## Facts

- VesCor Capital Corporation financed its real-estate lending business by selling Wholesale Accrual Notes, Wholesale Monthly Income Notes, and Wholesale Mortgage Loan Participation Interests to the public through purported private offerings.
- Nevada regulators determined the instruments were securities and required VesCor to make rescission offers to Nevada investors; VesCor paired rescission with opportunities to reinvest and also sought funds from investors in other states.
- Kevin D. Kunz had a longstanding relationship with VesCor and its principal, Val E. Southwick; after leaving VesCor, Kunz formed Kunz & Cline Investment Management, Inc. (K&C), a broker-dealer funded through VesCor, approved as an NASD member on December 13, 1994.
- VesCor prepared six private placement memoranda (PPMs)—Nevada and non-Nevada versions for each product—stating the securities would not be registered and using a financial statement reflecting a sizeable cumulative operating loss.
- Kunz acknowledged surprise at VesCor’s accumulated loss but performed no meaningful investigation of the financial statements or other PPM disclosures.
- The Nevada PPMs included some litigation disclosures about Southwick; the non-Nevada PPMs did not fully disclose that history.
- None of the PPMs disclosed the relationship between VesCor and Kunz/K&C, despite VesCor’s role in funding the broker-dealer and Kunz’s close ties to the issuer.
- Kunz understood a VesCor land transaction was intended as a temporary “balance sheet enhancement” to make the private placement appear more saleable.
- Kunz and K&C offered and sold VesCor securities to customers; they did not attempt to verify the number of non-accredited investors in any offering until after NASD began investigating in September 1995.
- NASD found sales of certain offerings were made to many more than 35 non-accredited investors and that the PPMs materially misrepresented VesCor’s financial condition and omitted material relationship and litigation information.

## Issues

1. Whether the VesCor offerings sold through Kunz and K&C qualified for a Securities Act Regulation D exemption given the number of non-accredited investors and lack of verification.
2. Whether distributing offering materials containing material misstatements or omissions, failing to investigate red flags, and failing to verify investor qualifications violated NASD Conduct Rule 2110’s requirement of just and equitable principles of trade.
3. Whether the NASD-imposed sanctions were supported by the record and were consistent with investor protection and the public interest.

## Decision

- The SEC sustained the NASD’s findings that Kunz and K&C engaged in misconduct in connection with the VesCor private offerings.
- The SEC rejected the claim that the offerings qualified for a Regulation D exemption where sales exceeded the non-accredited investor limits and the respondents failed to take steps to confirm compliance.
- The SEC sustained the finding of a violation of NASD Conduct Rule 2110 based on participation in sales using materially misleading PPMs, inadequate diligence regarding issuer disclosures, and undisclosed conflicts and relationships.
- The SEC sustained the NASD sanctions as appropriate to protect investors and the integrity of the securities markets.

## Legal Principles

- A Regulation D exemption requires compliance with its conditions; sales to more than the permitted number of non-accredited investors, and failure to confirm investor status and counts, can defeat the exemption.
- Broker-dealers and associated persons participating in private offerings must conduct a reasonable investigation of the issuer and the accuracy and completeness of offering materials, particularly when red flags appear in financial disclosures.
- Material omissions can include undisclosed relationships and conflicts between a selling firm/representative and the issuer, as well as significant litigation history of control persons when relevant to investment risk.
- Conduct inconsistent with high standards of commercial honor and just and equitable principles of trade violates NASD Conduct Rule 2110 and can be established by disseminating misleading offering documents and failing to perform basic diligence and compliance checks.
- In reviewing self-regulatory discipline, the SEC may sustain sanctions where supported by the record and aligned with investor protection and the public interest.

## Conclusion

The SEC sustained NASD discipline against Kunz and his broker-dealer for selling VesCor private offerings without ensuring Regulation D compliance and while using PPMs containing material misstatements and omissions, holding that inadequate diligence and undisclosed issuer ties violated NASD Rule 2110 and warranted investor-protective sanctions.


In re Kunz, Exchange Act Release No. 45290 (Jan. 16, 2002)