For seven weeks in June and July, Audit Resources Inc. was one of the hottest stocks on the Alberta Stock Exchange (ASE), skyrocketing to a high of $8 per share from only five cents. Sold by Edmonton-based investment dealer First Commonwealth Securities Corp., the stock was first issued in May. But the shares’ stunning climb did not begin until June 2, when Audit—a shell company with no assets of its own—issued a press release stating that through a share-swap arrangement it had purchased Trans Island Marine Salvage Inc. of Arizona. The release claimed that Trans Island held or was negotiating lucrative contracts to salvage 40,000 miles of underwater telephone cable in the South Pacific with six local governments. As well it would obtain tons of nickel and stainless steel from sunken vessels. But last week the hopes of Audit’s investors were dashed when the Alberta Securities Commission (ASC), the provincial securities regulator, permanently banned trading in its shares.
The sudden action promises to end the popularity of a controversial stock market technique called blind pools. In a blind pool, investors buy shares in a shell company whose executives promise to make acquisitions—but without saying what they will buy. Popular in the United States as a quick but risky way to raise venture capital, that type of blind pool first appeared in Canada last February when the ASC allowed First Commonwealth to create one. Said ASE president James Milliken:
“We always had reservations about this type of blind pool.”
The reasons for the banning of Audit Resources came to light during a hearing last week at the ASC’s Edmonton headquarters. Trans Island did not officially exist, ASC lawyer Michael Hayduk said, because Arizona authorities had no record of its registration. As well, U.S. navy officials told ASC staff that since no ownership documents had surfaced, the cable salvage rights probably belonged to the navy. And of the two salvage boats owned by Trans Island, said Hayduk, one was a “rust bucket” rotting in a dry dock and the other was without an engine.
Audit’s problems began on July 22 when the ASC issued a temporary trading ban of its shares. Two days later First Commonwealth was suspended from operating after the ASC discovered that it was short—by $1.4 million—of the capital that it was required to have on hand to meet its trading obligations. RCMP officers also arrested the firm’s president, John Donaldson, and director Robert McNeilly on several charges including conspiracy to affect market prices.
This week, the ASC is expected to hold a hearing to determine whether to permanently close First Commonwealth. The connection between the investment dealer and Audit will likely come under closer scrutiny. And the investigation may further exemplify the potential dangers of blind pools.
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