Securities Law Blog

The founders and co-owners of the Miami-based real estate development company Royal West Properties, Inc. have been charged with fraud for conducting a $135 million Ponzi scheme. The Securities and Exchange Commission (SEC) alleges that Gaston E. Cantens and his wife allegedly sold promissory notes to investors after acquiring various properties and later financing their sale.

According to the civil complaint filed by the SEC, the Cantens targeted members of the Cuban-American community. Well-known within the close-knit community, the couple gained the trust of mostly elderly investors whom they met at charitable and religious gatherings, and at events hosted at their Miami home. Mr. Cantens also allegedly used his connections as an alumnus and board member at the Belén Prep School to recruit investors. Outside of their immediate community, investors were attracted by televised commercials broadcast on Spanish-language channels nationwide.

Despite the Cantens not being registered with the SEC under the federal securities laws to make securities offerings to investors, reportedly no questions were asked of the couple that a community regarded as old friends.

In a statement given by Director of the SEC’s Miami Regional Office, Eric I. Bustillo commented on the couples’ recruiting tactics, saying that “They portrayed themselves as a pious couple closely involved with educational and religious organizations, while in reality they were living lavishly off money from defrauded investors.”

Along with allegedly using investor money to repay earlier investors, the SEC also contends that the Cantens misappropriated more than $20 million to fund personal business ventures, pay themselves high salaries, and allocated an estimated $1 million to their children and grandchildren citing “consulting fees”.

The Cantens allegedly made promises to investors of high annual returns of 9 to 16 percent. Investors were told the money would come from mortgages on land in southwest Florida sold by Royal West. The SEC claims that the Cantens made “numerous material misrepresentations and omissions about the safety and security of investors’ principal and returns, the success of Royal West’s business, the source of purported investment returns, and the use of investor funds.” The South Florida couple is charged with violating the securities registration and antifraud provisions of the federal securities laws. The SEC is seeking permanent injunctions, sworn accountings, disgorgement of ill-gotten gains and financial penalties against the Cantens.

The company that was started in 1982 allegedly began showing operating losses by 2002 when property owners began defaulting on their mortgages, but continued to promote their business as financially sound in order to attract new investors. The couple allegedly began using new investor funds to make principal and interest payments to earlier investors. When Royal West went bankrupt last year and ceased making interest payments, rumors began about the mismanagement of the real estate development company.

Following the charges issued March 3, 2010, the couple released a statement denying the SEC’s claims. Instead they cited the collapse of the real estate market as the cause of their company’s financial problems.

Another brick in the Madoff scam crumbles under further investigation by the Securities and Exchange Commission (SEC). On February 25, 2010, the former Director of Operations at Bernard L. Madoff Investment Securities, LLC (BMIS), Daniel Bonventre, was charged for his involvement in the multi-billion dollar fraud.

At BMIS, Bonventre oversaw the firm’s accounting and securities clearing functions for about the last thirty years. The SEC’s complaint, filed in the U.S. District Court for the Southern District of New York, made several allegations about Bonventre’s role in the scam.

According to the SEC complaint, Bonventre allegedly falsified financial reports to investors to avoid disclosing the firm’s massive liabilities. BMIS financial reports were allegedly doctored by Bonventre to inappropriately state how investor funds were being used and maintained.

The SEC alleges that Bonventre was aware that billions of investor funds were not being used to purchase securities on behalf of investors, and worked alongside Madoff and others to disguise the information. When BMIS came under review, Bonventre and others allegedly produced reams of false reports and data filled with “serial misrepresentations.”

George S. Canellos, Director of the SEC’s Regional New York Office said, “A fraud of this magnitude requires a coordinated effort. Bonventre played an essential part by creating bogus financial records to give BMIS the appearance of legitimacy, when in fact the firm lost money and could not have survived without the fraud.”

To hide that BMIS was consistently operating at a significant loss, the firm allegedly used over $750 million in investor funds to artificially improve reported revenue and income.

Finally the SEC alleges that the former Director of Operations made an estimated $1.9 million in illicit personal profits through fake backdated trades in his own investor accounts at BMIS. One such trade was backdated by twelve years.

If convicted on all charges, Bonventre, 63, faces up to 77 years in prison. The SEC is also seeking to impose financial penalties and disgorgement of all ill-gotten gains.
The charges against Bonventre mark the SEC’s seventh enforcement action concerning the Madoff scam since its collapse in December 2008. Previous actions where parties have pleaded guilty to criminal charges include Madoff and BMIS, DiPascali, and auditors David G. Friehling and David G. Friehling & Horowitz CPAs, P.C. Certain feeder funds have also been charged with committing securities fraud, and two computer programmers at Madoff’s firm were charged for their role in concealing the scheme.

The Securities and Exchange Commission (SEC) charged State Street Bank and Trust Company on February 4, 2010 with misleading its investors in the Limited Duration Bond Fund. State Street created The Limited Duration Bond Fund (the “Fund”) in February 2002, and marketed it to investors as an alternative to a money market fund, claiming to have better sector diversification.

In 2006 and early 2007, State Street increased the investors’ exposure to subprime mortgages, while investors remained unaware of the extent to which their investments were tied to the money-losing loans. The Fund continued to be marketed to prospective investors without disclosing the extent of the fund’s concentration in subprime investments, according to the SEC complaint.

When the market meltdown began happening in July 2007, State Street provided selected investors with more complete information about the Fund, while allegedly keeping others in the dark. The informed investors are said to include clients of State Street’s internal advisory groups, who paid more for consulting services. According to the Complaint, these investors were informed by late July to exit the fund, while others were encouraged to stay and continue to invest. State Street began selling the fund’s most liquid holdings in order to meet the redemption demands of the more informed investors. The Fund was left with mostly illiquid holdings and cost investors millions of dollars.

Neither admitting or denying guilt, State Street agreed to settle the SEC’s charges by paying $313 million to allegedly misled investors who lost money during the meltdown. Making up the $313 million is a $50 million penalty, $8.3 million in disgorgement and prejudgment interest, and $255 million to investors. Prior to the SEC’s recent charges, State Street has already agreed to pay nearly $350 million to settle private lawsuits.

Increasing numbers of complaints from investors concerning sales of private placements has brought more cases against brokerage firms involved in selling private placement or Regulation D offerings. The representatives marketing these offerings are also being singled out by defrauded investors.

In the U.S. District Court in Boise, Idaho, a group of investors have filed a lawsuit against their adviser, Bradley Hofhines, and his firm, Summit Retirement Advisers LLC. The claimants allege that Hofhines failed to disclose that returns from investments in Provident Royalties LLC securities were not in fact profits generated by investments in oil and gas properties but instead were a Ponzi-esque mixture of investor funds and proceeds of later offerings.

The lawsuit also names affiliates of Hofhines, including Securities America Inc., the firm’s broker-dealer, as well as Ameriprise Financial Inc., which owns Securities America Inc. The broker-dealer and its parent company could be liable for failure to supervise the representative. While the degree of participation of each party has yet to be uncovered, Securities America has been named in two other lawsuits related to private placements gone askew.

In Hofhine’s statement, he claimed to have done the right thing when selling the Provident shares.

“I will say that I sold the product properly, given the information I had and the due diligence that was performed on this company,” Hofhine stated. “I certainly had no way of predicting or uncovering the alleged intentional fraud at Provident, nor how the economic collapse has magnified the problems.”

Another major bump in the road for Hofhine and Securities America is that they allegedly sold Provident securities to more than 35 non-accredited investors. Typically most investors who buy private placements or ‘Reg D’ offerings must be considered ‘accredited’; individuals with more than $1 million in assets.

Securities America’s executive vice president and chief marketing officer, Janine Wertheim, commented by saying “Each private-placement transaction of this type is reviewed on an individual basis to determine accredited investor status and requires evidence of eligibility to purchase the product.”

Now less than two months later, Securities America finds itself in more hot water, this time with the Massachusetts Securities Division.

The complaint charges that the broker-dealer misled investors when it sold them private-placement securities. It alleges that when it sold promissory notes issued by Medical Capital Holdings Inc. as private placement securities totaling $697 million, Securities America made “material omissions and misleading statements”. The broker-dealer is also said to have disregarded due-diligence recommendations to share financial information with investors.

Securities America sold 37% of the estimated $1.7 billion in notes from 2003 to 2009 issued by Med Cap. More than 60 Massachusetts investors bought approximately $7.2 million of the notes sold by Securities America, according to the Securities Division.

The Massachusetts Securities Division is seeking a cease and desist order and an administrative fine against Securities America, as well as restitution for all Massachusetts investors who bought the notes.

This case comes at a time when the Financial Industry Regulatory Authority (FINRA) is stepping up its efforts to investigate more and more allegations of misconduct arising from the sale of ‘Reg D’ private placements.

James Shorris, executive vice president and executive director of enforcement at FINRA, stated that the industry regulator will be continuing to focus their attentions on whether the brokers made any misrepresentations during a sale, whether they performed due diligence with the products sold, and whether firms adequately supervised sales of the products. FINRA will also be taking into consideration the suitability of the sales made to customers.

The collapse of Bernard Madoff’s estimated $65 billion dollar Ponzi scheme in 2008, was the precursor to the “Year of the Ponzi” in 2009. Defrauded investors saw an estimated $16.5 billion dollars disappear as more than 150 pyramid schemes unraveled, according to the Associated Press analysis of scams in all fifty states. Madoff’s very public decline brought a heightened public awareness and increased scrutiny to Ponzi schemes. But he wasn’t the only securities fraudster who made headlines.

Following the breakdown of Ponzi schemes nationwide, there was a drastic increase in federal securities fraud investigations opened in 2009. The FBI alone increased its securities fraud investigations by 1,750 from 2008. The Securities and Exchange Commission (SEC)’s Ponzi scheme investigations now make up 21 percent of the SEC’s enforcement workload. The Commodity Futures Trading Commission more than doubled its amount of civil actions in Ponzi cases this past year.

In its continuing effort to avoid being burned by another major Ponzi scheme, the SEC is developing new investigative units to improve its enforcement. A major focus will be to encourage companies and individuals to cooperate more closely in providing information, and to better analyze tips and complaints the SEC receives. The cooperation efforts will include similar incentives that have been used by the Justice Department in its criminal investigations. Included in these incentives will be written cooperation agreements under which SEC attorneys recommend leniency for parties providing information in their proposals to the SEC commissioners.

With the surge of federal fraud investigations in 2009 and those that date back to the credit crisis in 2007, an increase in federal prosecutions of financial crimes is expected to follow in 2010.