Nicholas Schorsch’s RCS Capital could be facing major changes

With its stock down 39% since late October, RCS Capital Corp. said last week that it would hire an adviser to investigate ways to increase shareholder value.

In an earnings call last Thursday morning, RCAP chief executive Michael Weil was peppered with questions from analysts about a potential spinoff of parts of the company.

Mr. Weil said RCAP is open to all recommendations but did not provide details.

“There is not one thing we are not willing to look at,” he said.

Later in the day, during a presentation at the Bank of America Merrill Lynch Banking and Financial Services Conference, Mr. Weil said RCAP was hiring a third-party adviser as the company considers future moves.

“We’re going to undertake a real process,” Mr. Weil said. “We’re going to slow it down over the next couple of weeks, dig in on that and then make announcements about what the best steps are.”

RCAP shares started a steep decline — at one point they were down 55% — after American Realty Capital Properties, or ARCP, late last month disclosed a $23 million accounting error that was intentionally not corrected over the first half of the year. The company’s chief financial officer, Brian Block, who was also a former CFO of RCAP, resigned as a result.

SCHORSCH EMPIRE

Both RCAP and ARCP are part of the vast business empire operated by Nicholas Schorsch. As executive chairman of RCAP, Mr. Schorsch presides over a company that includes 9,100 registered reps and advisers affiliated under the Cetera Financial Group. He also is the former CEO and current chairman of ARCP and CEO of American Realty Capital, the largest nontraded REIT sponsor in the industry.

(Related infographic: Untangling Nicholas Schorsch’s vast web of businesses)

One analyst outlined a “road map to stabilization” at RCAP in a note last week to investors. “RCAP is externally managed by RCS Capital Management,” wrote William Katz, an analyst with Citigroup Global Markets. “Such agreements are typically viewed negatively by REIT investors given high costs and/or questions around alignment of interest. We believe a move to internal management may enhance credibility of RCAP’s independence status.”

“Management has hinted in the past at interest in spinning off the asset management business and, given the depressed stock price, we believe the strategic sales of [the broker-dealer] and/or Hatteras [Funds] may unlock shareholder value,” Mr. Katz wrote. “We see this outcome as unlikely in the [short term] given regulatory scrutiny.”

Secretary of the Commonwealth of Massachusetts William Galvin, whose office includes the state securities division, said through a spokesman Nov. 7 that his office was investigating Realty Capital Securities, RCAP’s wholesaling broker-dealer.

It was not clear whether Mr. Katz was referring to Realty Capital or Cetera Financial Group, its independent broker-dealer network. Mr. Katz did not return a telephone call seeking clarification on Friday.

Last Thursday, RCAP said its sales of nontraded REITs and other alternative investments had slowed in the two weeks after the accounting problems surfaced at ARCP. Mr. Weil and other RCAP officials were optimistic that the problems at ARCP will not have a significant, long-term impact on RCS Capital.

(Also: Schorsch remains confident in his empire)

Despite facing the suspension of sales of its various nontraded real estate investment trusts at leading broker-dealers and clearing firms, RCAP, through its broker-dealer wholesaling arm Realty Capital Securities, is raising $12 million to $15 million per day of equity, according to Mr. Weil.

That translates roughly into $216 million to $270 million for November, which has only 18 business days in it because of the Thanksgiving weekend. According to investment bank Robert A. Stanger & Co. Inc., Realty Capital Securities posted $486.6 million in sales in October and $655.1 million in September.

EXPECT HIGHER SALES

“We continue, even in this period, running at $12 to $15 million a day in equity raised,” Mr. Weil said during the conference call with analysts and investors. The company is “very confident that the number goes up from here as” broker-dealers lift suspensions, Mr. Weil said.

RCAP has performed a “break-even” analysis for the company, Mr. Weil said later during the Merrill Lynch conference. At the company’s existing size, which is three to four times larger than any other nontraded REIT wholesaler, RCAP’s “break-even is $3.1 billion of equity raised in 2015,” Mr. Weil said. “If the bottom is $12 million to $15 million a day, we’re in great shape.”

In the three months ended Sept. 30, before the accounting mishap came to light and REIT sales started to slow down, RCAP reported $697.1 million in pro-forma revenue, a 6% increase compared with the same period a year earlier. Adjusted net income per share for the third quarter was 40 cents, compared with 7 cents in the same quarter of 2013, an increase of 51%.

Broker-dealers, clearing firms and registered investment adviser custodians over the past two and a half weeks have placed a temporary halt on RCAP distributed REITs and products, along with REITs with the Cole brand, since the revelation of ARCP’s accounting problems. (Cole is a REIT sponsor owned by ARCP.)

(More insight: Fidelity, Pershing and Schwab join suspension of RCAP distributed REITs)

Bill Dwyer, who became CEO of Realty Capital Securities in September, said the company expected a short-term decrease of equity raised for REITs and other products on the RCAP platform, but was optimistic that the majority of the selling agreements recently suspended by broker-dealers will be reinstated by the end of the year or in the first quarter of 2015.

During the conference call, Mr. Weil said several firms have already lifted their suspension of sales, but he did not name them.

In a statement Thursday morning before the conference call, Mr. Weil said that RCAP’s audit committee on Oct. 31 hired an independent counsel to conduct a review that was deemed appropriate but did not include a review of e-mail. Outside counsel was assisted by a forensic accounting firm.

Following counsel’s review, RCAP’s “audit committee, board of directors and management team remain confident in the company’s reported historical financials, accounting and internal controls for each of the three quarters in the nine-month period ending Sept. 30, 2013.”

CONFIDENCE IN FINANCIALS

There are no adjustments or restatements to RCAP’s audited financials, Mr. Weil said Thursday morning. “The board and audit committee have full confidence in [RCAP’s] reported financials,” Mr. Weil said. “We consider the question of RCAP’s accounting as closed.”

In May, RCAP reported “significant deficiencies” in its internal control over financial reporting for the last two quarters of 2013 and the first quarter of 2014, according to a company filing with the Securities and Exchange Commission. All the deficiencies cited in the filing stem back to 2013.

In an August filing, RCAP said it was “in the process of remediating” several deficiencies, according to the report. Those deficiencies also occurred in 2013 but were reported in August and have since been addressed.

A story appearing on The Street.com last Friday highlighted RCAP’s reported deficiencies.

“RCS Capital’s audit committee, board of directors and management team remain confident in the company’s reported historical financials, accounting and internal controls,” RCAP spokesman Andy Backman wrote in an e-mail to InvestmentNews. “Previous financial statements remain as reported, with no adjustments or restatements, and no material weaknesses have been identified. The company’s reported financials have been reviewed by three respected independent accounting firms, including a forensic accounting specialist, and newly engaged outside legal counsel. No issues were found. We consider this issue closed.”