On Nov. 9, a federal grand jury in Manhattan handed up a 15-count securities fraud indictment that was daunting in its scope. Prosecutors charged that customers of Sterling Foster Inc., a major microcap broker, were ripped off by a cool $100 million. The firm, they maintain, grossly overcharged purchasers of manipulated stocks between 1994 and 1997. Allegedly running the show from behind the scenes: a 1980s-era small-stock kingpin named Randolph K. Pace.
As detailed in the indictment, Pace did a number of things--getting capital and arranging deals, for example--in return for his piece of the action. And, according to a little-noticed charge in the 98-page indictment, Pace performed another vital function. The indictment maintains that the 53-year-old Pace helped "obtain a securities- clearing agreement for Sterling Foster with Bear Stearns Securities Corp."
Did Randy Pace, the subject of numerous regulatory sanctions over the years, have a relationship with Bear Stearns that he was able to exploit on behalf of Sterling Foster? Was Bear Stearns, as Sterling Foster's clearing firm, aware of the alleged stock fraud scheme? These and other disturbing questions are being probed by the Securities & Exchange Commission and the Manhattan District Attorney's office. They are said to be exploring links between Pace, Bear Stearns clearing chief, Richard Harriton, and Harriton's son Matthew--who heads Embryo Development Corp., one of the allegedly Pace-manipulated firms. Regulators are also exploring Bear Stearns's relationship with another defunct microcap broker, A.R. Baron (BW--Mar. 9, 1998).
The Bear Stearns-Sterling Foster ties already are being probed in yet another legal proceeding. Documents and testimony in an arbitration case against Bear Stearns, brought by a Sterling customer named Howard Greenberg, raise disturbing questions about Bear Stearns's role at Sterling Foster. The Greenberg arbitration involves one of the stocks that was the subject of the Pace indictment, a Florida-based direct-marketing firm called ML Direct Inc. The indictment charges that ML Direct was created by Pace and an alleged Pace associate named in the indictment, Alan Novich. ML Direct's former executive vice-president, Alan Kerzner, said he was not aware of any involvement by Pace. Attorneys for Pace and Novich both declined comment on the indictment, as did Sterling Foster's attorney.
The indictment, and a civil suit filed on Nov. 9 by the SEC, maintain that ML Direct investors were ripped off by Sterling Foster in September, 1996. Prosecutors say Pace and his associates used identical techniques to defraud investors in ML Direct and five other stocks. The feds maintain that Sterling Foster brokers sold millions of shares to its customers and then realized huge illegal profits by obtaining that stock at cut-rate prices. Greenberg, for example, paid $14 a share for 14,000 shares of ML Direct, for a total of $196,000. In papers filed with the Greenberg arbitration, his attorney, Leslie Trager, says the shares sold to Greenberg were obtained by Sterling Foster, a few days after the sale, for just $3.25 a share. The difference--more than $150,000--was Sterling Foster's profit. The shares are now trading at about 1 1/2 cents.
VIGOROUS DENIAL. Greenberg maintains that Bear Stearns was fully aware of the scheme. For its part, Bear Stearns told the arbitrators it had "no knowledge of Sterling Foster's alleged profits." A series of memoranda provided to the arbitrators, however, appear to support the view that Bear knew at least the aggregate cost of the shares obtained by Sterling Foster. The memos were sent to Richard Primavera, a Bear Stearns official, from Sterling Foster Chief Executive Adam Lieberman at the time the cheap stock was delivered to Sterling Foster customer accounts at Bear Stearns. (Lieberman and two other alleged Pace associates, Michael Lulkin and Michael Krasnoff, pleaded guilty to related fraud charges and agreed to disgorge $32 million in illegal profits.)
The memo above, for example, shows that 1.08 million shares and 900,000 warrants--each convertible into one share of stock--were being delivered for a mere $3.5 million on Sept. 11, 1996. Sterling Foster's hapless customers had just paid more than $15 million for the shares alone. The source of the shares, Special Equities, is described in the SEC complaint as controlled by alleged Pace associate Lulkin. According to the SEC, Special Equities got those shares and warrants in 1995--and didn't pay a cent for them.
Bear Stearns may have another problem stemming from the cheap stock. Papers filed on behalf of Greenberg point out that an ML Direct prospectus said all the cheap stock was "restricted" and could not be legally traded for a year, and that there was no present intention to release the shares. Why, then, did Bear Stearns accept the stock? Bear Stearns calls the language in the prospectus "equivocal" and says that, in any event, it didn't know about it. Bear Stearns's associate director of clearing, Keith Brigley, testified that he read the paragraph describing the restrictions--but stopped in mid-paragraph and didn't get to that part. "I don't know if I did not care whether there were restrictions or no restrictions," said Brigley, "but Adam [Lieberman] told me he was going to be able to get the shares."
In papers filed in the arbitration, Greenberg has another explanation--and the indictment and SEC suit agree with him. They maintain that the restrictions, aimed at reassuring investors that vast quantities of stock would not swiftly come to market, were a sham. Greenberg asserts that Bear Stearns was aware of that, and thus was a participant in the alleged stock scam. In its own presentation to the arbitrators, Bear Stearns vigorously denies it was aware of illegal activity and that Bear "lacked the ability, obligation, or incentive" to find out about it.
What Bear Stearns does not deny, however, is a personal relationship between the accused stock scamster Randy Pace and Richard Harriton, Bear's head of clearing. Bear Stearns said in a statement that Richard Harriton and Randy Pace have known each other since 1980 and "became friends in the late 1980s." Richard Harriton's son Matthew met Pace through "that relationship," was "introduced by Randy Pace to the management of Embryo and hired as chief financial officer" in 1996 by Lulkin, Pace's alleged accomplice. The Pace-Matthew Harriton relationship apparently remains close. According to the indictment, Pace's office from 1995 through 1998 has been a suite of offices on Manhattan's Lexington Avenue--the same suite occupied by Matthew Harriton, according to public records. Harriton, who became Embryo's CEO in 1997, declined comment.
While conceding the Pace-Harriton relationship, Bear Stearns is quick to assert that it had its limits. Did anyone at Bear Stearns, including Harriton, know Pace controlled Sterling Foster? "Absolutely not," says a spokesperson. And what about the allegation in the indictment that Pace helped obtain a Bear Stearns clearing account for Sterling Foster? The reply: Bear Stearns followed its "normal procedures" in reviewing Sterling Foster's application. And "in the process of review, Randy Pace did offer an unsolicited recommendation of Sterling Foster." An innocent "recommendation" or the reflection of an unholy alliance between an accused stock scamster and a top official at Bear Stearns? Until that question is answered, the sins of Sterling Foster will continue to cast a pall over the distinguished firm that cleared its trades.