In P.B. Ventures, P.B. Ventures established an investment club in 1973 in which investors invested cash in exchange for notes guaranteeing an annual return of 24%. P.B. Ventures, 1991 WL 269982, at *1.Summary of this case from U.S. Commodity Futures Trading Commission v. PrivateFX Global One
Civil Action No. 90-5322.
December 10, 1991
MEMORANDUM AND ORDER
The Securities and Exchange Commission (SEC) brought this action seeking an injunction against the defendants, P.B. Ventures and its owners. This court found that the defendants had obtained money from investors by fraudulent representations and ordered that they disgorge their profits from this activity.See, Order of October 17, 1991. During the period of its operation, P.B. Ventures raised approximately $5.6 million in cash and stock certificates from at least 224 investors. Investors invested money and securities and, in many cases, reinvested their "earnings." During its existence, P.B. Ventures raised $5,592,703, in cash and shares of stock from investors. After crediting investors with all payments made whether as "interest" or return of principal, investors have lost principal in the amount of $2,289,657.
In 1973, P.B. Ventures was established as an investment club. Public investors were induced to invest cash in P.B. Ventures in exchange for notes providing for a guaranteed annual return of twenty-four percent, in quarterly installments. P.B. Ventures purported to purchase shares of stock and write covered call options against the stock shares for a premium. In 1975, defendant Buecker opened a brokerage account for P.B. Ventures at Advest, Inc. (Advest), a broker-dealer registered with the SEC, at Advest's Atlantic City branch office. This account was used by P.B. Ventures for all of its securities trading activity.
In approximately April, 1989, the defendants solicited investment of shares of stock in exchange for notes promising investors an annual return of ten percent. This stock investment option was referred to as "P.B. Ventures II." P.B. Ventures II used the same Advest brokerage account as did the original P.B. Ventures. The notes for both P.B. Ventures and P.B. Ventures II characterized the investments as loan and the promised return on investment as earnings. Investors of both cash and shares of stock were told that their investments were returnable upon demand, provided thirty days' notice was given. Cash investors were told that their funds would be used solely to purchase securities, against which covered call options would be written. Investors of stock shares were told that their shares of stock would be used as margin equity to obtain funds for purchase of additional securities, and that covered call options would be written against these additional securities.
Investors who "loaned" stock certificates to P.B. Ventures II endorsed their stock certificates to P.B. Ventures II, and signed stock authorization forms permitting Advest to place the stock certificates in "street name" for margin purposes. (When a customer's security is registered in the name of a nominee broker-dealer, it is in "street name.") Defendants told investors that they would continue to own their shares of stock and receive the dividends. The defendants misrepresented to investors that the shares of stock transferred to P.B. Ventures II would not be sold without their written consent. The defendants failed to disclose to investors that their stock certificates would be placed on margin in P.B. Ventures' account with Advest, subject to a margin agreement permitting Advest to sell the stock for any reason Advest deemed necessary for its protection. There was no provision in the margin agreement for notice to or consent by investors in advance of sale even though Advest knew the names of investors whose stock had been placed in the P.B. Ventures' margin account.
In November, 1989, Advest, concerned about the SEC investigation liquidated the securities in P.B. Ventures' brokerage account without notice to or consent by the investors. All of the shares of stock received from P.B. Ventures II investors were held by Advest until this sale. It is not clear whether the shares were in the investors' names or had already been placed in street name prior to the Advest decision to sell. Additional stock in the Advest account immediately prior to the sale was stock purchased by P.B. Ventures itself. Advest liquidated the entire account to obtain money owed to Advest by P.B. Ventures. The net remainder, approximately $399,000, was placed in an interest-bearing account pending disposition of the instant matter.
DISCUSSIONThe court has ordered disgorgement and is in possession of at least the $399,000 remaining in the Advest account. The primary purpose of disgorgement is to prevent unjust enrichment. U.S. v. Bonanno Organized Crime Family, 683 F.Supp. 1411, 1449 (S.D.N.Y. 1988). See also SEC v. Commonwealth Chemical Securities, Inc., 574 F.2d 90, 102 (2d Cir. 1978) ("[T]he primary purpose of disgorgement is not to compensate investors. Unlike damages, it is a method of forcing a defendant to give up the amount by which he was unjustly enriched."); and SEC v. Penn Central Co., 450 F.Supp. 908, 916 (E.D. Pa. 1978) ("The amount to be disgorged is not limited as a matter of law to the damages inflicted upon purchasers and sellers. The SEC does not stand in the shoes of the purchasers and sellers who it asserts were defrauded."). Even though the primary purpose of disgorgement is other than to compensate private parties, the Commission favors and courts commonly order distribution of proceeds to injured investors.See, e.g., SEC v. Blavin, 760 F.2d 706 (6th Cir. 1985);SEC v. Manor Nursing Centers, Inc., 458 F.2d 1082 (2d Cir. 1972). The only issue that remains unresolved is the method for distributing the funds.
No specific distribution scheme is mandated so long as the distribution is "fair and equitable." See, e.g., SEC v. World Gambling Corp., 555 F. Supp. 930, 935 (S.D.N.Y.), aff'd in part, 574 F.2d (2d Cir. 1978); SEC v. Shapiro, 349 F. Supp. 46, 55-56 (S.D.N.Y.) 1972), aff'd, 494 F.2d 1301, 1307 (2d Cir. 1974). In SEC v. Andes, No. 82-1659, slip op. (E.D. Pa. January 23, 1986), the court stated "[a]s long as the distribution of proceeds is fair and nonarbitrary, the particular manner of disbursement to injured investors has no bearing on the public interest in SEC enforcement actions."
In this action, the Commission proposed to the court that the proceeds of disgorgement be distributed pro rata among all investors. However, the court-appointed trustee recommended priority to P.B. Ventures II investors because the proceeds of the shares of stock they pledged were directly traceable to the Advest account. See, Second Report of Trustee. If Advest had not liquidated these securities, they would still be in the Advest account.
The distribution of funds in this case is analogous to a distribution in bankruptcy because the court is distributing a limited fund to claimants. The general policy in bankruptcy is to treat similarly situated claimants alike. In a recent Third Circuit opinion, the court discussed the distribution of a fund claimed by two groups in a bankruptcy case. See In re Goldberg v. New Jersey Lawyers' Fund for Client Protection, 932 F.2d 273 (3d Cir. 1991). In Goldberg, Chicago Title Insurance Company and the New Jersey Lawyers' Fund for Client Protection both claimed a right to funds held in an attorney's trust account. The court held that the funds in Goldberg were not traceable to either party and should be distributed equally to each. However, the court recognized that priority in distribution can be given upon definite proof that specific funds are traceable. Id. at 281.
When a person entrusted with the property of another wrongfully converts that property to his own use, a constructive trust is placed on that property in favor of the owner. See, Rodi Boat Co. v. Provident Tradesmens Bank Trust Co., 236 F. Supp. 935, 937 (E.D. Pa. 1964). In Rodi Boat Co., a debtor sold a boat in which the plaintiff creditor had a security interest. Id. at 936. The debtor deposited the proceeds from the sale into his account with the defendant bank. The defendant bank exercised a right of setoff against the debtor's account into which the boat sale had been deposited. Plaintiff claimed a constructive trust was imposed on the money in the bank account. The court held that the defendant bank could not exercise a right of setoff against the traceable proceeds from the sale of the boat because plaintiff's secured interest had priority. Id. at 937.
By placing the P.B. Ventures II investors' shares of stock in an account subject to unlimited sale by Advest, P.B. Ventures wrongfully converted the shares of stock because they became subject to sale without written consent of the owners in violation of their P.B. Ventures II investment agreement. The proceeds from the sale of P.B. Ventures II investors shares of stock were imposed with a constructive trust because P.B. Ventures wrongfully converted those shares.
Advest liquidated shares of stock belonging to P.B. Ventures II investors and, after offsetting the amount it was owed, put the proceeds in an interest bearing account. If Advest had not liquidated the shares of stock, P.B. Ventures II investors would have been entitled to their return. The proceeds of liquidation are directly traceable to the shares of stock loaned by P.B. Ventures II investors and must be distributed to the P.B. Ventures II investors in proportion to the market values of their shares of stock when sold, after deducting costs of the Trustee. Interest will not be allowed.
Advest account funds in excess of that attributed to the sale of P.B. Ventures II investors shares of stock and all other funds recovered upon disgorgement shall be distributed pro rata among the P.B. Ventures I investors.
An appropriate order follows.
ORDERAND NOW, this 10th day of December, 1991, upon consideration of plaintiff's proposed distribution plan and the trustee's second report recommending a method of distribution, and a hearing on September 25 and 26, 1991, it is ORDERED that:
1. Plaintiff shall submit a proposed plan for distribution in accordance with this opinion on or before December 23, 1991.