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SEC Alleges Franklin Bank Execs Concealed Deterioration of Loan Portfolio During Financial Crisis

Bruce Carton | April 10, 2012

The SEC added to its growing list of "SEC Enforcement Actions Addressing Misconduct that Led to or Arose From the Financial Crisis" last week when it charged Franklin Bank Corp.'s former top executives for their role in a scheme that was allegedly "designed to conceal the deterioration of the bank's loan portfolio and inflate its reported earnings during the financial crisis."

Specifically, the SEC alleged that although Franklin's holdings of delinquent and non-performing loans rose significantly in the summer of 2007, former CEO Anthony J. Nocella and former CFO J. Russell McCann instituted three "loan modification schemes" that caused Franklin to classify such loans as performing. The SEC claims that these modification schemes ultimately were used to conceal more than $11 million in non-performing single family residential loans and $13.5 million in non-performing residential construction loans, overstating the company's third-quarter 2007 net income and earnings by 317% and 77% respectively. 

SEC Enforcement Director Robert Khuzami stated that Nocella and McCann used the loan modification scheme like a "magic wand to change non-performing loans into performing assets.” Lawyers for Nocella and McCann told DealBook that the SEC's claims were meritless and that they believed their clients would be vindicated.

The SEC's complaint also seeks the "clawback" of bonuses received by Nocella and McCann under Section 304 of the Sarbanes-Oxley.