Hawley’s fraudulent loans were made and supervised by Allied executive vice president Patrick Harrington and vice president William Leahy. Harrington headed the Detroit office of BLX in Troy, Michigan. After Hawley’s two SBA loans defaulted, Harrington and Leahy tried to cover up the loss by granting her additional loans. She formed yet another entity to take another loan and used the proceeds to pay $150,000 of past-due interest owed on the existing SBA loans and pay off liens filed by contractors.
Allied instructed her to put the loan into her twenty-year-old daughter’s name, and Hawley even bought an airline ticket for her daughter to attend the closing. However, an employee at Allied’s Washington, D.C., office rejected the loan due to her daughter’s inexperience and status as a full-time student. Allied suggested that Hawley issue the loan to yet another brother, who lived in California. She signed her brother’s name at Allied’s office in Leahy’s presence, at his direction.
Carruthers found another dubious loan to Jefferson Fuel Mart, a gas station in Detroit. According to his interview with one of the attorneys involved in the case, BLX entered into a loan that was “wholly inappropriate given the asset and cash flows associated with the property,” on which BLX appeared to “conduct zero due diligence.” The appraisal was so inflated, at about three times the actual value of the property, as to suggest fraud. The borrowers who were given the loan had no business experience. Apparently, they bought the gas station from one of the borrowers’ brother, who had run into trouble with loan sharks. The borrowers never made a single payment on the loan, but BLX waited a year and a half before attempting to collect on the default.
In the related litigation, it was alleged that, “Allied Capital Corp. delayed for a year and several months in collecting or bringing any action on the defaulted ‘loan’ for the reason that they did not want their stockholders and investors to discover the nature of this bad loan and the inadequate collateral underlying the loan.”
Prior to forming BLX, Allied made a loan to Victor Lutz, who planned to expand his hotel in Michigan with a “funland” and a bakery restaurant. According to Carruthers’ interview with Lutz, Lutz informed the loan officer before the closing, “We’re having a real rough time right now” because the road leading to the hotel had closed. Lutz asked whether the loan would “stay with him, because we may miss a few payments because of these issues.” According to Lutz, the Allied loan officer said not to worry, they would understand if he fell behind. Lutz defaulted.
In addition to these anomalies, Carruthers also found a firm called Credit America, a third-party business loan broker operated by Kevin J. Friedrich out of his home, that was doing business with BLX. Carruthers discovered that Friedrich had been investigated and sanctioned by the Pennsylvania Securities Commission and the National Association of Securities Dealers for various securities laws violations. According to Carruthers’ source, Credit America generated $40 million of loans per year for BLX.
Carruthers also found several other loans that appeared to have significant problems. My immediate reaction was, “So what?”
BLX was just one piece of Allied Capital, and these loans represented only a small piece of BLX. I didn’t see how a handful of bad SBA loans could make a difference in view of what we perceived to be the much larger and broader problems at Allied itself.
Yet, a few days after we published our research on Allied, we received the BancLab report. It showed that BLX’s portfolio performed far worse than we imagined. BLX’s loans defaulted about three times more often than the average SBA loan. Even after adjusting the loans for age, size, geography, industry, and other factors, BLX’s loans defaulted more than twice as often (see Table 10.1). I hypothesized that the excess defaults at BLX reflect its aggressive or even fraudulent underwriting practices.
Table 10.1 Average Annual Default Rates from BancLab Report
Carruthers told us that he shared his findings with the SBA’s Office of Inspector General (OIG), which is responsible for internal audit and investigations for the agency. He asked if we would speak with the OIG and I agreed. A few days later, Keith Hohimer called from the SBA’s OIG and said he was looking into BLX. I didn’t have anything to tell him separate from what Carruthers found. I sent him the BancLab report at his request.
On June 26, 2002, a former employee of BLX, who read our analysis of Allied on Greenlight’s Web site, e-mailed me. He identified himself as a former senior vice president of BLX who had previously been at Allied Capital. He wrote that he “left in October 2001 because I was basically forced to resign by BLX’s new management team due to the fact that our secondary market loan sale premiums declined so significantly.”
The reason for the decline was principally due to the poor performance of the loan portfolio, as you noted. As a result, BLX was forced to establish its own securitization facility to sell the unguaranteed portion of their SBA and 504/piggyback loans. This eliminated my position with the company. The CEO wanted me to leave because I often pointed out the massive underwriting deficiencies to Allied’s executive management.
In my three years at Allied I was promoted annually by Joan Sweeney and I was given the highest possible rating an employee could achieve in my annual review the last two years. My raises and bonuses exceeded 20%. In other words I was an outstanding employee and thus a very credible person to speak with concerning Allied.
Although I have not covered any new information in this e-mail, I would be willing to meet with you in order to give you some critical additional insight that would be valuable information regarding BLX . . . that you may not be aware of. If you are interested, please let me
