A Manhattan federal judge has dismissed a handful of claims in a lawsuit filed by five investment funds against publicly traded REIT American Realty Capital Properties (now Vereit Inc.) and a handful of its former executives.
The investment funds, which are affiliated with Blackstone Strategic Opportunity Associates and Fir Tree Partners, filed the lawsuit in late June to recover losses suffered following the public revelation that ARCP fraudulently inflated its financials in the first and second quarters of 2014.
The plaintiffs allege that ARCP committed common law fraud and violated sections of the 1934 Securities Exchange Act and are seeking compensatory and punitive damages, lawyer’s fees, and other relief deemed proper by the court.
The defendants include ARCP, which later changed its name to Vereit Inc. (NYSE: VER), its former chairman and CEO Nicholas Schorsch, chief financial officer Brian Block, president David Kay, and chief accounting officer Lisa McAlister.
The funds were invested in security-based swaps based on ARCP common stock when the company acquired Cole Real Estate Investments in February 2014, as well as subsequent purchases later that year.
ARCP argued that the complaint was barred by the statute of limitations and was too vague. Judge Alvin Hellerstein of the New York Southern District Court determined that because ARCP entered into a tolling agreement with the Fir Tree Capital plaintiffs, the Exchange Act claims against it can proceed.
However, the BSOF funds were not party to this agreement so their Exchange Act claims were dismissed by the judge. The Exchange Act claims against Schorsch, Kay, Block, and McAlister were also dismissed.
The defendants’ motion to dismiss the common law fraud claims was denied by Judge Hellerstein, who said, “The Exchange Act claims brought by the Fir Tree plaintiffs against ARCP are unaffected…and the claim for common law fraud against all parties, including the individual defendants, remains.”
The lawsuit was filed shortly after Block was found guilty of securities fraud and related crimes stemming from his role in the 2014 accounting fraud scandal. He was sentenced to 18 months in federal prison in November.
Block and his former colleague McAlister manipulated the company’s second quarter 2014 financial results, allegedly at the direction of Schorsch, by inflating the company’s adjusted funds from operations, or AFFO, hours before filing the results with the SEC. According to the complaint, Kay was aware of the improper accounting and expressly instructed Block and McAlister not to disclose it to others.
In the days following the public disclosure of the accounting cover-up and subsequent firings of Block and McAlister, ARCP stock dropped precipitously – losing nearly 30 percent of its value.
The plaintiffs argue that there was a “rampant lack of effective internal controls” at ARCP, and that the internal controls created by Schorsch, Block, Kay and McAlister were “vastly ineffective and severely flawed.”
“ARCP common stock traded at artificially inflated prices…,”according to the complaint. “The artificial inflation continued until the time the market came to realize the truth about ARCP’s overstated AFFO, net loss, GAAP errors, and ineffective internal controls.”
The plaintiffs said that they acquired the security-based swaps at artificially high prices, and had they been aware of the financial health of the company and its lack of internal controls, they either would not have purchased the swaps in the first place or would not have paid the prices that they did.
McAlister, who cooperated with federal prosecutors during Block’s criminal trial, pled guilty to fraud last year. Schorsch has not been named in any federal indictments regarding the ARCP affair or other AR Global-related scandals.