SECURITIES AND EXCHANGE COMMISSION
Litigation Release No. 17870 / December 2, 2002
FEDERAL COURT FINDS THAT TWO OF SIMON HERSHON'S "INTERBANK COMPANIES" VIOLATED INVESTMENT COMPANY ACT AND APPOINTS TRUSTEE; COURT DENIES MOTION TO DISMISS SEC FRAUD CLAIMS
SEC v. IBF COLLATERALIZED FINANCE CORP., et al., Case No. 02-CV-5713 (S.D.N.Y.)
On November 26, 2002, the Honorable John S. Martin, Jr. of the United States District Court for the Southern District of New York granted the Commission's application for partial summary judgment in SEC v. IBF Collateralized Finance Corp., et al., Case No. 02-CV-5713-JSM (S.D.N.Y.), and denied a motion by one of the defendants to dismiss fraud claims against him. The Commission filed a Complaint in July 2002 charging Simon Hershon ("Hershon") and three of his "InterBank Companies" in connection with the offer and sale of $189 million in debt securities between 1997 and 2002. The corporate defendants are InterBank Funding Corporation ("IBF"), IBF Collateralized Finance Corporation ("CFC") and IBF VI - Secured Lending Corporation ("Fund VI"). The Complaint charges securities fraud and that defendants CFC and Fund VI are operating unlawfully as unregistered investment companies in violation of the Investment Company Act of 1940 (the "ICA").
The Court granted summary judgment on the Commission's ICA claim against CFC and Fund VI. The Court ruled that these defendants are investment companies not exempt from registration under Section 3(c)(5)(C) of the Act for issuers "primarily engaged" in the business of "purchasing or otherwise acquiring mortgages and other liens on and interest in real estate." Defendants argued that they satisfied this mortgage exclusion by acquiring, for a nominal sum, a residual interest in two trusts that had issued mortgaged backed bonds to the public. By structuring the transactions in a particular way, defendants were able to put on their own books all of the mortgages in the trusts, amounting to $674 million, even though defendants did not own the mortgages. The Court rejected this argument, held that defendants were unregistered investment companies and appointed a trustee to take over the management of the defendants' business.
The Court also rejected defendant Simon Hershon's motion to dismiss the claims of securities fraud. The Complaint charges that Hershon's companies have been able to operate over the past six years only because the companies were constantly raising new offering proceeds, which IBF routinely moved between companies in order to meet their cash flow needs - amounting to tens of millions of dollars of inter-fund transfers. The Complaint also alleges that defendants failed to disclose millions of dollars in transfers between IBF and the IBF Funds that were designed to hide - and did hide from investors - millions of dollars in losses sustained by the investment loan portfolios of the IBF Funds. As a result, the financial statements of the IBF Funds materially overstated net income, and return statistics that IBF regularly published about the IBF Funds were materially overstated.