Initial Decision Release No. 1401

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Administrative Proceeding

File No. 3-16293

UNITED STATES OF AMERICA

Before the

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

In the Matter of

Laurie Bebo and

John Buono, CPA

Appearances:

Initial Decision

as to Laurie Bebo

August 13, 2020

Benjamin Hanauer, Eric M. Phillips, Daniel J. Hayes,

Timothy Stockwell, and Scott B. Tandy for the Division of

Enforcement, Securities and Exchange Commission

Mark A. Cameli, Ryan Stippich, Jennifer L. Naeger, and

Alexander B. Handelsman, Reinhart Boerner Van Deuren

s.c., for Respondent Laurie Bebo

Before:

Jason S. Patil, Administrative Law Judge

Introduction

Respondent Laurie Bebo was the chief executive officer (CEO) of Assisted

Living Concepts, Inc. (ALC), a publicly traded assisted living company that

operated residences for seniors. For several years, she engaged in an elaborate

scheme to hide that ALC was not meeting occupancy and financial covenants

in its lease with Ventas, Inc., the landlord of eight facilities operated by ALC.

To make it appear that the facilities had sufficient occupants to meet the

covenant requirements each quarter, Bebo directed ALC personnel to include

individuals who did not reside at the facilities. The false occupants included

current and former ALC employees, people who never visited or stayed at the

facilities, individuals listed as occupants at multiple different facilities on the

same day, and family members that were not employed by ALC. Bebo did not

disclose her scheme to Ventas or obtain Ventas’s agreement.

To further her scheme, Bebo falsified company records, directed ALC

employees to create journal entries reflecting inflated revenues, submitted

fraudulent financial information to Ventas, and lied to and hid information

from ALC’s auditors. Through Bebo’s misconduct, ALC falsely represented, in

its periodic reports publicly filed with the Securities and Exchange

Commission, that the company was in compliance with the covenants and that

it did not believe that there was a reasonably likely degree of risk of breach.

The company did not disclose that it failed to meet the covenant requirements.

Bebo certified the company’s public filings as accurate when she knew they

were not and caused ALC to violate its reporting obligations.

Because of her misconduct, Bebo violated the antifraud provisions of

Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5; Exchange

Act Rule 13a-14’s certification requirements; Exchange Act Section 13(b)(5)’s

books-and-records and internal control provisions; Exchange Act Rule 13b2-1’s

prohibition against falsifying books, records, or accounts; and Exchange Act

Rule 13b2-2’s prohibition against company executives making false and

misleading statements. Also, she caused ALC’s violations of Exchange Act

Section 10(b) and Rule 10b-5, Exchange Act Section 13(a) and Rules 13a-1 and

13a-13’s requirement that an issuer file accurate reports, Exchange Act Rule

12b-20’s requirement that an issuer provide further material information to

make its reports not misleading, and Exchange Act Sections 13(b)(2)(A) and

(B)’s books-and-records and internal control provisions.

Significant sanctions are warranted. A cease-and-desist order, an officerand-director bar with the right to reapply after six years, and civil money

penalties totaling $1,050,000 will be imposed.

Procedural History and Alternative Procedures

On December 3, 2014, the Commission issued an order instituting

proceedings (OIP) against Bebo under Exchange Act Section 21C. The OIP

alleges that Bebo engaged in misconduct and violated the securities laws

summarized above. The Commission also instituted this proceeding against

John Buono, CPA, but later settled the proceeding as to him. Laurie Bebo,

Exchange Act Release No. 74177, 2015 WL 366000 (Jan. 29, 2015).

Bebo answered the charges by generally denying the allegations and

asserting affirmative defenses. See Answer (Ex. 375) (dated Dec. 31, 2014). The

affirmative defenses mostly consist of assertions against the elements of the

allegations, but also include defenses relating to the statute of limitations,

alleged constitutional violations, and reliance on professionals. Id. at 10–13.

The hearing took place before another administrative law judge in

Milwaukee, Wisconsin, over nineteen days in 2015. The judge issued an initial

decision finding that Bebo violated the securities laws and imposed sanctions.

Laurie Bebo, Initial Decision Release No. 893, 2015 WL 5769700 (ALJ Oct. 2,

2015). During the pendency of Bebo’s petition for review with the Commission,

and after the Supreme Court decided Lucia v. SEC, 138 S. Ct. 2044 (2018), the

Commission remanded the proceeding and directed that Bebo be given the

opportunity for a new hearing before a judge who had not previously

participated in the matter, unless the parties expressly agreed to alternative

procedures. Pending Admin. Proc., Securities Act of 1933 Release No. 10536,

2018 WL 4003609, at *1, *6 (Aug. 22, 2018).

On remand, the proceeding was reassigned to a different judge, who

adopted the parties’ agreement to alternative procedures instead of a new

evidentiary hearing. See Bebo, Admin. Proc. Rulings Release No. 6412, 2018

SEC LEXIS 3561 (ALJ Dec. 18, 2018). Under that agreement, the judge would

decide the matter de novo on the existing record with the opportunity for Bebo

to seek further discovery. See id. at *2–8. Later, the judge adopted the parties’

supplemental procedures and denied Bebo’s motion for summary disposition

that raised constitutional and statute-of-limitations defenses. See Bebo,

Admin. Proc. Rulings Release Nos. 6571, 2019 SEC LEXIS 1094 (ALJ May 10,

2019) (denying motion for summary disposition), and 6642, 2019 SEC LEXIS

1836 (ALJ Jul. 24, 2019) (adopting parties’ supplemental term sheet).

The proceeding was reassigned to me in September 2019. Bebo, Admin.

Proc. Rulings Release No. 6684, 2019 SEC LEXIS 3365 (ALJ Sept. 27, 2019). I

held a closing oral argument on February 6, 2020, and then admitted into

evidence, as Joint Supplemental Exhibit No. 1, memoranda prepared by the

law firm Milbank, Tweed, Hadley & McCloy LLP, which conducted an internal

investigation of ALC. See Bebo, Admin. Proc. Rulings Release No. 6731, 2020

SEC LEXIS 408 (ALJ Feb. 10, 2020). I also allowed the parties to seek

admission of handwritten attorney notes underlying the Milbank memoranda

and address the admissibility of Division exhibits that were excluded at the

prior hearing. See id. The Division responded that it did not object to admission

of the handwritten notes and no longer sought admission of the previously

excluded exhibits. Div. Post-arg. Br. at 4 (Feb. 13, 2020). Bebo provided the

notes, which I now ADMIT as Joint Supplemental Exhibit No. 2.

As agreed by the parties, this initial decision (1) is based on the existing

hearing record, except for Bebo’s Exhibit No. 2187 (expert report of David B.H.

Martin) and Sections VI.A, VI.B, and VII of Bebo’s Exhibit No. 2185 (expert

report of John Durso), which have been withdrawn; (2) makes all factual

findings and legal conclusions de novo, with no deference to or consideration of

any statements or determinations made by the first judge; (3) considers the

parties’ arguments raised throughout the proceeding and all their briefs; and

(4) takes into account the parties’ other agreed terms. See Bebo, 2018 SEC

LEXIS 3561, at *2–8; Bebo, 2019 SEC LEXIS 1836, at *2–6. All arguments

inconsistent with this decision have been considered and rejected.

Preliminary Issues

Before my findings of fact and legal conclusions on the merits, I address

three preliminary issues: Bebo’s constitutional arguments, the weight that I

give to the Milbank memoranda, and Bebo’s credibility.

This proceeding does not violate the U.S. Constitution.

Bebo challenges the validity of this proceeding on constitutional grounds.

She argues that the statute authorizing the Commission to bring the

proceeding is unconstitutional on its face because it violates equal protection

and due process, that the Commission discriminated against her by bringing

this action as an administrative proceeding rather than in federal court, that

the administrative law judges were improperly appointed and are protected by

too many layers of tenure protection, and that the course of the proceeding

lacked due process. For the reasons discussed below, I find these constitutional

challenges to be without merit.

Constitutionality of Dodd-Frank Section 929P(a)

Section 929P(a)(2) of the Dodd-Frank Wall Street Reform and Consumer

Protection Act, Pub. L. 111-203, 124 Stat. 1376, 1863 (2010), gave the

Commission the authority to impose civil penalties in cease-and-desist

proceedings under the Exchange Act. Before the enactment of this section, the

Commission could impose civil penalties in administrative proceedings against

regulated individuals and entities. Since its enactment, remedies available to

the Commission in an administrative proceeding are generally coextensive

with remedies available in federal court. Bebo argues that this statute violates

the Constitution because it allows the Commission “unguided discretion” to

choose the forum for bringing an action against a respondent and thereby

choose whether a jury trial is available. Resp’t Post-hr’g Br. at 220 (Aug. 3,

2015). Bebo argues that this violates the rights of equal protection and due

process and that Section 929P(a) is unconstitutional on its face. Id. at 221.

The Commission lacks the power to invalidate an act of Congress as

unconstitutional. William J. Haberman, Exchange Act Release No. 40673,

1998 WL 786945, at *3 n.14 (Nov. 12, 1998), pet. denied, 205 F.3d 1345 (8th

Cir. 2000). Even so, I will analyze Bebo’s claim that this portion of Dodd-Frank

is unconstitutional for two reasons. First, Bebo was directed to first defend

herself in this proceeding and then raise her constitutional claims before a

court of appeals, despite the Commission’s lack of authority to decide this issue.

See Bebo v. SEC, 799 F.3d 765, 773, 775 (7th Cir. 2015). Second, although the

Commission lacks jurisdiction to invalidate a statute, the public interest may

warrant a proceeding’s dismissal if enforcement against a particular

respondent would be unconstitutional. If Bebo is correct that Section 929P is

facially unconstitutional, it would necessarily be unconstitutional as applied to

her, and dismissal would be appropriate. See Wash. State Grange v. Wash.

State Republican Party, 552 U.S. 442, 449 (2008) (“[A] plaintiff can only

succeed in a facial challenge by ‘establish[ing] that no set of circumstances

exists under which the Act would be valid,’ i.e., that the law is unconstitutional

in all of its applications.” (quoting United States v. Salerno, 481 U.S. 739, 745

(1987))).

Equal Protection

Bebo argues that because Section 929P gives the Commission authority to

bring an enforcement action in an administrative proceedings or in federal

court, it divides respondents into two classes, treated unequally. But unlike in

the two cases that she cites, Baxstrom v. Herold, 383 U.S. 107 (1966), and

Humphrey v. Cady, 405 U.S. 504 (1972),1 Section 929P does not create any

objectively identifiable classes of people to be treated differently. See Engquist

v. Or. Dep’t of Agric. , 553 U.S. 591, 601 (2008) (“[T]he basic concern of the

Equal Protection Clause is with … legislation whose purpose or effect is to

create discrete and objectively identifiable classes.” (quoting San Antonio

Indep. Sch. Dist. v. Rodriguez, 411 U.S. 1, 60 (1973) (Stewart, J., concurring)

(first alteration in original))). Instead, it gives the Commission discretion over

the choice of forum. The Commission’s discretion is not limited to one

statutorily defined group, such as prisoners, while others are not subject to

that discretion. See Humphrey, 405 U.S. at 512; Baxstrom, 383 U.S. at 114–15.

Bebo separately challenges this discretion in an as-applied, class-of-one

challenge, which is addressed below. For her facial equal protection challenge,

Section 929P “neither burdens a fundamental right nor targets a suspect

class.” Romer v. Evans, 517 U.S. 620, 631 (1996). Because Bebo has not shown

that the statute even involves a legislative classification—let alone an

irrational one—her claim fails. Cf. Heller v. Doe, 509 U.S. 312, 319–20 (1993).

Baxstrom addressed a New York statute that determined availability of

jury review for civil commitment based on whether an individual is

incarcerated, 383 U.S. at 110, and Humphrey addressed a Wisconsin statute

that allowed non-jury process for civil commitment of some prisoners in

contrast to a general civil-commitment statute, 405 U.S. 511–12.

Section 929P does not on its face treat any class of person differently from any

other.

Bebo’s argument that Section 929P “clearly discriminates against an

identifiable group—respondents who intend to exercise their constitutional

right to a jury trial in an SEC enforcement action”—is wrong. Resp’t Const.

MSD Reply Br. at 4–5 (Apr. 3, 2019). Even if this were an objectively

identifiable class, the statute does not prescribe different treatment for people

inside and outside of the group. Some people inside the group receive their

preferred outcome—a jury trial in federal court. There is no indication that the

statute was designed to discriminate against any class of respondents. Bebo’s

arguments about unfettered discretion and arbitrariness are not valid facial

attacks on the statute. Bebo has not established that Section 929P is

unconstitutional in every application. Wash. State Grange, 552 U.S. at 449.

Due Process

Bebo argues that Section 929P violates due process because it allows the

Commission to penalize a citizen for asserting the Seventh Amendment right

to a jury trial. Resp’t Const. MSD Br. at 17 (Mar. 1, 2019); Resp’t Post-hr’g Br.

at 224–27. But there is no evidence that the Commission has targeted her or

anyone else on this basis. The Supreme Court has confirmed the

constitutionality of nonjury administrative proceedings. The statute simply

allows the Commission to choose between two lawful forums.

The Seventh Amendment provides that “[i]n Suits at common law, … the

right of trial by jury shall be preserved.” U.S. Const. amend. VII. The right to

a jury trial extends to statutory causes of action, so long as the statute “creates

legal rights and remedies … enforceable in an action for damages in the

ordinary courts of law.” Curtis v. Loether, 415 U.S. 189, 193–94 (1974). But

there is a distinction for “cases in which the Government sues in its sovereign

capacity to enforce public rights.” Atlas Roofing Co. v. Occupational Safety &

Health Review Comm’n, 430 U.S. 442, 450 (1977). When enacting a statute

with a new public right, Congress has the authority to assign adjudication of

the public right to an administrative agency without the right to a jury trial.

Id. And Congress may do this “even if the Seventh Amendment would have

required a jury where the adjudication of those rights is assigned instead to a

federal court of law.” Id. at 455

Congress was thus permitted to assign the adjudication of public rights

under the Exchange Act to the Commission. The statutory causes of action in

this proceeding are exactly the type of public rights that the Court has

approved for nonjury adjudication because the “statutory cause of action

inheres in, or lies against, the Federal Government in its sovereign capacity.”

Granfinanciera, S.A. v. Nordberg, 492 U.S. 33, 53 (1989); see Atlas Roofing, 430

U.S. at 461 (Seventh Amendment does not bar Congress from assigning

enforcement of workplace health and regulations to administrative tribunal).

Bebo argues that the statute violates due process because it gives the

Commission the ability to bring in action in an administrative forum or in

federal court. Bebo suggests that the Commission might bring an action in

federal court, wait to see if the defendant asserts the right to a jury, and then

dismiss that action and bring an administrative proceeding instead. Bebo

presents no evidence of this ever having occurred but argues that the fact it

could hypothetically occur is enough to invalidate the statute. Resp’t Const.

MSD Br. at 17.

United States v. Jackson, 390 U.S. 570 (1968), one of two decisions that

she claims support her, did not involve prosecutorial discretion to choose

between forums. Resp’t Const. MSD Br. at 14–15. In Jackson, the Supreme

Court invalidated part of a federal statute that exposed criminal defendants to

the death penalty if they asserted their jury trial right in certain cases but did

not provide for the possibility of capital punishment in the event of a guilty

plea or waiver of a jury trial. 390 U.S. at 570–71, 582–83. Nothing in DoddFrank suggests that the Commission’s choice of an administrative forum or the

range of sanctions available in this forum are causally connected to the

assertion of a constitutional right.

The second case on which she relies, Blackledge v. Perry, 417 U.S. 21

(1974), was not a facial challenge and did not strike down the “state statutory

regime” that authorized prosecutorial discretion. Resp’t Const. MSD Br. at 17.

The Court found unconstitutional the application of that discretion—bringing

a felony charge against the defendant after he exercised his right to appeal to

a jury on the original misdemeanor conviction. Perry, 417 U.S. at 28–29. Bebo

might have a claim, then, if the Commission carried out her hypothetical, but

it is not a valid facial attack on the Exchange Act.

Under Atlas Roofing and Granfinanciera, Congress could have assigned

adjudication of public rights under the Exchange Act solely to an

administrative forum. Congress instead chose to assign adjudication to the

Commission’s administrative process and the federal judiciary—and gave the

Commission the discretion to choose the forum. The Constitution permits this.

Equal Protection—Class of One

Bebo asserts that the Commission violated her constitutional right to

equal protection by bringing an administrative proceeding against her when it

brought actions against others in federal court. In general, equal protection

claimants must establish that they are a member of a protected class. But the

Supreme Court has also recognized equal protection claims brought by a “class

of one.” A class-of-one claim arises when the claimant is treated differently

from similarly situated individuals without a rational basis for the difference.

Vill. of Willowbrook v. Olech, 528 U.S. 562, 564 (2000). Bebo asserts that the

Commission has arbitrarily treated her differently from similarly situated

litigants, and she has sought discovery to support this claim. See Resp’t Supp’l

Post-hr’g Br. at 43 (Sept. 30, 2019). But Bebo’s class-of-one argument fails

because the Commission’s discretionary choice to bring this action in an

administrative forum cannot be attacked in a class-of-one equal protection

claim.

The Supreme Court has explained that some categories of governmental

decision-making involve discretionary, individualized choices and are not

amenable to class-of-one discrimination claims. Engquist, 553 U.S. at 603. “In

such cases the rule that people should be ‘treated alike, under like

circumstances and conditions’ is not violated when one person is treated

differently from others, because treating like individuals differently is an

accepted consequence of the discretion granted.” Id. The Supreme Court

illustrated this point with a hypothetical of a traffic officer giving speeding

tickets. If the officer gives a speeding ticket to one speeder but not to some

other drivers going the same speed, the ticketed speeder has no cognizable

class-of-one claim—such a claim would be “incompatible with the discretion

inherent in the challenged action.” Id. at 604.

The Commission’s choice of forum is one of those discretionary actions that

cannot be challenged on a class-of-one basis. Federal courts have held that

“Engquist precludes [class-of-one] challenges to prosecutors’ decisions about

whom, how, and where to prosecute.” Charles L. Hill, Jr., Exchange Act

Release No. 79459, 2016 WL 7032731, at *2 & n.21 (Dec. 2, 2016) (citing United

States v. Green, 654 F.3d 637, 650 (6th Cir. 2011)); United States v. Moore, 543

F.3d 891, 901 (7th Cir. 2008)). The conclusion that class-of-one claims are

incompatible with discretionary decisions in prosecutorial enforcement of the

criminal laws applies with equal force to administrative enforcement of the

securities laws. See Del Marcelle v. Brown Cty. Corp., 680 F.3d 887, 905 (7th

Cir. 2012) (en banc) (Easterbrook, C.J., concurring) (“[T]here is no class-of-one

doctrine in federal administrative law, any more than in criminal law.”).

The Commission has repeatedly found that a class-of-one equal protection

challenge to proceeding in an administrative forum is not legally cognizable.

See Hill, 2016 WL 7032731, at *2 & n.21; see also Mohammed Riad, Exchange

Act Release No. 78049A, 2016 WL 3627183, at *50 (July 7, 2016), set aside on

other grounds, No. 16-1275 (D.C. Cir. Sept. 19, 2018); David F. Bandimere,

Exchange Act Release No. 76308, 2015 WL 6575665, at *17–19 (Oct. 29, 2015),

pet. granted on other grounds, 844 F.3d 1168 (10th Cir. 2016); Timbervest, LLC,

Advisers Act Release No. 4197, 2015 WL 5472520, at *28–30 (Sept. 17, 2015),

set aside on other grounds, No. 15-1416 (D.C. Cir. Nov. 19, 2018). These three

Commission decisions have been set aside as a result of Appointments Clause

challenges and the Supreme Court’s decision in Lucia and are therefore not

binding precedent. Nevertheless, the reasoning in these decisions remains

persuasive and sound. “[T]he Commission’s decision to bring charges in one

forum rather than another is an inherently discretionary one,” and for the

reasons set forth by the Supreme Court in Engquist and the Seventh Circuit

in Moore, a respondent cannot challenge that decision on a class-of-one basis.

Riad, 2016 WL 3627183, at *50.

Because Bebo cannot prevail on her equal protection class-of-one claim,

her request for discovery to support it was properly denied.

ALJ Appointment

Bebo argued in her post-hearing brief that Commission administrative

law judges are “inferior officers” whose appointment must conform to the

requirements of the Appointments Clause. Resp’t Post-hr’g Brief at 229. This

argument proved correct. In 2018, the Supreme Court held that Commission

administrative law judges were subject to the Appointments Clause. Lucia v.

SEC, 138 S. Ct. 2044, 2049 (2018). Because the judge who heard Lucia was not

appointed in a way that conformed to the requirements of the Constitution, the

Supreme Court ordered a new hearing before the Commission or a properly

appointed administrative law judge. Id. at 2055.

The Commission has implemented the remedy prescribed by the Supreme

Court in all cases, including this one, pending before it at the time of the

Court’s decision. The Commission cured the underlying Appointments Clause

deficiency by ratifying, as head of a department, the prior appointment of its

administrative law judges. Pending Admin. Proc., Exchange Act Release No.

32929, 2017 WL 5969234, at *1 (Nov. 30, 2017); Pending Admin. Proc.,

Exchange Act Release No. 83907, 2018 WL 4003609, at *1 (Aug. 22, 2018) (“In

an abundance of caution and for avoidance of doubt, we today reiterate our

approval of their appointments as our own under the Constitution.”).

Ratification by the proper authority cures a prior unauthorized action as long

as the party ratifying had the authority to do the act at the time the act was

done and also has the authority at the time of ratification. FEC v. NRA

Political Victory Fund, 513 U.S. 88, 98 (1994); see FEC v. Legi-Tech, Inc., 75

F.3d 704, 709 (D.C. Cir. 1996). That condition is satisfied here.

The Commission vacated the initial decision previously issued and

ordered that “respondents be provided with the opportunity for a new hearing

before an ALJ who did not previously participate in the matter.” Pending

Admin. Proc., 2018 WL 4003609, at *1. Bebo was provided with that

opportunity.

Bebo argues, however, that the Supreme Court’s decision in Lucia

“rendered the OIP in this case legally invalid and statutorily defective.” Resp’t

Const. MSD Br. at 23. Bebo asserts that since the OIP ordered a hearing before

an administrative law judge and the Commission’s administrative law judges

were, at the time the OIP was issued, not properly appointed, “the OIP never

instituted valid proceedings and was itself a nullity.” Id. at 24. The only way

for the Commission to proceed against Bebo, she asserts, would be to issue a

new OIP, and because that proceeding would be barred by the statute

limitations, this case must be dismissed. Id. at 25.

That logic is flawed. The original OIP complied with the requirements of

the Exchange Act and the Commission’s Rules of Practice. See 15 U.S.C. § 78u3(b) (requiring the OIP for a cease-and-desist proceeding to set a hearing date

30 to 60 days after service); 17 C.F.R. § 201.200(b) (requiring the OIP to state

the nature of the hearing, legal authority and jurisdiction under which it is

held, a statement of the fact and law to be considered, and the nature of any

relief sought). The Commission had the authority to institute the proceeding

and order a hearing before an administrative law judge. 15 U.S.C. § 78v. An

OIP issued by the Commission does not depend on the valid appointment of an

administrative law judge, as the Commission could assign a proceeding to itself

at any time. Nothing in Lucia changed that.

Bebo argues that because none of the administrative law judges employed

by the Commission at the time the OIP was issued was validly appointed, the

OIP was defective. But the case law she cites is not on point. In Pereira v.

Sessions, 138 S. Ct. 2105, 2110 (2018), for example, the Court found invalid a

notice to appear at immigration removal proceedings that did not provide the

time and place for the hearing. The applicable statute required the notice to

contain the time and place. Id.; 8 U.S.C. § 1229(a)(1)(G)(i). The OIP in this

proceeding, by contrast, contained everything required by statute and the

Commission’s own rules. Bebo also points to cases holding that a defect in a

hearing officer’s appointment “was an irregularity which would invalidate a

resulting order.” United States v. L.A. Tucker Truck Lines, Inc., 344 U.S. 34,

38 (1952); see also Freytag v. Commissioner, 501 U.S. 868, 879 (1991); Papasan

v. Allain, 478 U.S. 265, 276 (1986). But here, as in Tucker Truck Lines, the

invalid appointment is not a defect that “deprives the Commission of power or

jurisdiction,” and the defect in appointment of the administrative law judge

did not cause the OIP to become a nullity. 501 U.S. at 38.

ALJ Tenure Protection

Bebo challenges as unconstitutional the tenure protection afforded to

administrative law judges. The previous presiding administrative law judge

rejected this argument in an order denying Bebo’s motion for summary

disposition for constitutional violations. Bebo, Admin. Proc. Rulings Release

No. 6571, 2019 SEC LEXIS 1094, at *7–8 (ALJ May 10, 2019). Although the

Supreme Court has not expressly ruled on this issue, there is no basis to set

aside the prior ruling, as explained below. See Lucia, 138 S. Ct. at 2050 n.1

(declining the solicitor general’s invitation to address the removal issue).

Commission administrative law judges are afforded tenure protection. An

administrative law judge may be removed from office “only for good cause

established and determined by the Merit Systems Protection Board.” 5 U.S.C.

§ 7521. Bebo argues that this is a problem because members of the Merit

Systems Protection Board may themselves be removed “only for inefficiency,

neglect of duty, or malfeasance in office.” 5 U.S.C. § 1202(d). And the Supreme

Court has assumed—but not decided—that the Commissioners may only be

removed under the same standard. Free Enter. Fund v. PCAOB, 561 U.S. 477,

487 (2010).2 In Free Enterprise Fund, the Supreme Court invalidated the duallayer tenure protection given to members of the PCAOB in the Sarbanes-Oxley

Act. Id. at 492. According to Bebo, administrative law judges’ multiple layers

of tenure protection interfere with the President’s ability to oversee the

executive branch in the same way. Resp’t Const. MSD Br. at 20 (citing Free

Enter. Fund, 561 U.S. at 484).

The Commission has rejected the argument that administrative law

judges’ tenure protection offends the Constitution. E.g., optionsXpress, Inc.,

Securities Act Release No. 10125, 2016 WL 4413227 (Aug. 18, 2016). In

optionsXpress, the Commission identified three relevant reasons why the

current removal restrictions are permissible: (1) administrative law judges

perform adjudicative rather than core executive functions; (2) the Commission

has other means to exercise control over its administrative law judges; and (3)

the adjudicatory system set up by the Administrative Procedure Act, including

tenure protection for administrative law judges, has a long history. Id. at *51–

52.3

The Securities Exchange Act of 1934 predated the Supreme Court’s

decision Humphrey’s Executor v. United States, 295 U.S. 602 (1935), and the

statutory text contains no mention of tenure protection.

The Commission also noted that civil servants who are not officers may

have multiple layers of removal protection, 2016 WL 4413227, at *51, but the

Adjudicative function

In Free Enterprise Fund, the Court noted that its holding that the

PCAOB’s tenure protection was unconstitutional did not address the tenure

protection afforded to administrative law judges. Free Enter. Fund, 561 U.S. at

507 n.10. The Court explained that, contrary to members of the PCAOB,

administrative law judges “perform adjudicative rather than enforcement or

policymaking functions.” Id. This difference in function is important because

the Court has approved limitations on presidential removal authority for

positions with purely adjudicatory functions. Wiener v. United States, 357 U.S.

349, 356 (1958); Free Enter. Fund v. PCAOB, 537 F.3d 667, 699 n.8 (D.C. Cir.

2008) (Kavanaugh, J., dissenting) (“ALJs perform only adjudicatory functions

that are subject to review by agency officials, … and that arguably would not

be considered ‘central to the functioning of the Executive Branch’ for purposes

of the Article II removal precedents.”); cf. Seila Law LLC v. CFPB, 140 S. Ct.

2183, 2200 (2020) (recognizing an exception allowing restrictions on removal

of “inferior officers with limited duties and no policymaking or administrative

authority”); Morrison v. Olson, 487 U.S. 654, 691 (1988) (finding restrictions

on removal permissible where the President’s need to control an official is not

“central to the functioning of the Executive Branch”). According to one legal

scholar, the “insulation of adjudicators from removal at will” is a “longstanding

and largely unquestioned understanding [that] has developed into a very

strong convention.” Naomi Rao, Removal: Necessary and Sufficient for

Presidential Control, 65 Ala. L. Rev. 1205, 1247–49 (2014) (“[T]here are some

good reasons for the conventional and established view that the President’s

control does not require at will removal for administrative law judges or other

officials who solely adjudicate within the executive branch.”).

Other means of control

The problem the Supreme Court saw in the structure of the PCAOB was

one of control. The Court found that the Commission, lacking the power to

remove PCAOB members, could not adequately control its functions. Free

Enter. Fund, 561 U.S. at 504. The PCAOB could “take significant enforcement

actions … largely independent of the Commission,” and the Commission lacked

the “effective power to start, stop, or alter” PCAOB investigations. Id. In stark

contrast, the Commission has all those powers over its administrative law

judges. It chooses what proceedings, if any, are to be presided over by an

administrative law judge. 17 C.F.R. § 201.110. It may direct that any matter

before an administrative law judge be submitted to it for review at any time.

Supreme Court’s holding that administrative law judges are officers eliminates

that argument.

Id. § 201.400(a). It may review any initial decision by an administrative law

judge, and this review is plenary both as to law and facts. Id. §§ 201.410–.411;

see 5 U.S.C. § 557(b) (“On appeal from or review of the initial decision, the

agency has all the powers which it would have in making the initial decision

except as it may limit ….). With these effective means of control, there is no

doubt that the final agency decision in an administrative proceeding is the

Commission’s. The public could readily determine “on whom the blame” for a

bad decision “ought really to fall.” Free Enter. Fund, 561 U.S. at 498 (quoting

The Federalist No. 70 (Alexander Hamilton) (Jacob Cooke ed. 1961)). This

control reduces the constitutional need for authority to remove judges at will.

Significant history

In Free Enterprise Fund, the Supreme Court highlighted the “highly

unusual” structure of the PCAOB. Free Enter. Fund, 561 U.S. at 505. It quoted

then-Judge Kavanaugh below observing that “the most telling indication of the

severe constitutional problem with the PCAOB is the lack of historical

precedent” for an independent agency “appointed by and removable only for

cause by another independent agency.” Id. at 505–06 (quoting Free Enter.

Fund, 537 F.3d at 699 (Kavanaugh, J., dissenting)); see Seila Law, 140 S. Ct.

at 2201. The system of administrative law judges, including their removal

protections, has a history that dates back to 1946. See Administrative

Procedure Act, Pub. L. 79-404, § 11, 60 Stat. 237, 244 (1946) (“Examiners shall

be removable by the agency in which they are employed only for good cause

established and determined by the Civil Service Commission … after

opportunity for hearing and upon the record thereof.”). The removal protection

was not ancillary to the APA, but a significant objective of Congress in creating

a fairer adjudicatory system.

***

Because administrative law judges are limited to an adjudicatory role and

have no executive or policymaking function, are subject to control through the

Commission’s plenary review of any matter at any time, and have a long

history of removal protections, the problems with multiple layers of tenure

protection identified by the Supreme Court in Free Enterprise Fund are not

present. The removal protections do not violate the Constitution.

Finally, even if the removal protections were unconstitutional, the remedy

would be severance of the removal protections, not dismissal. See, e.g., Free

Enter. Fund, 561 U.S. at 508–09. That remedy provides no help to Bebo. See

Collins v. Mnuchin, 938 F.3d 553, 592–95 (5th Cir. 2019) (en banc), cert.

granted, No. 19-563 (July 9, 2020). Invalidation of the actions of an

unconstitutional agency or officer are limited to those cases where actors “were

granted power inconsistent with their role in the constitutional program” or

“were not properly appointed” because in both cases the actors “were vested

with authority that was never properly theirs to exercise.” Id. at 593. By

contrast, where the problem is that a properly appointed officer is “too distant

from presidential oversight to satisfy the Constitution’s requirements,” the

“only judgment” Bebo is “entitled to is the one the Supreme Court has given in

similar removal-restriction cases,” which is severance of the offending removal

protections. Id. at 593, 595; see also Seila Law, 140 S. Ct. at 2210–11; cf. Barr

v. Am. Ass’n of Political Consultants, Inc., 140 S. Ct. 2335, 2356 (2020)

(Kavanaugh, J., plurality op.) (rejecting challenge to “the Court’s current

approach” to severability, which “is constitutional, stable, predictable, and

commonsensical”). Therefore, even if Bebo’s tenure protection argument were

correct, dismissal of the proceeding would not be the appropriate remedy.

Procedural Due Process

In Bebo’s post-hearing brief, she raised many objections to the process

afforded in the original hearing—both to the general structure and rules of the

Commission’s administrative proceedings and also to specific evidentiary

rulings. She also asserted that the Division’s conduct in preparing witnesses

for the hearing compromised “the fundamental fairness of the hearing.” Resp’t

Post-hr’g Br. at 245.

Due process is afforded in Commission administrative proceedings.

Bebo asserted that in this administrative proceeding she was given

inadequate time to prepare her defense; lacked sufficient access to evidence

and witnesses compared to a similar action in federal court; and, because the

Federal Rules of Evidence and Federal Rules of Civil Procedure did not apply,

unreliable evidence was admitted against her. Resp’t Posthr’g Br. at 238–41,

247–51.

The Supreme Court has held that the Due Process Clause requires “some

form of hearing … before an individual is finally deprived of a property

interest.” Matthews v. Eldrigde, 424 U.S. 319, 333 (1976). “The fundamental

requirement of due process is the opportunity to be heard ‘at a meaningful time

and in a meaningful manner.’” Id. (quoting Armstrong v. Manzo, 380 U.S. 545,

552 (1965)); see also Jonathan Feins, Exchange Act Release No. 41943, 1999

WL 770236, at *7 (Sept. 29, 1999) (“Administrative due process is satisfied

where the party against whom the proceeding is brought understands the

issues and is afforded a full opportunity to meet the charges during the course

of the proceeding.”).

The Commission’s Rules of Practice provide for a hearing that provides

the meaningful process required by the Constitution. “[C]ourts have

consistently held that agencies need not observe all the rules and formalities

applicable to courtroom proceedings.” McClelland v. Andrus, 606 F.2d 1278,

1285 (D.C. Cir. 1979). It is not a violation of due process that the rules permit

the admission of evidence that would be excluded under the Federal Rules of

Evidence. See EchoStar Comm’ns Corp. v. FCC, 292 F.3d 749, 753 (D.C. Cir.

2002) (explaining that administrative agencies may consider hearsay if it

appears reliable). Nor is it a violation that discovery is more limited than would

be the case under the Federal Rules of Civil Procedure. See NLRB v. Valley

Mold Co., 530 F.2d 693, 695 (6th Cir. 1976) (“It is well settled that parties to

judicial or quasi-judicial proceedings are not entitled to discovery as a matter

of constitutional right.”); see also Hill, 2016 WL 7032731, at *3 (“[T]he fact that

the Federal Rules of Civil Procedure and the Federal Rules of Evidence do not

apply in administrative proceedings is not a violation of due process.”); cf. Opp

Cotton Mills, Inc. v. Adm’r of Wage & Hour Div. of Dep’t of Labor, 312 U.S. 126,

155 (1941) (“[I]t has long been settled that the technical rules for the exclusion

of evidence applicable in jury trials do not apply to proceedings before federal

administrative agencies in the absence of a statutory requirement that such

rules are to be observed.”). The discovery permitted was not insignificant, and

the entire record was sufficiently substantial to provide for a meaningful and

vigorous defense of the allegations.

As for the time allowed for preparation of that defense, the hearing was

held over several weeks in April, May, and June 2015, four to six months after

the OIP was issued. Moreover, the issuance of the OIP was not the first

moment Bebo learned of the allegations against her. She was aware of the

Commission’s investigation from at least October 2013, when the Division first

took her investigative testimony. In June 2014, the Division informed her that

it was recommending an enforcement action against her, and she made her

first of three Wells submissions in August 2014. In any event, the

Commission’s remand order afforded Bebo the opportunity for a new hearing

and consequently more time to prepare a defense. The parties instead agreed

to proceed with the record created in the first hearing, with minor exceptions,

so Bebo cannot continue to claim that she was afforded insufficient time.

Regardless of the opportunity provided on remand, the time provided did not

violate due process.

Evidentiary rulings did not violate due process.

Bebo asserts that various evidentiary rulings made during the hearing

were unfair and prejudicial. These rulings include allowing the Division to

admit declarations as evidence, admitting unreliable evidence, partially

quashing a third-party subpoena sought by Bebo, prohibiting certain questions

on cross-examination of witnesses, and denying the opportunity to seek

discovery of possible spoliation of evidence by a third party. Resp’t Post-hr’g

Br. at 249–62.

The parties’ agreement for the conduct of the proceeding on remand

provided that, with several narrow exceptions, no new discovery would take

place. Bebo, 2018 SEC LEXIS 3561, at *2–8. This waived any objection to the

denial of discovery about spoliation. The parties agreed to preserve objections

to the admissibility of admitted evidence for review by the Commission but did

not contest the bulk of those decisions following remand. Id. at *8 (“As to

evidence that was previously admitted in the record, all admissibility

objections would be preserved for Commission review. However, all evidence

previously admitted would remain admitted for the purpose of [the presiding

judge’s] review and the parties would continue to be able to make arguments

about the weight or relevance of such evidence.”). Because I have not been

asked to review the admissibility of this evidence, it would be inappropriate to

find that the evidence’s admission was a violation of due process. In any event,

as the Commission may cure procedural and evidentiary errors upon de novo

review, Bebo’s disagreement with prior rulings is not a valid basis for

dismissal. See Ronald S. Bloomfield, Securities Act Release No. 9553, 2014 WL

768828, at *10 & n.54 (Feb. 27, 2014), pet. denied, 649 F. App’x 546 (9th Cir.

2016).

Bebo has not established misconduct by the Division.

Bebo argues that the Division improperly influenced witnesses during the

investigation by mentioning criminal referrals and the Fifth Amendment

privilege against self-incrimination. Resp’t Posthr’g Br. at 242–45. Bebo also

asserts that certain witness testimony reflects rehearsal and is unreliable. Id.

at 245–47. But Bebo points to no authority showing that the Division’s conduct

was improper, and there is no evidence that any witness was coerced to testify

falsely. As for witnesses, I independently reviewed the testimony and have

reached my own conclusions about reliability.

***

Bebo’s due process objections are without merit.

The Milbank memoranda and notes help corroborate some testimony

and resolve some inconsistencies.

The parties disagree about the weight and interpretation to be given to

Milbank attorneys’ interview memoranda for those witnesses who testified live

at the prior hearing, and, by logical extension, the notes underlying those

memoranda. See, e.g., Div. Supp’l Post-hr’g Br. at 22-24 (Sept. 27, 2019); Resp’t

Supp’l Post-hr’g Reply Br. at 25-30 (Nov. 4, 2019); see also Jt. Supp’l Exs. 1 &

2. The parties’ adopted stipulation is dispositive of the permitted use of the

Milbank interview memoranda, as the parties agreed that the relevant

memoranda “may be admitted into evidence and utilized by the parties for the

purposes of identifying impeachment or corroboration material and

supplemental briefing”; the parties also stipulated that no sponsoring witness

was needed, the memoranda were prepared by Milbank attorneys in the course

of an internal investigation, and they were not verbatim witness statements

unless explicitly indicated by quotation marks. Bebo, 2019 SEC LEXIS 1836,

at *3.

There is no dispute that the witness statements in the interview

memoranda and notes are hearsay. See Fed. R. Evid. 801(c); Hook v. Regents

of Univ. of Cal., 394 F. App’x 522, 530–31 (10th Cir. 2010).4 In Commission

administrative proceedings, the weight of hearsay evidence is evaluated based

on several non-exclusive factors, including

the motives or potential bias of the declarant; the

availability and credibility of the declarant; whether the

statements are contradicted or consistent with direct

testimony; the type of hearsay (e.g., sworn, written,

attributable to an identified person); the availability of

the missing witness and any attempts to compel witness

testimony; and whether or not the hearsay is corroborated

by other evidence in the record.

Amendments to the Commission’s Rules of Practice, 81 Fed. Reg. 50,212,

50,226–27 (July 29, 2016); see also Hoska v. U.S. Dep’t of the Army, 677 F.2d

131, 138–39 (D.C. Cir. 1982); Guy P. Riordan, Securities Act Release No. 9085,

2009 WL 4731397, at *14 (Dec. 11, 2009), pet. denied, 627 F.3d 1230 (D.C. Cir.

2010), abrogated on other grounds by Kokesh v. SEC, 137 S. Ct. 1635 (2017).

Although the Division argues that the memoranda are entitled to sparing

weight, see, e.g., Div. Supp’l Post-hr’g Br. at 22–23, I find that they are

Although the Federal Rules of Evidence do not govern admissibility in this

administrative proceeding, City of Anaheim, Exchange Act Release No. 42140,

1999 WL 1034489, at *2 (Nov. 16, 1999), those rules can provide helpful

guidance on issues not directly addressed by the Commission’s Rules of

Practice. Cf. Yanopoulos v. Dep’t of Navy, 796 F.2d 468, 471 (Fed. Cir. 1986)

(“Although the Federal Rules of Evidence do not apply to Board hearings, they

are a helpful guide to proper hearing practices.” (internal citation omitted));

Wheat, First Sec., Inc., Exchange Act Release No. 48378, 2003 WL 21990950,

at *12 n.55 (Aug. 20, 2003) (“Even if the Federal Rules of Evidence applied, the

law judge properly admitted the evidence as non-hearsay.”).

generally helpful for the parties’ agreed purposes. First, the interviews were

taken more than two-and-a-half years before the hearing, when memories were

presumably fresher. Second, the documents’ authors were Milbank attorneys,

who are ostensibly skilled in conducting and memorializing interviews in the

context of internal investigations. Here, I can do more than just presume

counsel’s skill. Having reviewed the various memoranda, I find them to be

creditably detailed accounts of information disclosed during the interviews.

Although Milbank was hired by ALC, there is no indication that they were

directed or encouraged to reach a particular result. Insofar as I cite statements

from the memoranda in this decision, those statements have been evaluated

against the hearing record for consistency and corroboration, considering

possible witness bias or motives.

Interestingly, while Bebo generally advocates reliance on the Milbank

memoranda, when it comes to her Milbank interviews, she asks that I reject

the Division’s use of the memo to impeach her, because it:

(i) was the first time Bebo was interviewed in-depth about

these issues, (ii) occurred over three years after she

contacted the Board and its members about employee

leasing, (iii) was conducted prior to Bebo having the

benefit of having her recollection refreshed with a

multitude of materials, (iv) was focused on events (e.g.,

the Ventas lease and employee leasing) that were

generally immaterial from her and ALC’s perspective and

thus unlikely to be at the forefront of her recollection, and

(v) focused on events and conversations that occurred in

an extremely condensed time period.

Resp’t Supp’l Post-hr’g Reply Br. at 35.

Yet, these objections pertain equally to every other individual interviewed

by Milbank. Cf. id. Even if this was Bebo’s first in-depth interview, there is no

indication that she was taken by surprise about the subject matter. In addition,

Bebo, among other witnesses, appeared with her own chosen counsel when

interviewed by Milbank. Although in no instance do I find that the Milbank

memoranda are, by themselves, dispositive, they still serve to corroborate

certain points made by witnesses, as well as to help resolve certain

inconsistencies. Although I do not rely on it in this decision, for the purpose of

establishing the record evidence, this reasoning also applies to Joint

Supplemental Exhibit No. 2, which contains the handwritten attorney notes

underlying the memoranda.

Bebo’s testimony often lacked credibility.

The Division disputes Bebo’s credibility, and it is best to address the issue

as a preliminary matter. The Division claims that “Bebo was impeached

approximately 35 times over the course of the hearing.” Div. Post-hr’g Br. at

45 (Aug. 3, 2015) (citing transcript passages where claimed impeachment

occurred). In addition to the instances of impeachment, the Division notes that

while on the witness stand, Bebo repeatedly evaded questions by providing

non-responsive information, and failed to “provide concise answers to simple

questions.” Div. Post-hr’g Br. at 45 n.20. The Division also claims that Bebo’s

account to Milbank, as detailed in Milbank’s interview memo, contained

thirteen statements that were inconsistent with her hearing testimony. See

Div. Supp’l Post-hr’g Br. at 24–26 (citations omitted). As detailed below in my

factual findings, Bebo’s testimony was often contradicted by the recollections

of other witnesses and her own prior testimony. When Bebo lacked credibility

on relevant issues, I indicate the evidence supporting my credibility

determinations.

I do disagree with the Division on one point. The Division argues that

“Bebo’s best friend, Bucholtz, testified that she knew Bebo to ‘twist the truth’

and had ‘lied to get what she wanted.’” Div. Post-hr’g Br. at 45 (citing Tr. 3016–

17). This testimony, however, relates mainly to an instance of dishonesty that

is unconnected to the Division’s allegations. This one instance does not mean

that Bebo was lying under oath at the hearing to “get what she wanted.”

Findings of Fact

I base the following factual findings on the entire record per the parties’

agreement regarding alternative procedures, see Pending Admin. Proc., 2018

WL 4003609, at *1; on their stipulations, see 17 C.F.R. § 201.324; and on facts

officially noticed from filings in the Commission’s EDGAR database and

publicly available court filings, see id. § 201.323; Global Network Commc’ns

Inc. v. City of N.Y., 458 F.3d 150, 157 (2d Cir. 2006) (public court filings);

Helpeo, Inc., Exchange Act Release No. 82551, 2018 WL 487320, at *4 n.37

(Jan. 19, 2018) (EDGAR filings). I apply preponderance of the evidence as the

standard of proof. See Rita J. McConville, Exchange Act Release No. 51950,

2005 WL 1560276, at *14 (June 30, 2005), pet. denied, 465 F.3d 780 (7th Cir.

2006).

Relevant parties and witnesses

ALC and its CEO Bebo and CFO Buono

Assisted Living Concepts, Inc., was a publicly traded company that

operated assisted living facilities. Ex. 2 at 6. It began trading on the New York

Stock Exchange under the ticker name ALC in 2006. Id. It ceased trading in

2013 when TPG Capital, L.P., took it private. See ALC, Current Report (Form

8-K) (July 16, 2013).

During the pertinent period, Laurie Bebo was ALC’s CEO and president,

as well as a member of its board of directors. Tr. 1764, 1767. She worked as a

senior executive at ALC’s predecessor company and served as ALC’s CEO until

her termination in May 2012. Tr. 1764–65. John Buono was ALC’s chief

financial officer (CFO) and treasurer from approximately 2007 until 2013,

when ALC was taken private. Tr. 2311.

ALC-Related Witnesses

David Hennigar was ALC’s chairman of the board, and through his family

members’ ownership of a holding company, he held beneficial control of a

majority of ALC’s voting shares. Tr. 547–48, 3821–23; see, e.g., Ex. 2073 at 14–

16 (original document pagination). Alan Bell, Derek Buntain, and Charles

Roadman II were members of ALC’s board and its audit committee from 2006

until it went private. Tr. 546, 1353, 2559–60. Melvin Rhinelander was vice

chairman of ALC’s board and the former CEO of ALC’s previous parent

company. Tr. 2796–97.

Eric Fonstad was ALC’s general counsel and secretary from 2006 until

late 2010. Tr. 1296. Mary Zak-Kowalczyck was ALC’s senior corporate counsel

from 2006 until 2013. Tr. 4331. Sitalakshmi Natarajan worked as a payroll

specialist and then payroll manager at ALC (and its successor) from 2011 until

the hearing. Tr. 468–69. Robin Herbner was ALC’s field accounting manager

from 2006 until 2009. Tr. 510–11. Sean Schelfout was a treasury manager at

ALC for about four years starting in 2007. Tr. 965–66. Daniel Grochowski

served as director of tax and then director of treasury for ALC between 2006

and 2014. Tr. 1083–84. Anthony Ferreri was ALC’s assistant controller

between 2005 and 2014. Tr. 1221–22. Jared Houck worked at ALC from 2007

until 2014 with increasing responsibilities in the company’s operations. Tr.

1463–65. Kathy Bucholtz held various positions within ALC and its

predecessor from 1997 until 2013, finally serving as vice president of sales and

marketing. Tr. 2934–35. David Hokeness was ALC’s director of internal audits

from 2006 to 2013. Tr. 3036. Joy Zaffke was Bebo’s executive assistant from

2006 until 2012, and Gale Bebo is Bebo’s mother and was an occasional standin receptionist at ALC. Tr. 3208, 3241–43. John Lucey was ALC’s director of

financial reporting during the relevant time period. Tr. 3678. Jason Dengel

worked at ALC as an accounts receivable specialist between 2011 and 2013.

Tr. 3908.

Bruce Davidson was a corporate law partner at Quarles & Brady, who

worked with ALC on corporate and securities matters. Tr. 2289–90. Melissa

Koeppel and Jeffery Robinson were audit partners at Grant Thornton, ALC’s

external auditor; Koeppel led the audits between 2006 and 2010 and Robinson

led them starting in 2011. Tr. 3307, 3382.5 James Trouba was the concurring

reviewer on the audits from 2010 until 2013. Tr. 3565–66.

Ventas and Related Witnesses

Ventas, Inc., is a real estate investment trust with a “portfolio of seniors

housing and healthcare-related properties.” Ventas, Annual Report at 1 (Form

10-K) (Feb. 29, 2008); see Tr. 159. Eight of its numerous facilities were operated

by BBLRG, LLC (CaraVita), pursuant to a lease in Alabama, Florida, Georgia,

and South Carolina. Tr. 165; Ex. 1.

Timothy Doman was Ventas’s senior vice president and chief portfolio

officer of asset management, and worked there from 2002 through the hearing

date. Tr. 159–60. Joseph Solari was Ventas’s managing director of acquisitions

from 2007 to 2009. Tr. 399–400. Joy Butora was an asset manager at Ventas.

Tr. 891–92.

ALC enters the Ventas lease and discloses it on Form 8-K.

In 2007, Bebo took part in negotiating an agreement between ALC and

Ventas under which ALC would lease eight CaraVita facilities from Ventas

and acquire their operations. Tr. 167–69, 1777; Ex. 1. ALC operated 8,535

assisted living units as of December 31, 2007, and the Ventas facilities added

541 residential units to ALC’s operations. See ALC, Annual Report at 3, 23

(Form 10-K) (Mar. 12, 2008). ALC’s operation of the Ventas facilities was

governed by a lease that subjected ALC to extensive, mandatory covenants.

See Ex. 142 §§ 7.2.1, 8.1–.2.

The lease included “financial covenants” specifying occupancy and

“coverage ratio” requirements. See id. § 8.2.5. The lease defined “coverage

ratio” as each facility’s cash flow for an applicable period (generally, resident

rental income) divided by ALC’s rent payments to Ventas for that facility. Id.

at B-5. For example, if occupant rental income was equal to ALC’s rent

Although it does not inform my decision in this case, I note that Koeppel

and Robinson were barred from practicing before the Commission as

accountants, and Grant Thornton was sanctioned, in part because of their

actions related to ALC’s audits. See Melissa K. Koeppel, CPA, Exchange Act

Release No. 76537, 2015 WL 7755467 (Dec. 2, 2015); Grant Thornton, LLP,

Exchange Act Release No. 76536, 2015 WL 7755463 (Dec. 2, 2015).

payments, the “coverage ratio” would be 1.0, which can also be described as a

ratio of 1:1. As another example, if occupant rental income was only half of

ALC’s rent payments, the “coverage ratio” would be 0.5, or a ratio of 1:2.

Specifically, the lease required that ALC satisfy: (1) 65% quarterly

occupancy at each individual Ventas facility; (2) 75% trailing twelve-month

(TTM) occupancy at each individual facility; (3) 82% TTM occupancy for the

eight facility portfolio; (4) a 0.8 TTM coverage ratio for each facility; and (5) a

1.0 TTM coverage ratio for the entire portfolio. Id. § 8.2.5. Although occupancy

was not a defined term in the lease, Ventas deemed it important that facility

operators calculate occupancy consistently over time in their reports. Tr. 323–

24, 332–33. ALC calculated occupancy based on the number of occupied units,

which was determined using a system called TIPS. Tr. 512, 516, 2795. TIPS

tracked paying residents and counted a unit as occupied if a lease agreement

or payment rendered a resident financially responsible for it. Tr. 512–13,

3028–29. ALC used TIPS to generate each facility’s financial statements and

occupancy data, and the data in TIPS was verified through periodic field

audits. Tr. 512, 516, 519. For each facility, the number of occupied units was

divided by the total number of units, yielding that facility’s occupancy

percentage. Tr. 516, 519. This was ALC’s standard occupancy calculation

method, and it never included employees who stayed at non-Ventas properties

in those properties’ occupancy calculations. Tr. 830, 3010, 4545–46.

The lease required ALC to demonstrate its compliance with the financial

covenants within 45 days of the end of each quarter by providing Ventas with

schedules documenting compliance with the financial covenants, and financial

statements for each facility and the portfolio, prepared in accordance with

generally accepted accounting principles (GAAP). Ex. 142 §§ 25.3, 25.4. Ventas

required GAAP-compliant financial statements so it could rely on the

information prepared by ALC. Tr. 896; Ex. 142 §§ 25.1–.4. The lease also

required that an ALC executive certify the completeness and accuracy of the

information by signing an officer’s certificate and providing it to Ventas with

each quarterly production. Ex. 142 § 25.4 and at Ex. D; Tr. 2323–24; Exs. 32–

45.

In addition to the detailed reports following the close of each quarter, the

lease also required ALC to promptly notify Ventas of any covenant’s breach.

Ex. 142 § 8.2.3(a).

If ALC failed to meet any of the numerous requirements imposed by the

lease, including the above-listed financial covenants, Ventas was entitled to:

(1) terminate the entire lease; (2) evict ALC from all eight facilities; and (3)

require ALC to pay damages equal to the net present value of the unpaid rent

for the remaining term of the lease (through March 2015) for the entire

portfolio. See id. §§ 17.1–.4.

In addition, section 33 of the lease provided that “[a]ll notices, demands,

requests, consents, approvals and other communications … shall be in writing

and delivered” to Ventas’s “Lease Administration” and its “General Counsel,”

unless Ventas designated another official. Id. § 33 (emphasis added). Although

Ventas’s CEO encouraged Bebo to consider Solari a Ventas point of contact

during a conversation that did not involve discussion of covenants, Tr. 1859,

there is no indication that he was ever designated in lieu of Ventas’s lease

administration and general counsel for lease communications contemplated by

section 33. Solari’s own actions and testimony validate this, as he took no

action involving an email following a January 2009 meeting that will be

discussed below and instead turned it over to Doman and William Johnson,

Ventas’s asset manager. Tr. 427–28; see Ex. 184 at 1; Ex. 1343 at 1. Even if

Solari were the designee, that arrangement would have ended upon Solari’s

termination from Ventas later in 2009. See Ex. 1116. Given section 33, Bebo

knew that notices or requests were required to have been in writing to specific

Ventas officials, and that various actions would have only become effective

upon written disclosure to Ventas, and, in some cases, when approved in

writing by Ventas. See Tr. 1781–82.

Bebo knew Ventas had been unwilling to give up these covenants and

other key provisions in the lease negotiations, and that Ventas had

communicated that ALC could either “take it or leave it.” Tr. 552, 1299, 1777;

Ex. 1572. Before ALC decided to enter the lease, Buono warned Bebo that he

was concerned about the covenants. Tr. 2313–14. In an email, he wrote that it

had been difficult working with Ventas and Solari and he expected any

potential relationship would be adversarial. Ex. 140. At that time, ALC did not

try to negotiate more favorable financial covenants or consequences of

noncompliance. Tr. 2317–20.

Bebo was a forceful proponent of the Ventas lease, and presented it to

ALC’s board for acceptance Tr. 548, 1354, 1778, 2803, 2936–37, 3885–86.

Despite Bebo’s zeal, Fonstad and board members Bell and Buntain advocated

against the lease because it contained provisions, including the financial

covenants, that were unfavorable to ALC. Tr. 550–52, 1298–1300, 1355–57,

1779–80, 2320, 2804, 3900–01. In response, Bebo assured the board that ALC

would meet the covenants. Tr. 551, 1781, 2640–41, 2804–05. Based on Bebo’s

assurances, the board—except for Bell and Buntain, who abstained—voted to

enter into the lease. Tr. 552–53, 1356–57, 2805. After reviewing the lease in

its entirety, Bebo signed the lease on behalf of ALC. Ex. 142; Tr. 168–69, 1781–

82.

In Commission filings, Ventas had touted the financial covenants in its

leases as protection against nonpayment of rent. See, e.g., Ex. 2069 at 5; Tr.

309; see also Ventas, Annual Report at 46, 74–75 (Form 10-K) (Feb. 29, 2008)

(Ventas evaluates “collectibility” of “amounts receivable from third parties”

based on “compliance with the financial covenants set forth in the … lease

agreement, … the financial stability of the applicable … tenant and any

guarantor and … the payment history of the borrower or tenant”). Bebo was

aware of this because of her experience in the industry and periodic review of

Ventas’s SEC filings. Tr. 4047–51.

There is also evidence, however, that the consequences for breaching the

covenants would be limited. Doman testified that it was Ventas’s practice to

monitor operators more closely if they breached occupancy covenants, rather

than seeking more drastic remedies. Tr. 265–67, 281–82, 379–80. Rhinelander

stated that he never had any concern about the financial covenants, because if

“you blow through” one, it was “no big deal.” Jt. Supp’l Ex. 1 at 108.

Rhinelander stated that he would not have expected Ventas to try to accelerate

rent or expel ALC for a covenant default because Ventas would not want to

have to find a new tenant; it instead would want to keep a lessee that was

paying rent. Id. At most, he believed that ALC would have to pay “a few

dollars” when renegotiating lease terms and business would continue as usual.

Id. Other witnesses testified that financial covenant violations under leases or

loans usually get resolved with minimal adverse consequences to the tenant or

debtor. Tr. 2298–99 (Davidson’s testimony that notices of default were treated

on a case-by-case basis), 3568 (Trouba’s testimony about practices at audit

clients when covenants violated), 3634–36 (David Smith’s expert testimony

that in financial covenant breaches, “lenders rarely pursue a remedy as harsh

as an acceleration”), 3660–63 (Smith’s testimony indicating “substantial

evidence that in the wake of financial covenant violations, lenders do not

pursue remedies like acceleration, forcing into bankruptcy, foreclosing”); Ex.

2185 at 10–11 (expert report of John Durso, stating that the conditions of the

2008 to 2012 economic crisis affected senior-care facilities industrywide and

“demanded flexibility” between landlords and tenants of the facilities).

There is no indication on this record that Ventas ever sued a tenant for a

financial covenant violation or that anyone at ALC, despite concerns, believed

that Ventas would necessarily seek rent acceleration in response to a financial

covenant violation. Moreover, in August 2011, ALC stated in public

correspondence to the Division of Corporation Finance “that in the unlikely

event of a breach, the consequences would be less severe than those disclosed.”

Ex. 295 at 122837; see ALC, Correspondence (Aug. 4, 2011). Thus, although the

explicit terms of the lease contemplated rent acceleration or other adverse

consequences, the evidence shows that by no later than August 2011 it was

more likely than not that the marketplace would have known that the adverse

consequences referenced in the lease were unlikely.

On January 7, 2008, ALC filed a Form 8-K announcing its entry into the

lease with Ventas, which it termed a material definitive agreement. Ex. 1. The

Form 8-K, which attached the lease as an exhibit, specifically disclosed the

financial covenants and the consequences if ALC failed to comply. Ex. 1 at 2

(of 135 PDF pages). It also attached a press release stating that the residences

“are currently 92% occupied with all private pay residents and are expected to

generate post acquisition annual revenue … of $18.0 million.” Id. at 133. The

lease remained important to ALC’s bottom line throughout 2008; ALC

disclosed in its annual report that its occupancy would have declined if not for

the Ventas properties. ALC, Annual Report at 22–24, 57 (Form 10-K) (Mar. 6,

2009).

Through year-end 2011, ALC’s public filings disclosed the amount of

unpaid rent ALC could have to pay Ventas if it failed the covenants—

approximately $16 million to $26 million. See Ex. 2 at 30; Ex. 3 at 38; Ex. 4 at

42; Ex. 5 at 45; Ex. 6 at 34; Ex. 7 at 36; Ex. 8 at 38; Ex. 9 at 45; Ex. 10 at 32;

Ex. 11 at 36; Ex. 12 at 37; Ex. 13 at 43. Additionally, ALC recorded an

“operating lease intangible asset” on its financial statements, which

represented the present value of the future income streams associated with the

Ventas facilities. At year-end 2009, ALC valued that intangible asset at $11.57

million. Ex. 5 at F-15.

Bebo knew that Ventas viewed occupancy and coverage ratios as indicia

of whether ALC could make its rent payments. Tr. 178, 401, 908–09; Ex. 190

at 3; Ex. 198. Ventas also knew that in the future it would need to find a new

tenant to operate the facilities, and future tenants would pay higher rents for

facilities with better occupancies and cash flows. Tr. 175–76, 381–82, 961–62.

For these reasons, Ventas reviewed and scrutinized the covenant calculations

and financial information provided quarterly by ALC. Tr. 191–97, 404–05,

894–95, 897–98; Exs. 46–60, 147. Ventas also communicated to ALC that it

wanted to preserve the value of its properties while ALC ran them. Tr. 2326–

27; Ex. 198. In addition to scrutinizing the covenant calculations, Ventas held

quarterly conference calls or meetings with Bebo and Buono and periodically

visited the facilities to monitor performance. During these discussions, Ventas

staff asked detailed questions about the financial performance of its facilities.

Tr. 197–208, 899–908, 910–32, 2295–97; Exs. 144, 147, 207, 208, 215, 217, 240,

241, 279, 300, 301.

Bebo knew ALC would likely default on the financial covenants.

Occupancy declined quickly after ALC began operating the Ventas

facilities in 2008. Tr. 750, 2327–28, 3958. Due to that year’s great recession,

occupancy rates at assisted living facilities declined nationwide, and did not

stabilize until late 2012. Ex. 2185 at 10 & Ex. A; see Tr. 3185–86. Bebo, Buono,

and members of ALC’s accounting department regularly reviewed and

monitored occupancy and coverage ratios at the Ventas facilities to prepare the

required quarterly documentation. Tr. 838, 1839, 2321, 2327–28; Ex. 150. As a

result, Bebo knew occupancy was trending downward throughout 2008 and,

for the purpose of the covenants’ trailing twelve-month calculations, that ALC

“could be running into problems with the covenant calculations” and was losing

its best chances to post impressive financial results. Tr. 1849, 1859–60, 3958–

59; Ex. 160; Ex. 3252 at 3.

By August 2008, Bebo and Buono began discussing whether ALC should

purchase the Ventas facilities to avoid the ramifications of missing the

covenants. Tr. 1840–41; Ex. 3015.

ALC’s board required Bebo and Buono to regularly report on ALC’s

compliance with the covenants. Tr. 557, 576–78, 1357, 1785–86, 2321–22,

2807–08; Ex. 98 at 5; Ex. 150. In addition to the initial concerns raised by Bell

and Buntain, Bebo understood that ALC’s board and chairman Hennigar

considered it important to know whether ALC was complying with the

financial covenants. Tr. 1785–86, 1834. At each board meeting following ALC’s

entry into the Ventas lease through February 2012, Bebo and Buono reported

and presented PowerPoint slides showing that ALC was in compliance with

the covenants. Tr. 554–55, 1357, 1837, 2322, 2641–42, 2808.

At the August 2008 board meeting, the directors questioned Bebo and

Buono about the Ventas facilities’ declining occupancy and the implications of

breaching the covenants. Ex. 150. In response, Bebo approved a memo

distributed to the board before its November 2008 meeting, advising that:

“breach of any of the occupancy or financial coverage covenants would entitle

Ventas to terminate the Lease … and require payment of the present value of

unpaid future rental amounts.” Id. at 1; Tr. 2811–12. That memo observed that

“[t]he immediate concern revolves around occupancy. We have deployed a team

of sales persons to the Southeast region who are immediately focused on

improving census at Greenwood Gardens and Peachtree Estates.” Ex. 150 at

4; see also Ex. 567 (listing “SE Task Force Responsibilities”). At the November

2008 meeting, to address the board’s concerns about declining occupancy, Bebo

told the board she would attempt to improve occupancy by sending a

“taskforce” of ALC employees to the Ventas facilities to improve sales and

operations. Tr. 559–60, 2328–30, 2812–13, 2939, 3070–74, 4725–26; Ex. 97 at

4; Ex. 150 at 4; Ex. 567. Bebo did not tell the board she would include the

taskforce members in the covenant calculations. Tr. 560, 2645, 2813. The task

force resulted in a small number of ALC employees, for a limited period,

traveling to and rotating their stays at Ventas facilities to boost occupancy by

improving facilities’ performance. See Jt. Supp’l Ex. 1 at 45.

After the November 2008 board meeting, Bell asked Buono to attempt to

negotiate with Ventas for relief from the financial covenants. Tr. 2330, 3045;

see Ex. 156. Buono investigated the accounting implications of obtaining “a

modification or waiver” of the covenants in exchange for ALC accelerating its

lease payments to Ventas. Tr. 2330–31; Ex. 152. Buono expected Bebo to make

a covenant relief proposal at a meeting Bebo requested in late November 2008

with Ventas’s CEO, Debra Cafaro. Tr. 1850, 2331–33. On November 18, Buono

emailed Bebo his recommendation to seek a suspension of the covenants, and

Bebo planned to discuss this proposal at their meeting with Cafaro. Tr. 1851–

53, 1855–56; Ex. 156. However, when they met with Cafaro, Bebo dodged any

discussion of the covenants, and afterwards Buono expressed his

disappointment. Tr. 410–13, 1856, 1858–59, 2333–34. ALC did not discuss

covenant relief with Ventas in 2008. Tr. 412–13, 1859.

By the December 16, 2008, board meeting, Bebo and Buono believed that

ALC would eventually default on the covenants. Tr. 2334–35. Herbner, ALC’s

field accounting manager who prepared occupancy projections in advance of

the meeting, also believed ALC would violate the covenants unless occupancy

markedly improved. Tr. 754. At the meeting, Bebo told the board that ALC

would meet the covenants as of the end of the year. Tr. 560–61, 753–54, 1861–

62, 2335–36; Ex. 98 at 5. On December 19, 2008, Buono emailed Bebo and again

recommended ALC attempt to negotiate covenant relief with Ventas and

consider buying some Ventas properties as a negotiating strategy. Tr. 2336–

37; Ex. 164. On December 30, 2008, Buono learned that another assisted living

company that leased facilities from Ventas would be purchasing those

properties from Ventas for a very high price. Tr. 2337–39. Buono alerted Bebo

that he believed the reason the company was paying such a high price was

because it ran into “covenant issues” with Ventas. Tr. 1864, 2337–39; Exs. 165,

166.

Bebo begins considering a scheme to include ALC employees and

other nonresidents in covenant calculations.

In January 2009, Bebo began mulling the idea of including ALC employees

in the covenant calculations because of the intensifying challenge of satisfying

them with actual residents. Tr. 1865–66, 1900–01, 2339, 3046–47. The genesis

of Bebo’s idea was her discovery that at least one CaraVita employee had

previously signed a lease and was living at one of the Ventas facilities.

Tr. 1882–83, 3993–94. Bebo did not know whether CaraVita had ever included

an employee who was leasing a unit in a facility in the covenant calculations,

and never bothered to find out, although she believed one was included.

Tr. 1885–87, 3994; see Jt. Supp’l Ex. 1 at 16. But there is no other evidence

that ALC’s predecessor ever counted one of its employees who leased a room

toward the covenant calculations. Buono similarly learned, in early 2009, that

CaraVita had a few employees staying in units at its properties. Jt. Supp’l Ex.

1 at 17, 58.

In addition to the handful of employees in the taskforce, ALC required

certain employees who traveled to its properties, including the Ventas

facilities, to spend the night there rather than at a hotel. Tr. 1551, 1874–77,

1878–79, 2966–67. These included regional management staff, financial

management staff, and marketing, information technology, and finance

personnel. Tr. 1306, 1551.

At that time, Fonstad was aware of an effort by ALC to send personnel to

the Ventas properties to “improve operations … in addition to the usual

practice of sending people to … visit the properties.” Tr. 1305–06. Fonstad

recalled that information technology and financial personnel were among those

who traveled to improve operations. Tr. 1306. He testified that the number was

as many as 12 to 15 before decreasing. Tr. 1306. Fonstad understood the

program’s focus to be standardizing operations and giving home office

personnel field experience. Tr. 1307.

At some point, Fonstad learned of “a discussion where the idea was

brought up that … if employees stayed at the [Ventas] facilities, they should

be able to be included in the covenant calculations.” Tr. 1307. Fonstad believed

Bebo’s proposal was restricted to the limited number of ALC employees who

actually stayed at the Ventas facilities. Tr. 1305–09, 1314, 1316–17.

ALC general counsel advises Bebo about her idea of including

employees in the covenant calculations.

Bebo sought Fonstad’s advice on whether the lease permitted ALC to rent

rooms to employees and include such employees in the covenant calculations.

Tr. 1307–08, 1888–90, 2339–40, 3994–95. Fonstad testified that while

discussing Bebo’s proposal, he learned Bebo would have a call with Ventas and

discuss including employees in the covenant calculations. Tr. 1309–10.

Because Fonstad had concerns that the lease did not permit this, he drafted a

memorandum in a January 19, 2009, email with his legal advice and sent it to

Bebo. Tr. 1310; Ex. 1152.

Fonstad’s memorandum is framed as an inquiry about the provisions of

the lease that could impact ALC’s ability to rent rooms to employees and

relatives. It points out that the lease limits the uses of the Ventas facilities,

but that Ventas may agree to employee renting after discussion and written

agreement. Ex. 1152 at 1. Fonstad’s email then discussed particular lease

provisions in varying degree of detail. Id.

Fonstad noted that the lease’s section 7 required ALC to use the Ventas

facilities only for their “Primary Intended Use” and to “operate each Facility in

a manner consistent with its current operation as a quality health care

facility.” Ex. 1152 at 1; see also Ex. 142 § 7.2.1. The memorandum explained

that because the primary use of most locations was assisted living care and

only one facility was designated for independent living, renting rooms for

lodging could be inconsistent with the facilities’ intended uses; nevertheless,

Ventas might agree that limited rentals to employees would be consistent with

designated operations. Ex. 1152 at 1; Tr. 1314, 1319–20; see Ex. 142 at

Schedule 1.3, B-14 (defining the primary intended uses of the facilities).

Fonstad used the term “limited” to describe “rental to employees” for two

reasons: (1) he understood Bebo proposed “a limited number of employees” and

(2) he anticipated that Ventas would not agree to “an unlimited number of

people” and instead “would want to have some limit on it.” Tr. 1314. Fonstad

believed that Ventas would want to limit the number of ALC employees housed

at the facilities because the lease protected the Ventas facilities’ primary

intended uses and Ventas would be concerned if they were used significantly

for other purposes. Tr. 1314. When he drafted the memorandum, Fonstad did

not understand that, at any one time, ALC would propose to include 75 to 100

employees in its covenant calculations. Tr. 1317.

Fonstad also discussed the lease’s prohibition on ALC entering into

transactions with affiliates unless in the ordinary course of business, with

terms disclosed to Ventas in advance, and “on terms no less favorable than

would be obtained in a comparable arms-length transaction” with someone

unrelated to ALC. Ex. 1152 at 1; Ex. 142 § 8.1.3. According to Fonstad, the

lease’s broad definition of an “affiliate” would include ALC’s employees, agents,

and anyone with a so-called “reason to go” to a facility on behalf of ALC.

Ex. 1152 at 1; Ex. 142 at B-2. Fonstad strove to convey to Bebo that

transactions with affiliates required advance disclosure to Ventas. Tr. 1313.

Fonstad speculated that “Ventas may not object to renting units to employees

and relatives of ALC employees, especially if rents are the same as we charge

nonaffiliated persons.” Ex. 1152 at 1.6

It is worth noting, however, that the lease language requiring terms “no

less favorable” is not necessarily limited to rent. Ex. 142 § 8.1.3. Tenants were

also required to have approved residency agreements covering the terms of the

Next, Fonstad wrote that “Section 24.1 of the lease prohibits subleasing

all or any part of any Leased Property.” Ex. 1152 at 1; see Ex. 142 §§ 24.1, .2.

As a result, renting rooms to employees without an approved residency

agreement would have arguably been a sublease prohibited by sections 24.1

and 24.2.

Fonstad also alerted Bebo to the fact that the lease “may only be modified

by a writing signed by both” Ventas and ALC. Ex. 142 § 42.6 (emphasis added);

Ex. 1152 at 1.

Fonstad concluded his email by informing Bebo she should send Ventas a

letter confirming an understanding that her program was acceptable to Ventas

after getting verbal agreement. Ex. 1152 at 1; see Tr. 1315. Although Fonstad

did not reference the lease’s covenant sections in the body of his email, that is

unsurprising, given that the lease provisions he did discuss were preconditions

to Ventas agreeing to count ALC employees or others for purposes of the

occupancy covenants. Fonstad did, however, include language about the

occupancy covenants in the draft template he attached to his email, which was

essentially a draft letter that ALC could finalize and send to Ventas in the

event Ventas agreed to ALC’s proposal. Ex. 1152 at 2. Fonstad’s template

stated in part:

This letter confirms the understanding we reached about

the interpretation of certain terms of the [lease] …

[ALC] proposes to rent a limited number of units to

employees of [ALC] for the purpose of facilitating their

ability to assist in operating the [Ventas facilities]. … It

is not expected that the number of units rented to ALC

employees would exceed ___ at any one time. Rents paid

would be the same as charged to unrelated parties.

In addition, from time to time, relatives of ALC employees

may become residents of one or more of the Facilities. The

rentals would be on terms no less favorable than would be

obtained in comparable arms-length transactions with

unrelated parties.

tenancy, including the payment of a security deposit. Id. § 8.1.11(f), B-2. If ALC

was to rent to employees, it would have needed the same agreements with

them to ensure that they were being treated no differently than unaffiliated

third parties.

The units would only be considered occupied for purposes

of the minimum average occupancy covenants[—but not

the coverage-ratio covenants—] for the days that rent is

actually paid.

Ex. 1152 at 2 (blank space in original).

Fonstad’s draft letter referenced a “limited number” of rented rooms for

the same reasons he described previously: he “thought that Ventas would

require that there be a limit, and also that was what [he] understood was the

proposal that ALC was going to make.” Tr. 1316–17.

Similarly, when he drafted the template, Fonstad did not know ALC would

propose to include employees in the covenant calculations outside of the time

periods they spent at Ventas facilities. Tr. 1317. Fonstad understood that ALC

employees could not be included in covenant calculations if they did not

actually stay at the Ventas facilities; his understanding was that Bebo’s

proposal hinged on including employees “in the calculation if they stayed at

the facility.” Tr. 1308. Bebo did not ask Fonstad if the lease permitted including

employees in the calculations when they did not visit the Ventas facilities

during the reporting period, so Fonstad did not tell her whether it was legally

permissible. Tr. 1308–09. Fonstad testified that Bebo never discussed with him

the idea of including the same employees at multiple facilities or employees

who had a reason to go to the Ventas facilities—but did not actually go—in the

covenant calculations. Tr. 1308–09, 1509.

Fonstad referred to relatives in the template because the discussion he

had with Bebo included the possibility of her mother staying at a facility and

Bebo’s belief that she should be included in the calculations if that occurred.

Tr. 1318. Other than Bebo’s mother, Fonstad does not recall Bebo mentioning

any other ALC relatives she “proposed to be included in the covenant

calculations.” Tr. 1318.

Fonstad testified that he referenced the occupancy covenants because “it

was important that it clearly state that the … proposal was that these

individuals … would be included in the covenants, and that was the important

element.” Tr. 1319. Bebo testified that Fonstad advised her that Ventas needed

to agree so that ALC could include employees in the covenant calculations. Tr.

1895.

Fonstad’s template then asked Ventas to agree and confirm that ALC’s

proposal was allowable under the lease, specifically referencing sections 7.2.1

and 8.1.3. Ex. 1152 at 2. Fonstad, who believed the lease required a signature

to document Ventas’s acceptance, concluded his draft letter with a blank

signature block for Ventas to sign if it accepted the proposal. Tr. 1319–20;

Ex. 1152 at 2.

Bebo and Buono speak to Solari by phone on January 20, 2009.

On January 20, 2009, the day after Fonstad’s email, Bebo and Buono

participated in a telephone call with Solari. Tr. 413–14, 2342–43. Before the

call, Buono emailed Bebo to warn her that ALC was either in violation of the

covenants at some of its facilities for the fourth quarter of 2008, or in danger

of missing their occupancy targets for the first quarter of 2009. Tr. 1899–1900;

Ex. 174 at 1–2. There is no evidence that Bebo or Buono gave Solari any

advance notice of the issues they planned to discuss at the meeting.

Solari and Buono testified consistently about the call. Solari said the two

topics discussed were: (1) subleasing units at one of the Ventas facilities to a

hospice provider; and (2) whether ALC corporate employees traveling to the

facilities could overnight there instead of at hotels. Tr. 414. Buono agreed,

recalling discussion of the potential hospice sublease and a proposal to have

ALC employees stay at the Ventas facilities. Tr. 2344. Neither recalled any

discussion of the occupancy or coverage ratio covenants. Tr. 416, 2344.7 Solari

was emphatic that he would have remembered a request to include ALC

employees in the covenant calculations because it is “outlandish” and would

“circumvent the integrity of the financial covenants.” Tr. 417, 422–23. Solari

further testified that he would have never agreed to the proposal, as he lacked

the authority to do so without the approval of his boss or maybe Ventas’s CEO,

and in fact, that he did not agree to any of Bebo’s proposals over the phone.

Tr. 409–10, 415–18. Buono confirmed that Solari did not agree to anything

during the call, and that Solari asked for proposals to be made in writing.

Tr. 2344–45.

Bebo’s version of the call differed in significant respects from Solari’s and

Buono’s. According to Bebo, Solari agreed that ALC, at Bebo’s discretion, could

include an unlimited number of employees and others who had a “reason to go”

to the facilities in the covenant calculations, even if: (1) those employees did

not actually stay at the facilities; (2) ALC did not disclose to Ventas the number

of employees included in the calculations; and (3) ALC, instead of the

employees, “paid” rent for the units. Tr. 1904, 1907–09, 1912–13.

In his interview during the Milbank investigation, Buono was less sure

about what Bebo had told Solari on the call, and suggested that long-term

leases to ALC employees were discussed. Jt. Supp’l Ex. 1 at 64. Still, he did not

recall Bebo telling Solari that employee leases would be used to meet

occupancy covenants. Id.

However, Bebo concedes she spent more time discussing the hospice

sublease proposal on the call than the issue of employees leasing rooms.

Tr. 1914. She also concedes she never told Solari that: (1) ALC would fail

covenants without including employees; (2) no cash would change hands for

the employee-leased rooms; (3) ALC would treat a room as occupied for an

entire month even if the employee stayed there for only one night or never

stayed there at all; (4) most of the rooms ALC would include in the calculations

would never be occupied; (5) Bebo’s friends and former ALC employees would

be included in the calculations; and (6) the same employee could be included at

multiple facilities during the same time period. Tr. 1903, 1920–23, 4007–08.

I do not credit Bebo’s version of what Solari agreed to during the call for

several reasons. For one, as discussed below, none of it was reflected in the

email she later prepared that summarized the call. If Bebo had really obtained

a sweeping agreement from Solari allowing anyone who had a reason to go to

the facilities to be included in the covenants, surely she would have

memorialized it. Yet, despite Bebo’s claims to the contrary, Tr. 4010–11; Resp’t

Supp’l Post-hr’g Reply Br. at 27, there is no evidence she took contemporaneous

notes of the call with Solari that support her account. Bebo did not mention the

existence of any such material to the Milbank investigators, and they

determined that no documents were lost or erased. See Jt. Supp’l Ex. 1 at 20–

21; Tr. 627–28; Ex. 558 at 1. Even if Bebo took notes that were later lost, it is

hard to fathom why she did not use them to at least ensure that the email sent

to Solari two weeks later reflected her understanding of what he actually

agreed to on the call. See Tr. 4011 (Bebo claimed that she last saw the notes in

April 2012). Relatedly, if Solari had indeed agreed to major concessions during

the call, it seems peculiar that Bebo and Buono would have waited an entire

week just to begin drafting a follow-up message to Solari.

Second, according to Buono, Solari usually negotiated “with the premise

that [Ventas] will not ‘give away’ anything.” Ex. 140 at 1. Giving up so much

on the call would have been out of character for him. Solari credibly testified

that he lacked the authority to agree to covenant changes anyway. Tr. 416.

Third, it appears she told the Milbank investigators a different story: that

the call was only about whether ALC could rent units to its employees, and not

about including employees in the covenant calculations. Jt. Supp’l Ex. 1 at 20–

21. Although Bebo told the investigators that Solari said he did not care how

many employees rented units, agreeing to allow unlimited employee rentals on

an arms-length basis is very different than agreeing to allow ALC to include

employees in covenant calculations. Id. at 21.

Finally, the other two participants did not recall the call in the way Bebo

did, and she fails in her attempt to undermine their testimony. To begin with,

Bebo’s assertion that Buono’s testimony corroborates her account is

unpersuasive. See Resp’t Supp’l Post-hr’g Br. at 9–10. Contrary to her claim

that Buono testified that Solari “expressed no concern” about ALC paying for

employee apartments, Buono actually testified that “Solari never said

anything one way or the other” because “it wasn’t part of the discussion.” Id.

at 9; Tr. 4657–58. At best, Buono’s testimony demonstrates the absence of any

agreement by Solari. That Buono himself understood that ALC intended to pay

for the employee apartments is beside the point. See Tr. 4657, 4659. Similarly,

Buono simply testified that in 2009, he thought Ventas was aware that ALC

was “going to put employees … into the properties” and that “a reasonable

person would only think we’d do that in order to meet covenants”; he never

testified that Solari or Ventas had agreed to anything. Tr. 2489–90; cf. Resp’t

Supp’l Post-hr’g Br. at 9. Further, although it may be true that by including

employee rooms in the covenant calculations from 2009 to 2012, Buono “acted

consistent with the belief that there was an agreement with Ventas,” see Resp’t

Supp’l Post-hr’g Br. at 10, that does not mean he actually believed one existed;

he may have acted as he did for any number of reasons, including out of fear

that he would be fired if he did not follow Bebo’s directions. See Tr. 2348.

Bebo has not made a compelling showing that Buono testified falsely about

the call with Solari because the Division made him aware of evidence that Bebo

“blamed things on” him; Buono could not recall what those “things” were at the

hearing, which suggests they lacked significance. See id.; Tr. 2434–35, 2490–

91. In any event, even if Buono’s testimony were influenced by his settlement

with the Commission or by matters the Division told him—although there is

no evidence that the Division acted inappropriately—there are plenty of other

reasons to be skeptical of Bebo’s account of the call with Solari.

Similarly, Bebo lacks support for her skepticism of Solari’s account. Bebo

argues that the Milbank memorandum demonstrates that Solari agreed to

employees renting rooms, see Resp’t Supp’l Post-hr’g. Br. at 18; Ex. 1879 at 4;

Tr. 3480, but the Milbank investigators did not speak to Solari, and instead

noted only that a lawyer for Ventas said that Solari could not deny Bebo’s

account of the call. Ex. 1879 at 4; Tr. 3480. It is likely that Solari could not

deny Bebo’s account because at the time of the investigation, he could not recall

the telephone conversation having taken place. See Tr. 451–52. The call took

place over three years before the Milbank investigation—by which time Solari

had long ceased to be employed by Ventas—and there is no indication that

Solari took notes of the call. See Tr. 3480. Unlike at the hearing, there is also

no indication that during the Milbank investigation, Solari was provided with

the follow-up email Bebo sent him, which may well have reminded him about

the call. See Ex. 1879 at 4. However, by the hearing, with his recollection

refreshed, Solari testified about the call as described above. See Ex. 175;

Tr. 413–14, 450–51. Although Bebo contends that Solari’s “recollection of the

call is inadmissible and should be given no weight” because of his “failed

memory,” Resp’t Post-hr’g Br. at 82, memory almost always fades over time,

and Solari was ultimately able to remember some basic details of the call after

being refreshed. Contrary to Bebo’s suggestion, there is no evidence that the

Division wrote Solari’s testimony for him. See Resp’t Post-hr’g Br. at 82. I find

his recollection credible because it corresponds in substance with the email

Bebo sent him two weeks after the call and with ALC’s practice of lodging select

traveling employees at facilities in lieu of hotels.

Bebo contends that Fonstad also participated in the call with Solari, but I

find it more likely than not that he did not participate. Tr. 1504–05 (Fonstad

did not recall being on the call with Solari); Jt. Supp’l Ex. 1 at 81 (According to

the Milbank investigation, Fonstad only “later heard that a conversation

between Bebo and Buono and Ventas had gone well”). However, Fonstad may

have been in the room while the call took place. Tr. 2781–82 (Buono

acknowledged that he previously testified that Fonstad was in the room during

the call); Ex. 2122 at 2 (notes memorializing Buono’s proffer where he stated

that Fonstad was in the room); Tr. 3217–18 (Zaffke, Bebo’s executive assistant,

testified that Fonstad was in Bebo’s office during the call). Still, because

Fonstad’s general practice was to take notes of meetings he participated in, the

lack of notes strongly suggests that even if he was present, he did not

participate. Tr. 1304.

Whether Fonstad was involved in the call or not, Bebo did not rely on his

advice when ultimately including employees and others in the covenant

calculations as discussed below. Fonstad testified that he never gave Bebo

additional legal advice about using employees for covenant compliance beyond

what was in his original memorandum. Tr. 1508. No other memo from Fonstad

exists, and his general practice as ALC’s general counsel was to put legal

advice to management in a written memo. Tr. 1304. At the hearing, Fonstad

testified that “no one told” him “that ALC had started using employees to meet

the Ventas lease covenants” and that he had not approved of the practice.

Tr. 1507–08; see also Jt. Supp’l Ex. 1 at 81 (also unaware of the inclusion of

“phantom” employees who never stayed at the properties). Although Fonstad

understood that ALC and Ventas shared “a good working relationship” and

that “Ventas was not holding ALC to the letter of the lease with respect to

reporting requirements,” Fonstad had told Bebo and Buono that “it was

important to get Ventas’s consent in writing” before “including employee leases

in the covenant calculations.” Jt. Supp’l Ex. 1 at 81; Tr. 633–34 (Fonstad

advised Bebo that ALC should not enter into the “employee arrangement”

unless there was a “written confirmation agreement” with Ventas); Ex. 558 at

4. Buono recalled that Fonstad’s advice made him believe that ALC’s rental of

rooms to employees or individuals for use in covenant calculations was

“kosher,” Tr. 4651–53, but the other evidence suggests that Fonstad probably

only meant it was “kosher” if ALC management followed his advice and

obtained Ventas’s written consent. See Jt. Supp’l Ex. 1 at 81. Even according

to Bebo’s account of the call—which I discount—she only had an oral

agreement with Solari.

Bebo follows up by email with Solari.

A week later, on January 27, 2009, Buono prepared an initial draft of an

email to Solari to follow up on the call. Tr. 2467–70, 2756–58; Exs. 179, 1320A.

Buono recalls that Fonstad was present when he drafted the email, but there

is no testimony or documentary evidence about Fonstad’s role in composing the

draft. Tr. 2354, 2468. Significantly, Buono did not copy Fonstad when he

emailed Bebo his draft. See Ex. 1320 (cover email). The draft email does not

mention the Ventas lease covenants and does not seek to memorialize any

agreement made by Solari during the call; rather, it merely confirms a

notification that ALC will be renting “rooms to employees and/or family

members … in the ordinary course of business and on terms no less favorable

than would be obtained in a comparable arms-length transaction with an

unrelated third party.” Ex. 1320A. At the hearing, Buono explained that he

assumed Solari would “reasonably think” that ALC wanted to include the

employees it rented to in the covenant calculations and that the proposal

“makes no sense” otherwise. Tr. 2758. However, Buono admitted that there

was never any direct indication from Solari confirming that Ventas understood

it in the same way. Tr. 2489–90, 2496.

Further, Buono’s assumption that “there would be no other reason to put

[ALC employees] in the [Ventas] houses other than to put them in the

calculations” was not entirely reasonable. Tr. 2487. As noted, ALC generally

required certain lower-level employees who traveled to its properties (Ventasowned or not) to spend the night there in lieu of staying at a hotel, presumably

because ALC achieved cost or productivity benefits by doing so. Tr. 1551, 1874–

79. Indeed, the context of the call with Solari and the request for legal advice

from Fonstad in part concerned whether ALC could temporarily house

employees in the facilities where they were working. Tr. 1550–51. Thus, there

may very well have been reasons unrelated to the occupancy covenants to

house ALC employees at the facilities.

Bebo collaborated with her friend and ALC’s vice president of sales and

marketing, Bucholtz, to edit Buono’s draft summarizing the call, and she sent

it to Solari on February 4, 2009. Tr. 1931–35, 2934, 2949–50, 2987–92; Exs.

184, 1320, 1320A, 1343. She copied Buono on the email, but not Fonstad,

further suggesting that Fonstad did not participate in the call. See Ex. 1343 at

2. The email is similar to Buono’s draft and is overwhelmingly devoted to

seeking advanced written approval of exceptions to specific lease provisions

implicated by a hospice sublease at the Peachtree facility. See Ex. 1343 at 2. It

devotes only a single paragraph (about one-tenth of the email) to ALC renting

rooms to its employees:

In addition to the potential hospice lease, we are also

confirming our notification of our rental of rooms to

employees. We confirm that all rentals related to

employees are in the ordinary course of business and on

terms no less favorable than would be obtained in a

comparable arms-length transaction with an unrelated

third party.

Ex. 1343 at 2.

Like Buono’s draft, the email purports to “confirm[]” ALC’s “notification”

about employee rentals, but makes no reference to any agreement by Solari,

further suggesting that Solari did not agree to anything on the call. Id. There

is no mention of rentals to any nonemployees, such as family members, friends,

or other persons with a “reason to go.” See Tr. 1904. In fact, the only difference

between Buono’s draft of this portion of the message and the final version is

that Bebo took out the language about potential rentals to “family members”

in addition to “employees.” Compare Ex. 1320A, with Ex. 1343 at 2. Because

the email speaks of the proposed rental terms as comparable to “arms-length

transaction[s],” there is no indication, for example, that ALC intended to rent

rooms for employees who would not pay for them. Ex. 1343 at 2. Unlike the

discussion of the hospice sublease, there is also no discussion of other lease

requirements such as primary intended use, subleasing, or anything that

would be relevant to the ways ALC actually ended up conducting the employee

rentals. More important, there is no discussion of the financial covenants.

Finally, unlike the hospice proposal, Bebo’s email does not ask for Ventas to

take any action or follow up on the notice of ALC’s planned rentals to

employees. See id. (Bebo concludes her email by asking Solari to “call at [his]

earliest convenience to address any questions … related to this potential

hospice relationship”).

Solari responded to Bebo the same day and copied Buono and Johnson,

advising that “Bill Johnson will be following up with you and/or John with any

questions or requests for further information regarding this matter.” Id. at 1.

As Buono reasonably testified, Solari’s response does not indicate that Ventas

agreed to include ALC employees in covenant calculations. See Tr. 2346. At

most, one can infer from Solari’s response that “Ventas would consider the

employee leasing arrangement.” Jt. Supp’l Ex. 1 at 59. Similarly, when

Johnson wrote to Bebo and Buono on February 13 (copying other Ventas

employees) asking to schedule a call about the hospice opportunity ALC

wanted to pursue, there is no indication that Ventas approved of Bebo’s

notification about employee rentals, and there is no proof that Ventas knew

about or agreed to ALC including employees in the covenant calculations. Ex.

1343 at 1. I do not credit Bebo’s testimony that Ventas’s silence confirmed its

agreement that ALC could include in the calculations (both occupancy and

coverage ratio) an unlimited number of employees who did not actually stay at

the facilities, as long as those employees had a “reason to go.” Tr. 1938, 1942.

Other evidence from February 2009 does not indicate that ALC had an

agreement with Ventas about including employees and others in the covenant

calculations. On February 8, 2009, Hokeness, ALC’s director of internal audit,

drafted a memorandum intended for Bebo, Buono, Fonstad, and ALC’s audit

files. Ex. 1129 at 1; Tr. 3036. It is unclear whether the memo was ever finalized

and circulated. See Tr. 3052–53, 3122–23 (Hokeness did not recall circulating

the memo); but see Tr. 4046–47 (Bebo recalled receiving the memo in hard

copy). In the memo, Hokeness discussed “alternative strategies to improve

occupancy” and meet the lease covenants that management looked at,

including “sub-leases to hospice companies … and using the available units to

house certain ALC employees on site specifically to assist the local team.”

Ex. 1129 at 1–2. Hokeness explained that although the “lease arrangements

with Ventas do not provide for employees to be considered as residents[,] [i]t is

my understanding that Ventas is aware of and had approved our treatment of

employees as residents as it pertains to the fourth quarter covenant

calculations.” Id. at 2. Yet all Hokeness’ memo proves is that someone, such as

Bebo or Buono, told him that Ventas had approved of counting employees for

covenant compliance. It does not show that an agreement between Ventas and

ALC actually existed.

Similarly, Buono’s comments at a February 13, 2009, ALC disclosure

committee meeting, where he told the committee that “Ventas lease covenants

continue to be monitored and correspondence between ALC and Ventas has

occurred whereby the covenant calculations have been clarified as to census,”

Ex. 124 at 3, do not indicate any agreement with Ventas about counting

employees in the covenant calculations. First of all, it is not completely clear

what Buono meant at the committee meeting. Even if he was talking about an

agreement with Ventas to include employees in covenant calculations, Buono

testified at the hearing that he may have been referring to the subtext he had

read into Bebo’s conversation with Solari, namely, “that Ventas would realize

[employees] could be put in the covenant calculations.” Tr. 2496 (emphasis

added). There is no indication, however, that there was any written agreement

with Ventas to that effect.

Bebo orders ALC staff to include nonresidents in the covenant

calculations but to not disclose that fact to Ventas.

Each quarter, pursuant to the lease, ALC sent Ventas a package of

materials documenting its compliance with the covenants. Tr. 749; Exs. 32–45.

Following the January 20, 2009, call with Solari, when ALC was working on

its calculations for the fourth quarter of 2008, Bebo directed Buono to include

ALC employees and their attendant revenue in those covenant calculations,

even though Ventas had not agreed to their inclusion and ALC’s board had not

approved the practice. Tr. 754, 1974–77, 2347–48, 2351; see Ex. 32. They

discussed that the practice “had to be something real” and that ALC could only

include “employees that were staying at the properties.” Tr. 2348. Bebo

directed Buono not to inform Ventas of the practice or to provide Ventas with

calculations that revealed the inclusion of employees and associated revenue.

Tr. 2348–49, 4669–70. Buono followed Bebo’s directives because he felt he

would be terminated if he disobeyed. Tr. 2348.

Robin Herbner was responsible for preparing the covenant calculations

and the quarterly materials that ALC sent to Ventas. Tr. 511, 519, 749–50. For

the fourth quarter of 2008, Bebo and Herbner understood ALC would include

only employees who actually stayed overnight at the Ventas facilities. Tr. 756–

57, 1989. To perform the calculations, after the quarter had ended, Herbner

gathered information from Bebo showing which employees had stayed at the

Ventas facilities, and for what days. Tr. 756–57, 798–802; see also Tr. 2944–

46, 2993. Herbner performed her calculations on an Excel spreadsheet that she

referred to as the occupancy reconciliation tab. Tr. 791–93; see, e.g., Ex. 17.

Herbner calculated the revenue associated with the employees and

reported the information to assistant controller Ferreri, who posted journal

entries to record the revenue on ALC’s general ledger. Tr. 757–58, 803–04,

807–08, 1221–22. Bebo determined the daily rate used for calculating revenue

associated with the added employees. Tr. 806, 824. After Ferreri posted the

journal entries, Herbner included the revenue associated with the employees

in the financial materials sent to Ventas. Tr. 808–09.

Bebo gave Herbner a directive like the one she gave Buono: ALC’s

documentation to Ventas need not disclose ALC’s use of employees in the

covenant calculations. Tr. 2088–89. Accordingly, Bebo understood Ventas

could not figure out that ALC included its employees in the covenant

calculations from the quarterly information. Tr. 2087–88.

Ferreri, for his part, supervised the posting of journal entries to ALC’s

general ledger, including the ones that resulted from the occupancy

reconciliation process. Tr. 1223–25. But the journal entries that resulted from

occupancy reconciliation were not like normal journal entries. Prepared and

posted after the end of the month, these entries recorded revenue on the

accounts of the eight Ventas facilities, and recorded a corresponding amount

of “negative revenue” in a corporate-level revenue account known as the 997

account. Tr. 1225, 1227–28, 1236; Exs. 378–425, 427–450 (journal entries

showing supposed nonresident revenue and offsetting negative revenue in the

997 account). The two transactions offset, so there was no impact on ALC’s

consolidated financial statements. Tr. 1230–31, 1240–41, 1244–45. Bebo

understood this process. See Tr. 2031, 2061–62, 2065–66, 2067–68, 2771–72,

4129–30, 4133–34, 4137–38, 4585–87. As a result, the nonresident occupants

and additional revenue that ALC reported to Ventas were not reported in

ALC’s periodic reports, which Bebo also understood. Tr. 2074–75, 2771–72.

When Ferreri was assigned to post the employee revenue journal entries,

he became anxious because of the unusual nature of the transactions, which

Ferreri considered “definitely not consistent with GAAP.” Tr. 1227–28, 1243–

44. In his decades-long career, Ferreri had never seen an arrangement that

involved offsetting positive and negative revenue, as opposed to the typical

situation involving revenue and an offsetting expense. Tr. 1220–22, 1228,

1253–54, 1261. Also, ALC accountants were otherwise not involved in posting

revenue-related journal entries, which occurred automatically at the point a

resident purchased a good or service. Tr. 1228–30. Ferreri’s concerns

intensified when he eventually learned the journal entries related to the

covenants in the Ventas lease. Tr. 1254. Because of his discomfort with the

process, Ferreri requested either Buono or Bebo sign off on the nonresident

revenue journal entries. Tr. 1246–47. Before then, Ferreri never requested

that a CEO or CFO approve a journal entry, and neither Bebo nor Buono had

signed any other journal entries. Tr. 1246–48. Over the next three years, Bebo

would ultimately sign many journal entries reflecting nonresident revenue and

offsetting negative revenue in the 997 account. Tr. 2055–56, 2059–62, 2068–

69; see, e.g., Ex. 427 at 1 (of 5 PDF pages); Ex. 433 at 4 (of 8 PDF pages); Ex. 447

at 177174; Ex. 449 at 1 (of 5 PDF pages).

ALC considers purchase of New Mexico properties from Ventas in

exchange for covenant relief.

On February 17, 2009, Bebo and Buono discussed a new proposal with

Solari for ALC to purchase two Ventas properties in New Mexico in exchange

for Ventas waiving the occupancy and coverage ratio covenants. Tr. 429–31,

1951–52; Ex. 188 at 2 (of 3 PDF pages). Solari told them “that eliminating the

covenants entirely was not likely to occur, irrespective of their offer for [the

New Mexico properties],” but encouraged them to submit a proposal. Ex. 188

at 2 (of 3 PDF pages).

On February 19, Bebo emailed Solari an offer to purchase the two

properties in exchange for revising the lease so that the facility coverage ratio

would be temporarily waived and the portfolio-wide coverage ratio covenant

would be reduced. Ex. 190 at 2–3 (of 3 PDF pages). She reassured Solari that

ALC had “tried to address your concerns that the properties be managed to

adequately support lease payments.” Id. at 3.

On February 21, Buono drafted a proposal for the board’s consideration

that largely mirrored the terms proposed in Bebo’s February 19 email.

Tr. 1950–51; Ex. 193 at 2–3 (of 3 PDF pages). Based on conversations with

Solari, Buono mistakenly believed that ALC had reached a deal with Ventas.

Tr. 2360–61; see Ex. 192.

On February 23, ALC’s board met. Ex. 100. The minutes reflect that Bebo

reported that ALC was in compliance with the Ventas covenants and that ALC

may seek covenant relief from Ventas in connection with the purchase of two

New Mexico properties. Tr. 562–63, 1980–81, 2815–16; Ex. 100 at 2–3. Bebo

acknowledges that she did not disclose that the reason ALC was able to meet

the covenants was because it was already including employees. Tr. 1974.

Despite the lack of corroboration in the board minutes or other evidence,

Bebo testified that the board approved the practice of including in the covenant

calculations rooms ALC rented for “people with a reason to go.” Tr. 1970–71;

see generally Exs. 99–100. Five directors—Bell, Buntain, Hennigar,

Rhinelander, and Roadman—testified that no one discussed including ALC

employees in the covenant calculations at the February 23 meeting, and that

the board did not approve the practice. Tr. 563–64, 566–67, 1363, 2646–48,

2816, 2824; Ex. 492A at 55–56. Fonstad, who took the minutes, similarly

testified that the inclusion of employees in the covenant calculations was never

discussed. Tr. 1521–24. Buono also testified the board did not approve the

inclusion of employees in the covenant calculations at that meeting. Tr. 2761.8

Buono testified that on February 23, 2009, before the board meeting,

Rhinelander said that ALC “would do the employee leasing program.” Tr.

2395–96; see also Jt. Supp’l Ex. 1 at 62 (according to Milbank, Buono recalled

in early 2009 “participating in a meeting with Rhinelander and Bebo in Bebo’s

office” where “Rhinelander said that ‘we’ll just add employees now’”). Bebo also

testified at one point that she apprised Rhinelander of her plan in the presence

of Herbner. Ex. 496 at 128–29. However, neither Rhinelander nor Herbner

could recall the conversations described by Buono and Bebo. Tr. 841–42, 2822–

24. Rhinelander instead recalled a reference to ALC including employees in the

Ventas covenant calculations in the fall of 2011, but did not understand what

On February 25, Ventas countered with an offer that ALC purchase the

two New Mexico properties plus another poorly performing property in

exchange for temporarily waiving facility coverage ratios without reducing the

portfolio-wide coverage ratio or waiving occupancy covenants. Tr. 224–26, 435–

36; Ex. 194; Ex. 196 at 81834–35. During a call later that day between Bebo,

Buono, Fonstad, and Ventas representatives, Ventas executive Doman told

ALC that Ventas “take[s] covenant violations very seriously.” Tr. 1514–16;

Ex. 197 at 1 (of 3 PDF pages).

ALC viewed the counter-proposal as unacceptable, so it never obtained

even the temporary covenant relief offered by Ventas. Tr. 436–38, 2360–61;

Ex. 198. ALC’s effort to obtain covenant relief reinforces the notion that Bebo’s

recollection of her January 20 discussion with Solari is inaccurate. After Solari

was dismissed in April 2009 as part of a reduction in force, Bebo admits that

she never spoke with anyone else at Ventas about the use of nonresidents in

the covenant calculations. Tr. 399–400, 460–61, 4074.

Under Bebo’s direction, ALC begins to include individuals who did not

stay at the Ventas properties and who were not ALC employees in the

covenant calculations.

After the New Mexico negotiations fell through, the occupancy

reconciliation scheme continued and was expanded to compensate for declining

occupancy at the Ventas facilities. See Ex. 377 at 24–25 (ALC included over

100 nonresidents by the end of 2009). Without including nonresidents, ALC

would have repeatedly failed to satisfy the occupancy and coverage covenants

for the facilities. Id. at 24–27. The process that Bebo oversaw to make up for

these shortfalls, however, was no longer limited to actual ALC employees who

actually stayed at Ventas properties. See generally Ex. 552A (summary exhibit

showing nonresidents who should not have been included in the covenant

calculations).

As she did for the fourth quarter of 2008, Herbner performed the covenant

calculations after the first two quarters of 2009 and provided the resulting

the reference meant until March 2012. Tr. 2816–18. If Rhinelander did approve

of employees leasing rooms, it logically would have been to house task force

employees in available rooms to improve facility performance. See Tr. 2759–

61. Even if Rhinelander said what Bebo claims he did, it does not reflect

knowledge of Bebo’s scheme to satisfy the covenant requirements. Bebo admits

that in February 2009, before the board meeting, she had not yet determined

to include large numbers of employees and others in the covenant calculations.

Tr. 1989–90.

revenue amounts to Ferreri for ALC’s books. Tr. 811, 815–16, 824–25, 827–28.

Unlike the fourth quarter of 2008, however, Herbner determined the number

of employees by calculating the shortfall in occupied units and revenue needed

to meet the occupancy and coverage ratio covenants. Tr. 816–17. Bebo

understood this process. Tr. 1996–99, 2354–55. She even would sometimes

direct ALC accounting staff to get the coverage ratio above certain levels.

Tr. 2374–75; Ex. 304 (“[Bebo] told us we need to get it over the .80X.”).

Once Herbner had calculated the number of nonresidents that needed to

be included, Bebo provided Herbner with the names of nonresidents for her

occupancy reconciliation spreadsheet. Tr. 816–17, 2350–53; see also Tr. 1994,

1999–2000, 4076–77 (Bebo conceding she typically provided the names).

However, Bebo no longer provided documentation showing the days, if any,

that employees or other nonresidents actually stayed at the Ventas facilities.

Tr. 816–17. Instead, Bebo directed that each nonresident be considered an

occupant for at least a month, and normally the entire quarter. Tr. 989–90,

2352. Thus, Bebo knew that ALC included nonresidents who did not visit or

stay at Ventas facilities. Tr. 1989–90, 2249–64.

The names that Bebo selected for inclusion in the covenant calculations

included:

(1) Bebo’s parents, both under her mother’s maiden name,

Paremsky, instead of their surname “Bebo.” Tr. 2007–08;

Ex. 167 at 12 (of 34 PDF pages).

(2) Bebo’s husband, Nick Welter, and his friend, Kevin

Schweer, who were never ALC employees, as occupants of

multiple facilities at the same time. Tr. 2006–07, 2010–

12; Ex. 167 at 11–14 (of 34 PDF pages).

(3) Bebo’s friend and ALC executive, Bucholtz, who Bebo

listed as an occupant of up to four facilities at once.

Tr. 2014; Ex. 167 at 11–13 (of 34 PDF pages).

(4) Bucholtz’s parents, brother, sister-in-law, and sevenyear old nephew. Tr. 2046–50; Ex. 237 at 5, 7 (of 45 PDF

pages).

(5) Houck, an ALC executive and friend of Bebo’s who

never stayed at the Ventas facilities. Tr. 1465, 1468–71;

Ex. 21A, “2009 Q4 OU Recon” tab; Ex. 22A, “2009 Q4 OU

Recon” tab. Bebo reviewed Houck’s expense reports

showing that he stayed at hotels and not the facilities, yet

simultaneously listed Houck as an occupant of five

facilities at once. Tr. 1470–71, 1500.

(6) At least ten other ALC employees who did not stay at

and, in many cases, even visit the Ventas facilities. See

Exs. 451–454, 462, 466, 468, 470–471, 473.

(7) Tim Cromer, who was never an ALC employee.

Tr. 2053–55; Ex. 256 at 6–7 (of 51 PDF pages). Cromer

was the husband of another ALC employee who herself

was separately listed as an occupant of multiple facilities.

Tr. 2054–55; Ex. 256 at 7–8 (of 51 PDF pages).

(8) Former ALC employees, future hires who had not yet

started working for ALC, and full-time employees of the

Ventas facilities, who lived nearby and had no reason to

have rooms leased for them. See generally Ex. 552A.

Herbner became uncomfortable with this new process when Bebo directed

her to include Bebo’s parents (using Bebo’s mother’s maiden name) and

Schweer. Tr. 817–18, 852–53. It caused Herbner “great concern” because she

believed that Ventas would not have agreed and it was unclear whether they

actually stayed at the Ventas facilities. Tr. 818–19, 843.

Herbner was also concerned that ALC included the same employees at

multiple properties during the same time period, as this conflicted with her

preexisting understanding that Ventas had agreed employees could be

included only if they stayed at the facilities. Tr. 819–20. She was never asked,

by Bebo or others, to verify that the nonresidents included in the calculations

were appropriately listed or had actually stayed at the facilities. Tr. 820–21,

828–29.

Herbner’s concerns were heightened when Bebo continued to have her

conceal the occupancy reconciliation from Ventas. On July 28, 2009, a Ventas

employee emailed Herbner seeking an explanation for the “significant

increases in occupancy” at five of the Ventas facilities, which had resulted from

occupancy reconciliation. Ex. 211 at 1 (of 2 PDF pages). When Herbner asked

Bebo for assistance in answering the questions, Bebo admitted that she

dictated reasons to give Ventas for the occupancy increases—none of which

involved the true reason for the increases, the inclusion of employees. Tr. 833–

40, 2090–92; see Ex. 212.

Buono echoed Herbner’s concerns to Bebo each quarter as the number of

nonresidents used to satisfy the covenants increased. He repeatedly warned

Bebo that “this has to be real” and “I could go to jail if this is wrong, and I don’t

look good in stripes.” Tr. 2365.

In addition, Bebo herself concealed the occupancy reconciliation scheme

from Ventas. When she participated in quarterly meetings with Ventas, Bebo

gave various reasons for the changes in occupancy and coverage ratios, but

never disclosed the real reason. Tr. 227–37, 2101–02, 2366–71; see generally

Exs. 207, 208, 280. When she did not participate, Bebo directed Buono how to

answer Ventas’s covenant questions without disclosing that ALC included

nonresidents. Tr. 2367–68.

Bebo also sought to ensure that Ventas was not aware of actual occupancy

during its periodic inspections of the facilities. During site visits, Bebo and

Buono accompanied the Ventas personnel and refused to allow ALC onsite

employees to speak with the Ventas representatives. Tr. 2368–69. Bebo also

told Buono that Ventas could not conduct the site visits during meal times,

because Ventas may then learn the number of residents in the dining room was

inconsistent with ALC’s reported occupancy figures. Tr. 2369. Likewise, Bebo

admitted instructing Houck, who oversaw the operations of the Ventas

facilities, to remove the name placards from outside of the residents’ rooms at

one facility to prevent Ventas from counting the number of occupied rooms. See

Tr. 1475, 4154–55. Before another site visit, Bebo told Bucholtz: “We really

need the occupancy numbers to ‘pop.’” Ex. 569. Bebo later prevented Ventas

from visiting the facilities altogether when, on December 11, 2010, Bebo

emailed Houck that Ventas could not visit the facilities for the rest of the year

because she was “getting overly concerned” with occupancy at one of the

facilities, which had fallen to 61%. Ex. 262; see Tr. 2099–100.

Bebo made similar efforts to limit Grant Thornton from conducting its own

periodic visits of the Ventas facilities. Specifically, in October 2009, when Bebo

learned Grant Thornton wanted to visit certain Ventas facilities in the course

of its audit, Bebo directed her staff that the auditor could not visit the Ventas

facilities for the remainder of 2009. See Tr. 2093–98; Exs. 220, 223. In fact, as

the Milbank investigators found, Bebo blocked Grant Thornton from

communicating with Ventas. Ex. 558 at 8 (“GT wanted to talk to Ventas—Bebo

said, no, GT can’t talk to Ventas.”).

Bebo’s expanded occupancy reconciliation scheme continues through

the tenures of multiple finance department staff.

Starting with the third quarter of 2009, Sean Schelfout, ALC’s treasury

manager, took over for Herbner when she went on maternity leave. Tr. 845–

46, 965–66. Herbner trained Schelfout on how she performed occupancy

reconciliation to “backfill” the number of employees needed to meet the Ventas

covenants. Tr. 970–71, 973–75, 982–84; Exs. 141 at 2 (of 268 PDF pages), 383

at 1 (of 53 PDF pages). She taught Schelfout to obtain the names of the

nonresidents from Bebo. Tr. 976–77. By this time, Bebo listed dozens of

employees at the Ventas properties each quarter. See Ex. 552A at 1 (of 27 PDF

pages). Herbner also expressed her concerns about the inclusion of employees,

which Schelfout shared. Tr. 846–47, 984.

Once trained, Schelfout continued the quarterly occupancy reconciliation

process for ALC. He described the practice as “adding the employees that need

to be added to achieve the occupancy ratio.” Tr. 980, 992, 1011. After

determining the number of needed employees, Schelfout sent Bebo or Buono

the occupancy reconciliation spreadsheet with placeholders, such as E3 and

E4, for the employee names. Tr. 988–90, 998–99; see Ex. 230 at 1, 5–8 (of 53

PDF pages); Ex. 236 at 1, 5–8 (of 45 PDF pages); Ex. 387 at 1, 5–8 (of 56 PDF

pages). Bebo then determined the names of the employees. Tr. 999–1001,

1009–10; see Ex. 167 at 11–14 (of 34 PDF pages); Ex. 237 at 1, 5–8 (of 45 PDF

pages).

Schelfout originally thought he would be responsible for the calculations

only while Herbner was on leave, but she gave notice she was taking another

job a week after returning from leave because she “didn’t want to advance at a

company that was constantly pushing the edges of regulators” with practices

like occupancy reconciliation. Tr. 844–45, 882, 971. Schelfout ultimately

performed the calculations from the third quarter of 2009 through the fourth

quarter of 2010. Tr. 978–79, 1017.

When Schelfout assumed responsibility for the calculations, he became

concerned the practice was not legitimate. Tr. 979–80, 985. Once Herbner

resigned, Schelfout began looking for a new job due to his discomfort. Tr. 979,

1063. His concerns intensified when he realized ALC was including: (1)

employees who were not staying at the facilities; (2) the same employees at

multiple properties; and (3) people who were not ALC employees, including

Bebo’s husband. Tr. 980–982, 997–98. Schelfout performed the calculations

despite his concerns because he feared being fired if he confronted Bebo and

Buono or disclosed the use of employees to Ventas. Tr. 984–85, 986–87, 1027–

28. Given the scarcity of finance jobs in Milwaukee and the poor state of the

economy, Schelfout did not get a job offer for more than a year. Tr. 1030–31.

He accepted the first offer he received, and resigned from ALC. Tr. 985, 1030.

After tendering his resignation, Schelfout trained Grochowski, ALC’s

director of tax and treasury, on how to “back in” the occupancy numbers as

Herbner had taught him. Tr. 1029–30, 1084, 1091–95. Schelfout also told

Grochowski not to inform Ventas that ALC employees (or other nonresidents)

were being included in the calculations. Tr. 1095–96, 1207.

When Schelfout left ALC in January 2011, Grochowski assumed

responsibility for performing the covenant calculations for the next three

quarters. Tr. 1090–91, 1105. Grochowski was uncomfortable with the entire

process, which he characterized as “fudg[ing] numbers,” “inflating revenue,”

“lying to Ventas,” and “creating false financial statements.” Tr. 1097–1101.

Like Schelfout, he had concerns because ALC was including: (1) employees who

did not travel to the properties; (2) the same employees at multiple properties;

and (3) people who were not ALC employees. Tr. 1097–98. Like Buono,

Grochowski worried that Ventas could sue him personally, because he emailed

them ALC’s quarterly certifications. Tr. 1104–05. He therefore refused to

follow Herbner’s and Schelfout’s practice of backing into the necessary number

of employees, as he considered it to be “manipulation.” Tr. 1096–97. Instead,

Grochowski determined how much actual occupancy had increased or declined

over the prior month and told Buono, who then calculated the number of

employees to add or subtract from the calculations. Tr. 1109–10. Bebo,

however, still determined the names of the employees to be included on the

occupancy reconciliation spreadsheet. Tr. 1113–14, 1126, 1128–31; see Ex. 302.

On occasion, Grochowski crossed out the names of employees who no longer

worked at ALC, knowing that this made Bebo’s job more difficult because she

would have to come up with substitute employees. Tr. 1124–25.

In November 2011, Grochowski and Ferreri confronted ALC management

about their concerns because they were afraid they would lose their CPA

licenses. Tr. 1151–52. They told Buono that they: (1) did not want to be

involved in the covenant calculations anymore; (2) did not think ALC’s

practices were appropriate; and (3) were concerned about their careers.

Tr. 1152, 2375–76.

Summoned by Bebo a few days later, Grochowski told her that he was not

comfortable performing the calculations and he did not want to be involved.

Tr. 1152–53, 2376–77, 4191. Grochowski told Bebo he was concerned the

inclusion of nonresident employees and even nonemployees in the covenant

calculations violated GAAP. Tr. 1153–55. Bebo tried to allay Grochowski’s

concerns by showing him her February 4, 2009, email to Solari. Tr. 1157, 1159.

Yet, Grochowski felt that the email only validated his concerns. Tr. 1159–61.

When Grochowski refused to back down, Bebo said he no longer needed to

perform the calculations. Tr. 1161–62. This was the first time Bebo allowed an

employee to be relieved from participating in the occupancy reconciliation

process. Tr. 2377. Following the meeting, Bebo awarded Grochowski a $35,000

“stay-on” bonus. Tr. 4193. Only two other ALC employees received “stay-on”

bonuses, and each received only $8,000. Tr. 4194, 4729–30. Thereafter, Buono

performed the occupancy reconciliation process himself. Tr. 1162–63, 2376–78.

After Grochowski confronted Bebo and was relieved of his duties related

to the Ventas lease, Ferreri acquiesced to Bebo’s request that he continue

recording the pertinent journal entries, so long as Buono personally prepared

the supporting schedules. Tr. 1256. Ferreri continued to record the entries

because Bebo assured him the process was “proper and correct” and Ferreri

feared being terminated if he refused to obey Bebo. Tr. 1260–61.

Bebo fails to ensure that ALC properly disclosed its compliance with

the Ventas covenants in its periodic reports.

As ALC’s CEO, Bebo had responsibility to ensure that ALC’s Commission

filings were accurate. Tr. 1767–68, 3845. Bebo signed ALC’s Forms 10-K and,

in each of the company’s Forms 10-K and 10-Q, certified that: (1) ALC’s filings

did not contain any material misstatements or omissions; (2) ALC’s filings

fairly presented in all material respects ALC’s financial condition, results of

operation, and cash flows; (3) she designed or caused to be designed internal

controls necessary to provide reasonable assurance regarding the reliability of

financial reporting and the preparation of financial statements in accordance

with GAAP; and (4) she had disclosed to the audit committee and auditors all

significant internal control deficiencies and any fraud involving management.

Tr. 1767–68; Ex. 2, Ex. 31.1; Ex. 3, Ex. 31.1; Ex. 4, Ex. 31.1; Ex. 5 at S-1 &

Ex. 31.1; Ex. 6, Ex. 31.1; Ex. 7, Ex. 31.1; Ex. 8, Ex. 31.1; Ex. 9 at S-1 &

Ex. 31.1; Ex. 10, Ex. 31.1; Ex. 11, Ex. 31.1; Ex. 12, Ex. 31.1; Ex. 13 at S-1 &

Ex. 31.1. Each Form 10-K also stated that its financial statements were

prepared in accordance with GAAP. Ex. 5 at 46; Ex. 9 at 46; Ex. 13 at 44. And

each time that Bebo was nominated to ALC’s board, the periodic report

represented that she had the highest ethical standards. E.g., Ex. 2073 at 4, 11–

12; see, e.g., Ex. 13 at 52 (incorporating information about directors from proxy

statement into annual report).

ALC’s Forms 10-K and 10-Q for 2009, 2010, and 2011 each represented

that the company was “in compliance with all such covenants” in the Ventas

lease and that a covenant default could have a “material adverse impact” on

ALC’s operations, but warned that “declining economic conditions” could affect

future compliance. Tr. 1770; Ex. 2 at 30; Ex. 3 at 38; Ex. 4 at 42; Ex. 5 at 45;

Ex. 6 at 34; Ex. 7 at 36; Ex. 8 at 38; Ex. 9 at 45; Ex. 10 at 32; Ex. 11 at 36;

Ex. 12 at 36–37; Ex. 13 at 43. In each Form 10-K, ALC also represented that it

was in compliance with lease covenants requiring compliance with federal laws

and regulations. Ex. 5 at F-15; Ex. 9 at F-16; Ex. 13 at F-24; see Ex. 142 §§ 8.2,

8.2.1, 10.15. Bebo knew that ALC’s filings contained these representations

when she signed or certified the filings, even though the filings were largely

prepared by members of ALC’s disclosure committee. See Tr. 1568–69, 1767–

71.

In July 2011, the Commission’s Division of Corporation Finance issued a

comment letter asking about ALC’s disclosure regarding covenant compliance.

Ex. 295. In response, ALC’s 2011 Form 10-K and its Forms 10-Q for the second

and third quarter of that year contained an additional representation that the

company “does not believe that there is a reasonably likely degree of risk of

breach of the [Ventas] covenants.” Ex. 11 at 36; Ex. 12 at 36–37; Ex. 13 at 43;

see Tr. 1772; see also Tr. 571–74, 2599–602, 2832–34; Ex. 295. The reports

cautioned that use of believe indicated that what followed was a prediction

subject to uncertainties. E.g., Ex. 13 at 50. An alternative response drafted by

management, which was not even shared with most of the board, reached the

opposite conclusion. Tr. 571–574, 1448–49, 2651–52, 2833–34. Compare

Ex. 294, with Ex. 295.

ALC conceals the occupancy reconciliation scheme from Ventas while

Ventas explores the purchase of ALC.

In summer 2011, ALC was exploring a sale of the company and prepared

due diligence materials for review by potential buyers, one of which was

Ventas, in a secure, online data room. Tr. 2114–16, 2371–72, 2828–30. Among

the data room materials were ALC’s internal occupancy figures for all of its

properties, including the Ventas facilities. See generally Ex. 287. Bebo feared

that Ventas would learn through the data room that actual occupancy was

lower than that reported by ALC in the quarterly certifications. Tr. 2120–23,

2126; Ex. 292 at 1 (of 8 PDF pages). For this reason, Bebo instructed ALC’s

investment bank to prohibit Ventas from accessing the occupancy materials

made available to the other diligence participants. Tr. 2116–17, 2829–32;

Ex. 287 at 1 (of 14 PDF pages); Ex. 292 at 1 (of 8 PDF pages).

During the due diligence process, Buono cautioned Bebo that the potential

buyers performing due diligence would discover the negative revenue in the

997 account, ask ALC where it came from, and then contact Ventas. Tr. 2372–

73. Bebo herself admitted that a potential investor in ALC would want to know

whether a valid agreement existed to include employees in the covenant

calculations. Tr. 2134–36. Bebo believed that neither ALC’s buyer nor Ventas

would credit her purported agreement with Solari. Tr. 2128–34. Bebo and

Buono determined that the only way to avoid scrutiny on this was for ALC to

purchase the Ventas properties. Tr. 2373–74, 2835–36.

Throughout the three years during which Bebo oversaw the

occupancy reconciliation scheme, ALC’s board, disclosure committee,

legal counsel, and independent auditors were largely unaware of it.

Bebo testified that by late 2009, she had informed the board of all the

minutiae of her scheme. Specifically, Bebo claimed she told the board at its

meeting for the third quarter of 2009 that: (1) ALC was including in the

covenant calculations people who did not actually visit the Ventas properties;

(2) Ventas had agreed that ALC could include an unlimited number of

employees, so long as they had a “reason to go” to the facilities; (3) ALC was

including large numbers of employees; (4) ALC was including nonemployees;

(5) ALC was including employees who actually worked at, as opposed to visited,

the Ventas properties; (6) ALC was including employees at multiple properties

at the same time; and (7) ALC performed its accounting for the practice

through a process that included the cancelation of revenue through the 997

account. Tr. 2023–32. Bebo agreed, however, that she: (1) “never told the board

that ALC would violate the Ventas covenants without including employees”;

(2) “never told the board that [she was] including family and friends in the

Ventas covenant calculations”; and (3) “never told the board the amount of

people included in the covenant calculations who didn’t actually visit the

Ventas properties.” Tr. 2035.

Bebo’s position stands in sharp contrast to the documentary evidence, the

testimony of every other percipient witness, and, in some cases, her own

testimony. Directors Bell, Buntain, Hennigar, Rhinelander, and Roadman

each testified they were not aware of the actual nature and extent of Bebo’s

scheme until the March 2012 meeting. Tr. 564–71, 1360–61, 1455, 2592–93,

2645–46, 2648–51, 2816–22; Ex. 492A at 53–56. Other witnesses who regularly

attended board meetings—Fonstad, internal auditor Hokeness, and ALC

attorney Zak-Kowalczyck—also testified that the inclusion of nonresidents in

the covenant calculations was not brought to the board’s attention before

March 2012. Tr. 1523, 3134–35, 4339–40, 4344–45. Consistent with this

testimony, the minutes of ALC’s board and audit committee meetings (which

were reviewed and approved by Bebo, Tr. 2034–35), and the materials

distributed in advance of board meetings, do not reflect that nonresidents were

used to meet the covenant calculations. See generally Exs. 74–78, 80–90, 92–

120. When I weigh this evidence against Bebo’s testimony—including her own

admissions that she never disclosed the inclusion of friends and family or the

sheer scale and impact of her scheme—I cannot credit her testimony. See

Tr. 2035.

Bebo also testified that at the August 2011 audit committee meeting, she

again provided the board (and Grant Thornton) with similar details about

ALC’s covenant calculation practices. Tr. 2167–70, 4702–03. However, I find

that Bebo was impeached with her investigative testimony in which she

claimed that, following the November 2009 board meeting, she did not discuss

the inclusion of employees with the board until March 2012. Tr. 2040–42, 2389.

At least some of the board members were aware that ALC was including

a small number of employees who actually stayed at the Ventas facilities in its

covenant calculations. At the board’s August 2011 meeting, there was a

passing reference to the inclusion of employees. According to Buono, he

referenced employees being included in the covenant calculations at that board

meeting, but no details or specifics about the practice were given. Tr. 2382–88,

4631–32. Buntain was aware, “[p]rior to March 2012, … that a small number

of ALC employees stayed at facilities covered by the Ventas Lease” and “that

these employee visits were counted for purposes of determining compliance

with the Covenants.” Ex. 455 at 1 (of 3 PDF pages); see Tr. 4633–34. He

remembered hearing at the August 2011 meeting about an “agreement” that

management said ALC had with Ventas to include employees in the covenant

calculations. Tr. 1453–54.

It is likely that most of the individual directors knew as early as 2009

about the inclusion of a few actual employee occupants in the covenant

calculations. Buono’s testimony and proffer statement relays that

Rhinelander, Malen Ng, Buntain, and, possibly, Hennigar and Bell knew that

ALC included its employees in covenant calculations. Tr. 4633–34; Ex. 2117 at

1–2 (offering during a proffer session that Rhinelander “knew exactly what was

going on” with the inclusion of employee occupants and that Ng had discussed

the topic with him and Grant Thornton). For example, no later than November

5, 2009, Buono informed Ng by email that ALC was using its “employee rooms”

at a Ventas facility for the covenant calculations. Ex. 1115; see Tr. 2523–24; Jt.

Supp’l Ex. 1 at 67. Both Koeppel and Robinson, the Grant Thornton auditors,

testified that they had told ALC’s audit committee, including Ng, who chaired

the committee, that ALC “management had entered into an arrangement with

Ventas to include in the covenant calculations employees who had stayed at

the [Ventas] properties for a business purpose.” Tr. 3328–30; see Tr. 2417–18;

Ex. 2122 at 7; Jt. Supp’l Ex. 1 at 61.

Additionally, ALC’s disclosure committee members did not know the

specifics of Bebo’s occupancy reconciliation actions. Committee members

Fonstad, Buono, and Zak-Kowalczyck testified that they had no recollection of

the committee discussing including employees in the covenant calculations at

committee meetings. Tr. 1619 (Fonstad), 2389 (Buono), 4380 (ZakKowalczyck). Another committee member, Hokeness, testified that the

committee did not know the number of employees included in the covenants or

how names were chosen. Tr. 3133–34.

Similarly, ALC’s legal counsel were largely kept in the dark after Bebo

first solicited Fonstad’s advice in early 2009. Fonstad and Zak-Kowalczyck

testified that they were not made aware of the inclusion of employees in the

covenant calculations before March 2012. Tr. 1507–12, 4339–40, 4344–45. And

the opinion that Quarles provided in April 2012 indicating that Bebo acted

reasonably by including employees in ALC’s covenant calculations shows that

Quarles did not understand Ventas had not provided its agreement to the

practice and that Quarles was unaware of the extent of the practice. See

Ex. 1037. In fact, Bebo admitted in her investigative testimony that she never

discussed the issue with Zak-Kowalczyck or any Quarles lawyer. Tr. 2184–85,

2187–89, 2192–93. Bebo also acknowledged she never disclosed to any attorney

that ALC would fail the covenants without using employees or that ALC was

including nonemployees in the covenant calculations, but she testified at the

hearing that Fonstad knew Bebo’s parents and Bucholtz’s family members

were included in the reconciliations. Tr. 2193–96.

As to ALC’s auditors, Bebo testified that Koeppel and Robinson were the

only Grant Thornton personnel that she spoke to about including ALC

employees in the covenant calculations. Tr. 2137–38. Bebo told Koeppel and

Robinson that Ventas agreed in writing to include employees in the covenant

calculations. Tr. 3366, 3495–96. She signed twelve representation letters that

represented that ALC “complied with all aspects of contractual agreements

that would have a material effect on the financial statements in the event of a

noncompliance” and that she had “no knowledge of any allegations of fraud or

suspected fraud affecting” ALC from its employees. Exs. 61–72. Bebo

understood the list of names she caused to be created was provided to Grant

Thornton along with ALC’s other covenant calculation materials. Tr. 2699–

700, 4070–73, 4124. Bebo admitted she never told Koeppel, the partner in

charge of the 2009 and 2010 audits, that ALC was including in the covenant

calculations: employees who did not actually visit the Ventas properties,

nonemployees, or Bebo’s and Bucholtz’s family members. Tr. 2150–54. Bebo

testified that before March 2012, her only discussions with Robinson—who did

not join the ALC engagement until 2011—about the inclusion of employees in

the covenant calculations, took place at two audit committee meetings in 2011.

Tr. 2159–61, 2163, 3382. In her investigative testimony, she recalled having

had only one such discussion with Robinson. Tr. 2161. Regardless, Robinson

testified Bebo never told him that ALC was including employees who did not

actually stay at the Ventas facilities, their family members, or friends. Tr.

3401–02, 3495–96, 3498–99. Bebo also did not tell Robinson that, instead of

actually reserving rooms in advance for employee use, ALC simply figured out

the covenant shortfall after the quarter had ended and included the needed

employees in the covenant calculations. Tr. 3497–98.

Although some evidence shows that Grant Thornton auditors discussed

ALC’s use of employees in the covenant calculations with the board at audit

committee meetings, Ex. 1744, I find that such references were limited. They

do not appear in Grant Thornton’s agendas and reports in the board materials,

nor were they recalled in the testimony of any ALC witness who attended those

meetings. Exs. 74–90, 92–120. In addition, Grant Thornton witnesses

Robinson and Trouba denied that Grant Thornton was told that ALC included

employees who did not actually stay at the Ventas facilities in the covenant

calculations. Tr. 3401–02, 3495–99, 3591.

Bebo’s scheme is revealed to the ALC board in March 2012.

Although the board was largely in the dark for three years, Bebo’s scheme

eventually came to light. Before the ALC board’s compensation, nominating,

and governance committee meeting in March 2012, a potential buyer of ALC

discovered the existence of the 997 account containing millions of dollars of

negative revenue adjustments and questioned Buono about it. Tr. 579–80,

2359–60. Buono disclosed the inquiry to Hennigar, who told Buono to address

this with the committee members. Tr. 579–80, 2388. At the March 6, 2012,

committee meeting, Buono explained that the massive adjustments were due

to ALC’s inclusion of employees to meet the Ventas covenants. Tr. 579, 1373,

2385–87, 2836–38; Ex. 492A at 53–56.

The board members were “surprised,” “shock[ed],” “dumbfounded,”

“confused,” and “furious” at what Buono told them. Tr. 1373–74, 2389, 2613,

2652–53, 2837–38. In delivering the news, Buono appeared frightened and

looked like he thought he would be fired immediately. Tr. 582–583, 1373.

The committee then sent for Bebo to confront her with what Buono had

revealed. Tr. 583. Bebo testified the committee asked her questions in a

manner in which they sounded unaware that ALC included employees in the

covenant calculations. Tr. 4436–37. While Bebo admitted to the committee that

ALC was using employees in the calculations, she still failed to reveal key

aspects of the practice, such as ALC’s inclusion of: (1) employees who were not

staying at the properties; (2) her family members; and (3) employees at

multiple properties during the same time period. Tr. 583–87, 1376–77. Indeed,

Bebo would never disclose to the board any of these aspects of her scheme.

Tr. 586–87, 1376–77, 2389, 2653, 2839–40.

When the full board met the next day, March 7, Bebo did not confront the

board with her claim that the board had previously approved including

employees in the covenant calculations. Tr. 2202–03. If she had confronted the

board, she would not have been able to do so with any direct evidence reflecting

that the board ever approved the practice. As noted, while some board

members had limited knowledge of select aspects of her scheme, at best they

understood it to be a practice involving a handful of employees, and not

something that was ever put up for board approval. No approval by the board

was ever reflected in writing.

Following this disclosure, the board tasked Bell with investigating ALC’s

practice of including employees in the covenant calculations. Tr. 589, 2598–99,

2841. Bell advised the board that ALC should inform its potential purchasers

of the $2 million of negative revenue recorded in the 997 account. Tr. 589–94;

Ex. 322. Separately, Bebo advocated against ALC making that disclosure.

Tr. 595–97, 2207, 2209; Exs. 325, 326. When Bell learned of Bebo’s position, he

wrote Rhinelander that he thought it was “very risky with no upside.” Ex. 326.

Rhinelander overruled Bebo, and ALC made Bell’s recommended disclosure.

Tr. 597–98.

On March 19, Bell sent Bebo and Buono an email asking for the covenant

calculations without the inclusion of employees. Ex. 328. Bell did so because

he wanted to know the Ventas facilities’ actual occupancy figures. Tr. 598–99.

Bebo responded by asking, “Why do we want to relook at the calculations and

do them a different way?” Ex. 328. Bell then forwarded her email to Hennigar,

writing, “More of the same—unbelievable!” Tr. 598–601; Ex. 328.

On April 4, Bell sent the other directors an email informing them that

ALC had recently received license revocation notices for three of the Ventas

facilities. Ex. 333. Bell attached a memo to his email in which he wrote that it

was “[h]ighly unlikely” that an email Bebo wrote in 2009 constituted “a legal

basis for inclusion of employees to meet their residence occupancy/income

covenants in the leases.” Id. at 31714. He noted that Buono’s compliance

certificate regarding patient revenue is “clearly wrong.” Id.; Tr. 602–05. When

Bebo received Bell’s memo, she asked him to withdraw these two conclusions,

but Bell refused. Tr. 2216–18.

After informing ALC that the license revocation notices constituted events

of default, Ventas insisted on conducting a site visit on short notice, such that

Bebo and Buono would be unable to attend. Tr. 2213–15; Ex. 330 at 45011.

Buono forwarded Ventas’s email demanding the short-notice visit to Bebo,

writing: “This is a problem.” Ex. 330 at 145011.

On April 11, Bell prepared a draft settlement letter to send to Ventas.

Ex. 568. Bell’s draft letter contained, among many other items, the following

statement: “As you know, ALC has … placed employees in the [Ventas]

facilities to meet the occupancy thresholds.” Id. at 4. After receiving Bell’s draft

letter, Bebo forwarded it to Buono, and advocated removing the reference to

“placed employees” because Bebo believed raising the issue would “create other

disagreements” with Ventas. Ex. 570; Tr. 4721–23. Bebo’s advocacy would not

have made sense if Ventas had previously agreed to the practice that Bell was

simply noting. The language was omitted, and Ventas remained unaware that

ALC was including employees in the covenant calculations. Tr. 215–16, 237.

On April 12, Bebo wrote to Rhinelander, intimating that the reason the

problems had arisen with the notices of revocation for three facilities was that

she and others were working too hard on other issues such as the prospective

sale of ALC. Ex. 1595 at 1.

Ventas sues ALC over license revocations.

On April 26, 2012, Ventas sued ALC for breach of the lease’s regulatory

covenants resulting from the license revocation notices. Complaint, Ventas

Realty, L.P. v. ALC CVMA, LLC, No. 1:12-cv-3107 (N.D. Ill.), ECF No. 1. The

complaint characterized the deficiencies as “jeopardizing the health, safety,

and welfare of the residents.” Id. at 2. The complaint alleged violations of five

lease covenants, but it did not implicate the financial covenants. Id. at 6 (citing

§§ 8.1.11(b), 8.2.1, 8.2.3(c), 8.3, 8.2.4).

Over Bebo’s objection, the ALC board of directors insisted that any

settlement with Ventas contain a specific release relating to the inclusion of

employees in the covenant calculations. Tr. 611–13, 2846–48; Ex. 351. As a

result, on April 27, the day after Ventas filed the complaint, Bebo emailed

Ventas a proposed settlement containing a specific release relating to ALC

“renting rooms … to certain of its employees and including those employees in

certificates and covenant calculations.” Ex. 350 at 151598. Bebo’s transmittal

email stated that she “purposefully left the dollar amount blank” but informed

Ventas “that the other items are important to our agreement in principle.” Id.

at 151596. When Ventas received the settlement proposal, it learned for the

first time in writing that ALC had been including employees in the covenant

calculations. Tr. 246–47. Doman testified that ALC sought a release on this

basis because its practice was not allowed under the lease. Tr. 247.

The board retains Milbank to conduct an internal investigation.

On May 2, 2012, ALC’s directors, other than Bebo, received a letter from

an ALC employee detailing Bebo’s suspicious conduct on the Ventas covenant

calculations. Tr. 613–14, 1163–64, 1167–68; Exs. 352, 353. The letter disclosed

that, as part of Bebo’s occupancy reconciliation scheme, ALC included: (a) the

same employees at multiple properties at the same time; (b) employees who

did not travel to the Ventas facilities; and (c) nonemployees such as Bebo’s

relatives and friends. Ex. 353 at 1. This was the first time this information had

been brought to the directors’ attention. Tr. 605–06, 614–16, 1384, 2653–54,

2848–49. On May 3, ALC’s board retained Milbank to conduct an internal

investigation. Tr. 616–17, 1384–85, 2613, 2849.

ALC delays its earnings call for the first quarter of 2012.

Minutes before market close on May 3, 2012, ALC issued a single sentence

press release that it would delay its first quarter 2012 earnings announcement

and conference call with analysts. Ex. 2081 at 2; Ex. 2186 at 16. Bebo

counseled the ALC board against the press release because it would be

misinterpreted by the market as a sign ALC agreed to sell the company.

Tr. 4486–87. ALC’s stock price increased 8.31% in the last seven minutes of

trading because the market did interpret the press release as evidence of a

prospective sale. Ex. 2186 at 16 n.59; Tr. 4495. On May 3, ALC had started

trading at $17.96, and remained quite close to that amount throughout the

day, but, after the delay was announced, it traded significantly higher, closing

at $19.17. Ex. 2186 at 39.

ALC discloses the Ventas suit and possible lease irregularities.

On May 4, 2012, prior to market open, ALC filed a Form 8-K disclosing

the above-described Ventas lawsuit, as well as a board decision to investigate

“possible irregularities” related to the Ventas lease. Ex. 14; see Ex. 2186 at 40.

That day, ALC’s stock price opened at $18.25 (down from $19.17 at market

close on May 3), and closed at $16.80. Ex. 2186 at 40; Tr. 3637–38.

Over the course of May 3 and 4, Bebo handwrote a 21-page letter

expressing concerns that the board and Quarles would not speak with her.

Tr. 2227–28, 4519–22; Ex. 354. At the time, Bebo was unaware the board had

received the letter and was attempting to retain a law firm, and that Quarles

faced a potential conflict because Buono’s wife was a partner there. Tr. 1427–

28, 4519–22. Bebo’s letter noted that ALC is “off side on the covenants and we

are facing a material financial impact,” Ex. 354 at 513, but given the context

of the Ventas lawsuit which alleged violations of numerous covenants but not

the financial ones, it is unlikely this comment relates to the occupancy and

coverage ratio covenants.

On May 9, Ventas sent ALC a letter providing notice of defaults under the

lease in seven areas. One default alleged that ALC “submitted fraudulent

information” to Ventas on compliance with section 8.2.5 of the lease, its fraud

included “treating units leased to employees as bona fide rentals by third

parties” in reports to Ventas, and ALC “may have failed to comply with Section

8.2.5 of the Lease by failing to maintain required occupancy and coverage

ratios.” Ex. 356 at 1. The other allegations concerned (1) the attempt to

relinquish the license for a CaraVita facility, (2) regulatory notices of intent to

revoke permission to operate three facilities, (3) failure to comply with

reporting obligations, (4) failure to provide notice of fire damage at a facility,

(5) failure to provide notice of work on a facility and to perform work in

accordance with applicable legal requirements, and (6) failure to provide

information requested by Ventas. Id. at 1–2.

After receiving the May 9 letter, ALC’ s directors believed the situation

was “going from bad to worse,” which “put more pressure” on ALC to “solve the

Ventas problem.” Tr. 617–18.

On May 10, Ventas filed a motion for leave to file an amended complaint.

The amended complaint included several of the new allegations in the abovedescribed Ventas letter of May 9, but did not include allegations related to the

occupancy and coverage ratio covenants being satisfied fraudulently by ALC.

Ex. 1194 at 1–2; see also Div. Prehr’g Br. at 18 n.5 (Apr. 6, 2015) (admitting

the same, contrary to allegations in the OIP). On May 14, the judge granted

Ventas’s motion and docketed the amended complaint. Ventas Realty, ECF

Nos. 28, 29.

ALC publicly discloses Ventas’s covenant allegation.

On May 14, 2012, ALC filed a Form 8-K disclosing ALC’s receipt of the

May 9 Ventas letter and Ventas’s proposed amended complaint of May 10. This

is the first time the public learned about financial covenant allegations and the

other new allegations raised by Ventas. As for the occupancy covenants, the

Form 8-K reported that the Ventas letter asserted that ALC had “submitted

fraudulent information by treating units leased to employees as bona fide

rentals by third parties and, therefore, may not have been in compliance with

the minimum occupancy covenant and coverage ratio covenants.” Ex. 2076 at

2. The Form 8-K also discussed the potential losses to ALC in the event Ventas

was successful in pursuing its lawsuit. Id. This included a reduction in ALC’s

future net income of roughly $10 million, a possible $7 million in non-cash

charges to future income, and a possible $3.5 million reduction to future income

from a different lease in which Ventas recently became the counterparty. Id.

On May 15, ALC filed its first quarterly report for 2012 and disclosed

quarterly earnings. On the same day, Ventas filed a motion for expedited

discovery. Mem. in Supp. of Mot. for Expedited Discovery, Ventas Realty, (May

15, 2012), ECF No. 31. Ventas summarized the basis for its motion and made

clear that as of that date, Ventas did not understand the previously disclosed

lease “irregularities” or “internal investigation” to relate to the financial

covenants, but instead held the belief that they were related to the well-being

of its facilities’ residents. In the motion, Ventas described ALC’s Forms 8-K as

“opaque disclosures” that did not explain what the “irregularities” were. Id. at

1. Ventas noted its “great concern that these ‘irregularities’ relate to serious

deficiencies in the operation of the assisted living facilities” that “may present

a significant risk to the value of the properties and the health and safety of the

residents.” Id. at 1–2. Further, alleging an ongoing effort to destroy records by

ALC, Ventas requested limited expedited discovery “to learn more about the

facts and circumstances that are the subject(s) of ALC’s ongoing internal

investigations.” Id. at 2.

While Ventas was concerned about spoliation, the first basis for the motion

arose from its “serious concern” that ALC’s disclosure of its internal

investigation into lease irregularities is a health-and-safety issue—which was

reasonable given the three facilities facing the risk of shutdown by state

regulators.9 The motion does not, as the Division suggests, demonstrate that

Ventas intended to seek expedited discovery on alleged fraud relating to the

occupancy and coverage ratio covenants. Those allegations, though known to

Ventas, were not included in their amended complaint. Ventas’s

understanding indicates that no one outside ALC was aware that the May 4

disclosure of the internal investigation into irregularities had anything to do

with the financial covenants.

ALC settles by purchasing the facilities from Ventas at a premium and

terminates Bebo.

As part of ALC’s settlement efforts, its board quickly authorized the

purchase of the Ventas properties for up to $100 million, with the offer

predicated on a “full and unconditional” release from Ventas “of all its possible

claims against [ALC].” Tr. 618–19; Ex. 123 at 2. ALC ultimately paid $100

million to settle the litigation and purchase the facilities and four other

residences, although select appraisals valued the purchased facilities at $62.8

million. Ex. 544 at 27, 29. Thus, in its financial statements for the second

quarter of 2012, ALC included a $37.2 million expense for “lease termination

and settlement” and also wrote off an $8.7 million lease intangible asset

associated with the Ventas facilities. Id. at 11. The financial impact associated

with the settlement resulted in ALC taking a $25 million loss in what

otherwise would have been a profitable quarter. Tr. 4683–84.

Various witnesses testified that ALC purchased the properties for

significantly more than fair value. Based on Bell’s calculations, ALC overpaid

by at least $24 million. Tr. 620–21. Buntain believed ALC purchased the

But see Tr. 386 (Doman testimony that Ventas sought expedited discovery

into “irregularities” that “[h]ad to do with the occupancy calculations”).

Doman’s testimony is inconsistent with the plain language of Ventas’s motion

for expedited discovery, see Mem. in Supp. of Mot. for Expedited Discovery at

1–2, Ventas Realty, and the timeline of ALC’s disclosures regarding the

occupancy covenants: based on ALC’s disclosure in April 2012 (Ex. 350 at

151598), Ventas raised the occupancy issue in its May 9 letter, Tr. 391–92, but

did not connect it with the lease irregularities. I do not credit Doman’s

understanding of the motion for expedited discovery.

properties for $20 million more than they were worth. Tr. 1385–86. Roadman

testified the settlement contained a “penalty” component. Tr. 2636–37, 2657.

ALC was willing to pay more than market value to resolve all of the disputes

with Ventas and be released from all claims, which would otherwise jeopardize

the process of selling ALC. Tr. 621, 1386, 1390.

However, in the context of settling the Ventas lawsuit, which never

involved financial covenant allegations, the Division has identified only one

document that links the elevated settlement premium to the financial

covenants: a note drafted by Grant Thornton’s Amy H

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