While the nation watched in shock in late 2008 as banks went bust left and right and the federal government backed gargantuan bailouts, news pundits and financial analysts were still scrambling to figure out how U.S. markets could get wiped out so fast. Was it greedy Wall Street tycoons who never should have bet on risky subprime mortgage-backed securities? Or was it Joe Blow consumer, who enjoyed the loose slots of a casino economy by taking out half-million-dollar loans based only on a credit score and a friendly handshake (and sometimes not even a credit score)?
With plenty of blame to go around, experts agree a large chunk of the blame for the bursting real-estate bubble should be hurled at speculative investors. From house flippers to equity skimmers, these schemers gambled on a hot real-estate market for as long as they could. They weren’t just high rollers in the casino economy—they broke the bank.
And in Utah some say one company in particular, FranklinSquires Companies LLC run by Rick Koerber, took advantage of loose-lending regulations and a reckless business model to inflate the state real-estate bubble. Koerber, known by billboards touting him as “The Free Capitalist,” may have had quite a lucky streak when the housing market was booming, critics say. But now, after helping pop the bubble, Koerber’s empire is crumbling, forcing him to walk away from investors. Some claim they are owed millions by Koerber and his companies—often leveraged out of life savings and equity from the homes in which they live. Some face foreclosure and bankruptcy. They have lost almost all hope they will see their money again. Critics say Koerber has done his share to contribute to the state’s economic meltdown: home prices sinking into a seemingly bottomless pit, a frozen-stiff credit market and growing unemployment.
Barrett Slade, associate professor of finance at Brigham Young University’s Marriott School of Management, has seen how ugly things get when reckless speculative investors burst the real-estate bubble. “It’s a blood bath,” he says. “People are hurt all over.”
With hundreds of upset investors prompting action, the Utah Division of Securities, since 2007, has been investigating Koerber and his companies, most of them based in Utah County.
Koerber’s company didn’t just make a lucrative profit for him and a few of his buddies when the market was hot—his empire, now disintegrating, was once a massive, organized and far-flung effort. Koerber culled investors and investment properties from across 18 states, according to his company documents. Koerber also spawned nearly 40 separate business entities including investment companies, film production, an AM radio talk show, and his American Founders University, headquartered in Provo.
Koerber bet large and banked big. In November 2007, his investment company Founders Capital made offerings to its debtors to exchange debt owed for equity in the company. A financial disclosure statement in the offering document noted that prior to July 2007 (before several large debtors agreed to swap debt for equity), the company showed liabilities of more than $100 million. Liabilities derived from real-estate promissory notes—the key to the business whereby investors “mill” equity out of homes to be re-invested with Founders Capital for fat interest payments.
But when the economy tanked in late 2008, it was craps for the Free Capitalist rollers. Since the UDS began probing Koerber’s business, his billboards, boasting how average folks can build wealth simply by using their credit scores, no longer dot Interstate 15 from Sandy to Spanish Fork. This aspect of the business showed people how to take advantage of loose-lending rules to get sizable home loans.
Randy Chipman, a Utah County man who invested more than $100,000 with a company to which records show Koerber currently owes approximately $12 million, says he has a slogan for a new campaign: “How about a billboard that says, ‘Hey, Free Capitalist, where’s my money?’” The ad, Chipman says, should include this caveat: “Friends don’t let friends invest with the Free Capitalist.”
The Million-Dollar Lifestyle
nDennis and Marietta Baca, an elderly couple from Colorado, have been waiting since February 2008 for the outcome of a civil lawsuit filed in a Denver state court against Koerber and his company. Their suit claims that Koerber and his former FranklinSquires vice president, Gabriel “The Invisible Hand” Joseph, lured the Bacas into an elaborate and classic Ponzi scheme—in which new investors’ money was used to pay earlier investors. They say they were bilked of more than $170,000—money they pulled from credit-card advances, their life savings, Marietta’s pension and their home’s equity. Koerber has maintained the couple never finished his investment course for which they had registered nor did they ever invest with him. Their suit alleges Koerber acted as a “control person” who convinced unsavvy investors like themselves to put money into a variety of “down line” companies, which then invested with Koerber for interest payments. In one of several interviews with City Weekly, Koerber calls this charge “ridiculous.” Yet, while the Bacas’ suit names Gabriel Joseph’s company as one of these “down lines,” besides Joseph, three other senior employees of Koerber’s company are facing similar charges of soliciting unsecured and unregistered securities.
The Bacas allege they were pulled in by Koerber and Joseph’s promise of a lavish lifestyle and convinced to invest unregistered securities in Founders Capital through the business scheme.
Like real-estate rock stars, Koerber and Joseph never shied away from the finer things. In 2005, Creative Real Estate Lifestyles—a glossy magazine published by Koerber’s cousin—profiled Joseph with a photo depicting the young FranklinSquires exec leaning magnanimously against a shiny black sports car, a cell phone in one hand and a laptop in the other. A caption reads, “Gabriel’s newest toy is a 2006 S55 Mercedes-Benz with 493 horsepower. A purchase price of $120,000 dollars will take you 0-60 in 4.7 seconds.”
During the go-go real estate market for much of this decade, the “Free Capitalist” Website flashed images of a Free Capitalist project fair, with people milling about a parking lot filled with Maserati and Lamborghini sports cars. Another image shows Koerber handing dollar bills to children, like the Santa Claus of Capitalism. (For more on Koerber, see “House of Cards,” March 6, 2008; “White Collar Greed,” July 31, 2008; and “House Poor,” Aug. 14, 2008; City Weekly)
The Creative Real Estate Lifestyles piece features lavish shots of Joseph’s $1.3 million Cedar Hills home, and it quotes Joseph saying the house makes him approximately $3,000 a month. The article reads, “The secret? ‘We teach it,’ smiles Gabriel. ‘It involves a process Rick Koerber developed called ‘equity milling,’ which involves extracting equity out of real estate and putting it to work in high-return investments.’” Joseph downplays the risks involved by saying: “We teach very specific ways to mitigate risks through every single step of the process.”
Three years later, Joseph’s mansion has been foreclosed on and the state of Idaho has recently ordered Joseph’s business Annuit Coeptis (a Latin phrase printed on the $1 bill which Koerber translates—rather loosely—as “God prospered us”) to repay $2.4 million in illegally generated investments. Joseph could not be reached for comment, nor did he appear for his December 2008 Idaho court date.
Another lawsuit now pending in U.S. District Court for Utah alleges St. George couple Tom and Peggy Tibbs were defrauded of more than $600,000 invested through another FranklinSquires partner, Jason Vaughn and his holding company Freestyle Holdings.
According to documents filed in the federal court, “Bank records in the possession of the Utah Securities Division reveal that of the $606,463.49 invested by the plaintiffs, the Vaughns used $47,000 to pay a personal insurance premium and used other loan proceeds to make interest payments to several investors, including to the plaintiffs themselves.” Vaughn is also the subject of a UDS complaint alleging the unlicensed sale of $1,450,000 in securities. Vaughn could not be reached for comment.
Koerber relays the same message he taught Joseph and others about high returns and high risk. “The good news is that it’s not true; you don’t have to increase your risk to increase your profitability. It is a ridiculous myth,” said Koerber, according to a transcript of a 2006 seminar he gave at the Provo Marriott Hotel.
Koerber’s message however, at times shifts suddenly from the “myth” of risk to quickly chastising investors who feel they’ve been jilted for taking part in what they considered a safe investment.
“Quit looking for a get-rich quick deal! Quit looking for a good investment!” Koerber shrieks on a 2007 Free Capitalist radio broadcast. The show, videotaped and posted on the Internet, shows Koerber waving his arms to unseen radio listeners like a sports talk-show host railing on a draft pick. He sits crumpled in his chair wearing a purple T-shirt with a roaring cartoon tiger on the front, doing a mocking impersonation of a troubled investor.
Ron Brown, a 76-year-old Springville resident has become one of those troubled investors. His relationship with Rick Koerber began easily enough. He still remembers Koerber as the nice young man who gave him a job and told him how to take equity from his own home and invest it with Koerber for high returns, Brown says. He now faces foreclosure on his only home.
A Sure Thing
“I’ve always been pro-Rick,” Brown says. “I haven’t looked for anything to condemn him. I didn’t want to look for anything to condemn him by; I believed in him.” Brown says he’s lived a life of hard work. He’s been a homebuilder since 1958, with short stints as a beaver farmer and a coal miner.
Brown met Koerber in 2004 when Koerber purchased a home next to his that Brown had built. Koerber asked Brown if he would add a two-car garage to the property. While working the job, Brown befriended Koerber and his wife, Michelle.
“We kind of took ’em in just like our kids,” Brown says. “They’d come in for Sunday dinner, and we’d visit and talk about the [LDS] gospel and other things.”
During these conversations, Koerber mentioned he was making about $15,000 a month from the equity of the home that Brown had built and was currently adding the garage to. Brown recalls Koerber drawing a detailed diagram to explain how equity from a home could be invested for high returns practically risk-free. The offer was so appealing, Brown asked if Koerber could do the same for his own residence.
Brown had fallen behind on his mortgage payments, and felt that Koerber’s program would pull him out of the red and give him extra income by investing the equity with Koerber’s company, Founders Capital. Koerber, however, says Brown never invested with him. “My business bought Ron’s home to keep it from being foreclosed on,” Koerber says in a recent interview, adding, “Ron is a good friend of mine and to say that we did not improve his situation is not an accurate reporting of the facts.”
Brown, however, says Koerber assured him the transaction was an investment. “All of this was done on trust,” Brown says. The trust factor resulted in no exchange of promissory notes or written contracts with the terms of what Brown calls an investment with Founders Capital. Koerber did do him a favor by employing Brown and his sons to care for some of Koerber’s investment properties. The job kept Brown out of foreclosure.
Since Brown is an unaccredited investor (an individual accredited investor by state law must have a yearly income of at least $200,000), direct investment with Founders Capital would constitute securities fraud, as the law seeks to protect investors like Brown who can’t afford to lose their investments. Brown says he didn’t receive interest payments from Founders Capital for his equity investment, which is consistent with Koerber’s claim that there never was an investment. Nonetheless, Brown says he only deeded over his home under the impression he would receive interest payments and that Koerber would eventually pay off the mortgage and deed it back to him.
Several other holding companies affiliated with Koerber’s Founders Capital have been under investigation for raising money from unaccredited investors like Ron Brown. Paul Bouchard, owner of one such company, pleaded no contest to felony charges before the UDS on Dec. 4, 2007. While companies like Bouchard’s turned the money over to Founders, Koerber has always maintained he never knew where the money came from or how it was raised. In a February 2008 Free Capitalist radio show, Koerber explained: “I’ve occasionally seen people get discouraged when I tell them that they cannot invest with me or with Founders Capital,” adding that he often warned people about being “misled by their own assumptions.”
But, Brown says, another time, he approached Koerber directly with $10,000 he had received through an inheritance from his mother-in law and another $10,000 he received from the sale of a forklift, asking to invest it directly with Founders Capital. Brown says Koerber said, “Yeah, we can take care of that,” and referred him to one of his company managers who had a holding company to handle the investment.
Koerber’s reaction to this claim: “His characterization of that is not accurate.”
When asked if he recalls such a meeting with Brown, Koerber draws a blank. “I don’t remember having any conversation with Ron about investing any money.” Because of Brown’s investments with Koerber he, too, has found himself under UDS scrutiny for something he says he did not know was illegal, especially since he recalls several employees who invested with Koerber the same way he did.
The transactions Brown describes raise serious allegations of securities fraud. If Koerber funneled illegal investment money into holding companies, his real-estate acquisition funds would jeopardize the strength of his investments and pump up the real-estate bubble with dangerously unstable dollars.
Think Like a Bank and Prosper
nFrom the 2005 magazine profile on Joseph and the FranklinSquires model:
Q: How can there be no risk?
Gabriel: You have to understand how to think like a bank. You see, banks do risky things but they manage their risk to near zero.
Everyone wants to be the banker. Koerber and Joseph realized that banks were making good money off investments, even risky investments. A bank wouldn’t really jeopardize its profits without being able to wrestle its risk down to near zero, right?
At his 2006 seminar in Provo, Koerber noted, “[Banks] collateralize investments with property, and loan officers never inspect a home before a loan is extended.” He added that banks don’t need to inspect homes because “banks have a mathematical formula,” to manage risk. For Koerber, the comparison was simple: banks made money off homes without ever setting foot in them; they used “formulas” and “balance sheets” and could then understand how to make a buck and not sweat the risk.
But since the onslaught of the economic crisis, banks have been in a sweat.
Barrett Slade, BYU associate professor of finance, sees the credit crisis as one that caught a lot of players—from consumers and small-town banks to Wall Street investment firms—in a deal that was just too good to be true. High returns from subprime mortgage-backed securities created a hot ticket while the market was sizzling, but the financial risks were underestimated.
The basics of real estate before the crash were pretty simple, Slade explains. First, an average bank originated a home mortgage with the customer. The bank then sold that mortgage to Fannie Mae or Freddie Mac, the government-sponsored housing assistance entities. Then the package went on to Wall Street. Investment bankers sold shares in a huge number of mortgages, pooled together to make mortgage-backed securities—the good, the bad and even the toxic mortgages.
Everyone now knows how this story ends, but some forget that when lending regulations and underwriting practices weren’t so loose, mortgage-backed securities were very beneficial. “Since their inception,” Slade says, “mortgage-backed securities resulted in lower mortgage-interest rates, which have made more homes affordable to more people.”
Problems arose, however, as banks sold mortgages to mortgage clearing houses, such as Fannie Mae and Freddie Mac. This made banks no longer responsible if the mortgage went into default. Soon underwriting standards slipped and lending regulations loosened as banks had less accountability for mortgages they were just selling to some other entity.
With lowered standards, riskier mortgages were slipping into Wall Street investment portfolios and posing as sure things. Things got tricky for the gatekeepers in this process—investment-rating agencies. They were tasked with rating the risk of mortgage pools, an effort that meant untangling an already complex ball of paperwork that might involve hundreds of individual mortgages from hundreds of families, each with its own unique financial situation.
The risks were there, but obscured by a robust real-estate market, Slade says. Now the various entities that used to look after individual mortgages were less accountable. If they sold the mortgages or the mortgage-backed securities up the money river, it became SEP—Somebody Else’s Problem.
Because standards had dropped, enormous loans were being made to consumers who needed only to fill out a little paperwork. Completing an application for a $500,000 loan became a mere formality, like signing up for a Blockbuster membership.
“As a result of poor underwriting standards, people could get a loan with little or no documentation,” Slade says. “This resulted in many individuals obtaining loans that were doomed to failure right from the start.”
Meanwhile, investors were making bank on shares in these toxic mortgages. While investors might get a reasonable 6- to 7-percent interest on investments in prime mortgage-backed securities, the subprime investments had a juicy 9- to 12-percent interest rate that was too tempting.
Meanwhile, home prices were becoming increasingly unaffordable as the market was flooded with speculative investment properties. These spec homes, which were stripped of equity and/or “flipped,” in turn flipped the market itself on its head. According to Slade, the problem with speculative investors is they believe home prices will always climb and that property can be sold again and again for a profit, or that equity can be continually refinanced and mortgaged and stripped out for liquid cash.
Utah, Slade says, sets itself up for real-estate bubbles and fraud. “That Utah has nondisclosure of real-estate transactions is one of the reasons why I believe the local real-estate market cycles so hard. I believe it is also one of the leading causes of real-estate fraud.” In other states, he says, real-estate transactions require affidavits that detail sales price, the parties involved and whether or not the parties are related as family—all critical information for sniffing out bad or fraudulent deals. In most states, these documents are backed up by criminal penalties for falsifying them; in Utah, records show transfer of title and little else.
With bad information, the “herd mentality” sets in. Businesses exploit loose bank regulations for speculative investments. “The herd can be created by Ponzi schemes,” Slade says. “It doesn’t take much to get the herd running, like when people find themselves chasing excessively high returns.”
When spec homes are overleveraged, without real value appreciating and the equity stripped out as liquid cash and invested, investors might make a lucrative profit. But when the investment stops offering returns (because the whole scheme eventually bottoms out), homes start going in to foreclosure. Repossessed homes are like real-estate plague, infecting whole neighborhoods and driving down home prices. Sellers can’t find buyers, as most buyers won’t buy until they know home prices have hit absolute rock bottom. The ripple effects are very damaging, especially when consumer confidence plummets, home construction drops off, spending shrinks and unemployment mushrooms. Case in point: Utah lost nearly 12,000 jobs between the fall of 2007 and the fall of 2008.
Koerber denies doing speculative investments. He says his equity milling doesn’t mean equity stripping. “Someone who is stripping doesn’t have any responsibility—it’s synonymous with flipping,” Koerber says. “They are trying to buy, then borrow all the equity out and move on to the next property. We tried to hold onto the property and continue to leverage equity and put somebody in the home and get profits in there for the long term.”
Koerber acknowledges equity stripping is the kind of speculative market gambling that helped cause the bubble but says, simply, that his company was in it “for the long haul.” He also points out that many of his homes were bought wholesale at cash value, which should have kept comparable home values low, thus deflating the bubble.
nWilliam Young doesn’t remember anything about Koerber being in the business for the long haul. The Springville real-estate developer recalls working with Koerber when Koerber expressed interest in actual real-estate development. Young also had an agent helping Koerber buy and sell investment properties. “They were poor stewards of the properties they purchased,” Young says. “They had hundreds of properties that were left vacant,” he says, noting infrequent maintenance and unwatered lawns. Young waited for Koerber to commit to development, but he never did. “He just refused to take the step, he didn’t have the liquidity.” Young also disapproved of how Koerber’s business relied on sellers using promissory notes for security. The practice, Young says, was common in the ’70s before many loan options were available, but generally, participants would get an escrow company to back up their financing. “Those things weren’t being taken care of,” he says. Instead, average folks were making transactions based solely on promissory notes with little backing in case things went bad. Young parted ways with Koerber in 2007.
Koerber says Young’s claim of vacant properties is unfair because Young’s exposure to those properties was limited. He does concede his company had trouble getting renters into properties. “It was a big challenge we had,” Koerber says. “One we battled from Day 1.”
Ron Brown also complains Koerber left properties vacant. As Koerber’s property-maintenance man, Brown kept track of more than 160 homes across the state. All of these homes were empty, Brown says.
Koerber denies Brown’s characterization of the homes, thinking it preposterous for Brown to claim he cared for that many homes. “He’s an 80-year-old guy,” Koerber says, overreaching by four years. He adds Brown’s responsibilities were much more limited. Koerber disagrees with the idea his properties’ equity was stripped, since he is continuing to work from his home trying to liquidate assets and pay off debts. “We’re part of the team that’s trying to alleviate the current mess.”
The Midas Touch
nIn spring 2007, again in Creative Real Estate Lifestyles magazine, Koerber was extolled as the guy with a Midas touch—even minting his own silver and gold coins as a bit of a show. “Rick says he always wanted to tell his mother he finally started ‘making money,’” writes the author. But now, Koerber struggles amid lawsuits, state and federal investigations and a frozen credit market to resurrect his company. He’s not the only one struggling.
Ron Brown is fighting off home foreclosure. The FranklinSquires investor who holds the deed to his home is no longer receiving payments from Koerber, so he is demanding $2,300 a month in rent (well over Brown’s old $1,700 mortgage payments) for the home Brown built with his own hands. The increased payment comes from the fact that his home had been refinanced and a second mortgage put on it by Koerber’s program. Making the payments will be tough, since Koerber fired all of his employees in February 2008, including Brown. In dire straits, Brown and his wife have few options left.
“Find the money to pay it off,” Brown says with a weak smile. “Or get our tent out.”