Board brought in a new management team and retained subject-matter experts to correct prior deficiencies.
5. The Board added new board members with appropriate subject-matter expertise.
6. HeadSpin implemented new internal controls and policies and procedures.

Lesson No. 5 – Creative Lawyerin’ in Remediation Can Pay Big Results
There is one more strand that should be considered from the HeadSpin matter. After the Lisa Monaco speech in October, SEC Chair Gary Gensler announced her remarks are “broadly consistent” with his own view of how to deal with corporate offenders. The HeadSpin enforcement action may offer guidance of how the SEC may implement Gensler’s remarks, through providing creative remedial measures, such as repaying those injured directly. The bottom line is that creative lawyerin’ in the form of aggressive remediation, may get you significant cooperation credit leading to a no fine or penalty resolution.