Oct. 12, 09:26 EDT

Canadian investors stung

SEC investigating what U.S. firm did with $43 million

Jennifer Wells

Business Columnist

ON THE AFTERNOON of May 14, Brian McWilliams, co-CEO of Affinity Financial Inc., tapped out a plaintive e-mail to four of his corporate associates. McWilliams had co-founded Affinity 11 years previously, designing the Etobicoke-based outfit as a purveyor of a range of investment products tailored to high-net-worth clients residing throughout the Golden Horseshoe. Tax shelters. Movie deals. Boutique offerings.

An accountant by training, McWilliams had created Affinity with Louis Sapi, with whom he was partnered in an accounting firm, and David Lewis, a financial adviser who had closed up his self-named advisory business prior to the Affinity launch. The three partners had grand plans. Chief among them was their intention to tap into a wealthy client base by building a network of investors via other chartered accounting firms.

The three partners were always on the lookout for fresh product, alternative investment strategies that would appeal to Affinity's existing investors and, perhaps, woo new ones.

In 1996 just such an opportunity arrived. An outfit called American Financial Group, based in Aventura, Fla., started pitching Canadian firms on its expertise in so-called restricted securities, which, promised AFG, would bring investors annualized returns of 30, even 40 per cent. AFG said it had a track record pulling in returns of this size and that a principal in the firm, David Siegel, was the man with the golden touch.



TRAPPINGS OF SUCCESS: David H. Siegel, with his wife, Stella, in this undated photograph, is the central figure in U.S. company that got millions from Canadian investors ostensibly to make U.S. loans.

David Siegel and the AFG operation evinced all the trappings of success. The oceanfront condos, the class A automobiles - Ferraris, Mercedes - and offices in Aventura that, appointed with what appeared to be good art, shone with the patina of a firm that had made it. The president of the firm was Ed Chism, whose colourful past included a diplomatic posting in Panama Siegel favoured bow ties and full suits with vests. He had the appearance of an old-school investor.

Affinity was certainly impressed. Over the ensuing months and years. Affinity directed approximately 110 Canadian investors into AFG's Rule 144 program through its money management arm, Affinity Capital Markets, which later morphed into Affinity Restricted Securities Inc. The minimum buy-in was $100,000. At least one investor sank more than $3 million into the program in a single tranche.

According to David Lewis, it was Brian McWilliams who served as the point person on the program for Affinity. He says McWilliams and Siegel became good friends. McWilliams would fly at least monthly to AFG's office, and, on occasion, David Siegel would fly into Toronto to give investor presentations on the allure of Rule 144. The program appeared to be working in everyone's favour. Affinity and AFG were in line for a 20 per cent "performance fee," equally splitting 20 per cent of the upside. Commissioned brokers were tapped to bird dog the product. And investors, at least initially, did enjoy handsome returns.

But through the spring of this year, fissures appeared between AFG and Affinity. Investors who tried to take profits from the Rule 144 program couldn't. Repeated pleas for AFG to make good on promised investment returns met with stalling. A week grew to a month. One month to two.

McWilliams' frustration with the program was clearly in evidence as he pecked out his e-mail that May day. In the "subject header" he tapped a bold alarm, in capital letters: "MY CREDIBILITY IS GONE!"

The text message elaborated on McWilliams' distress: "Guess what- my credibility is gone and me and my 144 program are regarded with humour NOT respect I have to tell you, I am feeling rather depressed right now. A lot of hard work seems to be falling apart."

Within the month, the news out of Aventura would grow much, much worse, culminating in a telephone call on June 19. David Siegel had stopped showing up in his swish Florida office. There appeared to be a "hole" in the portfolio.

Some hole. At last count, as much as $43 million (U.S.) in Canadian investor funds have vaporized. At least $20 million, possibly more, placed by investors as far afield as Germany, Panama, Colombia and Lichtenstein, is similarly unaccounted for. The Securities and Exchange Commission is investigating. Multiple lawsuits have been filed. The Ontario Securities Commission says it is "aware of the problem. " On Sept. 21, Norma Smith, a Burlington resident who invested $174,196 61 in the Rule 144 program, filed a petition to push Affinity Restricted Securities Inc. into bankruptcy.

The SEC has appointed a federal receiver, Arthur Rice, to handle the AFG file. It's Rice's job to figure out what amount of money went in, what amount went out and what amount of money disappeared. From his Miami office, Rice sketches what he knows thus far. "If you believe the records and go back to 1993, you have $120 million going in. I have promissory notes for $8 million. Jesus Christ, that's a big difference between $8 million and $120 million. And even if half the money was given back, you're still talking $60 million."

The AFG records are, attests Rice, a shambles. "There is certainly evidence to the effect that whenever they needed money for any purpose they just took it…Operating expenses. Paying the rent. I'm talking about the expenses that might be associated with a legitimate business. But that doesn't mean that it's appropriate to pay out like that Jesus, that's a Ponzi."

David Siegel has retained Miami lawyers Thomas Tew and Joseph DeMaria to act on his behalf. Together by speaker phone, the duo presents the case in defence of their client. First, the money and what went in: "The best number we've seen of how much money went in was about $60 million," says DeMaria, "although we have heard that old Mr. Chism used to love to tell potential investors that there was more money under management than there really was. So when you hear those numbers, 80, 100, 120, we hear that that was old Mr. Chism puffin'."

As to how much is collectable, even defence counsel says it doesn't look good. "He may be lucky if he nets seven figures when it's all said and done," says DeMaria of Arthur Rice's efforts.

As to what their client did, Thomas Tew says this: "I think what you're going to find is this started out as a solid business program. My view is that stocks started not to be able to be liquidated and everything went south. People got nervous and demanded their money back. It's like a bunch of fat people trying to get through a porthole."

DeMaria says that Affinity brought the biggest group of investors to AFG, by far. "How do you think the money got from Canada to here?" asks Tew. "It got here because Canadian accountants were paid commissions to bird dog the money. They got a biscuit for everything they brought in. And, frankly, how much due diligence was done about Mr Siegel by these bird dogs? Did they sniff around to find out what was going on or did they just like the easy money?"

The handsome sales brochure for American Financial Group is printed on stout paper stock and features a sepia-toned photograph of the New York Stock Exchange on the front page. "Established in 1991, American Financial Group offers private and institutional investors a proven investment approach to finance publicly traded companies through Private Placements and Loans."

"Our primary business," continues the corporate prose, "involves identifying opportunities in the U S Restricted Securities markets. Our programs serve a dual purpose, on the one hand providing non-traditional finance to U.S. public companies, and on the other generously benefiting investors."

The AFG "team" - with combined experience of "over 75 years in domestic and international financial markets" - promised higher returns than fixed-income investments while, it said, taking on a risk level lower than that of equities via "time proven risk avoidance techniques."

The time proven technique was David Siegel's, and while the company's PR jargon failed to explain precisely how the AFG magic was meant to work, it worked like this:

The U.S. equities market is, or at least was in the mid-'90s, awash in so-called "microcap" stocks. These small junior companies, which trade on secondary exchanges for a dime or maybe a dollar but never big money, are perennially on the lookout for fresh injections of capital and perennially shunned by conventional lenders. The insiders ruling these fledgling companies maybe flush with their own stock, but that stock remains "restricted" for a period of a year and, therefore, unsellable.

But not, as David Siegel would discover, unpledgeable. Companies could, in fact, pledge their securities as collateral against loans from the likes of AFG. In Siegel's assessment there was, potentially, a big win in this. The companies had to agree to "overcollateralize" their loan - pledging shares valued at four or five times the value of the loan - and the shares had to be within six months of being removed from the "restricted" list at which point they would be free trading. Should the loans end up in default, AFG forecast for investors handsome returns from the unwinding of the share position. As it happens, the default rate was rather high, and it was this feature that in the early stages of the program held out the possibility of investment returns in excess of 20 percent.

Of course, any investment in any microcap company is dodgy. What if the shares simply tank? Siegel had an answer for this too. If the stock price dropped by 25 per cent, it was deemed to be in default. For the borrower, that circumstance was "curable" by putting up more stock. Additionally, Siegel hedged his share position by shorting the stocks, placing a bet, in other words, that the price of the shares would fall.

Should the company - and this was the exception - actually repay the loan, AFG would charge an interest rate of 1 per cent per month on the sum of money loaned.

It was, David Siegel would promise groups of Toronto investors, win, win, win. One Toronto investor who heard the pitch, and bought in, recalls the Siegel spiel. "It's a no brainer. That's the sort of language David used," says the investor, who would not allow his name to be used and will only say that his losses today total more than $100,000. "Everyone thought the sun shone out of Siegel."

Rule 144 was not win, win, win for U.S. investors. Securities laws prohibit Americans from investing in restricted securities. For AFG, therefore, it was essential that investors be found out of country.

David Lewis is on the phone from his West Mall office. He declines to meet in person and declines to be photographed. He recalls that an intermediary made the introduction between Affinity and David Siegel sometime in 1996. "How he came up to us was that he was retired from running a brokerage house in the U.S. He had 35 years in the securities industry. He had a specific transaction at the time - two transactions, one was Rule 144 and the other was a Regulation S transaction - that were completely novel and unique. That's what we liked." He adds a clear recollection that Siegel promised phenomenal investment returns. "What was stated to us was 30 to 40 per cent," says Lewis.

As originally envisioned. Affinity tapped into accounting firms in order to tap into investors. One of those accounting companies was EvansMartin LP. "They approached various accounting firms," recalls John Martin, "and we were one of the firms they approached about becoming, I won't say an agent, but becoming a referral source for them for potential investors in various products they were marketing. "

EvansMartin would eventually introduce about 25 investors to the Rule 144 program for a total investment of about $12 million (Canadian). Martin recalls Siegel, and Edward Chism, coming to Toronto a number of times to make presentations at Affinity's offices.

In fact, the Affinity alliance would become hugely important to AFG. Affinity would become AFG's largest single source of investor funds. In a way, Affinity Securities almost appeared a branch plant of AFG. On an American Financial group organization chart, Brian McWilliams appears as Vice-President, Canada and director of capital markets "Mr McWilliams is the counterpart of Mr Siegel at Affinity Wealth Management, our Canadian affiliate," says one AFG filing "Mr McWilliams is a member of the Investment Committee, which regulates and oversees all investment positions taken by the company. "

In a disclosure document, dated April, 2001, Affinity crows that through its "partnership" with American Financial, "we have developed a stellar performance track record in almost twenty years of investments in Restricted Securities." In the same Affinity document, David Siegel is listed after Brian McWilliams under "key personnel." Norbert Domansky, a financial consultant based in Munich, says he ran into Lewis and McWilliams at the AFG offices from time to time. "I got the impression they worked very closely together," he says "Edward Chism was always talking about how fantastic the business was in Toronto."

'I have to tell you, I am feeling rather depressed right now. A lot of hard work seems to be falling apart.'

Brian McWilliams

Co-founder of Affinity Financial

For investors, Rule 144 did appear to be fantastic, at least on paper. An Affinity brochure claims Restricted Securities returns of 40 per cent in 1997 and 32 per cent a year later. Domansky, along with a couple of commission agents in Germany, directed about 150 German investors into the Rule 144 program. In an interview at his home in Munich, Domansky recalls flying to Florida in 1997 to meet AFG's principals. "I believed what they told us," says Domansky of his meetings with Siegel and Chism. "That it was a very safe investment. They told us they deal in restricted stocks and they buy the stocks below the market from insiders in huge quantities. They lock in a discount with short sales, with hedging strategies. So they told us there was no risk in the investment and that investors would get very high returns."

Domanksy's investors did, he says, see returns in excess of 20 per cent, and would, from time to time, draw on their investments in order to pay for a vacation, a house or a new car. But the returns seemed so rich that investors tended to leave the lion's share of their investment in the program, to be rolled in and out of a mix of microcap stocks. To Domansky, Siegel appeared a smart man. "He had an answer for every question and it was always an answer that made sense," he says. "In fact, I think he is very knowledgeable. "

No one seems then to have been asking too many questions about who, precisely, David Siegel was.

At Affinity, David Lewis says due diligence was conducted on the AFG partners, though he would not say by whom. "What we did was, we ran a civil and criminal check and the response we received was this guy [Siegel] didn't even have a parking ticket."

David Siegel may not have had a parking ticket, but his past was not as unknown as all that. A simple news search turns up the same David Siegel in a 1987 SEC case, one of seven indicted by the commission in its investigation of the market manipulation of a penny stock called Magna Technologies Inc. Over an eight-month period in 1985, Magna's shares rose from 10 cents to nearly $10 in what was, said the commission, a "free-riding" scheme, in which orders were placed for the stock by traders with no intention of paying for it. Siegel, according to the exchange, was a market maker in the stock.

David Lewis says he had no knowledge of David Siegel's past.

Instead, Siegel and Chism appeared to have sold themselves through more superficial means. Chism was the one who favoured his brand new Mercedes S55 AMG and liked to boast about getting his Ferrari up to 7000 rpms on the way back from lunch. He would trumpet the private jets owned by friends and clients and his own condominium on Fisher Island. You know, Fisher Island, the former winter estate of William and Rosamund Vanderbilt. Chism was a member of the Fisher Island Club.

David Siegel lived in a condominium at Harborage Place. His wife, Stella, was often featured in the Sun-Sentinel society pages: a March of Dimes "Woman of Distinction" in the year 2000, chair of the Tiara Ball in '98 when the "Evening in Pans Theme" recalled the melodies of Maurice Chevalier.

To listen to David Lewis, it sounds as though the boys at Affinity had little to do with the investments the company was directing its clients into. Investor cheques cut to Affinity were in turn cut to, not AFG, but a Fort Lauderdale law firm, Houston & Shahady. Lewis says he was only recently informed that Bart Houston was David Siegel's ex son-in-law. "They all seemed to be ordinary business transactions," Houston told The Miami Herald. "There were no secret Cayman companies." Houston & Shahady maintained an escrow account in the name of American Offshore Investment Corp From there, Arthur Rice said in an affidavit filed last month, investor funds were dispersed to "all four comers of the globe."

Siegel's lawyers insist that nothing should be read into the fact that their client controlled more than three dozen companies, with names like Galapaco Holdings Ltd., which was used to extend the loans to the microcap companies, and Asesoria de Negocios Internacionales, a Bahamian International Business Corporation which was, apparently, used as a hedging account. "He used those companies for the investments," says Joseph DeMaria of Siegel. "There's nothing nefarious. "

David Lewis says all the research on the loans was done out of Aventura. "David Siegel would make the decision whether to lend the money, " he says. Statements to Affinity, he adds, did include the names of companies to whom the loans were made, though he does not know whether the loans were actually placed. "We don't know anything," he says.

Over the course of the spring, communication between Affinity and AFG started to break down. "We would have a client that had been defaulted [and therefore awaiting investment return] and the cash, instead of taking a month to come up here, was all of a sudden taking two months," says Lewis "So we're constantly hammering on them to say, okay, what's going on? What's going on?"

What was going on? The markets had tanked. That was true. And only David Siegel, according to numerous testimonies, was in possession of the securities certificates themselves and the knowledge as to whether the loans, as promised, had actually been made.

According to Lewis, the accounting out of AFG arrived quarterly, and even at that, the accountants at Affinity didn't know where the loans stood. He also says that a plan was hatched at Affinity to create a home-grown Rule 144 program, to be called Strandhill, and that AFG was aware of Affinity's intentions. "We felt that we could do better than them and as a result we thought we could lead the foray into this type of fixed-income investment, which nobody else was doing. "

It was clear from McWilliams' May e-mail that Affinity was losing confidence that any investor would be interested in Strandhill. "We are still waiting for the money," complained McWilliams, referring to a client who should have been paid out of the program in early February but was still waiting.

On June 19, Lewis spoke to McWilliams by phone. Lewis says he started chatting about directing a client into Rule 144 when McWilliams stopped him. "You may want to rethink that," McWilliams said. "David's gone missing."

Lewis says he doesn't know precisely what triggered Siegel's departure "You can't even imagine how surprised I am," he says. "This is a man who if you met him you would never ever have thought in a kabazillion years that he would ever do anything like this."

Lewis flew to Florida on the 22nd. "When I flew down to Miami and did a quick little lap of his offices, which had been renovated and expanded, and he's still got my daughter's picture up in his office, I mean, it's just heart-wrenching. My mother's invested in this. My friends. My family."

Canadian investors were not only blind-sided by the fact that Siegel appeared to have emptied his office of all documents pertaining to the Rule 144 program, but they quickly became equally dismayed with what they assessed to be a lack of action on Affinity's part.

On July 7, John Martin flew down to Aventura to see for himself what the hell was going on He recounts how, on the 11th, he showed up at AFG's offices, unannounced, in the hopes of rounding up loan documents and how he came upon Ed Chism standing in his office with a maintenance man, who was holding a garbage bag. "I walked by him and he said he was just clearing out some personal files," Martin says. Martin had already retained counsel, local law firm Morgan, Lewis & Bockius LLP. And he notified forensic accountants Grant Thornton. "He dismissed the maintenance man and waited for his lawyer," Martin says of Chism. "He's essentially saying it's all Siegel's fault and what a travesty it is and how badly he feels. "

Two weeks later, the Securities and Exchange Commission filed an emergency federal civil action against AFG and David Siegel. The SEC's complaint alleges Siegel "misappropriated investor monies, issued false statements to investors and absconded with all or nearly all of the loan program documents from AFG's offices. " Neither AFG's Web site, nor its offering materials, said the SEC, "disclose that Siegel has been enjoined, censured, fined and barred from the securities industry for his fraudulent conduct involving, among other things, a stock pump - and- dump scheme and various other violations while a principal at two separate registered broker-dealers. "

On July 19, at about noon, Jill Dokson arrived at the Harborage Place condominium of David and Stella Siegel. Dokson was just four days into her job as an attorney at Morgan, Lewis. Accompanying Dokson was Maria Yip, a forensic accountant, and a legal representative from Becker & Poliakoff, which had been retained by the group of German investors, and a county sheriff. The group ascended to apartment 1603. "It was a beautiful luxury condo," says Dokson. "It had beautiful doors."

The sheriff knocked. Stella Siegel refused to answer. When the building manager showed up to let the party in, Stella Siegel was standing there, in her bathrobe, crying. "We explained who we were, that we were there to secure documents," recalls Dokson. "She said, T don't know what you're talking about. My husband's not a crook '"

David Siegel was not on the lam. In fact, as the search party pawed through his den, Siegel himself showed up in tennis shorts and a polo shirt. "He was actually very helpful, believe it or not," says Dokson. "Once we handed him the court order he didn't say get out of my apartment." He directed the investigative team to a pile of boxes, and said 'Here's the good stuff'."

Today, David Siegel and Ed Chism both remain in Florida.

Arthur Rice, in early September, filed a motion to extend an initial asset freeze against Siegel to include Chism, Chism's wife, Teresita Chism, and Teresita's mother, Jilma De Tapia. Ed Chism had put that Fisher Island condo on the block.

Norbert Domansky says he and his clients are out $8 million - $12 million if you include the profits that AFG recorded on the last statement the company sent to Munich. Domansky will not itemize his personal loss. "I do not like to answer that question. It's a lot. It's really a lot and it really hurts me."

Canadian investors have drafted a statement of claim against Affinity, which they have yet to file. They are attempting to work out a settlement with Affinity. None wants to be named. "People don't want their name out there with a 'Stupid' tag on it," says one.

They have asked the Ontario Securities Commission to investigate whether Affinity upheld its fiduciary obligations to its investors, and whether the investments were monitored by Affinity as the firm pledged. OSC spokesperson Enc Pelletier will say only that the commission is "aware of that problem and we're looking at it. I can't say anything more than that."

Lewis said McWilliams was not available to be interviewed for this article. "Brian…has been removed from an accounting partner perspective," says Lewis. "We won't have him in a role where he is supervising or doing anything from a financial perspective until we know how this is going to shake out."

Lewis, predictably, is expecting some real recovery from the loans. "To us it's impossible that there weren't real loans. They have to be accurate. They have to be real."

Arthur Rice says he's finding very little evidence on the plus side. "There's no evidence that all of the loans or all of the legitimate loans were ever collateralized with stock that has any value," he says.