NAOMI REICE BUCHWALD, District Judge.
Plaintiff Securities and Exchange Commission (the "SEC" or the "Commission") moves for entry of default judgment against Magdalena Tavella, Andres Horacio Ficicchia, Gonzalo Garcia Blaya, Lucia Mariana Hernando, Cecilia De Lorenzo, Adriana Rosa Bagattin, Daniela Patricia Goldman, and Mariano Pablo Ferrari (collectively "defendants").
The factual allegations of the complaint, which we describe here insofar as they are relevant, revolve around a penny-stock company called Biozoom, whose shares were traded on the Over-the-Counter Bulletin Board. Compl. ¶¶ 1, 113.
Biozoom was incorporated in Nevada in 2007 as Entertainment Arts, Inc. ("Entertainment Art"). Id. ¶ 27. Entertainment Art originally represented that it was in the business of designing and marketing leather bags. Id. Its stock was divided among three corporate officers and thirty-four outside investors. Id. ¶¶ 28-30. In May 2009, Entertainment Art disclosed that the three officers had sold their holdings to a Belize entity called Medford Financial Ltd. Id. ¶ 31. Although it was not disclosed, Medford Financial actually purchased all of the stock in Entertainment
In October 2012, Medford Financial announced that it had sold 39,600,000 shares of Entertainment Art stock to Le Mond Capital, a British Virgin Islands entity. Id. ¶¶ 35-36. In fact, Le Mond Capital purchased all 59,730,000 shares. Id. ¶ 37. Le Mond Capital is owned by Sara Deutsch, who is not a party to this action. Id. ¶ 38. Deutsch was appointed as "Entertainment Art's new President, Chief Executive Officer, Principal Executive Officer, Treasurer, Chief Financial Officer, Secretary, ... and Director." Id. Deutsch also is or was a co-owner, with defendant Tavella, and the manager of a restaurant in Buenos Aires, Argentina. Id. ¶ 39.
Defendants are eight residents of Buenos Aires. Id. ¶¶ 1421. In January to May 2013, each defendant separately opened an account at one of two United States broker-dealers, and they deposited a combined total of 15,685,000 shares of Entertainment Art stock in those accounts. Id. ¶¶ 46-47, 57, 64, 70, 77, 83, 89, 95, 101. Each defendant represented to the broker-dealers that he or she had acquired the shares in November 2012 through March 2013 in private transactions with individuals who either were among the thirty-four original outside investors or had purchased from those investors. These representations were false, because Medford Financial had acquired all of those shares years earlier. Id. ¶¶ 32, 54-56, 61-63, 67-69, 74-76, 80-82, 86-88, 92-94, 98-100. Defendants also represented that they had paid amounts ranging from $5,445 to $31,050 each, and totaling $84,260, for these shares. Id. ¶¶ 54, 56, 62, 68, 75, 81, 87, 93, 99.
In March and April 2013, Entertainment Art changed its name to Biozoom and announced that, following a transaction involving the acquisition of patents and other intellectual property, it was now in the biomedical industry. Id. ¶¶ 40-41, 45. Sara Deutsch remained a director, but not an officer, of Biozoom. Id. ¶ 42. On May 22, 2013, Biozoom and other entities began to tout that Biozoom had "`created the world's first portable, handheld consumer device' to instantly and non-invasively measure certain biomarkers." Id. ¶ 106. This promotional campaign caused a dramatic increase in Biozoom's stock price, which peaked at over $4 per share. Id. ¶ 6.
Also beginning in May 2013, defendants began to sell their shares in transactions that were neither registered with the SEC nor exempt from the registration requirement of the Securities Act of 1933 (the "1933 Act"). Id. ¶¶ 107, 111. Between May 16 and June 19, defendants used emails and instant messages to instruct their U.S. broker-dealers to sell 14,078,406 shares for a total of $33,421,062. Id. ¶¶ 107-108.
On July 3, 2013, the Commission commenced this action, and we granted the Commission's ex parte application for a temporary restraining order that included a freeze of defendants' Biozoom shares and proceeds from the sales of Biozoom shares. On July 16, defendants having retained McLaughlin & Stern, LLP, a New York law firm, the parties stipulated to the entry of a preliminary injunction including a revised version of the asset freeze. We so-ordered the preliminary injunction on July 17, and we ordered defendants to answer or otherwise respond to the complaint by August 26.
On September 11, 2013, McLaughlin & Stern moved to withdraw as counsel for reasons described in an ex parte submission. The Court granted the motion, which the Commission did not oppose. On December 17, 2013, we signed a scheduling order directing defendants to answer or otherwise respond to the complaint by February 3, 2014. This order provided that "[f]ailure to answer or otherwise respond to the complaint by that date may result in entry of a default judgment against the Defendants." On February 3, 2014, Brafman & Associates, another New York law firm, appeared on behalf of defendants and applied for a further thirty-day extension, which we granted. However, on March 14, 2014, Brafman & Associates applied to withdraw as counsel. We granted this application, which the Commission did not oppose.
On May 15, 2014, the Clerk of Court certified defendants' default pursuant to Fed.R.Civ.P. 55(a), and on June 4, 2014, the SEC filed the instant motion. The Commission served the motion papers on defendants in a manner consistent with the July 16, 2013 stipulation.
In June and July 2014, we engaged in correspondence with Juan Ignacio Prada, an Argentinian lawyer who claimed to represent defendants.
We have not since heard from defendants or anyone on their behalf.
Rule 55 of the Federal Rules of Civil Procedure permits the entry of a default judgment against a party who "has failed to plead or otherwise defend." Fed. R.Civ.P. 55(a). Here, although two New York law firms appeared for defendants, both firms were permitted to withdraw. Defendants have failed to answer or otherwise response to the complaint, even though the deadline to answer, having
By their default, defendants are deemed to concede the complaint's well-pleaded allegations of liability, but not of the amount of damages. Greyhound Exhibitgroup, Inc. v. E.L.U.L. Realty Corp., 973 F.2d 155, 158 (2d Cir.1992). Thus, we "accept[] as true all of the factual allegations of the complaint, except those relating to damages." Au Bon Pain Corp. v. Artect, Inc., 653 F.2d 61, 65 (2d Cir.1981). However, we must independently establish the damages and other relief to be awarded on the basis of sufficient evidence. Cement & Concrete Workers Dist. Council Welfare Fund v. Metro Found. Contractors Inc., 699 F.3d 230, 234 (2d Cir.2012) ("Cement Workers"); SEC v. Mgmt. Dynamics, Inc., 515 F.2d 801, 814 (2d Cir. 1975).
To make the necessary findings upon default, a court may conduct a hearing to, inter alia, "conduct an accounting," "determine the amount of damages," or "investigate any other matter." Fed. R.Civ.P. 55(b)(2)(A), (B), (D). However, it is within a court's discretion to "determine there is sufficient evidence ... based ... upon a review of detailed affidavits and documentary evidence." Cement Workers, 699 F.3d at 234.
Here, the SEC has submitted the detailed declaration of Ricky Sachar, Esq., dated June 4, 2013 (the "Sachar Declaration"), including numerous exhibits that, inter alia, fully detail defendants' trading activity. As this submission adequately supports the remedies we will impose, there is no need for an evidentiary hearing. However, as discussed in Part II.C.3 below, we delay the entry of final judgment to permit the Commission an opportunity to supplement its presentation as to the subject of prejudgment interest.
The facts established by defendants' default support the conclusion that defendants violated Section 5 of the 1933 Act. Section 5 "requires that securities be registered with the SEC before any person may sell or offer to sell such securities." SEC v. Cavanagh, 445 F.3d 105, 111 (2d Cir.2006) ("Cavanagh II"); see 15 U.S.C. § 77e. "To state a cause of action under Section 5, one must show (1) lack of a registration statement as to the subject securities; (2) the offer or sale of the securities; and (3) the use of interstate transportation or communication and the mails in connection with the offer or sale." Cavanagh II, 445 F.3d at 111 n. 13 (internal quotation marks omitted). Although some securities sales are exempt from the Section 5 registration requirement, "[o]nce a prima facie case has been made, the defendant bears the burden of proving the applicability of an exemption." Id. (citing SEC v. Ralston Purina Co., 346 U.S. 119, 126, 73 S.Ct. 981, 97 L.Ed. 1494 (1953)). Furthermore, "Section 5 imposes strict liability on offerors and sellers of unregistered securities regardless of any degree of fault, negligence, or intent on the seller's part." SEC v. Bronson, 14 F.Supp.3d 402, 408 (S.D.N.Y.2014) (internal quotation marks omitted).
In May and June 2013, defendants used international emails and instant messages to sell their Biozoom shares in unregistered transactions. Thus, the SEC has made out a prima facie case that defendants violated Section 5. Defendants have not made any effort to show the applicability of an exemption from the registration requirement, and we are not
The Commission seeks (1) a permanent injunction; (2) disgorgement of the proceeds of the illegal sales; (3) disgorgement of prejudgment interest on those proceeds; and (4) civil penalties in the same amount as the proceeds to be disgorged. We address each remedy in turn.
Section 20(b) of the 1933 Act expressly authorizes the SEC to seek an order enjoining "acts or practices which constitute or will constitute a violation of the provisions of this [Act]." 15 U.S.C. § 77t(b). The basis for ordering such an injunction must be "a substantial likelihood of future violations of illegal securities conduct." SEC v. Cavanagh, 155 F.3d 129, 135 (2d Cir.1998) ("Cavanagh I"). To determine whether the SEC has established this substantial likelihood, a court is to consider the following factors:
Id. (quoting SEC v. Commonwealth Chem. Secs., Inc., 574 F.2d 90, 100 (2d Cir.1978)). A permanent injunction is "particularly within the court's discretion where a violation was founded on systematic wrongdoing, rather than an isolated occurrence." SEC v. First Jersey Secs., Inc., 101 F.3d 1450, 1477 (2d Cir.1996) ("First Jersey") (internal quotation marks omitted).
The relevant factors amply support a permanent injunction. Defendants displayed scienter by falsely representing to their American broker-dealers that they had acquired their Entertainment Art stock from individual investors. That they engaged in parallel conduct strongly supports the inference that they were engaged in coordinated wrongdoing. Unwary investors are all too vulnerable to market manipulation of the type that evidently took place here. Thus, we will not hesitate to grant the injunction proposed by the Commission.
The equitable remedy of disgorgement, which "serves to remedy securities law violations by depriving violators of the fruits of their illegal conduct," SEC v. Contorinis, 743 F.3d 296, 301 (2d Cir. 2014) ("Contorinis"), is "well-established... in securities enforcement actions," Cavanagh II, 445 F.3d at 116. Indeed, "[t]he deterrent effect of an SEC enforcement action would be greatly undermined if securities law violators were not required to disgorge illicit profits." SEC v. Manor Nursing Ctrs., Inc., 458 F.2d 1082, 1104 (2d Cir.1972). "The amount of disgorgement ordered `need only be a reasonable approximation of profits causally connected to the violation'; `any risk of uncertainty [in calculating disgorgement] should fall on the wrongdoer whose illegal conduct created that uncertainty.'" First Jersey, 101 F.3d at 1475 (quoting SEC v. Patel, 61 F.3d 137, 139-40 (2d Cir.1995)). However, because the disgorgement "remedy is remedial rather than punitive, the court may not order disgorgement above" "the amount of money acquired through wrongdoing ... plus interest." Cavanagh II, 445 F.3d at 116 & n. 25.
The Commission has provided ample evidence of defendants' proceeds. We have carefully reviewed the Sachar Declaration and its supporting exhibits, which enumerate each of defendants' Biozoom sales. We concur in the Commission's calculation of the amounts to be disgorged by Goldman, Baggatin, Ferrari, and Tavella, which correspond to the complaint's allegations. See Sachar Decl. ¶¶ 27, 29, 30, 32, 33, 35, 36, 38 & Exs. 12-19; Compl. ¶¶ 81, 87, 93, 99, 107.
In contrast, the disgorgement amounts that the Commission proposes for the other defendants exceed those defendants' true net proceeds as reflected in the Commission's exhibits. First, we note a $15 error in the Commission's transcription of the amount Blaya reported paying for his shares. Compare Sachar Decl. ¶ 18, with id. Ex. 6, at 1.
Accordingly, we will order that defendants disgorge the following amounts of principal: Tavella, $3,107,819; Ficicchia, $1,948,339; Blaya, $3,008,200; Hernando, $5,042,771; De Lorenzo, $4,801,536; Baggatin, $6,216,380; Goldman, $3,764,306; and Ferrari, $5,447,450.
It is also within a court's discretion to order disgorgement of prejudgment interest on the principal amount to be disgorged, so as to "to deprive the wrongdoer of the benefit of holding the illicit gains over time by reasonably approximating the cost of borrowing such gain from the government." Contorinis, 743 F.3d at 308. As a general matter, the Second Circuit has approved the calculation of prejudgment interest at the IRS underpayment rate, which "reflects what it would have cost to borrow the money from the government and therefore reasonably approximates one of the benefits the defendant derived from its [illegal conduct]." First Jersey, 101 F.3d at 1476.
Last year, in an opinion not cited in the Commission's brief, the Second Circuit limited the availability of disgorgement of prejudgment interest as to funds frozen at
738 F.3d at 36-37 (emphases added).
We interpret Razmilovic to mean that when a defendant's funds have been frozen in connection with an enforcement action, the defendant may not be ordered to disgorge prejudgment interest at the IRS underpayment rate. As noted earlier, that rate is intended to "reasonably approximate[]... the benefit[] the defendant derived from" the time value of possession of the defendant's ill-gotten gains, First Jersey, 101 F.3d at 1476; but where a defendant's funds are frozen, if the freeze is not violated, the defendant derives no such possessory benefit for the duration of the freeze. Yet Razmilovic also recognizes that frozen funds "turned over to the government in complete or partial satisfaction of the disgorgement order" should be turned over "along with any interest that has accrued on them during the freeze period." 738 F.3d at 36. Otherwise, a defendant might perversely benefit from the asset freeze by pocketing accumulated returns on the frozen principal.
However, we will defer entering judgment to afford the Commission an opportunity to establish the actual amount of the returns, if any, that have accumulated on the frozen assets. If the Commission does so, we will be inclined to incorporate those amounts in our final judgment. Alternatively, if the Commission can show that defendants have violated the asset freeze as to any of the funds subject to that freeze, the Commission may renew its request for disgorgement of prejudgment interest as to those funds at the IRS underpayment rate.
Section 20(d) of the Securities Act provides that, in an enforcement action brought by the Commission, "the court shall have jurisdiction to impose, upon a proper showing, a civil penalty to be paid by the person who committed such violation." 15 U.S.C. § 77t(d)(1). Section 20(d) "authorizes three tiers of monetary penalties for statutory violations." Razmilovic, 738 F.3d at 38. Each of the three tiers "provides that, for each violation, the amount of penalty `shall not exceed the greater of' a specified monetary amount or the defendant's `gross amount of pecuniary gain'; the amounts specified for an individual defendant for the first, second, and third tiers, respectively, are $[7,500], $[80,000], and $[160,000]," id. (quoting 15 U.S.C. § 77t(d) (emphasis in Razmilovic)); see 17 C.F.R. § 201.1005 (adjusting statutory maximum penalties for inflation). The third, most serious tier, requires a showing that "the violation ... involved fraud, deceit, manipulation, or deliberate or reckless disregard of a regulatory requirement" and "such violation directly or indirectly resulted in substantial losses or created a significant risk of substantial losses to other persons." 15 U.S.C. § 77t(d)(2)(C)(i)(I)-(II).
Subject only to the applicable maximum, "[t]he amount of the penalty shall be determined by the court in light of the facts and Circumstances." 15 U.S.C. § 77t(d)(2)(A). Thus, "[b]eyond setting maximum penalties, the statute[] leave[s] `the actual amount of the penalty ... up to the discretion of the district court.'" Razmilovic, 738 F.3d at 38 (quoting SEC v. Kern, 425 F.3d 143, 153 (2d Cir.2005)).
"In determining whether civil penalties should be imposed, and the[ir] amount," SEC v. Wyly, 56 F.Supp.3d 394, 407, 2014 WL 4792229, at *4 (S.D.N.Y.2014) (internal quotation marks omitted), courts in this District have
Id. (quoting SEC v. Opulentica, LLC, 479 F.Supp.2d 319, 331 (S.D.N.Y.2007) ("Opulentica")). But although "these factors are helpful in characterizing a particular defendant's actions, ... each case `has its own particular facts and Circumstances which determine the appropriate penalty to be imposed.'" Opulentica, 479 F.Supp.2d at 331 (quoting SEC v. Moran, 944 F.Supp. 286, 297 (S.D.N.Y.1996)).
Here, "the Commission seeks to impose a penalty against each of the [defendants] equal to his or her gross pecuniary gain from the sale of Biozoom shares, i.e., the disgorgement amount for each [defendant]." Br. at 14. In other words, the Commission seeks civil penalties in the maximum amounts allowed by statute, which range from approximately $2.0 million to $6.2 million per defendant. The Commission's brief makes no case — specific argument whatsoever in support of the magnitude of these proposed penalties. Instead, the Commission states only that "[c]ourts have routinely imposed civil penalties equal to the gross amount of a defendant's pecuniary gain," Br. at 14,
A civil penalty is plainly appropriate to punish defendants' illegal conduct. Yet the Commission's submission leaves us with many unanswered questions. Beyond the bare facts pertaining to defendants' deposits and sales of Biozoom stock, practically the only thing we know about defendants is their occupations, which shed little light on the Circumstances.
A third-tier penalty is justified because, as already discussed, defendants' illegal conduct was undertaken with some degree of scienter, and because we infer that it caused substantial collective losses to investors. The amount of money acquired through the Biozoom scheme further justifies a penalty in an amount that Congress and the Commission, in the exercise of its rulemaking authority, have deemed weighty. And we will not reward defendants
The Commission's motion for a default judgment (Doc. No. 45) is granted on the foregoing terms. However, we defer entering judgment to afford the Commission an opportunity to supplement its submission as to the amount of prejudgment interest that should be disgorged. Such supplemental submission shall be due on January 23, 2015.
