Independent broker-dealers with their nearly 40,000 registered reps and investment advisers have pulled the plug, at least temporarily, on selling Nicholas Schorsch's nontraded real estate investment trusts after
a $23 million accounting error came to light at the REIT czar's company.
An analysis by
InvestmentNews of the independent broker-dealers who have ceased selling Mr. Schorsch's REITs shows that they have 38,800 reps and advisers. That is about one-quarter of the industry total, based on figures from the Financial Services Institute, a trade group with more than 100 member firms and 160,000 independent reps and advisers.
Broker-dealers began suspending sales of American Realty Capital (ARC)- or Cole-branded products the day after one of the cornerstones of Mr. Schorsch's REIT empire — the large, publicly traded American Realty Capital Properties Inc. — disclosed
a $23 million accounting error in the first half of the year that was spotted but intentionally not corrected.
Brian Block, one of Mr. Schorsch's partners at ARC and ARCP's chief financial officer, resigned last month as a result of the mistake.
It has spurred inquiries by the FBI and Securities and Exchange Commission, according to published reports. Massachusetts Secretary of the Commonwealth William Galvin, who oversees the state's securities division, said last Friday that
he is investigating Realty Capital Securities, Mr. Schorsch's wholesaling broker-dealer subsidiary.
The stock price of his broker-dealer holding company, RCS Capital Corp. (RCAP), has plummeted almost 33% since ARCP revealed the accounting mistake Oct. 29. It opened that day at $18.29 per share; it closed Friday at $11.32 a share.
The Wall Street Journal, quoting former Pennsylvania Gov. Edward Rendell, a member of ARCP's board of directors, reported Friday that the accounting irregularities were tied in part to the computing of bonus payments, and not related to the core business of buying and selling real estate.
RCAP could rebound if ARCP's accounting snafu is an isolated incident, but it will take weeks — and perhaps months — before the company can regain traction with the independent broker-dealers that sell Mr. Schorsch's REITs, according to David Millican, principal of Atlanta Capital Group, a longtime investor in RCAP stock.
“It could be the first or second week of December before these firms lift the suspension” on ARC and Cole sales, Mr. Millican said.
“As some of those start to happen, advisers at other broker-dealers will also put pressure on their firms to lift the suspension — again, if this is isolated” to ARCP, he said.
The broker-dealers temporarily or indefinitely halting sales of Mr. Schorsch's REIT enterprises include some of the largest and most influential in the financial advice industry. Three are among the 10 largest IBDs and 11 others are among the 50 largest when ranked by total 2013 revenue, according to
InvestmentNews data.
(More broker-dealer data: Visit our exclusive Broker-Dealear Database)
An RCAP spokesman, Andrew Backman, disagreed with
InvestmentNews' assessment that Mr. Schorsch is losing 25% of his potential REIT sales force.
Mr. Backman pointed to research from Cerulli Associates Inc., a research firm, which estimates that there are closer to 300,000 working registered reps and advisers. But that figure includes wirehouses, regional firms and other broker-dealers that typically don't sell nontraded REITs.
RCAP'S LIFEBLOOD
Sales of nontraded REITs are RCAP's lifeblood, and any interruption could affect its earnings. Industry eyes and ears will be on RCAP on Thursday, when the company releases earnings and executives speak to investors and analysts.
Atlanta Capital clients owned about 350,000 shares of RCAP stock on June 30. It sold half of them at $24 a share before ARCP's announcement and another large holding at $14 a share immediately after, Mr. Millican said. The firm's clients now hold about 40,000 shares.
“Regarding RCAP and its stock price, it's going to be awhile before it gets its legs back,” he said. “RCAP has a huge nut to cover each month. The suspensions could be lifted, at best, 35 to 45 days from now.”
RCAP receives substantial fees and commissions through Realty Capital Securities, which drives the sales of Mr. Schorsch's nontraded REITs and other illiquid alternatives.
(Schorsch insight: Untangling Nicholas Schorsch's vast web of businesses)
Realty Capital Securities is the leader in illiquid alternative securities. Through September, it had sales of $6.45 billion — accounting for almost 39% of nontraded REIT and business development company sales among two dozen such firms, according to data from investment bank Robert A. Stanger & Co. Inc.
Realty Capital Securities' closest competitor, FS2 Capital Partners, which specializes in nontraded BDCs, had almost $2 billion in sales through the same period, or about 12% of the total sales in the industry, according to Stanger.
VAST WEB
Mr. Schorsch's REIT empire is
a vast web of businesses. Mr. Schorsch is executive chairman of RCAP. ARCP distributes REITs created and managed by Cole Capital Partners and Cole Capital Advisors Inc. Mr. Schorsch was chief executive and chairman of ARCP until October 1. He remains chairman.
He is also CEO and chair of ARC, which was launched in 2007 and has close to 20 nontraded REITs, as well as business development companies selling through IBDs or in line to sell.
Broker-dealer pullback from ARC and Cole REITs was almost immediate after the accounting disclosure.
The next day, Oct. 30, National Planning Holdings Inc., a network of four broker-dealers home to almost 4,000 reps,
said it was temporarily suspending nontraded REITs sponsored or distributed by ARC and its affiliated companies.
Other broker-dealers reacted, also temporarily stopping ARC or Cole sales:
Securities America Inc.; the
AIG Advisor Group; Cetera Financial Group, which is
owned by RCAP; and
Cambridge Investment Research Inc.
The largest independent B-D, LPL Financial, said last week
it is suspending indefinitely the sale of ARCP-sponsored products — meaning Cole REITs, as well as those distributed by RCAP, which are the ARC REITs.
RCAP is confident it can regain its selling relationships with broker-dealers. With its stock price in freefall, the company took the extraordinary step last Wednesday of
issuing a statement pointing out that it is separate and independent from ARCP.
The statement said: “RCAP management is in continuing dialogue with its broker-dealer and custodian network through which RCAP's wholesale business distributes products. The independent broker-dealer community remains supportive of RCAP. We believe those broker-dealers that have temporarily suspended sales are likely to reinstate the selling agreements.”
