Subpoenas issued in class action lawsuit against Franchise Group, B. Riley

We reported in July the lawsuit brought against the Franchise Group, B. Riley Financial and former FRG CEO Brian Kahn by “former FRG investors,” including and especially a one-time Harvard football teammate of Kahn’s, Brian Gale. Last week, that litigation began moving forward with the issuing of subpoenas to FRG by the Court of Chancery for the State of Delaware.

Gale and other former FRG shareholders allege that they were shortchanged in the $2.8 billion buyout of the Franchise Group by a management team led by Kahn and financed in part by B. Riley, according to the filing. The plaintiffs also state that the take-private move could have been intended to “avoid public company scrutiny of (Kahn’s) fraudulent transactions,” according to page 71 of the filing, specifically alleging that Kahn “illegally covered up $294 million in lost Prophecy [Asset Management] funds.”

The missing $294 million appears to be at the heart of the troubles for Prophecy and for Vintage Capital, Kahn’s asset management company that, according to Bloomberg, controlled 86% of Prophecy’s funds. This makes the missing millions a problem also for FRG and, therefore, for B. Riley, a major shareholder in FRG and a broker deeply involved in what was a series of deals involving FRG.

In August, B. Riley marked down its investment in FRG by as much as $370 million. The loss that B. Riley expects to absorb because of FRG’s financial difficulties could be as much as $475 million, according to statements from B. Riley when it missed its filing deadline in August. 

(Lenders gave the company 45 days to publish the financial statements; that grace period ends in mid-October.) Not helping matters for FRG was the B. Riley-brokered deal to “sell” Badcock, a company FRG acquired for $580 million, for just 1 million shares in Conn’s stock. 

Also investigating the FRG buyout and the $294 million in missing funds is the Department of Justice, according to a Los Angeles Times report published just last week, which is a bit of a bombshell. In all of previous reporting, it has been the Securities and Exchange Commission doing the investigating. 

Life of Riley

Both Kahn and Riley have denied any wrongdoing and any knowledge of wrongdoing. In an interview that broke weeks of silence, at least with respect to news media, Riley told the Los Angeles Times last week that he regrets so reflexively expressing faith in Kahn when news of the SEC investigation into Prophecy first broke. 

After Kahn issued a statement that he did not conspire in any fraud, Riley used his company’s third-quarter conference call in November 2023 to say that Kahn’s disavowal was “good enough for me.” Last week, Riley, who has not been accused of any involvement in the Prophecy fraud, told the Times that he “regrets making such a forceful statement.”

“It’s my nature if I know you, and I’ve known you for a long time, and I’ve seen you do nothing but ethical stuff . . . I just didn’t believe it,” Riley told the newspaper. The FRG deal “did not work out the way we had hoped it would work out, and it’s been devastating to our stock price.”

Show me the money

While there has been no word from the SEC or the DOJ since January, the class action suit and the raft of subpoenas that have just been issued should open a window into the buyout and, therefore, into the financing behind FRG’s acquisition of Badcock and its dumping of the chain just two years later. 

For the case of Brian Gale, Mark Noble, Terry Philippas and Lawrence Bass v. Vintage Capital Management, Brian Kahn, Andrew Laurence, Matthrew Avril and B. Riley Financial, subpoenas were issued to the registered agents for FRG, Cynthia S. Dubin and Thomas Herskovits. Laurence replaced Kahn as CEO at FRG in January this year.

For the time period Nov. 1, 2021, to Feb. 29, 2024, the subpoenas seek all documentation relating to FRG’s acquisition of Badcock in November 2021; Badcock’s consumer credit accounts for the time FRG owned the company; and any stock shares “rolled over or otherwise reinvested in” FRG for the Kahn-led buyout, according to the notice. 

The court is interested in “all documents and communications” concerning the buyout agreement, the stock repurchase plan, the take-private analysis, Badcock receivables and any rollover of stock, according to the 41-page notice. 

Also sought are “all documents and communications” regarding B. Riley’s decision to discontinue purchasing Badcock receivables in February 2023, Kahn’s resignation as CEO of FRG, Kahn’s involvement with Prophecy, the criminal investigation of Kahn by the U.S. Attorney’s Office for the District of New Jersey, and the SEC investigation into the relationship between Kahn and B. Riley, among other matters. 

In addition, the claims in the Gale action specifically of withholding information and presenting a false narrative, as well as many of the same sources and the basic timeline for B. Riley’s and FRG’s collaborations to take FRG private, appear also in a class action suit filed in May in Los Angeles Superior Court. The lawsuit, Ted Donaldson v. B. Riley Financial, et al. claims violations of the Securities Act of 1933.

Departure information

Coincident with the subpoenas, the news coming out of B. Riley again fueled short-seller speculation about the 27-year-old firm’s ability to survive and with that fate about the future of the company’s 2,000 or so employees, as the Times coverage points out. 

And that employee count appears to be shrinking. 

Last week, senior managing director of B. Riley Wealth Management, Eric Lyon, left the company to join Kestra Investment Services, according to a report in Investment News, which described Lyon as one of the firm’s “top revenue producers.” Just before that, another B. Riley financial adviser, Philip Wunderlich, also left the firm; Wunderlich joined Prospera Financial Services, also according to Investment News.

A plea for help

Finally, unrelated to the rather sordid details of the seeming shell game detailed above, as a lifelong Tar Heel, I’d like to implore readers to consider helping the many relief efforts underway in Western North Carolina. The stories coming out of places like Asheville, Banner Elk, Boone, Cherokee, Montreat and so many of the communities devastated by Helene are heartbreaking and, in some cases, apocalyptic. I know the Big Bend in Florida also is hurting. My hometown of Greensboro is pitching in, as is my adopted hometown of Chapel Hill. 

In particular, the following have set up relief funds to address immediate needs: 

• Home News Now Publisher Rick Harrison GoFundMe.
• Appalachian State University Disaster Relief Fund.
• North Carolina Arboretum giving website. 
• North Carolina School of Science and Mathematics-Morganton Helene Recovery Fund.
• UNC Asheville Disaster Relief.
• Western Carolina University Emergency Fund.

A rich, touching account both of the devastation but also of one community’s unity in the aftermath, by a fellow journalism professor, is a blessing to read: Chris Moody in the Atlantic magazine.