Former ArthroCare Executive Pleads Guilty in Securities Fraud Scheme

June 4, 2013 — The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) of 2010 set up a Securities and Exchange Commission (SEC) whistleblower program to provide greater efficiency in the agency’s processing of tips from securities industry insiders who learn about schemes to defraud investors or other securities-related crimes. Under the program, whistleblowers who provide the SEC with unique information may be entitled to retain up to thirty percent of the amount recouped by the government based on the tip, so long as the recovery exceeds $1 million.

Texas Executive Defrauds Investors by Falsely Inflating Company Earnings

David Applegate, a former executive of ArthroCare Corp., a Texas medical device company, has pleaded guilty to falsely inflating ArthroCare’s earnings, thereby defrauding the company’s shareholders along with potential investors.

As the senior vice president over ArthroCare’s Spine Division, Applegate and others used several end-of-quarter transactions concerning ArthroCare’s distributors to inflate ArthroCare’s revenue. In addition, in 2007, the alleged co-conspirators caused the company to file a Form 10-K with the SEC that materially misrepresented ArthroCare’s annual and quarterly financial information.

According to the Justice Department, Applegate calculated what products to ship to ArthroCare’s distributors, including DiscoCare Inc. (the company’s largest distributor) based not on actual sales orders, but on ArthroCare’s desire to reach sales forecasts. At the end of a given sales quarter, ArthroCare would ship millions of dollars’ worth of its medical devices to distributors’ warehouses. In its SEC filings, ArthroCare would then describe the product shipments as product sales, making it appear as though the company’s earnings forecasts had been met and inflating earnings by tens of millions of dollars.

DiscoCare, meanwhile, allegedly consented to take possession of $37 million in devices it had not ordered in exchange for generous cash commissions paid up front and favorable payment terms. To hide the fact that DiscoCare had not paid ArthroCare for the unused inventory, ArthroCare — with the knowledge of Applegate — acquired DiscoCare at the end of 2007.

In July 2008 when ArthroCare announced that it would restate several quarters’ worth of financial results, the company’s stock price fell from $40.03 to $23.21 per share, resulting in an immediate $400 million decline in shareholders’ stock value.

Schemes to Defraud Investors Often Reported by Company Insiders

When company insiders learn that someone is defrauding shareholders and investors, they are not powerless. Under the whistleblower program created by the Dodd-Frank Act, conscientious employees have a way to step forward and collaborate with the SEC. Before notifying the government, however, tipsters should take the time to learn their own rights. The whistleblower attorneys at Waters & Kraus know how to safeguard the rights and maximize the interests of brave informants. Contact us by email or phone our securities fraud lawyers at 855.784.0268 to learn more about how we can assist you.

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