Steven V. Cotton

U. S. SECURITIES AND EXCHANGE COMMISSION

Litigation Release No. 21281 / November 4, 2009

Accounting and Auditing Enforcement Release No. 3066 / November 4, 2009

SEC v. Steven V. Cotton, Civil Action No. SA CV-06-905 AG (ANx) (C.D.Cal.)

On September 29, 2009, the Honorable Andrew Guilford, United States District Judge for the Central District of California, entered a Final Judgment against Steven V. Cotton, pursuant to Cotton's Consent. Cotton is the former chief financial officer and chief operating officer of Lantronix, Inc., an Irvine, California technology company. Cotton consented to entry of a permanent injunction, disgorgement of $344,976.98 in ill-gotten gains plus pre-judgment interest of $62,629.03, payment of a $120,000 civil penalty, and imposition of a ten-year officer and director bar.

The Commission's complaint, filed in U.S. District Court in Los Angeles, California, alleged that Cotton, of Huntington Beach, California, orchestrated a scheme to inflate the company's revenues and earnings by deliberately sending excessive product to distributors and granting them undisclosed expanded return rights and unusual extended payment terms (a fraudulent practice known as "channel stuffing"). The complaint further alleged that, as part of the channel stuffing scheme and to prevent imminent product returns, Cotton caused Lantronix to loan funds to a third party to purchase Lantronix product from one of its distributors. According to the complaint, Lantronix, through Cotton, also engaged in other improper revenue recognition practices, including shipping product that had not been ordered and recognizing revenue on a contingent sale.

The complaint alleged that as a result of Cotton's scheme, Lantronix overstated its revenues by up to 21 percent and understated pre-tax losses by up to 98 percent for its second and third quarters of fiscal year 2001, its fiscal year 2001, and the first quarter of fiscal 2002. Lantronix publicly reported its false financials in periodic reports on Form 10-Q and 10-K and in a registration statement for a public offering of stock in July 2001. Lantronix subsequently restated its financial results for the relevant periods.

The complaint further alleged that Cotton made substantial profits from his scheme through bonuses and through the sale of Lantronix stock at artificially inflated prices.

The Commission alleged Cotton violated the antifraud provisions, Section 17(a) of the Securities Act of 1933, Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder; the record-keeping and internal controls provisions, Section 13(b)(5) of the Exchange Act and Rule 13b2-1; and the false statements to auditors provision, Rule 13b2-2 of the Exchange Act. Cotton was also alleged to have aided and abetted Lantronix's violations of the reporting provisions, Section 13(a) of the Exchange Act and Rules 12b-20, 13a-1, and 13a-13 thereunder; the record-keeping provision, Section 13(b)(2)(A) of the Exchange Act; and the internal controls provision, Section 13(b)(2)(B) of the Exchange Act.
Previously, on September 27, 2006, the Commission issued a cease-and-desist order against Lantronix, pursuant to its offer of settlement, ordering it to cease and desist from committing or causing any violations of Section 17(a) of the Securities Act and Sections 10(b), 13(a), 13(b)(2)(A), and 13(b)(2)(B) of the Exchange Act and Rules 10b-5, 12b-20, 13a-1 and 13a-13 thereunder.

For further information see LR-19850, AAER No. 2487 (September 28, 2006); Securities Act Release No. 8745, Exchange Act Release No. 54525, AAER No. 2485 (September 27, 2006); and LR-17799 (October 23, 2002).