STATE OF FLORIDA

DIVISION OF ADMINISTRATIVE HEARINGS

DEPARTMENT OF BANKING AND FINANCE, ) DIVISION OF SECURITIES AND INVESTOR ) PROTECTION, )

)

Petitioner, )

)

vs. ) Case No. 97-5384

) FIRST AMERICAN CAPITAL TRUST, INC., ) and DAVIS A. JOHNSTON, )

)

Respondents. )

)

RECOMMENDED ORDER

An administrative hearing was conducted in this proceeding on October 15 and 16, 1998, in Tampa, Florida, before Daniel Manry, Administrative Law Judge, Division of Administrative Hearings.

APPEARANCES

For Petitioner: Bruce V. O'Donnell

Assistant General Counsel Office of Comptroller

1313 Tampa Street, Suite 615

Tampa, Florida 33601

For Respondents: Darryl R. Richards, Esquire

Johnson, Blakely, Pope, Bokor, Rupple and Burns, P.A.

100 North Tampa Street, Suite 1800 Tampa, Florida 33602

STATEMENT OF THE ISSUES

The issues in this case are whether Respondents violated Sections 517.07, 517.12, 517.301(1)(a)1-3 and (c), and 517.311(1), Florida Statutes (1995): by selling unregistered securities; by selling securities without being registered as a

dealer; and by employing a scheme to defraud, obtaining money by untrue statements of material fact, engaging in transactions which operated as a fraud upon persons, and knowingly and willfully making false and fraudulent statements in connection with sales of commercial notes to Florida residents; and, if so, what, if any, penalty should be imposed against Respondents. (All references to chapters and sections are to Florida Statutes (1995) unless otherwise stated.)

PRELIMINARY STATEMENT

Petitioner filed an Administrative Complaint against Respondents on January 10, 1996. Respondents timely requested an administrative hearing. Petitioner referred the matter to the Division of Administrative Hearings ("DOAH") to conduct a hearing.

At the hearing, Petitioner presented the testimony of two witnesses and submitted eight exhibits for admission in evidence. Respondents called two witnesses and submitted 39 exhibits for admission in evidence.

The identity of the witnesses and exhibits, and the rulings regarding each, are set forth in the transcript of the hearing filed with the undersigned on October 28, 1998. Petitioner timely filed its proposed recommended order ("PRO") on November 13, 1998. Respondents timely filed their PRO on November 18, 1998.

FINDINGS OF FACT

1. Petitioner is the state agency responsible for regulating the sale of securities in Florida in accordance with the provisions of Chapter 517. Respondent, First American Capital Trust, Inc. ("FACT"), is a Florida corporation with its principal place of business at 2650 McCormick Drive, Suite 185, Clearwater, Florida 34619. Respondent, David A. Johnston ("Johnston"), is a director and vice-president and runs the daily operations of FACT.

2. FACT is a specialized consumer finance company engaged in the business of acquiring and servicing installment contracts for the purchase of used cars and light trucks ("cars") by individuals. The individuals who purchase the cars have less than prime credit and have limited access to traditional financing sources. FACT facilitates the extension of credit to a variety of people, including lower income and minority individuals for whom a car is frequently essential to obtain or maintain employment.

3. FACT purchases discounted car loans from used car dealerships in pools of not less than $25,000. The dealerships discount the car loans below their face value in consideration for a lump sum payment. FACT funds the purchase of the car loans by selling commercial notes to investors.

4. The purchase of car loans and the sale of commercial notes to fund the purchases is a genus of arbitrage. The arbitrage, and the major element of gross profit in the business

   conducted by FACT, is the difference between the interest earned on car loan portfolios and the interest paid by FACT on notes sold to investors. The interest yield on car loan portfolios ranges from 18 to 22 percent. FACT pays 9.75 percent interest on the notes it sells to investors in lump sum at the time of maturity.

5. FACT is not a passive investment company that limits its business activity to investment arbitrage. FACT engages in the active conduct of a trade or business through business activities that include loan servicing, investigation of dealerships and the suitability of investors, and regulatory compliance. FACT also incurs expenses in addition to the interest paid on FACT notes, including payroll and other operating expenses. These other expenses, as well as the interest paid on FACT notes, are among the factors that enter into the computation of profits.

6. The Administrative Complaint (the "complaint"), in relevant part, alleges that the FACT notes sold to investors (the "FACT notes") are securities within the meaning of Section 517.021(17). The complaint then charges Respondents with three statutory violations.

7. The first alleged violation is that Respondents sell unregistered securities to investors in violation of Section

   517.07. The second alleged violation is that FACT sells securities to investors without being registered as a dealer in violation of Section 517.12. The third alleged violation is that Respondents violated Sections 517.301(1)(a)1-3 and (c), and

   517.311(1) (hereinafter "Sections 517.301 and 517.311") by employing a scheme to defraud; obtaining money by untrue statements of material fact; engaging in transactions which operate as a fraud upon persons; and knowingly and willfully making false and fraudulent statements in connection with sales of commercial notes to Florida residents.

8. Respondents admit that the FACT notes are securities within the meaning of Section 517.021(17). Respondents further admit the securities are unregistered, within the meaning of Section 517.07, and that Respondents are not registered as dealers within the meaning of Section 517.12.

9. Respondents assert that the FACT notes are exempt from registration pursuant to Section 517.051(8) and that Respondents are exempt from registration as dealers pursuant to Section 517.12(2). Respondents deny that they have ever violated Sections 517. 301 and 517.311.

10. The complaint does not identify the time period in which Respondents allegedly committed the statutory violations. However, the parties agree that the law applicable to this proceeding is the law in effect prior to the amendment of Section 517.051(8) on October 1, 1996. The amendment is discussed later in this Recommended Order.

11. Petitioner filed its complaint on January 10, 1996. FACT began start-up operations in May 1993. Because Respondents began doing business in May 1993 and Petitioner filed its complaint on January 10, 1996, the charges against Respondents in

    the complaint concern alleged violations between May 1993 and January 10, 1996.

12. Respondents did not violate Section 517.07. The FACT notes are securities that are not registered in accordance with Section 517.07. However, the FACT notes are securities that are exempt from registration pursuant to Section 517.051(8).

13. In relevant part, Section 517.051 provides:

    The exemptions provided herein from the registration requirements of s. 517.07 are self-executing and do not require any filing with the department prior to claiming the exemption. . . . The registration provisions of s. 517.07 do not apply to any of the following securities:

    * * *

    (8) A note . . . having a unit amount of

    $25,000 or more which arises out of a current transaction, or the proceeds of which have been or are to be used for current transactions, and which has a maturity period at the time of issuance not exceeding 9 months exclusive of days of grace, or any renewal thereof which has a maturity period likewise limited.

14. Petitioner admits that the FACT notes satisfy the express requirements of Section 517.051(8). The securities have a unit amount of $25,000 or more, arise out of a current transaction, and have a maturity period of 9 months or less.

15. Petitioner argues that the provisions of Section 517.051(8) are ambiguous. Petitioner claims that Section 517.051(8) should be construed to incorporate by reference interpretations of federal law by the Securities and Exchange Commission ("SEC").

16. The relevant requirements of federal law are found in Section 3(a)(3) of the Securities Act of 1933, as amended, ("Section 3(a)(3)"). SEC Interpretative Release Number 33-4412, issued on September 20, 1961, and found at 17 CFR 231.4412 ("SEC Release 4412"), interprets Section 3(a)(3).

17. The language of Section 3(a)(3) is virtually identical to the language in Section 517.051(8). Section 3(a)(3) exempts from the registration requirements of federal law:

    Any note . . . which arises out of a current transaction or the proceeds of which have been or are to be used for current transactions, and which has a maturity at the time of issuance of not exceeding nine months, exclusive of days of grace, or any renewal thereof the maturity of which is likewise limited.

18. SEC Release 4412 interprets the exemption in Section 3(a)(3) in a manner that limits the exemption to:

    . . . prime quality negotiable commercial paper of a type not ordinarily purchased by the general public, that is, paper issued to facilitate recognized types of current operational business requirements and of a type eligible for discounting by Federal Reserve banks. . . .

19. Petitioner seeks to construe Section 517.051(8) to include the quoted language from SEC Release 4412. Petitioner cites a 1996 amendment to Section 517.051(8), Florida Statutes (Supp. 1996), in support of its argument. Effective October 1, 1996, the exemption in Section 517.051(8), Florida Statutes (Supp. 1996), applies only to:

    . . . prime quality negotiable commercial paper of a type not ordinarily purchased by

    the general public; that is, paper issued to facilitate well-recognized types of current operational business requirements and of a type eligible for discounting by Federal Reserve banks. . . .

    In effect, Petitioner seeks to use a later statute to interpret the earlier statute.

20. The provisions of Section 517.051(8) which were in effect prior to October 1, 1996, and which are applicable to the time period covered by the complaint, are clear and unambiguous. When the language of a statute is clear and unambiguous, the terms of the statute must be given their plain and ordinary meaning.

21. Relevant terms in Section 517.051(8) are not assigned a statutory definition in Section 517.021. Petitioner presented no evidence that relevant terms of the statute are the province of special expertise possessed by the regulating agency.

22. The context of Section 517.051(8) should not yield to the legislative intent arguably evidenced by subsequent amendments to the statute. Subsequent amendments should not be addressed due to the finding that Section 517.051(8) has a plain and discernible meaning.

23. Even if the terms of Section 517.051(8) were not clear and unambiguous, Petitioner failed to show that subsequent amendments to Section 517.051(8) should be considered as evidence of legislative intent for prior versions of the statute. The 1996 amendments to Section 517.051(8) could evidence legislative intent to add requirements not included in the preceding statute,

    or they could evidence legislative intent to clarify intent for the preceding statute.

24. Petitioner provided bill analyses for the 1996 amendments to Section 517.051 from the Appropriations Committee and the Commerce Committee of the Florida House of Representatives. The historical analyses of Section 517.051 by the two committees do not state, or even suggest, that the preceding version of Section 517.051(8) was intended to include either the 1996 amendments or the substance of SEC Release 4412.

25. The section-by-section discussions in the committee analyses provided by Petitioner do not state that the 1996 amendment to Section 517.051(8) is intended to clarify the language in the preceding statute. Rather, the section-by- section discussions state that the 1996 amendment to Section 517.051(8) is intended to qualify the existing exemption.

26. The evidence submitted by Petitioner provides an equally plausible basis for interpreting the 1996 amendment to Section 517.051(8) as a legislative effort to preempt an unsettled issue in the federal law. SEC Release 4412 is an unsettled interpretation of federal law. Although the Supreme Court has never ruled on the issue, four justices have stated, by dicta, that Section 3(a)(3) is not limited in the manner suggested by SEC Release 4412. The evidence of legislative history provided by Petitioner provides an equally plausible basis for concluding that the 1996 amendment to Section 517.051(8) was a legislative attempt to prophylactically resolve

    at the state level an issue of law that remains unsettled at the federal level.

27. Even if Section 517.051(8) were properly construed to include the requirements of SEC Release 4412, Respondents satisfy those requirements. The FACT notes are prime quality negotiable commercial paper of a type not ordinarily purchased by the general public. FACT notes are issued to facilitate well- recognized types of current operational requirements. They are of a type eligible for discount by Federal Reserve banks.

28. FACT notes are unrated but are prime quality commercial paper. Unrated commercial paper has been determined, in numerous no-action letters issued by the SEC, to be prime quality regardless of whether the paper has received a favorable rating from a recognized rating agency.

29. Rather than the rating given the paper by a rating agency, the SEC generally considers two other factors. The SEC considers the nature of the issuer, including the issuer's ability to repay the notes, and the extent of governmental regulation to which the issuer is subject.

30. The nature of the business conducted by FACT satisfies the requirements for prime quality. FACT notes are secured by a perfected first lien on the pool of car loans purchased by FACT. Unlike many companies, FACT requires full recourse on all car loans that it purchases.

31. Full recourse requires a dealer either to buy back a loan if a consumer defaults on the car loan or to provide

    additional loans to make up for any losses to FACT caused by consumer defaults. If a dealer is a corporation, FACT requires an individual guarantee from the principal of the corporation. In addition, FACT requires all dealers to maintain adequate cash reserve accounts to cover expenses attributable to defaults.

32. The financial and business history of the car dealer is a significant factor that must be taken into account in assessing the quality of car loans which provide the collateral for FACT notes. FACT purchases car loans only from those dealers FACT has investigated. FACT has one of the most extensive and aggressive investigation procedures in the country.

33. FACT purchases only seasoned car loans. Seasoned car loans are those car loans on which the consumer has made a down payment of 10-20 percent and has been making timely payments for at least three months. The default rate on seasoned car loans is lower than the default rate on car loans for which there is little or no down payment or for which there is no payment history.

34. FACT maintains insurance on the pool of car loans that secure the FACT notes. FACT maintains all risk physical damage loan insurance, instrument non-filing insurance, confiscation and skip insurance, and repossessed vehicle insurance.

35. Petitioner argues that FACT notes are not prime quality because FACT does not have the ability to repay the FACT notes. However, Petitioner relies only on federal income tax returns for FACT through 1996. Petitioner disregards the books and records

    maintained by FACT, balance sheets that show FACT's assets and liabilities, the quality of the car loan portfolio that secures FACT notes, and the business history of FACT.

36. Petitioner relies on tax returns that state losses in accordance with tax accounting principles. Tax accounting principles allow deductions for so-called paper expenses that may not reflect actual expenses recognized by financial accounting principles.

37. The cash reserves in FACT income tax returns are stated conservatively in an amount that exceeds FACT's actual experience. FACT states reserves at 12 percent but actually experiences write-offs of only 7-8 percent. The Internal Revenue Service has taken the position that FACT overstates its cash reserve write-offs.

38. Assessing the financial ability to repay FACT notes on the date of an income tax return distorts the independent economic reality of business activities engaged in by FACT for legitimate business purposes. FACT incurs all of the acquisition costs for car loans, including prepaid insurance premiums and compliance costs, immediately upon purchase of the portfolios. However, FACT collects principal and interest from car loan portfolios over a period of 24-48 months. During the 24 to

    48-month term of the car loans, FACT pays interest and principal on the notes it sells to investors because the FACT notes have a maturity of not more than nine months. FACT must continually obtain new notes to continue operations and expansion.

39. Petitioner and its witnesses admit that the financial ability to repay FACT notes is best determined by the books and records maintained by FACT and the assets and liabilities evidenced in the company's balance sheets. FACT maintains its books and records and balance sheets in accordance with Generally Accepted Accounting Principles ("GAAP").

40. FACT has the financial ability to repay FACT notes. FACT maintains cash on hand of approximately $4 million. FACT assets exceed the company's liabilities.

41. FACT's net worth is approximately $1.6 million. FACT calculates its net worth by assuming that FACT will not collect any of the $11 million due on the discounted car loans purchased by FACT. If FACT assumes that it will collect all of the interest due on the car loans, FACT's net worth exceeds $12 million.

42. The financial ability to repay FACT notes is further evidenced by the business history of the company. FACT has never missed a principal or interest payment on any of the FACT notes sold to investors, has never failed to honor a rescission request, and has never received a complaint from any investor. FACT's gross finance receivables have increased from approximately $7.3 million in 1994 to approximately $39 million on December 31, 1997.

43. FACT is subject to extensive governmental regulation that provides ample protection and control. The regulatory scheme includes the Truth and Lending Act, the Equal Credit

    Opportunity Act, the Federal Trade Commission Act, the Fair Credit Billing Act, the Fair Credit Reporting Act, the Fair Debt Collection Practices Act, the Federal Reserve Board's Regulations "B" and "Z", various adaptations of the National Consumer Act and Uniform Commercial Code, Chapters 517 and 520, and the Securities Act of 1933. FACT operates in compliance with all relevant provisions in this regulatory scheme.

44. FACT notes are negotiable commercial paper. FACT notes are accepted by banks and eligible for discounting by Federal Reserve banks.

45. FACT notes are of a type not ordinarily purchased by the general public. FACT does not use general advertisement or solicitation to obtain investors.

46. FACT imposes specific suitability requirements for its investors and obtains suitability questionnaires completed by each investor. The completed questionnaires provide prima facie evidence of the suitability of investors. FACT has rejected numerous investors for failure to meet suitability requirements.

47. Investors are generally sophisticated and wealthier individuals. FACT solicits investors discreetly through attorneys, accountants, and insurance agents. No individual can purchase a FACT note if the note exceeds 20 percent of the individual's net worth. The 20 percent requirement is more stringent than the standards recommended by national and state blue sky agencies.

48. FACT notes are commercial paper issued to facilitate recognized types of current operational business requirements. FACT uses the proceeds from the sale of FACT notes to facilitate such current operational business requirements as purchasing car loans, the cost of daily operational requirements, and the cost of insurance to further secure the car loans. The automobile finance business is a clear and long-standing use of proceeds which satisfy the current operational business requirement.

49. Respondents are exempt from registering as a dealer pursuant to Section 517.12(2). Section 517.12(1) prohibits the sale of securities by any person who is not registered as a dealer. Section 517.12(2), in relevant part, provides that the registration requirements for dealers do not apply to issuers of securities exempted by Section 517.051(8). Because the FACT notes are exempt from registration pursuant to Section 517.051(8), Respondents are exempt from registration as dealers pursuant to Section 517.12(2).

50. Respondents did not violate Sections 517.301(1) and

    517.311. Respondents neither employed a scheme to defraud; obtained money by untrue statements of material fact; engaged in transactions which operated as a fraud upon persons; nor knowingly and willfully made false and fraudulent statements in connection with sales of commercial notes to Florida residents.

51. The complaint includes seven factual allegations that Respondents violated Sections 517.301 and 517.311. The seven allegations are in paragraphs 10(A)-(G) of the complaint.

52. Paragraph 10(G) in the complaint charges that Respondents, "Represented to investors that they are selling commercial notes that are exempt from securities registration." Respondents admit this factual allegation in the complaint. However, FACT notes sold to investors are exempt from registration pursuant to Section 517.051(8). The factual allegations in paragraph 10(G) do not constitute a violation of either Sections 517.301 or 517.311.

53. Paragraph 10(A) in the complaint charges that Respondents, "Represented to investors that FACT is licensed by the State of Florida to sell securities." FACT is licensed to sell securities pursuant to license number SF597004293. FACT has been continuously licensed to sell securities in accordance with the requirements of Chapter 520. Petitioner has audited FACT on a regular basis pursuant to Chapter 520 and has never found any exceptions in any audit. Petitioner failed to prove that the factual allegations in paragraph 10(A) violate any statute.

54. Paragraph 10(B) in the complaint charges that Respondents, "Represented to investors that the Certificate of Commercial Notes are licensed by the State of Florida." It is unclear what Petitioner means when it refers to licensed securities. If Petitioner uses the term "licensed" to mean something different from "registered" securities, Petitioner fails to explicate the distinction.

55. The record in this proceeding does not shed much light on the distinction contemplated in the complaint between

    "licensed" and "registered" securities. For example, Petitioner's response to Respondents' opposition to Petitioner's "Motion for Summary Recommended Final Order" states:

    Lastly, Respondents say they will prove that FACT has held a sales finance license, under the provisions of Chapter 520, Florida Statutes, since 1993. Petitioner is unclear as to why. That has never been a contested fact. Neither is it a contested fact that FACT has never been licensed under Chapter 517, Florida Statutes, to sell securities, which is what this proceeding is about. . . .

    Petitioner's Response To Respondents' Memorandum of Fact and Law In Opposition to Petitioner's Motion For Summary Recommended Final Order, at unnumbered page 8.

56. The quoted discussion in the previous paragraph is revealing. First, Petitioner could have cured its lack of clarity over why Respondents intended to prove that FACT held a sales finance license by reviewing the complaint Petitioner filed against Respondents. Paragraph 10(A) charges that the representation by FACT that it is licensed by the state is an act of fraud or misrepresentation of a material fact within the meaning of Sections 517.301(1) and 517.311. Yet Petitioner claims that this matter was never at issue.

57. Petitioner goes on to say that what the case is about is whether FACT was "licensed" to sell securities. Petitioner may use the terms "licensed" and "registered" synonymously for purposes of Chapter 517. Section 517.021 defines a dealer by reference to registration, rather than by reference to licensing, and is devoid of any definition of the term "license."

58. If Petitioner is using the term "license" synonymously with "registration", then Petitioner failed to show the allegations in Paragraphs 10(B). Respondents did not represent that the FACT notes were "licensed" or "registered" securities. Rather, Respondents represented that the FACT notes were securities exempt from registration.

59. The first line of the Disclosure Statement clearly states:

    This memorandum does not constitute an offer or solicitation of exempt securities in any jurisdiction in which such an offer or solicitation would be unlawful.

    Petitioner's Exhibit F.

60. The Disclosure Statement further states at page 15:

    The Notes are being sold as exempt securities pursuant to Section 3(a)(3) of the Securities Act of 1933, as amended.

    
    

    Id.

61. Petitioner argues that a paragraph in the Disclosure

    
    

    Statement which immediately precedes the statement quoted in the preceding paragraph results in a misrepresentation. The paragraph at issue states:

    FACT is currently accepting applications only from the State of Florida, working under the Department of Banking and Finance License #SF 597004293-000 unless the noteholder is an institutional purchaser, or otherwise approved in writing. (emphasis not supplied)

    
    

    Id.

62. The quoted language represents that FACT is working

    
    

    under a state license to accept applications. The quoted

    language does not represent that the securities which will be sold upon acceptance of the applications are registered or "licensed."

63. Even if the language that is of concern to Petitioner were construed as a misrepresentation, Petitioner failed to show that it violated Sections 517.301 or 517.311. Petitioner failed to show that the misrepresentation was material, was the result of a scheme to defraud investors, was an untrue statement of a material fact, operated as a fraud upon persons, or was committed knowingly or willfully by Respondents.

64. It is unlikely that sophisticated investors, with advice of their attorneys or accountants, would be misled by the statement that is of concern to Petitioner. That improbability is underscored by the lack of evidence that any investor relied on the statement, the lack of evidence of any investor complaints, and the absence of any complaining witness at the hearing.

65. Paragraph 10(C) in the complaint charges that Respondents, "Represented to investors that the Certificate of Commercial Notes were insured by major, high rated insurance companies." Respondents did not make the representations.

66. The Disclosure Statement, at pages 3 and 12, clearly states that the car loan portfolios are:

    . . . insured by lender's single interest policies issued by insurance carriers with a minimum AM Best rating of A or a Duff & Phelps rating of A+. . . .

    * * *

    In the event [FACT] is unable to service the Notes on a current basis . . . then, the Noteholders would be entitled to foreclose on the vehicle installment sales contracts. . .

    Petitioner failed to prove that Respondents made the factual representations alleged in paragraph 10(C).

67. Paragraph 10(D) in the complaint charges that Respondents, "Represented to investors that they would earn interest of 9.75% per annum on Certificates of Commercial Notes." Respondents admit that FACT made the alleged representations, but deny that the representations violated either Sections 517.301 or 517.311.

68. FACT made the representations described in Paragraph 10(D) of the complaint. However, those representations do not violate Sections 517.301 or 517.311. In its Disclosure Statement to investors, FACT states:

    The Notes will bear simple interest at the rate of 9.75% per annum (APR). The

    Notes will be secured by collateral consisting of insured or recoursed automobile loan portfolios and cash reserves.

    * * *

    [FACT] may not earn enough interest income and profit on its vehicle loan portfolio to pay operating costs and the debt service on the Notes. In the event it is unable to service the Notes on a current basis (i.e. within the 21 business day cure period) because of unforeseen operating expenses, then, the Noteholders would be entitled to foreclose on the vehicle installment sales contracts . . . . (emphasis supplied)

    First American Capital Trust, Disclosure February 1995

    as revised March 1995, at pages 4 and 12 (Petitioner's Exhibit F).

69. Paragraph 10(E) in the complaint charges that Respondents, "Represented to investors that collateral portfolios are geographically balanced." Respondents admit that FACT made such representations. Petitioner failed to show that the collateral portfolios are not geographically balanced or that

    the representations violate Sections 517.301 or 517.311.

70. Paragraph 10(F) in the complaint charges that Respondents, "Represented to investors that collateral portfolios consist of loans on new and used automobiles." Respondents admit that FACT made such representations. The collateral portfolios consist of only used car loans. However, Petitioner presented no evidence that the discrepancy was a material misrepresentation, that the misrepresentation was the result of a scheme to defraud investors, was an untrue statement of a material fact, operated as a fraud upon persons, or was committed knowingly or willfully by Respondents.

71. The evidence submitted by Petitioner consists of the testimony of two witnesses and eight exhibits. The testimony of one of the witnesses addressed FACT's income tax returns and assessed FACT's financial condition solely on the basis of those income tax returns. The testimony of the other witness essentially addressed the appropriate test for prime quality commercial paper not ordinarily purchased by the general public and the interpretation by that witness of specific court cases.

72. Petitioner's exhibits A-H, respectively, consist of: Respondents' responses to Petitioner's request for admissions, absent the requests for admissions; two certifications that Respondents have never been registered in accordance with Chapter 517; Petitioner's interrogatories and Respondents' responses; Respondents' responses to Petitioner's second request to produce; copies of the disclosure statements and a brochure distributed by FACT; FACT's application for a sales license under Chapter 120; and FACT's income tax returns.

73. In addition to the witnesses and exhibits submitted by Petitioner, Petitioner cross-examined Respondents' witnesses. Neither Petitioner's witnesses, its exhibits, nor its cross- examination of Respondents' witnesses provided any evidence that Respondents, intentionally or negligently, employed a scheme to defraud, obtained money by untrue statements of material fact and omissions of material fact, engaged in transactions which operated as a fraud upon persons, or knowingly and willfully made false and fraudulent statements in connection with sales of FACT notes to Florida residents within the meaning of Sections 517.301 or 517.311.

74. Petitioner admits that it presented no evidence that Respondents intentionally or negligently engaged in the activities described in Sections 517.301 and 517.311. Rather, Petitioner argued at the hearing that Petitioner is not required to show either intent or negligence on the part of Respondents in order to show that Respondents employed a scheme to defraud,

    obtained money by untrue statements of material fact and omissions of material fact, engaged in transactions which operated as a fraud upon persons, or knowingly and willfully made false and fraudulent statements in connection with sales of FACT notes.

75. At the administrative hearing, Respondents made an ore tenus motion on the record to dismiss the allegations that Respondents violated Sections 517.301 and 517.311. After extensive discussion on the record and a review of case law cited by the parties, the motion to dismiss was granted with leave to file a motion for reconsideration with Petitioner's PRO. The parties agreed that Respondents would be allowed to present additional evidence if, on reconsideration, the motion to dismiss was denied.

76. Petitioner timely filed a motion for reconsideration. Respondents timely filed a memorandum of law in response to the motion for reconsideration. Petitioner's motion for reconsideration is denied for the reasons stated in Respondents' memorandum of law.

77. During the hearing and in its PRO, Petitioner attempted to show that Respondents committed acts not alleged in the complaint. Petitioner seeks to prove that Respondents misrepresented the financial condition of FACT and that Respondents omitted a disclosure that FACT was a party to material litigation, i.e., this proceeding.

78. Requirements for adequate notice, due process, and

    fairness prohibit a finding of guilt for acts not alleged in the complaint. Moreover, the undersigned is without jurisdiction over matters not included in the complaint when it was referred to DOAH.

79. Even if Respondents could be "tried" for acts not alleged in the complaint, it would not affect the outcome of this proceeding. Petitioner failed to prove that Respondents misrepresented the financial condition of FACT or that Respondents failed to disclose that FACT was a party to material litigation.

80. For reasons previously stated and not repeated here, Petitioner failed to show that Respondents misrepresented the financial condition of FACT. Petitioner relied solely on Respondents' income tax returns. The books and records of FACT, its balance sheets, and Respondents' business history show that the financial condition of FACT is sound and that FACT has the financial ability to repay the FACT notes sold to investors.

81. Respondents did not fail to disclose that FACT was a party to this proceeding. Prior to the filing of the complaint on January 10, 1996, there was no litigation of any type against FACT. Disclosures or omissions alleged at the hearing to have occurred after the filing of the complaint cannot form the basis for charges against FACT in the complaint.

82. Respondents did not act either intentionally or negligently to misrepresent any material fact at issue in this proceeding. Respondents acted in a manner consistent with a

    reasonably prudent company under the same or similar circumstances.

83. Before FACT began its business in May 1993, FACT obtained an opinion letter from out-of-state counsel to assure its compliance with federal securities law. FACT obtained a second opinion from independent counsel in Florida. The independent counsel also reviewed FACT's compliance with state law. The independent counsel concluded that FACT complied with all applicable state laws and that the securities and Respondents were exempt from registration requirements pursuant to Sections 517.05(8) and 517.12(2).

84. The independent counsel met with Petitioner's representatives, provided them with a detailed description of the company's proposed business activity, and provided copies of the materials to be used by FACT. At various times in 1993, Petitioner requested additional information from FACT concerning its business, and FACT promptly provided the information. In 1993, Petitioner's representatives requested information or met with FACT on June 24, November 4, November 17, and December 19. In November 1993, Petitioner's representatives visited the offices of FACT. Throughout 1994, FACT continued to discuss its operations with Petitioner and continued to provide Petitioner with any and all information.

85. Petitioner never advised Respondents or their legal representatives that Petitioner interpreted Section 517.051(8) to include requirements not specifically included in the statute,

    such as SEC Release 4412. Petitioner's representatives generally instructed Respondents and their legal representatives to look at the statute and to comply with its terms.

86. After Petitioner filed its complaint, FACT had the independent counsel review the matter again, and counsel confirmed his original opinion. FACT has made every reasonable effort to comply with state and federal law.

87. Respondents have never received any investor complaints and have never failed to timely pay the principal and interest on any FACT note. Petitioner did not call any complaining investor as a witness during the administrative hearing.

    CONCLUSIONS OF LAW

88. The Division of Administrative Hearings has jurisdiction over the subject matter and the parties. The parties were duly noticed for the administrative hearing.

89. Petitioner has the burden of proof in this proceeding. Petitioner must show by clear and convincing evidence that Respondents committed the acts alleged in the complaint, that those acts proven also violated the statutes cited in the complaint, and that the proposed penalty is reasonable under the facts of the case. Department of Banking and Finance, Division of Securities and Investor Protection v. Osborne Stern and Company, 670 So. 2d 932, 935 (Fla. 1996).

90. The general rule regarding the applicable standard of proof in an administrative proceeding is that an agency must prove its case by a preponderance of the evidence. Florida

    Department of Transportation vs. J.W.C. Company, Inc., 396 So. 2d 778 (Fla. 1st DCA 1981); Balino vs. Department of Health and Rehabilitative Services, 348 So. 2d 349 (Fla. 1st DCA 1977).

    However, an agency such as Petitioner, which seeks to impose an administrative fine against an unregistered person, must prove its case by clear and convincing evidence. Osborne, 670 So. 2d at 934-935.

91. Petitioner seeks administrative fines against Respondents in the maximum amount of $5,000 for each violation. Administrative Complaint, paragraph 18. Administrative fines are penal. In Osborne, the court explained that an administrative fine is penal because:

    . . .an administrative fine deprives the person fined of substantial rights in property. Administrative fines . . . are generally punitive in nature. Because

    . . . administrative fines . . . are penal in nature and implicate significant property rights, the extension of the clear and convincing standard to justify . . . such a fine is warranted. Accordingly, we agree with the district court that, because the Department's final order imposing a $5,000 fine . . . does not indicate that it was based upon a clear and convincing evidence standard, the case must be remanded for the application of the proper burden of proof

    . . . .

    Osborne, 670 So. 2d at 935.

92. Petitioner failed to satisfy its burden of proof for each of the disputed charges against Respondents. Each charge requires proof of essential elements required as part of the statutory definition of the violation. Petitioner must prove

    each element by clear and convincing evidence.

93. In order for evidence to be clear and convincing:

    . . . evidence must be found to be credible, facts to which witnesses testify must be distinctly remembered, testimony must be precise and explicit, and witnesses must be lacking in confusion . . . .

    
    

    The evidence must be of such weight that it produces in the mind of the trier of fact a firm . . . conviction, without hesitancy, as to the truth of the allegations sought to be established.

    Slomowitz vs. Walker, 429 So. 2d 797, 799 (Fla. 4th DCA 1983).

94. The evidence was less than clear and convincing for elements essential to the charges against Respondents. For reasons stated in the Findings of Fact and not repeated here, Petitioner failed to show, even by a preponderance of the evidence, that Respondents violated either Section 517.07, 517.12, 517.301, or 517.311.

95. Respondents have the burden of proof to show they are entitled to the exemption in Section 517.051(8). Sections

    517.051 and 517.171. In relevant part, Section 517.051 provides:

    Any person who claims entitlement to any of these exemptions bears the burden of proving such entitlement in any proceeding brought under this chapter. . . .

    Section 517.171 provides:

    It shall not be necessary to negate any of the exemptions provided in this chapter in any complaint, information, indictment, or other writ or proceeding brought under this chapter; and the burden of establishing the right to any exemption shall be upon the party claiming the benefit of such exemption

    . . . .

96. Sections 517.051 and 517.171 do not reveal the standard of proof by which Respondents must show they are entitled to the exemptions authorized in Section 517.051(8) and 517.12(2). It is unnecessary to resolve the issue in this proceeding because Respondents showed by clear and convincing evidence that they are entitled to the exemptions authorized in both sections.

97. The language of Section 517.051(8) is clear and unambiguous. The statute must be given its plain and ordinary meaning. Petitioner's contention that the context of Section 517.051(8) should yield to legislative intent evidenced by subsequent amendments to the statute is rejected. Savona v. Prudential Insurance Company of America, 648 So. 2d 705 (Fla. 1995). Even if Petitioner's contention were accepted, Respondents showed by clear and convincing evidence that they are entitled to the exemptions authorized in Sections 517.051(8) and 517.12(2) after the effective date of the 1996 amendment.

98. Any ambiguity in a statute that is penal in nature should be strictly construed in favor of Respondents. Lester v. Department of Professional and Occupational Regulations, State Board of Medical Examiners, 348 So. 2d 923 (Fla. 1st. DCA 1977). Chapter 517 is penal in nature. Sections 517.161, 517.191, and

    517.221. Section 517.221(3) authorizes Petitioner to impose and collect a fine against Respondents. Administrative fines are penal in nature. Osborne, 670 So. 2d at 935. Sections 517.161(4) and (6) authorize revocation of registration

    certificates for any person or securities registered with Petitioner.

99. The evidence presented by Petitioner in an attempt to show that Respondents are not entitled to their claimed exemptions was neither credible nor persuasive. It was limited in scope; failed to address essential elements of the allegations in the complaint and addressed other allegations not in the complaint; disregarded relevant and material factors; lacked detail; was inconsistent with independent standards, including those used for measuring financial health; and ignored the independent economic reality of business activities engaged in for legitimate business purposes.

100. Petitioner argues that strict liability applies to any inaccuracies committed by Respondents, that Petitioner does not have to prove scienter, in the form of intent, reckless disregard, or negligence, and that Petitioner does not have to show reliance on the part of any investor who purchased FACT notes. Petitioner argues that it is not required to prove either scienter or reliance in order to show that Respondents employed a scheme to defraud, obtained money by untrue statements of material fact and omissions of material fact, engaged in transactions which operated as a fraud upon persons, and knowingly and willfully made false and fraudulent statements in connection with the sale of FACT notes.

101. Petitioner's contention that it is not required to prove intent or negligence on the part of Respondents, as a

     threshold matter, is incongruous with the express statutory provisions Petitioner alleges that Respondents violated. In addition, Petitioner's contention is contrary to relevant case law. Compare Aaron v. SEC, 446 U.S. 680 (1980) (holding that the SEC had to prove scienter in a civil enforcement action under Section 10(b) of the 1934 Act and Rule 10b-5) with In re Checks Securities Litigation, 858 F.Supp. 1168, 1180 (N.D. Fla. 1994) (holding that the elements of misrepresentation under Florida law are identical to Rule 10b-5 except that the scienter requirement in Florida is satisfied by a showing of mere negligence while Rule 10b-5 requires a showing of reckless disregard). See also Gochnauer v. A.G. Edwards & Sons, Inc., 810 F.2d 1042, 1046-1047 (11th Cir. 1987) (holding that federal law, similar to that in Florida, requires scienter). In any event, Petitioner's contention has been rejected for reasons previously stated in the Findings of Fact, the record of the hearing, and Respondents' pleadings, and not repeated again.

102. Even if Petitioner's contention were correct,

Petitioner failed to show by clear and convincing evidence that Respondents committed any misrepresentation, and, if so, that it misrepresented a material fact. The only two arguable instances of inaccuracy concerned representations that FACT notes were to be secured by car loans on new and used cars, rather than just used cars, and that FACT is accepting applications working under its state license to sell securities. Petitioner seeks to prove Respondents guilty of the latter representation without first

putting Respondents on notice of the charge by including it anywhere in the complaint, including Paragraphs 10(A)-10(G). In addition, Petitioner failed to show by clear and convincing evidence that either of the representations were misrepresentations or, if so, that they misrepresented material facts. Presumably, Petitioner does not now assert that there is no requirement for Petitioner to prove materiality.

RECOMMENDATION

Based upon the foregoing Findings of Fact and Conclusions of Law, it is

RECOMMENDED that Petitioner enter a Final Order finding Respondents not guilty of violating Sections 517.07, 517.12, 517.301(1)(a)1-3 and (c), and 517.311(1).

DONE AND ENTERED this 3rd day of February, 1999, in Tallahassee, Leon County, Florida.

DANIEL MANRY

Administrative Law Judge

Division of Administrative Hearings The DeSoto Building

1230 Apalachee Parkway

Tallahassee, Florida 32399-3060

(850) 488-9675 SUNCOM 278-9675

Fax Filing (850) 921-6847 www.doah.state.fl.us

Filed with the Clerk of the Division of Administrative Hearings this 3rd day of February, 1999.

COPIES FURNISHED:

Honorable Robert F. Milligan Comptroller

The Capitol, Plaza Level Tallahassee, Florida 32399-0350

Harry Hooper, General Counsel Department of Banking and Finance Fletcher Building, Suite 526

101 East Gaines Street Tallahassee, Florida 32399-0350

Bruce V. O'Donnell, Esquire Office of Comptroller

1313 Tampa Street, Suite 615

Tampa, Florida 33602-3394

David A. Bacon, Esquire

Bacon, Bacon, Johnson and Goddard 2959 First Avenue, North

St. Petersburg, Florida 33713

Darryl R. Richards, Esquire Johnson, Blakely, Pope, Bokor,

Rupple and Burns, P.A.

100 North Tampa Street, Suite 1800 Tampa, Florida 33602

NOTICE OF RIGHT TO SUBMIT EXCEPTIONS

All parties have the right to submit written exceptions within 15 days from the date of this Recommended Order. Any exceptions to this Recommended Order should be filed with the agency that will issue the final order in this case.

Docket for Case No: 97-005384

Orders for Case No: 97-005384