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S.E.C. v. RANDY

March 2, 1999

SECURITIES AND EXCHANGE COMMISSION, PLAINTIFF,
v.
MICHAEL RANDY, A DEBTOR IN BANKRUPTCY, P. MICHAEL GOODMAN, PETER W. WOODBRIDGE, A DEBTOR IN BANKRUPTCY, MICHAEL J. CLARK, JAMES C. MORRIS, DAVID C. WILEY, GEORGE J. CONWAY, DAVID A. JOHNSTON, H. RALPH SYLVESTER, DONALD R. KRUEGER AND JOHN C. HAWVER, DEFENDANTS.



The opinion of the court was delivered by: Andersen, District Judge.

     
MEMORANDUM OPINION AND JUDGEMENT ORDER AGAINST DAVID A.
  JOHNSTON

The Securities and Exchange Commission ("SEC") filed this action against eleven individuals alleging that they violated the registration and anti-fraud provisions of the federal securities laws by engaging in a scheme to defraud over 500 public investors out of approximately $16 million by offering and selling bogus certificates of deposit issued by an entity called Canadian Trade Bank. The SEC alleges that defendants violated Sections 5(a) and 5(c) of the Securities Act of 1933, 15 U.S.C. § 77e(a) and (c), by offering and selling certificates of deposit that were not registered with the SEC. The SEC also alleges that the defendants violated Section 15(a) of the Securities Exchange Act of 1934, 15 U.S.C. § 78o(a)(1), by engaging in securities transactions for others while not registered as broker-dealers. The SEC also claims that defendants committed fraud in violation of Section 17(a) of the Securities Act, 15 U.S.C. § 77q(a), and Section 10(b) of the Exchange Act, 15 U.S.C. § 78j(b), and Rule 10b-5 thereunder, 17 C.F.R. § 240.10b-5.

Since the SEC filed its complaint on September 27, 1994, defendants Morris, Woodbridge, Clark, and Wiley have settled with the SEC. Defendants Randy, Slyvester, Conway, Krueger, Hawver, and Goodman have defaulted and this court has entered final judgment against them. David A. Johnston is the only remaining defendant. The SEC has filed a motion for summary judgment against Johnston on all counts of the complaint. For all of the foregoing reasons, this court grants the motion for summary judgment.

BACKGROUND

The following facts, taken from the parties' 12M and 12N statements and accompanying exhibits, are undisputed unless otherwise noted. In 1988, Michael J. Randy ("Randy") contracted with WFI of Beverly Hills, California to create Canadian Trade Bank in the Caribbean Colony of Monteserrat, a tiny island in the British West Indies. WFI was a corporation that was in the business of organizing, establishing, and selling previously unnamed banks on the islands of Montserrat and Grenada. Later in 1990, in an effort to eliminate "paper banks" that had no employees and no assets beyond the name and the banking license, the government of Montserrat sent notices of revocation to a number of banks including Canadian Trade Bank. The government informed Canadian Trade Bank that its license would be revoked because it failed to maintain a $300,000 minimum capital requirement. When Canadian Trade Bank failed to respond, the Montserrat government revoked the license.

Thereafter, in March 1990, Randy organized Canadian Trade Bank under the laws of Granada and attempted to establish it as a licensed bank. Because Granada had no law authorizing the licensing of offshore banks, Randy simply called Canadian Trade Bank a bank and conducted illegal and unauthorized bank business. Canadian Trade Bank had no assets, employees, or established business. In 1991, Granada began to tighten up its banking laws and required all companies acting like banks to become licensed. Canadian Trade Bank did not apply for a license and so in December 1991 it was eliminated from the rolls of registered corporations. From at least September 1990 through December 1992, Randy did business as Canadian Trade Bank, operating from his residence in Richton Park, Illinois. Randy controlled all operations and assets of Canadian Trade Bank from his home offices in Illinois. During this period, Randy also did business as International Brokers and as the God Is Real Universal Life Church, operating those companies from his home.

The literature also falsely claimed that the certificates of deposit were safe investments that were fully insured to a minimum of 100% of each account by "International Insurance." Randy also claimed that the funds were insured by Lloyds of London (which demanded that he stop saying this), "Polaris" (which did not exist), and by international insurance companies that insured $150 for every $100 on deposit. Randy failed to disclose to investors that the Grenadian and Canadian governments had not legally licensed Canadian Trade Bank as a bank and that the U.S. government had not licensed it to conduct banking business. Randy also failed to disclose that the bank was not located in Montserrat, Grenada, or Canada, but that Randy conducted substantially all activities relating to Canadian Trade Bank at his offices in Illinois. Randy further failed to disclose that he used investor funds for, among other things, personal expenses, unrelated business expenses, paying off earlier investors, and speculative investments and loans.

Johnston first learned of Canadian Trade Bank in 1991 when he was contacted by Jim Conway. At that time, Johnston was a licensed Florida life and health insurance agent who sold various insurance products through Edison Worldwide Capital, a company he formed in 1990. Conway provided Johnston with Canadian Trade Bank promotional literature that described the purported advantages of the certificates of deposit and provided favorable comparisons of the international banking system to the U.S banking system. Conway explained that Canadian Trade Bank was a company doing business in Montserrat and Grenada. Subsequently, Johnston met with Conway and they both spoke with Randy over the telephone. Randy stated that he was dealing with offshore banks but did not provide their names. Randy told Johnston that Conway had been selling the certificates of deposit and that Conway would give him the necessary information. Randy also gave Johnston the telephone number of a contact person in Montserrat he could call to verify the information Randy had given him.

Shortly after the telephone call with Randy, Johnston and Conway contacted Montserrat to verify that Canadian Trade Bank was licensed to conduct business as a bank. Johnston and Conway spoke with a barrister who informed them that Canadian Trade Bank's charter was revoked in Montserrat and that it was moving to another island. Despite this information, Johnston agreed to sell Canadian Trade Bank certificates of deposit. In late 1991, Johnston was joined at Edison Worldwide by Ralph Slyvester, a licensed insurance agent in Florida. Johnston introduced Slyvester to Conway so that Slyvester could sell Canadian Trade Bank certificates of deposit. Johnston and Slyvester agreed to sell the certificates in exchange for a 10% commission. Johnston and Sylvester agreed to divide equally any commissions received from the sale of insurance products through Edison Worldwide. Conway, claiming to be the Canadian Trade Bank representative in Florida, demanded a percentage of the commissions Johnston and Sylvester received for referring them to the bank.

Johnston and Slyvester then began, along with other sales agents at Edison Worldwide, to offer and sell Canadian Trade Bank certificates of deposit. Johnston conducted seminars to discuss the certificates. From 1991 to 1993, Johnston conducted two luncheon investment seminars as the President of Edison Worldwide in which he presented information about the certificates of deposit. These seminars were intended for, and attended by, elderly retirees who were looking for safe, conservative investments. At some of these seminars, Johnston and other Edison Worldwide agents spoke about various safe investment vehicles, including annuities. Johnston presented Canadian Trade Bank certificates of deposit as a safe investment that paid a high rate of return. Johnston and other Edison Worldwide agents requested potential investors to sign a card to schedule an appointment to discuss further the certificates of deposit. In some instances, Edison Worldwide agents gave investors documents on Canadian Trade Bank and international banking.

Typically, after the seminars, Johnston and other Edison Worldwide agents met with potential investors at their homes. During these meetings, Johnston and the agents would stress the certificates' exceptionally high rate of return and its safety and would give the investors literature on Canadian Trade Bank. Johnston and the other agents helped the investor complete an application or "CD Purchase Order" form that included the terms of their investment. Johnston and his agents then instructed the investors to make checks payable to Canadian Trade Bank and informed them when they would receive their certificates. Johnston and the agents then gave the investors additional promotional material that was provided to them by Randy. Johnston and his agents also explained to the investors that the certificates of deposit were backed by "Triple A" bonds and that the certificates were able to pay 14% annual interest because the bank earned 23% on the investments it made with the funds. After an investor's check cleared, Randy sent to Johnston the investor's certificate and a 10% commission check.

From at least February to December 1992, Johnston and his Edison Worldwide agents sold at least $1.7 million in certificates to at least 77 investors. Johnston and his Edison Worldwide agents profited from the fraudulent activity be receiving commissions totaling $109,713. Of that amount, Johnston received a total of $24,453.81 in commissions. During this period, Johnston was never registered as an associated person of a broker-dealer and Edison Worldwide was not registered with the Commission as a broker-dealer. Following his participation in Randy's scheme, Johnston was named as a respondent in an action brought by the State of Florida in 1993 regarding Canadian Trade Bank. As a sanction in that proceeding, Johnston claims to have repaid approximately $9,000 in commissions. Similarly, in January 1996, the State of Florida filed an administrative action against Johnston and a company he formed alleging that they were not registered with the state, that they sold unregistered securities, and that they engaged in fraudulent conduct.

On September 27, 1994, the SEC filed this action against Johnston, Randy, Slyvester, and Conway for their participation in the scheme with seven other individuals. These individuals are James C. Morris, Donald R. Krueger, John C. Hawver, P. Michael Goodman, Peter Woodbridge, Michael Clark, and David Wiley. The SEC alleges that the defendants made numerous material misrepresentations and omissions in the offer and sale of at least $15 million in unregistered Canadian Trade Bank certificates of deposit to over 500 investors. The SEC alleges that these misrepresentations and omission have resulted in, and will continue to result in, violations of the registration and anti-fraud provisions of Sections 5(a), 5(c), 17(a)(1), 17(a)(2), and 17(a)(3) of the Securities Act, as amended 15 U.S.C. § 77e(a), 77e(c), 77q(a)(1)-(3), and Sections 10(b) and 15(a)(1) of the Exchange Act of 1934, as amended 15 U.S.C. § 78j(b), 78o(a)(1), and Rule 10b-5, 17 C.F.R. § 240.10b-5, promulgated thereunder. The SEC seeks injunctive relief, an accounting, disgorgement, prejudgment interest, and civil penalties.

LEGAL STANDARD

Summary judgment is proper "if the pleadings, deposition, answers to interrogatories, and admissions on file, together with affidavits, if any, show that there is no genuine issue as to any material fact and that the moving party is entitled to a judgment as a matter of law." Fed. R.Civ.P. 56(c). The party seeking summary judgment carries the initial burden of demonstrating an absence of evidence to support the position of the non-moving party. Doe v. R.R. Donnelley & Sons Co., 42 F.3d 439, 443 (7th Cir. 1994). The non-moving party must then set forth specific facts showing that there is a genuine issue of material fact and that the moving party is not entitled to judgment as a matter of law. Anderson v. Liberty Lobby, 477 U.S. 242, 252, 106 S.Ct. 2505, 2512, 91 L.Ed.2d 202 (1986). A genuine dispute about a material fact exists only if the evidence is such that a reasonable jury could return a verdict for the non-moving party. Celotex Corp. v. Catrett, 477 U.S. 317, 323-24, 106 S.Ct. 2548, 2553, 91 L.Ed.2d 265 (1986).

In making this determination, the court must draw every reasonable inference from the record in the light most favorable to the non-moving party and should not make credibility determinations or weigh evidence. Associated Milk Producers, Inc. v. Meadow Gold Dairies, Inc., 27 F.3d 268, 270 (7th Cir. 1994). The nonmovant must support its contentions with admissible evidence and may not rest upon the mere allegations in the pleadings or conclusory statements in affidavits. Celotex, 477 U.S. at 324, 106 S.Ct. 2548. The plain language of Rule 56(c) mandates the entry of summary judgment against a party who fails to establish the existence of an element essential to its case and on which that party will bear the burden of proof at trial. The production of only a scintilla of evidence will not suffice to oppose a motion for summary judgment. Anderson, 477 U.S. at 252, 106 S.Ct. 2505.

DISCUSSION

In this case, the SEC contends that the undisputed facts establish by a preponderance of the evidence that Johnston violated the anti-fraud and registration provisions of the federal securities laws. The SEC argues that Johnston violated Sections 5(a) and 5(c) of the Securities Act by offering and selling unregistered securities in the form of Canadian Trade Bank certificates of deposit. The SEC also claims that Johnston violated Section 15(a) of the Exchange Act by engaging in securities transactions for others while not registered with the SEC as a broker-dealer under Section 15(b). Finally, the SEC maintains that Johnston participated in a scheme to defraud public investors of approximately $16 million in violation of Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act, and Rule 10b-5 thereunder. Because each of these claims are based on the sale or offer to sell securities, we must determine whether the Canadian Trade Bank certificates of deposit constitute "securities" before turning to the substantive violations.

I. The Canadian Trade Bank Certificates of Deposit are
  Securities under Section 2(1) of the Securities Act and Section
  3(a)(10) of the Exchange Act.

Although the Exchange Act does not expressly exclude such certificates of deposit from its scope, the Supreme Court has held that certificates of deposit issued by a bank that is regulated and insured by the federal government are not securities under the Act. Marine Bank, 455 U.S. at 558, 102 S.Ct. 1220. The Court reasoned that certificates of deposit issued by a federally-regulated bank are distinguishable from other long-term debt obligations because they are subject to the comprehensive set of regulations governing the banking industry. Id. "[W]hereas the holder of an ordinary longterm debt obligation assumes the risk of the borrower's insolvency," the banking regulations virtually guarantee a return of the investment. Id. at 558, 102 S.Ct. 1220. Because these purchasers are "abundantly protected under the federal banking laws," the federal securities laws provide no added protection. Id. at 559, 102 S.Ct. 1220. The Court noted, however, that certificates of deposit do not ...


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