Letter warned of Met’s fall
State regulator informed SEC of bankrupt investment company’s shaky ground
Burned investors may have been shocked by the quick collapse of Metropolitan Mortgage & Securities Inc., but regulators have known for years that the company was on shaky financial ground.
Deborah Bortner, Washington state’s top financial enforcer, informed federal securities regulators of her concerns in a searing 14-page letter sent 18 months ago.
Among the issues she recounted to the U.S. Securities and Exchange Commission: Metropolitan’s owners were siphoning too much money from the company, enriching themselves at the expense of investors.
Financial filings show C. Paul Sandifur Jr. personally collected more than $4 million from Metropolitan and its affiliate company, Idaho-based Summit Securities Inc., through special stock dividends paid from 2000 to 2002.
During those same years, Sandifur’s companies lost $27.3 million while debts soared to $633 million, up from $377 million.
Metropolitan declined comment for this story.
Bortner said raising red flags over Metropolitan’s deteriorating business was one of the only actions the state could take, because a law enacted in 1996 put the company under federal regulatory control.
She said she now regrets that she didn’t broadcast her deep concerns about Metropolitan to the public. She didn’t release the letter to the media until recently.
Instead, she had hoped the document would quietly force action.
Some say it did and personally blame Bortner for Metropolitan’s financial calamity.
Spokane Mayor Jim West said Bortner has a vendetta against Metropolitan.
“She’s a bitter woman,” West said this week. “She’s had this 14-year history with Metropolitan and intervened to the point that some inside the company believe she caused its collapse.”
It’s a collapse that has turned Metropolitan’s 35,000 investors into creditors, whose best hope to regain some of their money lies in bankruptcy court.
The debacle also has hurt the Spokane Valley Community Center, a nonprofit agency that delivered aid such as food and money to 69,000 people last year.
Center director Mollie Dalpae said donations are down and needs are up.
“We think it’s directly tied to Metropolitan,” she said. “Many of our donors, people who had enough to share, are now in line for aid.
West acknowledged last week that Metropolitan executives asked him to place a call to Bortner when he was the Republican state Senate majority leader.
Metropolitan wanted Bortner’s criticism of the company muted and asked West to intervene. He did so in December 2002, four months after she had fired off her letter to the SEC.
West said Bortner’s letter writing ran contrary to state law because Washington had lost its regulatory power over Metropolitan.
That’s because in 1996, Congress passed the National Securities Market Improvement Act, which stripped states of myriad oversight roles and gave more power to the federal government.
Bortner blamed the securities act for leaving Metropolitan’s investors looking to bankruptcy court to recoup at least a fraction of their money.
The federal government, she said, didn’t watch Metropolitan as carefully as the state.
The letter was sent as Metropolitan sought SEC approval to issue $400 million in debentures and preferred stocks that would have kept the company in business, but also would have inflated its debt to nearly $1 billion. Debentures are unsecured bonds backed by nothing more than a company’s promise to repay.
West said he has never seen Bortner’s letter but was told by former Metropolitan executives that it sparked an SEC inquiry that delayed the planned debt offering.
“(Metropolitan executives) told me they had SEC approval before the letter was sent,” he said.
The SEC began looking into Metropolitan in January 2003. That year, Metropolitan amended its prospectuses for the offering four times in its attempt to address the SEC’s concerns.
Without the infusion of new cash, Metropolitan began to default. In November it suspended dividend payments on preferred shares. Then, on Dec. 26, it began missing interest payments on debentures. Lawsuits followed, and the company spiraled into bankruptcy six weeks later.
The company had become dependent on issuing new debt to pay off old debt, a business practice that Bortner called dangerous for investors. Attorneys pursuing a class-action lawsuit against Metropolitan called it a Ponzi scheme.
Bortner acknowledged that West called her.
“He said maybe we should clear up any concerns the (American Stock Exchange) has about Metropolitan’s history” while the company attempted to issue new preferred shares on that exchange, she said.
“We told him we don’t have any influence on the American Exchange,” Bortner said.
West called Bortner’s actions part of a troublesome pattern.
“It’s not unusual for folks in Olympia to take it upon themselves to save the world and in so doing, they destroy it,” he said.
Bortner dismissed the criticism.
“I don’t consider myself a whistleblower,” she said. “I consider myself a regulator who watched as Metropolitan created a dangerous situation for investors.”
Bortner became alarmed as Metropolitan’s debt grew quickly while revenues remained flat. To do nothing would have been irresponsible, she said.
“I’m an independent with no political aspirations,” she added. “I took this job because I care about investor protection regardless of the politics.”
Why didn’t she tell investors of her concerns?
“I believed it was a letter written from one regulator to another,” she said. “I wanted the SEC to think about what they could possibly be doing to protect people.”
On Monday, Metropolitan’s creditors will meet at the Spokane Arena. It’s the only indoor venue here large enough to hold the thousands of investors across the Inland Northwest who are expected to attend.
Metropolitan is Washington’s oldest and largest debenture firm.
Founded in 1953 by the late C. Paul Sandifur Sr., Metropolitan sold debentures to buy home mortgages at a discount. The company used the cash stream from that activity to pay a generous return and earn a profit.
Throughout the 1960s and early 1970s while Metropolitan grew - it financed the construction of the retirement community Rockwood Manor and invested in Hawaiian property - other Washington debenture companies failed.
By 1973, more than 10 of those companies went under, costing investors $26 million.
The problem demanded government action, and in 1973 the state Legislature passed the Washington Securities Act to regulate debenture companies. The law curbed business failures and ensured that high-risk debenture companies followed guidelines to ensure they could meet their debt obligations.
During the 1980s, Metropolitan began a growth spurt. Its business included insurance, real estate brokerage and commercial development.
The “increasingly diverse and complex” investments, Bortner said, showed a company without a clear long-term business strategy.
To finance those investments, Metropolitan issued more and more debentures.
True to its word, the company never missed a payment. It was a sales pitch pressed by Metropolitan’s broker-dealers.
But Metropolitan’s streak stopped late last year.
After 50 years of making good on its word, the company was running out of cash.
Two months ago, an accounting scandal gripped the company. Outside auditor Ernst & Young LLP resigned after concluding that executives made “material misstatements.” Summit Securities Inc. President Tom Turner was fired, and Sandifur quit soon afterward.
Metropolitan’s entire board of directors has since resigned, leaving the teetering firm to a relative newcomer, Chief Financial Officer William Smith.
The fifth CFO in five years, Smith arrived last summer as Metropolitan began to unravel.
Tug of war
Bortner said she saw it coming.
Beginning in 1991 her office was engaged in a tug of war with Metropolitan. State records portray a company that broke agreements with regulators and then found ways to escape Washington’s tough debenture laws.
In the mid-1980s through the mid-1990s, the company was not making enough money to keep up with its growth. So Bortner’s office carefully monitored Metropolitan to ensure it could generate enough cash to repay investors.
It wasn’t the only regulator watching Metropolitan.
In 1991, the National Association of Securities Dealers Inc. conducted a special examination.
With broad powers to enforce securities laws, the NASD was concerned that Metropolitan customers - mostly older, conservative individuals - had too much money invested in high-risk Metropolitan debentures and preferred stocks. Another worry the NASD expressed was that brokers were failing to adequately disclose those risks.
Minutes from a meeting between the NASD and Metropolitan officials, including Sandifur, showed that the company’s brokers struggled to describe their relationship with Metropolitan. Though technically independent, many brokers sold mostly Metropolitan investments and thus relied upon those fees for their livelihoods. That called into question the arm’s-length relationship brokers are supposed to have with companies they recommend.
Some people had most of their life savings - excluding their homes - invested in Metropolitan debentures and preferred stock. A more appropriate level would have been less than 50 percent for relatively wealthy people able to sustain a loss.
“The difficulties may have arisen from … the fact that most of the reps and their families owned substantial amounts of the company, and the very strong corporate culture at Metropolitan,” the NASD wrote in its report.
The agency also frowned on brokers’ practice of comparing Metropolitan debentures to bank certificates of deposit, which are insured and thus more secure.
The same issues were raised anew last year, but this time the NASD made public its investigation and subsequent settlement with the company. Metropolitan neither admitted nor denied wrongdoing, but agreed to censure, a $500,000 fine, an order to repay $2.8 million to several dozen investors, and the establishment of a $1 million escrow fund to refund other investors.
By 1995, Bortner said, she considered the company undercapitalized. Partly to blame, she said, was the company’s practice of paying most of its earnings in dividends on common stock owned by the Sandifur family.
As the company struggled to show that it would make enough money in the future to pay its debts, her agency capped Metropolitan’s debt at $250million as part of an agreement to stop questionable and unsafe business practices.
As part of the deal, Metropolitan needed approval to make large loans and transfer assets between the company’s various affiliates. Also, Bortner required the firm to provide a long-term strategic plan and stop paying dividends to the Sandifurs.
The moves worked, Bortner said, and Metropolitan’s earnings grew.
Yet the constraints were unpalatable to Metropolitan, Bortner said.
Sandifur launched Summit Securities in Idaho partly to escape onerous Washington rules. Later, Metropolitan asked that its debt cap be raised.
Meanwhile, Congress passed the National Securities Market Improvement Act, and by 1998, Metropolitan was not honoring its binding agreement with the state.
Specifically, Bortner said, the company was again issuing dividends on common stock held by Sandifur.
A second review of the company found much of the profit Metropolitan recorded in the late 1990s “was the result of aggressive and questionable valuation practices.”
Bortner said Metropolitan’s cash reserves had dwindled.
In 2000, under the shield of the federal securities act, Metropolitan bypassed state regulators. It received approval to sell $25 million worth of debentures on the Pacific Stock Exchange, whose requirements were minimal when compared to the state’s. Now operating under a different set of rules, Metropolitan’s debt grew and its financial position deteriorated. It lost $7.6 million in 2000 and lost $9million in 2001.
The company did post a $3.9 million gain in 2002, but after the first nine months of fiscal 2003, Metropolitan had losses of $25.5 million.
It wasn’t much better at Summit.
After a $2 million profit in 2000, Summit lost $5 million in 2001. The Idaho company then posted a $1.7 million gain in 2002. The first nine months of 2003 showed a $3.1 million loss.
The 2003 year-end results of the companies remain unknown because of the resignation of outside auditor Ernst & Young.
After Metropolitan listed on the Pacific Exchange, it became dependent on issuing new debt to pay off older debt.
Next, the company listed its preferred stocks on the American Stock Exchange.
With its finances deteriorating, Bortner said, Metropolitan continued to attract new buyers for its debentures.
But current holders of the company’s preferred shares and listed debentures weren’t trading. Bortner’s staff checked the trading activity of Metropolitan investments on AMEX and the Pacific exchange and found there was little.
“To our knowledge, not a single trade has taken place,” she wrote to the SEC. “The market transparency, analyst coverage, access to trading and company information and efficient marketplace that exist with true national companies are not present in this situation.”