SEC charges Canadian hemp company CanaFarma founders with securities fraud

The Securities and Exchange Commission has charged CanaFarma Hemp Products Corp. and its co-founders with fraudulently raising about $15 million from investors, and misappropriating a “significant portion” of the funds for personal use and other unrelated purposes.

CanaFarma CNFA, -12.50%, a small Canadian cannabis company that trades on the Canadian Securities Exchange, announced plans in July to merge with Vertical Wellness, a U.S. company specializing in cannabinoid-based wellness and health products, in a deal that would make Vertical the first house of CBD brands to be publicly traded. The deal has not yet closed.

Smoke Wallin, chairman and chief executive of Vertical, said he and his team were blindsided by the fraud charges, which only came to light when the SEC issued its statement.

“Neither Vertical Wellness nor any of our advisers, attorneys, or those we work with every day, had any prior knowledge about this situation,” he said in a statement. “We hope that CanaFarma can work through these issues and the truth will subsequently come to light.”

Vertical had not completed all of the due diligence on the deal and the company is now evaluating all of its options. “We had done public record checks and nothing showed up that was problematic, but we weren’t done with it,” Wallin told MarketWatch on Wednesday.

Wallin said Vertical will continue to execute its business plan, while mulling its next steps. Supermodel turned entrepreneur Kathy Ireland, who has a line of CBD wellness products that Vertical is expected to launch later this year, remains supportive of the company, he said.

The SEC’s complaint alleges that CanaFarma co-Founders Vitaly Fargesen and Igor Palatnik made misrepresentations to investors, including claims that the company was processing hemp from its own farm, when it was actually using hemp provided by third parties.

The complaint also says financial information given to investors misstated historical revenue and included baseless projections for future revenue. Fargesen and Palatnik misappropriated at least $4 million and used the funds for their personal use and purposes unrelated to CanaFarma, said the SEC.

The SEC complaint was filed in the U.S. District Court for the Southern District of New York, and charges CanaFarma, Fargesen, and Palatnik with violating antifraud provisions of federal securities laws.

“The SEC seeks permanent injunctions, disgorgement and prejudgment interest, and civil penalties against the defendants, and also seeks officer-and-director and penny stock bars against them,” the SEC said in a statement.

Separately, a federal grand jury indictment unsealed Tuesday claims that the pair also made false representations to investors using a fake CEO who did not make business decisions.

“For example, the purported CEO did not have access to the company’s bank accounts or a seat on the Board of Directors, and worked directly for Fargesen and Palatnik, sending emails and signing contracts exclusively at their direction,” it said. The pair also used $100,000 of funds raised from investors as a down-payment for a luxury car, instead of for promised marketing activities, it said.

“Vitaly Fargesen and Igor Palatnik presented themselves as entrepreneurs developing a new business for an emerging industry,” U.S. Attorney Audrey Strauss said in a statement. “But, as alleged, Fargesen and Palatnik were just using the trappings of a startup to run an old-time scam: lying to investors to take money for themselves.”