Opinion
No. 98 Civ. 7525 (JGK) (RLE)
November 8, 2002
Attorney for Plaintiff: Eduardo A. Santiago-Acevedo, Senior Counsel, Securities and Exchange Commission, Northeast Regional Office New York, New York.
Attorney for Defendant: Steven Bocchino, pro se, East Stroudsburg, PA.
REPORT AND RECOMMENDATION
I. INTRODUCTION
This matter was referred for an inquest on damages on July 25, 2002, following an entry of partial final judgment by default as to defendant Steven Bocchino ("Bocehino"), by The Honorable John G. Koeltl on July 25, 2002. Based on the following facts presented to the Court by way of declaration and memorandum of law by the plaintiff Securities Exchange Commission ("SEC"), the Court recommends the SEC be awarded $84,959.70.
II. BACKGROUND
On November 13, 2001, the SEC filed an amended complaint alleging involvement in a fraudulent scheme to falsely inflate the value of common stock and to evade the registration requirements of the federal securities laws. See Memorandum in Support of the Securities and Exchange Commission's Claim for the Imposition of a Civil Penalty Against Steven Bocchino ("Mem.") at 2. Bocchino was served with the summons and amended complaint by personal service on December 22, 2001, but never filed an answer. Id. On July 15, 2002, the SEC filed an Order to Show Cause why a default judgment should not be entered against Bocchino. Following Bocchino's failure to respond to the Order to Show Cause, the Court held a hearing and entered a judgment by default ("Judgment") as to defendant Bocchino on July 25, 2002. Accordingly, the allegations of the amended complaint are now accepted as true. See Au Bon Pain Corp. v. Artect, Inc., 653 F.2d 61, 65 (2d Cir. 1981).
From May 1997 until at least August 1998, Bocchino, a registered representative, was involved in a scheme involving at least two fraudulent stock offerings. See Mem at 3. Bocchino initially sold stock in a purported public offering of Traderz, and informed investors that their $2 per share purchase was a risk-free investment which they could sell in a dew months for no less than $5 per share. Id. at 3-4. He also informed investors that if they purchase stock in the private placement, they might be permitted to participate in future IPOs. Id. at 4. Bocchino and others mailed prospective investors an offering memorandum that contained numerous material misrepresentations and included a fabricated auditors' report. Id. However, Traderz never conducted a public offering, never filed a registration statement with the SEC for a public offering, and never took any steps toward the commencement of a public offering. Id.
At the same time Boechino was raising funds through the Traderz offering, he also fraudulently sold stock of an entity called Niki Taylor, a supposed subsidiary of Traderz. Id. Bocchino told investors that this new company was going to use the fashion model Niki Taylor's name and likeness to sell merchandise over the Internet. Id. Bocchino informed investors that he was offering a risk-free private placement at $2 per share and, as with the Traderz investors, he informed the Niki Taylor investors that they would be able to sell their stock at $5 per share in a few months. Id. Traderz, however, never entered into any contract, agreement, or arrangement regarding the use of Niki Taylor's name or likeness. Id. Niki Taylor never conducted a public offering, filed a registration statement with the SEC for a public offering of securities, or took any other substantial steps to prepare for such an offering. 14. Through both fraudulent offerings, Bocchino raised approximately $808,875 from approximately sixty-eight investors, all of whom lost their entire investment. Id. at 3. By operation of the default judgment entered against him, Bocchino was found to have violated the anti-fraud provisions of the Securities Act and the Exchange Act.
III. DISCUSSION
A. Disgorgement
Upon a finding that federal securities laws have been violated, the district court has broad "equitable power to fashion appropriate remedies, including ordering that culpable defendants disgorge their profits." SEC v. First Jersey Sec., Inc., 101 F.3d 1450, 1474 (2d Cir. 1996). The remedy of disgorgement is intended to deter by depriving wrongdoers of any unjust enrichment, thereby making their violations unprofitable. SEC v. Tome, 833 F.2d 1086, 1096 (2d Cir. 1987), cert. denied, 486 U.S. 1014 (1988) (citing SEC v. Blavin, 760 F.2d 706, 713 (6th Cir. 1985); SEC v. Manor Nursing Centers, Inc., 458 F.2d 1082, 1104 (2d Cir. 1972).
In addition to its broad discretion in determining whether or not disgorgement is applicable, the district court also has discretion in calculating the disgorgement amount itself. SEC v. Lorin, 76 F.3d 458, 462 (2d Cir. 1996). The proper measure of disgorgement is the full extent of the defendant's actual illegal profit. Litton Indus., Inc. v. Lehman Bros. Kuhn Loeb, Inc., 734 F. Supp. 1071, 1076 (S.D.N.Y. 1990), rev'd on other grounds, 967 F.2d 742 (2d Cir. 1992). The disgorged amount must be "causally connected to the violation," but it need not be figured with exactitude. First Jersey Sec., Inc., 101 F.3d at 1475 ( quoting SEC v. Patel, 61 F.3d 137, 139 (2d Cir. 1995)). Accordingly, the only requirement is that the disgorgement sought be a reasonable approximation of the profits causally related to the wrongdoing. Id.
While the SEC bears the ultimate burden of establishing that its calculated disgorgement reasonably approximates the defendant's unjust enrichment, see First City Fin., Corp., 890 F.2d at 1215, 1232 (D.C. Cir. 1989), "any risk in uncertainty [in calculating disgorgement] should fall on the wrongdoer whose conduct created that uncertainty." First Jersey Sec., 101 F.3d at 1475 ( quoting Patel, 61 F.3d at 140). Thus, once the SEC shows the existence of a fraudulent scheme in violation of federal securities laws, the burden shifts to the defendant to "demonstrat[e] that he received less than the full amount allegedly misappropriated and sought to be disgorged." SEC v. Benson, 657 F. Supp. 1122, 1133 (S.D.N.Y. 1987).
The Court may order disgorgement in the amount of the wrongdoer's total gross profits, without giving consideration to whether or not the defendant may have squandered and/or hidden the ill-gotten profits. See SEC v. Thomas James Assoc., Inc., 738 F. Supp. 88, 95 (W.D.N.Y. 1990). A court may, in its discretion, deduct from the defendant's gross profits certain expenses incurred while garnering the illegal profits, including correspondence and related expenses, and transaction costs such as brokerage commissions. Litton Indus., 734 F. Supp. at 1077. This, however, does not mean that a defendant can group his expenses under a broad category of business costs and accordingly expect deductions from the disgorgement amount without supporting evidence. Benson, 657 F. Supp. at 1133-34. Additionally, it is irrelevant for disgorgement purposes, how the defendant chose to dispose of the ill-gotten gains; subsequent investment of these funds, payments to charities, and/or payment to co-conspirators are not deductible from the gross profits subject to disgorgement. Id. at 1134.
In the instant case, Bocchino has been found to have engaged in a fraudulent scheme, which defrauded public investors and included the distribution of unregistered stock. Bocchino "knowingly or recklessly made numerous material misrepresentations, and failed to disclose material facts." See SEC v. Rosenfeld, 2001 WL 118612 *2 (S.D.N.Y. 2001).
In connection with his fraudulent scheme, Bocchino made false and misleading representations to investors concerning the risk and expected return of the stock. Mem. at 3. Through traditional boiler-room tactics, Bocchino used high pressure sales tactics and false auditors' reports to sell shares in fraudulent offerings. Id. In return for his criminal activity, Bocchino received approximately $35,090 in ill-gotten gains. See Declaration of Eduardo A. Santiago-Acevedo in Support of Securities and Exchange Commission's Claim for the Imposition of a Civil Penalty Against Steven Bocchino at 2. Therefore, the Court recommends a disgorgement of Bocchino's illegal earnings in the full amount of $35,090.
B. Prejudgment Interest
The district court has "broad discretion in deciding whether to grant prejudgment interest on the disgorgement amount and, if such interest is granted, what rate should be used to calculate the amount." SEC v. Kenton Capital, Ltd., 69 F. Supp.2d 1, 16 (D.D.C. 1998); see also First Jersey Sec., 101 F.3d at 1476; Commercial Union Assurance Co. v. Milken, 17 F.3d 608, 613 (2d Cir. 1994); Rolf v. Blyth, Eastman Dillon Co., 637 F.2d 77, 86 (1980). The court's decision should rest on these factors: "(i) the need to fully compensate the wronged party for actual damages suffered, (ii) consideration of fairness and the relative equities of the award, (iii) the remedial purposes of the statute involved, and/or (iv) such other general principles as are deemed relevant by the court." First Jersey Sec., 101 F.3d at 1476 ( quoting Wickham Contracting Co. v. Local Union No. 3, 955 F.2d 831, 833-34 (2d Cir.), cert. denied, 506 U.S. 946 (1992)).
The district court generally calculates prejudgment interest by using the Internal Revenue Service ("IRS") rates for underpayment of taxes under 17 U.S.C. § 201.600(b). See, e.g., SEC v. Robinson, 2002 WL 1552049 *10 (S.D.N.Y. 2002). In this case, the SEC has determined the amount of prejudgment interest to be $14,779.70. See Mem at 2. This amount was reached by calculating the IRS rate, which fluctuated between 6% and 9%, during the time period between December 12, 1997 (the date of the last check Bocchino received from the proceeds of the two fraudulent offerings), and June 30 2002. Id.
Bocchino has not submitted any materials objecting to the SEC's calculations of prejudgment interest. Additionally, the amount presented by the SEC has been computed fairly and equitably, applying the standards the SEC has employed in the past. SEC v. Hughes Capital Corp., 917 F. Supp. 1080, 1090 (D.N.J. 1996), aff'd, 124 F.3d 449 (3d Cir. 1997), SEC v. Drexel Burnham Lambert, Inc., 837 F. Supp. 587, 612 n. 8 (S.D.N.Y. 1993), aff'd sub. nom. SEC v. Posner, 16 F.3d 520 (2d Cir. 1994), cert. denied, 513 U.S. 724 (1995). Therefore, this court recommends that an award of prejudgment interest on disgorgement is proper, and that the SEC be awarded prejudgment interest of $14,779.70.
C. Civil Penalties
The SEC additionally seeks the imposition of civil penalties against Bocchino, pursuant to the Securities Enforcement Remedies and Penny Stock Reform Act of 1990 ("Reform Act"), Section 20(d)(2)(C) of the Securities Act of 1933, 15 U.S.C. § 77t(d)(2)(C), and Section 21(d)(3)(B)(iii) of the Securities Exchange Act of 1934, § 15 U.S.C. § 78u(d)(3)(B)(iii). See Mem at 1. Specifically, the SEC argues that each of Bocchino's statutory and Rule violations fall under the third tier of civil penalties. Id. As a result, the SEC requests that a penalty of $35,090, the amount of Bocchino's pecuniary gain, be imposed. Id. The SEC has chosen not to seek the statutory maximum allowed under a third tier penalty, $110,000 per violation. Id. at 5.
Civil penalties were enacted by Congress "to achieve the dual goals of punishment of the individual violator and deterrence of future violations." SEC v. Moran, 944 F. Supp. 286, 296 (S.D.N.Y. 1996). The legislative history of Section 21(d) specifically indicates that said penalties are necessary:
Disgorgement merely requires the return of wrongfully obtained profits; it does not result in any actual economic penalty or act as a financial disincentive to engage in securities fraud. . . . [A]uthority to seek or impose substantial monetary penalties, in addition to the disgorgement of profits, is necessary for the deterrence of securities law violations that otherwise may provide great financial returns to the violator.
H.R. Rep. No. 101-616, at 48 (1990). The "civil penalty is to be determined by the Court `in light of the facts and circumstances' of the particular case." Kenton Capital, Ltd., 69 F. Supp.2d at 17 ( quoting 15 U.S.C. § 78u(d)(3)).
The Reform Act establish three tiers of penalties. A first tier penalty is, at a minimum appropriate for each violation. If, however, the violation "involved fraud, deceit, manipulation, or deliberate or reckless disregard of a regulatory requirement," second tier penalties should apply. 15 U.S.C. § 77t(d)(2)(B); 78u(d)(3)(B)(ii). If the violation, in addition to second tier factors, "resulted in substantial losses or created significant losses to other persons," third tier penalties are most appropriate. See 15 U.S.C. § 77t(d)(2)(C); 15 U.S.C. § 78u(d)(3)(B)(iii).
In the instant case, the violation involved fraud and deceit. Further, Bocchino's actions created a substantial loss or a significant risk of a substantial loss to investors who purchased the fraudulent Traderz and Niki Taylor private placements. As a result, third tier penalties in the amount of $35,090, the gross amount of Bocchino's pecuniary gain, are appropriate in this case. See, e.g., SEC v. Interlink Data Network, Inc., [1993-1994 Transfer Binder] Fed. Sec. L. Rep. (CCH) § 98,049 at 98,476 (pursuant to Section 21(d), court imposed civil penalty of $12,285,035, which was equal to the gross amount of pecuniary gain.)
III. CONCLUSION
Based on the foregoing, I recommend that the SEC be awarded $35,090 for the disgorgement of illegal earnings, $14,779.70 in prejudgment interest, and $35,090 in civil penalties, for a total award of $84,959.70.
Pursuant to Rule 72, Federal Rules of Civil Procedure, the parties shall have ten (10) days after being served with a copy of the recommended disposition to file written objections to this Report and Recommendation. Such objections shall be filed with the Clerk of the Court and served on all adversaries, with extra copies delivered to the chambers of the Honorable John G. Koeltl, 500 Pearl Street, Room 1030, and to the chambers of the undersigned, 500 Pearl Street, Room 1970. Failure to file timely objections shall constitute a waiver of those objections both in the District Court and on later appeal to the United States Court of Appeals. See Thomas v. Arn, 474 U.S. 140, 150 (1985); Small v. Secretary of Health and Human Services, 892 F.2d 15, 16 (2d Cir. 1989) ( per curium); 28 U.S.C. § § 636(b)(1) (West Supp. 1995); Fed.R.Civ.P. 72, 6(a), 6(e).