Rather than shut down their New York-based "boiler room" as the SEC had ordered, some former sales agents continued selling unregistered securities to investors by operating under a different name.
So alleged the Securities and Exchange Commission on Wednesday
The SEC's complaint accuses Legend Venture of relying on the same playbook that had gotten its alleged predecessor in trouble. Before being shut down, StraightPath was alleged to have had more than 45 sales associates in at least two Manhattan boiler rooms making cold calls to prospective investors, encouraging them to invest in private companies that were portrayed as being on the verge of going public.
The representatives "used sales scripts that were nearly identical to those that would later be used to solicit Legend investors," according to the complaint.
Attempts to reach Legend Venture and its lawyers were unsuccessful.
The term "boiler room" is often used to describe sales floors where representatives are put under greater pressure to sell stocks and other securities with little regard for their clients' interests. Steve Buchwalter, a lawyer focusing on investment and securities disputes at the Law Office of Steve A. Buchwalter in Encino, California, said boiler rooms have become far less common in large part because of the Financial Industry Regulatory Authority's enforcement of a rule requiring companies with dodgy histories to be subject to heightened supervision.
If a firm is now accused of selling securities without the proper license, Buchwalter said, it's more likely to be an investment advisor than a broker-dealer.
"When I hear the word 'unregistered,' that's what I'm thinking," he said.
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The SEC alleges Legend Venture started its new boiler room operation in February 2022, approximately the same time StraightPath ceased. The principals at Legend were stars when they were at StraightPath. From 2019 to February 2022, their team earned nearly $35 million in commissions for the firm, more than any other group of sales agents, according to the complaint.
Douglas Schulz, the president of Invest Securities Consulting, said the case shows how easy it is for sales representatives to move on from a firm that's under regulatory scrutiny.
"Here we go again," he said. "You catch them, and you disclose the entity they worked for. But you don't really do anything about the people who were in control. So what's the point? What did you accomplish?"
At Legend Venture, the SEC alleges, the sales team would routinely promise to help clients put their money directly into shares of private companies that would eventually sell stock to a much broader group of investors through an initial public offering, or IPO. The promise, according to the complaint, was that clients could eventually sell their stock on the public markets for many times what they had initially paid.
In reality, according to the SEC, buyers were being sold shares from five funds that Legend maintained and used to secure ownership in private firms.
The SEC also alleges Legend Venture was not upfront about how it made money, telling investors initially that it did not charge commissions or other transaction fees. In fact, according to the complaint, it was collecting a markup of between 46% and 105% on every investment it helped broker into a private company.
The SEC said Legend Venture eventually began telling clients toward the end of June 2022 that it was charging markups.
"Nevertheless, even after June 30, 2022, Legend continued to mislead prospective investors through its website and on sales calls, stating that Legend did not make any upfront fees or compensation unless and until there were profits on a public offering by the Pre-IPO Companies," according to the complaint. "And, even after June 30, 2022, Legend never disclosed the size of its markups."
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In a filing in New York federal court on Monday, Legend's lawyers disputed the idea that the firm wasn't upfront about how it made money. They pointed to a memorandum it began circulating among investors before June 2022.
"Contrary to the SEC's assertion, this disclosure informed investors that the price paid on a per share basis was higher than Legend's cost, thus advising investors that Legend was not passing through these investments at cost," according to Legend's lawyers. "Investors were advised that Legend would earn profit from the price difference."
The SEC alleges Legend Venture sold shares in its funds to at least 321 investors in 48 states and Bermuda between February and October 2022. Of the $35 million it raised from those transactions, more than $24 million came from former clients of Legend Venture's alleged predecessor, StraightPath, according to the SEC.
The regulator's complaint said the scheme was lucrative. According to the SEC, it eventually provided the principals at Legend with more than $9 million and their sales representatives more than $3.25 million, even though none of the private companies they were offering to investors has yet gone public.
The SEC said Legend Venture claimed to stop selling interest in its funds in October 2022. But its website, according to the complaint, continued to advertise investment opportunities in pre-IPO companies until at least June 17 this year.
Besides the temporary injunction against Legend Venture, the SEC is asking for the appointment of a receiver who could oversee any eventual retribution of money to investors. Legend's lawyers have objected to this proposal, saying whatever money remains is earmarked for shares in private companies and that there are no allegations that their client has misappropriated it through a Ponzi-like scheme.
