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NovaStar Faces SEC Inquiry, Shareholder Lawsuits

NovaStar Faces SEC Inquiry, Shareholder LawsuitsActivity stems from recent newspaper article

April 23, 2004


Subprime lender NovaStar Financial’s legal woes continue to mount as the Kansas City-based company is facing an inquiry into its business practices from the Securities and Exchange Commission (SEC) as well as a spate of class action lawsuits from disgruntled shareholders.

Lanny Davis, NovaStar’s Washington, D.C.-based attorney and a partner at Orrick, Herrington & Sutcliffe, said the company is taking the SEC inquiry “seriously.” He said the federal inquiry was not surprising in light of the publicity that the company has received and emphasized that language in the inquiry states that the investigation should not be taken as an indication by the SEC that any violations of the law have occurred.

The company has pledged its assistance with the federal agency’s investigation. In a written statement issued by the company, NovaStar’s Chairman and CEO Scott Hartman said, “We have informed the SEC that we will cooperate fully with this inquiry and will resolve all of its questions.

A recent article in the Wall Street Journal detailed how regulators in Nevada shut NovaStar’s branches in February after determining the company was not licensed to operate in the state. NovaStar paid an $80,000 fine but did not disclose the incident in regulatory filings because it did not have a financial material impact on the company’s operations, Hartman said. The WSJ article also accused the company of inflating the number of branches it operates in Nevada.

An SEC spokesman declined to comment.

NovaStar is also facing several class action lawsuits from investors. The complaints, according to Davis, are mirror images of each other and charge NovaStar and some of its officers and directors with violating the Securities Exchange Act of 1934.

“The complaint alleges that . . . the company’s shares were artificially inflated, hitting a high of $67 per share, as the defendants continued to create the illusion that the number of NovaStar offices was increasing and record results would follow,” according to a written statement issued by the San Diego office of Milberg Weiss, the law firm that is taking a lead role in the lawsuits. “Desperate to create this illusion in order to finance the company through stock sales, defendants went so far as to overstate the actual number of offices NovaStar had and to operate offices illegally in multiple states,” according to the Milberg Weiss statement.

Davis called the allegations in the lawsuits “false and misleading” and said he was confident that the suits would be dismissed “on their face” without the need for trial.

NovaStar is a seven-year-old “specialty finance company that originates, invests in and services” residential subprime loans, according to its corporate Web site. It raises money by packaging securities backed by its residential mortgage loans.

Lisa D. Burden is’s legal analyst and holds a law degree from the University of Maryland. She is currently a freelance journalist who previously wrote for Institutional Investor publications and the Baltimore Daily

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