United States District Court
Securities and Exchange Commission,
RHINO ADVISORS, INC.
Civil Action No. __________
Plaintiff Securities and Exchange Commission ("SEC" or the "Commission") alleges:
2. Rhino and Badian manipulated Sedona's stock price to enhance a client's economic interests in a $3 million convertible debenture (the "Debenture") that Sedona issued on November 22, 2000. Sedona issued the Debenture to one of Rhino's clients. The Debenture, negotiated by Badian, prohibited Rhino's client from selling short Sedona's stock short while the Debenture "remained issued and outstanding." Despite this contractual provision, Rhino engaged in extensive short selling and pre-arranged trading on behalf of its client prior to exercising the conversion rights under the Debenture. This short selling increased the supply of shares in the market and depressed Sedona's stock price. As a result of the depressed stock price, Rhino's client received more shares from Sedona when it exercised its conversion rights under the Debenture than it otherwise would have received. Following the conversions, Rhino engaged in wash sales and matched orders to cover the short positions and conceal the client's involvement in the scheme.
3. This Court has jurisdiction over this action pursuant to Sections 20, and 22 of the Securities Act of 1933 ("Securities Act") [15 U.S.C. §§ 77t and 77v] and Sections 21(d), 21(e) and 27 of the Securities Exchange Act of 1934 ("Exchange Act") [15 U.S.C. §§ 78u and 78aa].
4. Rhino and Badian, directly or indirectly, have made use of the means or instrumentalities of interstate commerce, or of the mails, or the facilities of a national securities exchange in connection with the transactions, acts, practices and courses of business alleged herein.
5. Rhino's principal place of business is located in this District. Badian resides in this District and conducts business in this District.
6. Rhino and Badian will, unless restrained and enjoined, continue to engage in the acts, practices and courses of business alleged herein, or in transactions, acts, practices and courses of business of similar purport and object.
7. Rhino is an unregistered investment advisor. Rhino is controlled by Badian, its president. Rhino manages funds for two overseas clients. Generally, it caused its clients to purchase debt securities directly from issuers, often securities convertible into common stock. On behalf of its clients, Rhino subsequently traded the common stock, often selling it short before converting the debt securities.
8. Badian, age 33, resides in New York. Badian controls all of Rhino's operations with the assistance of a small staff of employees.
9. Amro International, S.A. (the "Client") is a Panamanian corporation, headquartered in Zurich, Switzerland, that provides convertible and equity line financing to companies in need of capital. Badian and Rhino acted as investment advisers for the Client.
10. Sedona Corporation is a Pennsylvania corporation headquartered in King of Prussia, Pennsylvania. Sedona produces and distributes customer resource management software for small to mid-size businesses. Sedona's stock is registered pursuant to section 12(g) of the Exchange Act and is listed for trading on the Nasdaq SmallCap Market. Sedona is one of many issuers to whom Rhino's clients provided financing.
11. On November 22, 2000, the Client and Sedona entered into a Convertible Debenture and Warrants Purchase Agreement (the "Purchase Agreement"). Under the terms of the Purchase Agreement, the Client provided Sedona $2.5 million in financing as consideration for Sedona's issuance of a $3 million 5% Convertible Debenture (the "Debenture"). The Debenture obligated Sedona to pay the Client $3 million on March 22, 2001. The Debenture granted the Client the right to convert all or any portion of the Debenture into Sedona common stock at a price equal to 85% of "the volume weighted average price [VWAP] of the Common Stock on the [Nasdaq Small Cap Market] during the five trading days immediately prior to the Closing Date or Conversion Date, as the case may be." Based on this formula, the lower Sedona's stock price during the five-day period prior to the Client's exercise of its conversion rights, the more shares the Client would receive on conversion. The Purchase Agreement expressly prohibited the Client from selling short shares of Sedona's stock while the Debenture remained "issued and outstanding." Sedona filed the Purchase Agreement and Debenture on its Form 8-K with the Commission on November 28, 2000.
12. Between March 1 and March 29, 2001, Rhino and Badian directed a series of short sales of Sedona stock through an account at a U.S. broker-dealer held in the Client's name and controlled by Badian.
13. At the time, the Client owned no Sedona stock. Rhino did not deliver the shares that it was selling short by settlement day and the broker neither bought nor borrowed stock to cover these sales.
14. In violation of the Purchase Agreement's prohibition against short selling, Rhino placed orders with the U.S. broker-dealer, who thereafter placed sell orders with another broker-dealer (the "Cooperating Broker-Dealer") in Sedona stock. Each day in March 2001, the Cooperating Broker-Dealer executed sales of Sedona stock in its proprietary account. The Cooperating Broker-Dealer often placed these sales through various electronic communications networks (ECNs), which provide anonymity to traders wishing to conceal their identity from the market. At the time of these sales, the Cooperating Broker-Dealer did not possess any shares of the Sedona stock that it was selling.
15. The Cooperating Broker-Dealer covered its short sales through the ECN's by purchasing the shares from Rhino's client's account at the U.S. broker-dealer. The Cooperating Broker-Dealer executed the purchases after the sales had been effected through the ECN's and after the market had closed. The Cooperating Broker-Dealer would purchase the shares at prices slightly below the average prices of the sales through the ECN's, thus ensuring itself a profit. As a consequence, these purchases were not printed to the NASDAQ tape and were not included in reported volume for the day.
16. Because the Client owned no Sedona stock, these transactions resulted in short positions in the Client's account. However, because its sales were not reported or printed to the NASDAQ tape, the short sales were not reported to the market.
17. Rhino continued to execute short sales in the Client's account, despite repeated failure to deliver shares by settlement date. In sum, in March 2001, through Badian's trading, the Client sold short 872,796 shares of Sedona stock. Of those shares, the Client sold short 785,536 shares prior to its first exercise of its conversion rights under the Debenture. These failures to deliver triggered clearing failures at Depository Trust and Clearing Corporation ("DTCC"). As a result of the clearing failures, on March 22, 2001, the National Association of Securities Dealers ("NASD") placed a short restriction on Sedona's stock, which required that any future sales of Sedona would be subject to a mandatory close-out if there was a failure to deliver the securities after 10 days.1
18. After the NASD placed the short restriction on Sedona's stock, Rhino sold short Sedona shares from an account he controlled on behalf of the Client at a Canadian broker-dealer. Canadian broker-dealers are not members of the NASD and are not subject to its short sale restrictions. Beginning on March 30 and continuing through mid-April 2001, Rhino executed short sales through the Canadian account.
19. Rhino sold short 350,500 shares in the Canadian account during this period. The shares were not delivered by settlement date. The Canadian broker-dealer neither bought nor borrowed stock to cover these sales and continued executing short sales. Rhino's short selling in the Canadian account continued to put downward pressure on Sedona's stock price. Between March 1 and April 16, Rhino, through the two accounts it controlled on behalf of the Client, accumulated an open and undelivered short position in Sedona stock of 1,193,296 shares.
20. Rhino's short selling through the Client's accounts depressed Sedona's stock price during the five day trading periods prior to each conversion on which the VWAP of Sedona's stock was calculated. Between January 26 and March 1, 2001, Sedona's average closing price was $1.43 per share. By March 23, 2001, after three weeks of Rhino's constant short selling, Sedona's stock had declined to $.75 per share. On March 27, 2001, Badian, on behalf of the Client, tendered the first notice of conversion under the Debenture and received 127,517 shares of Sedona stock at a VWAP of $.9384 and a conversion price of $.79764. During the five trading days prior to March 27, Badian's trading averaged in excess of 25% of all shares traded during the period.
21. Based on the conversion formula in the Debenture, the lower the VWAP, the more shares the Client received from Sedona on conversion. Between March 27 and April 16, 2001, the Client exercised its conversion rights under the Debenture on three more occasions. On April 5, 2001, the Client exercised its right to receive 395,337 shares of Sedona stock at a VWAP of $.75762 and a conversion price of $.64398. On April 10, the Client exercised its right to receive 761,342 shares of Sedona stock at a VWAP of $.7884 and a conversion price of $.67014. On April 16, 2001, the Client exercised its right to receive 329,988 shares of Sedona stock at a VWAP of $.91022 and a conversion price of $.77369. As a result of the sustained sell pressure placed on Sedona's stock price, the VWAP for each of the Client's conversions in April was lower than the VWAP for its first conversion on March 27, which increased the number of conversion shares that the Client received from Sedona under the Debenture.
22. Rhino deposited the conversion shares that the Client received from Sedona into another account he controlled at a second U.S. broker-dealer designated to receive the conversion shares (the "Conversion Shares Account"). By April 16, 2001, Rhino received 1,614,184 shares of Sedona stock on behalf of the Client in the Conversion Shares Account. The majority of these conversion shares were used to close the open and undelivered short position at the first U.S. broker-dealer where the short selling occurred and to significantly reduce the open and undelivered short position at the Canadian broker-dealer.
23. Instead of delivering the shares directly to broker-dealers where the short sales occurred, Rhino effected wash sales and matched orders out of the Conversion Shares Account to the short selling accounts. This created the appearance that the accounts that had short positions were purchasing shares in the open market and not covering short positions with shares obtained through conversion of the debenture. On at least ten occasions during April, 2001, Badian directed transactions involving no change in beneficial ownership of shares of Sedona stock or placed buy orders for shares while simultaneously placing sell orders of substantially the same size and price.
24. On May 1, 2001, Badian exercised the Client's right to receive 261,587 shares of Sedona stock at a VWAP of $.94474 and a conversion price of $.80303. On May 15, 2001, Badian exercised the Client's right to receive 303,399 shares of Sedona stock at a VWAP of $1.19 and a conversion price of $1.01. Badian continued to engage in short selling in May, selling 25,000 shares in one account and 560,800 shares through another. Badian and Rhino failed to deliver these shares to the accounts were the sales occurred, thereby triggering clearing failures at DTCC.
25. Rhino's trading allowed the Client to profit from the scheme in at least two ways. First, the short sales locked in a sale price for the Sedona stock that was higher than the conversion price for the shares ultimately used to cover the open short positions. Second, Rhino's short sales increased the supply of Sedona shares in the market and depressed the price. As a result of the depressed market price, the Client converted the Debenture to a greater number of shares of Sedona stock, which were already discounted to the market, and which it then used to cover its previous short sales made at higher prices.
26. Rhino failed to tender a sworn response to an order issued pursuant to Section 21(a) of the Exchange Act [15 U.S.C. § 78u].
27. Paragraphs 1 through 26 are realleged and incorporated herein by reference.
28. From at least March 2001 through May 2001, Defendants Rhino and Badian, directly and indirectly, by use of the means and instrumentality of interstate commerce, and of the mails in connection with the purchase or sale of the securities, as described in this Complaint, have been, knowingly, willfully or recklessly: (a) employing devices, schemes or artifices to defraud; (b) making untrue statements of material facts and omitting to state material facts necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading; and/or (c) engaging in acts, practices and courses of business which have operated, are now operating and will operate as a fraud upon the purchasers of such securities.
29. By reason of the activities described in the paragraphs above, defendants Rhino and Badian directly or indirectly, have violated and, unless enjoined, will continue to violate Section 10(b) of the Exchange Act, 15 U.S.C. § 78j(b), and Rule 10b-5, 17 C.F.R. § 240. 10b-5, thereunder.
30. Paragraphs 1 through 29 are realleged and incorporated herein by reference.
31. From at least March 2001 through May 2001, Defendants Rhino and Badian, directly and indirectly, by use of the means or instruments of transportation or communication in interstate commerce and by use of the mails, in the offer or sale of securities, as described in this Complaint, have been, knowingly, willfully or recklessly employing devices, schemes or artifices to defraud.
32. By reason of the activities described in the paragraphs above, Defendants Rhino and Badian directly and indirectly, have violated and, unless enjoined, will continue to violate Section 17(a)(1) of the Securities Act, 15 U.S.C. § 77q(a)(1).
33. Paragraphs 1 through 32 are realleged and incorporated herein by reference.
34. On June 17, 2002, the Commission lawfully issued an order pursuant to Section 21(a) of the Exchange Act to Rhino.
35. Rhino failed to comply with the terms of the Order and has therefore violated the Order.
WHEREFORE, Plaintiff SEC respectfully requests that this Court enter a judgment:
(i) permanently enjoining Defendants Rhino Advisors, Inc. and Thomas Badian from violating Section 10(b) of the Exchange Act [15 U.S.C. §§ 78j(b)], and Rule 10b-5 thereunder [17 C.F.R. §§ 240.10b-5 ];
(ii) permanently enjoining Defendants Rhino Advisors, Inc. and Thomas Badian from violating Section 17(a)(1) of the Securities Act of 1933 [15 U.S.C. § 77q(a)];
(iii) ordering Defendants Rhino Advisors, Inc. and Thomas Badian to pay, on a joint and several basis, a civil money penalty under Section 21(a) of the Exchange Act [15 U.S.C. § 78u] in the amount of $1 million U.S. dollars;
(iv) ordering Defendant Rhino Advisors to comply with the Commission's order, issued pursuant to Section 21(a) [15 U.S.C. § 78u] of the Exchange Act, directing it to provide sworn answers to the questions directed to it; and
(v) granting such other relief as this Court may deem just and appropriate.
Thomas C. Newkirk (TN7271)
James M. McHale (JM8286)
James T. Coffman
Melissa A. Robertson
Christopher C. Ehrman
Counsel for Plaintiff
Securities and Exchange Commission
Mail Stop 9-11
450 Fifth Street, N.W.
Washington, D.C. 20549
(202) 942-4588 (McHale)
(202) 942-9581 (fax)
Dated: Washington, D.C.,
February 26, 2003
1 Section 11830 of the NASD's Uniform Practice Code requires that a short seller's broker-dealer must close out a short sale of a specific security 10 days after normal settlement date if the client does not deliver the shares. Securities subject to close-out requirement are those with an aggregate "clearing" short position of 10,000 shares or more that equals or exceeds one half of one percent of the total shares outstanding. The NASD will identify these securities daily based on data from the DTCC and compile a "restricted list." Any subsequent short-sale transaction in a security on the list that is not completed by delivery of shares within the prescribed time frames will be subject to mandatory close-out if a "fail-to-deliver" situation exists 10 days after normal settlement date.
|Home | Previous Page||