CrowdStreet responds after Nightingale fiasco
Tens of millions allegedly missing from developer's crowdfunding deals; platform says it had "no reason to suspect" breach
Real estate crowdfunding platform CrowdStreet is coming under fire after tens of millions of investor dollars allegedly went missing from accounts connected to Nightingale Properties.
The dramatic disclosure, made last week by a fiduciary for the retail investors, related to two Nightingale deals in Atlanta and Miami Beach for which Nightingale raised more than $60 million from over 800 investors. Both deals never closed, and entities connected to Nightingale CEO Elie Schwartz allegedly “misappropriated” the funds, according to the fiduciary.
The fracas had industry observers asking a pointed question: Why did CrowdStreet release investor money before deals closed?
“We recognize the impact Nightingale’s actions and resulting uncertainty have on you,” CrowdStreet wrote in an email to deal investors Friday. “CrowdStreet is continuously assessing all potential next steps, including legal actions against Nightingale and Mr. Schwartz.”
Instead of sitting in escrow, investors’ money went to separate accounts controlled by Nightingale. Schwartz and Nightingale were held to an operating agreement mandating the funds would only be used for the two projects, according to CrowdStreet.
“We have never experienced anything like this,” CrowdStreet’s CEO Tore Steen said in a Monday interview with The Real Deal. He stressed that the company is a “marketplace platform” and does not take custody of investment funds.
Crowdstreet’s investor communications show that the company recently amended its escrow policy. As of June 5, CrowdStreet’s deals are funded through third-party escrow accounts as part of the firm’s transition to acting as a securities broker.
The funds in the escrow accounts will only be released when the sponsor is set to close on the deal. The escrow requirement was slated for August, but was accelerated, the letter said.
It is unclear whether the Nightingale fiasco hastened the change.
“We chose to move it up as an extra degree of protection,” Steen said.
Nightingale did not respond to a request for comment.
Hands off
Nightingale planned to close on the Atlanta property, a million-square-foot office complex, in October, but Steen said the developer ran into issues with its financing. Nightingale bumped back the closing date till late February, but then stopped providing updates to investors and CrowdStreet grew concerned, said Steen. Some investors wanted out and Nightingale could not provide refunds fast enough, leading CrowdStreet to launch an investigation in late April or May, according to Steen.
In June, Anna Phillips, who has a background in forensic accounting, was elected by the investors as a fiduciary and independent manager.
On Friday, she revealed her findings to investors in a webinar.
“They literally have no idea what happened to all the money.”
“The bottom line is that the money that was raised by both entities has been misappropriated,” said Phillips.
With the Atlanta property, about $8 million to $9 million was repaid to investors, while about $8 million was transferred to unidentified third parties, Phillips said. The remaining balance appears to be transferred to Schwartz or Schwartz affiliates, she said. For the Miami Beach property at 1601 Washington Avenue, about $3.75 million was transferred to unidentified third parties and the balance appears to have been transferred to affiliates of Schwartz.
Phillips put the investor entities into Chapter 11 bankruptcy protection in Delaware in hopes that it will put pressure on Schwartz and Nightingale to provide more information.
She noted she still does not have access to the projects’ books and records.
“I was surprised at how little oversight CrowdStreet had over the particulars of the transaction and how little insight into the books and records,” said Adam Stein-Sapir, a distressed debt expert at Pioneer Funding Group, who is not involved with CrowdStreet or Nightingale. “They literally have no idea what happened to all the money.”
CrowdStreet insists it has a rigorous vetting process, which includes background checks. Nightingale also provided references from KKR, Citibank, Wafra Capital Partners – its Kuwait-backed equity partner at 111 Wall Street – ICER Properties, and DRA Advisors, according to its letter to investors.
“We have never experienced anything like this.”
The letter notes that CrowdStreet is not party to the transactions, however, and “does not have control over the operations or management of investments.”
Steen adds that after a deal closes, CrowdStreet requires quarterly updates and financials. In this case, the deals never closed so the quarterly updates were never provided. Instead, the updates focused on why the deals did not close.
Steen said CrowdStreet had no reason to suspect that Nightingale would not live up to its operating agreement. So far, all of the other sponsors in its 770 deals abided by the terms of the contract.
“Why would someone not follow that?,” said Steen. “If someone doesn’t follow that and misappropriated it [the funds] they could be facing jail time. And does that not concern somebody?”