By Chris Carey (ShareSleuth.com) -- Federal authorities are investigating the activities of two executives at Vicis Capital LLC, a New York hedge fund operator that began last year with nearly $5 billion under management.
Vicis is the biggest investor in a pair of small public companies that have been implicated in an insurance fraud scheme. The FBI and a grand jury have been examining what role, if any, representatives of the hedge fund played in that scheme.
The investigation has focused attention on the close relationship between Vicis and Midtown Partners & Co. LLC, a Florida-based investment bank that has paired Vicis with 20 companies whose shares trade mainly on the Over the Counter Market or Pink Sheets.
Sharesleuth learned of the probe while conducting its own investigation into Vicis. Our analysis of Securities and Exchange Commission filings shows that Vicis ultimately put more than $150 million into those companies, in return for stock, warrants, and notes convertible into shares.
Midtown Partners has collected at least $5 million in cash fees in connection with those transactions. It also has received blocks of stock and warrants that were worth millions more at the time they were issued.
The shares of many of the companies have plunged in value. Even the investments showing gains for Vicis are relatively illiquid, and the purported profits may exist only on paper.
Vicis and Midtown Partners did not respond to written questions submitted by Sharesleuth. The FBI declined to comment.
An Insurance Fraud Case
The federal investigation involves two of Vicis' portfolio companies -- Medical Solutions Management Inc. (Pink Sheets: MSMT.PK), of Marlborough, Mass., and MDwerks Inc. (OTCBB: MDWK.OB), of Deerfield Beach, Fla. Over the past five years, the hedge fund has provided roughly $30 million in equity and debt financing to those companies.
A federal grand jury in New Hampshire has been hearing evidence in the fraud case, which revolves around falsified receivables for benefits covered by workers' compensation plans.
Medical Solutions Management spent roughly $8 million to buy insurance receivables at a discount, under a deal signed in 2007. MDwerks took over the claims processing the following year.
Authorities believe that one or both companies learned that some of the receivables were bogus. But instead of reporting the problem, MDwerks continued collecting on them.
People familiar with the investigation told Sharesleuth that certain participants in the scheme have already been charged under sealed indictments.
The Vicis executive who has been implicated in the case is Christopher D. Phillips, who has been a managing director for nearly two years. He previously headed the parent company of Midtown Partners, which is based in Tampa and has been acting as a middleman for Vicis in equity and debt placements since 2005.
Partly because of its relationship with Vicis, the company ranks among the most active firms in the country in raising capital through so-called PIPE (Private Investment in Public Equity) deals.
Phillips was the point person for dealings between Vicis and Medical Solutions Management. He also sat on MDwerk's board of directors. Shad L. Stastney, one of the hedge fund's three founding partners, was a director of both companies.
Medical Solutions Management's stock ended the year at 1.5 cents a share, down from a high of $10 in the second quarter of 2006. MDWerk's stock is trading for 0.5 cents a share. It peaked at $1.55 in July 2007.
In September, Vicis barred investors from withdrawing money after being deluged with $550 million in redemption requests. News reports at the time said that Vicis' main fund was down 12% through the first eight months of the year, after posting a 14% gain in 2008.
It is unclear what value Vicis places on its investments in the companies that were brought to it by Midtown Partners. The quarterly SEC summaries did not list any of those shares or notes.
Although hedge fund investments are typically reserved for the wealthy, the Vicis investigation has implications for the general public, because a number of pension funds have invested money with Vicis.
The West Virginia Investment Management Board had $37.8 million in assets with Vicis at the end of November. The Fort Worth Employees' Retirement Fund, in Texas, said in August that it planned to increase its investment to $10 million, from $8 million.
Deals Between Companies
Sharesleuth noted that some of the small public companies in Vicis' portfolio have entered into daisy-chain deals with one another, often generating additional shares and warrants for Vicis and additional fees and warrants for Midtown Partners.
We also noted that some of the companies sold Vicis millions of warrants --in a few cases, tens of millions of warrants -- that were exercisable at prices well below the prevailing market price of the shares. They also repriced existing, out-of-the-money warrants so that the hedge fund could still exercise them at a profit.
It is possible that some of those transactions created temporary gains that boosted Vicis' overall returns, making its funds more attractive to investors than they otherwise would be.
It's also possible that those gains boosted the profit payouts for the hedge fund's managers. Hedge fund operators typically charge a 2% annual management fee, and get 20% of any profits their funds generate once a high water mark is reached.
The Hedge Fund
Vicis was formed in 2004 by three partners:
- John D. Succo, who formerly ran derivatives trading at Paine Webber Inc. and Lehman Brothers Inc.
- Shad L. Stastney, a lawyer who had worked in derivatives at Credit Suisse First Boston, and
- Sky M. Lucas, who once managed convertible bond trading at PaineWebber and Lehman.
Succo is chief investment officer, Stastney is chief operating officer and Lucas is head of global convertible arbitrage. Vicis says it seeks to profit from volatility through arbitrage trading in stocks and options -- exploiting temporary price discrepancies in similar, but related, securities.
A Growing Relationship
Vicis' investments in the companies introduced to it by Midtown Partners represent a relatively small percentage of its assets under management. But the hedge fund has been making increasingly large bets on those microcap companies.
Its first placements through Midtown Partners were in the neighborhood of $1 million; more recently, it added $6 million to its stake in one company and $10 million to its stake in another.
Although Sharesleuth's review of SEC filings turned up $5 million in cash placement fees paid to Midtown in the deals, the total is likely higher. Some filings did not enumerate payments for specific transactions; however, Midtown Partners' contracts usually call for fees of 8% or more.
The ties between Vicis and Midtown Partners grew so close that Phillips went to work for the hedge fund in February 2008, stepping down from his position at Midtown Partners' parent company.
Phillis is, or was, on the board of four of Vicis' portfolio companies.
Amacore, which markets healthcare-related membership programs, spun off one of its divisions into a public shell at the end of July.
Vicis has $12 million invested in Amacore. It put a further $3.75 million into the spinoff, Zurvita Holdings Inc. (OTCBB: ZRVT.OB), a multilevel marketing company that sells discount medical benefits, residential utility plans and other products.
Zurvita also entered into deals with two other Vicis portfolio companies, buying assets from one and stock in another (read more on those transactions below).
SEC filings show that Vicis now holds convertible preferred stock equal to 36 million of Zurvita's common shares. It also has warrants for an additional 36 million shares, some exercisable at 6.25 cents a share and some at 25 cents.
Zurvita's stock, which has seen limited trading, ended 2009 at $1.20 a share. That gives the company a market capitalization of $67.7 million - more than double that of Amacore.
By our calculations, the spinoff of Zurvita and the additional $3.75 million investment boosted the imputed value of Vicis' original holdings in Amacore by nearly $30 million, a figure that excludes the Zurvita warrants.
As part of its placement fee for the Vicis financing, Midtown Partners got warrants to buy 720,000 Zurvita shares, also exercisable at 6.25 cents a share and 25 cents.
Vicis said in an SEC filing in November that it held 891.3 million shares of Amacore's common stock, and would hold more than 2 billion shares if it converted all of its preferred stock and exercised all of its warrants.
At the time of the spinoff, Amacore's stock was trading for 4 cents a share, giving Vicis' common shares a market value of just under $36 million. The stock ended 2009 at 2.5 cents, putting the market value at $22.3 million.
The Zurvita stock underlying Vicis' preferred shares would have a current market value of more than $43 million.
At Amacore's current average trading volume of just under 135,000 shares a day, however, it would take Vicis nearly two decades to unwind its position.
OmniReliant Holdings Inc. (OTCBB: ORHI.OB) may provide the best example of the interrelationship between Vicis, Midtown Partners and other entities with ties to Midtown Partners or its parent company.
OmniReliant was created through a reverse merger in 2006. The company is based in Clearwater, Fla., and says it sells luxury products through infomercials, home shopping programs and other channels. Its offerings include a line of skincare products licensed to it by Kathy Hilton, the mother of socialite Paris Hilton.
Apogee Financial Consultants Inc., the parent company of Midtown Partners, got 3 million shares in the newly minted OmniReliant. Vicis provided $3 million in capital, in exchange for convertible preferred stock and warrants for 6 million common shares.
Midtown Partners received warrants for an additional 900,000 shares as a fee for arranging that placement.
Christopher Phillips was OmniReliant's original chief executive officer and chief financial officer. He also was CEO of Apogee Financial and held a 50% membership interest in Midtown Partners, SEC filings show.
Vicis has since invested around $30 million in OmniReliant, through the purchase of convertible preferred stock, the purchase of warrants and the exercise of warrants.
Phillips remains on OmniReliant's board of directors, and still is listed as the registrant of the company's Internet domain.
According to SEC filings, Apogee and Midtown Partners received cash placement fees of $1.39 million from OmniReliant in the two years that ended June 30, 2009, and got warrants with a fair value of $7.09 million.
Those filings show that Vicis holds 138.4 million shares of OmniReliant's common stock, along with warrants for 70 million additional shares.
OmniReliant had $7.63 million in revenue for the first quarter of its current fiscal year. It reported a loss of $15.8 million, with much of that attributable to accounting adjustments related to its financing transactions with Vicis.
OmniReliant had $9.55 million in revenue in its prior fiscal year, and posted a loss of $2.63 million.
End Of Quarter Stock Moves
Sharesleuth noted that the market price of OmniReliant's stock often rises sharply as the close of a quarter approaches. On Sept. 18, for instance, the price jumped from 40 cents a share to 99 cents a share on a trading volume of just 100 shares.
There were no other trades for the rest of the month, and the stock ended the quarter at 99 cents.
At the end of March, the stock shot from 35 cents to $1.01, on a day when 5,300 shares traded hands. And on the last day of December 2008, OmniReliant's shares went from 60 cents to $1.
In each instance, the price moves lifted the market value of Vicis' and Midtown Partners' holdings at the end of the quarter back to the level where they had finished the previous quarter.
OmniReliant's shares did not have the same kind of gain at the end of the latest quarter. The stock ended 2009 at 40 cents, after rising 5 cents in the last few trading days.
Vicis' common shares in OmniReliant now have a market value of $55.4 million, down from $137.1 million on Sept. 30.
In July, OmniReliant and Vicis entered into a deal in which Vicis paid $5 million and got a warrant to buy 97.6 million common shares at 25 cents a share. The hedge fund surrendered an equal number of old warrants exercisable at higher prices.
At the time, the stock was at $1.01, although no shares had actually traded since late April.
Vicis also converted all 105.1 million of its preferred shares in OmniReliant to common shares, giving it a 96% stake in the company.
On Sept. 30, Vicis' board agreed to reduce the exercise price of the new warrants to 20.3 cents. The hedge fund converted 27.6 million of the warrants to shares, paying a further $5.6 million.
On the day that Vicis completed that transaction, those shares had a market value of $27.3 million.
Sharesleuth found similar deals at other Vicis portfolio companies. In July 2007, for instance, Medical Solutions Management reduced the exercise price of Vicis' outstanding warrants to a penny each, in return for a payment of $2.1 million.
Vicis then exercised all of its 37.7 million warrants -- most of which had been priced at $1 to $2 a share -- giving it a majority stake in the company. Medical Solutions Management's stock price at the time was around $3.50, although trading volume was minimal.
In addition to using Midtown Partners as its placement agent, OmniReliant entered into a consulting agreement with TotalCFO LLC, another entity of which Christopher Phillips was managing director. SEC filings show that OmniReliant paid that company $429,000 in the two years that ended June 30, 2009.
Florida corporation filings now list Phillips' sister, Natalie P. Collins, and father, Dale E. Phillips, as managing members of TotalCFO. Dale Phillips also is chief financial officer of Apogee Financial, Midtown Partners' parent company.
OmniReliant paid Apogee Financial a $125,000 consulting fee for due diligence on a recent acquisition.
SEC filings show that OmniReliant has invested nearly $3.2 million in an entity called RPS Trading LLC, with more than $2.5 million of that coming in the past six months, after the company received another cash infusion from Vicis.
OmniReliant also bought a company called Designer Liquidator Inc., which owned 50% of RPS Trading, for $150,000 and 100,000 shares of stock.
Florida corporation filings also list Natalie Collins as managing member of Smallcapwatch LLC, a stock promotion web site that features profiles of OmniReliant and three other companies in which Vicis and Midtown Partners have stakes.
The corporation filings list the same address for all of the above entities except Apogee Financial -- an office at 20711 Sterlington Drive in Land O' Lakes, Fla.
That also is the business address for Debt Opportunity Fund LLLP, another entity that has provided financing to OmniReliant, MDwerks and several other Vicis portfolio companies.
MDwerks said in an SEC filing that Christopher Phillips' wife, Tonya Phillips, had a minority ownership interest in Debt Opportunity Fund. It also identified Vicis as the manager of the fund.
Florida corporation filings list the general partner of Debt Opportunity Fund as another entity called Total Capital Management LLC. The person listed as Total Capital Management's managing member is Christopher Phillips' next door neighbor.
Sharesleuth also turned up a filing in the Florida divorce case of one of Vicis' partners, Sky Lucas, that lists a joint bank account he held with Natalie Collins. The purpose of that account was not explained in the document.
OmniReliant signed a marketing agreement last year with Net Talk.com (OTCBB: NTLK.OB), a Miami company in the Internet telephone business. The deal called for OmniReliant to get 1 million shares of Net Talk.com's stock as compensation.
SEC filings show that Net Talk.com had previously issued 2 million shares of its common stock to individuals and entities connected to Midtown Partners and its parent company.
Vicis has invested $4.2 million in Net Talk.com, in return for notes that are convertible to 16.8 million shares of common stock at 25 cents a share. Net Talk.com's stock closed Monday at $1.
Net Talk.com is built around assets it acquired from Interlink Global Corp. (Pink Sheets: ILKG.PK), another Vicis portfolio company that was introduced to it by Midtown Partners. SEC filings show that Vicis invested $3.5 million in Interlink Global between 2005 and 2007. That company's shares now trade on the Pink Sheets for a fraction of a cent, down from a high of $3.04 in early 2006.
Ron J. Rule Jr. is director of product development for Net Talk. Documents show that he also is director of information technology for both OmniReliant and Midtown Partners, and is a managing member of SmallCapWatch LLC.
OmniReliant entered into a strategic alliance with Zurvita last year.
OmniReliant granted Zurvita a license to use and sell software for an online business directory and advertising platform called LocalAdLink. It got a $2 million convertible note from Zurvita, along with 3.8 million shares.
SEC filings show that OmniReliant acquired LocalAdLink from Beyond Commerce Inc. (OTCBB: BYOC.OB), another Midtown Partners client. OmniReliant had previously provided financing to Beyond Commerce, in deals brokered by Midtown Partners, and held more than $5 million of its convertible notes.
As payment for LocalAdLink, OmniReliant forgave $4 million of the notes and surrendered warrants covering 18.3 million shares of Beyond Commerce's stock.
SEC filings show that Midtown Partners received at least $104,000 in placement fees on the original notes, plus warrants for 917,335 Beyond Commerce shares.
As part of the LocalAdLink transaction, Zurvita also bought 8 million Beyond Commerce shares for $800,000, or 10 cents a share.
Beyond Commerce's stock is now trading for 2.8 cents, down from its peak of $3.30 in the summer of 2008.
Other Portfolio Companies
Vicis has poured roughly $25 million into Ambient Corp. (OTCBB: ABTG.OB), a Massachusetts company that offers high-speed data communication systems that utility companies can use to monitor their power grids. Ambient also has sought to develop a system for delivering broadband Internet over power lines.
Vicis said in an SEC filing in November that it holds 641 million common shares of that company, and would have more than 1.3 billion shares if it converted two promissory notes into additional shares.
Ambient's stock has been trading for around 14 cents a share.
Vicis put $3.5 million into OptimizeRx Corp. (OTCBB: OPRX.OB), a Michigan company that offers online coupons, discounts or rebates on prescription and nonprescription medication. In return for that money in September 2008, the hedge fund got preferred stock convertible to 3.5 million common shares, plus warrants for 6 million additional common shares at $2 each.
Midtown Partners got a placement fee of $350,000. OptimizeRx said the fee also included warrants to buy 600,000 shares at $2 each and 350,000 shares at $1 each.
OptimizeRx's stock closed Monday at $2.25 a share, although only 2,500 shares changed hands.
Sharesleuth noted that the chart of OptimizeRx's major shareholders in its annual SEC filing lists a trust for the benefit of "Jillene Pinella" as the owner of 9.4% of its shares. Our research found that the name has been consistently misspelled in the company's SEC filings, and that the beneficiary is actually Jillene Panella, the wife of Dante M. Panella, a Tampa-area financier and stock promoter.
The SEC brought civil charges against Dante Panella in 2008 in connection with a pump-and-dump scheme involving a company called Global Development and Environmental Resources Inc. The SEC alleged that Panella helped to hype the company's stock, then profited by selling $1.1 million in illegally issued shares. A federal judge ordered him in November to pay $457,574 in disgorgement, interest and penalties, and barred him from participating in the offering of a penny stock for five years.
The Insurance Fraud Case
Medical Solutions Management purchased the receivables at the heart of the fraud case from Deutsche Medical Inc., an Anaheim, Calif.-based company that also is a subject of the federal investigation.
Medical Solutions Management paid roughly $8 million, or 60 cents on the dollar, for receivables with a face amount of $13 million, according to people with knowledge of the company's dealings.
The idea was to profit by collecting a greater percentage of the balance owed. Vicis provided much of the money through share purchases and loan guarantees.
MDwerks took over the collection of the receivables in early 2008. SEC filings show that Vicis increased its financial involvement in MDwerks at that point, and Phillips and Stastney joined its board.
Vicis put $7.5 million into the company in March 2008, in return for preferred stock that could be converted into 7.5 million common shares. It also got warrants to buy 53.3 million additional shares at 75 cents a share.
MDwerks' stock was trading for 90 cents a share at the time, down from a high of $1.55 the previous summer.
MDwerks collected at least $4 million on the receivables through the end of last year, according to internal correspondence. But that money did not show up as revenue in the company's quarterly or annual financial filings with the SEC.
MDwerks reported just $881,656 in revenue for 2008, and had a net loss of $8.18 million.
Medical Solutions Management was supposed to get a substantial cut of the collections money under the transfer deal with MDWerks, because the debt used to buy the receivables was still on Medical Solutions Management's books.
But SEC filings show that Medical Solutions Management didn't report anything close to $4 million in revenue from receivables in 2008, either.
Neither Medical Solutions Management nor MDWerks have fully disclosed the nature or scope of the investigation in their SEC filings.
Medical Solutions reported last Jan. 27 that its president and interim chief executive, Lowell M. Fisher, had resigned. It said in its filing that his reasons for leaving included his wife's recent death and his "awareness of an ongoing federal investigation" involving the company. It did not elaborate on that probe.
Stastney resigned from Medical Solutions Management's board the following day.
MDwerks did not mention the investigation until April 15. It noted in its annual filing with the SEC that it had been informed of "an ongoing jury investigation involving certain workers compensation claims which may involve Medical Solutons Management Inc., a former client of MDwerks Inc."
MDwerks said only that it provided support services to Medical Solutions Management in connection with the collection of claims. It added that it had not been contacted by authorities, and was not aware that it was the subject of any investigation.
MDwerks had reported on Feb. 20 that Howard B. Katz, its chairman and chief executive, resigned. The company cited no reason, and noted that Katz would remain a consultant under a contract worth $240,000 a year.
MDwerks said in an SEC filing 0n Aug. 14 that Stastney had resigned from its board. It announced Oct. 8 that Phillips also had stepped down. The company offered no explanation for either departure, except to say that they were unrelated to any differences over the company's operations, policies or practices.
Christopher Carey is editor and president of Sharesleuth.com. He's been a business reporter for more than two decades, most recently at the St. Louis Post-Dispatch, where he produced a series of articles on global stock fraud. He specializes in digging through SEC filings, court records and other documents to find information that companies try to bury, and in tracking the activities of known securities-law violators.
Justin McLachlan and Patrick Danner contributed information to this report. SaarResearch provided fact checking services.
(Disclosure: No one associated with Sharesleuth has any investment position, short or long, in the companies mentioned in this story.)
Disclosure: 'Disclosure: No Possitions'