News Column

SEC Charges Charter School Operator in Chicago With Defrauding Bond Investors

June 2, 2014



The Securities and Exchange Commission today charged a charter school operator in Chicago with defrauding investors in a $37.5 million bond offering for school construction by making materially misleading statements about transactions that presented a conflict of interest.

The SEC alleges that UNO Charter School Network Inc. and United Neighborhood Organization of Chicago not only failed to disclose a multi-million-dollar contract with a windows company owned by the brother of one of its senior officers, but investors also weren't informed about the potential financial impact the conflicted transaction had on its ability to repay the bonds.

UNO is settling the SEC's charges by agreeing to undertakings to improve its internal procedures and training, including the appointment of an independent monitor.

"UNO misled its bond investors by assuring them it had reported conflicts of interest in connection with state grants when in fact it had not," said Andrew J. Ceresney, director of the SEC'sDivision of Enforcement. "Investors had a right to know that UNO's transactions with related persons jeopardized its ability to pay its bonds because they placed the grant money that was primarily funding the projects at risk."

According to the SEC's complaint filed in federal court in Chicago, UNO entered into two grant agreements with the Illinois Department of Commerce and Economic Opportunity (IDCEO) in 2010 and 2011 to build three schools. Each grant agreement contained a provision requiring UNO to certify that no conflict of interest existed when it signed the agreements. UNO was required to immediately notify IDCEO in writing if any actual or potential conflicts subsequently arose. If UNO breached this conflict of interest provision, IDCEO could suspend the payment of grants and recover grant funds already paid to UNO.

According to the SEC's complaint, UNO breached the conflict of interest provision as it entered the construction phases of the project in 2011 and 2012. UNO contracted two companies owned by brothers of its chief operating officer. UNO agreed to pay one company approximately $11 million to supply and install windows and the other company approximately $1.9 million to serve as an owner's representative during construction. UNO did not advise IDCEO in writing about either of those conflicted transactions.

The SEC alleges that when UNO conducted its $37.5 million bond offering in October 2011, it issued an official statement to investors in bond offering documents that devoted an entire subsection to the subject of conflicts of interest. UNO affirmatively assured investors that its conflicts policy was more robust than required for non-profit organizations. UNO did disclose the contract with the company serving as owner's representative, which was owned by the chief operating officer's brother -- who was a former UNO board member himself.

The SEC alleges that UNO nonetheless failed to disclose its much larger transactions with the windows company owned by another brother of the chief operating officer. Moreover, nothing in the official statement disclosed that UNO already was in breach of the conflict of interest provision in its June 2010 grant agreement with the IDCEO because it already had transacted with both companies without advising the agency in writing about those engagements. UNO also failed to disclose in the official statement that IDCEO could recoup all of the grant money as a result of this breach of the conflicts of interest provision. Had IDCEO exercised its rights under the grant agreements and recouped the entire amount of the grants, UNO would not have had the cash to repay the grants and therefore would have had to liquidate its charter schools -- the very revenue-producing assets essential for repayment of the bonds.

"Conflicted transactions and self-dealing by issuer officials can be material information for municipal bond investors and should be given appropriate focus by issuers and underwriters in disclosure documents," said LeeAnn Gaunt, chief of the SEC Enforcement Division'sMunicipal Securities and Public Pensions Unit. "Failing to disclose material information undermines investor confidence in the municipal securities market and places at risk an important source of funding for local government projects."

The SEC complaint charges UNO with violations of Section 17(a)(2) of the Securities Act of 1933. UNO neither admitted nor denied the charges in the settlement.

The SEC's investigation is continuing. It has been conducted jointly by staff in the Chicago Regional Office and the Municipal Securities and Public Pensions Unit, including Michael Mueller, Eric Celauro, and Michael Foster. The case is being supervised by Peter K.M. Chan.


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Source: Securities and Exchange Commission Documents & Publications


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