SEC charges stem indirectly from troubled Harvey, Ill.
Fallout from a past public corruption and fraud enforcement case as well as serious financial distress in Harvey, Illinois led indirectly to a municipal advisor and underwriter facing Securities and Exchange Commission charges in a library district bond offering gone wrong.
In a complaint filed Thursday in U.S. District Court for the Northern District of Illinois, the SEC alleged that Mississippi-based municipal advisor Comer Capital Group, LLC and its managing partner, Brandon L. Comer, 37, failed to protect its client in a January 2015 $6 million bond offering for the Harvey Public Library District.
The SEC’s complaint charges Comer Capital and Comer with breaching their fiduciary duties in violation of Section 15b(c)(1) of the Securities Exchange Act of 1934.
The SEC settled an administrative proceeding against IFS Securities, the underwriter of the bonds, in an action also announced Thursday. The SEC alleged that the firm did not act with reasonable care in underwriting the bonds and when it had a hard time finding investors, sold the bonds to another broker-dealer at a price that was not fair and reasonable. IFS neither admitted nor denied the SEC's findings.
IFS violated MSRB Rule G-17 on fair dealing and Section 15b(c)(1), the SEC found. IFS agreed to a censure, an order to hire an independent compliance consultant, and to pay a $50,000 penalty.
These actions arose from market contamination caused by the troubles of Harvey, a cash-strapped Chicago suburb that has defaulted on millions of dollars of bonds and which was the subject of a 2014 SEC enforcement action. In that case, the SEC took the unusual step of seeking an emergency court order to halt an upcoming bond sale because it alleged the city and its comptroller were diverting bond payments for personal gain and to meet city payroll needs.
In 2011, the library district announced its plans to issue $16 million in bonds in a negotiated sale, and voters approved the debt that same year. But the district didn't decide to proceed with the issuance until late 2013 or early 2014, leading to the early 2015 sale date.
The SEC alleged that Comer Capital and Comer’s actions led to the district receiving a price for its bonds that was not fair and reasonable, causing the borrowing costs to be substantially higher than they should have been.
The bonds had features that would have been appealing to certain investors since they were insured, had an investment-grade rating and were bank-qualified. But though Harvey does not control the district’s budget or revenues and the library district was a first-time issuer, investors appeared to penalize it for the troubles of the city.
“Despite the fact that the bonds were insured and rated investment grade, respondent had difficulty finding buyers,” the SEC wrote in its action against IFS. “In attempting to market the bonds, respondent encountered unexpected investor confusion about the relationship between the district and the City of Harvey, which had been the subject of a commission enforcement action.”
The SEC alleged that Comer Capital and Comer did not give advice to the district on selecting an experienced underwriter, did not research and find appropriate pricing for the bonds, assist with pricing of the bonds and did not negotiate on the district’s behalf.
The SEC alleged that Comer Capital and Comer thus breached their fiduciary duty to their client by instead deferring entirely to the underwriter of the bonds, IFS Securities.
As a result of Comer Capital and Comer’s breach of fiduciary duty, the district is anticipated to pay at least $500,000 in additional interest over the life of the bonds, the SEC wrote.
“I am beyond disappointed that the SEC brought this complaint,” said James Kopecky, counsel to Comer Capital and Comer. “I think it’s meritless and I think Brandon will be exonerated.”
Kopecky said Comer has helped people in distressed communities and that the SEC action was “just wrong.” IFS also didn’t do anything wrong, Kopecky said.
“I understand why IFS agreed to settle, it’s cheaper than fighting the SEC, but Brandon didn’t do anything wrong,” Kopecky said.
The SEC also alleged that IFS recommended Comer Capital as a municipal advisor, and the district hired them without interviewing any other municipal advisor.
The SEC said that IFS did not have experience leading an underwriting for bonds like the district’s bonds. In September 2014, the District selected IFS to underwrite the bonds without conducting a competitive process or retaining a municipal advisor beforehand, against best practice.
The SEC alleges that IFS mismanaged the pre-order marketing period and that it did not attempt to negotiate or find other buyers after accepting a bid with a higher yield, making it worse for the district because it meant higher borrowing costs.
“IFS conducted inadequate marketing efforts, did not contact appropriate buyers for the bonds, and mismanaged the order period for the sale of the bonds,” the SEC wrote. “IFS ultimately sold the bonds at a price that was not fair and reasonable to the district.”
Per IFS’ bond agreement, the district sold all of the bonds to the broker-dealer at a coupon or fixed annual interest rate of 7.10%, which according to Bloomberg LLP was the highest coupon on any comparable municipal security issued in Illinois that year.
Comer Capital also sought a flat fee of $20,000 for its services. The district’s board asked Comer to agree to a lower fee, which both accepted at $15,000. Days later, Comer asked IFS to negotiate an increase of Comer Capital’s fee with the District, the SEC wrote.
An IFS representative raised the issue of increasing the fee with one of the district’s board members and as a result Comer Capital’s fee was raised back to $20,000. After the bond sale closed, Comer negotiated a further increase to $40,000, the SEC alleged.
“As a representative of the issuer, a municipal advisor is in an arms-length relationship with the underwriter,” the SEC wrote. “It was therefore inappropriate and a breach of fiduciary duty, for Comer to ask IFS to intercede with the district and renegotiate Comer Capital’s fee on Comer Capital’s behalf.”
IFS and the Library District did not respond immediately to comment.