LUBBOCK, Texas (KCBD) - In court documents filed Wednesday morning by a court appointed Special Litigation Counsel attorney for Reagor-Dykes estates, they claim FirstCapital “knowingly and intentionally participated in Shane Smith’s fraudulent schemes to defraud [Reagor-Dykes Auto Group] and their creditors.”
This complaint comes exactly two weeks after court-appointed attorneys for the Reagor Dykes bankruptcy estate filed a similar complaint against Vista Bank.
This complaint was filed to “turnover property of the estate, avoid certain obligations and recover certain transfers against FirstCapital Bank (the Defendant”), to disallow any claims held by FirstCapital Bank and to recover compensatory damages for FirstCapital’s willful violations of the automatic stay.”
The complaint states FirstCapital knew the dealerships were making deposits into its checking account that were far in excess of their revenue generating capacity and that FirstCapital knew that these deposits were largely from other Reagor-Dykes entities. The complaint alleges the checking accounts were regularly overdrawn, sometimes by amounts totaling in the millions of dollars, and that FirstCapital allowed Shane Smith to use the FirstCapital RDAG business checking accounts as lines of credit.
The complaint claims instead of stopping the fraudulent schemes, they took active measures to help Smith carry out his schemes.
The complaint claims FirstCapital was not just another bank for RDAG, but that it was an insider for each of the RDAG entities through Rick Dykes. Dykes owned 50 percent of the LLCs that owned RDAG. But he was also a member of FirstCaptial’s board of directors. His title changed from Director to member, but the complaint said although his title changed, his authority, role and responsibilities at FCB remained the same.
The complaint states “at some point, but no later than February 2017, Mr. Smith began collaborating with FirstCapital in fraudulent schemes to defraud the Debtors and their creditors. At the core of Smith’s schemes was the willingness of FirstCapital to allow Smith to engage in a massive transfer of funds between Reagor-Dykes account and to let him use checking accounts and sight drafts to create multi-million dollar unsecured loan facilities that he could never legitimately repay without engaging in even further fraudulent activity. And FirstCapital’s decisions were not the fault of a low-level employee who Smith took advantage of. Rather, Smith worked directly with FirstCapital’s CEO, Brad Burgess."
According to the court document, in early 2017 and early 2018, Smith provided FCB with financial statements that reflected, among other information, the monthly and annual sales of RAM, Amarillo, and Floydada. The financial statements showed the average amount of money being deposited in RAM’s FCB bank account each month was approximately five times as much as its average monthly sales in 2017.
FirstCapital Bank issued a response Wednesday afternoon to the filed complaint saying:
The lawsuit filed by the Reagor Dykes bankruptcy estate has no merit and is simply an effort to shakedown FirstCapital for a fraud perpetrated by Reagor Dykes and its 12 and counting employees who have already pled guilty to the crimes.
No one at FirstCapital was aware of the fraud underway at Reagor Dykes until learning so in connection with the Reagor Dykes bankruptcy filings. FirstCapital is a victim of Reagor Dykes’ massive fraudulent scheme and nothing more.
Now, the bankrupt shell of Reagor Dykes is suing FirstCapital for failing to tell Reagor Dykes that it was defrauding FirstCapital and many others. Only in a land where up is down and down is up does that make sense.
FirstCapital Knowingly and Intentionally Participated in Shane Smith’s Fraudulent Schemes to Defraud the Debtors and the Debtors’ Creditors.
Plaintiffs owned and operated automotive dealerships in the State of Texas along with several other affiliates. Together Plaintiffs and the nonparty affiliates employed approximately 700 employees and reported over $800 million in sales.
Shane Smith was the Chief Financial Officer for the Plaintiffs and other Reagor-Dykes businesses. At some point, but no later than February 2017, Mr. Smith began collaborating with FirstCapital in fraudulent schemes to defraud the Debtors and their creditors. At the core of Smith’s schemes was the willingness of FirstCapital to allow Smith to engage in a massive transfer of funds between Reagor-Dykes account and to let him use checking accounts and sight drafts to create multi-million dollar unsecured loan facilities that he could never legitimately repay without engaging in even further fraudulent activity.
And FirstCapital’s decisions were not the fault of a low-level employee who Smith took advantage of. Rather, Smith worked directly with FirstCapital’s CEO, Brad Burgess.
In fact, in 2017 and 2018, Burgess and Smith communicated multiple times per week about the FCB Account Debtor Plaintiffs financial transactions involving FCB. For example, in a December 20, 2017 email, Smith responded to Burgess’s daily report of the negative balances on RAM and Amarillo’s checking accounts. In his response, Smith stated that “I am working like crazy personally on RAM. I have several deals in my office working to get funded. We will keep battling, I am really trying to get it back positive by year end. Thank you for working with us. Sorry you have to do this everyday."
But as early as March 2017, Burgess expressed that he “was passed where [his] comfort level is” when one FCB account of Amarillo was overdrawn by about $611,000.
Apparently, Burgess got comfortable with the situation because the FCB Account Debtors Plaintiffs’ overdrafts of their FCB checking accounts continued and grew. In January 2018, Burgess emailed Smith and noted that RAM, Amarillo, and Floydada each had overdrawn checking accounts totally nearly $1.4 million. Burgess again stated “This is really past my comfort zone.” But again, neither Burgess nor FirstCapital stopped Smith from his manipulations and fraud. Again, the FCB Account Debtor Plaintiffs’ overdrafts continued to grow. By the end of May 2018, RAM’s checking accounts were consistently overdrawn by more than $2 million a day.
In short, FirstCapital and Burgess let Smith use the FCB Account Debtor Plaintiffs’ demand deposit accounts as unsecured lending facilities that had not gone through FirstCapital’s standard loan review or underwriting processes.
For example, in February 2018, RAM’s account x3144 had an average daily ledger balance of negative $1,414,770.82 and an average float of $2,535,736.33, which resulted in an average daily available balance of negative $3,950,507.15. Similarly, in February 2018, Amarillo’s account x9488 had an average daily ledger balance of negative $295,586.39 and an average float of $1,030,948.46, which resulted in an average daily balance of negative $1,328,534.85. FirstCapital then charged RAM and Amarillo interest on the negative available balance at a rate of 6.25% (in addition to other fees).
And February 2018 was not an isolated month. FCB’s bank statements reflect that RAM and Amarillo had a negative average ledger balance and a negative average available balance every month from December 2016 through February 2018. Suffice to say, nothing changed in the following months. Moreover, the volume and amount of funds being transferred into and out of the FCB Account Debtor Plaintiffs’ accounts at FCB made it crystal clear to anyone who paid attention to the accounts that Smith was engaged in a massive fraudulent scheme. In early 2017 and early 2018, Smith provided FCB with financial statements that reflected, among other information, the monthly and annual sales of RAM, Amarillo, and Floydada.
The financial statements Smith provided FirstCapital show that RAM had sales in 2016 of $154,711,951 and sales in 2017 of $172,091,742 (which reflects average monthly sales of about $14.3 million). But in the nine months from November 1, 2017 to July 31, 2018, RAM’s x3144 account had over $637,000,000 in deposits and credits (an average of over $70.7 million per month) and had over $637,000,000 in debits. In other words, the average amount of money being deposited in RAM’s FCB bank account each month was approximately five times as much as its average monthly sales in 2017.
Moreover, much of these debits and credits were nothing more than transfers between Reagor-Dykes entities. During that same November 2017-July 2018 time frame, over $383,000,000 was disbursed from the RAM x3144 account to other Reagor-Dykes debtors. And, according to records kept by Mr. Smith, in June and July 2018 alone, there were over $88 million in deposits made into the RAM x3144 account that came from funds paid or transferred by other Reagor-Dykes entities.
But FirstCapital did not need to look at each deposit and debit to see that Smith was just churning funds between Reagor-Dykes entities—Smith told FirstCapital that he was using intercompany transfers to cover the massive, ongoing, multiday overdrafts on the FCB Account Debtor Plaintiffs accounts.
For example, in a January 11, 2018 email to Burgess, Smith stated “Working with Ashley to get some collections in here from the group and outside the group to see if we can get these two accounts cleaned up for tomorrow.” Burgess, an experienced banker, would have understood that “from the group” meant that Smith intended to just move funds from one Reagor-Dykes entity to another to try and pay back the overdrafts on the FCB checking accounts.
Similarly, on March 12, 2018, Burgess informed Smith that “Ram is ($305k) short after pending transactions. RAM was ($915k) after Friday’s transactions.” Smith responded to Burgess and told him “Let [sic] get with everyone on what they have for deposits today and see if we need to add some.” In other words, Smith’s plan was to see what actual deposits they had available to make that day and, if it wasn’t enough, Smith intended to find some other deposits. Where would such deposits come from? Apparently, other Reagor-Dykes checking accounts or sight drafts for cars purportedly being sold from one Reagor-Dykes entity to another.
Based on the information available to FirstCapital through both the dealership’s financial statements and bank statements generated by FirstCapital’s own computer system, FirstCapital knew:
- the dealerships were making deposits into its checking account that were far in excess of their revenue generating capacity;
- that these deposits were largely from other Reagor Dykes entities;
- that notwithstanding these massive deposits, the checking accounts were regularly overdrawn, sometimes by amounts aggregating in the millions of dollars, and;
- that notwithstanding all of these facts, FirstCapital elected to permit Smith to use the FCB Account Debtor Plaintiffs’ business checking accounts as lines of credit.
Moreover, FirstCapital participated in Smith’s schemes knowing that he was using his scheme to defraud the Ford Motor Credit Company and other floorplan lenders of the Plaintiffs. Smith regularly informed Burgess and others at FirstCapital that the overdrafts were going to be larger than normal due to the quarterly audits of floor-plan lenders.
For example, on March 13, 2017, Burgess emailed Smith to inform him of RAM’s and Amarillo’s negative balances. In response, Smith told Burgess, “Getting it covered. Bear with me this week, we are doing are [sic] quarterly floorplan and inventory cleansing.”
In other words, Smith was telling Burgess he would need to overdraw the bank accounts at FCB more than usual to payoff out-of-trust floor plan loans. Similarly, on June 15, 2018, in response to an email from Burgess’s assistant letting Smith know that the RAM, Floydada, and Amarillo had a combined negative balance in excess of $2.6 million, Smith noted that they were “doing some early payoffs on our quarterly floorplan reconciliations so they [the balances] might be lower next week, but I am managing it daily!”
But letting Smith use checking accounts like credit lines was only part of Smith’s fraudulent scheme in which FirstCapital knowingly participated. FirstCapital also let Smith create and control millions of dollars of “float” to fuel his financial schemes by creating “sales” of vehicles between the various Reagor Dykes dealerships and using an antiquated form of payment to support the transaction—the sight draft.
A sight draft is a form of documentary draft, not unlike a letter of credit used in international business transactions. At its heart, it is payment against documents of title. The drafting process was designed long ago and to facilitate transactions between unrelated buyers and sellers so they could each mitigate the credit and performance risk of the other by allowing their respective banks to act as intermediaries.
In a normal transaction involving a sight draft and between unrelated parties, one dealership would “agree” to purchase a vehicle(s) from a third-party dealership. The selling dealership, or the “drawer”, would deposit the draft together with the certificate of title to the vehicle with its own bank. The selling dealership’s bank would thereafter present the draft together with the certificate of title to the purchasing dealership’s bank for payment (the “drawee”).
The draft would contain instructions for payment, usually upon “sight” plus a certain number of days. Usually seven business days. During this time period, the purchaser’s bank would inspect the certificate of title so as to insure its authenticity. Upon expiration of the time period and assuming the title was good, the purchaser’s bank would issue a cashier’s check by way of payment on the draft; cause the same to be delivered to the seller’s bank, and concurrently deduct an equal amount from the buyer’s bank account.
Ostensibly, if the buyer lacked the funds to pay, the buyer’s bank would return the draft, together with the documents of title to the seller’s bank. When the seller’s bank received the cashier’s check from the buyer’s bank—and not before—it would deposit a like amount of money into the seller’s bank account.
Suffice it to say, the sheer complication of this process belies its antiquated nature, as it could have just as easily been used to buy and sell herds of cattle between far flung ranches in the 19th century, as it could for the buying and selling of vehicles here.
As noted above, the entire purpose of the documentary sight draft process is to mitigate credit and performance risk between unrelated parties. It serves virtually no purpose in a transaction between related parties, such as the various Reagor-Dykes dealerships. Moreover, the sheer volume of intercompany checks that were already being deposited between the dealerships would seem to moot any need for the use of this process at all.
That is until Shane Smith and FirstCapital devised a way to deploy a perverted version of the drafting process in order help create additional “float,” which served as an unsecured lending facility that benefited FirstCapital while avoiding FirstCapital’s loan underwriting processes and review.
Through their agreement, and once a selling Reagor Dykes dealership had deposited a draft, FirstCapital would give immediate credit to the selling dealership. It would transmit the draft to the purchasing Reagor-Dykes dealership’s bank which, in turn, would have anywhere between seven to fourteen business days to pay on the draft. The “sale” of the vehicle would not officially be consummated until the buying dealership’s bank paid the draft. At which time, presumably Smith would cause the floorplan lender to be paid—assuming he paid the floor plan lender at all. In receiving immediate credit for the drafts, Smith was essentially given free money for a period of seven to fourteen business days.
FirstCapital knew of the enormous risks it was undertaking in giving immediate credit on the drafts, as it did impose a backstop. In that regard, it required RAM, Amarillo, Floydada, RDAC, Plainview, and Lmitsu to jointly execute a promissory revolving line of credit note in the amount of $2,480,789 in June 2017, which was renewed in June 2018 (the “revolver”).
FirstCapital would give immediate credit for any and all drafts deposited by RAM, Amarillo, and Floydada up to the limit of the revolver and until the revolver was paid back down. FirstCapital presumably paid the line back down itself and with the cashier’s checks from the purchasing Reagor Dykes dealership’s banks. Nevertheless, if the purchasing dealership failed to cause payment to be made by its bank, then RAM, Floydada, and Amarillo would still remain liable for the immediate credit previously given on the deposited draft.
After a time, FirstCapital gave up all pretense that this process was anything other than a construct to create float when it ceased requiring that the selling dealerships tender original certificates of title. All-in-all, hundreds of thousands of dollars changed hands between dealerships on a daily basis and through this process.
Moreover, FirstCapital would regularly send Smith a list of incoming drafts, and ask Shane for instructions on when the incoming drafts should be paid by FirstCapital. In other words, FirstCapital allowed Smith to control when and whether FirstCapital would honor an incoming draft. Often times, Smith would ask FirstCapital to delay honoring a draft because of how overdrawn the FCB checking accounts already were.
While FirstCapital knew or should have known of how Smith was using drafts between Reagor-Dykes entities to create float to inflate their account balances from the drafts themselves, FirstCapital did not need to figure it out from the transactions themselves. Again, Smith told FirstCapital exactly what he was doing.
For example, on April 18, 2017, Smith asked FirstCapital to pay by 4:00 P.M. approximately $183,000 in drafts that named RAM as payor and that had been given to another Reagor-Dykes debtor to present and receive credit. Smith told FirstCapital that if they did not pay the drafts in time, the other bank would return the drafts and debit the account of the other ReagorDykes debtor. Smith asked FirstCapital to pay the draft using FirstCapital’s funds immediately, but not draw funds from RAM’s account until the following day.
Despite Smith telling FirstCapital exactly what he was doing with the drafts, FirstCapital continued to let the FCB Account Debtor Plaintiffs (primarily RAM) transfer millions of dollars to other Reagor-Dykes entities via sight draft and, which in turn, created millions of dollars of float (i.e., unsecured debt) for Smith to take advantage of as part of his scheme.
Not only did FirstCapital knowingly and intentionally participate in Smith’s fraudulent scheme to create days of float by using drafts to transfer funds between ReagorDykes entities for cars that were purportedly being sold from one Reagor-Dykes dealer to another but they even allowed Smith to use drafts to transfer funds from between ReagorDykes entities that both had their bank accounts at FirstCapital.
For example, Smith could deposit a draft in Floydada’s FCB account that reflected a purported car sold by RAM to Floydada and then get 7 to 14 days of float before FirstCapital would pay the draft to itself and then debit RAM’s FirstCapital account. There is no legitimate business or financial purpose for related entities to use drafts to transfer funds between checking accounts at the same bank. But FirstCapital routinely allowed Smith to do exactly that.
As set forth above, FirstCapital knew the nature and extent of Shane’s fraudulent schemes. Far from stopping them, they took active measures to help Smith carry out his schemes. Nowhere is this assistance more evident that in the “float” created by the sham draft process that FirstCapital helped Smith carry out. The “sales” were nothing more than the meaningless churning of inventory between dealerships. And the elaborate and antiquated method deployed to pay for these sales was utterly without purpose—save for giving Smith free money to deploy elsewhere.
FirstCapital’s Financial and Business Reasons for Participating in Smith’s Schemes.
Smith’s schemes, in which FirstCapital knowingly and willingly participated inflated the financial position of the FCB Account Debtor Plaintiffs and the RD Debtor Plaintiffs. This resulted in masking Plaintiffs’ true insolvent financial condition from their officers and directors as well as their creditors until the Smith’s schemes collapsed in late July 2018, which triggered Plaintiffs’ bankruptcy.
FirstCapital, however, did not participate in Smith’s schemes out of benevolence. Rather, it benefited from this scheme. FirstCapital leveraged its insider knowledge of Plaintiffs to game the system to allow the bank to continue to collect on fraudulently-transferred deposits, delay declaring defaults on its loans to Debtors, and avoid the financial impact to its own books, which would have consequently adversely impacted the cash price portion of a major acquisition of another bank.
Indeed, FirstCapital benefited from the scheme and the appearance that Plaintiffs were solvent. A disruption to Smith’s fraudulent scheme could have caused a cascade of defaults on the Debtors’ various loans and other debts owed to FirstCapital. If RAM were to default on its multi-million dollar floor-plan financing with FirstCapital, the bank would record a loss on the loan.
But in 2018, such losses would be particularly problematic for FirstCapital because it was in the process of acquiring Fidelity Bank. Losses on FirstCapital’s loans to Reagor-Dykes would have negatively affected FirstCapital stock value and would have required FirstCapital to significantly increase the cash it would have to pay as part of the acquisition. And while consummating the Fidelity acquisition itself was important on its own terms, on information and belief, it was also part of FirstCapital Bank’s longer-term plans to become a publicly traded bank. So, FirstCapital needed the acquisition to go through at the lower cash price.
But FirstCapital was not just another commercial bank for the Debtors. It was an insider for each of the Debtors through Rick Dykes.
Mr. Dykes owned 50% of the LLCs that owned the Reagor-Dykes Debtors, making him an insider of the Plaintiffs. But he was also a member of FirstCapital’s Board of Advisors until just before Reagor-Dykes filed bankruptcy. His title at FirstCapital had been Director on FirstCapital’s board of directors, but FirstCapital changed his title from Director to Member of its Board of Advisors to avoid regulatory scrutiny and to potentially increase the amount FirstCapital could lend Reagor-Dykes.
Defendant told Dykes that his title was changing because of Federal Banking Regulation O. But his authority, role, and responsibilities at FirstCapital remained the same after they changed his title from director to member. He continued to attend and participate at meetings of FirstCapital’s Board of Directors without change. Additionally, Mr. Dykes is a large FirstCapital shareholder, holding, on information and belief, approximately 375,000 of FirstCapital’s shares.
In late July 2018, Ford Motor Credit Company, LLC (“Ford”), Reagor-Dykes’s largest inventory lender, began a surprise audit of the Debtors. During the audit, Ford discovered Smith’s massive fraud and Reagor-Dykes; insolvency. Ford terminated the funding it provided to various Debtors, declared default, and threatened immediate legal action to seize Reagor-Dykes’ assets, among other actions.
On August 1, 2018, the RD Debtor Plaintiffs filed voluntary petitions for relief under Chapter 11 of the Bankruptcy Code.
Between August 2 and August 7, 2018, in a series of three pledge agreements, Dykes pledged an additional $7.5 million in collateral to FirstCapital, approximately $2.75 million in cash and $4.7 million in FirstCapital stock (260,302 shares), and Reagor pledged currently unknown amounts in mutual funds to FirstCapital. In return, FirstCapital agreed to provide an additional $2.1 million in floorplan financing for RAM.
On August 6, 2018, a letter from Mr. John Massouh, an attorney for FirstCapital, was sent to Mr. David Langston, then-counsel for various Reagor-Dykes entities, to set forth a proposed pledge on additional assets for Messrs. Reagor and Dykes in exchange for $2.1 million in additional floorplan financing. Messrs. Reagor and Dykes and their spouses signed the pledge agreement. However, FirstCapital stopped floorplan financing Reagor-Dykes on Monday, July 30.
FirstCapital did not advance any Reagor-Dykes entity any of the additional $2.1 million in floorplan financing to RAM, despite the additional pledges of collateral, by fraudulently taking this additional collateral and promises to do so. By doing so, FirstCapital sealed the demise of the Reagor-Dykes Auto Group and ensured that hundreds of its employees would lose their jobs.
This also deprived other creditors of the ability to recover for the damages they suffered. This is another example of FirstCapital using its insider status to the detriment of others, as FirstCapital pursued its quest to become a publicly traded bank.
On November 1, 2018, RAM, Amarillo, and Floydada filed voluntary petitions for relief under Chapter 11 of the Bankruptcy Code.
COUNT 1: Avoidance of Preferential Transfers
COUNT 2: Avoidance, Preservation, and Return of Actual Fraudulent Transfers
COUNT 3: Recovery of Avoided Transfers
COUNT 4: Equitable Subordination of Defendant’s Claim(s) Against the Estate.
COUNT 5: Objection to and Disallowance of all Claims
COUNT 6: Compensatory Damages for Willful Violation of Automatic Stay
COUNT 7: Demand for Attorneys’ Fees and Recovery of Costs