telexfree-logoThe Unites States Trustee program is

a component of the Department of Justice responsible for overseeing the administration of bankruptcy cases and private trustees.

Under the party name “US Trustee”, the DoJ has now filed what is the first major opposition to TelexFree’s bankruptcy proceeding. The DoJ’s motion to appoint a “Chapter 11 trustee” addresses the elephant in the room that is as of yet untackled in TelexFree bankrupty proceeding: That being of course the serious allegations laid out against the company by the SEC and Massachusetts Securities Division.

Both agencies have filed complaints against TelexFree, alleging it to be a pyramid and Ponzi scheme respectively.

Supported by damning evidence against the company, here’s a breakdown of the DoJ’s latest filing.

The Chapter 11 Trustee the DoJ are seeking the appointment of, is an

Individual appointed by the United States Trustee to administer a bankrupt company.

In a nutshell, the DoJ are seeking to take over TelexFree because company

management has lost the confidence of its creditors and investors (and) the appointment of a Chapter 11 trustee would clearly be in the interests of the creditors of this estate.

Of note is that the DoJ’s motion mentions “impending promoter class actions for monetary damages”, which if I’m understanding correctly would pave the way for TelexFree affiliates to sue the company. That’s not typically how we’ve seen large-scale Ponzis play out in court, so it’ll be interesting to watch that play out.

Evidence in support of the DoJ’s motion covers much of what was already revealed in the SEC and Massachusetts’ Securities Division complaints, however it does bring some new information to light.

There is compelling evidence of fraud, dishonesty and gross mismanagement of the affairs of the TelexFree debtor entities, TelexFree, LLC, TelexFree, Inc. and TelexFree Financial, Inc. (collectively, “TelexFree” or the “Debtors”).

There are reasonable grounds to suspect that the members of the governing board who selected the Debtors’ new executives participated in actual fraud, dishonesty and criminal conduct in the management of TelexFree.

First and foremost is the revelation that the new TelexFree compensation plan was brought about in direct response to subpoenas issued by the Massachusetts Securities Division (MSD):

It is clear that the pyramid has collapsed. In response to subpoenas issued by the MSD in January and February, 2014, TelexFree changed its compensation plan so that promoters would now be required to sell its VoIP product in order to qualify for the payments that TelexFree had previously promised to pay them.

The rule change has generated a storm of protests from promoters who cannot recover their money. The change has also caused a precipitous decline in investor revenue which has pushed TelexFree into bankruptcy.

This explains the surreal scenario of affiliates storming TelexFree’s offices, while management hid under their desks and pretended everything was hunky-dory. Despite Steve Labriola’s “the new plan is awesome” webinar calls, and Carlos Costa’s “perfect investment strategy“, the fact of the matter is the new plan killed off new investment into TelexFree.

the Debtors developed a “new” compensation plan for Promoters making it much harder for them to qualify for payments. The new plan, which went into effect March 10, 2014, was called the “Revised Comp Plan.”

It has proven to be very unpopular with Promoters because they actually have to sell the VoIP products in order to get paid. Not surprisingly, the revenues generated under the new plan “have been disappointing” and do not allow the Debtors to meet their obligations.

And with $20 a week still owed to TelexFree’s 700,000 affiliates per position invested in, this lack of new investment funds subsequently triggered your standard Ponzi scheme collapse. But not before TelexFree had taken ‘in approximately $1 billion in revenues in 2013, or approximately $3 million in revenue per day‘.

So, where did all that money go?

Most of it was paid out to TelexFree’s top Ponzi pimps, and those listed as the top 30 creditors on TelexFree’s bankruptcy application.

As for the rest of it…

Part of the reason for the Debtors’ cash flow problems was the diversion of funds to insiders.

Mark Albers, a Forensic Accountant with the SEC in Boston, was asked to review certain documents pertaining to the Debtors’ bank and brokerage accounts, federal wire transfer records and credit card payment processor records. During the course of his review, he found evidence of the following transfers:

a. TelexFree Financial, Inc. received $4,105,000.00 on December 30 and 31, 2013.

b. In December 2013, approximately $14.3 million was transferred to newly created brokerage accounts in the name of TelexFree LLC.

c. Merrill received $3,136,200.00 on December 26 and December 27, 2013.

d. Wanzleler received $7,317,800.00 on December 26 and December 27, 2013.

e. Two companies controlled by Craft received more than $2,010,000.00 between November 19, 2013 and March 14, 2014.

f. Federal wire transfer records show that Wanzeler wired $3.5 million to the Oversea-Chinese Banking Corporation in Singapore on January 2, 2014.

That money is now all frozen, as per the temporary restraining order against TelexFree granted on April 15th.

Summing up their argument for the appointment of a Chapter 11 Trustee, the DoJ write

The United States Trustee requests the Court to order the appointment of Chapter 11 trustee pursuant to 11 U.S.C. § 1104(a)(1). Cause has been established in these cases by the fraudulent and dishonest acts committed by the principals and officers of the Debtors, as detailed herein.

Specifically, Merrill, Wanzeler, Craft, and possibly others have engaged in securities fraud, withheld material information from investors, and improperly diverted millions of dollars of estate property to themselves or their entities, as set forth in the SEC Complaint and Memorandum.

Once cause is established, the Court must order the appointment of a trustee pursuant to section 1104(a)(1).

And given that Chapter 11, Section 1104(a)(1) is as follows,

At any time after the commencement of the case but before confirmation of a plan, on request of a party in interest or the United States trustee, and after notice and a hearing, the court shall order the appointment of a trustee

(1) for cause, including fraud, dishonesty, incompetence, or gross mismanagement of the affairs of the debtor by current management, either before or after the commencement of the case, or similar cause, but not including the number of holders of securities of the debtor or the amount of assets or liabilities of the debtor.

I imagine the court will grant the DoJ’s motion any day now, provided the court find ‘substantial basis in the (SEC’s) facts‘. And when they do, that will be the end of TelexFree’s misguided adventures in bankruptcy court.

Simply put, the bottom line is this:

Given the facts alleged in the SEC Case, TelexFree appears to be engaged in a classic Ponzi scheme.

Ponzi schemes are fraudulent by definition. A Ponzi scheme is a financial fraud that induces investment by promising extremely high, risk-free returns, usually in a short time period, from an allegedly legitimate business venture.

The fraud consists of funneling proceeds received from new investors to previous investors in the guise of profits from the alleged business venture, thereby cultivating an illusion that a legitimate profit-making business opportunity exists and inducing further investment.

Fraud, before or after the filing of a bankruptcy case, is a ground to appoint a trustee.

Looking forward, the DoJ’s motion observes that

most of the first day motions have been continued to May 2, 2014, however, those concerning cash management, payments to employees and to taxing authorities will be moot if the SEC’s TRO becomes a preliminary injunction.

There’s a hearing on April 24th, during which it’s expected the current TRO against TelexFree will be “upgraded” to a permanent injunction. What happens after that remains to be seen.

Finally, just incase anyone was wondering why Stuart Macmillan, TelexFree’s CEO in hiding, wasn’t named in the SEC or Securities Division complaints –

While (on information and belief) there have been no allegations to date regarding the involvement of MacMillan (the new CEO) or Runge (the new CRA) in the Debtors’ Ponzi scheme, neither is there any indication that these interim officers are truly independent of the fraud of “former” management.

The modus operandi of Merrill and Wanzeler and their cohorts suggests that it is more likely than not that anyone handpicked by them to manage their wholly owned companies will be another cohort.

Stay tuned for possible criminal charges later down the track, as regulators reveal more of the sordid details behind the running of the largest MLM Ponzi scheme to date.


Footnote: The full DoJ motion for a Chapter 11 Trustee, filed on April 22nd, can be read over at Kurtzman Carson Consultants’ website.