Fund Manager Berlacher Traded Securities on PIPE Knowledge, Judge Rules
A Pennsylvania hedge-fund manager committed securities fraud by misrepresenting his holdings when doing trades in two companies conducting private placements of their shares, a federal judge ruled.
Robert A. Berlacher misrepresented his positions when he signed agreements for the private placements, U.S. District Judge Mitchell S. Goldberg in Philadelphia found. Berlacher was accused of securities fraud in a lawsuit by the U.S. Securities and Exchange Commission. Goldberg, who held a three-day nonjury trial in March, ruled in Berlacher’s favor on other claims.
“The SEC has not sustained its burden of proof on the insider-trading count and two of the fraud claims,” the judge wrote in his ruling today. “The SEC has met its burden on two separate fraud claims.”
The SEC said Berlacher, 56, made $680,000 in ill-gotten gains trading in four companies’ shares in 2004 and 2005 before the so-called private investment in public equity, or PIPE, issues were publicly known.
“We are gratified that today’s decision by the court rejects the lion’s share of the SEC’s claims and its overreaching attempt to mischaracterize certain conduct as a violation of federal law,” Nicolas Morgan, a lawyer for Berlacher at DLA Piper LLP in Los Angeles, said in an e-mailed statement. He called the decision a “strike out” for the SEC.
Berlacher’s case stemmed from a probe by the federal government into hedge funds that short-sold the stock of companies after learning, before the public, that they would issue PIPE shares.
PIPEs, issued by companies to raise money quickly, are typically sold for less than market prices and often drive down the price of the publicly traded shares.
The SEC attacked the hedge funds’ practice of covering their short positions with the cheaper shares they got in the PIPE issues, almost guaranteeing a profit.
In today’s ruling, Goldberg found fraud with regard to only two deals by Berlacher. The judge ordered the Villanova, Pennsylvania, resident to surrender profits of $352,364. He declined to impose penalties or interest. The commission sought potential money remedies totaling $1.5 million, Morgan said.
“We are pleased with the ruling, which finds that Mr. Berlacher committed securities fraud and orders him to disgorge more than $350,000 of illicit gains that he obtained as a result of his misconduct,” Julie Riewe, assistant director of the SEC Enforcement Division’s Asset Management Unit, said in an e-mailed statement.
The judge found that Berlacher misrepresented that he didn’t have a short position in Radyne Comstream Inc. when he signed the PIPE agreement. He “indirectly held a short position in Radyne” by creating a 114,000-share short option after he learned of the PIPE, Goldberg said. Radyne, a satellite- equipment maker, is now owned by Comtech Telecommunications Corp. in Melville, New York.
Goldberg said Berlacher also misrepresented that he hadn’t traded in International DisplayWorks Inc., a Roseville, California-based maker of liquid-crystal displays now owned by Singapore-based Flextronics International Ltd., when he signed that stock-purchase agreement, or SPA.
It is “fair to assume that had Radyne and IDWK been aware that Berlacher had engaged in transactions on their securities with knowledge of the pending PIPE and prior to signing the SPAs, they would have refused to sell the PIPE stocks to Berlacher,” the judge wrote.
Berlacher didn’t commit insider trading with regard to the Radyne deal because the company’s stock movement in reaction to announcements about the PIPE was too small to be legally significant, Goldberg said.
He also found Berlacher didn’t engage in securities fraud with two other deals.
The SEC didn’t allege he traded before signing the PIPE agreement for Smith Micro Software Inc., an Aliso Viejo, California-based maker of communications software for wireless carriers and phone makers, the judge wrote.
The stock-purchase agreement for Hollywood Media Corp., a provider of online entertainment news in Boca Raton, Florida, prohibited short options while Berlacher had only long options, the judge said.
Berlacher argued in court papers that he didn’t make any misrepresentations because he didn’t buy any stock. He bought baskets of so-called barrier options that gave him the right, though not the obligation, to acquire a long or short position in the underlying security.
The SEC said Berlacher’s brokers bought or sold short the options at his direction.
In a short sale, an investor seeks to make money on a price decline by selling borrowed shares in the market and replacing them later with cheaper shares, known as covering the short position. A short position can also be established through options on the underlying stock.
In August 2009, Texas hedge-fund manager Edwin Lyon settled SEC claims arising from similar facts as Berlacher’s case. In 2008, John F. Mangan Jr., a fund manager in North Carolina, won dismissal of an SEC suit when the judge ruled the stock change after the PIPE announcement was too small to be legally significant.
Judges in the Berlacher, Lyon and Mangan cases had earlier dismissed the SEC’s arguments that the managers illegally traded unregistered stock when they covered their short positions with shares they bought in the companies’ PIPE offers.
The defendants in Berlacher’s case include five funds he has managed or advised, including Lancaster Investment Partners LP in King of Prussia, Pennsylvania.
Berlacher testified during the trial that he manages the money mostly for friends and family and his funds have as little as $500,000. Lancaster Investment oversees less than $2 million, he said. In 2004, he made about $250,000 in fees before deducting expenses to run the business, he said.
The judge declined to grant the SEC’s request to impose an injunction requiring Berlacher and his funds to refrain from committing securities-laws violations in the future. The fund manager testified that he no longer trades shares of company with which is pursuing a PIPE deal, Goldberg said.
“To underscore the court’s conclusion that defendants are not likely to repeat similar, esoteric trading in barrier options in future, the court flat out rejected the SEC’s request to permanently enjoin the defendants from committing securities violations -- a bedrock remedy the SEC seeks in every case,” Berlacher’s lawyer Morgan said.
Hedge funds are private, largely unregulated pools of capital whose managers can buy or sell any assets and participate substantially in profits.
The case is SEC v. Berlacher, 07-cv-03800, U.S. District Court, Eastern District of Pennsylvania (Philadelphia).