Source: https://www.sec.gov/litigation/admin/33-7777.htm
Timestamp: 2019-04-24 02:35:26+00:00

Document:
The Securities and Exchange Commission (the "Commission") deems it appropriate that public administrative proceedings be, and they hereby are, instituted pursuant to Section 8A of the Securities Act of 1933 ("Securities Act") and Section 21C of the Securities Exchange Act of 1934 ("Exchange Act") against HDI, Inc. ("HDI") and Dennis E. Thiemann ("Thiemann").
In anticipation of the institution of these proceedings, HDI and Thiemann have each submitted an offer of settlement, which the Commission has determined to accept. Solely for the purpose of these proceedings and any other proceeding brought by or on behalf of the Commission or in which the Commission is a party, and prior to a hearing pursuant to the Commission's Rules of Practice, 17 C.F.R. §201.100 et seq., HDI and Thiemann, without admitting or denying the findings contained herein, except that each admits to the jurisdiction of the Commission over them and over the subject matter of these proceedings, consent to the entry of the findings, the institution of the cease-and-desist order and the order requiring disgorgement set forth below.
1. Dennis E. "Harvey" Thiemann, age 55, is a resident of Shermans Dale, Pennsylvania. Thiemann is the founder of a privately held consulting firm called HDI, Inc.
2. HDI, Inc. is a Pennsylvania corporation. Thiemann and his wife are HDI's only shareholders and employees.
1. John M. Seidman ("Seidman"), is the founder of a privately held Pittsburgh-based business and political consulting firm called JMS Associates, Inc. Seidman served as a senior advisor to the former Treasurer of the Commonwealth of Pennsylvania (hereafter the "Treasurer") during her first campaign for Treasurer in 1988.2 Seidman was a friend of Thiemann.
2. Patrick H. McCarthy, III ("McCarthy"), a Philadelphia-based attorney and close friend of Seidman, was also actively involved in Pennsylvania state Democratic politics. McCarthy served as transition chief for the Treasurer following her 1988 election. After the Treasurer assumed office in January 1989, McCarthy remained a close confidante of the Treasurer and her Executive Deputy Treasurer.3 Although McCarthy held no official title and was not employed by the Treasurer's Office, he stayed actively involved in the day-to-day operations, decisions and policies of the Treasurer's Office. McCarthy was de facto the most powerful person in the office after the Treasurer and the Executive Deputy Treasurer. McCarthy had the authority to give orders to staff members and had input and decisionmaking authority, with the Executive Deputy Treasurer, on a wide range of substantive issues, including programs and personnel matters. McCarthy was also extensively involved in selecting vendors, including investment banking firms, that did business with the Treasurer's Office.
In late 1993, the Commonwealth of Pennsylvania was considering bond refundings totaling over $ 1 billion.4 The Governor's Budget Office, which was responsible for all Pennsylvania debt issues, appointed Arthurs Lestrange & Company ("Arthurs Lestrange"), a Pittsburgh-based broker dealer, to serve as the Commonwealth's financial adviser for the refundings. (Arthurs Lestrange had proposed the refundings to the Commonwealth.) The Treasurer's Office, which was generally responsible for the investment of Commonwealth funds, was charged with obtaining investments for the escrows for the refundings. Ultimately, two refundings resulted: (1) the Commonwealth of Pennsylvania $494,145,000 General Obligation First Series, which closed in March 1994 (the "March Refunding") and (2) the Commonwealth of Pennsylvania $469,616,337.34 General Obligation Bond Second Series 1994, which closed in June 1994 (the "June Refunding").
Thiemann, through HDI, served as a longtime consultant for Arthurs Lestrange. Based on his knowledge of a previous Commonwealth bond refunding, Thiemann understood that the Treasurer's Office had in the past selected securities dealers to sell open market securities to the Commonwealth and he believed the Treasurer's Office would be selecting a securities dealer to sell open market Treasury securities to the Commonwealth for the 1994 General Obligation bond refundings. Thiemann also believed that the assignment could be lucrative for the dealer. In January 1994, Thiemann approached Arthurs Lestrange with the idea of having Arthurs Lestrange share in the revenues on the sale of the escrow securities. Thiemann and Arthurs Lestrange believed, however, that Commonwealth officials would view Arthurs Lestrange as too small a firm to handle the purchase and sale of hundreds of millions of dollars in U.S. Treasury securities.
Accordingly, Thiemann proposed to Arthurs Lestrange that he would find a larger broker-dealer that could be selected to provide the escrow securities and would agree to split its revenues on a 60/40 basis, with Arthurs Lestrange receiving the 60 percent share. Thiemann further proposed that, if he were successful, Arthurs Lestrange would pay him one-third of its share of the refunding revenues. Arthurs Lestrange agreed to Thiemann's proposal.
Thiemann then consulted with his friend Seidman, the president of JMS. Thiemann explained to Seidman his need to find a larger broker-dealer that would be credible to the Commonwealth as the provider of the escrow service. Thiemann knew Seidman had been an adviser to the Treasurer and Thiemann believed Seidman had contacts within the Treasurer's Office. Seidman and Thiemann discussed a number of potential major investment banks including Alex. Brown & Sons, Inc. ("Alex. Brown"), which bank Seidman informed Thiemann was then the financial adviser to the Treasurer's Office. Seidman knew that his friend, McCarthy, had a longstanding relationship with Alex. Brown's municipal securities business. Seidman reintroduced Thiemann to McCarthy. McCarthy was subsequently contacted for assistance in arranging for Alex. Brown to be appointed to provide the escrow securities and for Alex. Brown to split its revenues with Arthurs Lestrange.
In January 1994, McCarthy telephoned a senior banker who was then head of Public Finance at Alex. Brown (the "Senior Banker"), about the refundings. McCarthy explained to the Senior Banker that the Commonwealth was planning to issue refunding bonds, but that Arthurs Lestrange was too small to handle the purchase and sale of the escrow securities. McCarthy then offered the Senior Banker the following proposal; Alex Brown could be named the escrow provider if it would agree (1) to take all of the financial risk associated with the sale of the escrow securities and (2) to pool revenues with Arthurs Lestrange and allocate 60 percent of the total to Arthurs Lestrange. Alex. Brown agreed to McCarthy's proposal, and, at McCarthy's instruction, the Senior Banker thereafter contacted Arthurs Lestrange.
Once Alex. Brown agreed to the fee-split with Arthurs Lestrange, McCarthy used his influence within the Treasurer's Office to have Alex. Brown named as the escrow provider for the March Refunding. This was done over the objections of senior staff members who believed that the Treasurer's Office could itself manage the purchase of the escrow securities, and that it was a conflict of interest for Alex. Brown to simultaneously serve as the escrow provider as well as the financial adviser to the Treasurer's Office.
After the March Refunding closed, Alex. Brown and Arthurs Lestrange combined and allocated their pooled fees in accordance with their 60/40 fee-splitting agreement. The total pooled fees from the transaction were $2,604,457.10. Arthurs Lestrange contributed $210,000 to the pool, which was its fee for serving as the Commonwealth's financial adviser. Alex. Brown contributed $2,394,457.10 ($1,782,140.70 from the markup on the escrow securities, $418,316.40 in carry5, and a forward supply contract brokerage fee of $194,000). In accordance with the split formula, Arthur Lestrange received $1,562,674.26 and Alex. Brown received $1,041,782.84 from the transaction.
Pursuant to its agreement with Thiemann, Arthurs Lestrange paid one-third of its share of the pooled revenues, or $520,891.42, to HDI. Thereafter, Thiemann paid $175,250 to Seidman's firm, JMS Associates, and $172,000 to McCarthy's law firm for Seidman's and McCarthy's respective roles in the transaction. Following these payments, Thiemann's company, HDI, retained $173,641.42 of the funds paid by Arthurs Lestrange.6 McCarthy did not disclose to the Treasurer's Office that his law firm would be compensated if Alex. Brown were selected as the escrow provider.
After the pricing of the March Refunding, and during the period leading up to the June Refunding, a dispute arose between Alex. Brown and senior Treasurer's staff over the size of the markup which Alex. Brown charged on the escrow portfolio for the March Refunding. McCarthy promoted Alex. Brown's position, again without disclosing that his firm had received payments from the March Refunding escrow revenues. Because of the overcharge on the March Refunding escrow, the Treasurer's staff did not want Alex. Brown to be appointed escrow provider for the June Refunding. However, with McCarthy advocating that there had not been any overcharge, Alex. Brown was again selected to provide the escrow securities.
Section 17(a) of the Securities Act prohibits false or misleading statements, or material omissions when there is a duty to speak, in the offer or sale of any security. Section 17(a)(1) requires a showing of scienter; however Sections 17(a)(2) and 17(a)(3) do not require such a showing. Aaron v. SEC, 446 U.S. 680, 697 (1980). Section 10(b) of the Exchange Act and Rule 10b-5 thereunder prohibit false or misleading statements, or material omissions when there is a duty to speak, made with scienter, in connection with the purchase or sale of any security. Both knowing and reckless conduct satisfy the scienter element. See, e.g., Hollinger v. Titan Capital Corp., 914 F.2d 1564, 1568-69 (9th Cir. 1990). A duty to speak arises, and material omissions become fraudulent, when a person or entity has information that another is entitled to know because of a fiduciary duty or similar relationship of trust and confidence. See, Affiliated Ute Citizens v. United States, 406 U.S. 128, 153-55; Chiarella v. United States, 445 U.S. 222, 228 (1980); In re Arleen Hughes, 27 S.E.C. 629 (1948), aff'd, 174 F.2d 969 (D.C. Cir. 1949).
McCarthy had a duty of disclosure to the Commonwealth because of his relationship with and functions within the Treasurer's Office. The Treasurer's Office placed special confidence in McCarthy, and had a just foundation for belief that he was acting in the Commonwealth's best interests. See Antinoph v. Laverell Securities, 703 F.Supp. 1185 (E.D. Pa. 1989); Lazin v. Pavilion Partners, 1995 U.S. Dist. LEXIS 15255, Civ.A. No. 95-601, 1995 WL 614018 (E.D. Pa. Oct. 11, 1995). Moreover, McCarthy's role as a de facto decisionmaker within Treasury imbued him with a fiduciary duty to the citizens of Pennsylvania. See United States v. Margiotta, 688 F.2d 108 (2d Cir. 1982); United States v. Gray, 790 F.2d 1290, 1295 (6th Cir. 1986), rev'd on other grounds, McNally v. United States, 107 S.Ct. 2875, 2879 (1987). McCarthy violated Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act, and Rule 10b-5 by failing to disclose to the Treasurer's Office or the Commonwealth, while he was advocating for Alex. Brown, that he had a conflict of interest arising from his arrangement with Thiemann to be paid a portion of the escrow revenues.
Section 8A of the Securities Act and Section 21C of the Exchange Act authorize the Commission to enter a cease-and-desist order against any person found to have violated any provisions of these Acts, and against any other person who was a cause of such violation due to an act or omission the person knew or should have known would contribute to such violation. The acts and omissions of Thiemann on behalf of HDI recounted above were acts or omissions that he knew or should have known would contribute to McCarthy's violations.
On the basis of the foregoing, the Commission finds that HDI and Thiemann were each a cause of McCarthy's violations of Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act and Rule 10b-5 thereunder.
HDI has submitted an Offer of Settlement in which, without admitting or denying the findings herein, it consents to the Commission's entry of this Order, which: (1) makes findings as set forth above and (2) orders HDI to cease and desist from committing or causing any violations and any future violations of Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act and Rule 10b-5 thereunder and (3) orders HDI to pay disgorgement of $173,641.42 plus prejudgment interest which shall be computed at the underpayment rate of interest established under Section 6621(a)(2) of the Internal Revenue Code, 26 U.S.C. §6621(a)(2), and which shall be compounded quarterly.
Thiemann has submitted an Offer of Settlement in which, without admitting or denying the findings herein, he consents to the Commission's entry of this Order, which: (1) makes findings as set forth above and (2) orders Thiemann to cease and desist from committing or causing any violations and any future violations of Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act and Rule 10b-5 thereunder.
1. HDI shall cease and desist from committing or causing any violations and any future violations of Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act and Rule 10b-5 thereunder.
2. Thiemann shall cease and desist from committing or causing any violations and any future violations of Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act and Rule 10b-5 thereunder.
3. HDI shall within thirty (30) days of the date of this Order, pay disgorgement of $173,641.42 plus prejudgment interest which shall be computed at the underpayment rate of interest established under Section 6621(a)(2) of the Internal Revenue Code, 26 U.S.C. §6621(a)(2), and which shall be compounded quarterly. Such payment shall be: (1) made by United States postal money order, certified check, bank cashier's check or bank money order; (2) made payable to the United States Securities and Exchange Commission; (3) hand-delivered or mailed to the Comptroller, Securities and Exchange Commission, Operations Center, 6432 General Green Way, Stop 0-3, Alexandria, VA 22312; and (4) submitted under cover letter that identifies HDI as a Respondent in these proceedings, and states the file number of these proceedings, a copy of which cover letter and money order or check shall be sent to Brian A. Ochs, Assistant Director, Division of Enforcement, Securities and Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549-0805.
1 The findings herein are made pursuant to the Respondents' Offers of Settlement and are not binding on any other person or entity in this or any other proceeding.
2 The Treasurer served two terms ending in January 1997.
3 The Executive Deputy Treasurer died in August 1996.
4 In a refunding, the municipality issues new "refunding" bonds and immediately invests the proceeds in a portfolio of U.S. Treasury or agency securities structured to pay the principal and interest obligations on older, higher interest rate, bonds until the call date and then to pay off the outstanding principal and any call premium. The portfolio of government securities is normally placed in a defeasance escrow to guarantee repayment of the old bonds. For a further discussion of refunding bond issues and defeasance escrows used in such transactions see In the Matter of Lazard Freres & Co. LLC, Exchange Act Release No. 41318 (April 21, 1999).
5 Profit on open market escrow securities generally has two components: markup and carry. Markup is the difference between the price that the dealer charges the issuer and the prevailing wholesale market price. In re Lehman Bros. Inc., Exchange Act Release No. 37673 (Sept. 12, 1996), 62 SEC Dkt. 2324, 2330. Carry is the difference between (a) the interest and accretion produced by the escrow securities between the sale date and closing date and (b) the cost of financing those securities during that period. See Board of Governors of the Federal Reserve System, Trading Activities Manual, Part 2 at 2-8 (March 1994).
6 The Senior Banker agreed with the Commonwealth that Alex. Brown would mark up the portfolio of escrow securities by 4.5 basis points in price (a basis point is 1/100th of one percent, and a markup of 4.5 basis points is a markup of .045 percent). Instead, the Senior Banker marked up the portfolio by 45 basis points in price or .45 percent. Accordingly, the largest portion of the revenues which JMS and HDI derived from the March Refunding resulted from the Senior Banker's overcharge which occurred without the involvement of Seidman or Thiemann.

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