SEC names Deephaven Capital in Shorting Suit
May 3, 2006
The U.S. Securities and Exchange Commission has filed a settled short-selling suit against Deephaven Capital Management LLC, a backer of Vancouver's Stockgroup Information Systems Inc. in 2000. Without admitting any wrongdoing, hedge fund manager Deephaven has agreed to pay $5.82-million (U.S.) to settle civil allegations it shorted 19 stocks on non-public information.
The SEC says Deephaven used advance knowledge of PIPE offerings, which tend to lower a stock's price, to make $2.6-million (U.S.) in shorting profits. In PIPE offerings, companies offer discounted shares directly to institutional investors, bypassing many regulatory hurdles.
Tuesday's suit marks the second time this year the SEC has sued a hedge fund manager over abuse of PIPE offerings. In March, the SEC reached a $15.8-million (U.S.) civil settlement with New York hedge fund manager Jeffrey Thorp and his three hedge funds, Langley Partners LP, North Olmsted Partners LP and Quantico Partners LP.
The SEC said Mr. Thorp's funds illegally shorted 23 stocks and covered with PIPE shares. That suit featured a Canadian brokerage, which the SEC refused to identify, as a conduit.
Tuesday's Deephaven suit is also the second time this year a Stockgroup backer's name has appeared in an illegal shorting case. In a civil suit filed just last month, the SEC said former Stockgroup debentureholder Amro International SA illegally shorted Sedona Corp., a Pennsylvania software company.
According to the SEC, Amro shorted Sedonda from $1.43 (U.S.) to 75 U.S. cents while holding a $2.5-million (U.S.) debenture, convertible based on the company's price. The suit targeted New York financier Andreas Badian and five New York brokers that served Amro.
Although Amro and Deephaven do not have any apparent connections in the U.S., they were both subscribers in an April, 2000, death spiral financing in Stockgroup. They took down $3-million in 8 per cent notes, convertible based on the company's price. Such financings can end in massive dilution if a company's price plunges.
Unlike some death spiral victims, Stockgroup dodged any significant dilution at Deephaven's hands, although the cash calls were likely a factor in a round of layoffs in late 2000, when the company had more bills than money. In an August, 2000, cash call, Stockgroup barely managed to come up with $884,839 to avoid issuing shares around $1.
The company, which traded as high as $4.96 in 2000, did eventually have to convert $400,000 of the debt at 32 cents in January, 2003.
The SEC did not list Stockgroup as one of the 19 companies in Tuesday's suit. The companies identified are all U.S.-based listings that initiated PIPE offerings between August, 2001, and March, 2004.
In addition to Deephaven, the suit names Bruce Lieberman, Deephaven's former director of private placements, as a defendant.
One of the companies, retailer Factory 2-U Stores Inc., apparently told Mr. Lieberman, in a written memo, "The existence of this proposed private placement of common stock is highly confidential."
In spite of written and verbal warnings that the PIPE offerings were non-public information, the SEC says Deephaven shorted based on the information. In at least four instances, the SEC says Mr. Lieberman even agreed in writing he would not short the stocks.
Nobody at Deephaven, or its parent, Nasdaq-listed equity trader Knight Capital Group Inc., was available for comment.
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