Louis Joseph Brothers used sales of military-grade electronics to Hong Kong to boost the revenue for his business, then resigned from the company he founded when federal investigators started questioning the sales and the company fell apart.
Brothers walked away from Valley Forge Composite Technologies on Feb. 13, 2013, a week after the company acknowledged the federal probe into the possible sale of military-grade semiconductors to China. The two events plunged Valley Forge's stock into a tailspin and later that year, bankruptcy.
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Now Brothers and his wife, Rosemary Brothers, are free on $500,000 bond each after being arrested Friday. The Union, Kentucky couple is charged with violating International Traffic in Arms Regulations by selling $37 million worth of semiconductors to Hong Kong since 2009. As part of the investigation, federal prosecutors seized bank accounts belonging to the company in 2013 and valued at $1.5 million.
The couple has pleaded not guilty to the charges in U.S. District Court in Covington, Kentucky. They've also denied similar allegations made in a class-action lawsuit in California brought by stockholders. Attorneys for the couple in both cases did not return messages from The Associated Press.
Documents related to the criminal case, including the indictment and filings detailing the seizure of the bank accounts, remained under seal Wednesday morning.
However, civil court records, Securities and Exchange Commission filings and the company's bankruptcy lay out the story of a struggling technology firm that dealt in parts to China to boost profits and allow the majority shareholder to stay in charge.
From its founding in 1996, Valley Forge Composite made momentum wheels — a flywheel used in spacecraft to change their attitude without having to expend fuel.
Valley Forge saw declining revenues from $662,510 in 2004 to $132,000 in 2008, and in two of those years it reported zero revenues. During that time, Valley Forge sought out new ventures, including machinery that could be used to detect weapons in airports and a photonuclear detection system aimed at finding explosives and bio-chemical weapons on cargo ships.
It was during this time, according to stockholders in the civil suit against Brothers and the company, that Brothers faced a choice — raise money through stock sales or find a new revenue stream. Federal prosecutors and the plaintiffs alleged Brothers started selling to China in order to protect its majority share in the company — about 31.25 percent of the stock.
According to SEC filings and court documents, the company's revenues shot up to $3.2 million in 2009 — the year the alleged illegal sales started — $18.6 million in 2010 and $14.9 million in 2011. But, the filings do not mention sales to China. The company publicly explained the jump in revenues by saying the funds came from sales of aerospace products and other mechanical devices, including two orders that produced a gross profit of $2 million.
"The company periodically receives a high profit margin order that exceeds the normal profit percentage of approximately 15 percent," company officials wrote in a release to investors.
The new revenue allowed Brothers to hang on to his majority stockholder position. Brothers told the SEC in a filing on April 11, 2011 that the company took in $18.6 million from sales of "various products" in 2010 to meet capital requirements.
"We anticipate the income from sales of such products will be sufficient to finance our ongoing capital requirements in 2011," the company told the SEC.
An officer with the company told Valley Forge's general counsel in May 2012 about the sales of radiation hardened microelectronic circuits to China and that the sales may be illegal, according to bankruptcy documents.
Eight months later, the U.S. Attorney's Office in Covington seized $1.5 million in the company's bank accounts while a money laundering investigation took place. Two weeks later, the company told stockholders about the investigation. The company did not deny sales to Hong Kong, but said the transactions weren't illegal.
"The company has reason to believe that the vast majority of these exports involved commercial semiconductors that were clearly not subject to control," it stated in the filing.
Brothers, who gave $2,500 to U.S. Sen. Mitch McConnell's re-election campaign as well as donations to other Republican candidates, resigned several executive positions with Valley Forge on Feb. 13, 2013.
"Since the announcement Valley Forge's stock price never recovered and now trades at approximately 3 cents per share," said Vincent Slavens, a San Diego, California-based attorney representing the plaintiffs in the class-action case.
Valley Forge filed for bankruptcy in October, claiming assets between $500,000 and $1 million and liabilities between $1 million and $10 million.
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