MacFadyen: A Case Study on Fraud
June 13, 2011
In the last issue of the magazine, we looked in depth at allegations of fraud around Bill Danielczyk and Galen Capital Group. Initially, the aim of the story was to offer a profile of what a corrupt private equity firm may look like against a backdrop of greater regulatory efforts to monitor the asset class. As I spoke to sources, including a number of business owners who say they were burned by Danielczyk, what emerged was an apparent con that seemed to be taking place in full view of the authorities, as Galen would (and is still) using the public markets to act as a distillery through which it seems to legitimize its activities. The full story can be found here.
However, one question that is never answered is whether the increased efforts of regulators would even be able to safeguard investors or business owners against a firm like Galen. Danielczyk, for the record, is currently under indictment for charges related to campaign finance improprieties, but has never faced any charges related to his business activities outside of numerous civil suits.
My best guess is that it's very unlikely that financial reform would have any impact. Galen Capital, for instance, would be excluded from PE registration, since its assets under management never approached the $150 million required by Dodd Frank. And the victims, for the most part, would probably even meet the SEC's proposed higher thresholds for qualified investors.
What's interesting is that it's the rules already in place that should be netting the Galen Capitals of the world. The SEC apparently recognizes this, as the agency signaled last week efforts to shore up its coverage of areas currently under its watch. The SEC provided an investor bulletin on reverse mergers, while suspending trading for 17 OTC-listed stocks.
While I was investigating the Galen story, multiple observers referred to the OTC as essentially the Wild West. And as I researched one Galen-backed company, in particular, it's almost comical the level of disclosure that is included under the likely assumption that nobody is watching. In three months, in 2009, the company managed to spend more on 'marketing' than it owed for employee income tax withholdings and related penalties that were in arrears. As sources identified, company funds were shoveled into luxury box purchases and horse racing sponsorships, which seems pretty rich for a company that has to issue a 'going concern' disclosure. We won't even get into Danielczyk's broad definition of 'consulting fees,' which are partly the focus of his current case.
The whole story just seems to highlight that corruption will accumulate wherever it can, even if it's within the boundaries that regulators are meant to protect.
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