A Dark Side To Ray Dirks?

Raymond L. Dirks is arguably Wall Street's most famous securities analyst. During his colorful career, the 60-year-old Dirks has been an analyst, dealmaker, whistleblower, and "short-buster." His warnings about the Equity Funding scandal in 1973 led to a long battle with the Securities & Exchange Commission--and ultimate vindication before the U.S. Supreme Court. Dirks's most recent triumph was his early advocacy of Conseco Inc.--the obscure insurance company likely to take over Kemper Corp.

Championing Conseco, which brought him into conflict with short-sellers who doubted the stock's virtues, was Ray Dirks at his best: a smart, often courageous stock-picker. His views about Conseco and other stocks--mostly of small companies--are frequently aired in the financial press, including BUSINESS WEEK. But there is another side to Dirks that is apparently not so favorable. In recent weeks, more than a dozen analysts, traders, and brokers have parted company with Dirks's firm--some voluntarily, some not. These former Dirks associates are raising troubling questions about the Dirks stock picks widely promoted in the media, in advertisements, and in research published by Dirks and his boutique, Ray Dirks Research. Some also question the trading practices of Dirks's employer, RAS Securities Corp., a Manhattan underwriter of new issues with a mainly institutional clientele. Ray Dirks Research is a division of RAS.

Speaking to BUSINESS WEEK on condition of anonymity, former employees have maintained that Dirks and Dirks Research aggressively pitch stocks in which he and RAS have substantial unpublicized positions. And unlike Conseco, not all of Dirks's stock picks have turned out to be enduring successes. Many have tumbled in recent months (chart)--something RAS sources attribute to investor backlash once RAS's lofty predictions failed to materialize. Among the RAS initial public offerings to fall sharply are Clinicorp, Standish Care, Nationsmart, National Wireless Holdings, Greenwich Air Services, Penn America Group, and Dynagen. RAS sources say one RAS-underwritten biotech company that climbed until recently, OXiGENE, was misleadingly promoted by Dirks as a direct result of his ownership of the stock. That is vigorously denied by Dirks and RAS Chief Executive Officer Robert A. Schneider (the RAS in RAS Securities).

MERE VICTIMS. The allegations go beyond aggressive stock-pitching. One former high RAS official says the brokerage routinely boosted prices by placing orders at the close of trading on the American Stock Exchange, thus inflating closing prices. Also, this former official says, RAS last year owned more than 10% of the outstanding shares of one of its underwritings, Standish Care Co., without disclosing to investors as required by Securities & Exchange Commission rules. Schneider denies RAS ever engaged in either practice.

Dirks and Schneider maintain they are not perpetrators of wrongdoing, but victims. In separate interviews, they acknowledged that rumors of impropriety and financial trouble were dogging the firm. The financial rumors are ironic for Dirks because of his troubled stewardship of a leading IPO firm of the early 1980s, John Muir & Co. At the time, Dirks publicly conceded that he was a lax administrator at Muir, which was forced into liquidation.

But Schneider maintains that RAS is profitable and has ample capital, although he says he was forced to withdraw $2 million--almost two-thirds of the firm's capital--to pay taxes in April. He and Dirks say the anti-RAS stories circulating on Wall Street are lies spread by dissatisfied ex-employees who have a grudge against the company.

Who is telling the truth: Dirks and Schneider or their former co-workers? One clue may be found in the Dirks campaign for the stock of OXiGENE, a biotechnology company RAS brought public last August. Until recent days, when its shares plummeted 20%, OXiGENE had recorded a 1994 gain of nearly 60%, while other biotech issues were slaughtered. OXiGENE's popularity can be summed up in one word: Sensamide. "OXiGENE's product, Sensamide, appears to hinder the ability of cancer cells to repair themselves after radiation therapy and chemotherapy," Dirks enthused in ads bearing his photo in Barron's and Investor's Business Daily. Dirks, who says OXiGENE is his largest stockholding, also has been beating the drum for the company in his 900-number phone service. Dirks Research has issued glowing reports bearing such titles as "Sensamide--A Potential Major Advance in Cancer Therapy."

OXiGENE officials say the RAS research and ads, though showy, are perfectly truthful. CEO Richard A. Brown says the early clinical trials on two dozen patients--together with previous tests on animals--show that Sensamide prolongs the lives of cancer patients undergoing therapy. According to a company press release on May 19, reporting on the first phase of clinical tests, Sensamide was "developed in collaboration with OXiGENE's president and co-founder, Ronald Pero," a professor at the University of Lund in Sweden.

But neither the Dirks ads nor the OXiGENE press release note that, as the company has long acknowledged, Sensamide is in fact a concentrated version of an inexpensive generic drug that has long been administered to cancer patients to curtail nausea. Brown and Pero observe that Sensamide is different because it's administered through intramuscular injection, requiring a concentrated dose, and because its acidity is neutralized. That, they say, reduces the side effects caused by the more acidic generic drug--though that has only been shown in tests involving rats.

FEVERED SELL-OFF. Although Sensamide is protected by a patent, critics within RAS maintain that many doctors would use the generic instead of Sensamide to boost the effectiveness of radiation therapy. But company officials say doing so would risk malpractice suits. Still, a recent company-financed report by consultants Prescription Capital Inc. notes that hospital cost-consciousness "must be considered a risk for any drug, whether reformulated or not, that is based on the active ingredient of a widely available generic." The consultant adds, however, that the neutralized form of Sensamide may diminish that risk. One RAS biotech analyst's negative assessment of Sensamide--and hyping of the stock by RAS--was vented within RAS by, among other things, a scathing critique of one of RAS's research reports.

In recent days OXiGENE shares have been unceremoniously dumped. A negative item on OXiGENE was broadcast by CNBC's Dan Dorfman midday on June 29--but most of the fevered selling occurred well before he got on the air. In a spate of ferocious trading in which one-eighth of the outstanding shares changed hands, 293,00 shares traded on June 28 and 321,000 traded until noon on June 29. OXiGENE fell from 10 3/8 on June 27 to 8 5/16 on June 29, when the trading was halted shortly before noon. What's going on? "There are rumors about the article you are about to write being negative for OXiGENE," OXiGENE executive vice-president Dr. Yuval Binur told BUSINESS WEEK.

To be sure, careful buyers of the stock would be aware of the market risks of Sensamide. The same goes for the investors Dirks persuaded to buy the preferred stock of IVF America Inc., which Dirks promoted in March as having a current yield of 17%, tax-free. True? Yes--if you never sell the stock. But the dividend is not tax-free for investors when the proceeds from the sale of the stock, together with accumulated dividends, exceed the purchase price. So if an investor sold IVF America preferred stock after a year, the stock price would need to fall by 17% in order for the interest to be nontaxable--a caveat not mentioned in the advertisement. "A technicality," Dirks says dismissively. "When you do industry reports on 20, 30, 40 companies, you make mistakes--not that I'm saying this was a mistake."

Dirks may put his name on reports--but it does not appear on the firm's corporate filings with the SEC. Schneider and Dirks acknowledge that, as head of Ray Dirks Research--all of whose employees work at RAS--Dirks functions as head of research at RAS. According to Dirks, 70 of the 90 RAS employees report to him at Ray Dirks Research, which, he says, generates 80% of RAS's revenues. Yet Dirks is registered with the National Association of Securities Dealers, which regulates brokerages, merely as a "registered representative"--a stockbroker--and not as an officer of the firm. Is that is a violation of NASD rules? Not according to Dirks and Schneider. "I don't need a partner," says Schneider, when asked to explain why Dirks is not registered with the NASD as a top manager. But NASD vice-president Frank F. McAuliffe says research directors are required to register as officers and principals.

Despite backbiting from his former associates, the rumpled, cordial Dirks is serene. In a lengthy interview, Dirks attributed the downturn in the various stocks underwritten by RAS--and promoted by Dirks Research--as just a sign of the malaise among small stocks and new issues. "We run a clean shop," says Dirk. "You try to do the best you can do, but occasionally you run into people who will knock you."

And how. Among the current RAS employees who are less than enthusiastic is, well, Schneider. Asked to characterize Dirks's performance as head of research, Schneider says it "certainly is adequate--neither the best nor the worst." Does Dirks Research produce 80% of the firm's revenues? "That's not accurate," says Schneider. "It's probably 40% to 50%."

A detail? Irrelevant? Perhaps. But stock research is an agglomeration of small, seemingly irrelevent details. In his eagerness to promote stocks and rake in profits, Dirks seems to have forgotten the old saw that God is in the details--omitted at his peril.

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