The Securities and Exchange Commission has charged AR Capital LLC, its founder Nicholas S. Schorsch, and its former CFO Brian Block with wrongfully obtaining millions of dollars in connection with two separate mergers between real estate investment trusts that were sponsored and externally managed by AR Capital, now known as AR Global.
The defendants agreed to settle the matter by paying a total of more than $60 million in disgorgement, prejudgment interest and civil penalties without admitting or denying the allegations in the complaint, which can be read here. The settlements are subject to court approval.
According to the SEC’s complaint, between late 2012 and early 2014, AR Capital arranged for American Realty Capital Properties Inc. (ARCP), a publicly-traded REIT, to merge with two publicly registered non-traded REITs: American Realty Capital Trust III Inc. and American Realty Capital Trust IV Inc.
Block was at the center of another ARCP accounting scandal back in October 2014 where he and a colleague were eventually found guilty of fraudulently inflating ARCP’s second quarter 2014 financial results to make it appear that the company had achieved certain financial metrics when it had not. He was sentenced to 18 months in prison and is currently attempting to appeal the verdict.
In the current complaint, the SEC alleges that AR Capital, Schorsch and Block inflated an incentive fee in both REIT mergers, and the fraudulent calculation allowed them to obtain approximately 2.92 million additional ARCP operating partnership units as part of their incentive-based compensation.
In addition, the complaint alleges that the defendants wrongfully obtained at least $7.27 million in unsupported charges from asset purchase and sale agreements that they entered into in connection with the mergers.
One such “charge” was supposedly for ARCP to purchase $5.8 million in furniture, fixtures, and equipment from AR Capital for post-merger operations, while the remainder was reimbursement to AR Capital of certain “unreimbursed expenses.”
“REIT managers and their professionals have an obligation to tell the truth when making disclosures to shareholders about their compensation,” said Marc P. Berger, director of the SEC’s New York regional office. “As we allege in our complaint, AR Capital and its partners Schorsch and Block failed to do so and benefitted themselves greatly at the expense of shareholders.”
The SEC’s complaint was filed in federal district court in Manhattan and charges AR Capital and Block with violating the antifraud provisions of various federal securities laws, and falsifying books and records of ARCP. The complaint charges Schorsch with antifraud violations, as well as books and records violations.
AR Capital, Schorsch, and Block have agreed to pay combined disgorgement and prejudgment interest on a joint-and-several basis of more than $39 million, which includes cash and the return of the wrongfully obtained ARCP operating partnership units; and imposes civil penalties of $14 million against AR Capital, $7 million against Schorsch, and $750,000 against Block.
This is not the first accounting misdeed involving Block, Schorsch, and their scandal-plagued empire. In October 2014, Block and Lisa McAlister, who served as ARCP’s chief accounting officer, manipulated the company’s second quarter 2014 financial results by inflating the company’s adjusted funds from operations, or AFFO, hours before filing the results with the Securities and Exchange Commission.
McAlister cooperated with the prosecution and testified that then-CEO Schorsch directed Block to manipulate and conceal the falsified numbers.
Federal prosecutors argued that Block’s bonuses were partially tied to the company meeting AFFO targets and his extensive stock ownership was motivation to keep the share price “propped up.”
Block owned 1.4 million shares of ARCP and could have potentially received a cash and equity bonus of up to eight times his $500,000 annual salary had certain targets been met. The value of AFFO constituted a 20 percent portion of Block’s bonus.
In June 2017, Block was convicted of securities fraud, filing false reports to the SEC, filing false certifications and conspiracy, and was sentenced to 18 months in prison, followed by three years’ supervised release, and a $100,000 fine. Block was denied a new trial and is attempting to appeal the verdict in the Second Circuit Court of Appeals.
Block was a founding partner of American Realty Capital, AR Capital’s predecessor, along with Schorsch, Michael Weil, Peter Budko and William Kahane.
Following the various scandals that commenced with the ARCP accounting cover-up for which Block was charged, the company formed AR Global – where Block, Schorsch, Weil, Budko and Kahane are all presumed to continue in their roles as partners.
After the accounting fraud was revealed, ARCP’s market value dropped by more than $3 billion and Schorsch eventually resigned as executive chairman. In 2015, ARCP replaced its board members and senior management team and rebranded as Vereit Inc. (NYSE: VER) – a blend of veritas, the Latin word meaning truth, and REIT.
Multiple securities class action complaints were filed against the company and its officers in the United States District Court for the Southern District of New York. Vereit has now settled claims to the tune of $254.4 million, brought by entities that hold approximately 35.3 percent of its stock.