Securities America Inc. and the Massachusetts Securities Division locked horns this week over the regulator's charges that the firm misled 60 investors in the state who bought $7.2 million in Medical Capital notes from the firm's reps.
The case is the first major legal skirmish involving an independent broker-dealer that sold Regulation D offerings such as those from Medical Capital Holdings Inc., a lender to hospitals and health care facilities that is now in receivership.
The battle is being closely watched by the plaintiff's bar, class action attorneys and securities attorneys who are seeking insight into Securities America's legal strategy in the matter.
In total, 400 Securities America reps and advisers sold about $700 million of the private-placement notes from 2003 to 2008. Investors are estimated to have lost more than $1 billion through their purchases of notes from Medical Capital, which raised about $2.2 billion in total.
On Thursday, attorneys for Securities America appeared at an administrative hearing in Boston to answer allegations brought in January by Massachusetts regulators that the firm failed to reveal potential red flags to advisers and clients about Medical Capital, which used the note proceeds to purchase medical receivables.
“If there's a problem here, Medical Capital is to blame, not Securities America,” Bruce Bettigole, a partner at Sutherland Asbill & Brennan LLP who is serving as lead attorney for the broker-dealer said, at the hearing.
Massachusetts officials argue otherwise.
According to their lawsuit, a due-diligence analyst at Securities America raised several points of concern about the Medical Capital notes, including the lack of audited financials for the series of offerings. In 2005, Jim Nagengast, then the broker-dealer's president and now its chief executive, stated in an e-mail that he was concerned about the lack of audited financials.
At the hearing, Mr. Bettigole argued that the private-placement memoranda distributed by Medical Capital to investors clearly stated the substantial risks of investing in the notes.
“The private-placement memorandum is the offering document; there's no obligation to provide the due-diligence file,” he said. “The private-placement memorandum is critically important,” he said. “It's a short document, six pages long. Each investor got the PPM. There's no allegation investors did not get it.”
Mr. Bettigole said that the Massachusetts complaint had taken the due-diligence analyst's concerns out of context, and that Mr. Nagengast has said that his questions about Medical Capital's lack of audited financials were answered. As a member of the firm's compliance committee, Mr. Nagengast voted to sell the latest offering, Mr. Bettigole said.
Richard Khalife, an attorney for the Massachusetts Securities Division, said the firm had deceived investors.
“Massachusetts investors were sold unsuitable, fraudulent notes by fraudulent means,” he said. “Unlawful conduct can't go unpunished.”
Securities America told investors the Medical Capital notes were safe, secure and guaranteed, and failed to inform investors the true nature of the risk of the notes, Mr. Khalife said. “This case is about one of Medical Capital's biggest distributors,” Securities America, he said.
More than 40 other independent broker-dealers sold the Medical Capital notes, but Securities America is by far the largest seller.
Mr. Khalife said that the Medical Capital notes, which were to be sold to sophisticated and accredited investors, were sold to unsophisticated investors.
Mr. Bettigole denied that the firm committed fraud, saying that it never did anything intentional to harm investors and acted within industry standards. He also appeared surprised when Mr. Khalife charged that unsophisticated investors were sold the notes.
In July 2009, the Securities and Exchange Commission charged Medical Capital and its two top executives with fraud
The Massachusetts lawsuit is seeking restitution for investors, a censure for Securities America and an administrative fine.
[To read an expanded version of this story, see the upcoming issue of
InvestmentNews, available on Oct. 3 on InvestmentNews.com]
