After a hearing panel of the Financial Industry Regulatory Authority (FINRA) found that Merrimac Corporate Securities Inc. had willfully violated securities laws and fined the firm $18,500, Merrimac appealed to FINRA's Board of Governors to no avail.
A May 2 decision from the Board of Governors affirmed the hearing panel's decision. Merrimac was found to have violated FINRA rules by selling four categories of securities not permitted under its FINRA membership agreement, and by failing to adequately supervise sales of these securities. The prohibited categories were private placements, real estate investment trusts (REITs), limited partnerships (LPs) and direct participation programs.
Merrimac also willfully violated federal securities laws by failing to preserve emails and by failing to keep daily records of its trading activities for its mutual fund and variable annuity businesses, the decision said. The conduct occurred between 2004 and October 2007.
FINRA's Board of Governors also affirmed the sanctions, which included an $18,500 fine, hearing panel costs of about $4,700 and statutory disqualification, which means that Merrimac must seek approval from FINRA before continued participation in the financial industry. The decision also imposed appeal costs of about $1,500.
Merrimac's conduct willfully violated Section 17(a) of the Securities Exchange Act of 1934, as well as Exchange Act Rules 17a-3 and 17a-4, the decision said. Willfulness refers to the fact that the actions which led to the violation were engaged in consciously. It does not refer to whether a firm knew it was violating the law.
The firm's conduct also violated rules 1017, 2110, and 3010 of the National Association of Securities Dealers (NASD), a FINRA predecessor.
A FINRA member since 1993, Merrimac is a general retail securities business based in Altamonte Springs, Fla., that employs about 60 brokers. More information on the firm, including disciplinary actions, is avaliable in its BrokerCheck report, generated by FINRA.
The firm's management team at the time of the violations consisted of Stephen Pizzuti, David Matthews and Mark Thomes, the decision said.
Pizzuti served as a branch manager from 2003 to 2008 and has been the CEO since 2008. Matthews served as Merrimac's president and chief compliance officer from 2003 to 2007, and Thomes has served as Merrimac's chief financial officer and financial and operations principal since 2003. Thomes also was in charge of preserving the firm's business-related emails at the time of the violations.
Regarding the breach of its FINRA membership agreement, the decision characterized Merrimac's misconduct as serious, not egregious. By selling private placements, REITs, LPs and direct participation programs, the firm breached a material provision of its membership agreement. The agreement did not authorize the sale of these products and Merrimac did not stop selling the these products until a FINRA examiner told it to stop, even though it was on notice that there was a problem with its authorizations.
Pizzuti, Matthews and Thomes ran a firm called Allen Douglas Securities. In 2003, they purchased Merrimac in order to build their online business. After the acquisition there was a lot of confusion about the products on offer, which products were new, and which products constituted a material change in Merrimac's business. A material change to the business of a firm requires special approval from FINRA, the decision said.
According to the decision, Thomes submitted a form known as a Uniform Application for Broker-Dealer Registration, commonly called a Form BD, that did not match the information in the firm's FINRA membership agreement as required.
Merrimac and FINRA went through several rounds of communications, and several amended Forms BD, trying to resolve the issue, but Merrimac never stopped selling the products, the decision explained.
Matthews testified before the hearing panel that he believed Merrimac was authorized to sell the products, even though they were not listed in the firm's membership agreement, the decision said. Specifically, he said he believed that the authorizations for other kinds of business encompassed private placements, but the hearing panel said it did not find Matthews credible.
On appeal, the Board of Governors said it could ascertain no reason to disturb the hearing panel's finding on credibility. The Board instead agreed that Matthews most likely just assumed Merrimac was authorized to sell the products and that he did not read the membership agreement before he signed it.
Thomes testified, not that he thought the firm was authorized, but that he did not think Merrimac was selling private placements or LPs, and thus was not in violation of its membership agreement.
Both men were negligent. They failed to discharge their duties as principals of Merrimac when they failed to read -- or failed to comprehend -- the membership agreement, the decision said.
The unauthorized sale of private placements, REITs, LPs and direct participation programs constituted a large part of Merrimac's business from 2004 until October 2007. Merrimac sold about $25 million in total of these products and received about $1.7 million in commissions from these sales.
Moreover, the unauthorized sales continued for a few years after an examiner from FINRA alerted Merrimac about the discrepancy between the firm's membership agreement and Form BD, the decision said.
From January 2005 to October 2007, Thomes amended Merrimac's Form BD four times, including once after a FINRA examiner requested information regarding the firm's private placement activities. Thomes repeatedly failed to complete the Form BD correctly, the decision said, despite knowing that the membership agreement and the form were required to match.
Although Matthews acknowledged in a November 2005 letter that Merrimac was not authorized to sell private placements and sought a waiver, the credit due the firm for this action was diminished by the fact that Matthews didn't send the letter until 10 months after Merrimac was put on notice of the discrepancy between the membership agreement and its Form BD, the decision said.
FINRA failed to respond to the letter, which Matthews used as implicit approval to conduct the four unauthorized lines of business. FINRA rules clearly state, however, that is the responsibility of the firm, and not FINRA, to make sure the firm has the requisite approvals. Therefore, a $5,000 fine for the violation was appropriate, the decision said.
Considering that Merrimac was involved in unauthorized lines of business, it is not surprising that the firm failed to establish adequate written supervisory procedures. The failure was not egregious, however, and the FINRA Board of Governors concluded that the $2,500 fined imposed by the hearing panel was appropriate.
The recordkeeping violations regarding emails were deemed serious because the failure to maintain email communications frustrates FINRA's ability to protect investors, the decision said. A $10,000 fine was held appropriate, but Merrimac's conduct in this area was not considered egregious, so the fine was well below the $100,000 maximum set forth in FINRA guidelines.
The conduct was not judges egregious because Thomes made efforts to retain the emails as required. For instance, the firm acquired software so it could initiate an easily accessible electronic storage system, the decision said.
The violations occurred because Merrimac failed to grasp that it had to retain all business related emails no matter what their content. The firm also failed to back up the emails within the proper timeframe, the decision said.
Merrimac did not have to be aware that it was violating Section 17(a) of the Exchange Act with its email policy to be held liable, but the evidence that the firm didn’t understand the rules -- as opposed to purposefully evading the rules -- weighed in favor of the smaller fine, the decision said.
Regarding the firm's failure to keep proper records of its daily trading activities, FINRA guidelines set a maximum fine of $100,000 in this area as well, but the decision indicated that Merrimac's misconduct was once again the result of confusion and ignorance of the recordkeeping rules, and not purposeful evasion. The $1,000 sanction imposed by the hearing panel was found to be appropriate.
If you have been the victim of securities fraud you should consult with an attorney. The practice of Nicholas J. Guiliano, Esq., and The Guiliano Law Firm, P.C., is limited to the representation of investors in claims for fraud in connection with the sale of securities, the sale or recommendation of excessively risky or unsuitable securities, breach of fiduciary duty, and the failure to supervise. We accept representation on a contingent fee basis, meaning there is no cost unless we make a recovery for you, and there is never any charge for a consultation or an evaluation of your claim. For more information contact us at (877) SEC-ATTY.