Judge Rejects Securities America Class Action Settlement in Big Blow to BD

Arbitration cases can proceed; Provident, Medical Capital ruling has wider implications for broker-dealer industry

A federal judge rejected a class action settlement with Securities America late Friday in a ruling that could have wider implications for the broker-dealer industry as a whole. 

Under the terms of the settlement between Omaha, Neb.-based Securities America, led by CEO James Nagengast (left) and plaintiffs’ attorneys, Securities America would pay $21 million, or about $0.05 on the dollar, to settle charges that it didn't perform proper due diligence on investments that failed to deliver on promised returns. Plaintiffs allege they lost $400 million as a result.

U.S. District Judge Royal Furgeson allowed arbitration cases to proceed for investors trying to recoup losses outside of the class action suit. At the heart of the lawsuits are gas investments sold through Provident Royalties LLC. and debt offering sold through Medical Capital Holdings Inc. by Securities America reps.  Both companies have been charged with fraud by the SEC.

Reacting to the ruling, Janine Wertheim, Securities America Inc.'s Senior VP and chief marketing officer, said in a statement that “We are disappointed that the court in Texas did not approve the settlement on Friday, but remain committed to finding a solution to the Medical Capital and Provident Royalties matters for the company, its advisors and their clients."

(UPDATE: See our next-day analysis of the implications of the judge's decision for broker-dealers, regulators and recruiters.)

The Associated Press reports attorneys for Securities America have said the broker-dealer would be forced to close if Friday’s agreement was not approved. Some plaintiffs’ attorneys agree, noting that the settlement is the only way for investors to recoup at least some of their losses. Others note that Securities America is well capitalized through its parent company Ameriprise Financial, and it is unlikely Minneapolis-based Ameriprise would let its subsidiary fail.

In her statement released to AdvisorOne on March 21, Wertheim said “Ameriprise has reached out to us to determine whether it can help the parties to find a reasonable resolution for all constituents. We hope to develop a process in the coming days that would facilitate exploration of such a resolution, and to have a good sense by the end of the week whether such a resolution is possible."

In Investment Advisor magazine’s annual directory of independent broker-dealers, in 2010, Securities America ranked 11th in number of reps among independent BDs—1,906 as of April 1, 2010—and fifth in revenue, with $412 million in gross revenue. Securities America ranked 17th in average annual production per rep—at $167,961 gross production—and had $14.4 billion in fee-based assets under management. Securities America also reported in Investment Advisor's annual directory that 17% of its reps had their own RIA.

In January, a FINRA arbitration panel awarded $1 million to a claimant who had accused Securities America and one of its reps with breach of fiduciary duty and financial elder abuse over the sale of promissory notes of Medical Capital. .At that time, Wertheim told AdvisorOne's Joyce Hanson that “The award was based on the

specific facts of this investor's case, and we disagree with the outcome. Securities America does not believe it acted inappropriately in the sale of these investments.“ 

Whatever the outcome, industry watchers say the ruling has larger implications for independent broker-dealers as a whole.

“It’s going to change the broker-dealer industry dramatically,” says one recruiter for a small independent firm who asked not to be identified. “Ameriprise has deep pockets, but we are talking about half a billion dollars to clean this up.”

Securities America is not the only firm that sold these investments, he notes, and more broker-dealers will likely go out of business if Friday’s ruling is upheld.

“If the ruling doesn’t get overturned and individual arbitrations can’t be bundled up into a single class action settlement by each broker-dealer, then the cost of claims, not to mention the cost of litigation, will crush every one of them,” he said.

The recruiter claims he received seven unsolicited calls from Securities America reps within hours of the ruling. One producer group took 17 minutes to fill out and fax back the affiliation agreement paperwork.

“You can kick out the right leg or the left leg, but either way it doesn’t look good for Securities America and many other firms,” according to the recruiter. “Even if they survive litigation, their E&O costs alone will have advisors looking elsewhere.”

Nagengast, a 16-year Securities America veteran, was named last July to succeed Steve McWhorter as CEO of the broker-dealer following McWhorter's January 2010 retirement.

(UPDATE: See our next-day analysis of the implications of the judge's decision for broker-dealers, regulators and recruiters.)

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