NASD announced that John F. Mangan, Jr., a hedge fund manager formerly registered as a broker with Friedman, Billings, Ramsey & Co. (FBR) of Arlington, VA, has been permanently barred from associating with any NASD-registered firm and will pay a $125,000 fine to settle charges that he deceptively obtained shares in a PIPE transaction, improperly sold the shares short, and shared in profits from the shares without obtaining permission from FBR.
A PIPE (“Private Investment in a Public Equity”) is a private offering in which accredited investors agree to purchase restricted, unregistered securities of public companies. Only after the SEC approves the PIPE shares’ registration are investors free to sell them on the open market. PIPE shares can only be offered to “accredited” investors – for example, investors with assets of $1 million or more. NASD found that in September 2001, Maryland-based Compudyne Corporation and its placement agent, FBR, offered accredited investors – on a confidential basis – a PIPE deal proposing to sell 2,450,000 shares of common stock, which raised more than $29 million.
Not later than Sept. 28, 2001, Mangan learned through a firm-wide research call that FBR had an investment banking relationship with Compudyne. Within a few days, Mangan received copies of the Compudyne Private Placement Memo, a Purchase Agreement and a sales script that FBR brokers were to use to market the PIPE transaction to potential investors.
NASD found that Mangan wanted to invest in the PIPE through one of a group of hedge funds he managed with a partner. Mangan contacted senior FBR officials to inquire whether the hedge fund could invest in the PIPE. These officials told Mangan in substance that a person associated with FBR should not invest in the Compudyne PIPE and refused Mangan permission to buy shares in the PIPE. Nevertheless, Mangan arranged for HLM Securities LLC (“HLM”), an investment advisor owned by Mangan’s partner, to buy 80,000 shares in the PIPE. The restricted stock was sold at the below-market price of $12 per share. In fact, FBR paid Mangan a commission of about $6,880 as the broker responsible for HLM’s purchase of the Compudyne PIPE.
Mangan and his partner agreed that Mangan would personally provide all the funds necessary to buy the PIPE shares and that Mangan and his partner would share equally in all profits from the PIPE. Mangan’s partner was the only signatory for HLM on the Purchase Agreement. Mangan failed to seek and obtain written permission from FBR to purchase an interest in the Compudyne PIPE and failed to disclose that he had arranged to acquire an interest in the Compudyne PIPE through HLM, or that he had agreed to share profits from the PIPE transaction with his partner.
On Oct. 9 and Oct. 12, 2001, Mangan caused HLM to place orders to sell 80,000 shares of Compudyne, and based on those orders, the executing broker and prime broker treated the sales as “long” sales. In fact, HLM was naked short selling the shares, and no affirmative determinations were made that HLM could locate shares to borrow in order to make delivery by settlement date. Mangan intended for HLM to profit by covering the naked short position in Compudyne with shares acquired in the PIPE once they became registered.
On Oct. 31, 2001, after the PIPE shares were registered, HLM covered its 80,000-share short position using the 80,000 shares of Compudyne that HLM had bought in the PIPE. As they had agreed, Mangan and his partner shared equally in HLM’s profits from the sale and purchase of Compudyne shares. Mangan received a total profit of approximately $87,000.
In settling this matter with NASD, Mangan neither admitted nor denied the charges, but consented to the entry of NASD’s findings. NASD’s investigation into other individuals and entities involved in the Compudyne PIPE is continuing. In May, Hilary Shane, a hedge fund manager formerly registered with First New York Securities, was barred and ordered to pay more than $1.45 million in fines and restitution by NASD and the Securities and Exchange Commission, to settle fraud and insider trading charges arising from her purchase and sale of Compudyne PIPE shares.