HealthExtras Inc. is suing SG Cowen Securities Corp., claiming the investment banking firm used its inside knowledge about a private stock offering to manipulate HealthExtras' stock prior to the deal's close.
In a complaint filed with U.S. District Court in New York, HealthExtras claims the manipulation sent its stock down 36 percent in the days leading up to the deal, wiping out $90 million in equity and ultimately lowering the value of its private offering by millions of dollars.
SG Cowen declined to comment on the charges yesterday, but denies it did anything wrong.
"While HealthExtras did not give us a copy of the complaint before sharing it with the press, we have had discussions with HealthExtras and believe they have no valid claim against our firm," the company said in a statement. "We intend to defend the case vigorously in the appropriate forum, which is a court of law."
HealthExtras, a health and disability benefits company, said in court documents that it hired SG Cowen in August last year to manage a "private investment in public equity," or PIPE. In a PIPE, a publicly traded company sells unregistered shares to a select group of private investors, usually at a discount. After the sale is completed, the company registers the shares with the Securities and Exchange Commission so that they can be traded just like the company's existing shares.
PIPE investors benefit by getting shares at a discount, and the company benefits by raising money faster and cheaper than if it used the traditional method of filing expensive paperwork with the SEC prior to the stock sale. The financing method gained popularity after the technology stock bubble burst, cutting off funding for many small companies looking to expand.
"The other alternatives were essentially closed off to us," said HealthExtras Chief Executive Officer David Blair, explaining the company's decision to use a PIPE. Such stock sales typically have the unwanted side effect of sending the company's shares lower when the existence of the additional PIPE shares becomes public.
HealthExtras claims that an SG Cowen director used inside information in deciding to sell short hundreds of thousands of the company's shares before the PIPE transaction was complete and that SG Cowen reaped a profit when the shares fell.
Investors sell short when they think a company's stock will go down. It involves essentially "borrowing" shares from a broker and then selling them immediately. After the company's stock price falls, the investor buys the shares back at the lower price and returns them to the broker while pocketing the difference.
In its complaint, HealthExtras says its stock closed at $8.75 per share Aug. 1, the day Cowen was hired. By Sept. 10, it had fallen to $5.52 per share. HealthExtras ultimately generated $12 million from the PIPE, much less than the $30 million it sought. The money was used to fund acquisitions.
Blair said Cowen fired the director in question after an investigation of the short-selling allegations. But HealthExtras is seeking unspecified damages from Cowen, which it says collected a $691,500 fee and 90,680 warrants for handling the transaction.
Corporate finance experts say there was nothing unusual about how the HealthExtras PIPE was structured.
"This is your standard vanilla PIPE deal," said Robert Kyle, executive vice president of a company that operates Placement Tracker.com, a San Diego-based service that tracks such deals.
"I think if this suit flies, it could have an impact on the PIPE market," he said.