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Feds allege fraud by R.I., bank in 38 Studios bond deal

The remnants of 38 Studios were auctioned when it folded two years after receiving $50 million in bonds from the Rhode Island Economic Development Corp., which now faces civil fraud charges. Stephan Savoia/Associated Press/File 2012

Federal securities regulators Monday filed civil fraud charges against a Rhode Island state agency and Wells Fargo Securities for allegedly misleading investors who bought municipal bonds to finance 38 Studios, the failed video game company started by former Red Sox pitcher Curt Schilling.

The Rhode Island Economic Development Corp. issued $75 million in bonds as part of a package under then-Governor Don Carcieri to lure 38 Studios away from Massachusetts in 2010. The company got $50 million, with the rest set aside for expenses, investment banking fees, and interest on the debt.

Schilling had big plans for the startup, which was launched in Maynard and was attempting to build a complex multiplayer game in the style of “World of Warcraft.” Bond investors were to be repaid with revenue generated by game sales.


The Securities and Exchange Commission, in documents filed in federal court in Providence, said the economic development agency and Wells Fargo, which underwrote the bonds, failed to disclose to investors that 38 Studios said it would need more than $75 million to produce the game, code-named Copernicus. When 38 Studios failed to obtain additional financing, the SEC said, the company defaulted on the loan.

“Municipal issuers and underwriters must provide investors with a clear-eyed view of the risks involved in an economic development project being financed through bond offerings,” Andrew Ceresney, director of the SEC’s enforcement division, said in a statement.

Schilling’s company failed two years after the deal. Nearly 400 employees lost their jobs, and the state was on the hook to repay the bond investors or risk its reputation and credit rating. A Rhode Island criminal investigation continues.

The SEC also charged Wells Fargo’s lead banker on the deal, Peter M. Cannava, and two former RIEDC executives, Keith W. Stokes and James Michael Saul, with aiding in the alleged fraud. Stokes and Saul agreed to settle the charges without admitting or denying the allegations and agreed to pay a $25,000 penalty. They are prohibited from participating in any future municipal securities offerings.


Cannava’s lawyer, Brian Kelly in Boston, denied wrongdoing by his client. “Instead of addressing the mistakes of the governor and Curt Schilling, they’re trying to scapegoat a mid-level employee,” Kelly said.

Gabriel Boehmer, a spokesman for Wells Fargo, said the Charlotte, N.C.-based bank disputes the SEC’s allegations and will respond to them in court.

A lawyer for the Rhode Island agency, which has since been renamed the Rhode Island Commerce Corp., did not return requests for comment. Schilling also did not respond to a request for comment.

The SEC also alleged that Wells Fargo did not fully disclose its fees in the deal, including $400,000 in additional compensation from 38 Studios.

“An underwriter’s ‘skin in the game’ is material information to investors,” said LeeAnn Ghazil Gaunt in Boston, chief of the enforcement division’s municipal securities and public pensions unit. “We allege that Wells Fargo failed to fully disclose its own economic interest in this bond transaction.”

In a separate administrative proceeding, First Southwest Co., the RIEDC’s financial adviser for the bond offering, agreed to settle charges that it failed to document the scope of its work on a timely basis. Without admitting or denying the findings, First Southwest agreed to pay $120,000, plus $22,400 in interest and a $50,000 penalty.

Beth Healy can be reached at beth.healy@globe.com. Follow her on Twitter @HealyBeth.