*4 unlawfully unregistered him shares sold COLE, BOGGS, Judge; Before Chief Kentucky’s Sky Blue law was under ROSEN, District Judge; and Circuit by the National Securities preempted Judge.* Improvement Act of Pub.L. Markets (“NSMIA”), 104-290, 110 Stat. 3416 No. BOGGS, C.J., opinion delivered “pur- had been sold because the securities COLE, J., joined. in which the court valid federal ex- suant to” a 922-24), ROSEN, delivered a (pp. D.J. (2) Brown did not adduce emption; and concurring part separate opinion genuine to create a is- sufficient evidence dissenting part. respect to two of material fact with sue OPINION of a securities fraud suit: vital elements causation. Brown filed a BOGGS, Judge. scienter and loss Chief For the reasons timely appeal. notice of Brown, a Plaintiff-Appellant Clinton below, court we reverse the district stated businessman, risky invest- made a wealthy against Vaughn, to the claims privately- *5 in of a small ment the securities affirm in summary judgment favor of but called Earth- company held California Lincoln. (“Earthboard”). He Sports USA board on such a course was induced to embark I from “tip” he had received action an Jeffrey Vaughn, Defendanb-Appellee summary judg- Brown from appeals As who ment, and financial advisor in acquaintance we review the adduced evidence prospective to be a Brown him. Earth- light considered most favorable to client, large public company Mesa, that a privately-held Cosa Cali- board is extremely, on acquire Earthboard designs about and manu- corporation that fornia How- ridiculously, favorable terms. even “extreme” skateboards factures all-terrain out ever, acquisition turned promised it offered equipment. and related creation of entirely fictitious to be an in certain of its securities subscriptions Hugh one Jef- president, Earthboard’s exemption an from federal and filed for finally the truth was freys, a felon. When with the United registration requirements revealed, lost many and others Brown Exchange and Commis- Securities States then sued Brown their investments. (“SEC”). company Specifically, sion Earthboard, Jeffreys, Vaughn, exemption a federal filed for Ad- Lincoln Financial Vaughn’s employer D, Regulation to Rule 506 of pursuant (“Lincoln”) court, in Corp. federal visors 230.506, provision § a safe harbor C.F.R. variety of federal and claiming a 4(2) of the 1933 Se- by Section authorized The district court violations. 77d(2), Act, limited for curities 15 U.S.C. Earth- judgment against default entered permits a placements. Rule 506 private Jeffreys. board securi- unregistered to sell private issuer toup investor” and any “accredited ties granted court Subsequently, the district purchasers, unaccredited thirty-five other Vaughn in favor of summary judgment met. requirements are long as certain appeal be- so Relevant to and Lincoln. * Rosen, by designation. Michigan, sitting E. United States Gerald The Honorable District of Judge for the Eastern District freys by filing generally telephone August intended to ex-
Such (cid:127) regis- empt the sale from federal and state again September They ap- late 2001. pursuant to requirements tration NSMIA. parently person did not meet each other in not file amendments Earthboard did Brown, until March According filing exemp- or file for a new to its 1999 Jeffreys Vaughn told on the telephone that Thus, company to of- tion. continued acquisition Earthboard was involved in ne- until subscriptions fer its securities VANS, gotiations with a publicly-traded purportedly pursuant about all to its that, company, footwear according filing. deal, the terms of the one share of Earth- ran his firm from board’s marketing exchanged own securities would be for 1988until 1999. In Brown’s account- one share of VANS when the transaction ant, Schindler, him Gene introduced finally time, closed. At that VANS shares Vaughn, registered a financial advisor and $12, trading Jeffreys were at about but representative employed by Lincoln. company’s Vaughn offered his shares to 401(k) Vaughn solicited business Thus, just apiece. Vaughn stood to $1 firm, marketing “ask[ing] Brown’s to be realize a capital gain 1100% when and if one [Brown’s] investment advisors.” promised transaction was It closed. Vaughn prospective viewed Brown as good was almost too to be true. client, and knew Brown would re- Armed with what probably he took to be large money ceived a sum of if he sold his illegal information,” illicit or “insider finally compa- firm. When Brown sold his Vaughn allegedly reap decided to the re- ny “wanted to know what course, wards. Of the essential value of plans were for the earn-out [Brown’s] “tip” such illicit in its lies concealment *6 Thereafter, money.” Vaughn contacted public eye, from the it probably so was time, periodically. During Brown it impossible anyone for Vaughn or else to Vaughn and seems Brown met on any proper conduct investigation of the occasions, playing golf occasionally, social Vaughn allegedly transaction. But did not taking golf together a vacation at Brown’s ignorance allow his fundamental about Jef- home, enjoying Arizona and Brown’s time- freys, previously fraud, a felon convicted of jet. They were share both fans of Indiana supposed or about the Earthboard-VANS team, University’s they basketball and at- transaction, govern to his decisions. Of Indiana/Kentucky game togeth- tended an course, apparently there was not an ounce Vaughn’s at er. Brown dined home at Jeffreys’s “tips.”1 of truth to once, Vaughn attended a least Christmas home, party they at Brown’s and attended According to by the evidence adduced charity-benefit a together. few dinners Brown, Vaughn by investing started scheme, money own this and he ulti- 2001, Apparently, August Vaughn mately $228,000 purchased about worth of first heard about Earthboard from his Earthboard shares. He signed subscrip- a builder, company who told him that agreement September tion on raising capital expansion put for and 100,000 purchased him in and company’s presi- per contact with the shares for $1 dent, Jeffreys. Vaughn spoke with company Jef- share. The seems acci- to have Jeffreys recently pleaded guilty violating still-pending against to civil securities suit Jef- laws, Earthboard, freys fraud seeking recovery federal securities and has been prison. gains. sentenced to 41 months in federal some of the illicit Sec. and Exch. at., Jeffreys, Jeffreys United States v. 8:05-cr-00184-DOC et Comm’n 1:05-cv-00372- (C.D.Cal.2006). (D.D.C.). The SEC has also filed a RWR-DAR if wanted a 100,000 quickly move to be [he] shares ed to extra sent him an dentally time, though it rescinded it.” part around Af- time later. shares some surplus
those interested, he was Brown said to as Brown introducing investors such ter you “I a sub- Vaughn replied get need to another purchased he “opportunity,” made ar- agreement.” Vaughn scription account for 99,000 on his own shares subscription agree- rangements to have compa- $99,000 March on to fax. Earthboard ment sent Brown 7,000 for him an additional shares ny gave subscription agreement to Brown sent the me a [paying] “in lieu of free at that time consulted 2001. Brown on December commission,” thank him for to presumably advisors, specifi- two of whom his financial like Brown about advising investors Vaughn could have cally how questioned 29,000 another purchased He opportunity. information about an to such inside access in December on his own account shares involving public unannounced transaction per share. 2002 for $1 but Brown would not be de- company, himself, to invest for deciding After Vaughn’s Relying entirely on terred. ac- Mends and Vaughn began to solicit opportunity “tip,” Brown saw this as “opportu- in this quaintances participate VANS, company he found to be invest light evidence in the nity.” Taking the “solid,” though independently he did not Brown, Vaughn contact- most favorable to investigate Earthboard. early De- ed Brown late November subscription agree- Brown received his tell him that he “wanted cember 2001 to wire transfer instructions direct- ment and ... prove opportunity [Brown] Earthboard. Brown claims ly from a financial he could be as how valuable completing him in Vaughn assisted he had an investment advisor and that clearly meet listed as the Vaughn “wanted to form. He saw opportunity.” “$1” it.” to “a sense of to discuss Due it had been price, share original [Brown] call,” agreed phone in the Brown urgency replaced marked out and “$6.” days lunch about two meet had risen because price assumed stock meeting, Vaughn At that “shared later. neither imminent transaction. He pri- of this ... the details [Brown] a Private Placement nor asked for saw *7 Earthboard, called vately enterprise held (“PPM”), though it was ref- Memorandum traded publicly imminent sale to a its [and] subscription agreement he in the erenced story’s the firm To bolster called VANS.” sub- completed He faxed the signed. had allegedly lied to Brown veracity, Vaughn on directly to Earthboard scription form president, Earthboard’s by claiming that 100,000 13, 2001, requesting December ac- personal “a friend or Jeffreys, was wire instruc- Vaughn then faxed shares. his, they that had done busi- quaintance machine, Lincoln’s fax tions to Brown from or form way, shape in some ness before $600,000to Earth- finally wired and Brown him a favor.” [Jeffreys] owed and board. subscriptions Vaughn explained then transaction, completing this After to a in Earthboard stock were available in engaged and numerous Vaughn Brown share, per investors at group limited $6 investments their regarding conversations one-for-one stock purported and that the Earthboard, spoke about the and both in closing offered upon the transaction’s swap Brown price of VANS stock. fluctuating invest- doubling prospect Brown the you whatever Vaughn to me “[s]end asked Vaughn warned overnight. But ment Earthboard, Vaughn sent and get” from transac- pressing, was for the VANS time releases and announcements press ... need- “imminent and [Brown] tion was Brown, apparently who did tered” and that Earthboard were offered directly 4(2) from Earth- not receive them pursuant to Section of the 1933 Secu- 9, 2002, January Vaughn faxed On board. purchase, rities Act. To make this release to Brown press an Earthboard again acknowledged that he was an “ac- machine, fax wherein from Lincoln’s credited investor” and that he had relied agree- announced a “definitive Earthboard solely independent investiga- on his own acquired by “its stock ment” to have in making tion the investment decision. major company.” traded footwear publicly for, Brown claims that he asked but never release,” Earth- According “press to this received, Earthboard’s financial state- exchanged be on a would “one board stock ments, circular, PPM, offering basis,” apparently confirming the for one any company. other disclosures about the Brown continued to to Brown. lies told Meanwhile, above, Vaughn as we noted stock, assuming that follow VANS 99,000 purchased himself another shares of complete awaiting transaction 3, 2002, Earthboard on March and re- announcement. Brown and public 7,000 ceived an additional shares from Vaughn discussed whether to sell or even Earthboard “in lieu of’ In commission. merger. stock after the hold VANS 2002, Vaughn December sent letter of Vaughn kept assuring Brown that “imminent,” stationary transaction with VANS was instruction on Lincoln to Earth- and so Brown continued believe agent, purchasing board’s transfer another contact Vaughn remained constant with 29,000 2003, July shares. In Vaughn fact, management. Earthboard’s how- 16,500 purchased seems to have another ever, 2002, January al- as of had Goebel, neighbor, shares from his Charles yet met with Earth- legedly not even purchased who had earlier shares person, president board’s and there is a response Vaughn’s pitch. genuine material fact with issue of passed, Time but the fictitious transac- question of whether had he conduct- to the closed, finally tion never it and was re- diligence about ed due Earthboard or vealed that the whole scheme was fraudu- prior soliciting the rumored transaction complaint lent. Brown filed a against all deposition, Vaughn Brown: in his at first September defendants in raising a personally Jeffreys that he met claims claims, host of federal and state and filed factory early toured Earthboard’s complaint amended on November immediately but almost he seems to have May 2004. On the district court by admitting corrected himself judgment against entered default Earth- meeting and tour did not occur until Jeffreys, holding jointly board and them March 2002. $840,000 severally liable for plus pre- $14, having shares risen to VANS *8 post-judgment and interest (representing purchase decided to an additional Brown investment) though Brown’s entire even 40,000 of Earthboard at per shares $6 parties certainly judg- those are almost February 2002. share on For this 2, 2005, ment-proof. August On the dis- investment, signed subscription he a new summary judgment trict court entered in 140,- agreement purchase for his entire Lincoln, holding, favor of and in (for a total 000 shares investment of (1) part, Kentucky relevant Blue $840,000), complete which contained more Sky preempted by law is federal securities than legible subscrip- disclosures regulations respecting offerings covered in agreement tion that he had received (2) NSMIA, pursuant filed to the agreement 2001. This warned December regis- prove that the securities “have not been Brown could not loss causation and
909 Act, 77r(b)(4)(D), § a “cov- 15 U.S.C. Vaughn. ties against claims for his scienter alia, is, security security” any dismissed inter Lincoln was ered against The claim entirely on the claim registration depended exempt it from federal securities because timely ap- Brown filed Vaughn. against rules or to — ... Commission “pursuant 4(2)” peal. § under regulations issued 77d(2). § The Act. 15 U.S.C. See II offering pur- agree that parties federal court exercised The district “pursuant to” Rule 506 portedly made respect jurisdiction with question filing. Earthboard’s 1999 based on claims, § U.S.C. federal Brown’s jurisdiction over supplemental and took pursuant to 28 U.S.C. Kentucky claims interpre in their parties differ 1367(a). granted court § The district of Earthboard’s 1999 tation of the effect analysis on its summary judgment based exemption. Rule 506 filing for law. review of federal application actually meet offering that an must claims legal court’s conclu de novo the district reg established the SEC the conditions sions, statutory inter including matters of qualify as a “covered ulation order Karnes, F.3d Johnson pretation. registration from state security” exempted (6th Cir.2005); v. Coms Hoffman He further requirements NSMIA. Lit.), (In Comshare, hare, Inc. re Sec. Inc. not, offering did claims that Earthboard’s Cir.1999). (6th 542, 547 183 F.3d fact, security” qualify as a “covered The defendants answer under Rule 506. A alia, all non exempts, inter that NSMIA is that the appeal first claim on Brown’s so regulation from state public securities that federal holding erred in district court company attempted long as the Sky Blue law preempts state
law or has exemption for a valid federal qualify NSMIA, pertinent part which claims.2 that the securities are offered purported 18(a)(1)(A) the 1933 amended Section Moreover, exemption. “pursuant to” 77r(a)(l)(A), Act, 15 U.S.C. Securities offering they argue that the Earthboard regulation respect with preempts actually qualified exemption. for Rule 506 cannot, “The States “covered securities.”3 simple fact court held that the The district over local laws in the exercise of control entered un filing that the 1999 had been power courts with practice, vest state exemption enti the rubric of a federal der of the land.” supreme law to violate preemption pursuant tled it to federal Feuerstein, 433, 439, 60 308 U.S. Kalb v. and state courts (1940). District courts NSMIA. According L.Ed. 370 S.Ct. 18(b)(4)(D) fil- question on the whether split have of the 1933 Securi- to Section order, law, rule, regulation, or or other no reads: "It is unlawful the state statute As security any po- any State or any person to offer or sell action of administrative state, security registered requiring, this unless or litical subdivision thereof — security chapter, or transac- this or the to, under qualification or chapter, exempt under this or tion is securities, qualification of registration or Ky.Rev.Stat. security security.” is a covered transactions, directly or indi- shall incorporates *9 § 292.340. The state statute Ann. (A) security a cov- rectly apply to a that — security.” of a "covered the federal definition (B) security; a covered securi- or will be ered 77r(b)(4)(D). § 15 U.S.C. 15 ty upon completion the transaction....” 77r(a)(l)(A) (B). §§ U.S.C. — "a) exemption. Scope reads: 3. The statute section, Except provided in this as otherwise 910 purported qualify or to for a actually qualify attempted for a federal
ings must exemption in order registration legitimate exemption. federal Several dis- securities preemption. to To to be entitled NSMIA Temple’s trict courts have followed reason- knowledge, ap- no federal our Stockton, the best of ing. See Lillard v. question. ruled on this yet court has peals (N.D.Okla.2003); F.Supp.2d those courts that have agree now Int’l, Pinnacle Inc. v. Am. Commc’ns. actually offerings qualify that must held Family Mortgage Corp., F.Supp.2d registration a valid federal securities for (D.Minn.2006) (“When 1073, 1087 an offer- enjoy pre- to NSMIA exemption order ing purports exempt to be under federal emption. D, Regulation any allegation improper Gorman, exclusively by Temple F.Supp.2d registration is covered fed- (S.D.Fla.2002), law.”). the district court held eral broadly Congress preempted roundly rejected Other courts have registration passing actions law Temple’s reasoning. Supreme Court case, plaintiffs In that the NSMIA. as- challenge of Alabama raised the first to serted that their state law claims were not Temple’s broad-preemption reasoning preempted the securities were not actu- as required claiming it the when defendants they ally exempt because did not meet preemption offering, NSMIA their (or any exemption’s) Rule other re- 506’s pursuant which had been sold to Rule 506 quirements. Id. at 1243. The district exemption, prove challenged dispute allegation, court did not but actually qualified securities for a valid fed- Congress’s purpose passing noted that exemption. eral Buist v. Time Domain “to further and advance the NSMIA was (Ala.2005). Corp., 926 So.2d 295-98 development of national securities markets ap- Several federal district courts have and burdens of and eliminate the costs proved reasoning. Buist’s line of One dis- duplicative unnecessary regulation by, trict court “plain language” noted rule, general designating as a the Federal of the securities laws defines a “covered government regulator as the exclusive security” exempt as “one that ‘is from offerings national of securities.” Ibid pursuant under this title 104-622, (quoting H.R. REP. No. at 16 ” ... regulations.’ Commission rules or (1996)). “purpose,” Based on this as stat- AFA Equity Private Fund v. Miresco legislative gloss, Temple ed in the Servs., 02-74650, Inv. No. 2005 WL court held that *9, 2417116, at 2005 U.S. Dist. LEXIS the securities this case were offered (E.D.Mich. 2005). Sept. at *26 pursuant or sold to a Commission rule required court The Miresco defendants to 4(2) regulation adopted under section “present showing evidence that the securi- .... [and][r]egardless of whether exempt regis- ties at issue here are private placement actually complied with adopted by tration under the rules requirements Regula- the substantive 4(2)” under and held that “it is SEC tion D or the securities sold to Rule burden, party relying as the [defendant’s] covered Plaintiffs are federal exemption, on the establish they pursuant because were sold exemption applies and that all conditions those rules. exemption had been satisfied.” (internal Id. at quotation 1243-44 marks Ibid. Another court noted that omitted). such, Temple As court held Temple the extent that can be read Sky preempt- [t]o that the state’s Blue law was support principle pre- ed the fact that the defendants had of broad *10 proffered “Defendants have evidence urge, this cause that the defendants emption question to create a of fact as to that case.... sufficient to follow declines Court they exempt are under Rule authority for whether found no This Court has 506.”). .... principle] preemption broad [the cjontrary Temple, to most commen- [and reject Temple’s ap likewise a securi- have stated the obvious:
tators of the proach. prevailing Under view security actually be a ‘covered ty has to authority, grant Commerce Clause’s applies. preemption federal before Raich, 1, Gonzales v. 545 U.S. 125 S.Ct. Consulting 2195, 2205-09, (2005), Con- Hamby v. Clearwater 162 L.Ed.2d Con LLP, 915, 921 n. F.Supp.2d to cepts, gress clearly regu has been authorized Ark.2006) omitted). (E.D. (citations This in trading late the of securities. This contravening re- reasoning power preempt line of been cludes the general in fact recently: regulations. Congress more state could peated even occupy decide to the entire field of securi language into Temple court read all regulation preempt ties state laws appear that does not there. the statute they Appellees to securities.4 pertain as exempt if it security A is covered is Congress actually urge us to believe does the stat- registration.... Nowhere narrower, only slightly a feat performed may satisfy security indicate that a ute preempts state for to hold NSMIA a pursuant if it is sold the definition offerings merely pur wherever regulation Congress If had putative exemption. pursuant filed to a valid federal port to be representation intended that an offeror’s registration exemption, parties or where have exemption suffice it could should for, for, qualify fail an have filed but so, did not. Such an intent said but exemption, would effec registration SEC event; a unlikely, seems tively registration require eviscerate state liability under defendant could avoid world, ments. such by declaiming its al- simply state law merely by avoided requirements could be Regulation D is leged compliance with boilerplate language to adding spurious unsavory proposition and would evis- suggesting that subscription agreements necessary it the statute. Nor is cerate “covered,” by filing offerings were legislative history; to look to the Congress bogus documents with the SEC. unambiguous. is statute to accom indubitably possesses power Int’l, F.Supp.2d Grubka WebAccess plish that end. (D.Colo.2006) (citations 1259, 1269-71 omitted). However, dispositive it is to our marks See quotation internal Media, Inc., to include Congress chose not inquiry No. Myers also v. OTR *5-6, when it en 1:05CV-101-M, broadly preemptive language at 2005 WL * Instead, plain the statute at 15 acted NSMIA. Dist. LEXIS 2005 U.S. 2005) “cov ly preemptive scope its (denying plaintiffs restricts (W.D.Ky. Aug.30, defines, securities,” nor and it neither judgment where de- ered summary motion for define, “covered secu- requires be- the SEC to preemption claim fendants NSMIA congressional intent and of clearly Congress’ powers to determination of 4. "It is within pre-empt- of a adjudi- the boundaries and character an exclusive federal forum to establish ing congressional is one of federal particular area enactment cate issues of federal law in a practical Pre-emption, the manifestation Congress authority regulate law. has the Clause, Supremacy always a federal is Whether it has done under the Constitution. question.” Longshoremen’s Ass’n v. question Int'l specific case is the that must so in Davis, 106 S.Ct. party that a state 476 U.S. be answered when a claims omitted). (1986) (citations jurisdiction pre-empted. L.Ed.2d 389 Such court’s *11 912 Sky in actually preempt cal will to state Blue laws that would in a fashion
rities” entirety, it ex- practical thus their would have The statute all securities. include plain that decision in the statute’s pressed state laws with expressly preempt does not Therefore, securities, we reverse the district nor text. respect to non-“covered” court, preempts and hold that NSMIA implied text reveal an does the statute’s registration requirements all state statutes in the state securities preempt intent to Co., actually respect 529 to securities v. Am. Honda Motor field. Geier 884, 1913, qualify “covered securities” under fed- 861, 146 L.Ed.2d as 120 S.Ct. U.S. (2000). Moreover, defining far from eral law. 914 gen- in a manner that “covered securities” securities, the SEC erally incorporates all specific requirements promulgated appellees argue The next security in for a
that must be met
order
offering actually quali
Earthboard’s 1999
Therefore, we hold that
“covered.”
be
thereby
exemption,
trig
fied for Rule 506
registra-
state securities
preempts
NSMIA
regula
gering
preemption of state
NSMIA
respect only to those offer-
tion laws with
respecting
tion
“covered securities.”
actually
as “covered secu-
ings
qualify
(“no
77r(a)(l)(A)
rule,
law,
regu
§
U.S.C.
regulations that
according to the
rities”
lation,
order,
or
or other administrative
promulgated.
the SEC has
any
political
action of
State or
subdivi
(1) requiring,
sion
or with
Next,
urge us to avert our
thereof —
appellees
to, registration
qualification
or
of securi
language and
eyes
plain
the statute’s
ties,
qualification of se
or
legislative
suppos
intent as
look instead
transactions,
directly
curities
shall
or indi
they,
edly
by
gloss
on which
espoused
(A)
rectly apply
security
to a
is a
court, rely.
resorting
But
that —
and the district
security....”).
assessing
their
covered
risky
history
always
is
a
en
legislative
claim,
preemption
that “[f]ederal
we note
deavor, subject manipulation by individ
upon
is an affirmative defense
which
by simple mistakes of
legislators
ual
proof.”
defendants bear
the burden of
legislative histo
by
fact
the courts. While
Corp.,
Third Bank v. CSX
415 F.3d
usefully add to our un
ry may sometimes
Fifth
(7th Cir.2005).
741,
Caterpillar,
See
a statute where the statuto
derstanding of
Williams,
386, 392, 107
Inc. v.
482 U.S.
ambiguous, it cannot alter
ry language is
(1987).
S.Ct.
of the Constitution.”
(6th
Inc.,
“arguably” protected or
Cir.
the conduct be
Days,
427 F.3d
2005)
It
Dep’t Housing
prohibited,
is not without substance.
(quoting
part
Rucker,
by conclusory
assertion
v.
535 U.S.
is not satisfied
and Urban Dev.
134-35,
and would therefore not
pre-emption
917 scienter, statute, among and Ky. ly alleged the factors virtually identical state a 292.320(l).11 past that we have considered are Ann. basic Rev.Stat. ac securities fraud of a federal elements (1) trading suspicious insider at a time Rule 10b-5 and Section pursuant tion (2) amount; divergence or an unusual extension, and, Kentucky of a 10(b), by reports between internal and external (1) action, a material fraud are: securities (3) subject; on the same statements (2) omission; scien- or misrepresentation allegedly closeness in time of an fraudu- (3) ter; purchase or a connection with the lent and the later statement or omission (4) (or security; reliance transac sale of a information; disclosure of inconsistent (6) (5) loss; causation); tion economic (4) by bribery top company evidence of Pharmaceuticals, causation. Dura loss (5) official; ancillary existence of an law- Broudo, 336, 341-42, Inc. v. 544 U.S. charging company fraud suit (2005). 161 L.Ed.2d S.Ct. quick settlement of that company’s dispute and Lincoln both (6) suit; disregard of the most current of ma genuine created a issue Brown has making factual information before state- to three elements terial fact with (7) ments; accounting disclosure of in- scienter, reliance, and fraud: way negative formation in such a that its causation. loss implications could be understood high degree sophisti- someone with (8) cation; personal interest of cer- Scienter is a “mental state em informing tain in not disinter- directors deceive, bracing manipulate, intent impending of an ested directors sale Hochfelder, Ernst & Ernst v. defraud.” stock; motiva- self-interested n. 425 U.S. S.Ct. saving tion of defendants the form of (1976). task is thus to L.Ed.2d 668 “Our jobs. *16 their salaries or Complaint alleges the determine whether elsewhere, have noted scienter Ibid. As we that, true, would, by forming if the facts inference, highly ‘convince a is limited to those unreasonable strong basis for a misrepresentations or that in- person that the defendant knew omissions reasonable ” merely simple not or even inexcus- misleading.’ was false or volve statement depar- Sys. negligence, Ret. v. able but extreme City Employees Monroe of (6th ordinary Corp., F.3d 683 ture from the standards Bridgestone 399 Cir.2005) (citation omitted). care, present danger and that of mis- We therefore buyers which is either “totality leading test in or sellers employ a of circumstances” adequate- known to the defendant or is so obvious assessing plaintiff whether a sale, any security, directly purchase or any of a material fact or to or untrue statement device, scheme, (a) necessary employ any state a material fact in indirectly: omit to To made, defraud; in the (b) order to make the statements any untrue or artifice to To make they light under which circumstances fact statement of a material or omit made, (c) misleading, engage were not or To necessary in order to make the a material fact act, any practice, or course business made, light in the of the circum- statements operate operates as a fraud which or would made, they are not mis- stances under which any person, upon deceit in connection with or act, (c) leading; engage practice, or To purchase any security.” or sale of operates business which or or course of (2006). § 240.10b-5 C.F.R. operate upon any would as a fraud or deceit 292.320(1) Ky.Rev.Stat. person.” Ann. "(1) 11. The state statute reads: It is unlawful (2006). offer, any person, with the in connection provisions have been anti-fraud of the securities must that the defendant it. laws. aware of Co., F.2d Exchange Hutton & v. v. E.F. Securities Comm’n
Platsis Cir.1991) (citations (6th (6th and internal George, 426 F.3d 793-94 Cir. omitted). “In 2005). securities marks quotation Brown now contends that the in pres- on statements of based fraud claims presents case a set of circumstances stant fact—such as the claims historical ent or alleges analogous George, to that of as he con- in this case—scienter bring Plaintiffs in prospective solicited Vaughn that had recklessness.” PR knowledge or sists of vestors to invest in the Earthboard offer Chandler, Diamonds, F.3d Inc. ing, encouraged them to invest without Cir.2004). (6th factual alle- “Specific having performed any investigation of his ignored flags, red gations that defendant own,12 thereby by receiving, profited have revealed signs that would warning admission, a by his own “commission” inclu- prior errors to their accounting company for his efforts on their behalf statements, may support a public sion purchase in addition to his own of shares Id. at 686. inference of scienter.” strong price at one-sixth of the that he solicited plaintiff in a year, we held Last to pay. sufficiently had al- fraud case George appellees counter respect to a scienter with leged reckless defendant in that inapplicable because the recklessly had broker who
professional participant,” than a case was “more casual scheme, money lost in a Ponzi participated raised more than two million dol- and had scheme, encouraged others to spent approximate- from investors and lars in the scheme: participate $619,000 himself and ly amount on contends he defendant] [the While George friends. Id. at 785. The defen- fraud’s truly [the author] believed money known that he dant had also money in pur- lost that he himself wrongly investors was character- paid to trades, these facts do not contro- ported in fact “profits,” though ized as he did not that [the defendant] the evidence vert money or whence know whither the went in a pro- to invest encouraged people money came. to the With which he knew vir- the details of gram, circumstances, appellees instant note In view of defen- tually nothing. [the actually that the in- believed at employment former several dant’s] *17 he vestment was worthwhile because be- firms, brokerage this Court well-known in lieved that Earthboard was involved concluding that [he] little trouble has VANS, subjective negotiations with be- known[,] knew, that [the or should have lief that Brown seems to concede to be an scheme was fraudulent. author’s] fraud’s accurate characterization. concludes that [the therefore The Court think that Brown has suc requisite acted with the defendant] and has liability cessfully alleged Vaughn’s under the scienter to establish scienter statements, ty purposes Vaughn in defense that he met of those two for the claims his office, Jeffreys, Earthboard’s toured its summary judgment they visited indicate the exis- manufacturing pro- plant, and observed genuine tence of a issue of material fact as to However, deposition, in his own he cess. president he even met Earthboard's whether meeting he conducted that first declares that any investigation compa- of the or conducted early but then he seems to in and visit ny prior soliciting purchase. Brown’s As and admit that he did not correct himself Vaughn moving party, is the we must review Jeffreys company until or visit the meet light in the most favorable to Brown. facts the relative credibili- March 2002. Whatever soliciting buy to withstand Brown to sufficient evidence Earthboard securi- adduced ties, is a licensed summary judgment. apparently nor did he visit Earth- who, trade, by his is professional securities plants Jeffreys board’s or meet with con- fully cognizant prohibitions person purchase until Brown’s after laws, and, as in tained in federal securities (3) shares; supposed Earthboard one- George, should be aware of fraudulent swap apparently for-one stock set an ridic- this one. Yet he received schemes such as (4) Earthboard; price ulous for he solicited an at Earthboard to the tipa from insider buy Brown and others to the shares at six company engaged was effect price paid only times the he had a short merger negotiations unannounced with a before; time he received “com- time, company undoubtedly at that public mission” for his efforts from Earthboard non-public publicly- a material fact about a despite company the fact that company, tip traded and that included re- apparently not his client and his claim that markably precise details about the deal’s “offering” he was not for course, probable acting outcome. Of on sale within the meaning of state law. tip certainly would almost have been Moreover, Vaughn’s retort he illegal entirely had the insider not invented should it impossi- be excused because was it, though noteworthy tipper it is engaged any proper ble to have due currently serving prison himself is sen- diligence investigation purported into the tawdry role in this affair. tence his merger entirely Earthboard-VANS be- obeying spirit But the letter instead point. side the The essential value of ma- laws, Vaughn allegedly of the securities non-public terial information lack lies its illicit gain chose to enrich himself with of transparency, for otherwise it would be abusing non-public the material informa- impossible capture profit the arbitral received, by purchasing he first tion had price that lies between the “true” account, —where Earthboard securities for his own information, price reflects all confiden- by soliciting prospec- and then clients and public tial or otherwise—and the or dis- reap tive their own rewards in clients lawful) (but transparent price counted im- order to advance own interests incorporates only the information that investing pressing them with his acumen. publicly. Unlawfully illicitly is known inherently It is reckless for a securities trading on confidential information neces- law, professional attempt to violate the sarily tippee dependent makes the on the suggest and it is no defense to that he tipper’s reputed knowledge about confi- actually tip believed the to be true as that matters, thereby replacing dential the re- simply further demonstrates his foiled in- required partici- search of lawful market tent to circumvent the law. pants, resulting and the conduct not Bolstering our conclusion that Brown accomplishes essential fraud on sufficiently alleged Vaughn’s reckless- market, tippee it also renders the funda- ness, scienter, consequently are the *18 mentally precisely the sort of vulnerable (1) that he lied to Brown about facts Jeffreys con- fraud that Earthboard and relationship Jeffreys, pre- with which he Coles, generally, summated. See Kathleen sumably per- did in order to enhance the Tippee, Dilemma the Remote 41 information; ceived value of his illicit of (2005); Gonz. L.Rev. 181 Donald C. Lan- apparently not an iota of due he conducted gevoort, Taming Spirits the Animal the diligence with to Earthboard’s in- of Approach Stock Market: A Behavioral purported trinsic value or the transaction 97 Nw. U.L.Rev. Regulation, Securities did not even discover that VANS—he (2002); Choi, Dis- Jeffreys prior Stephen a convicted felon 135 J. Selective was 920 Markets, ex- misrepresentation when he Capital positive the Public
closures in (2002). That plained price L.Rev. 533 that the had risen Davis $6 U.C. to this scheme fell victim Vaughn also the Earthboard-VANS anticipation him does not itself render volition his own merger. liability passing for his act of immune to agree. place, In the first a reason- We that we hold Therefore tip to others. fact could find that Brown was able trier of alleged Vaughn’s scien- sufficiently Brown in Earth- induced to make his investment evidence to cre- sufficient ter and adduced Vaughn’s misrepresen- board as result fact of material so as genuine ate a issue regarding the Earthboard-VANS tations summary judgment at this
withstand
relationship
and his
with Jef-
transaction
stage.
alleged misrepresentations
freys. Both
that
a securi-
Vaughn,
created an illusion
obviously seeking to im-
professional
ties
court also found
The district
clients,
passing
prospective
was
press
to introduce suffi
had failed
reliable,
along
non-public
material
informa-
that his loss
to demonstrate
cient evidence
Although
Supreme
Court has re-
tion.
In a
appellees’ actions.
caused
was
“normally,
cently warned that
cases
action,
plaintiff
fraud
private securities
(i.e., fraud-on-the-market
such as this one
all “traditional elements
prove
must
cases),
purchase price
an inflated
will not
including “that the de
and loss”
causation
proximately
constitute or
cause the
itself
(or other
misrepresentation
fendant’s
loss,”
economic
Dura Pharmaceu-
relevant
conduct) proximately caused
fraudulent
ticals,
1627, a
Cir.2005). addition, argues he *19 purchase that the context of the indicates a material omission Vaughn committed not, law, as a matter of that Brown could purchased that he had telling not less, reasonably justifiably or relied on the and he committed a have shares for $1
921 Vaughn allegedly provid per Ibid. To erect a se rule with information that to contention, appellees support To their non-reliance clauses would undermine ed. subscription agree especially note that the point undertaking essential a contextual signed contained an inte ment that Brown analysis, and adopt we do not choose to clause in Brown waived gration which such a blanket rule now. party that he relied on third advice claim Moreover, opinions we do not read the making purchase. Appellees point of our appellees’ pre- sister circuits to certain decisions several of our sister erecting ferred manner: far from a per se proposition circuits for the that non-reli foreclosing rule the possibility recovery absolutely ance clauses in sales contracts for deceit in all alleg- situations where an by prior foreclose later suits for deceit edly injured party signed a non-reli- representation. Emergent Capital Inv. clause, opinions simply ance these accord Inc., Group,
Mgmt.,
Stonepath
LLC v.
343 an appropriate weight to evidence of the
(2d
189,
Cir.2003);
Rissman v.
F.3d
signing of such a clause
the entire con-
(7th
Rissman,
213 F.3d
383-84
Cir.
alleged
text of the
fraud.
Corp.
AES
v.
2000); Jackvony v. RIHT Financial Corp.,
Co.,
The Dow Chemical
325 F.3d
(1st Cir.1989);
873 F.2d
One-O-One
(3d Cir.2003);
Rogen
Corp.,
Ilikon
Caruso,
Enterprises, Inc. v.
opportunity detect that, Finally, argues Lincoln plaintiff whether the initiated the stock liability, it Vaughn’s potential whatever sought expedite transaction or transaction; secondarily generality or cannot be held liable as agree. specificity misrepresentations. Vaughn’s employer. *20 agent, although he has good to be his qualifies for the believe Lincoln place,
first 20(b) not, of the expressly by implication, of Section or harbor either faith safe who “act controlling person for a 1934Act him.” authority upon CSX conferred faith, directly not or and did in good Bank, ed Inc. v. First Nat’l Transp., constitut the act or acts indirectly induce (citation (Ky.Ct.App.1999) S.W.3d the cause of action.” or ing the violation omitted). marks quotation internal it had no actual knowl Lincoln claims law, liability on Kentucky impose to Under of, suspect, to any reason nor edge unauthorized acts of principal for the activities, and no Lincoln Vaughn’s alleged (1) that the agent, plaintiff prove must Vaughn any had con than employee other agent having out as principal held the to the con Brown. No evidence tact with transac- authority engage specific in the Moreover, Lin trary has been adduced. justifi- tion, in fact plaintiff “selling employees its prohibits coln upon principal’s representa- ably relied or approved not away” selling securities — Sanger, 68 S.W.3d tion. Roethke Brown has by the firm—and authorized simply not (Ky.2001). Brown has 363-64 that Lincoln either no evidence introduced reliable evidence to indi- adduced sufficient or that agents properly, failed to train its him to believe cate that Lincoln induced Vaughn’s ac authorized it ever ratified or authority partici- had the Vaughn addition, Lincoln is any way. in tions offering. in the Earthboard pate controlling person under as a not liable court hold that the district did therefore statute, Ann. Ky.Rev.Stat. granting summary judgment not err “materially 292.480(4), it did not for appellant’s to the claims respect with purchase” of the secu in the sale or ] aid[ against Lincoln. Secs., Inst. rity. In re Commonwealth (W.D.Ky.2002), Inc., B.R. Ill Brown’s evi
aff'd, F.3d at 406. may have aided the sale that Lincoln dence reasons, RE- foregoing we For Lin Vaughn used simple fact that is the grant of sum- the district court’s VERSE to communicate equipment coln’s office respect to all of the mary judgment with to, But with, Brown. send materials re- against Vaughn, AFFIRM with claims needed Vaughn there is no evidence Lincoln, against claims spect to all of the case-by-case, permission any special, proceedings REMAND for further machine, his use and so use the office fax opinion. with our consistent Lincoln’s signifies of that machine no more use of the than be his assistance would ROSEN, concurring, in Judge, District telephone. office dissenting, part. part, and vicariously liable Finally, Lincoln is not in, with, II-A of part I and concur agree any express, under Vaughn’s actions majority’s reversing the dis- opinion theory. implied, agency or apparent grant summary judgment trict court’s contractor, and Vaughn independent anis to Brown’s state respect with authority implied express he had no I preemption grounds. claim on NSMIA offer, solicit, sell, partici- fashion or in with, in, part II-C agree also and concur Earthboard pate the offer or sale of majority’s opinion affirming the dis- apparent au- stock. also had no summary judgment grant trict court’s thority appar- “An to act this fashion. all of Brown’s claims one whom the agent ent or ostensible Lincoln Financial Ad- against Defendant principal, intentionally either or want care, Corporation. to visors ordinary persons induces third
923 the ates the various factors for consideration However, respectfully I dissent from in Wright which we delineated v. National II-B in which opinion part majority’s (6th Co., L.P., 256, Warranty 953 F.2d 261 grant of sum- majority reverses the the Cir.1992), majority opinion pages see at securities judgment as to Brown’s mary 15-16, neglects any to discuss of these it Jeffrey Defendant against claim fraud factors, instead, only finds that the and I with the ma- Although agree Vaughn. subscription clause in the non-reliance introduced sufficient jority that Brown has agreement executed Plaintiff was insuf- and loss causation—(cid:127) of scienter evidence itself to non-reliance. ficient and of show a requisite elements of two of the three in this fraud claim at issue view, my In the factors applying set that do not believe Brown case—I Emergent Capital Wright, forth in to establish sufficient evidence introduced only “reliance” is not not reason- Brown’s reliance, failure is fatal and this reasonable able, virtually beyond it is non-existent securities fraud case.1 to his fact that Vaughn representations made the simply to him—a fact which itself is not my analysis of By way preface of sufficient as a matter of law. pur- his arguments supporting Brown’s reliance, I am reminded ported reasonable The record here demonstrates and Garfunkel’s Brown, statement, of a verse from Simon a by his own was so- song, “The Boxer”: 1969 classic phisticated businessman who founded a research firm that he sold for marketing squandered my I have resistance a great prior million. He had deal of $22 a of pocketful For mumbles experience, multiple brokerage investment promises Such are accounts, ability and the to assess risk. jests. All lies and prior had ex- Importantly, he substantial a man hears what he wants to hear Still perience private placement invest- disregards And the rest.2 knowledge his ments which demonstrated Mr. reli Such is the nature of Brown’s high profile. of their risk Brown [See ance, Paul my beyond view. But Si He Dep., pp. testified 24-30.] 8/30/04 failings, into human I also insights mon’s making private placement before invest- In rely upon precedent. well-established attorney his ments he consulted with both alleged reli assessing plaintiffs whether a and his accountant. He also testified reasonable, ance was “the entire context investing before in Earthboard he consult- transaction, including factors such as of his financial He ed with two advisors. complexity magnitude, sophisti its relationship with prior had no business parties, cation of the and the content Vaughn; the two had Defendant any agreements between them” must be friendly relationship based on Indiana bas- Emergent Capital Inv. v. Sto golf outings, considered. ketball and occasional and the (2nd Inc., nepath Group, they together 343 F.3d few times dined with their Cir.2003). Although majority enumer- families. Although if court did not address affirm a decision of district court district reason, issue, including fully briefed decision is correct for the reliance issue court); by the district argued reason not considered before both district court Airline 'ls Ass'n Int’l Bhd. ruling see also this court. on district court’s Prof Teamsters, appellate Local Union No. AFL-CIO v. grant summary judgment, Airborne, Inc., (6th Cir. rely F.3d court does not have to on the same rea 2003). City persuaded sons that the lower court. See Co., Mgmt. Corp. v. U.S. Chem. 43 F.3d Boxer”, (6th 1994) (an appellate may 2. "The Paul Simon. Cir. court ©1968 Rissman, 213 F.3d deposition that he also Rissman admitted (7th Cir.2000) (“Securities law does not Vaughn’s information none of
knew *22 firsthand, permit party a to a stock transaction was Earthboard about say, representations disavow such involved personally not Vaughn was —to effect, you ‘I I told I wasn’t lied when merger negotiations, your prior statements’ and then relying on Jeffreys what had told reporting simply contents.”) (cit- damages for their to seek Dep., pp. 129- him. [See 10/19/04 Sec., Inc., 544, ing v. 95 F.3d Carr CIGNA admitted that he had Brown further 30.] (7th Cir.1996) by non- (plaintiff bound about Earth- any information access to subscription agree- reliance statements that neither he wanted and board ment.)) prevented him anybody else Vaughn nor pp. Earthboard. Id. investigating reasons, foregoing I believe the For the equal access plaintiff 159-62. Where a determina- amply supports record here simply inquire fails to information but rea- tion that Plaintiff failed to establish himself, is not his claimed reliance and, therefore, I reliance would sonable justifiable. Aschinger See v. reasonable grant affirm the court’s of sum- district 1402, Co., 934 F.2d Showcase Columbus fraud mary judgment on the securities (6th Cir.1991), Dupuy v. citing 1410-11 claim on this alternative basis. (5th Cir.1977) F.2d Dupuy 551 have their own
(“[o]nly pursued those who good faith should
interests with care and judicially private created
qualify for the remedies.”) certainly This should
10b-5 sophisticated in- more true for be even America, UNITED STATES as Brown. vestor such Plaintiff-Appellee, however, testimony, deposition Brown’s evidence belies is not Corey HARDIN, Defendant-Appellant. reliance; he also of reasonable claim No. 06-5400. Subscription Agree- an Earthboard signed him that the investment that warned ment Appeals, United States Court of of risk” and he “high degree involved Sixth Circuit. making that in acknowledged categorically Submitted: Oct. 2006. investment, solely in- upon he “relied Decided and Filed: March by investigations made dependent [him- party.” [See no other third
self] 2], pp. Subscription Agreement,
2/2&/02. Subscrip- on the
He also checked the box indicating that he had Agreement
tion in financial and
knowledge experience placement in private matters and
business and that he was capable
investments of an in-
evaluating the merits risks at 2.p. in the shares. Id.
vestment Co., Warranty v. National Wright
held in at that a 953 F.2d
supra, bound statements plaintiff
fraud subscription agreement. in a See
made notes that the notes pur- to his federal “seller” status for the D that the lation state poses summary judgment.8 of compliance any with rule in [attempted Regulation D does not act as an exclu- disagree with Vaughn’s We also conten- election; not, sive the issuer can also claim tion that he was as an unavoidable availability any applicable other law, Kentucky matter of a “seller” under instance, For an issuer’s exemption. Although law. he cites a recent Sixth satisfy failure all the terms and condi- opinion quoted wherein we Circuit any tions of Rule 506 shall not raise trial that “a proposition state court for presumption exemption provid- merely a trade stock broker who executes 4(2) of the Act is not ed section interest in the stock no other ” available. other than his commission is not a ‘seller’ 292.480, Ky.Rev.Stat. § Ann. he under 230.501-508, Preliminary §§ 17 C.F.R. (2005). provenance opinion. mistakes the of that Notes, n. But see id. at n. 6 (In Energy, Excel Inc. v. Smith re Com- any D not (“regulation is available is- Secs., Inc.), 394 F.3d monwealth Inst. or chain of trans- suer for transaction (6th Cir.2005). That case arose from that, although compli- actions in technical rules, litigation, reached the state securities but part plan ance with these is of a only federal courts a bank- registration provi- scheme to evade the Act.”). context, ruptcy issue. In that both we and sions of the also notes that respecting question ruling, more evidence In so we note that our decision does the district court from exercis- offering actually qualified not foreclose for fed- whether the summary ing its to allow a future discretion preemption. eral judgment parties motion should the submit act, 771(a)(2), inap- the same 15 U.S.C. estopped court were district the federal plicable private offerings. re-litigating the state reviewing or from Gustafson Co., Inc., Alloyd 513 U.S. 115 S.Ct. as to securities determinations trial court’s (1995). includ- 131 L.Ed.2d Moreover, the state’s court liability. fraud 12(a)(1) original ed a Section claim his court both dis- supreme appeals complaint, which the district court found appeal Excel plaintiffs missed 12(a)(2) time-barred, and his be Section issue, so those a timeliness because claim was defeated his admission to review the opportunity had no courts But offering private. the Earthboard interpreta- trial court’s of the state merits Brown has raised neither those issues Energy, 292.480. Excel tion of Section Instead, appeals only he appeal. on Secs., Inc., Inst. Inc. v. Commonwealth district court’s dismissal of his state such, As our reit- (Ky.2000). S.W.3d 713 claim. There is a fundamental difference trial court’s determina- of the state eration lawfully-registered private of- between tion, appar- courts’ appellate and the private of- fering, lawfully-unregistered decision, trial court’s approval ent (that actually fering say, is to one More- precedential little value. possesses qualifies registration exemption), for a over, readily distinguished that case is private unlawfully-unregistered offer- before us because from the case now ing. Brown here claims soliciting and sell- Vaughn’s alleged role