U.S. SECURITIES AND EXCHANGE COMMISSION
LITIGATION RELEASE NO. 21709 / October 25, 2010
SEC v. Southridge Capital Management LLC, Southridge Advisors LLC, and Stephen M. Hicks, Civ. Action No. 3:10-cv-1685
The Securities and Exchange Commission announced today that it charged hedge fund manager Stephen M. Hicks and his investment advisory businesses with defrauding investors in funds managed by Southridge Capital Management LLC and Southridge Advisors LLC by overvaluing the largest position held by the funds. The SEC alleges that the hedge fund manager also made material misrepresentations to investors and misused investor money to pay legal and administrative expenses of other funds managed by Hicks and Southridge.
The SEC alleges that Hicks, of Ridgefield Connecticut, overvalued the largest position held by the funds by fraudulently misstating the acquisition price of the assets. According to the SEC’s complaint, Hicks arranged a transaction in which a telecommunications company acquired by the Southridge funds when the company defaulted on a $769,000 note, was sold to Fonix Corporation in exchange for securities with a stated valued of $33 million in early 2004. The complaint further alleges that neither the asset sold nor the securities obtained in the transaction were accurately valued by Southridge and Hicks. Thereafter, the SEC alleges, the Fonix position was wrongfully valued at its acquisition cost, and the funds paid or accrued hundreds of thousands in management fees every year since 2004.
The SEC further alleges that beginning in late 2003, Hicks fraudulently solicited investors to put money in new funds by telling them that the majority of their investments would be placed in unrestricted, free-trading shares (meaning shares that were available to be sold), cash, or near cash. According to the complaint, Hicks raised $80 million for the new funds between 2004 and 2007. The complaint further alleges that, at year-end 2006, more than one-third of the assets in one new fund (and more than half of the assets in another new fund) were invested in relatively illiquid deals. By 2007, the SEC alleges, many investors in these funds were having difficulty redeeming their money because it had been invested in relatively illiquid securities.
The SEC also alleges that between 2005 and 2008, Southridge and Hicks caused certain of the funds that had available cash to pay approximately $5 million of legal and administrative expenses of older funds that were illiquid and had no available cash. The SEC’s complaint alleges that investors in the funds from which money was taken were not told about this misappropriation of fund assets while it was taking place. According to the SEC’s complaint, in February 2009, Hicks sent a letter to investors admitting that certain legal and administrative expenses had been improperly allocated between the funds. Rather than repaying the money to the funds, however, the SEC alleges that Southridge and Hicks transferred certain illiquid securities to the funds.
The SEC complaint charges defendants with violations of Section 17(a) of the Securities Act, Section 10(b) of the Securities Exchange Act and Rule 10b-5 thereunder, and Sections 206(1), 206(2) and 206(4) if the Investment Advisers Act and Rule 206(4)-8 thereunder. The Commission seeks injunctive relief, disgorgement of profits, prejudgment interest, and financial penalties.
The Commission acknowledges the assistance of the Connecticut Department of Banking, Securities and Business Investments Division in its investigation.