Bitter brew.

Byline: EDWARD RUSSO The Register-Guard

WHEN BILL AND EFFIE HALL drive past the former Caffe Diva drive-through stand near Gateway Mall in Springfield, they wonder where their money went.

Four years ago, the elderly Eugene couple used $2,000 of their retirement savings to buy stock from the coffee retailer. They had read about the company's direct-to-investors stock offering in the newspaper and hoped their purchase would eventually pay off.

"You have Starbucks, and I have a relative who invested in that and made a bundle," Effie Hall said. "We thought we might get in on a company like that."

Instead of becoming the Starbucks of coffee drive-throughs, Caffe Diva violated Oregon securities law and eventually pulled a vanishing act, to the dismay of the Halls and hundreds of other Lane County investors. All told, Caffe Diva took in nearly $1 million by selling stock to the public.

Buying stock in established companies on the nation's major stock exchanges is risky enough, as the recent woes of Enron, WorldCom and other giants show. To sell stock in formal initial public offerings and get on major exchanges, companies go through reviews by investment banking firms and the U.S. Securities and Exchange Commission, which is supposed to protect the public.

But for investors in small, state-reviewed stock offerings, such as Caffe Diva's, the risks are far higher and the safeguards far weaker.

Caffe Diva, founded in Eugene, is one of 18 Oregon companies that since the mid-1980s have raised more than $25 million in start-up money by selling shares directly to investors in stock offerings given the green light by the Oregon Division of Finance and Corporate Securities.

The majority of these companies - including Caffe Diva - have failed, making their stock worthless, a Register-Guard investigation found.

The Caffe Diva case highlights how mom-and-pop investors put their faith in entrepreneurs who were big on dreams but often short on skills and, sometimes, ethics.

Four years after Caffe Diva raised money from investors, securities regulators in Oregon and other states fined the firm for fraud related to the company's sale of - and default on - $4.8 million in promissory notes, a type of corporate IOU. Most of the people who bought the promissory notes were elderly - those least able to afford to lose their savings.

Caffe Diva's case underscores weaknesses in the state system that is supposed to prevent questionable offerings from reaching the public.

State regulators rely heavily on entrepreneurs being honest and disclosing to investors key details about themselves and their companies.

In the absence of independent fact checking by regulators, entrepreneurs can embellish resumes or - as in the case of Caffe Diva - leave out disturbing facts investors might have found useful.

And while state regulators review each company's formal stock offering document, or prospectus, they don't screen other kinds of communication with investors. Caffe Diva, for example, made exaggerated claims in a letter it sent directly to investors.

Caffe Diva's history illustrates other drawbacks for investors, too.

Companies traded on the major stock exchanges must file independently audited financial reports with the U.S. Securities and Exchange Commission every three months.

However, Oregon requires most small direct-offering firms only to hold an annual shareholder meeting. If a company fails to do that or stops providing shareholders with financial reports, as Caffe Diva did in late 2000, investors can do little.

"The thing that tees me off is that (Caffe Diva) hasn't notified us that they have gone bankrupt or anything else," said Effie Hall, 77. "We don't even know if we should take a loss on our income taxes."

Caffe Diva has not declared bankruptcy. But it stopped operating as a corporation in late 2000. That's when a creditor company took control of the firm from co-founder Ron Davis and formed a new company to run the drive-throughs.

The investments of the 680 shareholders apparently became worthless at that point.

Meanwhile, some of the estimated 150 to 200 mostly elderly people in 19 states who bought Caffe Diva's illegal promissory notes have considered legal action. But no agency or person has collected a dime in restitution.

"It's a sad story," said David Weiss, an enforcement officer with the Oregon Division of Finance and Corporate Securities.

The chance of the Halls and other stockholders recovering any of their investment is "remarkably thin," Weiss said.

"They're finished. The likelihood of them getting redress or an interest in (Caffe Diva's successor company) is extremely minimal - about the likelihood of me growing hair again."

Like the Halls, most of the stock investors in Caffe Diva do not know what happened to the company or their money.

"They didn't give us the decency to say that they were potentially falling apart," investor Kay Ekker of Springfield said. "I think it's cowardly of how they handled it. To walk out without any notice."

A hot company

Not long ago, many people in Lane County felt much better about Caffe Diva.

In 1996, BeLinda Davis opened the first Caffe Diva in the Safeway parking lot on West 11th Avenue near Bailey Hill Road in Eugene.

Davis had worked in customer relations at Selco Credit Union and as a fund-raiser for St. Paul's Catholic School and Marist High School.

While she tended the stall, her husband, Ron Davis, plotted strategy. Their early goal: to make Caffe Diva a statewide coffee drive-through business.

With a $100,000 loan from Pacific Continental Bank, Caffe Diva in 18 months grew to three local outlets - cream-colored stands topped by dark green roofs and copper-colored signs.

At this point, many entrepreneurs might have turned to private investors for money. But Ron Davis said that was hard because technology companies were attracting all the cash. So Davis, then 54, and his wife, who was 40, used a direct offering called a Small Corporate Offering Registration, or SCOR, to try to raise $1 million.

Companies solicit shareholders through a disclosure document reviewed by regulators that doubles as a prospectus to investors. Among other things, Caffe Diva's 36-page document gave details about the company and brief descriptions on the Davises' backgrounds.

The description of Ron Davis, for example, said he owned a small consulting firm specializing in "financial-related issues," and had an MBA from the University of Southern California.

But it did not note that for much of the previous 25 years, Ron Davis had worked as a self-employed contractor in California and that after he moved to Oregon, he lost a Myrtle Creek organic vegetable farm in a foreclosure. Those facts were divulged only last year in a deposition that Davis gave to regulators investigating the promissory note fraud.

Oregon regulators also check ads to prevent misleading claims from reaching investors.

But they don't review letters to prospective investors.

In these letters, the Davises compared their tiny, unproven business to giants of American commerce. "When Nike, Microsoft, Starbucks, Wal-Mart and numerous others were in development stages did you receive a letter such as this asking for your participation? ... If you ever wanted to be on the inside of an Initial Public Offering, here is your opportunity," they wrote.

But the only thing Starbucks and Caffe Diva had in common was coffee.

For starters, Caffe Diva's stock offering was not an IPO - a formal public offering underwritten by an investment banking firm that helps put a company's stock on a national exchange. Direct-to-investor stocks such as Caffe Diva are not listed on an exchange and the shares are very hard for investors to sell.

And comparing the early histories of Starbucks and Caffe Diva was laughable.

In the year before it sold stock to the public in an IPO, Starbucks had a $4 million profit on sales of $93 million. In the year before it sold stock in its direct public offering, Caffe Diva, which had never earned a profit, lost $24,958 on sales of $163,563.

Investors lap it up

Caffe Diva's money-losing record didn't matter to some investors. Propelled by the novelty of Caffe Diva baristas hawking stock from drive-through windows, plus plentiful advertising and unquestioning media coverage, the offering attracted many investors.

Gerald Rainey, then a vice president with Selco Credit Union, invested $2,000 in the stock. He knew BeLinda Davis from work, and for a time was on Caffe Diva's board of directors. "I'm willing to take a risk in a start-up company, and I looked at their business plan and it looked good to me," Rainey said.

The stock sale raised $987,000, Ron Davis said. (State regulators do not verify how much firms raise, only that they meet minimum fund-raising goals before they can start spending investors' money.) After subtracting $100,000 in expenses, Caffe Diva cleared about $887,000, Ron Davis said.

The Davises, with Ron Davis as CEO, then moved quickly. By mid-1998, they announced the opening of drive-throughs in such places as Oregon City, Tualatin and Keizer. Also, Caffe Diva moved its headquarters to Portland.

"There were more coffee drive-throughs in Lane County than there were in Multnomah County," Davis told The Register-Guard in a May interview. "We felt that we were in the right place at the right time because Starbucks had not yet started a push for drive-throughs."

According to the state investigation, Caffe Diva about this time hired a venture capital firm in Florida, which suggested that the Davises expand nationwide.

"We had a window of opportunity here," Ron Davis said, holding his hands a foot apart. "Other companies were trying to do the same thing we were. We knew this was an idea whose time had come - being in the shadow of Starbucks but doing something different from Starbucks.

"I wanted to be a national, publicly held company.'

In his deposition, Davis said the Florida firm promised to raise $5 million from venture capitalists for Caffe Diva. But ultimately, the Florida firm was unable to raise the money and Caffe Diva's mounting expenses related to expansion were too much for the coffee stands to handle, Davis told regulators.

"The mistake that, I suppose looking back, I aided was to allow that (expansion) train to go down the track," he said. " We should've just pulled back, let everyone go except the bare minimum corporate staff, moved into a garage someplace ... The (drive-through) stores were operating very, very nicely."

About this time, Davis said, he was contacted by C. Steven Bolen of Encino, Calif., who suggested that Caffe Diva raise money by selling promissory notes.

An investigation recently completed by the Oregon securities agency found that from 1998 to 2000, Caffe Diva sold $4.8 million in promissory notes to mostly elderly residents in California, New York, Arizona, Wisconsin, Pennsylvania and 14 other states. The probe found one Oregon promissory note investor.

The notes, corporate IOUs peddled by insurance agents, promised interest rates of 9 percent to 13 percent.

Caffe Diva was supposed to repay most of the investors in nine months. If Caffe Diva defaulted, investors were supposed to be paid by a bonding company, New England International Surety Inc.

"A lot of happy talk"

The notes were illegal because they were not approved for sale by state securities regulators, said Weiss, the Oregon securities investigator.

The insurance agents who sold the notes were not licensed to sell securities, he said. Also, New England International Surety was based in Belgium and was not licensed to do business in the United States, Weiss said.

In addition, Caffe Diva and New England International did not tell investors that the notes were "highly speculative investments," particularly for people at or near retirement, Weiss said. Nor did the note sellers provide details about the firms' finances so investors could assess the risks, he said.

Potential investors received a glossy brochure with photos of Caffe Diva kiosks, smiling company employees and statements about the firm eventually growing to 50 outlets across the country. Caffe Diva's losses were not mentioned.

At the end of its fiscal year in June 1998, Caffe Diva had a net loss of $118,084 on sales of $783,567.

"The investors should have gotten a prospectus which clearly disclosed the financial condition of Caffe Diva," Weiss said. "What they saw was a glitzy three- to four-page brochure filled with a lot of happy talk."

These investors ended up losing heavily when Caffe Diva defaulted on the notes, Weiss said. Caffe Diva paid back only $634,714, and New England International didn't step up as it was supposed to.

"There are a significant number of elderly investors who are out of their funds," Weiss said. "It's not a pretty picture."

In his deposition, Davis blamed Bolen for the promissory note scheme.

Bolen had been chief financial officer of Financial News Network, a cable TV business news channel that went bankrupt in 1991.

Bolen later spent 1 1/2 years in a California prison for securities and bank fraud related to the network's collapse. He did not return calls from The Register-Guard.

But Davis' other choice for a business partner was also questionable.

The bonding firm, New England International, had been in trouble with regulators in several states for other illegal promissory note sales.

New England was controlled by Hendrik Reinstra, a Belgian citizen who last fall was one of seven people indicted by a federal grand jury in New Orleans for allegedly selling $22.5 million of fraudulent promissory notes to investors, according to The Associated Press.

The notes supposedly were to renovate a hotel in Italy and finance an oil field clean-up business in Azerbaijan, the AP reported.

Caffe Diva - after paying fees to Bolen, the insurance agents and Reinstra's firm - received $2.6 million from the promissory note sales, Weiss said.

Except to say, "We got mixed up with a bunch of shysters," Davis declined to talk about the note sales.

Weiss said Davis bears much of the responsibility.

Davis claimed an extensive business background before helping launch Caffe Diva, Weiss said. He had worked as a stockbroker with Dean Witter in Los Angeles. Davis "should have known better," Weiss said.

In the dark

Caffe Diva shareholders, meanwhile, had no idea what Ron Davis was up to.

In 1999, for example, shareholders got an upbeat report at the DoubleTree Hotel in Springfield during their first annual meeting.

The company had eight outlets, including a minority ownership stake in a Tucson, Ariz., drive-through, and said it planned to open more outlets in Arizona and in California. Caffe Diva also had bought coffee roaster Portland Roasting by giving its owners Caffe Diva stock.

But with the promissory notes needing to be paid plus other financial demands, Davis continued to seek money from other sources.

Sometime in 1999, he struck a deal with KAL Equity Group, a Bay Area investment banking firm that pumped about $1 million into Caffe Diva, according to the state investigation.

KAL Equity then began to shape Caffe Diva's strategy.

KAL Equity CEO Kim Lorz did not respond to calls and letters from The Register-Guard and, when contacted, Executive Vice President Karen Carlon declined to talk about Caffe Diva.

In published articles, Carlon said KAL Equity led Caffe Diva to buy drive-through competitors and related companies with stock certificates, not cash, allowing Caffe Diva to grow with minimal upfront cost.

With this strategy, by late 1999, Caffe Diva had acquired a bakery and a bagel chain. Besides giving the owners of the acquired companies stock, Caffe Diva often assumed their debt. Other acquisitions included drive-through stands; by 2000, the chain boasted 28 outlets in five states.

Yet Caffe Diva still lost money.

At the end of its fiscal year in June 1999, the firm had sales of $1.5 million, but a net loss of $1.4 million, much of it caused by paying interest on the promissory notes.

Locked out

A year later, after an effort to sell the company flopped, KAL Equity fired Davis.

Davis told The Register-Guard that KAL locked him out of his office.

"It was essentially taken from us," he said. "I don't think it was legal, but we had no more money to invest in the company or to fight it (the takeover)."

In news releases, KAL said it had foreclosed on Caffe Diva's assets, mainly the drive-throughs. (Davis had previously divested some of the earlier acquisitions.)

To run the drive-throughs, KAL formed Coffee Five Corp., and gave the drive-throughs a new name: Latte Express.

All this took place without the knowledge of the stock investors. Some stockholders last year tried to call the company's office in Portland, only to find the number disconnected.

Persistent investors talked to local Coffee Five employees, and a few tracked down the firm's Salem-based manager, who told them that Caffe Diva no longer existed.

Most investors, however, remain unclear even today about the status of their stock, partly because Coffee Five kept Caffe Diva signs on the drive-throughs.

Now, Coffee Five is struggling in the crowded coffee drive-through market. In May, it closed three of its four Eugene-Springfield Latte Express outlets, leaving the one off Gateway Street in Springfield (still with the Caffe Diva sign), and others in Salem, Keizer and Newberg.

Difficult years for Davis

In the May interview with The Register-Guard, Ron Davis said the past few years have been difficult for him and his wife.

He said he had been out of a job since he lost control of Caffe Diva, and is unable to find work in the Portland area. The Davises were living in Beaverton with a grown son. BeLinda Davis worked in a bank.

"We don't even own a car," Ron Davis said. "My wife and I have lost everything."

Davis said he was suffering from stress and depression.

However, "I'm not the kind of person who will blame anybody," he added. "I take responsibility for Caffe Diva ending up the way it ended up."

Promissory note fraud has become a major problem, bilking millions from uninformed investors and prompting warnings from the U.S. Securities and Exchange Commission and state regulators.

In June, the Oregon securities agency issued sanctions against Davis, Bolen and New England International over the promissory note sales. (Reinstra was not named; he reportedly died in Belgium earlier this year.)

The state's order means that Davis cannot sell securities or hold an investment adviser license in Oregon for 10 years, Weiss said.

After losing Caffe Diva, Davis had taught a graduate level course at Portland State University called "New Venture Creation." In the interview, Davis said he was thinking of jobs in the "financial consulting, small-business area."

Davis was fined $75,000, but it's unlikely the state will collect soon, said Weiss of the Oregon securities agency.

It appears unlikely that Bolen, who received similar sanctions, will pay his fine, either, Weiss said.

Portland attorney Steve Burke represents five retired Californians who lost a combined $400,000 by investing in Caffe Diva's promissory notes.

One of Burke's clients is an elderly Los Angeles woman who put a large chunk of her and her husband's life savings into the notes. In May 2000, the woman needed money to pay for her husband's care in a nursing home. She wrote Ron Davis: "Mr. Ron Davis if you need proof of my husband's condition or his location, please let me know and I will provide documentation (that) this is an emergency. I have to have that money to take care of him, and for food & living expenses. We are both in our eighties, and I can't work anymore. Please have mercy."

Burke said it's unlikely that he will sue any of the people behind the promissory notes, mainly because his clients cannot afford the legal fees, and it would be difficult for him, as a lone practitioner, to pursue such a time-consuming case.

Burke, who has researched Caffe Diva's evaporation, also said he probably will not sue KAL or Coffee Five for its takeover of Caffe Diva. "I haven't found any evidence that shows intent to defraud," he said.

But Burke has different feelings toward Davis and the others behind the promissory note scheme. "It blows me away that people can go out and commit such malicious fraud on this level and get away with it," he said.

Contact business reporter Edward Russo at 338-2359 or [e-mail].

CAPTION(S):

Effie and Bill Hall of Eugene lost $2,000 investing in Caffe Diva. Their family members, who learned about Caffe Diva from the Halls, also lost money on the stock. Effie Hall's son lost $2,000, and her aunt and uncle lost $10,000. Despite investments, the business continued losing money. The Register-Guard Caffe Diva co-founder BeLinda Davis serves a customer during the company's 1997 push to raise $1 million by selling stock to the public. In 1997 and 1998, Caffe Diva's trademark sign was popping up around Eugene and Springfield. The company was one of the fastest growing drive-through coffee vendors in the area. Baristas gave customers fliers such as the one below promoting the sale of the company's stock. Caffe Diva's illegal promissory notes cost this elderly woman and dozens of other investors portions of their life savings. "The investors should have gotten a prospectus which clearly disclosed the financial condition of Caffe Diva. What they saw was a glitzy three- to four-page brochure filled with a lot of happy talk." - DAVID WEISS, Oregon Division of Finance and Corporate Securities SPECIAL REPORT