Decisions

H&R ENTERPRISES INC. [Decision]

BCSECCOM #:
Document Type:
Decision
Published Date:
1997-10-10
Effective Date:
1997-10-08
Details:


COR#97/193

IN THE MATTER OF THE SECURITIES ACT
R.S.B.C. 1996, c. 418

AND

IN THE MATTER OF H&R ENTERPRISES INC.

HEARING AND REVIEW


PANEL:DOUGLAS M. HYNDMANCHAIR
PETER A. MANSON, Q.C.MEMBER
ADRIENNE R. WANSTALLMEMBER

DATE:OCTOBER 2, 1997

APPEARING:ROBERT BREIVIKFOR HARRIS AND MCLEAN
G. CRICKMOREFINANCIAL GROUP LTD.
AND ANA JIMENEZ
JAMES A. ANGUSFOR COMMISSION STAFF
PATRICK ROBITAILLE
DECISION OF THE COMMISSION

1. INTRODUCTION

This decision relates to a hearing and review under section 166 of the Securities Act, R.S.B.C. 1996, c. 418, of a decision of a Commission member acting under authority delegated by the Commission. On October 1, 1997, Commission Vice Chair Maykut ordered an investigation, under section 142 of the Act, into the affairs of, among others, “Harris McLean Financial Services” and Ana Jimenez and issued a freeze order, under section 151 of the Act, directing Georgia Pacific Securities Corporation to hold any funds, securities or other property of Harris McLean and Jimenez, which Georgia Pacific may have on deposit, under its control or in its safekeeping.

On October 2, 1997, Harris McLean Financial Group Ltd. (the correct name of “Harris McLean Financial Services”) and Jimenez applied for a hearing and review of the freeze order. The hearing was held later that day. We received an affidavit of Linda Murray, a senior investigator with the Commission staff, and several other documentary exhibits, and heard oral evidence volunteered by Richard C. Harris III, a principal of Harris McLean. The applicants submit that the freeze order should be set aside or varied. Commission staff submit that the order should remain in place.

2. BACKGROUND

Harris McLean is a broker dealer based in the Cayman Islands. Its principals are Richard Harris and Rod McLean. Ana Jimenez is the mother of Richard Harris.

H&R Enterprises Inc. is incorporated in British Columbia. Its registered office is in Burnaby and it appears to operate from an office in Abbotsford. It is not a reporting issuer under the Act. Its shares trade over the counter in the United States and are quoted on the NASDAQ bulletin board. It has about 6 million shares outstanding.

A news release issued by H&R on July 24, 1997, describes it as “a Canadian based investment holding company with diverse interests in vending and video arcade games, leasing franchising, financial discounting and real estate.” That news release announced the acquisition of the Quail Ridge Community Development in the Okanagan Valley, which was said to have an appraised value of $60 million.

Through May, June and the first part of July 1997, H&R shares traded low volumes at prices between $.50 and $1.00. (All share prices are in U.S. dollars.) In mid-July, the price began to run up on low volume. The price exceeded $3.00 per share in late August but drifted down to $2.00 by mid September. In late September, trading volume rose rapidly, reaching more than 12 million shares on September 24. The price also rose sharply, reaching $6.50 on September 25. Trading volume then fell sharply and the price collapsed to $1.50 by September 30.

Through August and September, Wolverton Securities Ltd. of Vancouver and Equitrade Securities of California purchased large volumes of H&R shares for client accounts through a U.S. broker dealer named Saperston Financial Incorporated. Saperston received the orders in each case from a U.S. resident named David Scott Heredia, an individual subject to a long list of complaints, allegations, arbitration awards and enforcement orders under U.S. securities rules. Wolverton or Equitrade called Saperston to confirm each purchase after it was arranged by Heredia. However, in late September, Wolverton declined to complete purchases of 2 million H&R shares, which Saperston had purchased for Wolverton clients on the instructions of Heredia. With the collapse in H&R’s share price, Saperston found itself unable to pay for the shares it had purchased and was put out of business. Saperston’s clearing broker, National Financial Services Corporation, was forced to assume a liability of about U.S.$12 million.

On September 30, the United States Attorney for the Southern District of New York issued a subpoena commanding National Financial Services to appear before a grand jury to give evidence regarding Saperston’s clearing account and Saperston’s trading in H&R shares during September.

Also on September 30, Linda Murray was contacted by senior representatives of FMR Corporation, the parent company of National Financial Services, and of the National Association of Securities Dealers (“NASD”), the self regulatory organization for U.S. broker dealers. Both organizations explained they are investigating the trading activity in H&R shares, which has the appearance of a classic stock manipulation. Murray contacted the Vancouver Stock Exchange, which had already received a request for assistance from NASD, and was advised that, in addition to Wolverton, several other dealers in Vancouver had been involved in the trading of H&R shares. On further checking with these dealers, Commission staff learned that the only accounts that had traded in H&R shares and that had significant balances were at Wolverton and Georgia Pacific. On application by Commission staff, those accounts were frozen by Vice Chair Maykut on October 1.

Murray advises in her affidavit that the Quail Ridge property and several of the persons involved with H&R and the trading accounts at Equitrade, Wolverton and Georgia Pacific, including Harris McLean and Jimenez, are the subjects of a separate ongoing Commission staff investigation into the activities of Michael Mitton, an individual subject to orders issued under the Act in 1988 prohibiting him from trading and from being a director or officer of any issuer for 20 years. Wolverton was told by H&R’s transfer agent that the contact person for H&R is Mitton.

Although Richard Harris claimed that he and his firm had no relationship with H&R, other than as an investor, he later acknowledged in testimony that Harris McLean had acted as agent for a private placement by H&R in April 1997 of 2 million units at $.50, each unit consisting of an H&R share and a share purchase warrant. In fact, he said H&R took down most of those shares. Harris also acknowledged that he knows Mitton and once visited Quail Ridge with him.

3. THE APPLICANTS’ FROZEN ACCOUNTS

The accounts frozen at Georgia Pacific, which are at issue in this hearing and review, consist of 15 Harris McLean accounts, having total equity of about $7 million, and one account of Ana Jimenez, having equity of just under $2 million.

Richard Harris testified about Harris McLean. He explained that his family has lived in the Cayman Islands since 1955 and is involved in land development. Profits from the business had accumulated in a trust to the point where the family had enough funds to form its own broker dealer. His family joined with another family to form Harris McLean, which acts as a broker dealer for the Harris and McLean family accounts and for about 100 outside clients, who are mostly individuals in Latin America and mutual funds. Harris McLean trades securities through about 60 dealers around the world, of which 15 are in Canada and 6 or 7 are based in Vancouver. Most of Harris McLean’s Vancouver business goes through Georgia Pacific.

Harris refused to specifically identify any Harris McLean clients who traded in H&R shares, other than to say the trading was by “a couple of mutual funds”, citing the banking secrecy legislation of the Cayman Islands. (See next section.) He said Harris McLean invested in H&R because he was called by H&R promoters, including Heredia, and because he liked the Quail Ridge development.

Account records presented by Harris showed that five of the Harris McLean accounts at Georgia Pacific are dormant and one is “semi-dormant”. Of the 9 active accounts, only two showed transactions in H&R shares. However, there were numerous instances of transfers of cash and securities among these two accounts and other Harris McLean accounts at Georgia Pacific. Harris testified that balances are regularly moved among the accounts to offset credit and debit balances and that all records identifying specific client holdings of cash and securities are maintained only at Harris McLean’s office in the Cayman Islands. It is not possible, at least at this stage, to trace the proceeds of trading in H&R shares to determine which Georgia Pacific accounts they are in, who beneficially owns them or whether they were used to purchase other securities.

Most of the H&R trading by Harris McLean took place through one account at Georgia Pacific. There was active buying and selling through August and September 1997. Sometimes Harris McLean bought and sold on the same day, with the purchases at the same price as, or even at a higher price than, the sales. There were also transfers of H&R shares from this account to other Harris McLean accounts at Georgia Pacific, to the Jimenez account and, on at least one occasion, to another dealer.

Harris testified that the freeze order was already harming Harris McLean’s business. He said that two clients had advised him they will close their accounts, because they are unable to sell their shares held at Georgia Pacific, and that he expected other clients to follow.

Harris said that Jimenez traded H&R shares on his recommendation. A letter from Jimenez entered in evidence by the applicants said she had accepted Harris’ advice. Nevertheless, Harris claimed that the trading activities of Jimenez in H&R were completely separate from those of Harris McLean. However, all of the H&R shares in the Jimenez account were transferred to it from a Harris McLean account. A total of 350,000 shares were transferred to the Jimenez account, in August and early September. These shares remained in the account until late September, when the share price and trading volumes rose sharply. Then the Jimenez account sold 175,000 H&R shares in three days, from September 23 to 25, at prices ranging from $3 to $6.50, for total proceeds before commissions of about U.S.$780,000.

According to an affidavit received from Jimenez, she sold a portion of her holdings “based on information that the stock was trading higher with large volume” and she asked Georgia Pacific to send the proceeds to her bank account in the Cayman Islands. She says she entered into an agreement on September 25 to purchase a house in the Cayman Islands Yacht Club for a price of U.S.$885,000, with a closing date of October 3 at 3 PM Cayman time. She says that the price is below the market value of the house and that she paid a deposit of U.S.$75,000, which would be forfeited if she does not complete the transaction.

The fact that Jimenez was seeking transfer of the funds by wire transfer to complete a real estate purchase on October 3 was included in Linda Murray’s affidavit, which was before Vice Chair Maykut when she made the freeze order. According to Linda Murray’s affidavit, Georgia Pacific said that, to accommodate the request of Jimenez, it would have had to deliver the funds to the Royal Bank of Canada before noon on October 1. That time had passed at the time of the hearing.

Harris testified that Jimenez sold the H&R shares on his advice. He said the Yacht Club project is financed by Japanese investors who are clients of Harris McLean and that they were doing Jimenez a favour by selling her the house at a preferential price. In an interview last year with Linda Murray, Harris indicated Harris McLean was “heavily involved” with this project.

4. OBLIGATION TO ANSWER QUESTIONS

As noted above, Harris refused to answer questions about the identity of Harris McLean clients that traded H&R shares. Mr. Breivik, counsel for Harris McLean and Jimenez, cited the Confidential Relationships (Preservation) Law of the Cayman Islands, which he says prohibits Harris, on threat of imprisonment, from disclosing confidential client information. Commission staff say that law has no application in British Columbia, and that Harris is compelled to answer questions in a Commission hearing under the requirements of the Act.

Mr. Breivik cited a decision of the Supreme Court of British Columbia, Hunt v. T & N plc., [1990] 43 B.C.L.R. (2d) 390, as support for the proposition that Harris cannot be compelled in British Columbia to disclose information if that would cause him to breach the law of another jurisdiction. In Hunt, a plaintiff made a demand for discovery of documents. Several defendants resisted discovery of documents located in Quebec, relying on a Quebec law that prohibited their removal from Quebec. In addition, the defendants had given undertakings to the court in Quebec not to disclose the documents. Esson, C.J.S.C. (as he then was) dismissed the application in British Columbia for an order compelling production of the Quebec documents.

This case is different from Hunt. Harris was not asked to produce documents located in the Cayman Islands. He was in British Columbia, giving oral evidence before the Commission, and was asked to answer questions about matters within his knowledge. In our view, the law is clear that he can be compelled to answer those questions by a Commission panel under the authority of section 173(a) of the Act.

4. ANALYSIS

The applicants submit that the freeze order should be vacated because there is insufficient evidence to justify it. Mr. Breivik contrasts the evidence regarding the applicants’ trading in H&R shares, which he describes as based on speculation, suspicion and innuendo, with what he says was much more solid evidence in two previous cases where freeze orders were reviewed (In the Matter of Amswiss Scientific Inc. et al, [1992] 7 B.C.S.C. Weekly Summary 12 and In the Matter of Alexander DiCimbriani et al, [1996] 1 B.C.S.C. Weekly Summary 32).

Alternatively, the applicants submit that the order should be narrowed to exclude property not related to the sale of H&R shares by Harris McLean and to exclude the Jimenez account, so Jimenez can close on her house purchase.

The applicants say that we should decide this matter on the balance of convenience between their interests and the public interest. Mr. Breivik says that continuing the freeze order would cause irreparable harm to the applicants and questions whether any harm to the public interest would result from releasing the frozen property or, at least, narrowing the scope of the order.

In our view, it is not possible to state an evidentiary test that must be met in every case to support a freeze order. The Commission has been given the power to impose freeze orders so we can intervene quickly to preserve property in emergent situations and we must assess the particular circumstances of each case to determine whether a freeze order is appropriate. Where a freeze order is imposed to preserve property at an early stage of an investigation, as in this case, the Commission expects staff to review the status of the order on the basis of the emerging evidence as the investigation unfolds and, if appropriate, to apply to have the order varied or revoked. The Commission discussed the nature of freeze orders in Amswiss at page 21 of the decision:
        In our view, the purpose of section 135(1) [now section 151(2)] is to preserve property for persons who may have common law or statutory claims to or interests in it, for example by way of rescission or damages under Part 14 [now Part 16] of the Act.

        …

        The immediate effect of a freeze order is to maintain the status quo, ensuring that the frozen property is not dissipated or destroyed before the Commission is in a position to determine what, if any, further steps or orders in the public interest should be made under the Act.

        In our view, the Legislature has recognized that, with the reality of modern technology and instantaneous securities transactions, securities commissions need tools that can respond accordingly if they are to properly effect the purpose of the legislation.

        In Re C.T.C. Ltd. OSCB Feb. 13, 1987 p. 858 (confirmed on appeal …) the Ontario Securities Commission, in issuing a temporary cease trade order, said at p. 930:
          There are few areas in our public life that are as dynamic and as innovative as our capital markets. For the most part, that dynamism and innovation enure to the benefit of the economy at large and
          individual investors in particular. But that same dynamism and innovation can, and does, lead to abuse. A regulatory agency charged with oversight of the capital markets must have the capacity to move quickly to stop transactions which it considers to be injurious to the capital markets.

        Like a section 144(2) [now section 161(2)] temporary cease trade order or a section 73 [now section 89] halt order, a freeze order enables the Commission to respond immediately to evidence that, in its opinion, warrants regulatory intervention to prevent or minimize prejudice to the public interest. Often it is necessary to take these steps before any investigation is commenced or concluded. The ability of the Commission to act in this fashion is necessary to instill and maintain public confidence in the integrity of the capital markets.

        Wood J. in British Columbia Securities Commission v. Branch and Levitt (1990) 43 B.C.L.R. (2d) 286 (B.C.S.C.) (confirmed on appeal …) addressed the public’s expectations that the Commission will discharge its regulatory duties. At page 312 he said:
          Finally, and most importantly, the public has a legitimate expectation that the Commission will discharge the regulatory duties entrusted to it, by effectively investigating those activities from which the trading public requires protection, and by exercising its regulatory powers so as to ensure that the purpose of the legislation, namely the protection of the public, is achieved.

        The power to freeze property quickly is one of those regulatory powers specifically given to the Commission by the Legislature to enhance its capacity to protect the capital markets.

In this case, we see evidence of very suspicious trading activity in H&R shares, leading to a sharp run up in the price and volume. On one day alone, the number of H&R shares traded was about twice the number outstanding. This was followed by a precipitous decline in price and volume and the subsequent collapse of a U.S. broker-dealer, Saperston, which was left holding 2 million shares purchased at a temporarily inflated price of about $6. The clearing broker, National Financial Services, was forced to assume a liability of about U.S.$12 million.

In the immediate aftermath, it is not possible to identify with certainty the parties responsible for what appears to be a massive fraud, but those who sold substantial volumes of shares as the price peaked must initially be viewed with suspicion.

The applicants would have us believe that they are innocent bystanders, unrelated to H&R or its promoters, who just happened to be fortunate enough to purchase a substantial number of H&R shares just before the price ran up and to sell a lot of them at or near the peak. The evidence suggests they were more closely connected than that. Harris McLean acted as agent for a private placement done by H&R last April and Harris visited the Quail Ridge property in the company of Mitton who, despite orders prohibiting him from being a director or officer of an issuer and from participating in the market, appears to be involved in running H&R. Furthermore, Harris McLean’s trading itself appeared manipulative, with active buying and selling, sometimes on the same day and in a manner suggesting a motive to affect the price rather than to profit from short term trading. Although the applicants attempt to isolate Jimenez as having interests separate from Harris McLean, her shares came from Harris McLean’s account and she was trading on the advice of Harris.

The applicants say that their trading “had nothing to do with the mechanism of Saperston’s loss.” That is yet to be determined. The applicants were selling H&R shares heavily at the time Saperston was buying the shares that led to its collapse.

The investigation into this matter has just begun with the issuance of investigation and freeze orders. It will no doubt be difficult and complex. We are not in a position at this point to make any final determination as to the involvement of the applicants, if any, in the apparent fraud. However, given the suspicious nature of the trading in the applicants’ accounts, and the connections among the applicants and H&R, we consider it in the public interest to maintain the freeze order to preserve the property in the accounts for persons who may have legitimate claims on it.

The applicants say they will suffer irreparable harm if the order is maintained. Harris McLean says its reputation with its clients will be harmed because it cannot act on client instructions. Jimenez says she will be unable to complete her house purchase and will lose her deposit.

As a broker dealer with accounts around the world, Harris McLean must live with the exigencies of regulatory oversight and intervention. We cannot accept that a freeze order on its accounts at one of its 60 dealers will devastate its business or that it would be incapable of making arrangements to accommodate its clients who are inconvenienced.

Jimenez says she needs the money in her Georgia Pacific account to complete her house purchase. We note, however, that her affidavit contains no statement she has no other funds available to complete this purchase. Given Harris’ evidence that his family was wealthy enough to set up its own broker dealer to manage its funds, we question the real harm Jimenez would suffer if the order is maintained. Furthermore, the circumstances of the house purchase are suspicious. On the very day that Jimenez completed the sell off of H&R shares at what proved to be a temporarily inflated price, she agreed to purchase a house in a project in which Harris McLean was “heavily involved”, with a very early closing date, set at about the earliest possible time the sale proceeds could be cleared and transferred to the Cayman Islands.

5. DECISION

It is likely that, if we removed or varied the freeze order, the funds released would quickly be transferred to the Cayman Islands and hidden behind the veil of bank secrecy laws. When we weigh the public interest in protecting the integrity of the capital markets from those who would profit from fraudulent trading, against the uncertain harm to the applicants of maintaining the freeze order, we are compelled to come down in favour of the public interest.

Based on the foregoing, we dismiss the applicants’ request to vary or revoke the freeze order. Under section 165(4) of the Act, we confirm the freeze order dated October 1, 1997, directing Georgia Pacific Securities Corporation to hold any funds, securities or other property of Harris McLean and Jimenez which Georgia Pacific may have on deposit, under its control or in its safekeeping on behalf of Harris McLean or Jimenez or for the account of Harris McLean or Jimenez or any other entity or account in which Harris McLean or Jimenez have a beneficial interest.
    DATED at Vancouver, British Columbia, on October 8, 1997.







    Douglas M. HyndmanPeter A. Manson, Q.C.
    ChairMember



    Adrienne R. Wanstall
    Member

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