Comp 22138
Comp 22138
Comp 22138
COMPLAINT
Plaintiff, the United States Securities and Exchange Commission (the "Commission" or
"SEC"), alleges the following against Defendants Koss Corporation ("Koss" or "the Company")
SUMMARY
statements, books and records, and lack of adequate internal controls from fiscal years 2005
through 2009. During this period, Sujata Sachdeva ("Sachdeva"), Koss's former Principal
Accounting Officer, Secretary and Vice-President of Finance, and Julie Mulvaney ("Mulvaney"),
Sachdeva's embezzlement of over $30 million from Koss. To carry out their fraud, Sachdeva
and Mulvaney took advantage ofKoss's inadequate internal controls and failures in overseeing
the accounting and financial reporting functions by MJK in his roles as Koss's Chief Executive
Officer and Chief Financial Officer ("CFO"). As a result, Koss in its interim and annual
financial statements materially misstated its income, overstated its assets and understated its
numerous fraudulent wire transfers, cashier's checks and petty cash withdrawals, most of which
Sachdeva spent on lavish shopping sprees. The yearly amounts stolen were significant relative to
Koss's sales and shareholders' equity. For example, during fiscal year 2009,Sachdeva stole
approximately $8.5 million, while Koss reported total sales of approximately $41.7 million and
Koss's financial records in part because Koss and MJK did not adequately maintain internal
4. Based on the fraudulent accounting books and records prepared by Sachdeva and
Mulvaney, Koss prepared materially inaccurate audited financial statements and filed with the
Commission materially inaccurate current, quarterly and annual reports. MJK certified the
accuracy of the materially inaccurate financial statements filed by Koss with the Commission.
5 After discovering the embezzlement, Koss amended and restated its financial
statements for fiscal years 2008 and 2009, and the first quarter of fiscal year 2010 (through
September 2009). Sachdeva subsequently pled guilty to federal wire-fraud charges, and admitted
her multi-million-dollar theft from Koss and the scheme to falsify Koss's accounting books and
records to hide her embezzlement. Sachdeva admitted in her plea agreement that "[t]o conceal
her fraud, Sachdeva made, and directed other Koss employees to make, numerous false entries in
Koss's books and records to make it appear that Sachdeva's fraudulent transfers were legitimate
business transactions." She also consented to the entry of a judgment against her in a civil action
6. This Court has jurisdiction over this action pursuant to Sections 21 (d), 21 (e) and
27 of the Securities Exchange Act of 1934 (the "Exchange Act") [15 U.S.C. §§ 78u(d), 78u(e)
instrumentalities of interstate commerce and/or of the mails in connection with the acts,
8. Certain of the acts, practices and courses of business constituting the violations
THE DEFENDANTS
Wisconsin. Koss designs, manufactures and sells stereo headphones. Koss is an issuer of
securities registered pursuant to Section 12 of the Exchange Act [15 U.S.C. § 781], and its shares
are listed on the NASDAQ stock exchange. Koss's fiscal year runs from July 1 to June 30 ofthe
calendar year. It is a "smaller reporting company" for purposes of periodic reporting under the
Exchange Act.
10. Michael J. Koss is Koss's Chief Executive Officer, Chief Operating Officer,
President and Vice-Chairman of its Board of Directors. He was also CFO during the relevant
period. MJK and members of his family own, directly or indirectly, in excess of70% of the
Company's shares.
and Mulvaney, as well as ajunior accountant and several accounting clerks. Sachdeva and
Mulvaney controlled Koss's financial books and records, prepared Koss's monthly and periodic
financial reports, and submitted the reports to MJK for review. These reports were incorporated
into Koss's quarterly and annual SEC filings, which Sachdeva and MJK both signed.
12. From fiscal year 2005 through the first quarter of fiscal year 2010, Sachdeva stole
more than $30 million from Koss. Sachdeva embezzled the funds through a variety of means,
including fraudulent cashier's checks, fraudulent wire transfers and unauthorized payments from
petty cash.
13. Koss's internal controls policy for accounts payable required MJK to approve all
payments of invoices of $5,000 or more, and required him to review and sign the checks to pay
those invoices. Nonetheless, the internal controls did not prevent Sachdeva and Mulvaney from
ignoring the policy and obtaining cashier's checks to pay for Sachdeva's personal purchases
14. Sachdeva embezzled more than $15 million by authorizing the use of fraudulent
cashier's checks from at least 2005 through December 2009. Mulvaney ordered most of these
cashier's checks. Many of the cashier's checks exceeded $5,000, and some exceeded $100,000.
15. Furthermore, Koss's internal controls policy required the Vice President of
Operations to review appropriate documentation for wire transfers to overseas vendors for
inventory purchases and to approve those wire transfers before Mulvaney processed them.
wire transfers to pay for Sachdeva's personal purchases without seeking or obtaining approval by
16. Sachdeva and Mulvaney made more than $16 million in fraudulent wire
transfers-all to pay Sachdeva's personal charge card bills. Sachdeva, who had the authority to
approve and process wire transfers, authorized Mulvaney to make the fraudulent transfers online.
For example, in October 2009, 17 fraudulent wire transfers totaling $1,509,595 were sent to
satisfy charges made by Sachdeva on her personal charge card. Two of those transfers alone
totaled $1,018,595.
17. None of the fraudulent wire transfers were presented to or reviewed for approval
by the Vice President of Operations or MJK. MJK never verified the actual operation, or
18. Koss had insufficient internal controls over a petty cash account, which Mulvaney
maintained at a balance of $5,000 or less. MJK did not review any petty cash replenishments or
records of the expenses paid from the petty cash fund because he was not required to approve
any payments less than $5,000. As a result, Mulvaney and Sachdeva wrote numerous checks and
19. Sachdeva and Mulvaney used at least three methods to disguise the
embezzlements in Koss's books and records. In some instances, false journal entries reclassified
cash to sales, thereby masking Sachdeva's thefts of cash as reductions in sales. In some
instances, false journal entries were made to eliminate sales and reduce cash balances. In other
instances, false journal entries decreased both accrued liabilities and Koss's bank account
balance. Finally, false entries increased Koss's bank account balance and the costs of goods sold
balance in check with the false journal entries reducing sales and increasing the costs of goods
sold.
20. Sachdeva and Mulvaney entered the false journal entries without any supporting
documentation for the transactions, as was required by Koss's internal controls for legitimate
transactions. These numerous false entries went undetected in part because of ineffective
internal controls, including MJK's failure to review adjusting entries and to verify that
21. Koss has recognized that its internal accounting and disclosure controls were
°
deficient. On June 30, 2010, Koss filed a Form 1 KIA with the Commission that included its
restated financial statements for the fiscal years ended June 30, 2008 and June 30, 2009, and the
periods ended September 30, 2009, December 31,2009 and March 31, 2010. In its Form 10-
KIA, Koss stated "[t]he Company's internal control over financial reporting failed to timely
detect and prevent the unauthorized transactions .... The Company's internal controls as of June
30,2009 were not effective in that they failed to timely detect and prevent the circumvention of
the internal controls and procedures relating to the unauthorized transactions." Specific internal
Segregation of Duties
22. Due to the limited number of people working in Koss's accounting department,
many critical duties were combined and given to a few employees. A single individual,
Sachdeva, had authority to sign checks; approve and, with Mulvaney's assistance, submit wire
general ledger.
23. Koss did not properly segregate duties or assign someone outside of the
accounting function to provide an independent check and balance on employees' integrity and to
maintain a sufficiently strong control system. Among other things, different employees should
have performed the separate duties of signing checks, processing cash receipts and cash
24. Koss did not regularly perform monthly reconciliations of its bank accounts or
balance sheets.
25. Koss did not have someone outside the accounting department, such as MJK as
the CFO or the Vice President of Operations, review large wire transfers or the recording of
payments on accounts payable when not processed through the accounts payable system.
26. Koss did not adequately periodically review documentation to support the general
journal entries to verify that the corresponding transactions were being executed in accordance
with Koss's accounting policies and recorded as necessary to permit preparation of financial
27. Many account reconciliations were either not prepared or were not maintained as
part ofKoss's records. To the extent that reconciliations were conducted, they were improperly
peiformed by the same persons who initiated or recorded the transactions (i.e. Sachdeva or
fraudulent entries. MJK did not review or verify the existence of reconciliations.
items and did not review or authorize any adjusting journal entries. Support for adjusting entries
29. In his review ofKoss's monthly financial statements, MJK did not inspect the
general ledger detail trial balance (which details all of the posted transactions), significant
journal entries and the reconciliations of all subsidiary ledgers or schedules that supported
significant account balances. MJK did not investigate unusual or infrequent journal entries on a
30. According to its Form 10-KlA, the most significant total dollar amount of
improper journal entries during the relevant period were made to understate sales and overstate
cost of sales. Although monthly analytical procedures were performed, the procedures were not
sufficient to detect unusual relationships between critical items, inconsistency with trends
developed over Koss's operating history, balances which were out ofline with expectations or
31. While Sachdeva provided MJK with reporting certifications for his review, he did
not conduct an adequate review ofKoss's accounting in connection with these certifications.
Safeguarding of Assets
32. Koss's internal controls over cash were inadequate. While Koss's internal
controls policy required MJK to approve invoices of $5,000 or more for payment, its controls did
not prevent Sachdeva and Mulvaney from processing large wire transfers and cashier's checks
outside of the accounts payable system to pay for Sachdeva's personal purchases without seeking
or obtaining MJK's approval. In addition, there was no independent review of the petty cash
mailed, MJK and Sachdeva were each authorized to independently withdraw or transfer funds
33. As a result, Sachdeva, with Mulvaney's assistance, was able both to initiate and
authorize wire transfers ofKoss's funds to her personal creditors totaling approximately $16.3
million, and to order cashier's checks payable to credit card companies and her other designated
Information Systems
34. MJK knew that Koss's computerized accounting system was almost 30 years old
and he twice deferred proposals for a new system. Koss's and MJK's failure to implement and
maintain effective controls over Koss's information systems in part allowed Sachdeva and
35. Because access to the old accounting system could not be locked at the end of the
month, Sachdeva and Mulvaney were able to bypass an internal control requiring MJK to
authorize changes to the monthly books after they were closed. Sachdeva and Mulvaney thus
36. MJK did not properly verify that Koss's accounting systems were secure or
adequately monitored. Koss's computer system did not have an audit trail of usage, so there was
no record of who made entries into the accounting system. Koss did not regularly change the
passwords to access the computers, and accounting department terminals were not locked when
unattended. Koss did not have IT security policies and controls to log and monitor network and
accounting data could be lost or changed, and programs could be tampered with or destroyed.
37. Koss filed with the Commission materially false current, quarterly and annual
reports for fiscal years 2005 through 2009, and for the first quarter of fiscal year 2010, based on
the fraudulent accounting books and records prepared by Sachdeva and Mulvaney.
38. The reports filed by Koss included materially false financial statements. Those
financial statements, in tum, incorporated the fraudulent entries made by Sachdeva and
Mulvaney on Koss's accounting books and records, entries designed to disguise Sachdeva's
multi-million-dollar embezzlement.
39. Among other signatories, MJK signed the annual reports on behalf ofKoss for
fiscal years 2005, 2006, 2007, 2008 and 2009, and signed Koss's quarterly reports during fiscal
years 2005 to 2009, and for the first quarter of fiscal 2010. MJK signed the reports without
40. On December 24,2009, Koss filed a Form 8-K with the Commission. Koss
reported that its Audit Committee had concluded that Koss's "previously issued financial
statements on Forms 10-K for the fiscal years ended June 30, 2006, 2007, 2008 and 2009 and on
Form 10-Q for the three months ended September 30, 2009 should no longer be relied upon
because of the discovery of unauthorized financial transactions." Koss revealed plans to restate
41. On June 30, 2010, Koss filed an amended and restated annual report for fiscal
year 2009 (the" 10-KIA"). Koss' s amended annual report included a restated consolidated
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operations, cash flows and stockholders' equity for those fiscal years.
$31,500,000 ... from fiscal year 2005 through December 2009." Koss reported that the
"volume of these unauthorized transactions increased significantly over time, from $5,099,900 in
2008, to $8,498,434 in 2009, to $10,286,988 from July 1, 2009 until the unauthorized
43. In the 10-KlA, Koss restated its financial statements for fiscal years 2008 and
2009 to account for the embezzled funds. Koss reported the misappropriated funds as operating
expenses, totaling more than $5 million in fiscal year 2008 and more than $8.4 million in fiscal
year 2009. Koss restated its net sales, cost of goods sold,'cash and accounts receivable, and
corrected many other entries on its financial statements for fiscal years 2008 and 2009.
44. In the 10-KlA, Koss also reported that "[v]arious accounting methods and
accounting entries were used to conceal the unauthorized transactions." Among other things,
Koss reported that: (1) "[t]he unauthorized transactions were not properly accounted for as losses
and disclosed as a separate line item;" (2) "[nlet sales were understated in all years because of
journal entries made to conceal certain misappropriations;" (3) "[clost of sales was overstated as
a result [of] journal entries made to conceal certain misappropriations;" (4) "[a]dministrative
misappropriations;" (5) "[a]ccounts receivable was overstated due to delayed posting of cash, as
a method used to conceal certain misappropriations, and failing to provide for an allowance for
certain doubtful accounts that was also used to conceal certain misappropriations;" and (6)
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45. On June 30, 2010, Koss also filed amended and restated quarterly reports for the
first three quarters of fiscal year 2010 (through March 2010). Koss made multiple adjustments to
its financial statements to account for the embezzlement of funds by Sachdeva and the fraudulent
COUNT I
Violations of Section 13(a) of the Exchange Act and
Exchange Act Rules 12b-20, 13a-l, 13a-11 and 13a-13
(Against Koss)
47. Section 13(a), and Rules 13a-l, 13a-ll and 13a-13 thereunder, require issuers of
registered securities to file with the Commission factually accurate annual and quarterly reports
(Form 10-K and Form 10-Q) and certain current information with the Commission (Form 8-K).
Rule 12b-20 further provides that, in addition to the information expressly required to be
included in a statement or report, there shall be added such further material information, if any,
as may be necessary to make the required statements, in light of the circumstances under which
they were made, not mislead. As explained above, Koss filed current, quarterly and annual
reports with the Commission from fiscal year 2005 to fiscal year 2009, and in the first quarter of
48. Koss filed current, quarterly and annual reports that included materially false
financial statements. The inaccurate financial statements, in turn, were based on inaccurate
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2008 and 2009, and amended and restated quarterly reports for· the first three quarters of fiscal
year 2010 (i.e., periods ending September 30,2009, December 31, 2009 and March 31,2010).
Koss explained that prior financial statements should not be relied upon due to material
50. By engaging in the conduct described above, Koss violated Section 13(a) of the
Exchange Act and Rules 12b-20, 13a-l, 13a-ll and 13a-13 thereunder.
COUNT II
Aiding and Abetting Violations of Section 13(a) of the Exchange Act and
Exchange Act Rules 12b-20, 13a-l, 13a-ll and 13a-13
(Against MJK)
provided substantial assistance to Koss in its violations of Section 13(a) of the Exchange Act [15
U.S.c. § 78m(a)] and Exchange Act Rules 12b-20, 13a-l, 13a-ll and 13a-13 [17 C.F.R. §§
240. 12b-20, 240.13a-l, 240.13a-ll and 240. 13a-13], thereby aiding and abetting Koss's
COUNT III
Violations of Sections 13(b)(2)(A) and 13(b)(2)(B) of the Exchange Act
(Against Koss)
54. Section 13(b)(2)(A) of the Exchange Act requires issuers to make and keep
books, records and accounts which, in reasonable detail, accurately and fairly reflect the
transactions and dispositions ofthe issuer's assets. Section 13(b)(2)(B) ofthe Exchange Act
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provide reasonable assurances that, among other things, transactions are recorded as necessary to
permit the preparation of financial statements in conformity with u.s. General Accepted
55. By engaging in the conduct described above, Defendant Koss violated Sections
COUNT IV
Aiding and Abetting Koss's Violation
of Sections 13(b)(2)(A) and 13(b)(2)(B) of the Exchange Act
(Against MJK)
provided substantial assistance to Koss in its failure to keep accurate books, records and
accounts, and in its failure to devise maintain a system of internal accounting controls, thereby
aiding and abetting Koss' s violations of Sections 13(b)(2)(A) and 13(b)(2)(B) of the Exchange
COUNT V
Violations of Exchange Act Rule 13a-14
(Against MJK)
59. As a principal executive officer of Koss, MJK was required to, and did, certify
Koss's annual reports on Form 10-K for the years 2005 to 2009, and quarterly reports on Forms
10-Q for the same period and for the first quarter of2010. Among other things, MJK certified
that: (a) the reports did not contain any untrue statement of material fact or omit to state a
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statements and other financial information included in the report fairly presented in all material
respects Koss's financial condition, results of operations and cash flows. These certifications
60. By engaging in the conduct described above, MJK violated Exchange Act Rule
WHEREFORE, the Commission respectfully requests that this Court enter a final
A. find that Koss and MJK each violated the federal securities laws as alleged in this
Complaint;
13(b)(2)(B) of the Exchange Act [15 U.S.C. §§ 78m(a), 78m(b)(2)(A), 78m(b)(2)(B)] and
Exchange Act Rules 12b-20, 13a-l, 13a-ll and 13a-13 [17 C.F.R. §§ 240.l2b-20, 240.l3a-l,
C. permanently enjoin MJK from violating Exchange Act Rule 13a-14 [17 C.F.R. §
240.13a-14] and from aiding and abetting violations of Sections 13(a), 13(b)(2)(A), and
13(b)(2)(B) of the Exchange Act [15 U.S.C. §§ 78m(a), 78m(b)(2)(A), 78m(b)(2)(B)] and
Exchange Act Rules 12b-20, 13a-l, 13a-ll and 13a-13 [17 C.F.R. §§ 240. 12b-20, 240.13a-l,
D. issue an order directing MJK to reimburse Koss pursuant to Section 304 of the
E. grant such further relief as the Court may deem just and appropriate.
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(k~~.
Andrea R. Wood (IL Bar # 56883)
James A. Davidson (IL Bar # 6206786)
Attorneys for Plaintiff
u.s. Securities and Exchange Commission
175 W. Jackson Blvd., Suite 900
Chicago, Illinois 60604
Telephone: (312) 353-7390
Fax: (312) 353-7398
E-mail: [email protected]
E-mail: [email protected]
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