SEC brings charges against Connecticut based hedge fund managers

On February 26, 2013, the Securities and Exchange Commission filed a civil injunctive action in the United States District Court for the District of Connecticut against Connecticut-based hedge fund managers David Bryson and Bart Gutekunst (“Gutekunst”) and their advisory firm, New Stream Capital, LLC, (“New Stream”) for lying to investors about the capital structure and financial condition of their hedge fund. New Stream was an unregistered investment adviser based in Ridgefield, Connecticut that managed a $750-plus million hedge fund focused on illiquid investments in asset-based lending. The SEC also charged New Stream Capital (Cayman), Ltd. (“Cayman Adviser”), a Caymanian adviser entity affiliated with New Stream, Richard Pereira (“Pereira”), New Stream’s former CFO, and Tara Bryson, New Stream’s former head of investor relations, for their role in the scheme. Tara Bryson has agreed to a proposed settlement relating to her conduct in this matter. According to the SEC’s complaint, in March 2008, David Bryson and Gutekunst, New Stream’s lead principals and co-owners, decided to revise the fund’s capital structure to placate their largest investor, Gottex Fund Management Ltd. (“Gottex”), by giving Gottex and certain other preferred offshore investors priority over other investors in the event of a liquidation. Gottex had threatened to redeem its investment in the New Stream hedge fund because a wholesale restructuring of the fund just a few months earlier had created two new feeder funds and -- without Gottex’s knowledge -- granted equal liquidation rights to all investors, thereby eliminating the preferential status previously enjoyed by Gottex. Gottex’s investment totaled nearly $300 million at the time. The SEC alleges that, even after revising the capital structure to put Gottex ahead of other fund investors, David Bryson and Gutekunst directed New Stream’s marketing department, led by Tara Bryson, to continue to market the fund as if all investors were on the same footing, fraudulently raising nearly $50 million in new investor funds on the basis of these misrepresentations. The marketing documents failed to disclose the March 2008 revisions to the capital structure to the new investors. In addition, Pereira, New Stream’s CFO, falsified the hedge fund’s operative financial statements to conceal the March 2008 revisions to the capital structure. As further alleged in the complaint, disclosure of the March 2008 changes to the capital structure would have made it far more difficult to continue to raise money through the new feeder funds and would have spurred further redemptions from existing investors in the new feeder funds. As such, disclosure of the March 2008 changes would have adversely affected the defendants’ own pecuniary interests by, among other things, jeopardizing the increased cash flow from a new, lucrative fee structure that they had implemented in the fall of 2007. The defendants also misled investors about the increased level of redemptions after Gottex submitted its massive redemption request in March 2008. When asked by prospective investors about redemption levels, New Stream did not include the Gottex redemption and others that followed. For example, Gutekunst falsely told one investor in June 2008 that there was nothing remarkable about the level of redemptions that New Stream had received and that there were no liquidity concerns. The SEC further alleges that by the end of September 2008, as the U.S. financial crisis worsened, the New Stream hedge fund was facing $545 million in redemption requests, causing it to suspend further redemptions and cease raising new funds. After several attempts at restructuring failed, New Stream and affiliated entities filed Chapter 11 bankruptcy petitions in March 2011. Based on current estimates, the defrauded investors are expected to receive approximately 5 cents on the dollar -- substantially less than half the amount that Gottex and other investors in its preferred class are expected to receive.

Former Mercury Interactive CEO and CFO settle suit

The Securities and Exchange Commission today settled civil fraud charges against Amnon Landan, the former Chairman and Chief Executive Officer of Mercury Interactive, LLC (Mercury), and Douglas Smith, a former Chief Financial Officer of Mercury, arising from an alleged scheme to backdate stock option grants and from other alleged misconduct. On May 31, 2007, the Commission charged Landan, Smith, and two other former senior Mercury officers with perpetrating a fraudulent and deceptive scheme from 1997 to 2005 to award themselves and other Mercury employees undisclosed, secret compensation by backdating stock option grants and failing to record hundreds of millions of dollars of compensation expense. The Commission's complaint also alleges that during this period Landan and certain other executives backdated stock option exercises and made fraudulent disclosures concerning Mercury's "backlog" of sales revenues to manage its reported earnings. Without admitting or denying the allegations in the Commission's complaint, Landan consented to the entry of a final judgment permanently enjoining him from violating and/or aiding and abetting violations of Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5, as well as the financial reporting, record-keeping, internal controls, false statements to auditors, and proxy provisions of the federal securities laws. Landan also agreed to be barred from serving as an officer or director of any public company for five years. Landan will pay $1,252,822 in disgorgement and prejudgment interest, representing the "in-the-money" benefit from his exercise of backdated option grants, and a $1,000,000 civil penalty. Pursuant to Section 304 of the Sarbanes-Oxley Act, Landan will also reimburse Mercury, or the parent company that acquired it after the alleged misconduct (Hewlett-Packard Company), $5,064,678 for cash bonuses and profits from the sale of Mercury stock that he received in 2003. Under the terms of the settlement, Landan's Section 304 reimbursement shall be deemed partially satisfied by his prior return to Mercury of $2,817,500 in vested options. Without admitting or denying the allegations in the Commission's complaint, Smith consented to the entry of a final judgment permanently enjoining him from violating Section 17(a)(2) and (a)(3) of the Securities Act of 1933. He will disgorge $451,200, representing the "in-the-money" benefit from his exercise of backdated option grants, and pay a $100,000 civil penalty. Pursuant to Section 304 of the Sarbanes-Oxley Act, Smith will also reimburse Mercury or its parent company $2,814,687 for profits received from the sale of Mercury stock in 2003 and a cash bonus received for 2003. Under the terms of the settlement, all of Smith's disgorgement and all but $250,000 of his Section 304 reimbursement shall be deemed satisfied by his prior repayment to Mercury of $451,200 and his foregoing of his right to exercise vested options with a value of $2,113,487.

SEC charges fund manager in scheme involving risky mortgage-related investment

The Securities and Exchange Commission today announced charges against an investment fund manager with offices in California and Arizona who is allegedly deceiving investors about the safety and performance of their investments, which involve risky collateralized mortgage obligations (CMOs). The SEC alleges that George Charles Cody Price of La Jolla, Calif., raised $18 million for three investment funds through his firm ABS Manager LLC, and he promised investors that their money was secured by government-backed bonds yielding extraordinary double-digit returns as high as 18 percent per year. Price used the tagline "Your Flight to Safety" in marketing one of those funds. However, Price was actually investing in one the riskiest tranches of CMOs on the market, and the investments failed to achieve the returns that Price promised and sometimes even lost money. Price concealed the actual performance of these risky bonds by providing fake monthly statements to investors that inflated the value of the investments. The SEC further alleges that Price, who regularly co-hosted a radio show in the San Diego area called "The Wealth Weekend Hour" and recommended that listeners invest in one of his funds, also stole a half-million dollars of fund assets in the form of purported fees, and grossly inflated the assets under his management to misrepresent his prominence as an investment manager as he solicited investors. The SEC's complaint charges Price and ABS Manager with violations of Section 10(b) of the Securities Exchange Act of 1934 and Rules 10b-5(a) and (c) thereunder, and Sections 206(1), 206(2), and 206(4) of the Investment Advisers Act of 1940 and Rules 206(4)-8(a) thereunder. Price's three investment funds (ABS Fund, LLC [Arizona], ABS Fund, LLC [California], and Capital Access, LLC) are named as relief defendants along with his company Cavan Private Equity Holdings LLC and his wife's company Lucky Star Events LLC because they hold cash or other assets acquired from the fund assets.

FINRA Orders Pruco Securities to Pay $10.7 Million in Restitution

The Financial Industry Regulatory Authority (FINRA) announced that it has ordered Pruco Securities, LLC of Newark, New Jersey, to pay more than $10.7 million in restitution, plus interest, to customers who placed mutual fund orders with Pruco via facsimile or mail (paper orders) from late 2003 to June 2011 and received an inferior price for their shares. FINRA also fined Pruco $550,000 for its pricing errors and for failing to have an adequate supervisory system and written procedures in this area. Brad Bennett, Executive Vice President and Chief of Enforcement, said, “Pruco’s inadequate supervision and pricing system resulted in thousands of customers receiving inferior prices for more than seven years. Broker-dealers must ensure that their systems provide customers with accurate pricing for all products that the firms offer.” One of Pruco’s retail brokerage business units, COMMAND, instituted a practice for handling mutual fund paper orders that was inconsistent with the pricing requirements of the Investment Company Act of 1940, which requires that mutual fund orders are priced on the day the order is received prior to 4:00 p.m. Instead, from late 2003 to June 2011, COMMAND priced more than 850,000 paper orders, on average, one or two days after it received complete orders prior to 4 p.m. The employees mistakenly believed that they could use “best efforts,” (i.e. up to two business days) to process mutual fund paper orders and that paper orders could be priced on the date the order was processed, even if Pruco received a complete order prior to that date. As a result of these findings, approximately 37,000 accounts for 34,000 customers will receive more than $10.7 million in restitution, plus interest. The firm is in the process of calculating restitution for up to 3,240 additional customers who will receive restitution upon the firm’s completion of its review. The issue was discovered after an inquiry to COMMAND personnel regarding a fax order submitted had not been executed until the day after it was received as a complete order. FINRA also found that Pruco failed to have an adequate supervisory system to detect and prevent the mispricing of paper mutual fund orders and to ensure that customers who submitted paper mutual fund orders received the correct price. Additionally, Pruco failed to have written procedures for the pricing of mutual fund orders, and did not provide its employees with any training or training materials regarding paper mutual fund pricing requirements.

SEC bring suit against Dallas adviser for high-yield investment scheme

The Securities and Exchange Commission today charged a Dallas investment adviser principal with defrauding investors out of $2.3 million in a high-yield investment scheme. The Commission's complaint, filed in Dallas federal court, alleges that Delsa U. Thomas, The D. Christopher Capital Group, LLC ("DCCMG"), and The Solomon Fund LP, lied to investors about the safety and potential returns of the investments. For example, the complaint alleges that Thomas promised that $1 million in investor funds would remain safely invested in U.S. Treasury securities and would yield 650 percent returns in 35 banking days, supposedly from profits in Thomas's high-yield investment program. While Thomas did purchase U.S. Treasury securities, she immediately margined those securities, commingled the margin proceeds with other investor funds, and sent the funds to a foreign intermediary, none of which was disclosed to investors. According to the Commission, Thomas used other investor funds to make Ponzi payments to investors in earlier investment programs she had sold, and for personal expenses. Finally, the complaint alleges that DCCMG was improperly registered with the Commission as an investment adviser, a violation that Thomas aided and abetted. The complaint charges Thomas, DCCMG, and the Solomon Fund with violations of Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder. The complaint also charges Thomas and DCCMG with violating Sections 206(1), (2), and (4) of the Investment Advisers Act of 1940 and Rule 206(4)-8 thereunder. The complaint also alleges that DCCMG violated Section 203A of the Advisers Act and that Thomas aided and abetted this violation. The complaint seeks permanent injunctions, disgorgement of ill-gotten gains plus prejudgment interest and civil penalties against each of the defendants. The SEC's investigation was conducted by Ronda Blair and Barbara Gunn of SEC's Fort Worth Regional Office. The SEC acknowledges the assistance of the U.S. Secret Service, the Ontario Securities Commission, and the Alberta Securities Commission.

U.S. House to consider to big to fail bill

U.S. Representative John Campbell said he plans to offer legislation intended to shrink too-big- to-fail banks by requiring them to hold more capital including long-term debt. Lawmakers and regulators from both parties -- including Federal Reserve Governor Tarullo -- argue that the 2010 Dodd-Frank Act failed to curb the growth of large banks and express support for renewed efforts to limit the kind of systemic risk that fueled the 2008 financial crisis. “Being big is not a problem in and of itself, but being big in a sense that it creates a competitive disadvantage and a systemic problem is a bad thing,” Campbell, a California Republican. Three of the four largest U.S. banks -- JP Morgan, Bank of America Corp. and Wells Fargo & Co. -- are bigger today than they were in 2007, heightening the risk of economic damage if one gets into trouble. Banks typically fund their longer-term assets with short- term debt, making a profit on the interest-rate difference between the two. In a bank failure, stockholders typically are wiped out, and short-term debt can evaporate quickly as creditors refuse to renew commercial paper and short-term notes.