Last Thursday, a lawsuit seeking class action status was filed against ZAGG INCORPORATED (NASDAQ:ZAGG), certain members of its board of directors, and certain officers of the company. It alleges that they violated federal securities laws by improperly concealing certain stock pledges made by ZAGG's former CEO and Chairman Robert J. Pedersen. Other law firms who specialize in bringing class action lawsuits have announced that they are contemplating filing complaints against ZAGG. (Download the complaint here).
On Friday August 17, 2012 ZAGG issued a press release saying that its co-founder Robert Pedersen resigned from his posts as CEO and Chairman. It did not mention any reason for his resignation. Later that day, Robert Pedersen was interviewed by the Salt Lake Tribune and it reported that "Pedersen said he resigned in order to focus on his family, his church and a family foundation." In addition, Pedersen filed a Form 4 report with the Securities and Exchange Commission. It disclosed that he sold about 515,000 shares at an average price of $8.2214 per share to "meet margin calls" on August 14, just three days before he resigned. Pedersen's sale of stock to meet a margin call was not mentioned in either the ZAGG press release or interview with the Salt Lake Tribune.
On Monday, August 20, 2012, my blog asked "if the timing of his sale of stock had anything to do with his resignation." In addition, I pointed out that on December 21, 2011, Pedersen sold 345,200 shares at an average price of $7.5248 per share "to meet an immediate financial obligation." His Form 4 filing did not mention any margin call even though a margin call is an immediate financial obligation. I suspected that Pedersen's December 2011 sale of stock was also due to a margin call and asked for an explanation in my blog. Furthermore, I reported that a proxy report filed by ZAGG on April 27, 2012, did not mention any pledges of stock by Pedersen. Public companies are required to disclose stock pledges by insiders in proxy reports. Separately, I contacted the Securities and Exchange Commission and asked them to look into this matter.
On Tuesday August 28, 2012, ZAGG held a conference call with investors. ZAGG President and Interim CEO Randy Hales finally admitted that Pedersen's resignation was related to his margin calls. In addition, Hales admitted that Pedersen had a margin call in December 2011 as I had suspected:
…departure was entirely related to the margin calls situation that started last December and unfortunately surfaced again two weeks ago.
On that same day, Robert Pedersen filed a Form 4 report disclosing that on August 24 he sold another 1,250,061 shares and received $8.626 million in gross proceeds to satisfy all of his remaining margin obligations. Despite the margin call issue that led to Pedersen's resignation, ZAGG plans to hire him for one year as an executive consultant.
After the conference call, I asked, "If Pedersen had stock pledges in December 2011 that were still outstanding in August 2012, why weren't they disclosed in ZAGG's April 2012 proxy report as required under S.E.C. rules?"
Class action lawsuit
The class action lawsuit alleges that ZAGG, certain members of its Board of Directors, and certain officers knew that Pedersen had undisclosed stock pledges and margin calls going back to December 2011, but covered them up. According to the complaint:
3. Unbeknownst to the Company's shareholders, a "margin call situation" involving Robert G. Pedersen... began in December 2011, whereby Pedersen borrowed substantial amounts of monies, putting up his Zagg shares as collateral. Although Defendant Pedersen ultimately resigned his post as the Company's Chief Executive Officer ("CEO') due to the "margin call situation," investors were not informed that Defendant Pedersen had pledged his stock until after his resignation over eight months later.
4. On December 21, 2011, Defendant Pedersen sold nearly $2.6 million worth of Zagg stock. However, at that time, shareholders were only informed that Pedersen sold the stock to "meet an immediate financial obligation." In truth, the December 23 stock sale was made to meet a margin call. Moreover, further undisclosed to investors, Pedersen had more than a million additional shares posted as collateral, which were subject to margin calls. Realizing that Pederson had recklessly put his CEO position at risk at the expense of investors, the Company began a succession plan beginning in December 2011 to remove Pedersen as CEO, and to appoint Hales as his successor. This accession plan was purposely hid from investors.
Furthermore, the complaint alleges that the defendant's violated federal securities law by not disclosing Pedersen's stock pledges in the April 27, 2012 proxy report (paragraph 6). In addition, it alleges that former CEO Robert Pedersen and current CFO Brandon O'Brien signed "materially false and/or misleading" Sarbanes-Oxley certifications (paragraph 34 to 40).
According to the Salt Lake Tribune:
Jeff Jones, attorney for Zagg, said Friday that "the claims are without any factual or legal basis, and the company will defend them very vigorously."
ZAGG will probably try to get the complaint dismissed. If the lawsuit survives a motion to dismiss, its officers and directors could face potentially embarrassing pre-trial deposition testimony. Defending a class action lawsuit can be a very costly affair. Even if ZAGG has a current directors and officers' liability insurance policy, it could face more costly coverage in the future. If such litigation moves forward, it could take up a lot of management's attention that could be better used to run the business. I personally believe that if ZAGG and Pedersen had been more transparent about the stock pledges early on, they could have saved themselves a lot of trouble.
Disclosure: I am a convicted felon and a former CPA. As the criminal CFO of Crazy Eddie, I helped my cousin Eddie Antar and other members of his family mastermind one of the largest securities frauds uncovered during the 1980's. I committed my crimes in cold-blood for fun and profit, and simply because I could. If it weren't for the heroic efforts of the FBI, SEC, Postal Inspector's Office, US Attorney's Office, and class action plaintiff's lawyers who investigated, prosecuted, and sued me, I would still be the criminal CFO of Crazy Eddie today.
There is a saying, "It takes one to know one." Today, I work very closely with the FBI, IRS, SEC, Justice Department, and other federal and state law enforcement agencies in training them to identify and catch white-collar criminals. Often, I refer cases to them as an independent whistleblower. I teach white-collar crime classes for various government entities, professional organizations, businesses, and colleges and universities. More recently, I've helped the AICPA Fraud Task Force develop better methods for detecting fraud. I do not want or seek forgiveness from my victims for my vicious crimes. My past sins are unforgivable.
I do not own any ZAGG securities long or short.