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Schorsch Partner Arrested for Securities Fraud

The Securities and Exchange Commission has charged two former American Realty Capital Properties executives for their role in the 2014 accounting scandal that rocked the investment community and nearly took down the company. Then-chief financial officer Brian Block and then-chief accounting officer Lisa McAlister were charged on Thursday for overstating the financial performance of the publicly-traded REIT founded by New York real estate tycoon Nicholas Schorsch. American Realty Capital Properties is now known as VEREIT (NYSE: VER) and has no ties to the legacy firm.

In a parallel action on Thursday, the U.S. Attorney’s Office for the Southern District of New York announced criminal charges against Block, who was arrested on conspiracy, securities fraud, and other charges at his home in Hatfield, Pennsylvania. McAlister pled guilty to charges in June and is cooperating with the government. Details on the federal indictment are below.

Block was a founding partner of American Realty Capital, later known as AR Capital, along with Nicholas Schorsch, Michael Weil, Peter Budko and William Kahane. Following the various scandals that commenced with the ARCP accounting cover-up for which Block has been arrested, the company formed AR Global – where Block, Schorsch, Weil, Budko and Kahane are all presumed to continue in their roles as partners. An AR Global spokesperson would not return phone calls to confirm the roles.

According to the SEC’s complaint, the executive pair allegedly devised a scheme to manipulate the calculation of ARCP’s adjusted funds from operations, a non-GAAP financial performance measurement. After warnings from internal accounting staff that an incorrect method was used to calculate AFFO in the 2014 first quarter financial results, Block allegedly falsified the company’s AFFO presentation in the final hours before filing the company’s second quarter results. With McAlister in his office, Block allegedly plugged in fake numbers that concealed the first quarter overstatement and made it appear that the company had met second-quarter estimates when, in fact, it had fallen short.

“We allege that these senior executives conjured up numbers to purposely conceal ARCP’s true performance, misleadingly suggesting that the company had met AFFO estimates for the first and second quarters of the year,” said Sanjay Wadhwa, senior associate director of the SEC’s New York regional office.

The SEC’s complaint charges Block and McAlister with violating or aiding and abetting violations of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 as well as aiding and abetting violations of Exchange Act Section 13(a) and Rules 12b-20, 13a-11, and 13a-13. Block also is charged with violating Rule 13a-14 of the Exchange Act. The complaint seeks permanent injunctions, disgorgement plus interest and penalties, and officer-and-director bars.

As previously reported by The DI Wire, McAlister filed a verified complaint in New York state court against then-chairman Schorsch, then-CEO David Kay and ARCP after the accounting scandal came to light. She claimed that she was defamed and terminated for reporting the accounting malfeasance and alleges that “an undisclosed change to the method for calculating adjusted funds from operation (AFFO) – from ‘net’ to ‘gross’– was made suddenly and without any apparent justification or basis.” She indicated that Schorch, Kay and Block “ordered” the change “to avoid public disclosure of [ARCP’s] faltering financial performance.” McAlister later withdrew her suit without prejudice, meaning she could refile at a later date.

Regarding the federal investigation, Preet Bharara, the United States attorney for the Southern District of New York, and William Sweeney Jr., the FBI assistant director-in-charge of the New York Office, announced that the indictment in Manhattan federal court against Block was unsealed on Thursday. The case is assigned to U.S. District Judge Paul Oetken.

“Inflating the performance of publicly traded companies place investors at a disadvantage. Block overstated adjusted funds from operations by millions of dollars and underestimated the consequences he would face as a result,” said Sweeney. “[Thursday’s] charges outline the FBI’s continued determination to root out those who unlawfully interfere with the principles of supply and demand in free-market trading.”

According to the indictment, an ARCP employee known as CC-1, told Block, McAlister and others about the accounting error shortly before the company filed its first quarter 2014 report with the SEC, but no corrections were made at that time. CC-1 told the others that the reported AFFO per share calculation was overstated by approximately $0.03 per share. Instead of $0.26 per share, which was publicly reported by ARCP to its shareholders and the investing public, the correct AFFO was $0.23 per share.

Despite his alleged knowledge of a material error in ARCP’s previous filings with the SEC, Block took no steps to advise the board’s audit committee or outside auditors of the error. Moreover, Block, McAlister, and CC-1 then used of those same calculations, which they knew to be falsely inflated, in the company’s second quarter filing with the SEC. The alleged fraud resulted in an AFFO overstatement of approximately $13 million and an AFFO per share overstatement by approximately $0.03, or approximately 5 percent of total AFFO per share.

Block was charged with one count of conspiracy to commit securities fraud and other offenses, one count of securities fraud, two counts of making false filings with the SEC, and two counts of submitting false certifications along with required filings with the SEC.

McAlister pled guilty on June 29th before U.S. District Judge Alvin Hellerstein to one count of conspiracy to commit securities fraud and other offenses, one count of securities fraud, one count of making false filings with the SEC, and one count of making false statements in a matter within the jurisdiction of the executive branch of the United States Government.

The securities fraud and false filings charges each carry a maximum prison term of 20 years. The conspiracy and false statements charges each carry a maximum prison term of five years. The charges, which were brought in connection with the President’s Financial Fraud Enforcement Task Force, are merely accusations and defendants are presumed innocent unless and until proven guilty.

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