The SEC recently charged three former executives of the now-defunct digital pharmacy startup Medly Health Inc. with defrauding investors in a scheme that raised over $170 million. The charges underscore the SEC’s continued focus on corporate malfeasance, particularly within startups seeking capital from investors.

The individuals charged include Medly’s co-founder and former CEO Marg Patel, former CFO Robert Horowitz, and former Head of Rx Operations Chintankumar Bhatt. According to the SEC’s complaint, which was filed in the U.S. District Court for the Eastern District of New York, the fraud involved reporting millions of dollars in fake prescriptions, fraudulently inflating the company’s revenue and misleading investors.

Key Allegations:

• Revenue Inflation: Between February 2021 and August 2022, Patel and Horowitz allegedly overstated Medly's revenue by providing falsified financial information to investors. The SEC claims that Bhatt supported this scheme by entering fake prescription data into the company’s system, inflating the company’s reported revenue.

• Ignored Red Flags: Despite knowing of accounting irregularities and receiving multiple employee complaints about the inaccuracy of the financial statements, Patel and Horowitz allegedly failed to take corrective action.

• Consequences for Investors: This deception resulted in significant harm to investors who relied on the falsified information during capital raising efforts. According to Sheldon L. Pollock, Associate Director of Enforcement at the SEC’s New York Regional Office, the allegations underscore the Commission’s ongoing efforts to combat fraud, particularly in startups raising funds through misleading tactics.

SEC Action:

The SEC’s complaint charges all three executives with violating the antifraud provisions of federal securities laws. Bhatt is further accused of aiding and abetting the violations committed by Patel and Horowitz. The SEC seeks permanent injunctions, civil money penalties, disgorgement of ill-gotten gains, prejudgment interest, and officer-and-director bars against all three individuals.

Insights:

This case serves as a strong reminder of the SEC’s vigilant enforcement approach when it comes to investor protection, particularly in the high-growth startup space. For executives, legal and financial advisors, and investors, this is a stark warning about the risks of overlooking or engaging in improper revenue recognition practices and fraudulent disclosures. Startups, especially those in high-stakes capital-raising environments, must implement robust internal controls and compliance measures to avoid such pitfalls.

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