In Re: Petition for the Issuance of a Take-Over Order Against I. Ackerman & Co., Inc.

May 12, 2015 SEC EN BANC CASE NO. 02-15-357 IN RE: PETITION FOR THE ISSUANCE OF A TAKE-OVER ORDER, PURSUANT TO ARTICLE X, SECTION 9 OF THE CMIC RULES, IN RELATION TO SRC RULE 33.2 (D), AGAINST I. ACKERMAN & CO., INC. CAPITAL MARKETS INTEGRITY CORPORATION , petitioner . ORDER Before the Commission is a verified Petition for the Issuance of a Take-Over Order (Petition) pursuant to Section 9, Article X of the Capital Markets Integrity Corporation (CMIC) Rules, in relation to Rule 33.2 (D) of the Securities Regulation Code Rule (SRC), against I. Ackerman & Co., Inc. (IACI), dated 18 February 2015, filed with the Commission on 20 February 2015. Factual Antecedents On 12 November 2014, CMIC filed with the Commission a Petition for Take Over of Books, Records, and Trade-Related Assets of IACI pursuant to Article X, Section 9 of the CMIC Rules based on the following grounds: a) IACI's deteriorating financial condition; b) Suspicious movements in clients' account; c) Undeposited collections; d) Alterations of checks by making them payable to cash; e) Disbursements to clients with debit balances; f) Weak internal control; AaCTcI g) Short position of securities; h) Apparent lack of due compliance by IACI with the condition imposed by CMIC; and i) Misrepresentation made by IACI. On 4 December 2014, the Commission granted CMIC's then Petition and issued the Take-Over Order declaring: "WHEREFORE, premises considered, the instant Petition for the Issuance of a Take Over Order is hereby GRANTED. Accordingly, the Petitioner is hereby ordered to Take Over the Books and Records and Trade-Related Assets of I. ACKERMAN & CO., INC., pursuant to Section 9(a), Article X of the CMIC Rules, in relation to Rule 33.2 (d)(1) of the RIRR of the SRC. SO ORDERED." On 9 December 2014, CMIC took control of IACI's books, records, and trade-related assets. CMIC then conducted a full audit of IACI. Based on its audit findings, CMIC avers that IACI's financial condition has so deteriorated that it cannot readily meet the demands of its customers for the delivery of securities and/or payment of sales proceeds. Thus, CMIC filed the instant Petition based on the following grounds as supported by documentary evidence: I. IACI's Financial Condition A. Impairment of IACI's Liquid Assets; 1 B. Unimpaired Paid-Up Capital below the minimum requirement; 2 and EcTCAD C. Non-compliance with the minimum Risk Based Capital Adequacy (RBCA) Ratio requirement. 3 II. CMIC's Audit Findings A. Suspicious Movements in Clients Account; 4 B. Undeposited Cash Collections; 5 C. IACI Alters Several Clients' Checks; 6 D. IACI Disburses Cash to Clients/Officers/Shareholders with Debit Balances; 7 E. IACI Allows the Use of Company Funds to Settle Customers' Trade Transactions. 8 III. IACI's Blatant Disregard of Securities Laws and the Commission's Take Over Order. 9 The CMIC then pleads that the Commission issue an Order: "(1) Authorizing CMIC to take over the operations of IACI pursuant to Article X, Section 9 of the CMIC Rules, in Relation to SRC 33.2 (D), for the purpose of settling the liabilities of IACI to its customers, the Philippine Stock Exchange (PSE or Exchange), and other trading participants of the Exchange ; 10 (2) Granting CMIC the following powers: a. Suspend the trading right of IACI, provided that CMIC shall simultaneously notify the Honorable Commission of such suspension; b. Settle IACI's liabilities to customers, the Exchange, and other trading participants through the sale of IACI's trading right and other trade-related assets, liquidation of paid-up capital, and/or overseeing the payment of claims against the surety bond; HSAcaE c. Simultaneously inform the Securities Investors Protection Fund, Inc. (SIPF) of the requested takeover and inform IACI's customers that they may also claim compensation for losses from the SIPF, subject to the validation of their claims by CMIC and the SIPF; d. Where after such settlement and liquidation of IACI's trade-related assets, there are outstanding liabilities to its customers, refer the same to the SIPF and inform the customers of the further steps necessary for claiming compensation for unsatisfied losses; e. Apply the proceeds of the liquidation of the trading rights, PSE shares of stock and other trade-related assets of IACI to pay its liabilities in the following order: i. All expenses, including taxes, of the liquidation; ii. All liabilities to the Exchange; iii. Remaining liabilities to its customers, provided that if the remaining liquidation proceeds be less than the total remaining validated claims of IACI's customers, each customer shall be entitled to share in the balance in the proportion that the validated claim of said customer shall bear to the entire remaining validated claims of all customers of IACI, and provided further that SIPF shall be subrogated in the rights of the customers as to the claims before CMIC to the extent that it has paid the customer's claims before final settlement of IACI's liabilities by CMIC; HESIcT iv. All liabilities of IACI to other trading participants of the Exchange, provided that if the remaining liquidation proceeds be less than the total validated claims of the trading participants of the Exchange, each trading participant shall be entitled to share in the balance in the proportion that the validated claim of said trading participant shall bear to the entire validated claims of all trading participants of the Exchange; and f. To perform or execute such acts or documents as may be necessary or appropriate in carrying out the foregoing powers and the authority to take over the operations of IACI pursuant to SRC Rule 33.2(d)." Acting on the Petition , the Commission issued an Order, dated 24 February 2015, directing the Markets and Securities Regulation Department (MSRD) of the Commission to conduct an investigation and/or verification on the allegations contained in the Petition and to file an Investigation/Verification Report thereof. On 12 March 2015, the CMIC filed a Supplemental Petition , dated 11 March 2015, alleging additional grounds in support of its Petition as shown by IACI's Trial Balance as of 27 February 2015 and by an incident that happened, on 19 February 2015, at IACI's office. On 16 March 2015, the Commission issued an Order directing the MSRD to consider in its Investigation/Verification Report CMIC's additional allegations contained in the Supplemental Petition . In compliance with the Order of the Commission, dated 16 March 2015, the MSRD filed, on 28 April 2015, its Report on the Investigation/Verification of the Petition , dated 30 March 2015. caITAC We now resolve the Petition . Section 33.1 (d) of the Securities Regulation Code (SRC) provides: "SEC. 33. Registration of Exchanges. 33.1. Any Exchange may be registered as such with the Commission under the terms and conditions hereinafter provided in this Section and Section 40 hereof, by filing an application for registration in such form and containing such information and supporting documents as the Commission by rule shall prescribe, including the following: . . . (d) An undertaking that in the event a member firm becomes insolvent or when the Exchange shall have found that the financial condition of its member firm has so deteriorated that it cannot readily meet the demands of its customers for the delivery of securities and/or payment of sales proceeds, the Exchange shall, upon order of the Commission, take over the operation of the insolvent firm and immediately proceed to settle the member firm's liabilities to its customers ." 11 To implement the above provision of the SRC, Rule 33.2 (d) of the Revised Implementing Rules and Regulations (RIRR) of the SRC pronounces: " SRC Rule 33.2(d) Protection of Customer Accounts in Case of Business Failure of an Exchange Member (or Trading Participant) 1. When an Exchange Member Firm has filed or is the subject of a petition for insolvency, or when an Exchange determines that the Member Firm's financial condition has so deteriorated that it cannot readily meet the demands of its customers for the delivery of securities and or payment of sales proceeds , the Commission may issue ex parte an order compelling the insolvent or failed member firm [hereinafter Failed Member Firm] and the Exchange to take the necessary action to protect customer accounts including, but not limited to, the preservation of the member firm's books and records. Said order shall remain in effect until lifted by the Commission motu proprio or upon petition of the Failed Member Firm. cDHAES 2. The Commission , after proper investigation or verification, motu proprio or upon verified complaint by any party, order an Exchange to take over the operation of the Failed Member Firm for the purpose of settling the member firm's liabilities to its customers . 3. Where the Commission has ordered an Exchange to take over the operations of a failed member firm, an Exchange shall: A. Suspend such Failed Member Firm's membership immediately arrange for another Member to take over the outstanding contracts relating to securities, and simultaneously notify the Commission of such suspension and take-over; B. Promptly notify customers of the Failed Member that their accounts have been transferred to another Member and provide such customers with the opportunity to re-transfer their accounts to another Member of their choice; C. Settle the Failed Member's (or Trading Participant's) liabilities to customers through the sale of the Member's trading rights and other trade-related assets as may be prescribed by the Commission; liquidation of paid up capital; and/or overseeing the payment of claims against the surety bond. D. Simultaneously inform the Accredited Trust Fund referred to in Sec. 36.5 of the Code, where such Failed Member (or Trading Participant) is a Member or Participant, of such takeover and inform the customer that they may also claim compensation for losses from the Trust Fund, subject to the validation of their claims by the Exchange and the Trust Fund; E. Where after such settlement and liquidation of the Failed Member Firm's trade-related assets, there are outstanding liabilities to customers of the Failed Member (or Trading Participant), refer the same to the Accredited Trust Fund and inform the customers of the further steps necessary for claiming compensation for unsatisfied losses; and ASEcHI F. The Accredited Trust Fund, based on its rules and regulations or upon order of the Commission, shall release payments to the Failed Member's (or Trading Participant's) customers even before the Exchange, has finalized the settlement of the Failed Member Firm's liabilities, subject to the validation as provided in subsection D therein; Provided, however, that the Trust Fund shall be subrogated to the customers' rights to claim before the Exchange to the extent that it has paid the customers' claims before final settlement of the Failed Member's liabilities by the Exchange." 12 Moreover and in relation to Section 33.1 (d) of the SRC and its RIRR, Section 9, Article X of the CMIC Rules declares: " Section 9. Consequences of Involuntary Suspension of a Trading Participant . Upon the involuntary suspension of a Trading Participant (the Suspended TP), CMIC shall undertake the following actions: (a) Takeover of the Books and Records and Trade-related Assets of the Suspended TP. With the approval of the Commission or with the agreement of the Suspended TP, CMIC shall: (i) Immediately take possession and control of all books and records and trade-related assets of the Suspended TP ; (i) n Retain custody over these books, records and trade-related assets for a period of not less than five (5) years, from the date that the Commission issued the take-over order. . . . . (ii) Liquidate the trade-related assets of the Suspended TP and pay its liabilities to customers and other trade-related liabilities ; and ITAaHc (iii) Take such action as may be ordered by the Commission or CMIC Head , or as may be agreed upon with the Suspended TP. . . ." 13 Applying the foregoing legal provisions in the instant case, the MSRD, in its Report on the Investigation/Verification of the Petition , corroborated CMIC's averments in its pleading and found that: "A. Financial Condition of IACI 1. Impairment of IACI's Liquid Assets As alleged in the petition and per computation/documents submitted by CMIC to MSRD, specifically IACI's trial balance as of 27 February 2015, IACI has a total cash of Php15,335,785.26, which was further adjusted to Php14,601,233.14 , by deducting the amount of Php734,552.12 representing various withdrawals of funds from several dormant accounts, IACI's short position involving 3,000 Petron Corporation shares, shares erroneously EQ-traded and short sale for the accounts of Armando and/or Marlene Caballero. Further, the same IACI trial balance as of 27 February 2015 shows that the company's total payables to customers, including dividends, amounted to Php17,526,020.22 , thus resulting to deficit of Php2,924,787.08 . 2. Unimpaired Paid-up Capital (UPC) As represented by CMIC, per computation as of 27 February 2015 submitted to IACI, its UPC amounted to Php14,778,338.12. Based on working papers provided by CMIC, the figure was adjusted to Php13,643,786.00 upon deduction of the amount of Php1,034,552.12 representing the various withdrawals of funds from several dormant accounts, IACI's short position involving 3,000 Petron Corporation shares, shares erroneously EQ-traded and short sale for the accounts of Armando and/or Marlene Caballero. At any rate, the company's UPC is already way below the required minimum UPC of Php30Million. 3. Risk Based Capital Adequacy (RBCA) Ratio CHTAIc The required minimum RBCA ratio for broker dealers is 110%. Based on its RBCA computation as of 27 February 2015 submitted to CMIC, IACI reported an RBCA ratio of 80% . Based on the working papers submitted by CMIC, the figure was adjusted to 65% after CMIC took into considerations the company's undeposited collections, overstatement in petty cash, shares erroneously EQ-traded, short position involving Petron Corporation shares, short sale for the accounts of Armando and/or Marlene Caballero, and various withdrawals from account of customers without proof that the same were authorized and proceeds thereof received by the clients. B. CMIC Audit Findings 1. Suspicious Client Account Movements As already presented in the first petition by CMIC (SEC En Banc Case No. 11-14-349), there were findings of suspicious client account movements involving withdrawal from the client accounts, alteration/conversion of checks originally drawn payable to the order of the client into one payable to cash, encashment by IACI employee of checks purportedly for the clients, failure of IACI to show proof that withdrawals were authorized and/or the client received the proceeds thereof. Subsequent audit conducted by CMIC after the issuance by the Commission of the 04 December 2014 take-over order disclosed similar findings of suspicious client account movements involving at least five (5) more client accounts. 2. Altered Checks CMIC cited ten (10) cases of issuance by IACI of checks originally made payable to the order of clients but were subsequently altered and made payable to cash. According to CMIC, IACI failed to present proof that the proceeds of these checks were received by the clients. Normally, a check in payment of a client is issued payable to the order of said client, unless the client gave specific authority that the check be issued in cash. However, CMIC represented that IACI failed to present any proof of such authority. Further, it is suspicious that payment proceeds to clients were received by an employee of IACI, in the absence of showing that the payment proceeds were eventually turned-over to the clients. 3. Disbursements to Clients/Officers/Shareholders with Debit Balances In its earlier petition (SEC En Banc Case No. 11-14-349) , CMIC cited at least four (4) instances of disbursements made to clients with debit accounts, all of which were made via issuance of checks payable to cash which were encashed by IACI employee/general clerk, except for one which were deposited in a certain account. These disbursements were made in various dates in 2013 and 2014. ISHCcT As stated in the present petition and as verified by the Department based on the documents attached as annexes to the petition, upon subsequent audit conducted, CMIC discovered ten (10) other instances of disbursements made by IACI in favor of clients/officer/shareholders with debit accounts. While it is already illogical per se to disburse funds to clients who still have debit accounts, more so when the company is already in dire financial conditions that it is no longer prudent or practical to loan money to clients particularly when these clients have payables/debts to the company. 4. Use of Company Funds Based on the aging of accounts receivable for the period January 01, 2015 to January 31, 2015 and the working papers presented by CMIC, it was shown that the company has a total of Php19,440,906.64 outstanding receivables which are past due, Php11,144,231.32 of which are unsecured. As a standard practice, clients who purchased securities must pay at T+3 and clients who sold securities must receive the payment also on T+3. If the company allows receivables to remain outstanding beyond T+3, the company will have to advance from company funds the payment for the clients who sold the securities. Additional findings of CMIC disclosed that (1) IACI made regular advances to its President, Ms. Maria Luisa Ackerman (Ms. Ackerman); (2) IACI paid for the amortizations of a vehicle used by its Chairman and Executive Officer but the property and corresponding liability were not recorded in the books of IACI; and (3) IACI purportedly sold by installment its property consisting of condominium units to GMER 1990 Corporation with no definite date of payment of amortizations and no interest provided in the contract. These instances show that the IACI has been carelessly using its funds to the potential detriment of its clients. CAacTH C. Blatant Disregard of the Prior Take-Over Order Issued by the Commission Per representation of CMIC, despite the prior take-over order (of books and records and trade-related assets of IACI) of the Commission dated 04 December 2014, IACI still fail/refuse to provide documents CMIC requested. Further, as stated in the affidavit of the CMIC security guard on duty at IACI premises, Ms. Ackerman, accompanied by two others, went to the IACI office on 19 February 2015, a holiday, and attempted to bring out garbage bags containing shredded documents. These shredded documents, upon examination by CMIC, appear to be buy and sell confirmation and check vouchers. This was done without notice or permission of CMIC. If IACI has no intention to hide anything, there is no reason why it has to surreptitiously destroy documents without notice to CMIC, in clear disregard of the earlier order of the Commission dated 04 December 2014 ordering the CMIC to take-over the books and records and trade-related assets of the company." Likewise, the MSRD, in its report, recommends to the Commission that: In view of the foregoing, considering (1) the deteriorated financial condition of the company and the risks/danger of misuse/unauthorized use by IACI of client funds, such that the company can no longer readily meet the demands of customers for delivery of securities; and (2) the destruction of records committed by the company which will adversely affect the determination of the exact degree of deterioration of financial condition of the company, the Department is convinced that CMIC's petition has sufficient basis for the issuance by the Commission of a Take-Over Order on I. Ackerman & Co., Inc. pursuant to SRC Rule 33.2(d), in relation to Article X Section 9 of the CMIC Rules, and we believe that the instant petition should BE GRANTED. Thus, substantial evidence on record show that IACI's financial condition has so deteriorated that it cannot readily meet the demands of its customers for the delivery of securities and/or payment of sales proceeds. In view of the foregoing, it is necessary for CMIC to take over the operations of IACI for the purpose of settling its liabilities to its customers. WHEREFORE, premises considered, the instant Petition for the Issuance of a Take Over Order is hereby GRANTED in accordance with Section 33.1 (d) of the SRC and Rule 33.2 (d) of the RIRR of the SRC, in relation to Section 9 (a), Article X of the CMIC Rules. Accordingly, the CMIC is hereby ordered to: (1) Take Over the Operations of I. ACKERMAN & CO., INC.; (2) Execute, when appropriate, the following: a) Suspend I. ACKERMAN & CO., INC.'s membership with the Exchanges, immediately arrange for another Member to take over the outstanding contracts relating to securities, and simultaneously notify the Commission of such suspension and take-over; CTIEac b) Promptly notify customers of I. ACKERMAN & CO., INC. that their accounts have been transferred to another Member and provide such customers with the opportunity to re-transfer their accounts to another Member of their choice; c) Settle I. ACKERMAN & CO., INC. liabilities to customers through the sale of the its trading rights and other trade-related assets as may be prescribed by the Commission; liquidation of paid up capital; and/or overseeing the payment of claims against the surety bond. d) Simultaneously inform the Securities Investors Protection Fund, Inc. (SIPF) of such takeover and inform I. ACKERMAN & CO., INC.'s customer that they may also claim compensation for losses from the SIFP, subject to the validation of their claims by the CMIC and the SIPF; e) Where after such settlement and liquidation of the I. ACKERMAN & CO., INC.'s trade-related assets, there are outstanding liabilities to its customers, refer the same to the SIPF and inform the customers of the further steps necessary for claiming compensation for unsatisfied losses. (3) Take the necessary actions to protect customer accounts including, but not limited to, the preservation of the assets and books and records of I. ACKERMAN & CO., INC. (4) Execute such acts or documents necessary or appropriate in carrying out the foregoing powers. SaCIDT SO ORDERED. Mandaluyong City, Philippines, May 12, 2015. (SGD.) TERESITA J. HERBOSA Chairperson (SGD.) MANUEL HUBERTO B. GAITE Commissioner (SGD.) ANTONIETA F. IBE Commissioner (SGD.) EPHYRO LUIS B. AMATONG Commissioner (SGD.) BLAS JAMES G. VITERBO Commissioner Footnotes 1. Annexes "F" to "Q", Petition . 2. Annex "R", ibid . 3. Annexes "G" to "M", and "S", id. 4. Annexes "T" to "W", and "Y", id. 5. Annexes "AA" to "AA-9", id. 6. Ibid . 7. Annexes "BB" to "EE", Petition . 8. Annexes "N", "O", and "FF" to "KK", id. 9. Annexes "LL" and "MM", id. 10. Emphasis supplied. 11. Emphasis supplied. 12. Emphasis supplied. 13. Underlines ours. n Note from the Publisher: Copied verbatim from the official document. Duplication of Item (i).