Investment Advisers of Minneapolis, Minn. has settled a lawsuit brought against it by a would-be purchaser of a private security the firm held in its IAI Growth & Income Fund, according to a source close to IAI. Terms of the settlement were not disclosed. The security is now in the process of being sold.
The lawsuit, filed in February on behalf of two principals of Montauk Partners of Huntington, N.Y., alleged that the fund adviser did not adhere to the terms of a letter of intent it had signed this past October with Montauk, according to an IAI fund prospectus amendment filed March 7. That agreement stipulated that IAI would sell its shares of the privately held company, MatrixOne of Chemsford, Pa., to Montauk Partners at a discounted rate of $1.60 per share. MatrixOne sells software to facilitate Internet collaboration between different locations of a business, according to the IPO registration statement for MatrixOne.
IAI has historically invested a small portion of its funds' assets in privately-held, early-stage development companies. But, IAI had decided last year to spin off IAI Ventures, its venture capital unit, as a separate entity, according to the source close to IAI that did not want his name used. It spent most of 1999 divesting its mutual fund family of all privately-held securities, even if that meant selling disappointing securities at low prices. The sales agreement with Montauk Partners was part of IAI's decision to rid its portfolios of all of the remaining private securities it had invested in, said the source.
But on Jan. 17, when the 90-day window on the agreed-to deal had lapsed without the sale being made, IAI decided it would not sell the securities, said the source.
In February, MatrixOne announced its intention to go public. A syndicate of underwriters led by Goldman Sachs priced the firm's shares at between $10 and $14 per share. But that share price was increased Feb. 25 to between $20 and $22, according to MatrixOne's amended IPO filing of the same date. On March 1, MatrixOne's equity shares were introduced at $25 per share, according to MatrixOne's final IPO filing on that day.
The lawsuit against the adviser of 11 no-load mutual funds sought to force IAI to hold to its original agreement, according to a prospectus amendment filed with the SEC by IAI on March 7. Montauk wanted to purchase the designated shares at the originally-agreed-upon price of $1.60 per share or force IAI to pay damages, according to the prospectus amendment.
To protect investors of the IAI Growth & Income Fund from the risks involved with the pending litigation, IAI closed the fund to new investors as of Feb. 17, pending the lawsuit's outcome, said the fund's filing.
IAI also realized that post-IPO, MatrixOne would likely represent an even greater portion of the IAI Growth & Income Fund's portfolio, significantly increasing the risk to fund investors, according to an IAI prospectus amendment filed March 22. In fact, in early March, MatrixOne represented between 12 percent and 14 percent of the fund's total assets.
Moreover, a restriction which existed regarding the transfer of MatrixOne's shares, meant that the shares were, at least temporarily, considered illiquid and not readily marketable. The fund adviser's securities valuation committee, a committee of directors that is charged with valuing illiquid or thinly-traded securities, employed fair value pricing to price the shares of MatrixOne, the prospectus amendment said.
By mid-March, the two sides had reached an agreement for the sale of the MatrixOne shares, the source said.
IAI declined to comment on the terms of the settlement. But, Steve Lentz, chief legal officer of IAI, said the fund's shareholders were the eventual winners in the settlement of the lawsuit.
He declined to elaborate beyond noting that the shares of MatrixOne had sold at a price that was "significantly higher" than the original price stipulated in the October agreement.
The law firm of Testa, Hurwitz & Thibeault in Boston, which acted as counsel to both Montauk Partners and MatrixOne, declined to comment for this article. MatrixOne also declined to comment. Brian Smith, principal of Montauk Partners, did not return a call seeking comment.
This is not IAI's first challenge regarding privately-held securities. The firm is still embroiled in a lawsuit brought against it in July 1998. The plaintiffs in that case, David S. Lo and his wife Lih-Lih C. Lo, charged that IAI and its board of directors acted improperly in valuing the shares of a security held in the IAI Value Fund.
The controversy surrounded another company, Pathnet of Washington, D.C., which announced its intention to go public May 5, 1998. That IPO was eventually scrapped several months later. But the plaintiffs charged that the fund's net asset value was not fully changed to reflect this intended IPO until several days after it was announced. When the fund did recognize the news of the upcoming IPO in its valuation, the fund's share price shot up 28 percent in one day, said the complaint. But the Los, who sold their shares on two separate occasions before the share price rose, alleged they missed out on that higher share price.
That lawsuit is currently in the discovery stage, which will not be completed for several months, said Jeff Lewin, the Lo's attorney and partner with Sullivan, Hill, Lewin, Rez & Engel of San Diego, Calif.