Thow’s compliant clients no excuse for poor investigation: MFDA

It seems that disgraced advisor Ian Thow bribed clients by returning their investment money if they agreed to retract any complaints. Nevertheless, the MFDA says Thow’s dealer, Berkshire Investment Group, still should have conducted a comprehensive investigation into his activities.

Late on Monday, the MFDA issued its rationale for the December settlement with Berkshire which saw the investment firm fined $500,000 due to its failure to conduct a “reasonable supervisory investigation” into Thow’s activities. It is believed that Thow is responsible for defrauding clients of more than $30 million.

Both the MFDA investigation and an investigation by the British Columbia Securities Commission emphasize that all of Thow’s fraud was committed off-book, with no evidence that anyone at the firm was aware of his improprieties. The MFDA’s reasoning for the penalty stems from Berkshire’s failure to conduct a proper investigation following the first two complaints it received about Thow, both of which were from investors who were not Berkshire clients.

The first complaint, which Berkshire received in September 2004, was from the lawyer of a wealthy businessman who said his client had accompanied Thow on a fishing trip along B.C.’s coast with three other investors. The lawyer related that his client had been convinced by Thow to invest $1.2 million in shares of National Commercial Bank Jamaica Limited, an investment that was later found to be bogus.

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The investor claimed that other participants in the fishing trip had also bought shares, but the only receipt of the transaction that he was able to provide to Berkshire was for $1.2 million in travel vouchers related to Thow’s aircraft leasing business.

According to the MFDA, Berkshire did inform both its legal and compliance departments about the accusation, although no one at Thow’s branch was informed of the matter.

One of Berkshire’s senior executives did, however, call Thow and inform him of the complaint. Thow said the story was false and that the businessman was “playing hardball” to get the return of money he had used to purchase flight time on Thow’s aircraft.

Shortly thereafter the businessman himself called Berkshire’s compliance department and said that his lawyer’s story was a “misunderstanding.” The MFDA says unbeknownst to Berkshire, Thow had repaid the investor $1.2 million in exchange for his retracting the complaint.

The MFDA says that the complaint’s withdrawal shouldn’t have ended the company’s investigation. Berkshire would have been required by the MFDA to obtain written confirmation and documentation corroborating Thow and the businessman’s dealings.

The regulator argued in its reasoning that had Berkshire done this, “it would have increased the likelihood that Thow’s solicitation of monies for the purchase of investments outside the Respondent and improper outside business activities would have been discovered and Thow would have been prevented from continuing to engage in such conduct while registered as an Approved Person of the Respondent [Berkshire].”

The MFDA says Berkshire received a second complaint about Thow on April 20, 2005, from another investor who was not a client of the firm. This client claimed he had invested $200,000 in the Jamaican bank shares. In this case, Berkshire was given physical evidence, a cheque for $100,000 payable to Thow’s company with the words “NCB bank shares” written on the memo line of the cheque.

Subsequently, the investor refused to cooperate with Berkshire’s investigation. Unknown to Berkshire, the investor’s lawyer was in negotiations with Thow’s lawyer to get the investment money back. The investor did get his money back, although he stated that it was not repaid by Thow.

Even without the investor’s testimony, the cheque was physical evidence that potentially proved Thow was engaged in off-book securities trading. Indeed, Berkshire’s compliance and sales departments proceeded with a meeting with Thow on May 5, 2005, to investigate the complaint. At the meeting, Thow submitted his resignation and refused to answer most of the firm’s questions. He said his copy of the cheque didn’t have the memo line.

The MFDA insists Berkshire had an obligation to suspend Thow that very day. Instead, it deferred his termination until June 1, 2005. From April 20, 2005, the date the investor launched the complaint, until June 1, 2005, the date Thow was terminated, he managed to bilk investors out of approximately $510,000.

Shaun Devlin, vice-president of enforcement for the MFDA, says it was only the supervisory process of its compliance that failed Berkshire. The rest of its regulatory governance was sound.

According to the MFDA’s guidelines on supervisory investigations, “a Member has a duty to conduct a detailed investigation where it receives information to suggest the possibility that the Member or any current or former Approved Person has or may have contravened any provision of any law or has contravened any regulatory requirement.”

In the case of Thow, such information came in the form of the accusations by individuals that he was trading securities outside of his approved role with an MFDA member. Devlin says regardless of the clients’ undermining Berkshire’s investigation, the firm should have proceeded to investigate the allegations with or without their help. He says the MFDA would have identified more compliance issues, which would have merited further investigation.

“If they had conducted an investigation into those matters, they would have found further red flags and then their duty would have obviously continued with regard to other red flags,” he says.

The MFDA notes in its reasoning that Berkshire has corrected its supervisory policies. The firm has also been diligent in compensating its own clients burned by Thow. The MFDA investigation concluded Thow took more than $4.3 million from clients of Berkshire. Upon the conclusion of voluntarily initiated mediations with 29 of its clients, Berkshire made payments totalling approximately $4.1 million.

Berkshire is also defending itself against other claims for compensation in both civil litigation and alternative dispute resolution proceedings with clients and non-clients who invested with Thow.

Filed by Mark Noble, Advisor.ca, mark.noble@advisor.rogers.com

(01/08/08)

Mark Noble