FINRA’s Amended Complaint Against Non-Traded REIT Promoter Underscores Risky Nature of Investment

Posted on February 16th, 2012 at 9:41 AM

Recently, the Financial Industry Regulatory Authority (FINRA) filed an amended disciplinary complaint against David Lerner Associates, Inc. (“DLA”) in connection with its recommendations and sales of Apple REIT Ten.  The allegations of the amended complaint relate to continued misrepresentations and omissions about the features and risks of investing in Apple non-traded REITs (real estate investment trusts), as well as misrepresentations regarding a possible merger of all Apple REITs and taking that entity public.  Those and other misstatements were made by various means, including several seminars that the DLA hosted.  Let’s examine the allegations and why investors need to be on guard.


Preliminarily, FINRA has alleged that DLA recommended and sold over $442 million of a $2 billion of Apple REIT Ten without performing adequate due diligence in violation of its

suitability obligations.  Further, FINRA has alleged that earlier Apple REITs under the same management inappropriately valued the REITs’ shares at a constant artificial price of $11 notwithstanding years of market fluctuations, performance declines, increased leverage and excessive return of capital to investors.  Finally, FINRA alleges that DLA, in its capacity as best efforts underwriter for all of the Apple REITs, continues to solicit thousands of customers to purchase Apple REIT Ten without performing adequate due diligence to determine that there is a reasonable basis to recommend the security to any customer.  Along those lines, FINRA accuses DLA of selling and continuing to sell Apple REIT Ten targeting unsophisticated and

elderly customers to buy the illiquid security.


Leading up to the FINRA’s filing of the first enforcement complaint against DLA, FINRA alleges that DLA misleadingly marketed Apple REIT Ten on its website by presenting performance information on earlier Apple REITs which implied Apple REIT Ten would be able to achieve similar results.  Nonetheless, FINRA alleges that the performance results for those earlier Apple REITs (Six, Seven, Eight and Nine, all of which now are closed) were themselves misleading because: “(1) they did not reflect a recent reduction in distribution

rates and (2) DLA did not disclose that income from those REITs was insufficient to support

their 7–8 percent returns and that the distributions were partially funded by debt that further

leveraged the REITs.”  Indeed, DLA’s website misleadingly and inaccurately characterized the source of distributions as “net income and a return of capital, primarily in the form of depreciation” when in fact the return of capital was not primarily from depreciation.


            Since the filing of the first FINRA complaint, and between April, 2011 and November, 2011, FINRA alleges that DLA and its president, David Lerner, “have made false, exaggerated and misleading claims regarding the investment returns, market values, performance and prospects of the closed Apple REITs to over a thousand customers during at least four DLA investment seminars.  Lerner has also made untrue statements of material fact and material omissions regarding the closed Apple REITs, and he has exaggerated the prospects of Apple REIT Ten, such as calling it a ‘fabulous cash cow’”. 


Investors need to be on guard for the kinds of things that went on at DLA seminars.  For example, FINRA alleges that the firm and Lerner used slide presentations that violated FINRA advertising rules, and, indeed ignored FINRA’s repeated warnings that the presentations omitted material information and were misleading.  As FINRA puts it, “These presentations also contain specific statements and claims that are misleading, exaggerated, or unwarranted.”  Of particular concern to FINRA were misleading claims regarding Apple REIT performance, such as annualized returns, distribution rates, and distributions per share, and misleading claims regarding price stability.  Indeed, FINRA’s advertising regulation department “repeatedly instructed DLA not to use the slides in their current form”, yet “Lerner and DLA have continued to use the violative slides without adequately addressing FINRA’s concerns.”


            In addition to those misleading slide presentations, investors need to be on guard for misleading correspondence.  The amended complaint alleges that on June 6 and July 27, 2011

Lerner “signed and sent letters to over 50,000 DLA customer households that contained exaggerated, false, or misleading statements that omitted material information regarding the valuations, performance, prospects, risks, liquidity, and practices of the Apple REIT programs.” Worse, Lerner’s July 27 the letter discussed the possibility of an “opportunity” for closed Apple REIT shareholders to participate in a consolidation, sale, listing on a national exchange, or other event that would allow them to dispose of their illiquid shares at favorable prices in an exaggerated and misleading manner that implied the opportunity is imminent.  According to FINRA, since at least July, 2011, Lerner and DLA “have continued to make unsupported claims at seminars and elsewhere that the closed Apple REITs will be merged into a single REIT that will issue shares that will trade on a national exchange.”  Notwithstanding the fact that the closed

Apple REITs are all illiquid and currently worth less than their $11 per share offering price,

DLA representatives have told customers that the merger and IPO will result in a “windfall” to

investors who hold on to their shares.  FINRA alleges that in mid-November 2011, while pitching Apple REIT Ten to investors at a DLA investment seminar, Lerner represented that the closed Apple REITs will be combined into a $5 billion REIT and offered to the public on a national exchange in early to mid-2012, at which point, he claimed, their shares will be liquid and worth as much as $20 per share!  FINRA states, “Lerner also made unwarranted, exaggerated, and misleading claims that the closed REITs are a potential ‘gold mine’ whose combined earnings will be ‘highly profitable.’”


            As one can see, there have been a host of misstatements about which FINRA seeks to sanction DLA and Lerner personally.  FINRA has brought  numerous charges.  FINRA’s enforcement action seeks substantial relief, but that relief only is within the context of Apple REIT Ten.  However, for other investors who bought similar Apple REITs (Six, Seven, Eight and Nine), arbitration claims brought by private practitioner securities arbitration lawyers, are an attractive remedy, both to recover damages and to rescind the investment.  Investors in those Apple REITs should act now to protect their interests.



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