The founder of a global medical device company who racked up personal losses of $1.4 million in a Goldman Sachs private debt fund is concerned about practices that may lure investors into securities that are riskier than sales pitches indicate.
Richard Caruso, who launched Integra LifeSciences Holdings Corp in 1989, told Reuters he invested personal assets in a distressed debt fund Goldman launched in 2007, only to learn it was riskier than the firm and its advisers indicated in a preliminary pitch before the fund launched.
Financial Industry Regulatory Authority (FINRA) arbitrators last week, rejected claims that Caruso raised in an arbitration filed against a unit of the Goldman Sachs Group Inc in 2009. The case, filed in the name of Caruso’s family investment vehicle, Athena Venture Partners LP. sought recovery of $1.4 million in losses from Goldman.
The arbitrators, in their ruling on March 13, described Caruso as an “accomplished businessman with many years of experience in entrepreneurial and financial type ventures.”
The decision offers a glimpse at challenges that wealthy and sophisticated investors often face in securities arbitration, say lawyers. Although the wealthy do win some cases, brokerages typically argue that such investors fully understand the risks of the securities they are buying. That is the case even when the investments brokerages pitch is not suitable or misrepresented, lawyers for investors say.
Goldman approached Caruso about the fund in 2007 when first looking for investors, he said. He decided to invest based on information he and Athena’s general partner received in a written summary and discussions with Goldman advisers. But the strategy Goldman pitched, while risky, was different than the one it used, Caruso said.
Caruso, who became a Goldman client about 13 years ago, is considering whether to try to overturn the ruling in court. “I am concerned about other people who are trying to do things with Goldman,” said Caruso, now president of The Provco Group, a Villanova, Pennsylvania-based venture capital and business finance consultancy. He is still on the board of directors at Integra, whose products include orthopedic implants and regenerative products for bone and tissue repair.
A Goldman Sachs spokeswoman said the firm “prevailed entirely” in the arbitration. “The panel rejected every claim asserted and found each of them to be ‘clearly erroneous’ and ‘false’,” she said in a statement.
Convincing arbitrators that even wealthy and sophisticated investors may have been led astray can be tricky, especially when brokerage firms point to lengthy offering documents that may describe a multitude of risks that did not come up in initial sales presentations, according to Philip Aidikoff, a lawyer at Aidikoff, Uhl & Bakhtiari who often represents wealthy investors in complex cases.
The challenge requires proving that what a broker told the firm’s customer about an investment, or details included in initial pitch materials were at odds with the actual trading strategy once a product is actually launched, said Aidikoff, who was not involved in the Caruso case.
Athena’s $5 million investment in the distressed debt fund lost up to about 50 percent of its value during the 2008 credit crisis, according to Caruso’s lawyer, David Moffitt of Saul Ewing LLP in Wayne, Pennsylvania.
The fund was also supposed to buy quality fixed income securities at steep discounts and then sell the securities at face value when the market recovered, Caruso says he was told in the presentations. Leverage, if used at all, would be small and manageable. The fund, while speculative, was not a hedge fund, Caruso said he was told. Caruso, who wanted the money to fund other commitments if needed, described that representation as “critically important” to his decision to invest.
The reality was different, said Moffitt, the lawyer. Goldman described the investment as a “hedge fund” in some account statements, Moffitt said. Not all the securities Goldman bought were deeply discounted and it leveraged the fund as much as 2.7 times, Moffitt said. While the leverage was not as high as strategies for some other credit-oriented investments in the pre-crisis period, when some funds effectively leveraged assets up to 10 times their value, it was not what Caruso anticipated.
The arbitrators ruled that the initial presentation included details Caruso said it did not. Caruso also did not prove the statements he said Goldman’s advisers made, they wrote.
Caruso’s losses stood at $2.4 million in late 2008, but inched down to $1.4 million after Goldman deleveraged the fund, Moffitt said. Goldman declined to disclose leverage ratios or other details about the fund’s investments.
A key argument by Goldman that backed the panel’s decision is that Caruso, after the initial presentations, received an offering memorandum that described the risks. Caruso and Athena said they did not receive the document, an argument that was virtually impossible to prove, say lawyers.
Even so, FINRA guidance explains that brokerages cannot point to disclosure documents as a blanket excuse for representations made by other means, like pitches, say lawyers.
The outcome troubles some lawyers for investors who say that a client’s wealth and sophistication should not excuse any level of misrepresentations.
“Your sophistication shouldn’t even make it into the equation,” said Andrew Stoltmann, a Chicago-based lawyer who represents investors.