Securities Law Prof Blog

Editor: Eric C. Chaffee
Univ. of Toledo College of Law

Sunday, April 10, 2011

FINRA Imposes Sanctions on Firms & Individuals for Sales of Private Placement Securities without Due Diligence

On April 7 FINRA announced it sanctioned two firms and seven individuals for selling interests in private placements without conducting a reasonable investigation. The companies ultimately failed, resulting in significant investor losses.

FINRA imposed sanctions against the following firms and individuals for failing to conduct a reasonable investigation of the sale of private placements offered by Medical Capital Holdings, Inc. (MedCap) and/or Provident Royalties, LLC.

  • Workman Securities Corp., of MN, was ordered to pay $700,000 in restitution to affected customers.
  • Robert Vollbrecht, Workman's former President, was barred in any principal capacity, and fined $10,000.
  • Timothy Cullum, former Chief Executive Officer, and Steven Burks, former President, of Cullum & Burks Securities, Inc., of Dallas, TX, a now-defunct firm, were each suspended in any principal capacity for six months and fined $10,000.
  • Jeffrey Lindsey and Bradley Wells, two former executives with Capital Financial Services, Inc., of ND, were each suspended for six months in any principal capacity and fined $10,000.
  • Jay Lynn Thacker, former Chief Compliance Officer for Meadowbrook Securities, LLC (fka Investlinc Securities, LLC), of MS, was suspended for six months in any principal capacity and fined $10,000.
  • David William Dube, former Owner, President, Chief Compliance Officer and Anti-Money Laundering (AML) Compliance Officer of (now-defunct) Peak Securities Corporation, of FL, was barred for failing to conduct adequate due diligence, as well as a failure as AML Compliance Officer to detect, investigate and report numerous suspicious transactions in 10 customer accounts where "red flags" existed.

In addition, FINRA fined Askar Corporation, of MN, $45,000 for its failure to conduct due diligence on a private placement from DBSI, Inc., another company that defaulted on its obligations. FINRA found that Askar only reviewed the offering documents and sales materials provided by DBSI before approving the product for sale, without independently verifying DBSI's representations in the offering documents.

FINRA found that broker-dealers who sold the MedCap, Provident and DBSI private placement offerings did not have reasonable grounds to believe that the private placements were suitable for any of their customers. They failed to engage in an adequate investigation of the private placements and failed to establish, maintain and enforce a supervisory system reasonably designed to achieve compliance with applicable securities laws and regulations.  

From 2001 through 2009, MedCap, a medical receivables financing company based in Anaheim, CA, raised approximately $2.2 billion from over 20,000 investors through nine MedCap private placement offerings of promissory notes. MedCap made interest and principal payments on its promissory notes until July 2008, when it began experiencing liquidity problems and stopped making payments on notes sold in two of its earlier offerings. Nevertheless, MedCap proceeded with its last offering, MedCap VI, which it offered through an August 2008 private placement memorandum.

In July 2009, the SEC obtained a preliminary injunction to stop all MedCap sales. The SEC alleged that MedCap and its executives defrauded investors in MedCap VI by misappropriating approximately $18.5 million of investor funds. The court appointed a receiver to gather and conduct an inventory of MedCap's remaining assets. The SEC action is pending.

From September 2006 through January 2009, Provident Asset Management, LLC marketed and sold preferred stock and limited partnership interests in a series of 23 private placements offered by an affiliated issuer, Provident Royalties. The Provident offerings were sold to customers through more than 50 retail broker-dealers nationwide and raised approximately $485 million from over 7,700 investors. Although a portion of the proceeds of Provident Royalties' offerings was used for the acquisition and development of oil and gas exploration and development activities, millions of dollars of investors' funds were transferred from the later offerings' bank accounts to the Provident operating account in the form of undisclosed and undocumented loans, and were used to pay dividends and returns of capital to investors in the earlier offerings, without informing investors of that fact.  On July 2, 2009, the SEC obtained a temporary restraining order and an emergency asset freeze and appointment of a receiver to take control of the entities, and marshal and preserve the assets for the benefit of the defrauded investors. All the named defendants subsequently agreed to the entry of a preliminary injunction, which remains in effect. In March 2010, FINRA expelled Provident Asset Management, LLC from membership for marketing a series of fraudulent private placements offered by its affiliate, Provident Royalties, LLC.

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