When Bill Ciosek opened the doors at the Capital Expansion Group near Tysons Corner a year ago, he launched a $1 million advertising campaign to get people to notice his new investment firm. They did.
Starring in his own television commercials, Ciosek urged investors to "lock in" high yields by investing in Ginnie Maes -- little known mortgage-backed securities issued by the Government National Mortgage Association.
Within a year, Capital Expansion attracted 6,500 customers, sold $80 million worth of investments in Ginnie Maes and mutual funds, and generated $3 million in revenue for the firm, Ciosek said.
Within several months, Capital Expansion also attracted the interest of the Securities and Exchange Commission (SEC), which regulates the securities industry, and the National Association of Securities Dealers (NASD), an industry group that oversees the conduct of its members.
Capital Expansion came to the attention of the SEC and NASD when 11 former Capital Expansion employes criticized the firm, according to sources. They complained to the SEC and NASD that they had been urged by Capital Expansion to use high-pressure sales tactics on potential customers, exaggerate interest to be earned on investments and avoid telling investors about sales charges on mutual funds, the sources said.
The former employes, some of whom have been sued by Capital Expansion for allegedly violating their employment contracts, also alleged that, on two occasions, brokers were asked to sign customers' names to mutual fund applications. The customers, they said, had approved the investments, but, in one case, the application had not been submitted, and, in the other case, a signed application had been lost. They also alleged there were lengthy delays in processing some customer purchases.
Ciosek, Capital Expansion's 34-year-old president, called the allegations untrue. He said the allegations are part of a conspiracy -- aimed at destroying his company -- by disgruntled former employes and members of the Washington brokerage community who fear for their pocketbooks.
Capital Expansion sells government and municipal securities, including Ginnie Maes, tax-free municipal bonds and mutual funds and trusts based on those securities.
Ciosek pronounced Chess-ik said he has mounted a counterattack to the allegations by giving NASD documents and tape recordings that he says support his conspiracy allegations.
Ciosek described the complaints against him as, "a rather scandalous story of jealous, selfish competitors, both former reps who left with pocketbook interests, and some local broker-dealers that are misusing their responsibilities and attempting to crush a competitor."
Ciosek said he also has hired a voice-analysis firm to compare the voice of a message left on the telephone-answering machine of a prospective Capital Expansion client with the voice of a former employe. The recording from the telephone-answering machine warned the prospective client against doing business with Capital Expansion, he said.
To bolster his counterattack, Ciosek said Capital Expansion employes recently telephoned 10 brokers at seven other firms and talked about investments while Capital Expansion secretly recorded the conversations. The outside brokers were encouraged to give their views of Capital Expansion, which were generally negative, Ciosek said. It is legal to make such recordings in Virginia, Ciosek said, and he released copies of the tapes and transcripts.
One broker, Robert J. Collins of Dominick and Dominick, was quoted in a Capital Expansion transcript as saying to Capital Expansion broker Stella Martinez, "They're a bad firm." "They're having problems with the SEC" and "You want to stay away from them." Told of the ruse, Collins said, "I didn't know it was Capital Expansion . If I did know, I wouldn't say that."
Capital employes also made calls, they said, to brokers at DeRand Corp. of America; Ferris & Co. Inc.; Merrill Lynch & Co.; Wheat First Securities Inc.; E. F. Hutton & Co. Inc.; and Folger Nolan Fleming Douglas.
Ciosek accused George M. Ferris Jr., chief executive officer of Ferris & Co., of having "consciously attempted to destroy" Capital Expansion for competitive reasons by creating problems with regulators. One former Capital Expansion broker was hired by the Ferris firm.
Ferris scoffed at the charges. Capital Expansion, he said, "doesn't occupy any significant part in my thinking."
Ferris counsel Theodore W. Urban said he made one telephone complaint to NASD about Capital advertising and said he would do the same for any firm's advertisements that seemed improper. The complaint, Ferris said, was that "they were advertising the current yield like it would be the yield throughout the life of the Ginnie Mae."
The 11 former Capital Expansion employes took their complaints to the SEC on March 6 and met with agency officials at the SEC offices in Arlington, according to participants. The SEC asked NASD, which often conducts investigations of member firms in cooperation with the SEC, to review the allegations, according to one of the participants in the meeting.
NASD oversees trade practices in the securities industry and has the power to suspend or expel its members. Although there is some overlap between the work of NASD and the SEC, the SEC generally deals with specific violations of law.
On April 3 and April 8, nine former employes responded to requests to appear at NASD offices in Washington. With a stenographer present, participants were interviewed about their allegations concerning Capital Expansion, sources at the meetings said.
Ciosek confirmed NASD was investigating complaints against his firm. He said NASD informed him of the complaints, asked for his response and disclosed the names of former employes who complained. Ciosek said he requested an investigation and a hearing. In preparation for that hearing, 42 current Capital Expansion employes have signed affidavits stating company officials have never asked them to use high-pressure sales tactics, to hide prospectuses, to sign customers' names or to misrepresent sales charges for investments.
Participants in NASD meetings said they were told by NASD that its inquiry could take several months.
When NASD staff determines action is necessary in a case, its findings are sent to the Business Conduct Committee, a regional NASD disciplinary body. The next committee meeting for this region will be June 23, but the Capital matter is not expected to come up.
Details of allegations against Capital Expansion surfaced earlier this year in statements by a former broker at the firm, Charles R. Wright, who was sued by Capital Expansion for allegedly violating his employment contract. In a sworn, pretrial deposition, Wright described Capital Expansion as a high-pressure "boiler-room" operation, where brokers were told to discourage customers from reading mutual fund prospectuses in which they could learn about sales charges.
"We were told in a group meeting," Wright said in his deposition, "that when you go in to see a customer to sell that customer a mutual fund, that we are to not show the customer the prospectus . . .because if the customer read the prospectus, the customer might find out about the sales charge . . . ."
"So, what you do is you throw the prospectus in the trash. This speech was made by Mr. John Wagner Capital Expansion's vice president to the entire group of sales people after we had been there three weeks. He stood there and took a prospectus, ripped it in half, threw it in the trash can and said that's what you do with a prospectus."
A mutual fund prospectus is a detailed statement of the purposes and investment methods used by a fund and includes information on sales charges and fees charged by the fund. Securities industry regulations require clients to be given a prospectus before investing in a fund.
Wagner denied Wright's allegations. He added that he tells brokers that showing prospectuses to customers is a useful sales tool.
Prospectuses were discussed by Walter A. Wilson III of Fairfax, a lawyer and former Capital Expansion broker, who gave NASD officials a four-page, single-spaced letter containing a nine-point list of his complaints. In it, he said: "We were instructed not to leave a prospectus for any security with a client." He added: "We were further instructed that we should staple the prospectus such that the application was the only part the customer was able to read." He added: "In fact, we were told to tell clients that there were no sales charges on mutual funds, when the prospectus clearly set forth that there were such charges."
Wagner denied Wilson's charges. Capital has filed a $2 million slander suit against Wilson for comments he made to a reporter for The Washington Times.
In response to the "boiler-room" and high-pressure sales allegations, Ciosek said that, to the contrary, he emphasizes a slow, deliberate sales approach. He said Capital Expansion's sales system requires brokers to make appointments with prospective clients in order to get to know them face-to-face and become familiar with their investment goals. Other firms, he said, sell chiefly on the phone. Most importantly, Ciosek said, his firm deals in fixed-income investments, which are the most conservative.
One of the documents a former employe gave the SEC was Bill Ciosek's "sales bible." It is a highly charged instruction plan for brokers that tells them how to approach clients, win their confidence, offer investments and, finally, how to close sales.
The document contains this advice to Capital Expansion Group's brokers:
"Yours is a sales job -- you're not an analyst, counselor, researcher, etc. If you do not see yourself as a salesperson, you are guaranteed to fail."
The Ciosek approach stresses "moving techniques" to get people to make decisions. In an example of such a technique, a broker tells a client on the telephone that the firm has just acquired a large block of government-backed securities that are going fast.
The document cites this line as an example of what a broker might tell a client:
"We had $3 million of this security this morning, we have $50,000 left now. This is what I want for you -- let's take it now!"
Ciosek said "sales bible" is a facetious term his secretary made up to describe lessons from his sales seminars. Each page is marked, "Copyright: Capital Expansion Group, Inc. 1985." Ciosek said his firm specializes in finding certain types of discounted Ginnie Maes for clients; when they were located and brokers competed for them, it was appropriate to ask customers to make quick decisions, he said.
The document also suggests:
" . . . Call with enthusiasm, urgency and a story. Tell the client to take out paper and a pencil -- give him the mathematical offer -- give him the story. Use moving techniques.
"Example: 'I have found exactly the type of GNMA Ginnie Mae I have been looking for for you. Our trader brought in $2 million blocks 15 minutes ago. There are only $100,000 left now. I just put it on five minutes hold for you. I have to get a yes or no in five minutes or it is available for the rest of our agents.'
"Client's reaction: 'Howard, what should I do?' Your answer: "This is exactly what I have been looking for for you, go for it, Mr. Jones. That's why I'm calling you."
One of the major complaints former brokers made to the SEC and NASD is that Capital Expansion delayed forwarding payments from some customers to mutual funds, according to sources familiar with the complaints.
Wright, in his deposition, said he received calls from customers who bought mutual funds who said they hadn't heard anything from the fund. "When we would check in the back office . . . we would be told . . . we can't seem to find it. We made a mistake. We didn't buy the customer's security," he said. "What we found out was happening, was that Capital Expansion Group was taking the customer's money, putting it their bank account and sitting on the money for anywhere from two weeks to six weeks before buying the security. . . . "
Former Capital Expansion broker Walter Wilson also made allegations about delays in his letter to NASD officials.
"In July and August, I began to receive telephone calls from customers saying that they had received no confirmation of their transactions, nor any interest or income checks," he wrote. "When I investigated the status of their accounts, I found that some of the checks had been retained by Capital Expansion Group for periods of 10 to 60 days . . . ."
Wilson's letter cited an example of a $10,000 mutual-fund purchase placed on Sept. 27 and paid for by the client within a week. Capital Expansion did not make the payment to the mutual fund until Nov. 25, he said. The same client, Wilson said, gave him another $10,000 order for the same fund on Nov. 11, and it was paid for by Capital on the same date as the first order, Nov. 25.
Ciosek said that Capital Expansion had paper-work problems during the summer and early fall because of a heavy workload, but added that no customer lost money because of delays. "There is not one person out a penny," he said.
Wilson also wrote: "We were urged to make 'kick-back' deals with accountants and to offer to split our commission 50-50 with any customers that resulted from their referrals."
Questioned whether brokers were advised to split commissions, Ciosek said it was legal to pay finder's fees under certain circumstances to attorneys, accountants, tax preparers and other professionals, but that he did not know if any such fees had been paid by Capital Expansion employes.
Ciosek's early advertising, which emphasized Ginnie Maes, made the phones at Capital Expansion ring off the hook with calls from people worried about falling interest rates and looking for something better for their money.
The ad blitz, however, annoyed some of the more traditional, old-line brokers in Washington, who questioned the emotional content and whether the then-12 percent advertised yields were available. Some of their criticism was passed to NASD, which regulates advertising for its member firms. NASD later requested changes in Ciosek's ads.
Advertising Ginnie Maes has become increasingly controversial in the brokerage community. Ginnie Maes are more complicated than ordinary bonds because they pay interest and return principal at the same time. Speaking generally, critics claim their yields are frequently overstated in ads and that they often are sold to investors who do not fully understand how they work or the risks involved.
Ciosek said that his advertising did not exaggerate yields and that Capital Expansion had conservatively described potential earnings.
During interviews with Ciosek, he said he had encountered complaints about advertising from NASD. He said the problems were minor ones involving the wording of his oft-repeated line that "interest rates are falling." At one point, he said, he was asked to change the copy to "interest rates have been falling." After he did, Ciosek said, NASD officials said they didn't think he should use the phrase at all.
Ciosek called the advice "very unfair." He said NASD later "made a revision," but he declined to say what it was.
Regulators also were told that in two instances brokers allegedly were asked to sign customers' names to mutual fund applications.
NASD was given a copy of an application for the American Capital Government Securities Fund for Gregory E. Bittinger of Manassas, Va., according to a source involved in NASD's investigation. Bittinger, who forgot to send in a signed application after agreeing to invest in the fund, said the signature on the form on file with American Capital is not his.
Questioned whether two brokers were asked to sign customers' names, Ciosek said, "I don't know what to say, except that I'm not aware of it. And we certainly don't have these problems here."
When asked about the Bittinger application, Wagner said, "I didn't instruct anyone to sign names to any form of customer documents . . . ."
Before starting Capital Expansion, Ciosek and Wagner worked at David Lerner Associates Inc., a New York firm selling fixed-income investments. Ciosek previously was head of a small mail-order firm in Washington and worked for Equus magazine, written for horseowners.
Capital Expansion currently has 56 brokers. At least 23 brokers left the firm during its first year, which some former employes attributed to displeasure with Ciosek's management style. Ciosek said that, because most of the departing brokers were new to the industry, that amount of turnover is not unusual.
Ciosek blamed Wright for stirring up allegations against Capital Expansion.
Wright was the first of 11 brokers to be sued by Capital Expansion for allegedly violating terms of their employment contract. After leaving Capital Expansion, Wright joined another securities firm, Private Ledger Investment Services. At one point, eight other former Capital Expansion brokers joined Wright at Private Ledger.
Ciosek said Wright had threatened, if Capital Expansion pursued a suit against him, to go to the newspapers, NASD, the SEC and the IRS with what Ciosek called "innuendo and stories that would damage us." The threat, Ciosek said, was made in a phone call to attorney Dennis S. Rooker of Charlottesville, Va., senior vice president of Worrell Newspapers Inc. Rooker, who is a Capital Expansion investor, said he has known Ciosek since they both attended the University of Virginia. Rooker confirmed Ciosek's statement about Wright, saying Wright told him, "If the company didn't drop the suit, he would destroy the company."
Wright denied making the threat and said he would not comment further.
The Wright case eventually was settled. As one of the conditions of the settlement, both sides agreed not to "disseminate derogatory information" about each other.
Capital Expansion recently sought to have Wright held in contempt of court for allegedly violating his agreement on disseminating derogatory information. They charged Wright with "disseminating false and derogatory information" to NASD, and The Washington Times, The Washington Post and other news media. No date has been set for a hearing on the allegations. NASD officials declined to comment on the reference to it.
Capital Expansion's suits against most of the 11 former brokers were intended to enforce Capital's employment contract, which says brokers who leave the firm cannot work in the securities business in a 50-mile radius for one year. Capital Expansion asked for damages of varying amounts.
Most of the lawsuits were settled for relatively small cash payments, promises not to contact Capital Expansion clients and a clause that binds the firm and the former brokers not to disseminate derogatory information about each other. The agreements allow the brokers to continue working in the securities business in this area.
Brokers sued by Capital Expansion were: Andrew Jenkins-Murphy of Gaithersburg; Dywane A. Hall of Alexandria; John N. Unthank of Fairfax; Robert E. Warner Jr. of Fairfax; Howard V. Sloan of Arlington; Theodore A. Schwab of Beltsville; Richard B. Karel of Washington; Lisa Wheeler of Millwood; Va.; Bradley L. Wisler of Burke; Wilson and Wright. The two unresolved cases involve Karel and Wheeler.
Ciosek, who had two years of experience in the securities industry when he started his firm, expressed disappointment with the reception his operation has received from his Washington colleagues.
"I'm disappointed," he said. " . . . The reaction that I've come across is . . . one of arrogantly saying, 'We know exactly what you are. We don't even have to come in and see your operation or find out what you're saying you do different. We don't have to check it, Mr. Ciosek. We know what you are.' " CAPTION: Picture 1, Capital Expansion's Ciosek, at his office, disputes claims made to SEC and NASD. By James Parcell-The Washington Post; Picture 2, Ciosek in his office with Vice President John Wagner, and their firm sold $80 million in investments in one year. By James A. Parcell -- The Washington Post