Rodney R. Schoemann, Securities Act Rel. 9076, October 23, 2009
Time since last brief filed – 6 months 7 days
Time since appeal filed – 8 months 25 days
Schoemann is a professional stock market trader. The ALJ found that he had violated the registration provisions of § 5 of the Securities Act and entered a cease and desist order against him as well as requiring him to disgorge his profits of $967,901. The Commission upheld the sanctions on appeal.
Schoemann bought the stock from an individual in the business of purchasing shell companies with a view toward selling their stock publicly. He later sold the stock into the markets.
The Commission found that due to the seller's ownership of a large block of the issuer's stock and his activities on behalf of the company that he was a control person of the issuer. Therefore, Schoemann was a statutory underwriter since he bought the stock from an "issuer" with a view toward re-selling it to the public. Thus, his sales were not exempt from the registration provisions of the Securities Act. As the opinion summarizes, "[i]ndividual investors who are not securities professionals may be deemed 'underwriters' within the statutory meaning of that term if they act as links in a chain of securities transactions from issuers or control persons to the public."
The Commission rejected Schoemann's advice of counsel defense, noting that § 5 is a strict liability statute and that good faith is not a valid defense. As is its practice, the Commission also applied a strict test of the privilege and found Schoemann's claim wanting as the lawyer in question was not Schoemann's counsel. It noted that one cannot legally rely on the advice of another's counsel.
This case presents a useful summary of some of the key concepts underlying the registration provisions of the Securities Act. Those who participate in a "distribution," the process by which stock is transferred to the public by issuers or their control persons are likely to violate the statute.
Lexisnexis
Showing posts with label disgorgement. Show all posts
Showing posts with label disgorgement. Show all posts
Disgorgement and Penalties Upheld – Will Be Inevitable Where There Is Egregious Fraud Regardless Of Inability To Pay
Maria T. Giesige, Exchange Act Rel. 60000, May 29, 2009
Time since appeal filed – 6 months 30 days
Time since last brief filed – 4 months 24 days
Pages – 13
Footnotes – 27
This is an important decision. Although the Commission could have imposed the monetary sanctions because the evidence was not introduced at trial it ruled that due to the egregious nature of the fraud penalties and disgorgement would have been imposed in any event.
The Commission ruled that disgorgement is appropriate, regardless of respondent's inability to pay because she "received this money as compensation for the very transactions that constituted the violations . . . ." It also upheld third tier penalties of $500,000 noting that inability to pay is "but one factor" to be considered. "Where the egregiousness of [the] conduct outweighs any consideration of . . . inability to pay . . . the public interest requires that the civil penalty be imposed."
This appears to be a significant tightening of the Commission's position. This case means that inability to pay will not automatically result in the Commission deciding not to impose disgorgement or penalties and that when there is significant fraud disgorgement and penalties are all but inevitable.
Giesige was associated with a broker-dealer and later registered as an investment adviser. The ALJ found that she made material misstatements and omitted material facts in selling securities of Carolina Development Co., sold unregistered securities, and also acted as an unregistered broker-dealer because because she sold away by not notifying her employer of her sales. The ALJ entered a cease and desist order, barred from association with a broker, dealer, or investment adviser, ordered disgorgement of $21,000 and ordered her to pay a $500,000 penalty.
The Commission upheld the ALJ's findings and sanctions. Giesige did not challenge the findings of violations on appeal. Nor did she challenge the cease and desist order or the bars. She asked that the disgorgement and penalty amounts be removed due to her inability to pay.
Discussion
Giesige was a rep from 1986 until 2007. In 2005 and 2006 on her recommendation fifty of her clients bought $1.49 million of Carolina Development securities. Giesige and her husband personally invested $29,000 in Carolina. Carolina purported to be in the real estate development business and touted the prospect of an impending public offering of its stock. It never registered its securities with the SEC and it took no steps to consummate an IPO. Its securities traded on the OTC bulletin board. In late 2005 the Commission sued Carolina and obtained a preliminary injunction and the appointment of a receiver. The receiver found that Carolina had no business revenues. Its only source of money was new investors from whom it had raised $52 million. Its only assets were real estate and it had no financial books and records. The receiver liquidated the company for $8 million.
Giesige gave offering materials to customers that she admitted she did not understand. She made no effort to verify any of the information. Although the company claimed its financial statements were audited she never obtained a copy of the audited financials. Some of her customers testified that in recommending Carolina securities she gave the impression she had done substantial due diligence. Giesige received $21,000 in commissions and 13,900 shares of Carolina stock in sales commissions. She also claimed that an IPO at $9 per share was imminent despite knowing that the stock was quoted in the pink sheets for $.30 per share. She also made price projections – claiming that the price of the stock would rise from $3 to $9 per share in a few months. Most of her customers were unsophisticated and had limited income and savings. Many borrowed against their IRAs to fund their investments. She did not notify her broker-dealer employer of her sales of Carolina stock.
Despite being represented by counsel Giesige offered no evidence at the trial of her inability to pay disgorgement or penalties. She tried to introduce evidence of her financial condition in her post-trial brief. The ALJ refused to allow this evidence as untimely. The Commission specifically upheld this ruling by the ALJ based on Commission Rule 340(b) that requires post-trial submissions to cite to evidence in the trial record. Inability to pay must be introduced at trial in order to allow the Division of Enforcement to contest it.
Finally, the Commission found that Giesige's conduct was so egregious that it would not waive disgorgement or penalties in any event. It found her fraud knowing or extremely reckless.
Comment
The Commission announces that it will not waive disgorgement or penalties based on inability to pay where the fraudulent conduct was knowing or extremely reckless. Practitioners should also note that the Commission will not consider inability to pay evidence that is not introduced at trial. Attempting to introduce such evidence in post–trial briefs will not be countenanced.
Time since appeal filed – 6 months 30 days
Time since last brief filed – 4 months 24 days
Pages – 13
Footnotes – 27
This is an important decision. Although the Commission could have imposed the monetary sanctions because the evidence was not introduced at trial it ruled that due to the egregious nature of the fraud penalties and disgorgement would have been imposed in any event.
The Commission ruled that disgorgement is appropriate, regardless of respondent's inability to pay because she "received this money as compensation for the very transactions that constituted the violations . . . ." It also upheld third tier penalties of $500,000 noting that inability to pay is "but one factor" to be considered. "Where the egregiousness of [the] conduct outweighs any consideration of . . . inability to pay . . . the public interest requires that the civil penalty be imposed."
This appears to be a significant tightening of the Commission's position. This case means that inability to pay will not automatically result in the Commission deciding not to impose disgorgement or penalties and that when there is significant fraud disgorgement and penalties are all but inevitable.
Giesige was associated with a broker-dealer and later registered as an investment adviser. The ALJ found that she made material misstatements and omitted material facts in selling securities of Carolina Development Co., sold unregistered securities, and also acted as an unregistered broker-dealer because because she sold away by not notifying her employer of her sales. The ALJ entered a cease and desist order, barred from association with a broker, dealer, or investment adviser, ordered disgorgement of $21,000 and ordered her to pay a $500,000 penalty.
The Commission upheld the ALJ's findings and sanctions. Giesige did not challenge the findings of violations on appeal. Nor did she challenge the cease and desist order or the bars. She asked that the disgorgement and penalty amounts be removed due to her inability to pay.
Discussion
Giesige was a rep from 1986 until 2007. In 2005 and 2006 on her recommendation fifty of her clients bought $1.49 million of Carolina Development securities. Giesige and her husband personally invested $29,000 in Carolina. Carolina purported to be in the real estate development business and touted the prospect of an impending public offering of its stock. It never registered its securities with the SEC and it took no steps to consummate an IPO. Its securities traded on the OTC bulletin board. In late 2005 the Commission sued Carolina and obtained a preliminary injunction and the appointment of a receiver. The receiver found that Carolina had no business revenues. Its only source of money was new investors from whom it had raised $52 million. Its only assets were real estate and it had no financial books and records. The receiver liquidated the company for $8 million.
Giesige gave offering materials to customers that she admitted she did not understand. She made no effort to verify any of the information. Although the company claimed its financial statements were audited she never obtained a copy of the audited financials. Some of her customers testified that in recommending Carolina securities she gave the impression she had done substantial due diligence. Giesige received $21,000 in commissions and 13,900 shares of Carolina stock in sales commissions. She also claimed that an IPO at $9 per share was imminent despite knowing that the stock was quoted in the pink sheets for $.30 per share. She also made price projections – claiming that the price of the stock would rise from $3 to $9 per share in a few months. Most of her customers were unsophisticated and had limited income and savings. Many borrowed against their IRAs to fund their investments. She did not notify her broker-dealer employer of her sales of Carolina stock.
Despite being represented by counsel Giesige offered no evidence at the trial of her inability to pay disgorgement or penalties. She tried to introduce evidence of her financial condition in her post-trial brief. The ALJ refused to allow this evidence as untimely. The Commission specifically upheld this ruling by the ALJ based on Commission Rule 340(b) that requires post-trial submissions to cite to evidence in the trial record. Inability to pay must be introduced at trial in order to allow the Division of Enforcement to contest it.
Finally, the Commission found that Giesige's conduct was so egregious that it would not waive disgorgement or penalties in any event. It found her fraud knowing or extremely reckless.
Comment
The Commission announces that it will not waive disgorgement or penalties based on inability to pay where the fraudulent conduct was knowing or extremely reckless. Practitioners should also note that the Commission will not consider inability to pay evidence that is not introduced at trial. Attempting to introduce such evidence in post–trial briefs will not be countenanced.
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