UNITED STATES OF AMERICA Before the SECURITIES AND EXCHANGE COMMISSION
ADMINISTRATIVE PROCEEDING File No. 3-15255
In the Matter of
JOHN THOMAS CAPITAL MANAGEMENT GROUP, LLC, d/b/a PATRIOT28, LLC,
GEORGE R. JARKESY JR.,
JOHN THOMAS FINANCIAL, INC.,
ANASTASIOS "TOMMY' BELESIS,
Respondents.
THE DIVISION'S RESPONSE TO RESPONDENTS' OBJECTIONS The Division of Enforcement("Division") submits the followingresponse to the
Objections to Administrative Proceedings ("Objections") filedby Respondents George R.
Jarkesy Jr. and John Thomas Capital Management Group, LLC d/b/a/ Patriot 28, LLC
(collectively "Respondents"). The Division fullyincorporates its previously filedsubmissions as referencedherein and this document provides only a summary of its response. As a preliminary matter, however, the Division notes that many of Respondents' objections were previously addressed and rejected by the Commission in its orders dated February 20, 2015 (Denying
Motion to Stay Administrative Proceedings), October 16, 2014 (denying interlocutory review with respect to Respondents' motion fororder directing alternativeprocedure forfiling, service and publication of initial decision), January 28, 2014 (denying petition forinterlocutory review) and December 6, 2013 ( denying petition forinterlocutory review). While the Commission may have vacated all prior orders in this matter, there is nothing in the Objections that lead to the conclusion that the Commission's prior rulings were in error. Second, many of the "objections" asserted by Respondents do not relate at all to the currentproceeding that is scheduled to commence on March 25, 2019, but rather relate to rulings previously made by ALJ Foelak, including the initial decision dated October 17, 2014. As the Commission'sAugust 22, 2018
Order (In re: Pending Administrative Proceedings) explicitly states, going forwardthe ALJ
"shall not give weight to or otherwise presume the correctnessof any prior opinions, orders, or rulings in this matter". As Respondents will have ample opportunity to re-litigate the issues where they were previously unsuccessful,objecting to ALJ Foelak's rulings is inappropriate.
RESPONDENTS' OBJECTION 1 -- PREJUDGMENT Respondents object to the proceeding, arguing that the Commission prejudged the case against them by making findingsof factconcern ing them in its settlement with co-Respondent
Anastasios Belesis ("Belesis"). This argument was fullyaddressed in the Division's Opposition
Brief filedon January 8, 2014 (attached hereto as Exhibit A and incorporated herein) at pp. 4-7 and in the Division's Opening and Response Brief filedon March 13, 2015 ( attached hereto as
Exhibit B and incorporated herein) at pp.6-11. In summary, there was no pre-judgment as the
Commission's December 5, 2013 Order specifically said that the findingstherein were "not binding on any other person or entity in this or any other proceeding." In its January 28, 2014
Order, the Commission denied Respondents' Motion Petition forInterlocutory Appeal, stating, in part, that the "Commission has rejected arguments similar to those raised by JTCM and Jarkesy in an unbroken line of decisions.... In particular, the Commission has determined previously that no prejudgment of a non-settling respondent's case occurs especially when-as took place here-the order accepting an offerof settlement 'expressly state[s] that it was not binding on
2 other [non-settling] respondents.' Any decision that the Commission makes as to JTCM and
Jarkesy will be 'based solely on the record' adduced beforethe law judge and will 'in no way
[be] influencedby our findingsas to [ JTF and Belesis] based on [their] offer of settlement."'
The Commission again rejected Respondents' argument in its October 16, 2014 Order. While the Commission may have vacated these orders, Respondents provide no reason in their
Objections or in their Opening Appellate Brief to the Commission (Exhibit A attached to the
Objections) to suggest why the Commission's reasoning was erroneous.
RESPONDENTS' OBJECTION 2 -- IMPROPER DELEGATION Respondents object to the proceeding arguing that the authority given to the Commission to choose the forumfor enforcement actions is an improper Congressional delegation of legislative authority to the Commission because Congress did not establish an "intelligible principle" to the Commission forhow to choose the forum. This argument is fullyaddressed in the Division's Opening Brief (Exhibit B hereto) at pp. 18-24. In summary, this objection is faultyas the relevant provisions of Dodd-Frank do not constitute a delegation of legislative authority because when deciding whether to bring an action in federaldistrict court or in an administrative proceeding the Commission is not acting in a legislative capacity. Nor does the factthat Congress enacted a statutory scheme allowing the Commission to choose the forumin which to bring an enforcementaction constitute a delegation of legislative authority.
RESPONDENTS' OBJECTION 3-- VIOLATION OF 14TH AMENDMENT Respondents object to the proceeding arguing that the Division violated Respondents'
Equal Protection rights by choosing to pursue the administrative proceeding in lieu of a district
3 court proceeding denying Respondents the right to a jury trial and also by treating Respondents differentlythan others similarly situated ("class of one" argument). This argument is fully addressed in the Division's Opening Brief (Exhibit B hereto) at pp. 24-27. In summary, these objections are faultybecause the United States Supreme Court held in Atlas Roofing Co. v.
Occupational Safety& Health Review Commission, 430 U.S. 442 (1977) that the use of administrative proceedings that lack juries does not violate the Seventh Amendment. Following
Atlas Roofing, the Commission has rejected claims that administrative proceedings violate the
Seventh Amendment. With respect to Respondents' "class of one" equal protection claim,
Respondents must show that they have "been intentionally treated differentlyfrom others similarly situated and that there is no rational basis forthe differencein treatment." Village of
Willowbrookv. Olech, 528 U.S. 562, 564 (2000) (per curiam). Respondents have made no such showing in this case. Nor have they made any showing that the intention of the Division was to deprive them of procedural safeguardsafforded to other persons.
RESPONDENTS' OBJECTION 4 - PUNITIVE REMEDIES REQUIRE JURY TRIALS
Respondents object to the proceeding arguing that a jury trial is required where the
Commission seeks penalties in an administrative proceeding. This argument is fullyaddressed in the Division's Opening Brief (Exhibit B hereto) at pp. 28-29. In summary, the Supreme Court held in Atlas Roofingthat the Seventh Amendment right to a jury trial does not apply when the governmentbrings an enforcement proceeding in an administrative forum,even when the governmentis seeking civil penalties. 430 U.S. at 455.
4 RESPONDENTS' OBJECTION 5 -APPOINTMENTS CLAUSE
Respondents object to the proceeding arguing that SEC administrative law judges have not been properly appointed. Consequently, the proceeding is void and should be dismissed.
Respondents' objection is faultyas they do not address in any fashionthe Commission's
November 30, 2017 order "ratiflying] the agency's prior appointment of Chief Administrative
Law Judge Brenda Murray and Administrative Law Judges Carol Fox Foelak, Cameron Elliot,
James E. Grimes, and Jason S. Patil." Nor do Respondents address the Commission's August
22, 2018 Order liftingits stay on all pending administrative proceedings and reaffirmingits
November 30, 2017 order ratifyingthe constitutional appointment of certain ALJs. These orders of the Commission are binding in this matter and, as such, there is no basis forobjection.
RESPONDENTS' OBJECTION 6 - EXPARTE COMMUNICATIONS
Respondents object to the proceedings arguing that ex parte communications between the
Division and the Commission in connection with the settlement with Belesis violated the APA, the Commission's Rules of Practice, and the Order Instituting Proceedings in this case. This argument was fullyaddressed in the Division's Opposition Brief filedon January 8, 2014
(Exhibit A hereto) at pp. 4-6 and in the Division's Opening and Response Brief filedon March
13, 2015 (Exhibit B) at pp. 6-11. In its January 28, 2014 Order, the Commission stated that in an unbroken line of decisions, the Commission rejected the argument that consideration of certain respondents' offerof settlement while the proceedings are still pending against other respondents
"[does] not violate the Administrative Procedure Act ... or our rules regarding ex parte communications." (parenthetical and ellipses in original). While the Commission may have
5 vacated the January 28, 2014 Order, Respondents provide no reason in their in their Objections or in the attachments thereto to suggest why the Commission's reasoning was erroneous.
RESPONDENTS OBJECTION 7: PURPORTED BRADY VIOLATIONS
Respondents claim that the Division violated Respondents' due process rights (1) by producing tens of thousands of documents to Respondents without an adequate way to sift through them, (2) by refusingto produce interview notes, and (3) by the factthat the withheld material was not entered into the record. The firsttwo issues were addressed in the Division's
October 21, 2013 Opposition to Respondents' Brady Motion (attached hereto as Exhibit C and incorporated herein) at pp.3-13 and in the Division's Opening and Response Brief filedon
March 13, 2015 (Exhibit B) at pp. 11-17. In summary, the Division did not produce its documents to Respondents in a "document dump". Instead, the Division exceeded its production obligations by producing its documents to Respondents in a searchable database and in the same manner in which those documents were kept by the Division. While the Division did not produce its privileged interview notes to Respondents, the Division produced a summary of all exculpatory material to Respondents. In its December 6, 2013 Order, the Commission rejected
Respondents' arguments, holding that "the Division's 'open file'production of its investigative fileis consistent with the text of Rule 230(b)(2); JTCM and Jarkesy do not seriously contend otherwise." Likewise, the Commission held that the Division can satisfyits Brady obligations by
"providing the respondent with the substance of the materially exculpatory statements; it need not tum over the documents themselves." While the Commission may have vacated its
December 6, 2013 Order, Respondents provided no reason in their Opening Appellate Brief to the Commission (Exhibit A attached to their objections) or in their current objections to suggest
6 why the Commission's rulings were erroneous.Respondents' third objection was not addressed by the Commission. Respondents, however, do not provide any support for the counter-intuitive proposition that privileged material appropriately withheldfrom production should then be admitted into the public record so that it can be reviewed on appeal.
RESPONDENTS' OBJECTION 8: NO ABILITY TO BRING COUNTERCLAIMS Respondents object to the proceedings arguing that the factthat they cannot assert counterclaims in this administrative proceeding against the Commission for Constitutional violations violates their due process rights. This argument was rejected by the Commission is its
February 20, 2015 Order (Denying Motion to Stay Administrative Proceedings), where the
Commission stated that "the eventual issuance of a final Commission decision in this proceeding-assuming hypothetically that it was adverse to respondents-would vest the court of appeal with jurisdiction to resolve respondents' claims.... As the D.C. district court stated in its order dismissing respondents' federalaction forlack of jurisdiction, there 'is no dispute that
[ JT CM and Jarkesy] will have the opportunity to raise all of their constitutional claims beforea
Court of Appeals should ... the Commission issue orders adverse to them."' While the
Commission may have vacated its February20, 2015 Order, Respondents failto demonstrate that the Commission's holding that they have an adequate venue to adjudicate their claims is incorrect.
RESPONDENTS OBJECTION 9: NO TIME TO PREPARE DEFENSE Respondents object on the grounds that they did not have an adequate opportunity to prepare their defense in this matter. This objection is specious. To the extent that the
Respondents are objecting to the current hearing presently scheduled to commence on March 25,
7 2019, Respondents will have had more than fiveyears to review the documents (most of which were Respondents' own documents) on a searchable database. To the extent that Respondents are complaining about the prior hearing, that objection was rejected by the Commission in its
December 6, 2013 Order where the Commission held because the materials were provided to
Respondents in a searchable database, it was entirely feasiblefor Respondents to review 700 GB of electronic data. Whilethe Commission may have vacated its December 6, 2013 Order,
Respondents failto demonstrate that the Commission's reasoning was erroneous.
RESPONDENTS OBJECTION 10: RETROACTIVE APPLICATION OF DODD
FRANK Respondents object that the in the Initial Decision, ALJ Foelak impermissibly imposed a monetary penalty authorized by Dodd-Frank forconduct that occurred beforeDodd-Frank was enacted. This is not a proper objection to the hearing presently scheduled to commence on
March 25, 2019. To the extent that Respondents are arguing that it would be impermissible for this ALJ to issue such a ruling in the future,this argument is fullyaddressed in the Division's
Opening Brief (Exhibit B hereto) at pp. 30-32. In summary, civil money penalties have been available in administrative proceedings, such as the instant matter, since I 990. There is thus, no issue of retroactive application of Dodd-Frank. Moreover, the conduct at issue in this case continued after the effective date of Dodd-Frank.
RESPONDENTS OBJECTION 11: AWARD OF REMEDIES WAS IMPERMISSIBLE Respondents object that the award of remedies against Respondents in the Initial
Decision was unsupported, disproportionate, and against public policy. This is not a proper
8 objection to the hearing presently scheduled to commence on March 25, 2019. To the extent that
Respondents intend to argue in the futurethat it would be against public policy to be sanctioned with collateral bars, the pennystock bar, and the officerand director bar, this issue is addressed in the Division's Post-Hearing Memorandum of Law (attachedhereto as Exhibit D and incorporatedby referenceherein) at pp. 30-31. To the extent that Respondents intend to argue in the futurethat any awardagainst them must be proportional to that which Commission received in its settlement with the other respondents in this matter, this issue is addressed in the Division's
Opening Brief (Exhibit B) at p. 39 n.14.
RESPONDENTS OBJECTION 12: INSTITUTIONAL BIAS In this objection, Respondents complain that the Commission did not grant their request to take additional discoveryon the issue of whether bias against respondents exists in the administrative proceeding process. This is not a valid objection to the hearing presently scheduled to commence on March 25, 2019 as Respondents will have the opportunityto request additional discovery fromthe Division in this matter. As per the scheduling order dated
November 9, 2018, Respondents may submit request fordocument subpoenas until December
31, 2018 and factdiscovery will continue through February 1, 2019.
RESPONDENTS OBJECTION 13: ERRONEOUS RULINGS In this catchall objection, Respondents object to numerous procedural rulings, evidentiary findings,and legal conclusions made by ALJ Foelak in the Initial Decision and elsewhere. This is not a valid objection to the hearing presently scheduled to commence on March 25, 2019. To the extent that any of ALJ's Foelak's rulings in this case have any continued relevance, the
9 Division refers to its Opening Brief (Exhibit B) and to the chart attached thereto which demonstrate that the complained of rulings were correct and provides the factual basis forall of
ALJ F oelak' s evidentiary findings.
Respectfully Submitted,
Isl Todd D. Brody Todd D. Brody Senior Trial Counsel SECURITIES AND EXCHANGE COMMISSION 3 World Financial Center New York, NY 10281 (212) 336-0080
10 UNITED STATES OF AMERICA Before the SECURITIES AND EXCHANGE COMMISSION
ADMINISTRATIVEPROCEEDING FileNo. 3-15255
In the Matter of
JOHNTHOMAS CAPITALMANAGEMENT GROUP, LLC, d/b/aPATRIOT28, LLC,
GEORGE R. JARKESY JR.,
JOHN THOMAS FINANCIAL, INC.,
ANASTASIOS "TOMMY' BELESIS,
Respondents.
The Division of Enforcement ("Division") submits this memorandum of law in opposition to Petitioners George R. Jarkesy Jr.'s ("Jarkesy") and John Thomas Capital
Management LLC d/b/a Patriot28 LLC's (collectively "Respondents") Motion for
Disqualification and Recusal of theCommission and Dismissal of Administrative Proceeding for
Violations of the Administrative Procedures Act and Due Process Rights.
PRELIMINARY STATEMENT
The Division submits this brief response to the motion filedby Respondents that Hearing
OfficerFoelak has properly described as "frivolous." The Division does not believe that oral argument is required and requests expedited determination of this motion to avoid further unnecessarydelay of thehearing currently scheduled to commence on February 3, 2014. 1
1 At a January 6, 2014 telephone conference, Hearing Officer Foelak stated that she would not stay the case while this motion was pending. TheDivision likewise requests that the Commission does not issue a stay order while it considers Respondents' motion. I Respondents argue that the Commission is biased against them by virtue of the fact that it published an Order Making Findings, Imposing Remedial Sanctionsand a Cease-and-Desist
Order on December 5, 2013 against twosettling respondents in this case (the "December 5
Order"). Because the December 5 Order contains factual and legal findings that Respondents contest, Respondents arguethat the Commissionis biased and cannot fairly adjudge the case against them, notwithstandingthe fact that they concede that the December 5 Order specifically states that thefindings "arenot binding on any otherperson or entity in this or anyother proceeding." Respondents also argue that the Commissionentered into impennissible ex parte communications with theDivision in connection with the settlement. Respondents argue that these ex parte communications violate their due process rights and also violate the
Administrative Procedure Act. Basedon these purported violations, Respondentsstate that
"[b]inding judicial precedent holds - withoutexception that the Commission andeach of the
Commissioners, is disqualifiedfrom this matter." Consequently, Respondents request recusal of the Commission andeach individual Commissioner and that the case against Respondents be dismissed.
Setting aside the factthat the issue raised by Respondents is premature as the case is presently beforethe HearingOfficer (who is not alleged to have had any involvement in the settlement and/or any ex parte communications with the Division) and not the Commission,
Respondents' arguments have repeatedly been found to be meritlessand lacking by the
Commission. For example, in In the Matter ofEdward Sinclair, 44 S.E.C. 523, 1971 SEC
LEXIS 898 (1971), Respondent Sinclair, who was an order clerk for Filor, Bullard& Smith, argued that any SEC Commissioner who participated in the decision on consent to suspend Filor for failing to supeivise Sinclair should disqualifyhimself in the case. The Commission rejected
2 this argument stating that there was "no merit in the motion." The order against Filor was based on a stipulated record and, like the December 5 Order, expressly stated that it was not binding on the other respondents. The Commission stated that its present decision regarding Sinclair was based solely on the record before it "and is no way influenced by our findingsas to Filor based on the order of the settlement."
On appeal to the Second Circuit, Sinclairv. SEC, 444 F.2d 399 (2d Cir. 1971), the court agreed that Commissioner Smith was not biased anddid not need to disqualifyhimself:
We find no merit in the argument that Commissioner Smith had prejudged Sinclair's case by participating in the Commission's decision to accept a Filor settlement (?ffer setting forthcertain stipulated facts. The factswere stipulated by the parties solely for the particular settlement, just as is the practice in negotiation of consent decrees. Thedecision statedforth that it was not binding on the other respondents. Furthermore, each of the two proceedings met the standards of due process witheach respondent ... being represented by competent counsel. The Commission's findings with respect to Sinclair were based upon presentation of evidence beforea Hearing Examiner, findings independently made by him on the basis of the proof, andindependent review by the Commission afteroral argument andsubmission of briefs. Insuch a context Commissioner Smith was not called upon to disqualify himself from participation in Sinclair's case. (Id. at 401-02).
Because the Commission is allowed to consider a settlement by one respondent in an administrativeaction without having to disqualify itself with respect to any other respondent, it followsthat �y communications between the Division and the Commission in connection with that settlementare also not improper (and, in fact, are necessary), do not violate Due Process of other laws, anddo not require the Commission to disqualify itself or to dismiss the action.
For the reasons set forth herein, the Division respectfully requests that the Commission deny Respondents' baseless motion and direct that the hearing go forward as scheduled.
3 ARGUMENT
It is premature forthe Respondents to argue that the Commission is biased against them basedon its settlement with other respondents. As HearingOfficer Foelak pointed out in another case while similarlyrejecting the respondent's claim of the Commission's bias:
the attemptto raisea due process defense is premature. Courts do not nonnally consider assertionsof administrativebias before the completion of administrative proceedings andthe exhaustion of administrativeremedies. Thecourt will interruptthe progressof anadjudicative hearing only in the exceptional case where it is presented withundisputed allegations of fundamentalprejudice. The appropriate time to raise the issue is when a party seeks judicial review of the Commission'saction.
In the Matter of Warren G. Trepp, File No. 3-8833, InitialDecisions Release No. 115,
1997 SEC LEXIS 1682 (Aug. 18, 1997) (citing SEC v. R.A. Holman & Co., 323 F.2d 284
(D.C.Cir. 1963); Amos Treat & Co. v. SEC, 306 F.2d 260 (D.C. Cir. 1962); United States v. LittonIndus., 462 F.2d 14 (9th Cir. 1972)). Because thismatter is not presently in front of the Commission and,indeed, thehearing is not even scheduled to takeplace until
February3 (andwill be beforea hearing officerwho is not alleged to have had any involvement in thesettlement with the other respondents or to have had any ex parte communications with the Division), the claim of bias is premature.
Even if the Respondents' claim of biaswere timely, however, the Commission has repeatedly foundthat it can approve a settlement with one respondent in an administrative action
- even one that includes factual findings- without having to disqualify itself with respect to other respondents in the same action.2 In Sinclair, discussed above, the Commission rejected as meritlessthe argumentthat a Commissioner who had approved a settlementwith one respondent
2 Respondents argue that the findingsconcerning their own actions in the December 5 Order were "gratuitous and totally unnecessary.,, Thisargument ignores the factthat the other respondents were charged not a primary violators, but asaiders andabettors. Because such a chargerequires an underlying violation of the securities laws, theDecember 5 Order had to contain findings of underlying violations. It is clear fromthe order, however, that such findingsare not binding on other partiesincluding the Respondents. 4 had to disqualifyhimself forthe remainder of the action. This decision was affirmedby the
Second Circuit Courtof Appeals.
More recently, inln the Matter ofthe Stuart-James Co., Inc., 50 S.E.C. 468, 1991 SEC
LEXIS 168 (Jan.23, 1991), the Commissionheld that its settlement with one respondent did not
require that theCommissioners who accepted that settlement to be disqualifiedor thatthe
administrativeproceeding to be dismissed. The Commissionstated, "[t]aken a facevalue, the
respondents' argumentssuggest thatit is virtuallyimpossible forthe Commission properly to
entertainindividual settlements in proceedings involving multiple respondents." Id at *3.
Rejecting this argument,the Commission foundthat consistent withdue process, it could
"authorize investigations of·suspected securities violators, institute enforcement proceedings to
determine whether the suspected violations occurred,and later make findingsof factand
conclusions of law on the basis of the record that is complied. We may also consider offers of
settlement duringthe courtof those proceedings." Id. at *5. The Commission furtherheld that it
could have communicationswith the Division about the settlement stating that "[t]o exclude our
stafffrom presenting relevantfacts concerning a negotiated settlement would simply lead to
wrongdecisions about which settlement offersmerited accepted. Such a result is not in the
public interest andis not required by statute or rules." Id. at *12. Finally, while the Commission
recognizedthat "non-settling respondents might wish to appear beforeus to dispute information
presented by the staff,or to argue additional factswhich they believe would influenceour assessment of the public interest," the Commission held that there was no such requirement under theAdministrative Procedure Act and "[c]ontrol over [the Division's] access to the
Commission cannot be turnedover to private parties.,, Id. at *14-19. Consequently, the
Commission held that so long asthe Division is not participatingor advising 'in a decision by the
5 . Commission as to the non-settling respondents, "there is no compelling reason the
communications [between the Division andthe Commission] as to a proposed settlement by one
respondent in a multi-partyproceeding may not take place ex parte." Id. at *20.
Thisreasoning has been applied by theCommission in several other matters andin each
instance,the Commission foundthat there was no bias or prejudgment. See In the Matter ofC.
James Padgett,52 S.E.C. 1257, 1997 SEC LEXIS 634 (March20, 1997) (rejecting argumentthat
by accepting settlemen� of one respondent it had prejudged other respondents' liabilityand had
engaged in improper ex partycommun ications withDivision, andstating that while "[t]he APA
andCommission rules prohibit ex partecommunications relating to the decisional process ...
circumscribedDivision communicationswith the Commissionin connection with a proffered
settlementby one respondent � a multi-partyproceeding arenot partof the decisional process
regardingother parties");In the Matter ofJean-Paul Bolduc, 74 S.E.C. 492, 2001 WL 59123
(January25, 2001) (not only was there no bias by virtue of settlementwith anotherparty, but
also "[a ]n administrative body such as the Commissionmay not be disqualifiedfrom performing
its adjudicatoryfunctions based on allegations of bias, prejudice, or prejudgment on the part of
the Commission or its members.") (citing FJ'Cv. Cement Institute, 333 U.S. 683 (1948)); In the
Matters ofAtlantic Equities Co., 43 S.E.C. 354, 1967 SEC LEXIS 531 *28-29 (July 11, 1967)
("in our opinion, the claim of 'prejudgment' [based on anearlier settlement] is without
substance"), affdsub nom., Hanson v. SEC, 396 F.2d 694 (D.C. Cir.); In the Matter ofSteadman
SecurityCorp., 46 S.E.C. 896, 1977 SEC LEXIS 1388 *56 n.82 (June 29, 1977) (denying as
"meritless" motion to dismiss on groundsof prejudgment, stating that APA permitsCommission
to consider settlement in its administrative capacity "and thereafterrender a decision with respect
to it in ourquasi-judicial capacity").
6 The Commission should follow its own precedent and deny Respondents motion, which is basedon the same argumentsand the same factsas these earlier decisions.
CONCLUSION
For the reasons set forthherein, the Division respectfullyrequests that the Commission deny Respondents' Motion forDisqualification and Recusal of the Commissionand Dismissal of
AdministrativeProceeding forViolations of the AdministrativeProcedures Act andDue Process
Rights.
Respectfullyub itted, �- ·· ,,, � ,.y /�--,,. /
Todd D. Brody Senior Trial Counsel SECURITIES AND EXCHANGECOMMISSION 3 World Financial Center New York, NY 10281 (212) 336-0080
7 _..
UNITED STATES OF AMERICA Beforethe SECURITIES AND EXCHANGE COMMISSION
ADMINISTRATIVEPR OCEEDING File No. 3-15255
In the Matter of
JOHNTHOMAS CAPITALMANAGEMENT GROUP, LLC, d/b/a PATRIOT28, LLC, and
GEORGE R. JARKESYJR,
Respondents.
OPENINGAND RESPONSE BRIEF OF THE DIVISIONOF ENFORCEMENT
Todd D. Brody, Senior Trial Counsel Alix Biel, Senior StaffAttorney Securities and Exchange Commission New York Regional Office 200 Vesey Street, 4th Floor New York, NY 10281-1022 Tel: (212) 336-0080 (Brody) Tel: (212) 336-0028 (Biel) [email protected] [email protected] TABLE OF CONTENTS
TABLE OF AUTHORITIES ...... ii PRELIMINARY STATEMENT ...... ; ...... l FACTS ...... 2 Respondents Made Numerous Material Misrepresentations to Investors .•...... 2
STAND ARD OF REVIEW ...... 5
ARGUMENT ...... -...... 6
I. Respondents' Due Process, Equal Protection, and Constitutional Claims Lack Merit ...... 6
A. The Commission Has Not Prejudged Claims AgainstRespondents and ThereHave Been No hnproper Ex-Parte Communications Between the Division and the Commission ...... 6.
B. TheDivision Properly Produced All Required Documents and Complied withits Obligations UnderBrady v. Maryland ...... 11
1. TheDivision Complied With Its Brady Obligations � ...... � ...... 14
2. The Division's InterviewNotes are Privileged ...... 15
C. The Commission's Exercise of Discretionin Forum Selection Does Not Violate the Separation of Powers Doctrine...... 18 -
D. Selectionof the AdministrativeProceeding as a Forum does not Violate Respondents' Equal Protection Riglits ...... 24
1. Use of the Administrative Forum Did Not Unfairly Deprive Respondents of their Seventh Amendment Jury Trial Rights ...... : ...... 24
2. Respondents Cannot Sustain a "Class of One" Claim ...... 25
E. The Dodd-Frank Provisions AuthorizingCivil Penalties in Administrative Proceedings Do Not Violate the Seventh Amendment...... 28
F. The AU Properly Imposed Penalties ...... 30 G. Respondents' Due Process RightsWere Not Violated Because of their Inability to Assert Counterclaims or to Develop an Evidentiary Record forSuch Counterclaims ...... 32
H. Respondents' Due Process RightsWere Not Violated Because of theAllegedly ''Truncated"Dura ti on of the Proceedings...... 3 2
II. Challenges to the ALJ's Factual Findings and Legal Conclusions ...... 33
A. The ALJ's Evidentiary Rulings Were Correct...... 34 1. Business Records were ProperlyAdmitted ... � ...... · .'...... 34
2. The Subpoenasto Investors and Belesis were Properly Limited...... 36
The Subpoenas to theSEC were ProperlyQuashed ...... 40 3.
4. TheALJ Properly Allowed Arthur Coffeyto Testify.. _.·········:-······················�··················41
5. TheALJ ProperlyDeclined to Admit theBelesis Affidavit...... � ...... 43 B. The ALJ's Factual Findings Were Correct...... 45
1. George Jarkesy's Credibility...... 45
. 2. The Authorizationto Change theStrategy of the Fund ...... 47
3. Reliance on Counsel ··················································••!••················································· 49
III. The Division'� Arguments on Appeal: Disgorgement, Penalties and an Accounting ...... 50
A. Sanctions Against theRespondents Are Appropriate and in the Public Interest...... 51 B. TheApplicable Statutory ProvisionsAuthorize theCommission to Penalize the Respondents forEach Act or Omission That Constitutes a Violation of the Federal SecuritiesLaws ...... 53
C. Disgorgement Should Include Incentive Fees of More than $123,000 ...... 57
D. An Accounting Should Be Ordered to Quantify and Safeguard Investor Assets ...... 59
CONCLUSION...... 61
ii TABLE OF AUTHORITIES
Cases
Atlas Roofing Co. v. Occupational Safety& Health Review Commission, 430 U.S. 44 2( 1977) ...... 24,25, 28, 29 Brady v. M_aryland, 373 u .. s. 83 (1963) ·····································••.•··········································· .. ····· ...... 1 1, 12 · Buckley v. Valeo, 4 24 U.S. 1( 1976) ...... � ...... 22 Commercial Capital Corp. v.· SEC, 360 F.2d 856(7th Cir. 1966) ...... 5 Department ofTranspo rtation. v. Assn. ofAmerican. Railroads; 575 U.S. _( 20 15), 20 15 U.S. Lexis 1763 ( 2015) ...... 22 Edward Sinclair v. SEC, 444 F.2d 399 ( 2d Cir. 1971) ...... 7,9
EntergyCorp. v. Riverkeeper, Inc., 566 U.S. 208 (2009) ...... 22 Free Enterprise Fund v. Public. Co. Accounting. Oversight Bd., 56 1 U.S.477( 20 10) ...... 2 3 FTC v. Cement Institute, 333 U.S. 683(1948) ...... 9 Gross v. SEC, 4 18 F.2d 103(2d Cir. 1969) ...... 5 Hanson v. SEC, 396 F.2d 694(D.C. Cir. 1968) ...... 9 Hateley v. SEC, 8 F.3d 653 (9� Cir.. 1993) ...... 58 Heckler v. Chaney, 470 U.S. 82i(1985) ...... 19
INS v. Chadha, 462 U.S. 919 (1983) ...... 19,20,21 Oppenheimer Rochester Funds Group Sec. Litigation, 838 F. Supp. 2d1 148 (D. Colo. 2012) ...... -...... 48
lll Lieberman v. Cityof Rochester, 2014 U.S. App. LEXIS 4347 (2d Cir. Mar. 7, 2014) ...... 26 Metro. Washington. Airports Auth. v. Citi�ens for Abatement of Aircraft Noise, Inc., 501 U.S. 252 (1991) ...... � ...... 19,21 Missere v. Gross, 826 F. Supp. 2d 542 (S.D.N.Y. 2011) ...... 26- Morrison v. Olson, 487 U.S. 654 (1988) ...... 19 Mr. Sprout, Inc. v. United States, 8 F.3d 118 (2d Cir. 1993) ...... 5 Ruston v. Town Bd. for Skaneateles, 610 F.3d 55 (2d Cir. 2010) ...... - ...... 26 SEC v. Blatt, 583 F.2d 1325 (5th Cir. 1978) ...... 51 SEC v. Bolla, 550 F. Supp. 2d 54 (D.D.C. 2008) ...... 31 SEC v. Cavanagh, 1998 U.S. Dist. LEXIS 3713 (S.D.N.Y. Mar. 22, 1998) ...... 16 SEC v. Downe, 1994 U.S. Dist. LEXIS 708 (S.D.N.Y. Jan. 27, 1994) ...... 16 SEC v. First CityFin. Corp., 890 F.2d 1215 (D.C. Cir. 1989) ...... � ...... 58 SEC v. Gabelli, U.S. Dist. LEXIS 27613 (S.D.N.Y. Mar. 17, 2010) ...... 31
SEC v. J.W Barclay & Co., 442 F.3d 834 (3d Cir. 2006) ...... 31 SEC v. Kopsky, 537 F. Supp. 2d 1023 (E.D. Mo. 2008) ...... 29 SEC v. Monterosso, 2014 U.S. App. LEXIS 3891 (11th Cir. Mar. 3, 2014) ...... 39 SECv. NIR Group, L.L.C., 283 F.R.D. 127 (E.D.N. Y. Aug. 17, 2012) ...... 15 SEC v. Nadel, 2013 U.S. Dist. LEXIS 36251 (E.D.N.Y. Mar. 15, 2013) ...... 15
iv SEC v. Ramoil Mgmt., Ltd., 2007 U.S. Dist. LEXIS 79581 (S.D.N.Y. Oct. 25, 2007) ...... 54
SEC v. Razmilovic, 822 F. Supp. 2d 234 (E.D.N.Y. 2011) ...... 39
SEC v. Stanard, 2007 U.S. Dist. LEXIS 46432 (S.D.N.Y. June 26, 2007) ...... 16
SEC v. Strauss, 2009 U.S. Dist. LEXIS 101227 (S.D.N.Y. Oct. 28, 2009) ...... 16
SEC v. T,;eadway, 229 F.R.D. 454 (S.D.N.Y. July 26, 2005) ...... 16
SEC v. Wyly, 2011 U.S. Dist. LEXIS 87660 (S.D.N.Y. July 26, 2011) ...... 49
Sinclair v. SEC, 444 F.2d 399 (2d Cir. 1971) ...... 7
Springer v. Gov 't of the Philippine Islands, 227 U.S. 189, 202 (1928) ...... 20
Steadman v. SEC 603 F.2d 1125 (5th Cir. 1979) ...... � ...... 51
Strickler v. Greene, 527 U.S. 263 (1999) ...... '...... 14
Teicher v. SEC, 177 F.3d 1016 (D.C. Cir. 1999) ...... 30
Tull v. United States, 481 U.S. 412 (1987) ...... 28,29
United States v. AU Optronics Corp., 2011 U.S. Dist. LEXIS 148037 (N.D. Cal. Dec. 23, 2011) ...... 15
United States v. Anekwu, 695 F.3d 967 (9th Cir. 2012) ...... 36
United States v. Batchelder, 442 U.S. l 14_(1979) ...... 19
United States v. Gupta, 848 F. Supp. 2d 491 (S.D.N.Y. Mar: 26, 2012) ...... ,...... 15,27
United States v. Ohle, 2011 U.S. Dist. LEXIS 12581 (S.D.N.Y. Feb. 7, 2011) ...... 15
V United States v. Reader's Digest Ass'n, 662 F.2d955 (3dCir. 1981) ...... 54
United States v. Rubin/Chambers, Dunhill Ins. Servs., 825 F. Supp. 2d 451 (S.D.N.Y. 2011) ...... 14
United States v. Warshak, 631 F.3d266, 297 (6th Cir_. 2010) ...... 14
United States v. Yeley-Davis, 632 F.3d673 (10th Cir. 2011) ...... 36
Upjohn Co. v. United States, 449 U.S. 383 (1981) ...... 16
VanCook v. SEC, 653 F.3d130·(2dCir. 2011) ...... 39
Village of Willowbrook v. Olech, . . . 528 U.S. 562 (2000) (per curiam) ...... :.�· ...... 25,26
Whitmanv. American Trucldng Assns., Inc., 531 U.S. 457 (2001) ...... � ...... 22
WhitneyNat'/ Bank i11:Jefferson Parish v. Bank ofNew Orleans & TrustCo., 379 U .s. 411 (1965) .. ; ...... 2
Administrative Releases Anthony Fields, CPA, Exchange Act Rel. No. 74344, 2015 SEC LEXIS 662 (Feb. 27, 2014) ...... 34,35,37
Arthur Lipper Corp., Exchange Act Rel. No. 11773, 1975 SEC LEXIS 527 (Oct. 24, 1975) ...... 51
Atlantic Equities Co., Exchange Act Rel. No. 8118, 1967 SEC LEXIS 531 (July 11, 1967) ...... 9
Matter of C. James Padgett, Exchange Act Rel. No. 38423, 1997 SEC LEXIS 634 (Mar. 20, 1997) ...... 8
Calais Resources, Inc .. Exchange Act Rel. No. 34-67312, 2012 SEC LEXIS 2023 (June 29, 2012) ...... 35
Christopher A. Lowry, Inv. Co., Investment Company Act Rel. No. 2052, 2002 SEC LEXIS 2346 (Aug. 30, 2002) ...... 51,52
David F. Bandimere, Initial Dec. Rel. No. 507, 2013 SEC LEXIS 746 (March 12, 2013) ...... : ...... 11
vi David Henry Disraeli, Exchange Act Rel. No. 57027, 2007 SEC LEXIS 3015 (Dec. 21, 2007) ...... 50 Del Mar Financial Services, Inc., Exchange Act.Rel. No. 48691, 2003 SEC LEXIS 2538·(Oct. 24, 2003) ...... 43,44 GregoryM: De arlove, Admin. Proc. File No. 3-12064, 2006 SEC LEXIS 3191 (Jan. 6, 2006) ...... 17 Harding AdvisoryLLC, Securities Act Release No. 9561, 2014 SEC LEXIS 938 March 14, 2014) ...... 24,26,27 Hausmann-Alain Banet, Advisors Act Rel. No. 3657, 2014 SEC LEXIS 361 (Jan. 30, 2014) ...... 25 Howard Brett Berger, Exchange Act Rel. No. 58950, 2008 SEC LEXIS 3141 (Nov. 14, 2008),pet.for review den., 347 F. App'x 692 (2d Cir. 2009), cert denied, 559 U.S. 1102 (2010) ...... 49 Jean-Paul Bolduc, Exchange Act Rel. No. 43884, 2001 SEC LEXIS 2765 (Jan. 25, 2001) ...... 9 John P. Flannery Securities Act Rel. No. 9689, 2014 SEC LEXIS 4981 (Dec. 15, 2014) ...... 37 John Thomas Capital Mgmt. Group L.L.C., Exchange Act Rel. No. 69208, 2013 SEC LEXIS 922 (Mar. 22, 2013) ...... 12,30
J. W. Barclay & Co., Initial Decision Rel. No. 239, 2003 SEC LEXIS 2529 (Oct. 23, 2003) ...... 54 Kevin H Goldstein, Initial Decision Rel. No 243, 2004 SEC LEXIS 87 (Jan. 16, 2004) ...... � ...... 53 Laurie Jones Canady, Exchange Act Rel. No. 41250, 1999 SEC LEXIS 669 (Apr. 5, 1999) ...... 58,59
Mark David Anderson Exchange Act Rel. No. 48352, 2003 SEC LEXIS 1935 (Aug. 15, 2003) ...... 53 Marshall E. Melton, Exchange Act Rel. No. 48228, 2003 SEC LEXIS 1767 (July 25, 2003) ...... 51 Michael R. Pelosi, Advisors Act Rel. No. 3805, 2014 SEC LEXIS 1114 (March 27, 2014) ...... 46 Michae!Tennenbaum, Exchange Rel. No. 18429, 1982 SEC LEXIS 2434 (Jan. 19, 1982) ...... 25
vii Montford& Co., Advisors Act Rel.No. 3829, 2014 SEC LEXIS 1529 (May 2, 2014) ...... 46 OptionsXpress, Inc., Exchange Act Rel. No. 70698, 2013 SEC LEXIS3235 (Oct. 16, 2013) ...... 12,17
Orlando Jett, Admin. Proc. RulingsR�leaseNo. 514, 1996 SEC LEXIS 1683 (June 17, 1996) ...... 12,17
Robert G. Weeks, Initial Decision ReLNo. 199, 2002 SEC LEXIS 268 (Feb. 4, 2002) ...... � ...... 54
Robert G. Weeks, . Exchange Act Rel. No. 48684, 2003 SEC LEXIS ·2572 (Oct. 23, 2003) ...... 54 Robert M Fuller� SecuritiesAct Rel.No. 48406, 2003 WL 22016309 (Aug. 25, 2003) ...... 46 RockiesFund, Inc., Exchange.ActRel. No. 48590, 2003 SEC LEXIS 2361 (Oct. 2, 2003) ...... _...... 50 Ronald S. Bloomfield, Ex�hange ActRel. No. 71632, 2014 SEC LEXIS 698 (Feb. 27, 2014) ...... � ...... 34 Schield Mgmt. Co., Exchange Act Rel.No. 53201, 2006 SEC LEXIS 195 (Jan.31, 2006) ...... 51,52 Steadman Sec. Corp., Exchange Rel.No. 13695, 1977 SEC LEXIS 1388 (June29, 1977) ...... 9 · Steven E. Muth, Initial Decisio�Rel. No. 262, 2004 SEC LEXIS 2320 (Oct. 8, 2004) ...... 53 Stuart-James Co., , Exchange Act Rel.No.28810, 1991 SEC LEXIS 168 (Jan.23, 1991) ...... 7,8,10 Toby G. Scammell, Advisers Act Rel.No. 3961, 2014 SEC LEXIS 4193 (Oct. 29, 2014) ...... 34 Vlad/en "Larry,, Vindman, Exchange Act Rel.No. 53654, 2006 SEC LEXIS 862 (Apr. 14, 2006) ...... 24,25,29,30,31 WilliamJ. Murphy, Exchange Act Rel.No. 69927, 2013 SEC LEXIS 1933 (July 2, 2013) ...... 46 Zubkis, Steven Vladislav, Exhange Act Rel.No. 52876, 2005 SEC LEXIS 3125 (Dec. 2, 2005) ...... 31
viii Statutes Section 8A (15 U.S.C. § 77h-1] ...... 30
Section 8A(e) [15 U.S.C. § 77h( e)-1] ... :...... u ...... 58,60
Section 8A(g)(2) [15 U.S.C. § 77h(g)-2] ...... � ...... _...... 53
Section 9(b) [15 U.S.C. § 80a-9] ...... � ...... 30
Section 9(d) [15 .U.S.C. § 80a-(2)(C)] ...... : ...... :...... 53
Section 9(d){2) [15 U.S.C. § 80a-(2)(C)] ...... 53
Section 9(d)(3) [15 U.S.C. § 80a-(2)(C)] ...... � ..53
Section9( d)(2)(C) [15 U.S.C. § 80a(2){C)] ...... :...... ·...... 55
Section 8A(g)(2)(C) [15 U.S.C. § 77h(g)-2(C)] .·...... 55
Section 15(b) [15 U.S.C. § 78o(b)] ····�············.. ······ ...... 38
Section 1 S(b)( 4)(B) [15 U.S.C. § 78o(b)-4(B)] ...... 38
Section 21B [15 U.S.C. § 78u-2] -...... 53
Section 21B{c) [15 U.S.C. § 78u(c)-2] ....\ ...... 38
Section 21B(b)(3) [15 U.S.C. § 78u(b)-3] ...... 55
Section 21B(e) [ 15 U.S.C. § 78u(e)-2] ...... 55
ix Section 21C · [15 U.S.C. § 78u-3] ...... 30 _ Section 203(e)-(f) [15 U.S.C. §§ 80b-3(e)-(f)] ...... 53
Section 203(i) [15 u.s.c. § 80b-3(i)] ...... 53 Section 203(i)(2) [15 U.S.C. § 80b-3(i)(2)] ...... 53
'Section 203(i)(2)(C) [15 U.S.C. § 80b-3(i)(2)(C)] ...... 55
Section203(k) [15 U.S.C. § 80b-3(k)] ...... _...... 30
Federal Regulations 17 C.F.R. § 201.230 ...... 11,12 17 C.F.R. § 201.100 ...... 55 17 C.F.R.·§ 201.411(a) ...... 5 17 C.F.R. § 201.232(e)(l) ...... 40
Rules Fed. R. Evid. 803 ...... : ...... 35 Fed. R. Evid. 803(6)(D) ...... 36 Fed. R. Evid. 902(11) ...... 36
X PRELIMINARY STATEMENT This matter involves misstatements and omissions of materialfact by George R. Jarkesy,
Jr. ("Jarkesy") and John Thomas Capital Management Group LLC, d/b/aPatriot28 LL C
("JTCM") (collectively, the "Respondents") inthe offer and sale of shares of two hedge funds
· then !mownas theJohn Thomas Bridge and OpportunityFund LP I ("Fu�d I") and the John Thomas Bridge and OpportunityFund LP II ("Fund II") ( collectively, the "Funds"). Jarkesy was
the .manager of the Funds and JTCM was the Funds' adviser. The Order InstitutingProceedings
("OIP") charged Jarkesy and JTCM with violations of the antifraudprovisions of the federal
securities laws, and with aiding and abettingand causing the Funds' violations of those
provisions. The OIP also charged John Thomas Financial, Inc. ("JTF"), a broker-dealer that
·acted as the Funds' placement agent, and Anastasios "Tommy" Belesis ("Belesis"), the president
and chief executive officer of JTF. JTF and Belesis settled the charges against them.
Aftera hearing, Administrative Law Judge Carol Fox Foelak ("the ALJ") foundthat the
Respondents viola.ted the antifraud provisionsof the federalsecurities laws by making material
misrepresentations and omissions concerningthe Funds. In particular, the ALJ foundthat Fund
I's privateplacement memorandum ("PPM") and marketing materials falsely represented that the
Fund would not invest more than 5% of its capital in any one company and thatthe Fund would
set aside sufficientcash to pay the premiums on certainlife insurance policies thatwere part of
the Fund's portfolio. Initial Decision ("ID") at 28. The AU also found that the Respondents
made material misrepresentations and omissions concerning their relationship with JTF and
Belesis, the value of the Funds, and the identity of the Funds' auditor. Id. at 29.
The ID ordered Respondents to cease and desist fromviolations of the antifraud
provisions, to disgorge, jointly and severally, ill-gotten gains of $1,278,597 plus prejudgment interest, and to pay a third-tier penalty of$450,000. It also barredJarkesy fromthe securities
industry and fromse rvingas an officeror directorof a public or reportingcompany.
Intheir Petition forReview, Respondentsraise a number of foundationalchallenges to
theseproceedings, including due process, equalprotection, and other constitutionalclaims.
· Respondentsalso challenge certain of the AU' s factualfindings and legal conclusions. �he Division of Enforcement("Division") is challengingthe ALJ's calculation of disgorgement,the
amountof civil penalti�ordered, and the failure to order an accounting.·For the re�ons set
forthbelow, the Commission should affirmthe factualand legal.conclusions reached by the ALJ
and reject the variousdue process, equal protection, and constitutionalclaims raised by the
Respondents. However, the Commission should order fulldisgorgement, substant ially higher
penaltiesthan wereimposed by the ALJ, and an immediate accounting of the Funds' assets, sales
and distributions.
FACTS
RespondentsMade Numerous Material Misrepr�entations to Investors JTCM and Jarkesy managed twohedge funds. In 2007, Respondents launched Fund I
and in 2009, they launched Fund II. 1 Theinvestment objectives and strategiesfor the two funds
were essentially identical: approximately half of each fund would be invested in corporate
investments (with no more than5% invested in a single company)and the other half would be
invested in lifesettlement policies (totaling at least 117% of the investor capital), or be set aside
to pay the premium on those policies. The life-settlement portionof each Fund was intended to
hedge the more risky corporate investments. As Respondents represented, the corporate
investmentswere intended to provide "returnfill capital" while the lifesettlements wereintended
1 For citations to the record, see Division's Proposed Findings of Fact and Conclusions of Law, filed Apr. 7, 2014. 2 to provide"return of capital." Respondents marketed the Funds as "two investments ... One
Fund Hedged!" From 2007 through 2010, approximately 120 investors investedapproximately
$24 million in the Funds. In March 2012, Jarkesy wrote to invest�rs that he was going to wrap up operationsfor Fund I that year. In 2013, Respondents formallydissolved thepartnership. To
· this day, however, Respondents have not distributed the assets of theFunds to the investors, with the_ exception of the proceeds fromone life settlement contractand some restrictedstock.
Respondents received approximately $1.3 million in management feesfrom the Funds.
Additionally, Respondents received incentive fees of at least $123,000 fromFund II.
The evidence in the recordand the facts adduced at the hearingcl�arly demonstrate that
Respondents made numerous material misrepresentations to investors in connection with the
offerand sale of shares in theFunds. Specifically,in the PPM and Limited Partnership
Agreements,Respondents represented that: (1) half of all investor capital would be invested
in small companies, including speculativestart-ups, and the other half would be used to
purchase lifesettlement policies ( or would be set aside and segregated to pay premiums on
the policies); (2) the lifesettlement policies would have a facevalue of at least 117% of the
investor capital; (3) for the equity investments, the total investment in any one company
at any one time would not exceed 5% of the aggregate capital commitments; (4) for the
life settlement portfolio, Respondents would take steps to mitigate lifeexpectancy risk,
including purchasing a sufficientnumber of policies; (5) to further protect the life
settlement portfolio, the policies would be transferred to the Master Trust; (6) the general
partner, JTCM, would utilize good faith; (7) · fair value would be used to value securities
where no market quotation was readily available; (8) the Funds' financial statements would
be prepared according to generally accepted accounting principles ("GAAP"); and (9) the
3 management of the partnership would be vested exclusively in the General Partner. Each of these misrepresentations was material and important to investors making investment decisions. Because Respondents had ''ultimate authority" over the PPM and its contents, they.are liable for any misrepresentations contained therein. Many of these misrepresentations were repeated numerous times in otherdocuments thatwere attributableto
Respondents, including marketing materials, power point presentations, periodic investor updates (including a podcast following the release of the2008 audited financialstatements), monthlyaccount statements, and in the Funds' audited financialstatements.
Respondents' marketing materials and investor updates contained additiona_l misrepresentations, including that: (1) KPMG was the auditor forthe Funds; (2) Deutsche
Bank was the prime broker for the Funds; (3) insurance policies would be purchased from
AA rated insurance companies; (4) Fund I had purchased fourteen_life settlement policies from fourteen separate insurance companies; (5) the bridge loans would be "collateralized;" and (6) valuation of the Funds' assets would be conservative. Respondents' website made thefurther misrep resentation that JTF did not manage, direct, or make anydecisions for the
· Funds. These misrepresentations, which also are attributabie to Respondents, were material and important to investors making investment decisions.
In addition to the misrepresentations, Respondents fraudulently valued many of the positions in the portfolio including: (1) the lifeinsurance policies, which Respondents valued using a 12% discount rate instead of the 15% discount rate implied by the purchase price and that the valuation consultants believed wasthe most appropriate; (2) the restricted stock, which Respondents valued at the same price as free-trading stock; (3) the notes of America
West Resources ("America West") and Galaxy Media & Marketing Corp. ("Galaxy"), which
4 Respondents valued at par notwithstanding that the notes were in default; (4) the shares of
Radiant Oil & Gas, Inc. ("Radiant") and America West, which Respondents valuedbased
upon promotional activities they paid for with money from the Funds; (5) the Radiant
warrants, which Respondents valued arbitrarily and without any relationship to the
stock price; and (6) the shares of portfoliocompanies like Galaxy andAmerica West, which
Respondents overvalued given the poor financial condition of those companies. These
valuations, which Respondents knew lacked any reasonable basis, were fraudulent.
STANDARD OF REVIEW
The Commission'sRule of Practice41 l(a) provides thatin reviewing initialdecisions of administrative hearingofficers, the Commission "may make any fmdings or conclusions that in its judgment are properand on the basis of the record." 17 C.F.R. § 201.41 l(a). Pursuant to this rule, theCommission considers an appeal of anadm inistrativelaw judge's initial decision on a de novo basis. See 5 U.S.C. § 557(b) (AdministrativeProcedures Act ("APA") provision granting agency reviewing initial decision "all thepowers which it would have in making the initialdecision except as it may limit the issues on notice or by rule"). See also Mr. Sprout, Inc. v. United States, 8 F.3d 118, 123 (2d Cir. 1993) (characterizing§ 557(b) as allowing forde novo review of initial decision by Interstate Commerce Commission); Gross v. SEC, 418 F.2d 103,
105, 107-108 (2d Cir. 1969) (applying§ 557(b) and de novo standard to Commission appellate decision); Commercial Capital Corp. v. SEC, 360 F.2d 856, 857-58 (7th Cir. 1966) (applying provisions of APA to activities of Commission).
5 ARGUMENT
I. Respondents' Due Process, Equal Protection, and Constitutional Claims Lack Merit
A. The Commission Has Not Prejudged Claims Against Respondents and There Have Been No Improper Ex-Parte CommunicationsBetween the Division and the Commission
Respondents contendthat these proceedings deprivethem of their due process rightsand
are -void because the Commission allegedlyhas prejudgedthe case against them by issuing an
Order.Making Findings, Imposing Remedial Sanctions anda Cease-and-Desist Order on
December 5, 2013 against two settling respondents, Belesis and JTF (the"December 5
Order''). See Respondents' Opening Brief ("Resp. Br.") at 4-8. Because the December 5 Order
contains factualand legal findings thatRespondents contest, they argue thatthe Commission
is biased and cannot fairly adjudge the case against them, notwithstanding thefact that the
December 5 Order specificallystates that the fmdings "are not binding on any_other person or entity in thisor any other proceeding." Respondents also contend thatthe Commission engaged in impermissible exparte communications with theDivision in connection with that settlement. Resp. Br. at 21-28. Respondents argue that these supposed ex parte communicationsviolate their due process rights and the APA. Based on these purported violations, Respondents state_ that thatthe case against them is void and must be dismissed. 2
The Commission repeatedlyhas foundRespondents' arguments to be meritless, including in thisvery action where the Commission denied Respondents' Petition forInterlocutor y Review on thesesame issues. (Jan. 28, 2014 Order Den. Pet. for Interlocutory Review). For example, in
2 Respondents separately filed a motion asking the Commission to recuse itself fromhearing this matter. Because the arguments in the Respoi1dents' brief and motion for recusal are the same, the Division addresses them both in this single brief.
6 Edward Sinclair, 1971 SEC LEXIS 898 (1971), the respondent, who was an order clerk forFilor,
Bullard & Smith, a�ed that any Commissioner who participated in the decision on consent to
suspend Filor forfailing to superviseshould be disqualifiedfrom hearing the case. The
Commissionrejected this argument stating that there was "no meritin the motion." The order
against Filor was based on a stipulated record and, like theDecember 5 Order, expressly stated
thatit }Vas not bindingon theother respondents. The Commission statedthat its present decision regarding therespondent was based solely on the recordbefore it "and is no way influenced by our findings as to Filor based on the order of the settlement."
On appeal, the Second Circuitagreed that CommissionerSmith was not biased and did not need to disqualifyhimself:
We find no meritin the argument that Commissioner Smithhad prejudged Sinclair's case by participating in theCommission's decision to accept a Filor settlement offer settingforth certain stipulated facts. The factswere stipulated by the partiessolely forthe particularsettlement, just as is the practice in negotiation of consent decrees. The decision stated that it was not binding on the other respondents. Furthermore, each of the two proceedings met the standardsof due processwith each respondent ... being represented by competent counsel. The Commission's findings with respect to Sinclair were based upon presentation of evidence beforea Hearing Examiner, findings independently made by him on the basis of the proof, and independent review by the Commission afteroral argument and submission of briefs. Insuch a context Commissioner Smithwas not called upon to disqualifyhimself fromparticipation in Sinclair's case.
Sinclair v. SEC, 444 F.2d 399, 401-02 (2d Cir. 1971). More recently, in Stuart-James Co., Inc.,
1991 SEC LEXIS 168 (Jan. 23, 1991), the Commission held thatits settlement with one respondent did not require that the Commissioners who accepted that settlement be disqualified or the administrative proceeding be dismissed. The Commissionstated, "[t]aken at facevalue, the respondents' arguments suggest that it is virtually impossible forthe Commission properly to entertainindividual settlements in proceedings involving multiple respondents." Stuart-James,
1991 SEC LEXIS 168, at *3. Rejecting this argument, the Commission foundtha t consistent
7 with due process, it could "authorize investigations of suspected securities law violations,
instituteenforcement proceedings to determine whether the suspected violations occurred, and
later make findings of factand conclusions oflaw on the basis of the record that is compiled. ,, We may also consider offersof settlement during the course ofthose proceedings. Id. at *5.
The Commissionfurther held that it could have communications with the Division about the
settlement stating that"[t]o exclude our staff from presenting relevant facts concerninga
negotiatedsettlement would simplylead to wrong decisions about which settlement offers
merited acceptance. Such a result is not in the public interestand is not required by statute or ,, rules. Id. at *12. _,, Finally, whilethe Commission recognized that"non-settling respondents might wish to
appear beforeus to dispute informationpresented by the staff, or to argue additional facts which
they believe would_ influenceour assessmentof the public interest,"it held thatthere was no such
requirement under theAP A and "[c ]ontrolover [theDivision's] access to theCo mmission
cannotbe turnedover to private parties." Id. at *14-19. Consequently, the Commissionheld that
so long as theDivision is not participating or advising in a decisiQn by the Commission as to the
non-settling respondents, "there is no compelling reason thecommunications [between the
Division and the Commission] as to a proposed settlement by one respondent in a multi-party
proceeding may not take place ex parte." Id. at *20. See also C. James Padgett, 1991 SEC
LEXIS 634, *59 (Mar. 20, 1997) (rejecting argument that by accepting settlement ofone
respondent it had prejudged other respondents' liability andhad engaged in improper ex parte communications with Division, and stating while"[t]he APA and Commission rules prohibit ex parte communications relating to the decisional process ... circumscribed Division communications with the Commission in connectionwith a proffered settlement by one
8 respondentin a multi-party proceeding are not part of the decisional process regarding other parties");Jean-Paul Boldu_c, 2001 S_EC LEXIS 2765, *5 (Jan. 25, 2001) (findingno bias by virtue o�settlementwith another party,but also "[a]n administrativebody such as the
Commission may not be disqualifiedfrom performing its adjudicatory functionsbased on allegationsof bias, prejudice, or prejudgmenton the part of the Commission or its members.")
(citing FTC v. Cement Institute, 333 U.S. 683 (1948)); Atlantic Equities Co., 1967 SEC LEXIS 531 *28-29 (July 11, 1967) ("in ouropinion, the claimof 'prejudgment' [based on an earlier settlement] is withoutsubstance"), affd sub nom., Hanson v. SEC, 396 F.2d 694 (D.C. Cir.);
Steadman �ecurity Corp., 1977 SEC LEXIS 1388, *56 n.82 (June 29, 1977) (denying �s "meritless" motionto dismiss �n groundsof prejudgment, stating thatAP A permitsthe
Commission to consider settlementin its administrativecapacity "and thereafterrender a decision withrespect to it inour quasi-judicial capacity'').
Becausethe Commission is allowed to consider a settlementby one respondent in an administrativeaction without having to disqualify itself with respectto any otherrespondent, it followsthat any communications between the Division and the Commission in connection with that settlement arealso not improper (and, in fact,are necessary), do not violate due process of law, and do not require the Commissionto disqualify itself or to dismiss the action. The
Commission should followits own precedent and deny Respondents' petition, which is based on the same argumentsand the same factsas the decisions discussed above. 3 In denying
Respondents' Petition forInt�locutory Review, the Comn:iission admonished Respondents for their failure to address this unbroken line of Commission decisions, stating: "[a]lthough JTCM
3 Respondents arguethat the findings concerning their own actions in the December 5 Orderwere
"gratuitous and totally unnecessary." This argument'ignores the fact.that the settling respoi:idents were charged not as primary violators, but as aiders and abettors. Because such a charge requires an underlying violation of the securities laws, the December 5 Order had to contain findings of underlying violations. It is clear from the order, however, that such findings were not binding on the Respondents. 9 and Jarkesy are 'entitled to make a good faitha r�ment fora change of law', they are 'obligated to acknowledge that they are doing just thatand deal candidly with the obvious authority that is contraryto [their] position."' Order of January 28, 2014 at 4. Respondents still do not deal candidly with the Commission's precedent on this very issue.
Recognizing theweakness of their argument,R tjspondents claim that the language in the Orderwith JTF and Belesis stating thatthe findingsare not binding on any otherperson or entity does not apply to theCommission itself which, they assert, is bound by its priorfindings. This is incorrect,as theCommission specificallystated in denying theRespondents' Petition for
InterlocutoryReview in thismatter:
In particular,the Commission has determinedpreviously that no prejudgmentof a non settling respondent's case occursespecially when-as took place her�the order accepting an offerof settlement"expressly state[s] that it was·not binding on other [non settling] respondents." Any decision that the Commission makes as to JTCM_and Jarkesy will be "based solely on therecord" adduced beforethe law judge and will "in no way [be] influencedby our findingsas to [JTF and Belesis] based on [their] offerof settlement." OrderDen. Pet. forInterlocutory Review at 4 (footnotesomitted) (citing Sinclair, 1971 WL
120487, at *4 (Mar. 24, 1971)). It is clear thatthe Co mmission does not consider itself bound by the prior findingsin the Order approving settlements with otherRespondents and is freeto deviate fromthose findings if they do not accord with the evidence in the recordadduced before theALJ.
Respondents' attempt to distinguishtheir situationfrom Stuart-James and its progeny is entirely unavailing. See Resp. Br. at 24-27. Respondents merely restate, without providing any evidence in support, that the Commission has prejudged the case against them by making findings of fact with respect to the settling respondents, and state that "the Commission, by virtue of its improper ex parte contact with the Division, issued findingsof fact pertainingt o the non-settling Respondents." Resp. Br. at 26. Respondents simply ignore the unambiguous
10 statement in the prior settlement that the factualfindings are not binding on any other party. The
Commission never issued anyfindings of factp ertaining to these Respondents.
Finally, while Respondentsargue thatthe Commission violates the APA by considering settlementswith respect to certainrespondents if others are litigating the ma�er, theopposite is true. As the AU notedin the ID, a prohibitionon consideringsettlements would likely runafoul ofthe APA:
It is well established that the Commission's combining administrative and adjudicative functionsis consistent with due process, including when theCommission considers settlement as to one or more respondents, but review an initial decision as to another respondentbased on similarl facts. A policy prohibitingsettlements during the pendency ofa multi-partyproceeding would be contraryto the APA, which requires an agency to giveall interested parties the opportunity forthe submission and consideration ofoffers ofsettlement, when time, the nature of the proceeding, andthe public interest pennit.
ID at 3 (internalcitations omitted).
B. The Division Properly Produced All Required Documents and Complied with its.Obligations Under Brady v. Maryland
Respond�ts assert that theirdue process rightswere violated because the Division allegedly produced documents in a "document dump" and withheld supposedly exculpatory materialcontrary to the doctrine ofBrady v. Maryland. Resp. Br. at 28-32. This claim is also meritless and was soundly rejected by the Commission which previously held in this case that
Respondent "failed to grapple with [Supreme Court] authority [and] [t]heir contrary reliance on the unpublished districtcourt decision in United States v. Salyer is misplaced." (Dec. 6, 2013
Order Den. Pet. for Interlocutory Review at 9-10).
The Division's discovery obligations are described in Rule 230 ofthe Commission's
Rules of.Practice. Pursuant to Rule 230(a)(l ), the Division "shall make available forinspection and copying ... documents obtained by the Division prior to the institution ofproceedings, in connection with the investigation leading to the Division's recommendation to institute
11 proceedings." Pursuant to Rule 230(a)(2), the Division may withholddocuments that are
obtained prior to the institutionof proceedings that: (1) are. privileged; (2) are internal
memoranda, notes, or other attorney work product so long as those ·documents are not going to
be offered into evidence; (3) identify confidential sources; and (4) the hearing officer grants
leave to withhold forgood cause shown. Rule of Practice 230(b)(l). The Division, however,
may not withholddocuments thatcontain m�terial exculpatory evidence ll;llderBrady v.
Maryland, 373 U.S. 83, 87 (1963). Rule of Practice 230(b)(2).
The Commission has described the Division's Brady obligations as follows:
The Rules of Practicedo not "authorize respondents to engage in 'fishing expeditions' through confidential Governmentmaterials in hopes of discovering something helpful to their defense. Unless defensecounsel becomes aware that exculpatory evidence has been withheldand brings it to the judge's attention, the government'sdecision as to whetheror not to disclose information is final. Mere speculationthat government documents may contain Brady material is not enough to require thejudge to make an in camerareview. In order to justifysu ch a review, a respondent must firstestablish a basis forclaiming thatthe documents contain material exculpatory evidence. A 'plausible showing' must be made that the documents in questioncontain information thatis bothfavorable and material to the respondent'sdefense."
Orlando Jett, 1996 SEC LEXIS 1683, * 1-2 (June 17, 1996) ( emphasis added); see also
OptionsXpress, Inc., 2013 SEC LEXIS 3235 (Oct. 16, 2013).
The Division complied with all disclosure requirements under the Commission's Rules of
Practice. In fact, the Division exceeded its disclosure requirements, providing its entire
investigation file(excluding privileged material�) to Respondents in a searchable Concordance
database at no charge. Prior to producing the database, the Division produced to Respondents
the investigative testimony taken prior to the commencement of thisaction (to the extent the
Division had the transcripts) as well as all of the exhibits to that testimony, which taken together, comprisedits "hot documents" file. The Division repeatedly offered to make the entire
12 investigativefile ( exclusive of privileged documents) available to Respondentsfor inspection and copying at the Commission's New York Regional Officeat Respondents' convenience.
Respondents never accepted theDivision's offer.
The Division also provided to Respondents a "withheld document list''and a declaration-. that,read together, named the potential witnessesthe Division interviewed where there was no transcript� othbefore and after thefiling of this action), and summarized all of �e potentially exculpatory materialprovided by thesewitnesses. The declarationfurther provides that theother wi�eld documents (internalDivision emails, memoranda, and spreadsheets) do not contain material exculpatory statements under Brady. Respondents furthercontend that because of the way the documents were produced to them,they did not have time to adequately review them. However, theDivision produced its filesto Respondents in thesame way thatthe Division keeps the documents, thatis, in an electronically searchable Concordance database format. The Commission previously has rejected Respondents'arguments, noting that"JTCM and Jarkesy's estimates forhow long it would take to conduct a page-by-page review ofthe_materialsare irrelevant;·theycan use
Concordance's search capabilitiesto home in on the documents that theyneed to prepare forthe hearing." John ThomasCapital Mgmt. Group LLC, 2013 SEC LEXIS 3860, *22, n.37 (Order Den. Pet. forInterlocutory Review, Dec. 6, 2013). Most important perhaps, Respondents fail to acknowledge that the majority of the documents produced to them were the Respondents' own documents, thatis, documents Respondents had produced to the Division during the investigation in response to subpoenas and document requests.
13 1. The Division Complied With Its Brady Obligations
The Division has not kept any potentially exculpatory materials fromthe Respondents. It produced its entire investigative fileexcept for privileged materials ( consisting of interview notes) and,even with respect to the ptjvilegedmaterial, it summarized all potentially exculpatory material contained in those notes.
It has long been held that an "open file"policy satisfiesthe requirements of Brady. In
Stricklerv. Greene, 521 U.S. 263,283 n.23 (1999),for example,the Supreme Court stated"we certainly do not criticize the prosecution'suse of the open filepolicy. We recognizethat this practice may increase the efficiencyand the fairness of the criminal process." In United States v. ·
th Warshak, 631 F.3d 266,297 (6 Cir. 2010),the Sixth CircuitCourt of Appeals rejected the defendant'sargument that the governmentfailed to comply with its Brady obligations when it handedover "millions of pages of evidenceap.d fore[ ed] the defenseto findany exculpatory information containedtherein." The court held that there was no evidence that the government acted in bad faith,larding its production with entirely irrelevantdocuments or concealing exculpatory evidence in the informationturned over. Consequently, the court rejected the argument that the governmentwas obliged to siftthrough all of the evidencein anattempt to locate anything favorableto the defense,stating that such an argument "comes up empty." In
United States v. Rubin/Chambers, Dunhil/Ins. Servs., 825 F. Supp.2d 451, 454-55 (S.D.N.Y.
2011 ), the court held that "it is apparent that prosecutors may satisfytheir Brady obligations through 'open file' policies or disclosure of exculpatoryor impeachment material within large production of documents of files." And "even when the material disclosed is voluminous," in the absence of prosecutorial misconduct [bad faith or deliberate attempts to knowingly hide
Brady material] the prosecutor's use of "open filedisclosures ... does not runafoul of Brady."
14 Similarly,in United States v. Ohle, 2011 U.S. Dist. LEXIS 12581, *7-11 (S.D.N.Y. Feb.
7, 2011),the court rejected defendants' argument that the prosecutors should be requiredto
identify specificBrady documents within the filesproduced by the govemm�nt -- even though
the government in thatcase �ad produced nine separate searchable Concordance databases to the
defendants,which contained several gigabytes of data "including millions of separate fil�
extending to s�veral million pages in length." The court held that"as a generalrule, the
Governmentis underno dutyto direct a defendantto exculpatory .evidencewithin a larger mass of disclose� evidence." Ohle, 2011 U.S. Dist. LEXIS 12581 at *11 (internalcitations omitted).
Moreover,the court noted thatwhile there were manydocuments, the government had produced an electronically searchable databas�,to which both partieshad equal access� andtherefore the defendants"were just as likely to uncover the purportedly exculpatoryevidence as was the
Government." Id. at *10. S,ee also United States v. AU Optronics· Corp., 2011. U.S. Dist LEXIS 14803 7 (N.D. Cal. Dec. 23, 2011) ( denying motionseeking order requiring the governmentto review 37 million pages of documents produced to identifypotentially exculpatory material under Brady).
2. The Division's Interview Notes are Privileged
It is beyond contention that witness interviewnotes are privileged work product. See, e.g., United States v. Gupta, 848 F.Supp.2d 491,496 (S.D.N.Y.,Mar. 26,2012) (SEC's witness interviewnotes are protected work product requiring a showing of "substantial need" by defend�t); SEC. v. Nadel, 2013 U.S. Dist. LEXIS 36251, *1-9 (E.D.N.Y. Max:. 15,_2013) (SEC interviewnotes constitute opinion/corework product and are subject to heightened protection);
SEC v. NIR Group, LLC, 283 F.R.D. 127, 135 (E.D.N.Y. Aug. 17, 2012) (SEC notes and memoranda relating to witness and investor interviews are "highly protected work product of
15 which produ�tion may not be demanded"); SEC. v. Strauss,2009 U.S. Dist. LEXIS 101227, * 12-
15 (S.D.N.Y. Oct. 28, 2009) (application to compel productionof SEC interview notes and memorandadenied, since SEC interview notes and memorandaprepared in anticipation of litigationfit within protectionof work-product doctrine). The witness interviewnotes at issue relateto interviews conducted by Division attorneysin connection with the investigationof
Respondents, and wereconducted in anticipationpf thislitigation. Although some of th� interviewspredated the formal initiation of this litigation,they ''were conducted in order to provide theCommission withinformation so that it could make the determinationwhether to proceed with litigation," and thus, fall "squarelywithin theprotections of the work-product doctrine." SEC v. Cavanagh, 1998 U.S. Dist. LEXIS 3713 at *5-6 (S.D.N.Y. Mar.23, 1998).
Because notes of attorneys' investigativeinterviews inherently reflecttheir mental impressions, opinions, theoriesand conclusions, such :potes have long been entitled to thestrictest level of work product protection. See, e.g., Upjohn Co. v. United States, 449 U.S. 383, 398-401 (1981)
( disclosure of attorneyinterview notes is disfavored,and justifiedeither rarelyor "never''),SEC. v. Stanard, 2007 U.S. Dist. LEXIS 46432, *4 (S.D.N.Y. June 26, 2007) (analysis of case "in anticipation of litigation"is work product, and receivesheightened protection under Rule
26(b)(3)); SEC v. Treadway, 229 F.R.D. 454, 455-56 (S.D.N.Y. July 26, 2005) (notes protected by work product privilegebecause they represent attorneywork product that at least in part, reflects thought process of counsel); SEC v. Downe, 1994 U.S. Dist. LEXIS 708, *6-8 (S.D.N.Y.
Jan.27, 1994) (attorney work product based on oral statements of witnesses is likely to reveal attorney's mental processes).
While the Division did not tum over thewitness notes to Respondents (except forone inadvertent disclosure),the Division provided a declaration describingall of the potentially
16 exculpatory statements contained within such notes, which has been held to be sufficient under
Rule 230. See Bandimere 2013 SEC LEXIS 746, *8 (Mar. 12, 2013) (Order of AU Elliot
denying respondent's request for production of interview notes when :Qivisionprovided essential
facts and substance of material exculpatory evidence in affidavit);Dear/ove, 2006 SEC LEXIS
1476, *5 (Order of AU Kelley, Jan. 19, 2006) (declaration satisfiesBrady obligations).
Respondents speculate thatthe interview notes may contain otherinform�tion that was not
provided to them.4 Mere speculation is insufficient to require the production of such notes even
foran in camera review. Jett, 1996 SEC LEXIS 1683 at *2 ("Mere speculation that government
documents may contain Brady materialis not enoughto require the judge to make an in camera
review"); OptionsXxpress, 2013 SEC LEXIS 3235 at *15 (respondents must make plausible
showing that documents contain information both favorable and material to their defense). In
fact, the Commission reviewed the interview notes forinvestor StevenBenkovsky t�at had
inadvertently been produced and concluded thatthose notes did not contain any additional
undisclosed exculpatory material. Since these notes did not contain any undisclosed Brady material, the Commission held that Respondents argument that the other notes contained undisclosed material was mere speculation. Dec. 6, 2013 Order at 8. Likewise, during the courseof the hearing, at Respondents' request the ALJ reviewed in camera thenotes taken of investor Robert Fulhardt and concluded that "there is nothing there." Tr. 1414-15.
As described above, the Division has produced its entire investigative file to Respondents with the exception of privileged material. With respect to the privileged material, the Division provided a declaration to Respondents describing the potentially exculpatory materials contained
4 See, e.g., Resp. Br. at 31 ("Respondents ... were forced to the hearing without the Brady material that was almost certainly in the Division's possession.") 17 in the interview notes and stating that the other privileged material does not contain material exculpatory statements.
C. The Commission's Exercise of Discretion in Forum Selection Does Not Violate the Separation of Powers Doctrine
Respondentsnext contend that the "transfer of coextensive administrative enforcement authorityto the Commission" pursuant to the Dodd-Frank Wall StreetReform and Consumer
ProtectionAct (Pub. L. 11-203, H.R. 4173) (''Dodd-Frank")"constitutes a delegationof legislative authority" that "tramplesthe doctrineof separation of powers." Resp.Br. at 8.
Respondentsrefer to the "delegated power of the Commission to instituteadministrative enforcementactions" and· claim that "the delegation to exercise thisnew administrative enforcement authority was legislative" in violation of.the separation of powers doctrine. Resp.
Br. at 9. This contentionis nonsensical, and the cases cited by Respondentsprovide no support forit.
First, the relevantprovisions of Dodd-Frankdo not constitutea delegationof legislative authority. The relevant provisions of Dodd-Frank at issue did not transferadministrative authority to the Commission, nor did it create a new administrative authority; rather, with the enactmentof Dodd-Frank, Congress provided the-statutory authorityfor the Commission to obtain civil penaltiesin cease-and-desist proceedings brought to enforcethe federalsecurities laws. When the Commission brings an action to enforce the federalsecurities laws, whether in federal district court or in administrative proceeding pursuantto Dodd-Frank, it is not acting in a legislative capacity. Rather, it is acting in anexecutive capacity, to enforcethe laws that
18 Congresshas enacted in accordance with the statutorymechanisms that Congress has �xplicitly
provided.5
Second, the factthat Congress enacted a statutoryscheme that allows the Commission to
choose the forumin which to bring an enforcement action does not constitute a delegation of
legislativeauthority. The choice of forum is not a legislative act,but partof the discretionary
decision making authority the Commission has in c8I'l)'4lgout its statutorymandate to execute
. the law. It is no differentthan the decision making authority that theCommission exercises
everytime it decides whether or not to bringan enforcementaction at all, 6 regardlessof the
forum,or when it decides which of many potential statutoryviolations it choosesto bring.7 Such
decision making is not legislativein character,but partof the executive function.
Respondents contend that "Governmenfactions that 'have "the purposeand effectof
altering the legal rights, duties,and relations of persons ... outside the Legislative branch,"'
constitute legislative action.'' Resp. Br. at 8-10 (quoting Metro. Wash. Airports Auth. V. Citizens
for Abatement of AircraftNoise, Inc., 501 U.S. 252,276 (1991)). Respondents furthercontend
that "[t]he decision-making surrounding agency adjudications 'alter[] the legal rights, duties,
and relations of persons ... outside the legislative branch,' and involve 'determinations of
policy."' Resp. Br. at 9 (quoting INSv. Chadha, 462 U.S. 919,952,954 (1983)). Both of these
contentions are wide of the mark, and the cases cited provide no supportfor Respondents ' 5 Cf, Morrison v. Olson, 487 U.S. 654, 706 (1988) (Scalia J. dissenting), ("Governmentalinvestigation and prosecution of crimes is a quintessentia1ly executive function. ,)
6 See, e,g., Heckler v. Chaney,470 U.S. 821,832 (1985 ) ("[W]e recognizethat an agency's refusalto instituteproceedings shares to some extent the characteristics of thedecision of a prosecutorin the Executive Branchnot to indict - a decision which has long been regarded as the special province of the Executive Branch, inasmuch as it is the Executive who is charged by the Constitution to 'take care that the Laws be faithfullyexecuted."') (internalcitation omitted) 7 This is true even in the criminal context. The Supreme Court "has long recognizedthat when an act violates more than one criminal statute,the governmentmay prosecuteunder either so long as it does not discriminate against any class of defendants." U.S. v. Batchelder, 442 U.S. 114, 123-24 (1979). 19 position. If every governmentaction that has the effect of altering the legal rights,duties, and
relations of personsconstitutes legislative action,th en every executive action would be turned
into an instance of legislative activity. Likewise,treating the decision-making surrounding
agency adjudication as a broad policydetermination, would tumevery instance of law
. enforcement - every prosecution,enforcement action, or statutoryimplementation, all classic
examples of executiveaction-into quasi-legislative acts. It is.Respondents' conflation,and
franklyconfusion, over what constitutesa n executive action and what constituteslegislative
action that does violence to the principle of separation of powers. As the Supreme Courtheld
almost one hundred years ago, "[l]egislativepower, as distinguishedfrom executive power is the
authorityto make laws,but not to enforce them or appoint the agents charged with the dutyof·
such enforcement. The latter are executive functions." Springer v. Gov't ofthe Philippine
Islands, 221 U.S. 189,202 (1928).
The cases cited by Respondents provide no support fortheir arguments.- The underlying
question in those cases was whether a part of Congress was engaging in actions that were
legislative in nature -that is,whether some part of Congress was exercising legislative power -
such that they could only lawfullybe undertakenpursuant to the constitutional requirements for
. legislativeenactment, namely passage by a majorityof both houses and presentment to the
President forsignature or veto.
INSv. Chadha concernedthe constitutionality of a statute that provided that either house
of Congresscould, by resolution, invalidate a decision by the AttorneyGeneral - an executive
branch officeracting pursuant to authority delegated by Congress- to allow a deportable
individual to remainin the United States. The court held that this legislativeveto violated the
separation of powers because Congressional action overturningan executive order on
20 deportation was necessarily legislative in character, and could lawfullybe accomplished only
through normallegislative processes,_namely passage of a new bill by both houses of Congress
and presentmentto the President. See INS v. Chadha, 462 U.S. 919, 952-55 (1983). Nothing
like that is at issue here, where Congress has empowered an executive agency to enforce the law.
The separation of powers would only be implicated if Congresshad somehow reseived to itself
the power to overturn the Commission's actions.
Metropolitan Washington.Airports Auth. v. Citiz�ns for Abatementof AircraftNoise, Inc.,
similarly is inapposite. '!hat case involved the transferof two airports owned by the federal
governmentto a new regional airport authoritycreated pursuant to laws enacted by the District
of Columbia and the State of Virginia. Congress authorizedth� transfer conditioned on the
District and the State creating a review board(the Board)composed of nine members of
Congress who would have veto power overthe Board's decisions. The court held thatthis
arrangementviolated the separationof powers on one of twogrounds: if the Board was deemed
to be exercising legislative power, then its actions would violate the requirement that legislation
requires action by both houses of Congress and presentment to the President, and not a small
subset of Congress; if the Board was deemed to be exercising executive power, then it would
constitute an unconstitutional delegation by Congress of executive authority to its own agents.
See Metropolitan Washington Airports Auth. v. Citizens forAbatement of AircraftNoise, Inc.,
501 U.S. 252, 274-77 (1991}. Once again, nothing of the sort is at issue here. With the passage
of Dodd-Frank, Congress provided the Commission - the Executive - new powers to enforce the
laws; Congress did not thereby delegate to a subset of itself the power to legislate, nor did it delegate the executive power to its own agents.
21 To argue that Congress unlawfullydelegated legislative authorityin violation of the
separationof powers doctrine when it authorizednew administrativeremedies to enforce the
laws Congresspassed, turns logic on its head. It is Congress thatcould not institute enforcement
proceedings without violating the separation of powe� doctrine because it would be acting in
both a legislative and executive capacity. 8
Finally, to whatever extent the choice of forumcan be seen as involving some policy
determination, the Supreme Court has helcithat Congresshas considerable leeway in setting the
boundaries of executive judgment: "In short, we have 'almost never feltqualified to second
guessCongress regarding thepermissible degree of policy judgmentthat can be leftto those
executingor applying the law."' Whitmanv. American TruckingAssns., Inc., 531 U.S. 457, 464-
75 (2001) (internalcitation omitted). While it is truethat any delegation of quasi-legislative
authority must be limited by an "intelligible principle," the court.hasfound that principle to be
met in a host of circumstances where the degree of-agency discretionis fargreater than what is at
issue here. Indeed, thecourt has upheld a broad degree of discretion even in cases that involve 9 an agency's rule making authority. See, e.g., Entergy Corp. v. Riverkeeper, Inc., 566 U.S. 208,
218-23 (upholding Congressional delegation of discretionaryauthority to EPA to decide whether
it should consider costs in making certain rules); Whiiman, 531 U.S. at 472-76 (approving
delegation to EPA to set national standards forair quality). Thecase at hand here - which
involves nothing more than the forumthe Commission chooses when executingthe laws enacted
8 See, e.g., Buckley v. Valeo, 424 U.S. 1, 138-39 (1976) (finding that FCC enforcement power cannot be regarded as an aid of the legislative functionsof Congress, and concluding that remedy for breaches of law residesin the·executive).
9 See, e.g., Department of Transportation v. Assn. ofAmerican Railroads, 515 U.S._ (2015), 2015 U.S. LEXIS 1763, *66 (Mar. 9, 2015) ("For whatever reason,the intelligible principletest now requires nothing more than a minimal degree of specificityin the instructionCongress gives to the Executive when it authorizes the executive to make ruleshaving the forceand effect oflaw.") (Thomas J., concurring).
22 by Congress- presents none of the concerns that exist when an agency is engaged in rule making.
Respondents further claim that when Congress authorizes administrative procedures to
resolve certain perceived problems, thoseprocedures must be exclusive, and thatthe "boundaries required by [that] exclusivity'' were breached by giving the Commission the power to decide in
10 what forumto bring an enforcementaction.
However, the relevant section of the case Respondents cite in support of this proposition
(Free EnterpriseFund v. PCAOB) has nothing to do with the question at issue here. The question the court was facingin the cited section of Free Enterprise Fund was whether a federal districtcourt had jurisdictionto hear a constitutionalchallenge to the validity of thePublic
Company Accounting OversightBoard, or whether such a challenge had to first proceed through the administrativeprocess at the conclusion of which it could be reviewed by an appellate �ourt as provided by statute. The court noted that when Congress provides a mechanism foragency review by an aggrieved party, that mechanism is generally considered exclusive, but not in cases where it would effectively close offall avenues of judicial review. See Free EnterpriseFund,
561-U. S. at 48 9. That hoiding, concerning the jurisdiction of a federal districtcourt to hear a facialchallenge to the very existence of an administrative body, has nothing to do with the question whether Congresscan provide an agency with the authority to bring an enforceme�t action eitheras an administrative proceeding or a federal district court action. Respondents
10 See Resp. Br. at l 0: "The Court has repeatedly stressed that 'when Congresscreates procedures "designed to permit agency expertise to be brought to bear on particularproblems," those procedures "are to be exclusive."' Free Ent. Fund v. Public Co. Accounting Oversight Bd., 561 U.S. 477,489 (2010); WhitneyNat'/ Bank ofJefferson Parish v. Bank ofNew Orleans & Trust Co., 379 U.S. 411, 419-20 (1965). The boundaries required by the exclusivityof legislatively-created administrativeprocedures were uniquely lifted by Dodd-Frank, however, leaving it to the Commission to decidefor itself which proceduresare 'to be broughtto bear' in the enforcement of securitiesstatutes." 23 provide no support forthe proposition thatwhen Congressauthorizes administrative resolution of certain agencyactions such procedures must be exclusive.
D. Selection of the Administrative Proceeding as a Forum does not Violate Respondents'Equal Protection Rights Respondents next contend that the decision to proceedin an administrativeforum deprivedthem of their rightto equal protectionfor two reasons: first,because it deprivedthem of their Seventh.Amendment rightto a jury trialin a discriminatoryway that cannot survivestrict scrutiny analysis; second, that it contravenestheir equal protection rights pursuant to the "class of one" doctrine. Resp. Br. at 12. Both claims lack merit.
1. Use of the Administrative Forum Did Not UnfalrlyDeprive Respo�dents of their Seventh. Amendment Jury Trial Rights
Respondents claim thatthe choice of an administrativeforum violates their fundamental right to a jury trialand therefore denies themequal protection under the law. This claim fliesin theface of controllingSupreme Courtprecedent. While Respondentsgo on at lengthabout the importanceof the jurytrial in American history and how theright is so fundament�lthat any deviation must be subjected to strictscrutiny analysis, they completely failto address bow the
Supreme Court's holding in A�las RoofingCo. v. Occupational Safety & Health Review
Commission, 430 U.S. 442 (1977), affectstheir fundamentalrights analysis. See Resp. Br. at
13-17. In Atlas Roofing,the Supreme Court held that the use of administrative proceedings that lack juries does not violate the Seventh Amendment: "[T]he Seventh Amendment does not prohibit Congress from assigning the fact findingfunction and initial adjudication to an administrative forumwith which the jury would be incompatible." 430 U.S. at 450. Following
AtlasRoofing, the Commission consistently has rejected claims that administrativeproceedings violate the Seventh Amendment rightto a jury trial. See, e.g., Harding Advisory LLC, 201_4 SEC
LEXIS 938, *35 n.46 (citing Atlas Roofing); Vlad/en "Larry" Vindman,2006 SEC LEXIS 862, 24 *44 n.60 (Apr. 14, 2006) (rejecting argument that ALJ's imposition of the civil penalty violated respondent's Seventh Amendment rightto a jury trial); Michael Tennen�aum, 1982 SEC LEXIS
2434, *21-22 (Commission Op., Jan. 19, 1982) (findingrespondent's argument that the ALJ could not assert "cl_early penal sanctions" without affordingthe procedural safeguards of a jury trial"wholly lacking in merit'');Hausmann-Alain Banet, 2014 SEC LEXIS 361, *14 n.9 (Initial
Dec_ision, Jan. 30, 2014) (no jurytrial right in administrativeproceedings).
Atlas Roofingand its progeny clearly establish that trial by jury is not a fundamentalright in the context of administrative proceedings. Yet Respondents fail to even mentionAtlas
Roofingin thissection of their Brief, let alone tryto distinguish it, even thoughit is controlling
Supreme Courtprecedent. See Resp. Br. at 13-17. Respondents also failto discuss or even mentionin thissection the long line of Commission cases that followAtlas Roofing. Because the use of administrativeproceedings thatlack juries does not violate the Seventh Amendment at all, thedecision to proceedadministratively is not one that is subject to strictscrutin y analysis for purposesof deciding an equal protection challenge thatis groundedon the alleged deprivationof
Seventh Amendment rights. Respondents have not cited any authority to the contrary.
2. Respondents Can�ot Sustain a "Class of One" Claim
Respondents furtherclaim thatthe "[s]taffs arbitrarydecision to send them into the administrativeprocess" deprived them of equal protection, and that because "the SEC has sued otheridentical targets in federal court" they have a "class of one" equal protectionclaim. Resp.
Br. at 17. This contention is also without merit.
To sustain a "class of one" equal protection claim, Respondents must show that they have
"been intentionally treated differently from others similarly situatedand that there is no rational basis forthe differencein treatment." Villageof Willowbrook v. O/ech, 528 U.S. 562, 564
25 (2000) (percuriam). Respondents have made no such showing in this case. First, although
Respondents have identifiedother allegedly similarly situated defendantswhom the Commission sued in federalcourt, they have failedto show how each of thesedefendants is so similarly. situated to Respondents as to raisean equal protectionchallenge. Parties asserting"class-of one" equal protectionclaims must show an "extremelyhigh degreeof similaritybetween themselvesand the persons to whom they compare themselves." Lieberman v. Cityof Rochester,
2014 U.S. App. LEXIS4347, *39 (2d Cir. Mar. 7, 2014) (emphasis added) (citing Rustonv.
Town Bd.forTown ofSka.neateles, 610 F.3d 55, 59 (2d Cir.)). See also Missere v. Gross, 826 F.
Supp. 2d 542, 561 (S.D.N.Y._ 2011) ("class of one" challenge requires showing an extremely high degree of similarity between claimants and thepersons to whom claimants compare themselves).
Here, Respondents have simply pointed to othercases where individuals were charged under the same statutoryprovisions in federal districtcourt. They have not shown that any of these other individuals were similarly situatedto themselves,let alone how they weresimilarly situatedfor purposes of establishing the high degreeof similarity necessary to sustain an equal protection challenge. As the Commission recently said in rejectinga similar equal protection challenge, "superficialcomparisons to a fewother proceedings fallshort of establishing a colorable equal protectionviolation." Harding, 2014 SEC LEXIS938 at *32-33.
Second, to sustain a "class of one" equal protection challenge, the Respondents must show that they were intentionally treateddifferently from others who are similarly situated.
Respondents have made no such showing. TheCommission recently held that respondents' constitutionalclaim was faciallydefective because respondents "identify no evidence to support their allegations that, by bringing this case as an administrativehearing, the Division
26 intentionally deprived them of procedural safeguardsafforded to similarly situated persons ... �"
(emphasis added). Harding, 2014 SEC LEXIS 938 at *35 n.46 (Order Den. Pet. for InterlocutoryReview, Mar. 14, 2014). Respondentshere similarly fail to identify anyevidence
thatthe intention of the Division when bringing this case against them as an administrative
proceeding was to deprive themof procedural safeguardsafforded to other persons.
Respondents claim thattheir situation is similar to that ofRajat Gupta, who brought an
a�tion in federalcourt against the _Commission seeking declaratory and injunctive relief because he had been sued in an administrative proceeding rather than a federal courtaction. Resp. Br. at
18-19. Thedistrict judgefound that Gupta sufficientlyestablished a "class of one" clajm.
Gupta, however, is entirelydifferent from the Respondents' case. InGupta there were twenty
eight other defendants connectedto the same insider trading ring who previously had been sued
infederal districtcourt and only Gupta was charged in an in administrativeproceeding. Here .
thereare no otherdefendants connected to the same allegations of misconduct as the
Respondents who have had their cases brought in federal court ratherthan in administrative
proceedings. See Harding, 2014 SEC LEXIS 938 at-*33 n.42 (describing Gupta as "declining to dismiss complaint alleging an equal protection violation where there existed 'a well-developed
public record of Gupta being treatedsubstantially disparatelyfrom 28 essentially identical defendants"'). To the contrary,JTF and Belesis were part of this same administrative
proceeding.
Because Respondents have failedto show that they have been intentionally treated
differentlythan other similarly situated persons, their "class of one" argument cannot be
sustained.
27 E. The Dodd-Frank Provisions Authorizing Civil Penalties in Administrative Proceedings Do Not Violate the Seventh Amendment
In additionto the above argument that bringing an administrativeproceeding violates
Respondents' equal protectionright by deprivingthem of their Seventh Amendment right to a jury trial, Re�pondents separately argue thatthe provisions of Dodd-Frankwhich authorizethe imposition of civil penalties againstunregistered persons in administrative proceedings directly violate the Seventh Amendmentright to a jurytrial. Resp. Br. at 19-21,.
As discussed above, it is well settled that the SeventhAmendment rightto a jury trial does not apply in administrative proceedings. See Atlas Roofing, 430 U.S. 442. Whilethis time aclmowledgingthe holding inAtlas Roofing, Respondents claim that the penalty authority enacted under Dodd-Frankviolates theSeventh Amendment because it is indistinguishable from the penalty authorityat issue in Tull v. United States, 481 U.S. 412 (1987), where thecourt found theSeventh Amendmentright to a jury trialapplied in a governmentaction to impose penalties pursuant to theClean Water Act Specifically, Respondents claim that:
In givingthe SEC unprecedentedpower to assess the [sic] civil penalties that are punitive in natureand are imposed under a separate statutory provision focusedexclusively on adjudicating liability forpenalties (in contrastto a statutoryprovision, such as the one beforethe Supreme Court in Atlas Roofing, where penalties are intertwined with remedial measures), Dodd-Frank transfonnedthe SEC administrativeenforcement program ... into a penalty-collection program.that is indistinguishable from the Water Act penalty program beforethe Supreme Court in Tull. Resp. Br. at 21.
This is a misreading of both Tull and Atlas Roofing. Contrary to Respondents' claim, the statutoryscheme authorizing relief in Atlas Roofingwas not materially different fromthe one at issue in Tull. Rather, thedistinguishing featurebet ween AtlasRoofing and Tullwas simply the forumin which the case was brought. Tull stands forthe proposition that when the government
28 seeks to impose civil penaltiesin a federal district court action, the Seventh Amendm��t right to
a jury trial applies. AtlasRoofing stands forthe propositionthat the Seventh Amendment right to
ajurytrial does not apply when the governmentbrings an enforcementproceedin g in an
administrative forum, even when the government is seeking civil penalties. Asthe court in Atlas
Roofingstated: "when Congress creates new statutory 'public rights,' it may assign their adjudicationto an administrative agency with whicha jury trial would be incompatible without
violatingthe Seventh Amendment[]." The court continued, "[t]his is thecase evenif theSeventh
Amendment would have required a jury where the adjudic_ation of those rightsis assignedto a
federalcourt of law instead of an administrative agency." AtlasRoofing at 455.
Tull did not ovenuleAtlas Roofing or alter its essential holding. Claims similarto Respondents' have been raised andrejected in previous administrativeproceedings. For
example, in a case in which respondents relied on Tull in arguing thatimposing penaltiesin an administrative proceeding would violate their Seventh Amendmentrights, Judge Foelak held:
Tulldoes not applyto the Division's claim forcivil monetary penaltiesbecause theclaim in Tull was brought beforea tribunalthat offereda jury trialand themajority of the government'sclaim consisted of themonetary penalty. Further,in AtlasRoofing Co., v. Occupational Safety and Health Review Commission, 430 U.S. 442 (1976), the court held that an administrativeagency has the authority to adjudicate a monetary penalty when Congresscreates a new "public right" and vests the initialfact finding authority in a goveQ1111entagency. This is true,even though theSeventh Amendmentwould require a jury trial if a court was designated to hear the claim instead of an administrative agency. Vladen "Larry" Vindman, Order Den. Mot. to Dismiss Claim forCivil Monetary Penalties, AP
File No. 3-11247 (Feb. 17, 2005) (unreported). See also SEC v. Kopsky,537 F. Supp 2d 1023
· (2008) (E.D. Missouri) (applying Tullin SEC federal district court action). The new remedies
authorizedunder Dodd-Frank come squarely within thehol ding of AtlasRoofing.
29 F. The ALJ Properly Imposed Penalties
Respondentsargue that the AU improperly imposed monetarypenalties on Respondents
forconduct that predated the effectivedate of the Dodd-Frank, which was· enacted in July 2010,
in violation of the principle that a statutewill be presumed not to allow the imposition of
penalties retroactively, unless the statutespecifically so provides. Resp. Br. at 35-36. This
argument fails fortwo reasons.
First,as the OIP makes clear, this actionis both a "Cease and Desist Proceeding"
(brought under Section8A of the Securities Act of 1933 ("Securities Act''), Section 21C of the
Securities Exchange Act of 1934 ("Exchange Act"), and Section 203(k) of the Inv�tment
�dvisers Act of 1940 ("Advisers Act")), and an "Administrative Proceeding"(brought under
Section15(b) of the Exchange Act, Section9(b) of the Investment Company Act of 1940
("Company Act"), and Sections203{e)-(f) of the Advisers Act). John Thomas Capital
. ' ManagementGroup LLC, 2013 SEC LEXIS 922 (Mar. 22, 2013). Theenhanced penalty
provi$ions of Dodd-Frankapply only to cease and desist proceedings. Civil money penalties
have been available in administrative proceedings since 1990, twentyyears before the enactment
of Dodd-Frank, when Congress passed the Securities Enforcement Remedies ·and Penny Stock
. Reform Act (Pub. L. No. _101-429, 104 Stat. 931, 949-51) ("Remedies Act"). The Remedies Act
amended the Exchange Act, the Company Act, and the Advisers Act to authorize the
Commissionto impose civil penaltiesin administrative proceedings (as well as in actions
brought in federalcourt). 11
11 To the extent that Respondents are suggesting that the Division could not.have brought an administrative proceeding against them prior to Dodd-Frank because they were not registered investment · advisers(and therefore, could not have obtained penalties ag�inst them prior to Dodd-Frank), that would also be incorrect. See Teicher v. SEC, 177 F.3d 1016, 1017-19(D.C. Cir. l 999)(affinning the Conimission 's authority to bring administrative proceedings against all investment advisers, whether registered or unregistered); Vindman,2006 SEC LEXIS 862 (Commission Op., Apr. 14, 2006) (penalty 30 Thus, in Vindman, the Commission affirmed the ALJ's authorityto issue a penalty against a non-registered stock promoter. 2006 SEC LEXIS 862 (Commission Op., Apr. 14,
2006). See also SEC v. J.W. Barclay& Co., 442 F.3d 834, 847 (3d Cir. 2006) (pre-DoddFrank case noting that Commission can assess monetary penalties in administrative proceedings); SEC v. Gabelli, 2010 U.S. Dist. LEXIS 27613, *30 (S.D.N.Y. Mar. 17; 2010) (noting that Remedies
Act allows Commission to seek civil penalties in administrativeproceed�ngs), rev'd in part on differentgrounds, 653 F.3d 49 (2d Cir. 2011), rev'd on differentgrounds, 133 S.Ct. 1216 (2013); affd in part, rev'd in parton differentgrounds, 2013 U.S. App. LEXIS 9128 (2d Cir. 2013);
SEC v. Bolla,550 F. Supp.2d 54, 60 (D.D.C. 2008) ("Rem�dies Act .. . which governs monetary penalties in administrative proceedings beforethe SEC's administrativelaw judges- explicitly provides such penalties").
Second, even if it is correct that Dodd-Frankpenalties cannot be applied retroactively in cease and desist proceedings, the violative conduct at issue here continued after the July 2010 effectivedate of Dodd-Frank, as the ALJ noted in the ID. The ALJ found the misconduct consisted of three courses of actions: "violations arising fromthe material misrepresentations and . . omissions relating to (1) the life settlement component of theFunds' inve$tments; (2) the corporate investment component of the Funds' investments; and (3) Respondents' relationship withJTF/Belesis." ID at 33. Each of these courses of ac!ion continued after July 2010, when the
Respondents continued to manage the Funds' equity and life insurance investments, sent communications to investors, and maintained theirworking relationship with JTF and Belesis.
There is, therefore, ample basis to support the imposition of a penalty pursuant to Dodd-Frank,
ag�inst unregisteredstock promoter); Zubkis, 2005 SEC LEXIS 3125 (Commission Op. Dec. 2, 2005) (barringan unregistered associated person of an unregistered broker-dealer fromassociation with a broker or dealer).
31 and indeed, asdiscussed below, even greater penalties than the ALJ imposed are appropriateand in the public interest.
G. Respondents'Due Process Rights Were Not Violated Because of their _ Inability to Assert Counterclaims or to Develop an Evidentiary Record for Such Counterclaims
Respondents also claim that their rights to due process were violated because of their inabilityto assert counterclaimsfor constitutional violations and their inability to develop an evidentiaryrecord of such violationsin an administrativeproceeding. Resp. Br. at 32-34.
The Commission already has disposed of this due process claim in itsOrder Denying
Motion to Stay AdministrativeProceeding, dated February20, 2015, noting thatwhile theAIJ did deny Respondents requests foradditional subpo�nas to address their variousclaims, the
Commission has the authorityto directthat therecord be supplemented and to allow supplemental briefing,or to remand to theALJ forfurther proceedings. Order at 5-6. ·The
Commission also noted that even if the Commission ultimatelyrejects theRespondents' attempts to expandthe recordand rulesagainst them, a reviewing court can always remandthe case to the
Commission forfurther proceedings, includingthe taking of further�vidence. Order at 6.
Because there are adequate procedures on review for supplementing the recordshould it be foundwanting in any respect necessary for a properadjudication of the Respondents' claims, the
ALJ's decision to deny furtherdiscovery did not violate Respo�dents' due process rights.
H. Respondents' Due Process Rights Were Not Violated Because of the Allegedly "Truncated" Duration of the Proceedings
Respondents claim that their rights to due process were violated because theylacked sufficienttime to prepare fortheir defense. Resp. Br. at 34-35. They claim that they only had an opportunity to review a "miniscule percentage of the evidence" while the Division had years to
32 review thesame documents. Resp. Br. at 34-35. This contention distorts thetruth. First,
Respondents were provided with all non-privileged material in an electronicallysearchable
Concordancefonnat (well beyond the requirementsof the Rules of Practice). This provided
Respondents a quick and easy way to so� through documents and prepare their defense. Second,
�e majority of thedocuments at issue were providedto the Division by Respondentsthemselves
-- these were the Respondents' own documents, produced to the staffin responseto investigative subpoenas anddocument requests. Respondents are uniquely situated to lmow their contents.
Third, Respondents had ampletime to prepare and even received severaladjournments. Fourth,
. . . any prejudice to the Respondents was of_their own making. The investigation of this matterwent on fortwo years, duringwhich timeRespondents had to review the documents in question in order to comply with the Division's subpoenasand documentrequests andto prepare for testimony. Shortly afterthe OIPwas filed,Respondents replaced their counsel with lawyers who were entirely unfamiliar with the record To argue that theywere ambushed at the last moment is disingenuous.
II. Challenges to the ALJ's Factual Findings and Legal Conclusions Rule of Practice 450 provides that "[e]xceptions shall be supported by citation to the relevant portions of the record, including referencesto the specificpages relied upon, and by concise argumentincluding citation of such statutes, decisions and other authoritiesas may be relevant." As a general matter, Respondents ·have not complied with Rule 450 with respect to all of the claimed exceptions. Pages 36-50 of Respondents' Brief, which comprises Respondents' entire discussion of the purportederroneous evidentiary rulings,findings of fact, and conclusions of law, does not contain a single citation to any Commissiondecision or otherprecedent. And even after the Commission ordered an additional submission to comply with Rule of Practice
33 450, Respondents still have failed to provide any precedent fortheir arguments that the ALJ made erroneousrulings. Moreover, mostofRespondents' citations to the recorddo not relate to theALJ's factual findings that are being contested.-For these reasons, the Commission should reject Respondents' exceptions. As described below, however, theALJ was correct withrespect to her evidentiary rulings, findingsof fact, and conclusions of law.
A. The ALJ's Evidentiary Rulings Were Correct
1. . Business Records were Properly Admitted The Commission has repeatedlyheld that law judges have broad discretionin deciding whetherto admit or exclude evidence. See, e.g., Anthony Fields, CPA, 2015 SEC LEXIS 662
*30 n.32 (Commission Op. Feb. 20, 2015); Toby G. Scammell, 2014 SEC LEXIS 4193 *38-39
(Commission Op. Oct. 29, 2014); Ronald S. Bloomfield, 2014 SEC LEXIS 698 *38 (Commission
Op. Feb. 27, 2014). Respondents argue in theirmoving briefand additionalsubmission that the
ID should be rejected on appeal becaus� the ALJ's findings were based,in part, on documents thatwere accepted into evidencein reliance on faciallydefective �usiness record affidavits.
Nowhere, however, do Respondents describe why theybelieve the business record affidavits were defectiveor cite any authorityto demonstratethat these affidavits were defective.
The ALJ admitted the sworndeclarations of each of the following: the Wells Fargo custodian of records, FrankLarthey; the MFRP .C. custodian of records,Landie Lacayo; the
AlphaMetrix 360 LLC chief of staffand chief compliance officer, Victoria Adams; the
Christiana Trust vice president and group manager of corporate trusts,Lori Cooney; Life
Settlement Solutions secretary and general counsel, Karen Canoff; and JTF chief compliance officer,Joseph Castellano. DX 113-117. Each of these declarations made clear that the signor was either the custodian of records or was familiar with the recordkeeping practices and systems
34 of their institution. And each of the declarations certified that the records produced pursuant to subpoena during the Division's investigation were (1) made at or near the time of the occurrence of the mattersset forth therein; (2) kept in the course of regularly conducted business activity; and (3) made as a regl!larp ractice as part of regularly conducted business activity.
TheALJ' s decision to admit the business record declarations and the documents produced pursuant to thosedeclarations was permissible. TheCommission has repeatedly stated
"that the Federal Rules of Evidence, includingthe rules on hearsay,are not applicable to our administrativeproceedings which favorliberality in the admission of evidence. Under the
Commission's Rule of Practice320, a law judge may receive all relevant evidence and shall exclude evidence thatis irrelevant,immaterial, or unduly repetitious. Moreover, in deciding when to admit and whether to rely on hearsay evidence, 1ts probative value, reliability, and the fairnessof its use must be considered. Indoubtful cases, we have expressed a preference for inclusiveness." Del Mar Financial Services, Inc., 2003 SEC LEXIS 2538, *29 (Commission
Op., Oct. 24, 2003); see also Anthony Fields, CPA, 2015 SEC LEXIS 662, *84-85 (Commission
Op .. Feb. 20, 2015) ("hearsay is admissible in administrativeproceedings"); Calais Resources,
Inc., 2012 SEC LEXIS 2023 *14 (Commission Op., June 29, 2012) (same). The signed, sworn declarationswere reliable, and as such, support theauthenticity of the documents as business records.
Even under the Federal Rules of Evidence, these declarationswere valid and met the requirements of Rule 803. While Respondents do not state why the declarations were defective, at the hearing they suggested that some of the declarationswere defective because they were not signed by the custodian of records but, instead, by another employee such as the general counsel or chief compliance officer. The federal rules, however, do not require thata business records
35 declaration be signed by the actual custodian of records. Rather, Rules of Evidence 803(6)(D)
and 902(11) both allow testimony or declarations by either the custodian "or another qualified
person." On the face of the declarations, the chief compliance officers,general counsels and
other administrators were qualifiedpersons. Indeed, in the case of a broker dealer such as John
Thomas Financial, which is required under law to maintain documents, the chief compliance
officerwould keenly be aware of the firm'srecord keepingpolicies and procedures.12
2. The Subpoenas to Investors and Belesis were Properly Limited
On Friday evening, November 8, 2013 (6:47 pm), with the hearingscheduled to start on
November 18, 2014, Respondents firstrequested that subpoenas duces tecum be issued to six
investors that theDivision had identifiedon its witness list, as well as to Belesis. The subpoenas
called forthe production of voluminous documents by Friday,November 16. OnNovember 12,.
2013, the Division objected to the subpoenas as being untimely and burdensome; if issued,the
subpoenas would givethe witnessesa mere day or twoto gatherall of the documents. The
Division noted that the Respondents had knownthe identities of the Division's witnessessince
12 Respondents also argue, without citation, that the Division did not demonstrate that the declarants who signed the business record declarations were unavailable. Consequently, they argue that the declarations are themselves hearsay and should have been excluded. Respondents' argument is nonsensical. The point of business record declarations is to avoid the often unnecessarycost and waste of time that would occurif the custodian of records was requiredto testifyat trial. Indeed,courts have held that business record declarations are not ''testimonial" as thepurpose is not to "establish or prove some factat trial" but simply to authenticate the records. See United States v. Yeley-Davis, 632 F.3d 673, 680 (I 0th Cir.2011); United States v. Anekwu, 695 F.3d 967 (9th Cir. 2012). The Division provided written notice that it was going to use the declarations as the Division's exhibit list included such certifications. Respondentscould have requested that the ALJ issue subpoenas for these individuals so they could challenge the declarations if they believed the declarations were deficient. Despite this advance notice, Respondents did not request any subpoenas or otherwise attempt to call the declarants as witnesses. FRE 902( 11) only requires that the proponent of the business record declaration provide notice and make the declaration and the records available for inspection by the adversary. The Division complied with this requirement.
36 October 28. 13 On November 12, the ALJ issued an order modifyingthe subpoenas to the
investors and to Belesis to exclude production of tax returnsand account statements. The AU
held that those items contained personal information that was irrelevantto the expected
. testimony or any issue in the proceeding, and requiring productionwould be unreasonable and oppressive.
Respondents argue thatthe AU's order modifyingthe subpoenaswas in errorbec�use
"[t]hese witnesses' statusas 'accredited' and 'sophisticated' and risk-tolerant investorswere an
issue inthis case." Resp. Br. at 3 7. This is incorrect. The OIPdoes not allege thatthe interestsin
theFunds were sold to non-accredited investors. Nor does the OIP allege thatinvestment in the
Funds was unsuitable forthe investors. Rather, the_OIP claims that Respondents made
fraudulentrepresentations to the�vestors concerning the mannerin which the Funds would be
managed, theassets valued, and therelationship with JTF an<;IBelesis. To theextent that the
investors' sophisticationmight relate to the issue of whetherthey reasonably relied on
Respondents' false statements, reliance is not anelement the Division must prove. SeeJ e.g.J
Anthony Fields1 CPA, 2015 SEC LEXIS662, *16, n.� (Commission Op., Feb. 20, 2015); John P.
Flannery,2014 SEC LEXIS 4981, *46 n.64 (Commission Op., Dec. 15, 2014). Moreover, even if it were errorfor the ALJ to modify the subpoenas to exclude some documents, it was a
harmlesserror as Respondents admitted into evidence the subscription agreements forthe three
investors who testified,which contained acknowledgments that they were all accredited investors
(RX31, 38, 69, 7); and theinvestor witnesses testified and were cross-examined about their
investmenthistory. \Tr.706-07, 836-37, 1350-51, 1431-34.
13 Respondents claim that the ALJ made this detennination on her own motion without the Division taking action. This is false,a nd is belied by the ALJ'sorder, which specificallystates "[u]nder consideration are subpoenas duces tecwn requested by JTCM/Jarkesy and a briefNovember 12, 2013, email from the Division of Enforcement{Division) objecting to the subpoenas as •untimely and burdensome." 37 Respondents also argue, without citation, that "in a cas� where penalties are sought, the
level ofthe investor vulnerability versussophistication 1s relevant to any analysis of the degree
of egregiousnessof conduct." Resp. Br. at 37-38. However, in detenniningwhether a penalty is
in the public interest, the Commission considers: "(l) whetherthe act or omission forwhich such
penalty is assessed involved fraud, deceit, manipulation, or deliberate or reckless disregard of a
regulatory requirement; (2) the hannto other persons resultingeither directlyor indirectly from
such act or omission; (3) the extent to whichany person was unjustly enriched,talcing into
account any restitutionmade to persons injured by such behavior; (4) whether such person
previously has been foundby the Commission, anotherappropriate regulatory agency, or a self
regulatory organizati�nto have violated the Federal securitieslaws, State securitieslaws, or the
rulesof a self-regulatoryorganization, has been enjoinedby a courtof competent jurisdiction
fromviolations ofsuch laws_ or rules,or has been convicted by a court of competent jurisdiction
ofviplationsof such laws or ofany felonyor misdemeanor describedin section 15(b)(4)(B) of
this title; (5) the need to deter such personand otherpersons from.committing.such acts or
omissions; and ( 6) such other matters as justice may require." Section 2 lB(c) of the Exchange
Act.
Similarly, the level of penalty at the third tier is determined based on whether the act or
omission (a) involved fraud, deceit, map.ipulation,or deliberateor reckless disregard of a
regulatory requirement; and (b) directly or indirectly resultedin substantial losses or created a
significant risk ofsubstantial losses to otherpersons or resultedin substantial pecuniarygain to the person who committed the act or omission. Sectio� 21B(b)(3) of the Exchange Act. The sophistication of thevictim is not mentioned anywherein the statute as a factorin determining the amount of the penalty. Importantly, theALJ did not consider the investors' lack of
38 sophistication in determining the amount of the penalty in this case. Rather, the aggravating
factors theAU considered were (1) fraud; (2) harm; and(3) the abuse of the fiduciaryduty.
It also was proper forth(? ALJ to modify the subpoena to Belesis to exclude his perso.nal
tax returnsand personal account statements, as these documents had no bearing on the issues at
the hearing. RespoI?,dents argue that the relative culpability of the settling respondents versus
themselves was an issue at the hearing, but they do no� explain how Belesis' personal financial
14 infonnati<;>n related to the parties' relative culpability. Resp. Br. at 38. Respondents also argue
that"numerous :financia, transactions involving all respondents were at issue, and Respondents
were left to tryto defend the case without access to the records for those transactions." This is.
not so. The OIP concerns transactions entered into by the Funds controlled by Respondents and
f�es improperly paid to JTF. It does not concern financial transactions entered into by Belesis
personally or what taxes he paid.
14 Intheir post-hearing brief, Respondents argued thatthe penalty soughtby the Divisionagainst them was disproportionate to the penalty ordered against Belesis and JTF. This argumentwas groundless as Respondentscannot be comparedto the settling respondents. First,the alleged factsagainst each are different. Respondents engaged in valuation fraudin which there is no evidence ofBelesis' or JTF's role. Moreover, the misrepresentations in the sales and marketing materials were preparedby Respondents, not Belesis or JTF. Second, the charges are different. Belesis and JTF were charged solely as aiders and abettors, while Respondents were charged as primary violators in addition to being aiders and abettors. Third,Belesis and JTF settled their claims,while Respondents chose to litigate; it is well-established that it is inappropriate to compare remedies pursuant to a settlement and remedies sought in a litigated matter. th SEC v. Monterosso, 2014 U.S. App. LEXIS 3891, *30 (]I Cir., Mar. 3, 2014) (disproportionate argument "unavailing, because Lynch chose not to settle with the SEC as to penalties and he had a differentrole in the scheme than hisco-defendants"); VanCook v. SEC, 653 F.3d 130, 144 (2d Cir. 2011) (affirming Commission's order on penalties stating that "other individuals chose to settle with theSEC, whereas VanCook chose to litigate"); SEC v. Razmilovic, 822 F. Supp.2d 234,281 (E.D.N.Y. 201 l) ("the compromised amount of the civil penalties imposed upon Razmilovic's co-defendants in this case have no bearing upon the appropriateamount of any penalty imposed upon him"), affdin all relevant parts, 7�8 F.3d 14 (2d Cir. 2013) ("we reject Razmilovic's proportionality cha11enge becausewe see no other similarly situated codefendant''), cert. den., (March 24, 2014).
39 3. The Subpoenas to the SEC were Properly Quashed
On February 13, 2014, ten days afterthe hearing commenced, Respondents requested subpoenas directed to the Commission's Officeof General Counsel and Custodian of Records.
In these subpoenas, Respondents requested documents concerning the settlement betweenthe
Commission and Belesis and JTF, including communications between the Division and the
Commission concerning the settlement; doc�mentsconcerning the decision to initiate this proceeding as an administrative proceeding instead of a federalcourt proceeding; and the standards applied by the Commission fordetermining whether to initiate an administrative proceeding as opposed to a federalcourt proceeding. Respondents themselves.have characterizedthis subpoenaas requesting documents concerningtheir "constitutionalclaims."
On that same date the Division objected to the issuance of the subpoenas on the groundsthat they called forthe production of documents that are subject to numerous privileges, including the attorney-clientpri vilege, and thatthey called forthe productionof informationwith no relevance to this hearing. The Division further objected on groundsthat the request was not timelyand should have been made prior ·to the comme�cement of the hearing. On February14, 2014, the ALJ declined to issue the requested subpoenas findingas follows:
First, they are untimely. While no deadline was set forthe submission of subpoena requests, the subpoenas specify a large quantity of documents and were requested ten days afterthe commencement of the hearing, so they are untimely as a general matter. Additionally, were JTCM/Jarkesy to obtain and serve th� subpoenas, this would be accomplished, at the earliest, duringthe week of February18, 2014, and the Division and any person to whom the subpoenas are directed, or who is an owner, creator, or subject of the documents to be produced, are allowed fifteen days from the date of service to request that the subpoenas be quashed. See17 C.F.R. § 201.232{e){l). By that time, the hearing and record will have been closed. Second, aside fromtheir untimeliness, the subpoenas are unreasonable. Subpoena No. I specifies evidence largelyconsisting of privileged internal Commission deliberations concerningthe JTF/Belesis Settlement and concerningthe institutionof this proceeding against JTCM Jarkesy. Documents
40 specifiedin Subpoena No. 2 relate to the topics enumerated in.Subpoena No. l. Accordingly, the subpoenas will not be issued.
2014 SEC LEXIS 564, *2 (Order of ALJ Foelak declining to issue_ subpoenas, Feb. 14, 2014). The ALJ's reasoning was correct. There were additional and compellin� reasons, however, why the subpoenas should have been quashed. On January28, 2014, the Commission denied Respondents' Petition forinterlocutory appeal, holding that an unbroken line of
Commission decisions had established that "'considerationof [certain respondents'] offerof settlement while theproceedings were stillpending again•st ... other respondents [is] proper and
[does] not violate theAdministrative ProcedureAct ... or our rules regardingex parte communications.' In particular,the Commissionhas determinedpreviousl y thatno prejudgment of a non-settling respondent'scase occurs .... " Given this unequivocal statement fromthe
Commission, it was clear that the issues forwhich Respondentswere seeking discoverywould have no bearing in the hearing that had �ready startedand, instead, wasintended to support the case that Respondents had filedin federal districtcourt. 15
4. The ALJProperl y Allowed Arthur Coffey to Testify
During thefirst days of the hearing, Jarkesyrepea tedly testified"I don't know" or "I don't recall" to the Division's questions concerningRespondents' promotional materials
(including materialsthat Respondents had themselves produced during the investigation). In addition,Respondents' counsel repeatedly objected to the admission of the.promotional materials on the groundsthat (1) the Division had not established a properfoundation for the exhibits; (2) the Division could not establish the authenticity of the exhibits; and (3) the Division could not
15 Respondents fileda separat� motion with the Commission to Adduce Additional Evidence, which largely concernsthe same discbvery requests sought in the two subpoenas to the Commission, i.e., discovery relating to Respondents' constitutional claims. The Division does not submit a separate opposition to Respondents' motion but for the reasons described herein, that motion should also be denied.
41 establish thatthe promotionalmaterials were provided to investors. In responseto Jarkesy's testimony and the objections of counsel, theDivisi�n sought to take the testimony of a JTF witnessto authenticatethe marketingmaterials, to confirm that Respondents provided themto
JTF in order that theybe given to investorsand potentialinvestors, andto confimithat the materials were in factprovided to inves�ors. Aftera review·ofthe investigative file,the Division determinedto call Arthur Coffey ("Coffey"), the branch manager of JTF's Hauppague, Long
Islandoffice who happened to be on numerous emails where Respondents transmittedthe marketing materials to JTF. On Thursday, February 20, 2014, the Division servedRespondents witha supplemental witnesslist statingthat it intended to call Coffeyas a witnessinstead ofthe two other JTF witnesseswho previously had been identified,and requesting thatthe AU issue
Coffeya hearings ubpoena. Respondents filedan emergency motion to quash arguing that the subpoenarequest was untimely and that they would not have sufficienttime to prepare a cross examination. The Division responded,noting that Respondentshad a searchable Concordance database, which would allow them to quickly fmd all relevant documents.
That same day, the Division sought to address theconcerns that Respondents raised about thelack of time to preparea cross-examination. The Division informedcounsel forRespondents that Coffey was available to testifyon either Monday February 24 or Thursday February 27. 16
Respondents informedthe Division that shouldthe ALJ allow Coffeyto testify, they would
th preferthe 20 • 17 The AU permitted Coffey'stestimony, and he was examined and cross examined. Following his testimony,Respondents again complained about their lack of time to
16 Coffeecould not testify on Tuesday or Wednesday because of personal obligations.
17 In that same communication, the Division infonnedRespondents that it had just received a transcript of testimony Coffey had provided in a FINRAcase against Belesis and provided that transcript to Respondents. 42 prepare. The ALJallowed Respondents to recall Coffey and cross-examinehim a second time
on Thursday, February 27, but Respondents declined to do so.
The ALJ's decision to allow Coffey to_ testify was proper. Unlike the untimely subpoenas
that Respondents attempted to seiveon the·· Commission (which had no bearing on the hearing),
theCoffey testimony was pertinent. Moreover, Coffey'stestimony was prompted by Jarkesy's
evasivetestimony and the objections of his counsel. While Respondents claim thatthey did not
have sufficienttime to. prepare their cross-examination of Coffey,it is.uncontrovertedthat they
were on noticethat some witness from JTF would be testifying. They had a searchable database
(provided by the Division) that sho�ld have allowed them to quickly findall docum�nts concerningCoffey. They had the transcriptof the testimony that Coffeyprovided to FINRA
concerning Belesis. And most important, they had a week to preparetheir cross-examination. It
was Respondents who chose the earlier date forCoffey's testimony, and Respondents elected not
to recall Coffeyas the.AU had permitted.
5. The ALJ Properly Declined to Admit the Belesis Affidavit
Respondents did not name Belesis as a witnessin this case. In early March2014, they
suggested to the Division that they would seek to introduceinto evidencecertain excerpts from
Belesis's investigativetestimony. 18 However, instead of seeking to admit the excerpts, at 11 :08
. p.m. on March 6, 2014, Respondents' counsel emailed the Division an affidavitsigned by
Belesis. The affidavitcontained excerptsfrom Belesis's investigative testimony and stated that
"if asked thefollowing questions posed during that investigative testimony, I would give the
18 Notably, on February26, 2014, the Division sought to admit certainexcerpts from Jarkesy's investigative testimony. Tr. 2327-2331. The Division invited the Respondentsto make any counter designations. Tr. 2330-31. TheALJ did not ruleon the issue at the time. On March 13, citing the Commission opinion in Del Mar FinancialServices, Inc., 2003 SEC LEXIS 2538 (Commission Op. Oct. 24, 2003), the ALJ allowed the excerpts into evidence. Tr. 3012-3018; DX 122. Respondents declined to counter designate parts of Jarkesy's investigative testimony. 43 same answers under oath today." The Division objected to the admission ofthis affidavit, stating
that the witness was available to testifyin person. On March 7, 2014, Respondents moved the
affidavit into evidence, but the ALJ rejected it, stating that "[t]he affidavit is offthe table." Tr.
2821. Respondents' counsel replied that she· would call Belesis as a witness, id., and theAU
ordered that Respondents should inform the Division by 5:30 p.m. if they were. going to call
Belesis as a live witness. Tr. 2822-23. On March 7, at 5:30 pm, Respondents' counsel informed
the Division that they intended to call Belesis to provide testimony.
On March 13, 2014, Respondents' counsel once again brought up the Belesis affidavit
and stated that they had been informedthat Belesis intended to assert his FifthAmendment
Privilege against self-incrimination and was, therefore, unavailable; thus, she said, his affidavit
should be admitted. TheDivision argued that based on thisrepresentation, the affidavit\Yould
on its facebe false. If Belesis was going to assert his FifthAmendment privilege,he would not
be giving thesame answers tqday as his affidavit described. The AU again declinedto admit
the affidavit. Tr. 3043. On March 14, 2014, Respondents once again raised the issue with the
AIJ. This time, instead of moving the affidavitinto evidence, they so-ughtadmission ofcertain
pages fromBelesis' investigative testimony as had been done with Jarkesy's investigative
testimony. The AU agreed to admit the excerpts into evidence and to allow the Division to
make counter-designations, which the Division did. RX138; Tr. 3074-75.
The ALJ's rulings were correct. Commission precedent allows excerptsfrom
investigative testimony to be admitted into evidence. See Del Mar Financial Services,Inc., 2003
SEC LEXIS 2538 (Commission Op;, Oct. 24, 2003). There is no precedent, however, to create a
new affidavitwhich does no more than quote earlier testimony, as Respondents attempted. Such an affidavitwould have accorded greater weight to the testimony than warranted, particularly
44 since Belesis had entered into a settlement withthe Commissionsubsequent to his investigative testimony in whichhe agreed to not take any action to deny any findingin the Order or to create the impression that the Order was without factualbasis. Moreover, as the Division argued,
Belesis, in fact,was not prepared to give thoseanswers if he was called to testifylive; his counsel had informedthe Division and Responden� thatBelesis would assert his Fifth
Amendment privilege. Finally, even if the ALJ erredby not_ allowing the affidavit, the errorwas hannless since she admitted RX 13 8 and Respondents wer� allowed to designatethe same excerptsfro m Belesis's testimony that they were tryingto introduceinto evidence throughthe affidavit.1 9
B. The ALJ's Factual Findings Were Correct
Respondents challenge 52 of theALJ' s factualfindings. As describedin thespreadsheet attached hereto a� the Division's Appendix, theALJ's. factualfindings were supportedby both the testimony and the admitted documents. In thisbrief, theDivision addresses several common themes in Respondents exceptions.20
1. George Jarkesy's Credibility
In her decision, theALJ held that "no weighthas been placed on [J arkesy's] testimonyas to facts that are disputed or not corroborated by credible evidence elsewhere in the record." ID at 10. The ALJ's credibility determinationwas based on her view that Jarkesy "generally testifiedin an evasive mannerthat did not provide any assurances on the reliability of his
19 Respondents' ·separate Motion.to Adduce Additional Evidence also requests t,hatthe Belesi s affidavitbe considered by the Commission. Because the same issues were raised in Respondents' OpeningBrief, the Division does not submit a separatebrief opposing the motion, but rather requests that that motion be denied for the reasons set forthherein. Because the excerpts from Belesis's investigative testimony are already in the record through RX 138, the Commission need not consider the Belesis's affidavit. 20 Perhaps Respondents' main argument is that the documents relied upon were not properly admitted into evidence because of a lack of foundationor lack of authenticity. As describedabove, these documents were properly admitted as business records pursuant to the business records declarations. And even to the extent that the documents were hearsay, hearsay evidence is not inadmissible in an administrative proceeding. 45 testimony." Id. The ALJfoundthat Jarkesy responded "I don't recall" or a variantof that phrase more than 800 times during his testimony''including as to basic questions. However, the ALJ noted that Jarkesy's "recollection markedlyimproved when questioned by his own counsel." Id. at 11. The ALJ stated that "Jarkesy further underminedhis credibility by disclaiming responsibilityfor representations made in thePPMs, financialsJatements, marketing materials, and newsletters .... " Id. In their appeal, Respondents attack the ALJ's determination of
Jarkesy's credibility in two respects: First, they argue that the credibility determinationitself was incorrect. Second, in arguingthat otherfactual findings of the ALJ were incorrect,they cite thetestimony of Jarkesyas evidence to the contrary.
While the Commission's reviewis de novo, it is well-establishedtha t "considerable weight and deference" shouldbe accorded to an ALJ' s credibility determinations. See, e.g.,
Montfordand Co., Inc., 2014 SEC LEXIS1529, *81 (Commission Op., May 2, 2014) (citing
Robert M Fuller, 2003 WL 22016309, *7 (Aug. 25, 2003) ("We· give considerable weight to the credibility determination of a law judge since it is based on hearing the witnesses'testimony and obseivingtheir demeanor .. .. Such determinations can be overcome only where the record contains 'substantial evidence' fordoing so.")); Michael R. Pelosi, 2014 SEC LEXIS1114, *6-7
(Commission Op., March 27, 2014) (same); William J. Murphy, 2013 SEC LEXIS 1933, *54
(Commission Op., July 2, 2013) (same). Respondents do not provide substantial evidence for overturningthe ALJ's credibility determination. Indeed, notwithstanding that theCommission's
January20, 2015 Order, taking Respondents to task for failingto do anything more than provide conclusory challenges to the ALJ's factual findings,Respondents still failto cite any evidence to counter the ALJ's credibility determination. See Respondents' Additional Submission, Nos. 30-
31. Respondentsonly citationto the reco�d is the ALJ's comment that there was a contrast
46 between Jarkesy's testimony when he was answering theDivision's questions and when he was answering his own counsel's questions. Tr. 2689-90. This is not"substantial" evidence. Indeed, theAU's statement only confirmedwhat was obvious to all who were present at the hearing.
For these reasons, the Commission should not overturn the AU's credibility determinationconcerning Jarkesy. Moreover, to the extent that Respondents argue that a factual findingwas incorrectbecause the AU failedto consider contraryevidence - and that contrary evidence is Jarkesy' s uncorroboratedtestimony - theCommission should also not overturnthat factualfinding.
2. The Authorization to Change the Strategy of the Funds
In their moving brief and their additional submission, Respondents argue that many of the
ALJ' s factualdeterminations were incorrect because the�PMs gave Respondents the ability to change the investment strategyfor the funds, including changing professionals such as auditors.
For example, Respondents argue thatthe AU's determination thatFund I did not meet its obligation over its lifeto maintain insurancepolicie s with a facevalue of 117% of the money invested was erroneousbecause they had express authority to change business plans and asset mix. Resp. Additional Submission Nos. 48-49. Likewise, Respondentsargue that the AU made erroneousconclusions regarding the role ofKPMG and Deutsche Bank and the representations about them to investors because they had express authorityto change professionals. The fallacy of this argument, however, is that while Respondents may have had some ability to change strategy, there is no evidence that they did so. At no point in his testimony did Jarkesy ever claim that he changed the investmentstrategy, and there are no documents in evidence that suggest he did. There is no evidence that the PPM for Fund I was ever amended to remove the
117% requirement forlife insurance coverage or the 5% investment limitation.
47 To the contrary, the documents sent to investors uniformlydescribe the same investment
strategy. Respondents continually represented throughoutthe lifeof the Funds that they were
investing half of the money in insurance policies and thatthey had purchasedpolicies with a face
value of at least 117% of capital invested. See, e.g., DX 260 (March 2009); DX 220 (May
2009); DX 262 (June 2009); DX 637 (July 2009); DX 221 (March 2010); DX 259 (June 2010);
DX 248 (August 2010). During the podcast, Respondents emphaticallyreiterated the117%
coveragerequirement: "Our charter requiresthat we have 117 percentof the value of our
investor �ash in facevalue life settlement policies. We do this not to make money. We do it,
because at the end of thefund, we Want our investorsto have some assurance thatthey get their
money back." DX 203 at 3. Likewise, Respondents repeated thatthey were limited t� a 5%
investment in a single company. DX 214-217; DX 258. The authorizati�n to change strategy is.
thus a red-herring. Even assumingthat Respondents had secretlychanged investmentstrategies,
telling theinvestors and prospective inve'stors thatyour strategy is one thingwhile you are doing
another is, quite blatantly, fraud.
Moreover, there is a fundamentaldifference between an 'investment strategyand an
"investmentlimitation" such as the 5% limitation. If "investment limitations"could be changed
at will, then they really would not be limitations at all. See Ro�hester Funds Group Sec. Litig., .. 838 F. Supp.2d 1148, 1171-72 (D. Colo. 2012) (rejectingdefendants' interpretationof the
limitation, stating that such an interpretation would "convey[] no meaningfulinformation and
certainly no meaningfulassurances to prospective investors. Yet.the statements clearly suggest
that something real is being warranted").
48 3. Reliance on Counsel
During the hearing and to some extent in their papers on appeal, Respondents claimed
that the materials sent to investors (including the PPMs and the promotional materials) were reviewed by counsel. Because they claim to have relied on counsel's advice, they argue that they
did not have the necessaryscienter to violate the securities laws. Respondents, however, assertedthe attorney client privilegeduring the investigationas groundsfor withholding documents and, therefore, cannotnow assert theattorney client privilege as a defenseor as a mitigating factor.21
Even if their assert�on of the privilege does not preclude themfrom arguing reliance on counsel, it ·is clear that Respondents have not met their·burden. Inconsidering whether to credit an advice of counsel claim, theCommission consid ers fourelements: "that theperson made complete disclosure to counsel, sought advice on thelegality of the intended conduct, received advice that the intended conduct was legal, and relied in good faithon counsel's advice."
Howard Brett Berger,2008 SEC LEXIS 3141, *38 (Commission Op.,Nov. 14, 2008),pet.for review den., 347 F. App'x 692 (2d Cir. 2009), cert denied, 559 U.S. 1102 (2010). In Berger, the
Commission described the evidentiary burden that a respondent must meet in orderto assert reliance on counsel:
We believe that therespondent asserting such reliance must providesufficient evidence to the body making the sanction determinationthat the respondent made fulldisclosure to counsel, appropriatelysought to obtain relevant legal advice, obtained it, and then reasonably relied on the advice. Courtsconsider it important that "the advice of counsel [the client] received was based on a fulland complete
21 SEC v. Wyly, 2011 U.S. Dist. LEXIS 87660, *5-6 (S.D.N.Y. July 27,2011) ("A client who claims that he acted on advice of counsel cannot use the privilegeto prevent inquiry intothe communications that the client and lawyer had about that advice. Thereis a compelling notion thatthe adversary"cannot be stonewalled by the simultaneous assertionof the [advice of counsel] defenseand the privilege.'' Put another way, the attorney-client privilege can be used to shield infonnation,but it cannot be used as a sword against the adversary.")
49 disclosure." Further, it "isn't possible to make out" an advice-of-counsel claim "without producing the actual advice froman actual lawyer." The Seventh Circuit rejected a defendant's argument that "reliance on advice of counsel exculpates his conduct" because the defendant "offerednothing more than his say-so." The court noted that "[h]e did not produce any letter froma securities lawyer giving advice that reflectedknowledge of all materialfacts; he did not produce any opinion letter, period. Nor did [he] offerthe live testimony of any sequritieslawyer." Id. at *40; see also DavidHenry Disraeli, 2007 SEC LEXIS 3015, *30 (Commission Op. Dec.
21, 2007) (rejecting reliance on counsel defensewhere "[t]he record contains no evidence that
Disraeli made complete disclosures to counsel regarding his use of the offeringproceeds, that he received advice that his conduct wshieas legal, and that he relied o� any advice in good faith despite knowing that he did not intend to use the proceeds of theoffering as described in either. the October Memorandum or the December-Memorandum.'');Rockies Fund, Inc., 2003 SEC
LEXIS 2361, *72 (Commission Op., Oct. 2, 2003) ("As forthe Fund's reliance on counsel,
Respondents profferedno evidence that they asked forany advice or received a legal opinion about the propriety of particular actions"). Respondentsin this case have not made the proper evidenti� showing. They have not describedwhat legal advice theysought. Theyhave not described what they told their attorneysor what their attorneys told them. And they have not demonstratedthat theyfollowed their attorneys'advice. Jarkesy's bare assertionthat counsel drafted the documents or that he relied on theadvice of counsel is not sufficientto meet their burdenof proof.
III. The Division's Arguments on Appeal: Disgorgement, Penalties and an Accounting
., Whilethe Commission should uphold the AIJ'sfactual findingsand legal conclusions, the
Division respectfullyrequests that the Commission modifythe ID with respect to the some of the sanctions and remedies. Specifically, the Division believes that the AIJerred in calculating the appropriate amount of disgorgement and set a penalty that was far too low given the egregious
50 natureof the conduct at issue. Finally, the Division also believes the ALJerred in concluding
that she had no legal authorityto orderan accounting. The legal authorityfor such remedy is clear;and an accounting is warrantedin thiscase.
A. Sanctions Against the Respondents Are Appropriate and in the Public Interest
As the ALJ discussed, in weighingappropriate sanctions the Commissionconsiders such factorsas: "the egregiousness of the defendant's_actions, the isolated or recurrentnature of the infraction,the degree of scienter involved, the sincerityof the defendant'� assurancesagainst futureviolations, thedefendant's recognition ofthe wrongfulnature ofhis conduct, and the likelih9od that the defendant'soccupation will present opportunitiesfor future violations." ID at
30 (citing Steadman v. SEC, 603 F.2d 1125, 1140 (5th Cir. 1979) (quoting SEC v. Blatt, 583 F.2d
1325, 1334 n.29 (5th Cir._1978))). "The Commission also considersthe age of the violation and thedegree of harmto investors and the marketplace resulting fro�the violation." Id. (citing
Marshall E. Melton, Exchange Act Rel. No. 48228, 2003 SEC LEXIS 17 67, *4-5 (July 25,
2003)). "Additionally, theCommission considersthe extent to which the sanction will have a deterrent effect." Id. (citingSchield Mgmt. Co., 2006 SEC LEXIS 195, *35-36 & n.46 (Jan. 31;
2006)). "As the Commission has often emphasized, the public interest determinationextends .to the public-at-large, thewelfare of investors as a class, and standards of conduct in the securities business generally." Id. (citing Christopher A. Lowry, Investment Company Act Rel. No. 2052,
2002 SEC LEXIS 2346, *20 (Aug. 30, 2002), affd, 340 F.3d 501 (8th Cir. 2003); ArthurLipper
Corp.,Exchange Act Rel. No. 11773, 1975 SEC LEXIS 527, *52 (Oct. 24, 1975)).
Based on these factors, and the ALJ's factual findingssupported by the record,
Respondents should receive the most severe sanctions available. Since 2007, when Jarkesy created JTCM and Fund I, the Respondents continuously and willfullyhave perpetrated a fraud
51 on some 120 investors, squandering approximately $24 million of investor assets. See ID at 8-
24, 28-29, 31 (and citations to the record therein). The record is replete with evidence of the
Respondents' intent to defraud: theymade material misrepresentations or omissions regarding, among other things, theFunds' invesbnent strategy, equity investments, insurance hedge, portfoliovaluations, service providers, and relationshipwith John ThomasFinancial, Inc. and its chief executive officer, Anastasios "Tommy''Belesis. ID at 28-29. To thisday, the Respondents continueto operate the Funds, thus continuing thefraud even as the Commission weighsthis appeal. See ID at 22; DX 247 (distributionof near-worthless, restrictedshares in October 2013).
In theface of a wealth ofevidence against him and JTCM, Jarkesy steadfastlydenies any wrongdoing and has given no assurance againstfuture violations. Any such assuranceswould not be believable, in any event; his credibilitywas given no weight by the ALJ,who observedhis evasiveness and mendacityfirst hand during thehearing. ID at 10-11 (noting that he claimed "I don't recall," or a variant thereof, more than800 times). Finally, Jarkesy's continuedactivity in the securities industrypresents robust opportunityfor him to violate the securities laws again in the future: he is chainnan ofthe National Eagles & Angels Association,a small business organization dedicated to "creating a climate where theAmerican business owner can soarin the current market," according to its website, www.eagleandangel.com. See Tr. 1295: 16-17
(Jarkesy).
Thus, the fullestpanoply ofthe most severe sanctions is appropriate and in the public interest to deter the Respondents' conduct, to deter similar conduct oflike-minded violators, and to protect investorsand the integrity of thesecurities industry generally. See Schield Mgmt. Co.,
2006 SEC LEXIS 195 at *35-36 & n.46; Christopher A. Lowry, 2002 SEC LEXIS 2346 at *20;
Arthur Lipper Corp., 1975 SEC LEXIS 527 at *52.
52 B. The Applicable Statutory Provisions Authorize the Commission To Penalize the Respondents forEach Act or Omission That Constitutesa Violation of the Federal Securities Laws
Under Section 8A of the Securities Act, Section 21B of the Exchange Act, Section 9(d) of the Company� ct and Section 203(i) of the Advisers Act, the Commission may impose civil penalties if it finds,on therecord and afternotice an d opportunity forhearing, thata person has willfullyviolated any provisionof the SecuritiesAct, the Exchange Act or the Advisers Act. In considering whether a penalty is in the public interest, the Commission considers various factors including fraud,ha rmto others, unjust enrichment, and previous violations. Section21B(c) of the Exchange Act; Section 9{d){3) of the Company Act; Section 203{i)(3) of the Advisers Act.
The statutes specifypenalties up to the maximum amount "foreach act or omission" in violation of thefederal securitieslaws. Section8A{g)(2) of the SecuritiesAct; Section 21B(b) of the
Exc�ange Act; Section 9(d)(2) of the Investment Company Act; Section 203(i)(2) of the
AdvisersAct.
Consistent with the plain language of these statutes,respondents in numerous
Commission actionshave been penalized foreach violation of the federal securities laws. See e.g., Steven E. Muth, Initial Decis�on Rel. No. 262, 2004 SEC LEXIS 2320, at * 118 (Oct. 8,
2004) (statingstatutory maximum "is not an overall limitation, but a limitation per violation.").
For example, in Mark David Anderson the Commission imposed ninety-six penalties against a respondent, one for each of ninety-six trades in which he charged customers an undisclosed markupor markdown. SecuritiesAct Rel. No. 8265, Exchange Act Rel No. 48352, 2003 SEC
LEXIS 1935, at *39-40 (Aug. 15, 2003). Accord, Kevin H Goldstein, Initial Decision Rel. No.
243, 2004 SEC LEXIS 87, at *52 (Jan. 16, 2004) (finding in fraudulentoffering of securities that each fraudulent misrepresentation to each investor constituted a separate act or omission); J.W.
53 Barclay & Co., Initial Decision Rel. No. 239, 2003 SEC LEXIS 2529, at *114-115 (Oct. 23,
2003) (holding that each unauthorized trade and each unsuitable transaction constituted a separate act or omission); Robert G. Weeks, InitialDecision Rel. No. 199, 2002 SEC LEXIS 268, at *177 (Feb. 4, 2002) (finding a separate act or omission foreach misrepresentationmailed to each shareholder, each sale of unregistered securities, and each failure to file required reports), affd, SecuritiesAct Rel. No. 8313, Exchange Act Rel. No. 48684, 2003 SEC LEXIS 2572 (Oct.
23, 2003). Federal courts also have imposed multiple penalties based on a per-violation sanction. See, e.g., United States v. Reader's Digest Ass 'n., 662 F.2d 955, 966-67 qd Cir. 1981)
(holding thateach individual mailing constituted a separate violation); SEC v. Ramoil Mgmt..,
Ltd., 2007 U.S. Dist. LEXIS 79581, at *35 (S.D.N.Y. Oct. 25, 2007) (penalizing defendant for each false documenthe filedwith th� Commission under each statute that the false filings violated).
In this proceeding, the evidence indicates that the Respondents' violativeactivities began in or about 2007 and are ongoing, as they continue t� manage the two Funds and purport to be winding down the older Fund's operations. See ID at 8, 20 (and record evidence cited therein);
DX 247 (distributionof near-worthless, restrictedshares in October 2013). The ID details the
Respondents' material misrepresentations and omissions to 120 investors duringthe life of the
Funds. ID at 8-24. In considering whether penalizing the Respondents was in the public interest, the AIJ' foundthere were no "mitigating factorsand several aggravating factors," including their "reckless disregard of a regulatory requirement," the "millions of dollarsof losses" they visited on investors, and "the abuse of the fiduciary duty owned by investment advisers." ID at 32. She found that penalties were appropriate due to the Respondents' "fraud, harm to others, urijust enrichment and the need for deterrence." ID at 32.
54 Yet, aftermeticulously chronicling the Respondents' fraud,and acknowledging that substantial penalties were in the public interest, the AU paradoxically concluded the
Respondents had committedonly three violative acts arising froin misstatementsand omissions relating to (1) the lifesettlement component of the Funds' investments,(2) the corporate investmentcomponent, and(3) their relationship with JTF/Belesis. IDat 32-33. She viewed
JTCM as Jarkesy'salter ego and ordered a joint and several third-tierpe1:1alty of $450,000. ID at
33. Such scantpenalty is inconsistent with the AU's findingsoffacfand public.interest analysis, as well as the statutorylanguage and precedent forpenalizing wrongdoersper violation.
Instead,the Respondentsshould be penalized separately foreach of the 120 investors they willfullyharmed - and continue harming- by their materialmisrepresentations and omissions. Maximum third-tier penaltiesare appropriate due to theirfraud and deceit that directly or indirectly resulted in substantial losses to investors andsubstantial gains to themselves. See Section 8A(g)(2)(C) of theSecurities Act; Section 21B(b)(3) of theExchange
Act; Section 9(d)(2)(C) of theCompany Act; Section203(i)(2)(C) of the Advisers Act. The
Respondents' violationsare ongoing foras long as theFunds exist, and thus theinflationary adjustmentfor post-2013 penalties is appropriate. See 17 C.F.R. § 201.1005.
The maximum, inflation-adjusted, third-tierpenalty fora naturalperson such as Jarkesy, is $160,000 per violation. See 17 C.F.R. § 201.1005, Table V to Subpart E (reflectinginflation adjustmen�s forconduct afterMar. 5, 2013). For a violator otherthan a natural person,such as
JTCM, the maximum inflation-adjusted,third-tier penalty is $500,000. See id. Thus, calculating maximum, inflation-adjusted,third-tier penaltiesbased on each of the 120 harmedinvestors,
Jarkesy's penalty could be as high as $19.2 million and JTCM's penalty could be as high as $60 million.
55 Alternatively,the Commission appropriately may penalize theRespondents foreach of the twenty-twomisstatements or omissions detailed in the record. Those include thefollowing:
■ From the Respondents'PPM and Limited PartnershipAgreements: (1) the Funds would purchase insurance policies with facevalue of 117% of the investor capital; (2) half of all investor capital would be usedto purchase the insurance policies or would be set aside and segregatedto pay premiums; (3) Respondentswould mitigate life expectancyrisk; (4) the insurance policieswould be transferredto the Master Trust; ( 5) thetotal investmentof the partnershipin any one company at anyone time would not exceed 5% of the aggregate capital co�tments; (6) the generalpartner,.JTCM, would utilize good faith; (7) fair value would be used to value securitieswhere no market quotationwas readily available; (8) theFunds' financial statementswould be preparedaccording to GAAP;and (9) managementof the partnershipwould be vestedexclusively in the General Partner. See DX 206, 210.
■ From the Respondents' marketingmaterials and investor updates: (I 0) KPMG was the auditor forthe Funds; (I 1) Deutsche Bankwas the pri�e broker forthe Funds; (12) insurance policieswould be purchasedfrom AA ratedinsurance companies; (13) Fund I had purchased fourteenpolicies fromfourteen separate insurancecompanies; (14) the bridge loans were be
"collateralized"; and( 15) valuationsof the Funds' assets would be conseivative. See DX 211,
214-222, 224,248.
■ From the Respondents' website, (16) that JTF did not m�nage, direct, or make any decisions forthe Funds. See DX 502.
■ From the Respondents' fraudulentvaluation of many of the Funds' portfoliopositions, including: (17) the lifeinsurance policies, which Respondents valued using a 12% discount rate instead of the appropriate 15% discount rate; (18) the restricted stock, which Respondentsvalued
56 at thesame priceas free-tradingstock; (19) the notes of AmericaWest and Galaxy,which
Respondents valued at par notwithstandingthat thenotes were in default; {20) the shares of
Radiant and AmericaWest, which Respondents valued based upon promotional activitiesthey
paid forwith money from the Funds; (21) theRadiant warrants,which Respondents valued at an
Elfbitraryprice bearing-no relationship to the market price; and (22) theshares of portfolio
companies like Galaxy and America West,which Respondents oveivalued,given the poor
finan�ialcondition of thosecompanies. See DX 220,301,303,305,306(p), 306{d), 307(a),308-
. 312,333,425,447,455,600, 618-619, 647; Div's ProposedFindings ofFact Conclusions of
Law at�� 68-71 {and citationsto the record therein)..
Using thisalternative calculation based on the twenty-twomisrepresentations and
omissions in therecord, the Commission could impos� an appropriate,inflation-adjusted, third
tier, per violationpenalty against J arkesy of $3.52 million and against JTCM of$11 million.
The AU foundthat the Respondents managed approximately$24 million of investor money. ID
at 8. Thus, dombined penalties of$14.52 million based on thetwenty-two incidents of material
misrepresent_ations and omissions still would amount to·a fractionof the investor assets thatthe
Respondents managed - and lost - through their fraud,deception, and violativeconduct.
C. Disgorgement Should Include Incentive Fees of More than $123,000
The Respondents should be ord�red to disgorge all ill-gotten gains in the evidentiary
record,including $1, 278,597 in management feesand $123,338.38 in incentive fees, fora total
disgorgement of$1,401,935.38. See DX 309 (bank account spreadsheet),DX315-318 (audited
financialstatements). In concluding there was no recordevidence of incentive fees,the AU
overlookedDivision's Exhibit 309. ID at 15 n.19.
57 As theALJ noted, the Commission may orderdisgorgement of ill-gotten gains pursuant
to Section 8A(e) of the SecuritiesAct, Section21B(e) and 21C(e) of theEx change Act, Section
9(e) of the Company Act and Section 203(j)of the Advisers Act. Disgorgement is an equitable
remedy designed to strip violators of wrongfully obtained profitsand returnthem to their
financialposition beforethe violations. IDat 31 (citing SEC v. First CityFin. Corp., 890 F.2d
th 1215, 1230-32 (D.C. Cir. 1989); Hateley v. SEC, 8 F.3d 653, 655-56 (9 Cir. 1993)).
Disgorgement need n?t be exact, but only a reasonable approximationof profits causally
connected tothe violations. Id. ( citing, inter alia, Laurie Jones Canady, Exchange Act Rel.
41250, 1999 SEC LEXIS 669, *38 n.35 (Apr. 5, 1999)). Managementand incentive fees
appropriately are disgorged where they constitute ill-gotten gains generatedfrom violative
activities. Id. (internalcitations omitted).
The ALJordered disgorgementof $1,278,597 in management fees,based on her
summing up the �anagement fees forboth Funds. ID at 15 (citing DX 315-318). She indicated
that while incentive feeswere referencedin the record, "thereis no evidence that establishes the
amount, if any, of incentivefees actuallypaid." ID at 15 n.19. However, the ALJ overlookedat
least $123,338 ..38 of incentivefees from2010 that are part of the record. See DX 309 at 2 (bates
JTBOF 06903, $63,338.38 incentivefee on 2/3/2010), 8 (bates JTBOF 06837, $20,000 incentive fee on 8/9/2010; $10,000 partial incentive feeon 8/18/2010), 10 (bates JTBOF 07058, $30,000 quarterlyincentive feeon 11/12/2010).
Inasmuch as Respondents should disgorge the management feesthey earnedfrom their fraudulentactivities, they also should disgorge ill-gotten incentive feesand prejudgment interest thereon. The disgorgement that the ALJ ordered should be enhanced to include the $123,338.38 in incentive fees, fortotal disgorgement of no less than $1,401,935.38, plus prejudgment interest,
58 which is a reasonable approximation of Respondents' wrongfulearnings. See First CityFin.
Corp, 890 F.2d at 1230-32; Hate/ey, 8F.3d at 65?-56; Canady, 1999 SEC LEXIS 669 at *�8 n.35.
D. An Accounting Should Be Ordered to Quantifyand Safeguard Investor Assets
The Division sought an accounting of JTCM's operations and investments, but the ALJ declined to order one forwant of detail andauthorio/. ID at 32 n.39. This was in error.· An accounting is explicitly authorizedby statute and warrantedwhere, as here,approximately $30 million of investor money is unaccounted for.
The ALJ foundthat the Respondents managed $24 million of investor assets which, at. the
Funds' height,·was worth as much as $30 million, ID at 8, 31, but the current value of investors' assets is unlmown. The Respondents have given conflictingstatements of the currentvalue of investmentsthey manage. Jarkesy testifiedat the administrativehearing that he could neither identifynor quantifythe Funds' assets. Tr. 63:15-16 (Jarkesy testimony, Feb. 3, 2014). Yet six days earlier, he had filed a complaint in United StatesDistrict Court forthe District of Columbia, wherehe was seeking emergency and declaratory relief to halt the administrativeproceeding, claiming the Funds' then-current value was approximately$15 million. Compl. at 111, Jarkesy v. SEC, 1:14-cv-00114-BAH (D. D.C. Jan. 29, 2014).
Investors who testifiedat the administrativehearing in the springof 2014 also were mystifiedby the value of their investmentin the Respondents' Funds. Tr. 747:3-5 (Benkovsky, unaware of value of his investment); Tr. 822:24-823:3 (Beam, "[n]ot a clue'' as to value of his investment). And whileJarkesy testifiedhe was in the midst of obtaining an accounting, none has been rendered and/or shared with the Commission staff. See Tr. 63: 17-24 (Jarkesy).
59 Respondents have been careless in accountingfor investor money foryears. Partnership agreements forthe Funds they manage require annual auditing and GAAP-compliant financial statements,but none has been done since theend of 2010. See DX 206 at 44 (Fund I private placement memorandum, annual audit provision), DX 210 at 14 (FundII private placement· memorandum,annual audit provision), DX 317-318 (Funds' audited financialstatem ents for year ended Dec. 31, 20 I 0). Thus, for more than fouryears, Respondents have managedsome unknownamount of investor assets without any assurance that the assets have not been wasted, dissipated or misused forimproper purposes.
The authorityto order an accountingis explicit in Section 8A(e) of the SecuritiesAct,
Sections 21B(e) and 21C(e) of the Exchange Act, Section9(e) of the CompanyAct, and Sections
203G) and 203(k)(5) of the Advisers Act. Based on this, the Commission should order an accoun�ingthat, at minimum, (1) lists the currentassets of the Funds and their fair value pursuant to GAAP; (2) li�ts thedates that all otherportfolio positions were sold, distributed,or otherwise ceased to be in the Fundsand the sale price (if those positions were, in fact,sold); and (3) lists all disbursements of cash by the Funds. Such accounting would provide reasonable assurance as to the whereabouts of millions of investor dollars, would help ensurethe safetyof anyremaining investor assets, and could provide evidence of furtherdisgorgement to be required of the
Respondents. The statutorily authorizedaccounting should be ordered.
60 CONCLUSION
For the reasons 1set forth herein, the Commission should deny Respondents' various constitutional, due process, and equal protection challenges, affirm the ALJ's factual findings and conclusions of law, but modifythe remedies and sanction imposed by the ALJ.
Dated: As of March 13, 2015 New York, New York
DMSION OF ENFORCE:tvIBNT
Todd D. Brody Alix Biel Securities and Exchange Commission New York Regional Office 200 Vesey Street, 4th Floor New York, New YoFk 10281 Tel: 212.336.0080 Email: [email protected]
CERTIFICATE OF COMPLIANCE
I hereby certifythat the text of the foregoing Division's Brief contains no more than 21,000 words as reported by the word processing system on which it was prepared, including footnotes and citations, and excluding the table of contents, table of authorities, the certificates of counsel, and attached Appendix (spreadsheet), in compliance with the Commission's Rule of Practice 450(d), 17 C.F.R. § 201.450(d) and the Commission's Ex.tension Order issued March 3, 2015. 7 By:_�__ -_ _7__ _ Alix Biel, Esq.
61 DIVISION'S APPENDIX
:. . :,,In, ALJ's Ac111al Factual Findines Respondent'sCharacterization ofFindinp ALJ's Cl«ations Citation to the Division's Respondent's Noles Proposed Flndinpor Fact Citations In Support {"DFPOP")or OtherRecord or their Proposed Support Excc:pticn1
26 Eventually, America West came to believethatJTP was an affiliate:of the TheAU crroncouslyconcluded that an undisclosed Tr. 654-65, 688-93; Div.Ex. 346 at 72. DPPOPfll51-lS2. In RX-327,Tr. 558, 657- Thefocus of Respondents'exception appears to be Funds. Walker was shockedin early 2012 when a JTFrcpreseniativc: told relationshipexists between Rc:spondelllS and thesettled addition,Jarkesy was helping 658, 666, 688-694; thatAmerica W estwas never able to confirm that him it was unnecessaryfor Jarkcsy to panicipate in a conference callrelated respondents,John ThemasFinancial ("JTP) and to promoteJlFs investment Respondent'sProposed thisrelationship between Jarkcsy and Bclcsis/JTP to the Funds' inves1mcnts in AmericaWest becauseh e could speak for AnastasiosBelcsis ("Belcsis"). Initial Decision 16. This !>wingbusiness, another Findingsof Fact existed. AmericaWest, however, believedthis J:irkesyand. in fact. JTF :indJarkesy werepartners in ihisand ether findingis not supportedby cn:dibleevidence and ignores wufiscloscdrclationsip. ("RPFoF"),1111 lSl-52. relationshipexisted sufficiently to make the public invcsrnientsand "arc ricd al the hip.� contradiCIOryevidence that they acted indepcndenlly. DPPOPfl 139-42. Finally, disclosure. DX-346. Moreover,Alexander Respondentsdid not disclose Wlllkcror AmericaWest testified that he gave the�ntrol that they had Jarkcsythe opportunity to addrcu whatthe JTP delegatedto Bclcsis/JTF representativehad told him but Jarkcsydid not concerningGalaxy. DPPOPff addressit directlyand said thatthey would just 153-55. haveto move on. Tr. 660-61•
.. 27 In his tcstin1ony.Jarkay indicatedthat his selectionof theJohn Thomas TheALJ erroneously concluded that the selectionor the Tr. 74 IRX-327,p.4; Tr. 74. Thisfactual finding of theAU, evenif erroneous, nam1:was serendipitous. name for John ThomasFinancial was serendipitous. hadno bearingon thedecision and. as such, was InitialDecision 9. This &tidingmischalllctcrizes th e lwmlcssenor. evidenceand ignores contradictory evidence.
2S Belcsis and Jarkcsy becameacquainted in .2003. At thehearing Jarkcsy The ALJerroneously concluded thatBclcsis and Jarkcsy Tr. 2515•21 RX-327.p. I: Tr. 74- Jarkcyinitially 1cstified in responseto questions denied 1ha1 at was 2003when he bcQmcacquainted with Bclcsis,but did becameacquainted in 2003.AU further erroneously 1S, 2514-2521. from theDivision thathe didnot recallwhen he notprovide an alternate date. Thereason for this is nol apparent from lhe concluded in a footnotethat Jarkc:sy denied that date but md Bclcsis. Tr. 74. Whenquestioned by his record did not providean ahm1atc date. InitialDecision 8. This attorneys,he wasasked to readinto the recordhis findingmischaract:rizc:s the evidence and ignoresand investigativetestimony where he had staledthat he excludedconuadictory evidence of thecorrect dat: metBelcsis in 2003or 2004 in connectionwith offeredby Respondents. theOpcxa financing. Tr. 2516. This1cs1imony is consistentwith the ALJ's factual findingtha t JarkcsyandBclesis met in 2003.Even if the factualfinding was erroneous. however, it had no bearingon the decisionand. as such, washarmless CJJ0r, 29 Belcsis rcinforced his position in the relationship through threats 10 slop l11eAU erroneouslyconcluded that Belcsis reinforced Div.Ex. 631 (Mar,12, 2009,cmailfrom DPPOP11136. RX-327,p. 3-5; Tr. Noneor Respondents'cilations concern Bclcsis' sellini;intercslS in JarkcS)'·s Funds. his position in 1he relationshipthrough thrcalS to stop Bclcsis10 Jarkcsy: "our relationship 558, 657-658,666, 688- lhrcalSto slop selling Fund interests,which was selling interestsin Jarkcs)"sFunds. Initial Decision 10. basedon youractions is slowlycoming 694, 2659-2660, 2702- directly cstiblished by the documents. In addition, This findingn1ischarac1c:rius the evidenceand ignores to anend"), Div. Ex.643 (Aug. 21, 2010, 2703, 2708-2709, 2760- thevast majority of thetestimony cited is the not contradictoryevidence. email fromJTF to JTCM:"Pc:r Tomm y. 2761; RPFoF,1111 JSI. credibletestimony of Jarkesy tha1there was no ..(t)hcre will no longer beany funds 52. undisclosed relationshipand thathe did not fromJohn Thomas Financial clients into delegateaulhorityto Belcsis and JTF. the bridge fund."). No. AW'r Actnal Fact1111lFindini:s Respondent's Ch11ractuiz:itlonof Flndinp ALJ's Citations Citation to the Division's Respondent's Notes ProposedFindlnp of Fact Citationsin Support ("DFPOP")or Other Record of their Proposed Support Exceptions
JO He (Jarkcsy) i;encr:illytestified in an evasive manner thatdid not provide The AU erroneously concluded that Jarkcsy testifiedin Tr. 87, 160, 122-23, 18S, 1184. Division's Pest-Hu.ring Tr. 2689--2690. Respondents'citation to therecord is to a any assurancesof the rcliabi lityof his testimony. Thus. no wcisht has been an ev:isivemanner that did not provideany a.ssur.ancesof Memorandum of Lawa! p. 1•2. comment made by the ALJthat she noticed that p I.iced011 his teslim 01,yas lo factsthat arc disputed or not corroborated by the reliabilityof his testimony.Initial DecisionI 0, These Jarkesy wasable to answera questionasked by his credible evidenceclswhCl'e in the rec4rd. In the courseof his testimony, findings mischaractcrizeJarkcsy' s testimony. ownattorney but wasunable to answer the SAme J:irkesy responded, "I don't recall"or :ivar�nt of that phrasemore than 800 question when askedby the Division. limes, including to such questionsos: "what is restricted stock?": "what is Respondentsfail IO provide any citations lo the your understandingof what insrituiion:ilinvestors arc?":"if the fund had recordthat undermine the ALJ's credibility more than S percent in one company, it wouldn't be diversified?";"(d)o you determinationregarding Jarkcsy, think lh:itthe additionof the term restricted makes that a different company?.. : and .. (d]id you havediscussions with John ThomasFinancial :ibouthow they weregoing to find investorsfor the fundr
JI While Jarkcsyevaded a large portionof the Division's questions,his TheAU erroneouslyconcluded that while Jarkcsy Tr. 2780-2818,Tr. 26S8-2779. Division'sPost-Hearing Tr. 2689-2690. Rcspondcnls'citation to the record is to a recollection m;irl.edlyimproved when questionedby his owncounsel. evadeda largeportion of the Division'squestions. his MemorandumorLaw at p. 1-2. commentmade by the ALJthat she noticed that Jarkesy's participRtionin the hearing on March 7, 2014, illustrates this. For recollectionmancedly improved when questionedby his Jarkcsywas able to 1111swerII question asked by his the majorityof that hearinu day(approximately 120 transcript pages), owncounsel. Initial Decision 11. Thisfinding ownattarney but wasunable to answer the same Jane esy's counsel conducted direct examinationof him, during which mischaracterizesJarkesys testimony, quesclonwhen askedby theDivision. Jarkcsyused the phr:ise"I don't recalror somethingsimilar about twenty- Rcspondenlsfail to provide any citationsto the fivelimes. while othenviseproviding substantive answers to his counsel's recordthat underminethe ALJ's credibility questions. When the Division cross-examinedJarkcsy, however, he determinationregarding Jarkcsy. responded to questions. with "I don't recall"or somethingsimilar overforty timesin a significantlyshorter period (less than twentytranscript pages) of questioning. For e,cample.among the Division'sfirst questions on cross- examinationwas "the bridge loans, those were high risk?." to whichhe answered, "I don't recallall the bridge loans, how were theydone. The Division's next question,"(t]hc privateplacements, those werehigh risk?,• w.1sanswered with "I don't recall1h11 privalc placements. Jarkcsy further underminedhis credibilityby disclaimingresponsibility for representations about the Funds made in PPMs, financialstatements, marketing materials, and newslctu:rsas disc11SSed below. No. AW's Ach1al Fattm1l Findines Respondent's CbanictcrizatlonorFindinp ALJ's Citations Citation to the Division's Respondent'• Notes ProposedFindines of Fact Citationsin Support ("DFPOP")or Other Record or their Proposed Support E:i:ccpfions
32 The Funds' PPMs and marketing materialscontained various TheAU C1Toncously concluded that some of the DFPOPat1111 ll-30,4J-51. RX-I,RX-2, RX-3, RX, Respondents' primary argument appears to be that representationsabout the Fundsand JTCM/Jatkesy's plans for managing representationsin themaiketing materials may have 316,RX-321,RX-322, theywere authorized to chan;e the strategyof the them. Some of the representations thatmay have beenaccurate when the accurate when the documents were firstused became RX-323,RX 324, RX· Fundsand lo changeprofessionals. The fallacyo( documentswere firstused became inaccurateand werenot corrected. inaccurateand were not corrected.The ALJ further 32S,RX-326. lhisargument is thatthrough 2010, Respondents Respondentsari;,uc that the Division· did not prove !NIFund l's June I, erroneouslystates that Respondents argue that the continuedto representthat the strategyin the PPM 2007 PPM (as amended on Aui;ust21, 2007 ... ) andfund Jl's FebrmryS, Division didnot prove thatthe private placement wasin fact thestratcGY emploYcd. Respondents 2209. PPM wereused withoutahcration in selling inicrcstsin the Funds memorandawere used without alteration throughout the continually represented throughout the life of the throughout the time at issue. However,Respondents. who arc in thebest time at issue.However, Respondents, who arc in thebest Fundsthat they were investing half' o f the money position 10 know of any successor PPM amendments.did nol offerevidence positionto knowof anysuccessor PP M amendments,did in insurancepolicies and that they had purchased of any changes. Accordin;ly, it is foundthat Fund I's June I, 2007, PPM, not offercvidcnc:e of any changes.The ALJ further policieswith f'acevalue of al least117% of capital as amended on August21, 2007, and fundO's FebruaryS, 2009, PPM aroneouslyfound thal the private placement memoranda invested. See,e.g. , DX 260 (March2009); DX were used without further amendmentsin scllini:interests in the Funds wereused without further amendments in sellinginterests 220 (May2009); DX 262 (June 2009);DX-6 37 during the time 111issue. in the Fundsduring the time in issue.Initial Decision 11. (July 2009);DX 221(March 2010); DX 259 (June Theseerroneous findings mischar.ictcriz.c the cvidcnco- 2010); DX 248 (August2010). During the includingexpress authority to changeprofessionals, podcast, Respondents cmphalically reiterated the businessplan and assetmix-and Respondents' legal 117%coverage requirement MOur charter obligations and theapplicable burden and standardof required that we have 117 percent of the value of proof. OUtinvestor cash in facevalue life settlement policies. We do this not to make monr:y. We do ii,because lit the end of theFund, we wantour investorsto have someassurance that they get theirmoney back." DX-203 at 3. Likewise, Respondentsrepeated that they were limitedto a 5% investmentin a single company. DX-214; DX 215; DX-216; DX-217; DX-2SB.
.3.3 Investors might be able to redeem their investments.but uponpotcnrial TheALJ erroneouslyeo�ludcd that investors might be Div.Ex. 206 at 20 ("you will nol beable DFPOP1!6S. RX-I,p . 16-S4,RX-2, Not only docsthe PPM providethat there mi;ht paymentof a penalty. Jarl:esywithdrew fromFund I SI 00,000less a able to redeemtheir investments,but uponpotential to withdrawyour investment from [Fund p. ii-iii, 12-JS; RX-3. potentiallybe a penaltyif an investortried to take $20,000 penaltyduring February2009 . paymentof a penalty.Initial Decision.Initial Decision12. I) without significantpenalty, if at all. moneyout of thefund, but Jarkcsy, himself',paid This conclusion miseharactcrizcsthe evidence, the SecLiquidity Risks.") 28; Div. Ex. a penaltywhen he withdrewSI00,000 from Fund writtenterms of the investment,relics on unreliable 210 at 28 ("During (the lock-up period), I. Evenif this factualfinding was erroneous,it is evidenceand ignores oontradictory evidence. LimitedPartners may not be able to a harmlesserror as it hlldno imp.1don the legal make any withdniwalsf'rom their Capital conclusionslhal Respondents violated the Accounts. Sec'Risk factors -- Risks ... securities bws. related to illiquidit)""'),Tr. 1330-35; Div. Ex.236 al 17 Div.Ex. 316 at 11, Div. Ex.6S9
JJ ln1·cslC1r Rohcrl fullh:irdll>clic;vcd that the Fund had IISe ptember 2012 The ALJ erroneouslyconcluded that investor Robert Tr. 710, 746, 1362. DFPOP 111!160-161. RX-I,DX-206 (P PM Jarkcsy repeatedly told investors lhalFund I was malunty d;sle I nvcstor S1.-ve Benko\-sky also believed 1ha1 1hc fond had a Fulhardt belie\'cd 1ha1 the Fund has IISeptember 2012 specifics Fund Ils a 10- designed10 wind up by September2012. DFPOP f1vc-yc;irdura1ion tha1would end in 20 I 2. maturityelate, and investorSteve Benkovskyalso yearfund with the ft160-161. Theserepresentations provided a believed 1ha1 the fund had a five-yearduration that would oPlion 10 extend the sufficientbasis for theinvcst01S lo believethat the end in :?012. Initial Decision 12. These findings fund by twoone-year f'undwould 1ermina1ein September 2012. Indeed. mischaratterizothe evidence-including the written terms extensionsat · in his investigativetestimony, Jarkesy testified that or lhe invcslmcnt•relyon unreliable evidenceand ignore Rcspond1111ts'option); the Fund would shut down and go into Jiquidiation eontradietoryevidence. Tr. 2513-2514; RPFoF, in September 2012. DX-122at 71: 1-72:6. 11160. Nn, ALJ's Ach1al Fnctu:11 Findincs Respondent'sChar 11cteriz.'llion or Findincs Al.J'sCitations Citation lo the Division's Respondent's Notes Proposed F'indinc, or Fact Citations in Support ("DFPOP")or Other Record or their Proposed Support Exceptions
3� In a podcastsent to investors on May 21. 2009(Podcast). Jarkesy explained TheALJ erroneouslyconcluded that in a podcastseat to Div. Ex. 203 at 21-22. Div. Ex.204 DFPOP1l9. RX-I,DX-20G, at cover Thepodcast transcript, stipulated:is 10 accuracy10 that SO% of capital invested would go into life settlements;of that SO%, investorson May21, 2009,Jarkesy explained that uses of iii, I 5-27; RPfoF. 19. bycounsel for Respondents,Tr. 210, isclear on its 30'% would be used ro buyt he policies,and theremaining 70%would be investmentcapilal by percentages. InitialDecision 13. face. Thetranscript was sent to lhe investors. DX ..set aside to pay premiums through the life expectancy." Thisconclusion mischanicterizcsthe evidence, relies on 204. Ulll'Clioble evidence, ignores coll!radic:toryevidence and misappliesthe h1w.
36 TI1ePPM for eachFund staledthat the Fundwould niake twotypeS of The ALJmoneously concluded that remaining portion of Div. Ex.206 at 7, 33-39, Div.Ex. 210 at DFPOP 11]11-12,18 RX-I,DX-206, at 3-4, Respondentsdo not contest thatthe PPMs for the investments:(I) investments in in-force life insurancepolicies with face funds afterlife insurancepolicies werebought was to go 12, SS•G2. 7, JO, 33; RPP'oF, 118 Fundsexplained how the moneywould be valuestolalini; 117% of theaggregate capital commitments and (2) shortto to mediumterm debt and equity in busiacsaenterprises. invested. Instead.they argue thatthe PPMs gave medium term debt and equityinvestments in businessenterprises ..•. The Initial Decision13. Thesefindings mischaracterize the RespondcnlS the authorityto change business PPMs describedJTCM' s plans to invest in a "Life Settlemc:11tPortfolio'" evidence-includingexpress authority to change business pl1111sand inVcSlmcntstrategies. Theproblem with and a --eorpora1ePonfolio. � Lire sc11lemcntrefers to the purchaseor planand assetmix-relics on unreliableevidence and lhisargument is that, as slatedabove, Respondents existing life.insur:mce policies al a discountto their face values. ignore materialother evidence. in marketing materialscontinued to representthat maintainingthem by payingthe premiums,and collecting when the insured thiswould be howthe funds would be invested. dies. The corporate portfoliowas to containVlll'ious And the Funds continuedto be sold pursuantto forms of debt and equityin companies. thePPMs, which describedthe investment strategy. 37 ThePPM for fund II did notprovide such numericaldetails. However. TheAU erroneouslyconcluded that thePPM for Fund n Div. Exs.224, 608, RX•I,p. 16-54;RX-2, Respondents'citation to RX-2and RX-3, which marl:e1ingmaterials for Fund II represented 11:i•tabout half of Fundn· s did not providesuch numerical details. However, p. ii-iii, 12-35; RX-3; arcdo=cnts for Fund I. is curious becausethe investment would be in insuran4:epolicies amounting lo at least1 17"/4 or marketing materials for Fundn representedthat about Tr.231-235, 350, 954- contested findingcon4:ems Fund II andnot Fund I. capital commitmentswith additionalfunds 10 securepayment or premiums, half of Fund D's investmentwould be in insurance 9SS. TheAlJ's factualtini:ling was correct ThePPM wi1h the:other half in corporate investments. policies amounting to at least 1170/4of capital forFund I specificallystated thatthe Fund would commitments wilh additional fundsto securepayment of purchaselife insurance policieswith a face value premiumswith the otherhalf ia corpo:ate invcstmcnlS. of 117% of the investedam011nt DX-20G at 29. Initial Decision14. These findings mischaraclerizethe In contrast,while the PPM for Fund II statedthat evidence. the wrinenterms of lheinvestment, rely on theFund would investin life insurancepolicies, unreliable evidence and ignorei:ontradictory evidence. the PPM did not provide the 1170/4 number. DX 210 at 47-48. The117 °/4 numberfor fund II only appearsin marketingmaterials. Similarly, lhe PPM for fund I stated that approximately 40% of moneyinvested would go into corporate investments,.DX-206 DI 33. ThePP M.for Fund II, while describingthe corporate poru'olio. did nol providethis percentage, DX 210 at 51-52. Respondents'citations to the transcriptdo not conltlldictthe AU's findingsin any way.
:IS Contr:uy to the represen1.,tionsin the Funds" PPMs and financialstatements The AU erroneouslyconcluded that contraryco the Tr. 2663 ("Thevalualions were provided Ex, DX-230; Tr. 286, Thetestimony cill!d byRespondents does not that JTCM set the valuations for the Funds· positio1u,Jarke� disclaimed representations in the Funds' PPMs andfinancial and checked byAlpha[M]ctrix. "); sec 288-290, 409-415, 420- counterthe AlJ's finding that Jarkscydiscl.aimcd responsibilityfor this, indicating that AlphaMetrix\'alucd the Funds" statementsthat JTCM setthe valuationsfor the Funds' also Tr. 1144(The auditors "coasidercd 422,2396. 2662- 2664; his rolein thevaluation process. Indeed,in their positions. Qucslions concerning valuation were directed toJarkesy or 10 his positions,Jarkcsy disclaimed responsibility tor this, AlphaMetrixpart of themanagement RPFoF, ,is1. response to the Division'sproposed findings of assistants Linda Ortizand Patty Villa. whorelayed Jarkesy's decisions. indicatingthat AlphaMetrix valued the Funds'posilions. ieam."). 2157 (Iailcesycmcribing fact,R!lspondents continue to assertthat the TI1eALJ made additionalerroneous conclusions AlphaMelrixas a valuationconsultant), administrator•infl uencedthe manner in which regardingwho participall!d in valuingassets and how Tr. 295,300.06, 428: Div. certain positions werevalued where no outside 11.SSets werevalued. Initial Decision IS. Thesefindings Exs. 329,330,333, validationexisted.• mischaraclcrize the evidence, rely on unreliable evidence and ignorematerial other evidence. No. AU's Admd F11rtunlFindings Respondent's Characterlz.1tlcn or Flndln1s ALJ'sCltAdon1 Cl:atlonto the Division's Respondent's Note, ProposedFindinp of Fact Citations inSupport ("DFPOP")or Other Record or their Proposed Support Exceptions
39 Investor updates and other marketing materialscreated byJarlcesy and The AU IN.deerroneous conclusions regarding the role Answerat t 6. Div.Exs. 220-224, DFPOP1127-29. Answer,H4, S9-61; RespondcnlSadmincd in theiranswer that KPMG JTCM bstwcen2008 and 2010 identifiedKPMG LLP(KPMG), among ofKPMGand Deutsche Bank and thercprcscniations 229A.248, Tr. p. 565. RX-316; RX-327, p. 4; wasnever cnaged to audit Fund I and, in fact, did others, as the auditor of Fund I, and other marketing materialsidentified aboutthem lo investors.Initial Decision I 5. These Tr. 2669-2672,2677- not audit FundJ. Consequently,any marketing KPMG as lhc auditor for bolh Funds through2010. However,KPMG neverfindings miscllaradaizc the evidence-including express 2688,27S9-2760; materialthat said that KPMG was theauditor for audited either Fund...•. J;irkcsyand JTCM' s marl:ctinsmaterials for the authorityto change professionalsand the businessplan• RFPoF, 157. Fund I was blatantlyfalse. KPMGwas also n1M1r Funds identified Deutsche Bank, amongothers, as the Funds' prime broker. rely onunreliable evidence and ignorematerial other qagcd to audit Fund D and neveraudited Fund Hl'WC\/Cr.Deutsche Bank neverbecame the Funds' prime broker. evidence. D, althoughKPMG may have beeneng11ged t � audit a Fundstnlctu:c that was ultimately scrapped. Assuch, any marketingmaterial that identifiedKPMG as theauditor for Fund n was also false. Thereis no evidencethat Deutsche Bank wasthe prime btolccrror either or lhc Funds.
JO TheFunds' PPMs and marlce1ing materialsconttincd various TheAU erroneouslyconcluded that some statements in Sec Responseto Exception 32 RX•I,RX•2, RX-3, RX Respondents in this casedid not produceany representations :iboul the Funds :ind JTCM/J;irkcsy'spl;in for managing thePPM may have been:iccurate when made, became above. 316, RX-324,RX-325. amendmentsto the PPMs outsideof DX-208, 1hc111. St'mcor the representationsthat may have beenaccurate when the inaccurateand remained uneorrcc!Cd.Initial Decision11. whichdid not concern anyof the representations documents were tirslused becanieinaccurate and not corrected. Thesefindinp mischaractcrizc the evidencc,.including at issue in thetimring. Fund interestscontinued to express authorityto changeprofessionals and the be sold throughat lcas120 I 0. Evenif the business plan-andmischaracterizc the law and duties statementsin thePPMs were accuratewhen applicable toRespondents. initiallymade, during later periods of rime, those statementswere Calsc. Respondents were not complyingwith the 5% investmentlimiiation or the 117"/4insurance converage requirement. Vet Respondentscontinued to sell Fund interests pursuantlo thosePPMs, which lhey knew did not accurate describe waswhat happening. The marketing materials containedmany of those same representations. 41 TheFunds" fmal'lcialstatements representedthat the assets were fair valued TheAU erroneously concluded that FinancialStatements Div. Ex. 315 at 9, Div.Ex. 3l6at 9, Div. DFPOP at flS2-56. RPFoF, 1 SS. ln Paragraph S S of theirproposed findings of fact. fll&rsuo1n1to Financial Acc1111nti11i;Standards Boord Sllltcment of Financial represented valuedaccording to FAS 157. Initial Ex. 317 al JTBOF6296, Div. Ex. 318 at RespondenlS concedethat the nolcs10 the Accounting St.and3rdsNo. 1S7 (FAS 157). cfl'eetiveJanuary I. 2008, Decision 14. Thisfinding mischaracterizcs the evidence, JTBOF6308 tinancialsta1cmcnts explicitly provided that lhcy relicson unreliable evidenceand ignoresmaterial other weregoing to be prepared accordinglo FAS 157. evidence. Thisis cx:ictly the ALJ'sfinding so it is uncle11ron what basis Respondents are challengingthe ALrs finding. 4� The \'alu.ittonof e.ich asset in the Funds' holdingsal each month-endwas 111cAU erroneously concludedlhal valuation or each Tr. 326-28,402-03; Div. Exs. 301. 303. DFPOP111 flS7-59. Tr. 175-180. 1199. In his testimony, Troy Golinghorslfrom the Fund �h11w11on eachFund�· holding pai;es. Each individual investor's share was assetin the Funds'holdin;s was listed on eachFunds' administratoridentified DX 30 I as the holdings c.1lc11l:itcd frl'mthe �i,:i,:rc11a1cvaluation shown on the holdini;spa;es. holdingspai;cs. and that each investots sharewas pagesfor Fund I for various pointsin time.and he c:alculo11tedfrom those holdins pages. Initial Decision 14- explainedhow thisinformation made itsway into I S. Thesefindings mischaracteri.z.c lhe evidence,rely on eachindivid1111I invcslor's account statements. Tr. unreliable evidence:ind ignore rmtcrial other evidence. 326-28. Thelcsrimony cited by Respondents in supportof their proposed exceptionsis Jarkesy denyingany knowledge or these documents (notwithstandingthat diey had been produced by Respondentsin dieinvestigation). This isanother exampleof Jarkcsy'sunreliable and unbelievable tesrimonv. No. ALJ's Actual Fact11nl Findini:s Respondent's Chnracteriz:ldon or Flndinp ALJ's Cltntlons Citation to the Division's Respondent's Notes ProposalFindmp of Fact CitalionsIn Support ("DFPOP")or Other Record of their Proposed Support Exceptions
43 In rcalily, AlphaMetrix did not valueany of theFunds' positions itself;it TheAU erroneouslyconcluded that Alphameltix did not Tr. 287-300, 311-12. DFPOPat ffS7, 92-93, 129. DX-230; Tr.286, 288· Troy Golinghorst'stestimony on this issue is clear. hadno capabilityto do so. AlphaMetrixanemptal to obtain valuationsfor participatein valuinsthe funds. Initial Decision 14.This 290,409-415, 420-422, In additioa,the documents demonstrate that the the Funds' positions from independentsources, such asBloomberg; fOf findi!IBmischarac1erizc1 the evidence, relics on unreliable 2396, 2662-2664; administrator soushtand receivedvalues from assets,such as the Funds' bridge lo:ansand short-termnotes, life scnlemcnt evidenceand ignoresmaterial otherevidence RPFoF,11 57. Respondenis. E.g., DX-333, 662,66S, policies,and wananlS,for which it could nolobtain wlues from an independent data provider, it askedJTCM for valuations.AlphaMctrhc tried to 1,etas much documentationas possible in supportof JTCM's marlcs. AlphaMctrix triedto get u much documentation as possible in supportor JTC'M"smarks. -
44 Questions concerning valuationwere directal to Jarkesy or tohis assistants, The AlJ crroneou1lyconc:luded that nny question Tr. 295, 300-06, 347-50, 428. DFPOPat ff57-58, 129. Tr. 288,294-295, 297- TroyGolinshorst's tes1imony on thisissue is clear. Linda Ortiz and PattyVilla, who relayedJarkcsy's decisions. Jarlc esyhad a,nccmingvaluation would go to Jarkesy(through 299,306, 308-309,311- In additioa,the doc;\llncnts demonstratethat lhc the final word, even if unreasonable,in settins valuations;for example,he subordinatesat times) and larkesyhad the finalword 312, 316-318:RPFoF, adminislratorsousflt and received values from insistedon wluins restrictedAmerica West stock at the same priceas free- settinswluations, even if unreasonable. Initial 'll58. Respondents. E.g. , DX-333, 662, 665. tr:idingstock even anerAlph:iMctrix questional this. Decision15. Thesefindings miscb:uactcrizc lhe evidence,rely on unreliableevidence and ignore material otherevidence.
ll!i JTCM would appl'Ovi:1hc holdings, then approve any profitand loss, then TheAU erroneouslyconcluded that ITCM approved all Tr. 328. DFPOP at ff57- 59. RX-19; RX-20;RX·21: TroyGolinshorsl's testimony on this issue isclear. approve tin.,ncialsta1cnicnis. and ultimately the investorstatements. statenients• holdings, profitand loss, financial RX-22;RX-300; RX- In addition, thedocuments denionstrate thatthe statements.and investor statements.Initial Decision IS. 301; Tr. 328: 4-09-415, administratorsousht and receivedvalues from These findings mischaracteri:z:ethe evidence,rely on 420-422: RPFoF, 'll S9. Respondents. E.g., DX-333, 662.665. 1mreliable evidenceand ignon:material other c:vidcnce.
I llh ,\flcr an :ippealfrom lhcn CEO Franlc DclVccchio on December 17. 2009. The AU erroneo11sly conch1ded that on December 12. Div. Exs. S 13, 314 al IS. DFPOPal ff153• 15S. Tr. 2449-2450, 2697- As the documentsdemonstrate, on December 17 Belcsis ordered Jarl:csyro provide funds "ASAP." Thenext day,December 2009Bclcsis ordcral larlccsy to deliverfunds and on 2702, 2760,2762; at 3:2S pm, Bclcsistold Jarkcsy: •George, set I 8, 2009.Fund I bouiht $30,000, and FundII, SJ 0,000. or Galaxy ssock. December 18 Fund I bought $30,000in Galaxystock and RPFoF, CJ IS4. frank the brid;e ASAP.• DX-513. Galaxy's public FundII boughtSI 0.000in Galaxystock. Initial Decision filinssdemonstrate that the wrynext day, the 17. These findings mischanictcrizethe evidence. rely on Fundsbought $40,000 worth of sharesof Galaxy unreliable evidenceand isnore m11teri11Iother evidence. in a priVl\te placementDX-314 at I !i. The DFPOP deJc:ribcsother examples ofBelesis ordcrinsJarkesy to do somethingand it got done. Inrkcsystestimony to the contrary,that he only did what wasin the FundJ'intcmlS, was held bythe ALJto be unreliableand not credible. No. AL.J's Actual Factual Findings Respondi:nt'sCbaniclcrmeion or1!1ndlnp AL.J'sCltatla1 Citatiorito tbcDivision's Resporident's Notes ProposedYmdinp or Fad Citations1.1 Support ("Dli'POP")or Otbu Record or theirProposed Support Exception.,
47 Fund 11 did not buyany life insurancepolicies: neither its financial TheAU erroneouslyconcluded that inconsisttntwith the Div. Exs. 303,318, 2l0ot 12, 5S-«I, DPPOPa t fl37-39. RX-I,RX-2, RX-3, RX Thereis noevidence that Fund D everbought a statements nor holdin1,-spages show 11nyindication thatFund n owned PPM, Fund n bought no life insurance policies. Initial 224. 318. single insurancepolic:y. It appears,however, that policies. This was inconsistent with the representationsin Fund ll'sPPM Decision 22. Thesefindings mischarac:tcmc the FundD purchasedinterests m theinsurance and marketing materials. evidence,rely on unreliable evidence a nd ignorcmaterial policiesthat Fund I had purchased. Respondents, otherevidence. however,did not complywilh their obligation to purchase1 17% insurancecover11gc for Fund II as dcsaibcdin themarketing materials. Assuch, whilethe AlJ's factualfinding might ttchnically havebeen wrong, Respondents still did not complywilhtheir obligations end, as suth,the erroris harmless.
48 BetweenSeptember 18, 1007 and JanuarylS. 2008Fund l purchasedeight TheAU crront0uslyconclud edthat Fund I did not meet Div. Elcs.40S, 31 Sat I I. DFPOPa t fl37-39. RX-I; DX-206. Respondentsfail to explainhow their citationto life insurancepolicies with face values... totallingSl3.S million. As of 117% obligation in-2008.Initial Decision22.This finding thePPMs for Fund I demonstratethat the AU's December 31. 2008.Fund I had capitalcontributions of SIG,620,SI I. Div. mischaractcrizcs theevidenco-induding exp ressaulhority factmlfinding was false. To the extcnlthat they Ex. 31Sat 11. Thus.the S13 million total face valueof thepolicies was less 10 change businessplan and mset mix-relicson unrdiable arc suggesting thalthey had the abilityto change than the 117¾ of that sum as promised in the PPM and marketingmaterials evidenceand ignore materialother evidence. strategyand did not needto comply withthis requirement.the Divisionrefers the Commission to itsresponse above demonstniting that Respondents continuallyrepresented d1a1 they would meetthe I I ?V/4reauircmcnt 4() In Ap11I and May 2009.Fund I houi:ht fiveaddition.11 policies. with face l11eAU erroneouslyconcluded that Fundl did notmeet Div. Exs 405, 317 at 11. DFPOPat fl37-39. DX-206 at cover-iii, JS- Bythe end of 2009,the Funds owned policies v11lucstolallmi; S 13.S million. Respondentsdecided to allow one polic:y 117% obligationin 2010. InitialDecision 23. This 27, 33; DX-40S(Funds witha combinedface valueof $21.S million - 1r�ul Evert} wirh a focevalue or S5 million to lapse durini;2009 .. .. The findingmischaractcrizcs the evidence-includingexpress ownedpolicies with b=iuseRespondents allowed the Evenpolic:y to $21.5 million face valuewas lessthan 117% or capital contributions, authority10 changebusiness plan and assetniix-rclics on facevalue of $24.S bpsc in mid-2009and canno1be included in the S:?0.112.8S2.as of December 31. 2010. Div. Ex.317 at 11. unreliable evidenceand ignores matl:3'ialother evidence. million,which meant tolal. It is unclearhow Respondentsarrive at the thatRespondcnlS did $24.S million number. With total investor capilal notmisrepresent that of approximately$19.1 SB million byyear end, they hadI I7% face RcspondenlSwere required topurchase insurance value);Tr. 2386-2388, policieswith a combinedface value of morethan 2398-2399;RPFoF, 11 $22.4million. Theywere shon byapproxima1ely 43 SI million. Morcovcr,rrom thatpoint until this date, RcspondenlSdid notcomply with the 117% requirement. To theextent that Respondents arc arguing thatthey could change Slfatcgy, secabove.
so Funhcr, Rcspo11dcnts spent only S3,8GS,309 (including payingpremiums) The AU erroneouslyconcluded that Respondents did not Div. Exs.Div. Ex.317 at l0, 401,402, DFPOP at 140. Tr. 1504-1524 Thetestimony cited by RcsJ)Ondentsin supportof !'IIlife insurance policiesthrough December 31, 2010.This fact, together spend theamount pledged on insurance 40S theirc,cception is Jarkcsy'stestimony that he docs wirh the factth.it Respondents did not set aside funds sufficientlo pay policies/premiums;nor putthe policiesin the mastcrtrust nol recallhow much moneyhe spent on the prcmiun1S shows that Respondents did not invest in insurance policies as in a timelyCashion as promisedin the PPM and marketing policiesand premiums. Thistestimony docs not pr<>misedin the PPM and marketing materials.Nor did theytimely put all materials.Initial Decision 23. Thesefindings undmninc the AU'sfindings, which werebased policies in the Master Trust mischaractcrizcthe cvidcn�includingCl'prcss authority on thefinancial statements provided by the Funds to changebusiness plan and assetmix-rdy on unreliable to the investors. evidence andil!llorc material other evidence. No. AW's Ach1al Fad1111IFindinr;s Respondent'sCharaderizllticn or Yindinp Al.J'sCitations Citationto tbeDivision's Respondent's Noles ProposedYmdlnp ofll'act Citationsin Support ("DFPOP")or OtherRecord or their Proposed Support Eueptions
!-I Respondents subsequently useddifferent actuariesto valuethe fivepolicies The AUcn-oncously concluded that Respondent Div. En 432, 433, 436,440, 442, 203 at DFPOPff66-72. DX-425;DX-621; Tr. DX-42Sconc:cms policies purchased in 2007 and purchasedin 2009,again rcquestinc a 12% discountrate. Yet at the same purchasedpolicies at 15% rate,but valuedat 12% rate. 23,204,619 at l, 623, 504-505,2405-2406, Is iirclevantto the ALJ'sfinding concerningthe S time, Jarkcsy knew he wascurrently purchasing policies at a I5% or betlcr InitialDecision 24. Thesefindings misc:haractcrizcthe 2662-2264;RPPoF, '1111 policiespurchased in 2009. DX-621, in faet, (that is, more ine,.pensivclythan 12%) discoun1. Respondents continued evidence,rely on unreliable evidenceand ignore matctial 68-69,71. demonstratesthat Respondents were lookin; to using the 12% diJcount ratefor Fund rs 2010 financi;ilstatements. otherevidence. purchasepolicies at a I 5% discount rate, which supportsthe AlJ'sfmdings. TI1etestimony of StewBoger docs not concerntho valuationof the policiesbought in 2009.Tr. 504-50S.Boger was not involved in thosepurchases. Theremainder or ·- the testimonyis Jarlccsy'sand it docsnot address the issue decided by theALJ.
�:? Pursuanl1,1 Financial Accounting StandardsBoar d (FASB) StaffPosition TheAU erroneously concluded thatRespondent Div. Exs. 119 at 2, 4988 at AM_SEC DFPOPati60. Recorddevoid of expert Therequirements of'FASBStaff Position SS-4-1 8:'1-4-1. investorswho use fair valuen111st initially valuea life insurance immediately wroteup the valu:of policies in 285200 (lines 379-93).285203 (lines4 91 testimonyon thisissue; couldnot bemore clear. "Underthe fairvalue pohcy al the purchase price and remeasureit at fair value at each contraventionof FASB StaffPosition SS-4-1.Initial 92),Div. Ex. 647. see I supra. method,an investor shallrecognize the initial subsequentreporting period. However, Respondentsimmediately fair Decision 24. These findingsmiscllllll.ctcrizc the method atthe transactionprice. In subsequent valued 1he new policies. Thu$, as comparedwith the totalpurchase price of evidence,rely on unreliable evidence and ignoremalClial periods,the investor shallrctncasure the Sl,195.000.the tive policies (purchasedbetween April 7 and May I) were other evidence. investmentat fairvalue in its entiretyand each 1,.ilucd al 52.307,.567 as of May 31. 2009, a write-up ofSl,112.567. reportingperiod.• (DX-119 at 2). No expert testimonywas ncccssaiy. Moreover, it is clearthat Jarkcsyunderstood this requirementas the policies purchased in 2007were initially valued at the transactionprice and only "lairwlued at theend of thercportinn i,eriod • S3 Jarkcsy·s August 2010 letter to investors statedthat "we arc adding more n,c AU erroneously concludedthat Jarkesy represented Div. Ex. 240. DFPOP1 ISS. Tr. 2501-03. Jarkcsystestimony says nothing abo ut purchasing policies10 the portfolio;· whichwas unttue since Fund I purchasedno 10 investors that Fund I continuedlo purchaseinsurance insurancepolicies after 2009 but insteadconcerns policies after2009. policies in an August2010 letterto investors.which was a whether Respondentswere able to sell certain misrepresentationbecause Fund I neveracquired a policy policies. As such, thistestimony docs not in any after2009 yearencl lni1ial Decision24. Thesefindings wa.ysupport Respondents' claimed exception. .. mischaracterizcthe evidence, rely on unreliableevidence and ignore material otherevidence.
�4 Altho11gh rcprcscntin11 the insurance componentas a conservalivchedge, The AU erroneouslyconcluded that Respo!)dcnts Tr. 465-66;Div. Ex. 206 at 36-37,Div. DFPOP \'113-15, 39 RX-I;DX-206 at cover•Respondents arc in error. ThePPM's disclosure of Respondentstook no s1eps to reduce risk. lnvcstin11 in a largenumber of represented theinsurance policies as a consc:vativc Ex. 600. iii, I S-27, 33; RPFoF, mortalityrisk do not excuseRespondents from policies reduces risk. known as mortalityrisk. asJarkesy knew and Fund l's hedgebut tookno steps lo reducerisk. Did not investin a 'll14. failingto take any steps to mitigate the risk, as PPM represented; if therearc only a few policies, the insuredsmight all live laqicnumber of policiesas required to reducerisk. Initial they explicitlypromised they would do. Nor much lcngcr than actuarially expected. thus postponing the pa)'Oul and Decision24. Thesefindings mischarac:tedzcthe evidence- wouldsuch disclosu:e allow Respondentsto e>.lcnding the time durin11which premiums must be paid. Yet Respondents includingexpress authority to changebusiness plan and continuemakins false representations thatthe only acquired thirteen policies. assetmix-rely on unreliable evidenceand ignore material insurance policies wereless risky investments and othercvidcnc:e. a hedgeto themore risky elements of the portfolio, which was misleadingbccause they had milcd to take anysteps to mitigatemortality risk. No. A W's Actual Fartunl Findini:s Respondent'sCharacterization of Findlnp ALJ'sCitations Citation to lheDivision's Rcspondml's Notes ProposedFindillp of Fact CitationsiD Support ("DFPOP")or Otber Record of thcJr Proposed .. Support Exceptions
s:- Respondentsargue that lhc representationswere nol falsewhen madeand TheAU e1Toneouslyconcluded lhat Respondentsnever DFPOPfl 1�26, Division's ruc-1,p. 16-54.rue- 2. Sec aboveconcerning Respondents' argumenlthat thatthe PPM gave JTCM discretionto changethe invcsbncntstralegy of the told investorsand polcntialinvestors lhat the suaicgy· Post-HearingReply p. ii-iii, 12-3S; RJC-3, IbeyPPMs gave themthe ability to change Fund. Vet, Respondentsnever informed investorsand potential inveslors of fromlhe PPM changed.Initial Decisio n 28.These Memorandum of Lawal pp. 24- strategy. such changes. The marketing materialsand newsletters even continued IO findingsmischaraccuize the evidence inc:luding express 26. stress thatthe insurance portfolio was a conscrwtivehedge against the authorityto clungc business planand assetmix- rely on corporate portfolioand continued to stressthe S% limitation. unreliableevidence, ignore materialother evidence.and mischaracterizcthe law and duties applicableto Respondents.
�6 Nor did they :idviietheir a11d11011tha1 an)' or the no�were impaired. TheAU erroneously concluded that Respondentsdid not Tr. 1047-48,1 IS9. DFPOP1107. Tr. 2748• 27S0; RPFoF, Jarkesystestimony says nothing about whether he advise auditorsof i�,paim1cntof tho notes. Initial ,i102 advisedthe auditorsthat the notes were impaired. Decision17. Thesefindings n1ischar11ctcrizc the evidence. relyon unreliable evidence and ignore matorial other evidence.
--57 Jarkcsy spoke l1111hlyof America Wcs1 in the Podc:as1. His optimism was The AU erroneously conc:ludcdth111 Jarkcsy spokehighly Tr. 208•10; Div, Ex. 203 al 13-14. 16-17, Tr. 2409-2413,2426- Thoonly evidence thlllRespondcnb provide in inconsistent with AmericaWest's true financialcondition: tho unaudited of Am. West in a podcastthat did not reflectthe true Div. Ex. 204. Div. &. 348 at 11 2430, 2725-2731, 2748- supponor this exception isJarlccsy's self-serving tinancial si.,tcments includedwith AmericaWest's Form10-Q for the condition or AmericaWest lni1ial Decision 17. This 2479. testimony, which the AUheld wasnot credible or quarterended Mi1rch 31. 2009. cont:iined :i going concernstatement. findingmischaractcrizcs the evidence.rel ics on unreliable reliable. Evenif Jarkcsy subjectively believedthat evidenceand ignores materialother evidence. AmericaWest was going 10 bea succcsful company,his statements were misleadingbecause hedid not inform theinvestors of the objective facts: that the auditors had issueda going concern opinion al)dthat Amcrica West was in default on theloans the Funds had madeto iL
58 Jnrkcsyalso had an optimistic "ResearchRepon" concerningAmerica West TheAU CJToneouslyconcluded 1h11 Jarlccsysent en Tr. 339-41:Div. Exs.239, 2S0. DFPOPfl 113-114, Tr. 2409-2413,242� Theonly evidencethat Rcspondcnb provide in sent 10 Fundinvestors i11 September 2010, and a pressrelease concerning optimistic "ResearchReport" to investors in Sepiernbcr 2430, 2725-2731, 2748- suppon of thisexception is Jarlcesy's self-serving an i111erviewwilh Jarkcsy about AmericaWest 2010 and issueda pressrelease regarding AmericaWest 2479. testimony, which the AU held wasnot credibleor thatdid not reflcc;ttrue financial condition or the reliable. Even if Jarkcsysubjectively bcliovccl that company. InitialDecision 17. Thesefindings AmericaWest was going to be a succcsful n1ischaractcrizcthe cviclcncc, rely on unreliableevidence company,his slatemcnts were misleading bec:ausc andignore materialother evidence. he did not informthe invcstoBof the objective facu: thatthe audito,s had issued a going concern opinion and thatAmerica Wes t wasin default on the loans theFunds had madeto it
S9 AlphaMetrix relied on Jarkcsy'svaluations since Galaxy was not publicly TheAU CJToncouslyconcluded that Alphamctrix ·relied Tr. 308-09; Div. Exs.324, 329, 330. DFPOPft S7-S8, 93 Tr. 2706-2708;RPFoF , Seenotes to exception43. In addition, Jarkcsy's rr:idcd on Jarkcsy for valualionof Galaxybecause it wasnot ,it83, 89, 93, testimonycited here (which is neither credible nor publidy traded.Initial Decision I 8. Thisfinding reliable),docs notconcern Galaxy spccific:ally. mischaractcrizesthe evidence, relicson unreliable evidenceand i1?11orcsma1erial other evidence. No. AW's Actual Factual Findings Respondent's9iaraderizatlon ofFindinp ALJ'sCitations Citation to the Division's Respondent's Notes ProposedFindlnp or Fad CitationsIn Support ("DFPOP")or OtherRecord or their Proposed Support Exceptions (.
60 Prom the endof 2009 through thebeginning of201 1, the value that TheAU erroneouslyconduded that from 2009- 2011 Div. Exs.301,305. DFPOP190. Tr. 2468, 2706-2708, Muchof the testimonycited by Respondentsdoes Respondentsassigned to Galaxyand its predecessorcompany varied widely Jarkesyvalucdshares wildly. InitialDecision 18, This 2735-273� RPFoF',,i,i 119tconcern the valuation of Galaxyfrom 2009 from S0.10 to Sl.30. finding mischaracteriz.esthe evidence including material 83, 89-90. throughearly 2011. Thetestimony at Tr. 2735-39 . corporate eventsaffecting pricerclies on unreliable concernsa valuationreport for GalaxyIha! evidenceand ignores materialother cvidenc:e. Rc$pondcnts obtained in June 2011 and. as such. collld not havebeen relied upon by Respondcnss duringthe time period in question for the ·. valuations. Thisreport, which was llllrcliablc. is discussed in detailin IfieDFPOP ff 95-97. Notably, theauthor of the reportwas li�tedon Respondentswi1ness list. but Respondents declined tocall him asa witness. To the extent thatany of the cited testimonyof Jarkesyconcerns the valuationof Galaxyduring lhis time period, thattestimony was unreliable and not credible.
61 Thenumber of shares outstanding during thattime varied,due 10 a reverse TheAU erroneouslyconcluded thatchanges in pricedid Tr. 307-25, 2468,2733°35 DFPOP ft90-91. Tr. 2706-2708, 2735- Thechart containedin the DFPOP at 1190 and split, issuanceofpenalty/liquidalcd damages shares, e1c.; however, 1hc not coordinatewith events occurrins insideCialaxy. 2739; RPFoF',1111 83, aplaincdin ,J91 demonstntcslhat the changes in cluin11csin the v-Jluations did nol accord with these e\'cnts. Initial Decision Is. This finding miscliaractcrizcs the 89-90. Rcspon'dents'valualion of Cialaxydid not match evidence.relies on unreliableevidence and ignores up withthe dale$ of the reversesplits and share material other evidenc:e. issuances. 62 Together. Belcsisand Jarl:csyexerted controlover the company[Galaxy). TheAU erroneouslyconcluded that together Jarkcsy and Tr. ISSS-56, 1567-69, IS72-86, 1711. DFPOP ftI 53°55. Tr. 5S8, 2449-2450, BesidesJarkcsy's owntestimony, theonly so• Belcsisexerted control over Galaxy. lnilial DecisionI 8. 2697-2702, 2760,2762; calledeviclcnc:c that Respondents cite in suppon of Thisfinding mischaractcrizesthe evidence, relics on RPFoF,1111 153-154. thisexception is the testimonyof Jarkcsy's unreliable evidenceand ignoresmaterial other evidence. assistant.Patty Villa, that Jarkcsymade all of the invctsmcntdecisions. Tr. 5S8. At the same time, howc.vcr, Villa tesliliedshe never spoke with Belesisabout anything substantive, Tr. S98, and · thatshe couldn'thear Jarkesy's phone conversationsand had no ideawhat J11rkcsymisht havespoke about with various entities. Tr. 603- OS. Consequently,Villa's testimonyon who made theinvestment decisions for theFunds is of limited probativevalue. No. AW's Acnu1I F:ic111alFindines Respondent's Charadcrization orFlndinp ALJ'sCitations Citation to theDivision's Respondent's Notes ProposedFuidla1s of Fact Citations in Support ("DFPOP")or Otbu Record ortheir Proposed Support Exceptions
63 Therewere no public transactions in thc stock [of Radiant)during July. TheAU erroneouslyconcluded that Fund I sold 300.000 D�. Exs. 111: 303 Al JTBOF19295: 301 DFPOPff122-123, 125. Tr. 2586-2587, 2662- Jarkcsys testimonyat 2586-2587 docsnot concun August. or September 20I 0. Respondentssold 300,000shares of Radiant sharesof Radiantto FundDi n Aug. 2010withacmt of atJTBOF19142. 2264;RPFoF, 1111 123· theAugust transactionin Radiantstodc between from Fund I to Fund II in August, with a costbasis 10 Fund JI of S0.23. S0.23 pershare. Respondentsincreased the valuationor 125. Fund I andFund D. His testimony at 2662-2664 is N(lnc1hclcss.Rcsp011dcn1S increased their '-'llluationof Radiantin Fund I lo those sharesthe same month loS 1.00per sharecausing simplyhis self-serving statement that Respondents SI .11(1 per share in Aui;ust 2010. causini:an incn:nscin Fund l's unrealized Fund l'sunrealize d profitslo rise.InitialDecision 19. did not recordarbi1r.11y vaulations, used their best prof11s for !his holdini;. Thesefindings mischaractcriu the evidence..rely on efforts,and that the valuationswere checkedby uiveliableevidence and ignorematcrial other evidence theadminisua10r. Thislc$timony again docsnot specificallyconcern the August transaction .ind is also unreliableand not credible. In theirRFPoP. Respondentssuggest thatthe increasein priceto SI.DOresulted from a S: I reversesplit ThatS: I split toolcplace in April2010, however,and was thebasis for Respoindcntsincreasing their val111tionof Radiant stockfrom S0.06to S0.30. (DFPOP1121 ). Indeed, a S: I reversesplit would not resultin a changein valuationfrom SO.JO ll> SI.OD. In sum,Respondents have not provided anybasis for increasingthe value lo S 1.00 in Augustor rortheir valuingthe sharesat S0.23 and SJ.DO at the sametime.
64 The stock tradedfor the firsttime in fif1ccnmonths during four daysin TheAU moneously concludedthat in December2010 Div. ElC.I l l 1114, Div. Ex.301 at DFPOPff 126-128. Tr. 2S83•2586, 2662• Respondentsdo not contestany of the shareprice December 20 IO. ending the yearat S4 pershare. Theprice spike was Radiant stock tradedfor the f111t time in 15 months at �lBOF 19130, 19133. 2264,2740-2742; or volwn:information concerning Radiant coincidcn1 with the promotionalcampaign discussedinfrn. Using lheS4 S4.00per sharecoinciding wiih a marketingcampaign. RPFoF,'1111 126-128. RFPof'1 126. Instead, they dispulcthe cause of price, Respondents' valuation of Fund rs Radiant positionreflected an Initial Decision19. Thisfinding mischaractcrizes the thespike in theshare pric:e, stating thai it wasthe unrealizedgain al year-endof nearlyS7 million, more thana SS million evidence..relics on unreliableevidence and ignores rcsullof a roundof financingthat was done in the !lllin from chc previous month. materialother evidence. lastquarter of2010. Radiant'sfiling, which aeniallydisclosed this financing. was on November17, 2010. RX-308. Thcstoclcprice didnot moveat all for anothermonth. however. untilDecember 17, 2010. DX-11 J. Conscqu:ntly,ii is muchmore l ikely that the spike in thestock priceresulted from theDecember promotionas opposed to theNovember financing, whichwas old news by thatpoint in time.
' 6$ Fund II held Radiant warlllnls.and AlphaMctrix relied on JarL:esy's TheAU erroneouslyconcluded that 1arlccsy valued Div. Ex. 333, Tr.at 302-06. DFPOP1129. RPFoF, '11129. Respondentsdo not conmstthat it wasJarkesy valuations of lhcm since 1hey ,vcrenot publiclytraded. He (Jarkcsy) certainw.uran!S in Radi�ntat S6.92though they were whovalued the wanants al S6.92. Nor do insi sled on valuing them 11 S6. 92 as of January31, 2011, eventhough they previously valuedat S0.12four months C11rlicr. Initial Respondents contestthat Alpharnetriic relied on had last been priced al $0. 12 on August 31, 20 I 0. Decision 19. Thisfinding mischaradcrius lheevidence, IarkcS)'svaluation or thatthe lasttime that the relics onunreliable evidenceand ignores material olhcr warrantshad previouslybeen valued at S0.12. evidence. (RPFoF1 129). No explanationhas ever been provided for the S6. 92 value, which waseven higherthan the stockpric;e on thatsame date !I l 6(, Jarl:esystaled 1ha1these Radiant shareswere valuedat S2 per share and TheAU erroneouslyconcluded that Jarkcsysent stock Div. Ex. 247. Div. Bx. I llA RX-310. In supportor their exception,Respondents cite to opined 1h.,1 the s1ocl:could be worth subsi.·mtiallymore. Yet, the closing cenificatcsof Radiant 10 ccnain fund investorson a Fonn 8°K/Afor Radiant datedOQObcr 14, 20 I 0. price :ivailahlefrtlm Yahtlo' Fin,,ncewas $1.04from 111 leastOdober 24, October 23, 2014 with a letter stating the Radiant shares Respondentsdo not explain how this four-year-old 201), lo January2. 2014; rherc were no uansactions during 1h11period. wensvalued al leastS2.00 per share. Theclosing price on filingconuadicts the AU'sfactual finding that Yahoo! Was S1.04 on Yahoo! Financewith no activity Jarkesysllltcd that the shareswere worth S2 and from October 24, 2013 through January2. 2014. Initial couldbe worth more whenthe closing price of the Decision 20. Thesefindinss mischaracterizethe stock at thattime was SI ,04. Ii evidence,rely on unreliable evidenceand ignore material other evidence: there were no transactionsduring that period. 67 Jarkcsy directed An1ericaWest to hire promotionalfirms to promote its TheAU erroneouslyconcluded that 1arkesy initiatcd a Tr. 628·32, 667-68;Div. Exs. I JO, 301 at DFPOP1111S-118. Tr. 2740-2742, 2746- Thestock priceof AmericaWest on the relevant stock and chosethe firms.The priceof AmericaWest spiked: it closedat promotionalcampaign in the fourthquarter of 2010 for JTBOF 19130. 2747; RPFoF, ff 108, elatesis uncontested. It is also uncontcs=dthat S0.07S on October I. 2010. bin at Sl.9S on December31. 2010. AmericaWest stock. Thiscaused the stock priceto go up 111, 115-116, Respondentsvalued the shareprice of America RespondenlS valuedAmerica W est stock at SI. 9S on Fund l's holdings to Sl.9S per sharein December2010. Subsequentlyon Westat SI .9S at theend of 2010. It isfurther page as of December31, 20 I 0, the financial statements, J11rlccsyvalued t he stockat $1.9S uncontestedthat America West hi� several per share. InitialDecision 20._ This finding promotional firmsto promote thestock Jnsicad, mischaracterizcs the evidence,relics on unreliable whatappears to be contestedis 1arkcsy's role in evidenceand ignores materialother evidence. the promotions., AlexanderWalker of America West testifiedthat "[i)t wasMr. Jarlccsy's (idea to hire thesePR and promotional firms). We relied heavilyon Mr.Jarlcesy's c:xpcricrn:c in thisarea. Hespearheaded our effortsin thatregard.• Tr. 629-30. While the Divisionbelieves that it was reasonable�conclude that the spike in the price or AmericaWest stock wascaused by the promotion, theAU did notspecifically hold that thatwas the case. Theinitial decisiondocs not - statethat the promotion "caused the stock priceto go up," esRespondents characterize her finding, 68 MEC also conducted a more limited promotion of Radiant for which it was TheAU erroneouslyconcluded that Jarlccsyinitiated a Tr.897-98; Div.Exs. 306c, 111,301 at DFPOP1127. Tr. 2583-2586, 2740- Respondentsdo not contestany or the shareprice p:ud $S,000 by Fund II on December28, 2010. Radiant stoclc, which had promotionalcampaign for Radiant as well resultingin the JTBOF 19130, 19133. 27-42;RPFoF, 1 127. or volumeinformation concerning Radiant. nut tradedsince September10, 2009, when it closed at S0.12, closed at $4 share pricegoing up to$4,00 per share in December RFPoP1 126. Instead,they dispute thecause of on December17, 2010. and at S4 on December31. 2010. Respondents 2010, resultingin verylarge gains reported on theyear- thespike in theshare price, statinsthat it wasthe used S4 for their valuation of Fund l's Radiant position.which reflectedan endfinancial statementsof the Funds.Initial Decision 20. resultor a round of financingthDt was done in the unrealized 2010 year-endgain of overS6.S million.a morethan SS million Thisfinding mischaractcrizes the evidence, relics on lastquarter of 2010. Radiant'sfiling, which gain rrom the pl'evious month. unreliable evidenceand ignores materialother evidence. disclosedthis rinancing.was on November17, 201O. RX-308. Thestock price did not move at allfor another month, ho-, until December 17, 2010. DX-I 11. Consequently,it is much morelikely that the spike in the stock price resultedfrom the Decemberpromotion as opposed tothe Novemberfinancing, w hid1 wasold news bydull point in time. No. ALJ's A�h111IFactual Findings Respondent's 01arac:1eriz.11lonor Findings At.J'sCitations Ci!AtionCo the Division's Respondent's Noles Proposed Findin21 of Faes Citationsin Support ("DFPOP") or Other Record or thdr Proposed Support Exceptions (>9 !Fund rs PPM provided. under1he heading"Investment Limitations:· TheAU erroneouslyconcluded that Fund 1 cappedthe Div. Ex. 206 at 12. DFPOPf18. Ex. DX-206, 20 Respondents claimt�t theAU ignored evidence "The tC1lali1wc:stme111 of (Fund I) in any onecompany at any one time will aggregatecapital commitments in anyI companyat So/o. (authorizing up tyo concerningthe investmentlimitation of So/o, n.it c�cccd S% of1he ai;!,!rcgateCapital Commitments .. . Initial Decision21. This findingmischaracterizcs the aggreg4tc capilal including a sllltementin the PPM authorizing c,,.idencc. relieson unrcliablc c,,.idcnceand i nores commitments of 10'/4), capillllcommitments of up lo 10%. In facl, the _ g m:itcrialother evidence. 43 (authorizing General AUspecifically discussed this provision11nd Partnerto change the found thatit couldnot bereconciled with the S% stiategyof theFund$): investmentlimitation in the PPM or withthe RFPoF'146. repeatedreferences to theS% limillltionin marketing materials. Accordingly, the AU found thatthe limitationwas S%. 70 The5% fil!ure wasrepeated in marketing materials and ncwslelteis. TheAU erroneously concluded that marketingmaterials Div. Ex. 214 at 3, Div. Ex.21 Sat 3, Div. DFPOP126, 32, 35. Ex. DX-206, 43 Su above conuming lu:spondcnts' argument that repeated the S% limitation.Initial Decision 21. This Ex.216 atS, Div. Ex.217 at 2. "The (authorizingGeneral the PPMsgave them the abilityto change strategy. findingmi�harac:terizcs the evidence,relics strategy on fundis limited to S% inany one Partner to changethe unreliable evidenceand ignores material other cvidCDCc. corporateinvestment at lhetime or sbateS)'of the Funds): invcstmenl"Div. Ex.218 at S. RFPoF1124. 71 Respondents' investmentswere not consistent with the S% limita1ion. As of TheAU crroncou,lyconcluded that Fund I did not meet Div. Ex.231 a_t JBTOP1692; Div. Ex. DFPOP 46-Sl. Tr. ·27S8-27S9; RX-3. At Tr. 2758,Jarkcsy anempts to explainhow the December I. 2007, Fund I � capital contributionsor S7.23 l ,02l.92, S% thecap in 2007, 2008, 2009,or 2010. InitialDecision 21 . 301 atJlBOF 192S7-S9; Div. Ex. 3 IS. Galaxyinvestment became larger than S%. of which isS361,SSI. Yet, as of that date Fund J had investedS49S,70S in This findingmi�haractcriza the evidence, relics on Div.Ex. 301 atJlBOF19209, 19211; Jarkesystestimony, however, docs not explain EnterC oMect Inc.• S400,000 in GOBS, $425,000in Reddi BrakeSupply unreliable evidenceand ignores material other evidence. Div.Ex. 31 6 at 11. Div.Ex. 301 at how or whyRespondents violalCd the limitation Corp .• andSS 18.800in UFoodRestaurant Group. AsofDc=bcr 31, JBTOF19166-67. Div. Ex.317. Div. Ex. withr espectto EntcrConncct,Reddi Brake,or 2008, Fund I hadcapital contributions ofSl6.620,SI I.�% of whichis 301 atJlBOF19130-31. UFoodin 2007,and Ameriai West in 2008,2009, S831,02S. Yet, as of thal date Fund I had investedS1,392.000 in America and2010. Indeed,Jarkcsy admitted in 2011 thatit West(eight notes totalini;S92S.000 and more than$467,000 in America wasthe •very large position• in AmericaWest that West stock). As of December31. 2009. Fund I had capitalcontributions of was responsiblefor the "wildswings• in thevalue SIB.JSS.002. of which 5% is $917,900. As of that dazeRespondents had or theFunds that was causing investor concern. investedSI ,860,000 in AmericaWest (a $1,330,000 note and stock and DX-240. royaltiespurchased for morethan SSJ0,000.) As of December31, 2010, Fund Thad capitalcontributions ofS20,l 12,8S2, of which S% is Sl,OO!i,623. As of1hat d3te Fund Thad investedS2.2SS,SOO in America W1$l(twelve nolcs totalingSI. 72$,!iOO plus the stock and royalties that cost n,ore Ill.inSSl0.000). Nn. AW's Achn1I F11ctm1IFindines Respondent' 1 Cl1aracterizatlonor Flndinp ALJ'sCitations Citation to the Division's Respondent's Notes ProposedYmdln1s or Fact Citationsin Support ("DFPOP")or Other Record or their Proposed Support Exceptions r 72 Bclcsis's inpul inlo decisions concernini:portfolio companies and receipt of TheAU erroneously concluded that Belcsis'input into DFPOP ,11 l4S-149. RX-327, p. 3-5; Tr. Respondents' citations do not address the AU's tees from suchcomp anies affccredthe degreeof profitor lossthat the decisionsconcerning portfolio companies and receipt of 558, 6S7- 658, 666,688- conclusionthat the excessivefees the portfolio cQmpan1es m1llhtatlain, directlyaffecling the returns,or lack thereof. of fees fromsuch companiesdireclly affected investors and 694, 2659-2660, 2702• CO!l11J11nics paidhad an impact on the abiliiyof in\-cJtors. To 1hc Cl : UNITEDSTATES OF AMERICA Beforethe SECURITIES AND EXCHANGE COMMISSION ADMINISTRATIVE PROCEEDING File No. 3-15255 In the Matter of JOHNTHOMAS CAPITAL MANAGEMENT GROUP,LLC, d/b/a PATRIOT 28, LLC, and GEORGE R. JARKESYJR, Respondents. CERTIFICATE OF SERVICE I certify that on March 16, 2015, I have servedthe Opening and Response Briefof the Division newly formatted with thetable of contents and table of authorities by overnight mail and/ore-mail on the following: -. Brent J. Fields, Secretary Officeof the Secretary U.S. Securities and Exchange Commission 100 F Street, N.E., Mail Stop 3628 Washington, D.C. 20549 The Honorable Carol Fox Foelak Administrative Law Judge U.S. Securities and Exchange Commission 100 F. Street, N.E. Mail Stop 2557 Waslµngton, DC 20549 Karen Cook KAREN COOK PLLC 1717 McKinney Avenue Dallas, TX 75202 Counsel for Respondents John Thomas Capital Management Group dlb/a Patriot2 8 LLC and George Jarkesy, Jr. S. Michael McColloch S. Michael McColloch, PLLC 1 71 7 McKinney A venue Dallas, TX 75202 Counsel for Respondents John Thomas Capital Management Group dlblaPatriot28 LLC and George Jarkesy, Jr. UNITED STATES OF AMERICA Before the SECURITIESAND EXCHANGE COMMISSION ADMINISTRATIVE PROCEEDING File No. 3-15255 In the Matter of JOHNTHOMAS CAPITAL MANAGEMENT GROUP, LLC, d/b/aPATRIOT28, LLC, GEORGE R. JARKESY JR., JOHNTHOMAS FINANCIAL,INC., ANASTASIOS "TOMMY' BELESIS, Respondents. THE DIVISION'S MEMORANDUM OF LAW IN OPPOSITION TO THE EXPEDITED MOTION OF GEORGE R. JARKESYAND JOHN THOMAS CAPITAL MANAGEMENT TO COMPEL (1) PRODUCTION OF BRADY AND JENCKS ACT MATERIAL, (2) DESIGNATION OF BRADY AND JENCKS ACT MATERIAL IN VOLUMINOUS RECORDSPREVIOUSLY PRODUCED, (3) CERTIFICATION OF BRADY AND JENCKS ACT COMPLIANCE, (4) DESIGNATION OF DOCUMENTS PRODUCED IN RESPONSE TO SUBPOENAS AND DOCUMENT REQUESTS,(S) MOTION TO CONTINUE AND EXTEND TIME, AND (6) MOTION TO CHANGE VENUE OF HEARING Todd D. Brody Alix Biel Secwities and Exchange Commission New York Regional Office 200 Vesey Street, Suite 400 New York, New York 10281 (212) 336-0080 (Brody) CONCLUSION For the reasons set forthherein, the Division respectfuUy requests that Jarksey/JTCM's motion forexpedited relief be denied in full,with the exception of their request fora reasonable adjournmentof the hearingdate. RespectfullySubmitted, Todd D. Brody Senior Trial Counsel SECURITIES ANDEXCHANGE COMMISSION 3 World Financial Center New York, NY 10281 (212) 336-0080 16 The Division of Enforcement("Division"), through its attorneys, responds to the expedited motion by Respondents John Thomas Capital Management LLC d/b/a/Patriot28 LLC ("JTCM") and George R. JarkesyJr. ("Jarkesy") seeking to compel (I) production of Brady and Jencks Act Material; (2) a designationof Brady and Jencks Act material in voluminousrecords previously produced; (3) certificationof Brady and Jencks Act compliance; (4) designationof documents produced in response to subpoenas anddocument requests and separatelyseeking (1) to continue the hearing; and(2) to changethe venue of the hearing fromNew York to Texas. PRELIMINARYSTATEMENT TheDivision has complied with all disclosurerequirements under the Rules of Practice. Infact, the Division exceeded its disclosure requirements, providing its entire investigation file (excluding privileged materials) to Jarkesy/JTCMin a searchable Concordancedatabase at no charge. Prior to producing the database, the Division produced to Jarkesy/JTCMthe investigativetestimony taken prior to the commencement of this action (to the extent the Division had the transcripts)as well as all of the exhibits to that testimony,which taken together, comprises its "hot documents" file. The Division also repeatedly offeredto make the entire investigative file (exclusive of privileged documents) available to Jarkesy/JTCM forinspection andcopying at the SEC' s New York Regional Officeat their convenience. Jarkesy/JTCM have never taken the Division up on its offerand, prior to the filingof the instant motion, never complained about the mannerin which the Division produced documents to them. TheDivision also provided to Jarkesy/JTCM a "withhelddocument list" anda declaration that, read together, namethe potential witnessesthe Division spoke to where there was no transcript(both before and after the filing of this action) and summarize all of the potentially exculpatorymaterial provided by these witnesses. The declaration furtherprovides I that the other withheld documents (internal Division emails, memoranda, and spreadsheets) do not contain material exculpatory statements under Brady. The relief thatJarkesy/JTCM seek-that the Division review all of the documents already produced andidentify any document that contains potential Brady material- is extraordinary and to the Division's knowledge has never been required by the Commission or anyALJ. Indeed, therelief Jarkesy/JTCMseek in theirBrady motion is not even required in criminal cases filedin federal court. Jarkesy/JTCMsimply wantthe Division to preparetheir defensefor them. Likewise,the Division is not required to produce the actual interview notes of potential witnesses and has complied withits Brady obligations with respect to those notes. Finally, the Division hasalready produced a declarationof its compliance with Brady obligationsand the Division need not produce a second declaration. To the extent that Jarkesy/JTCM does not like the searchable Concordance databases that the Division provided (which is the sameway the filesare kept by the Division), they have another option. They cancome to the New York Regional Office andreview hardcopies of the documents·and, at their ownexpense, pay to have photocopies made (as has been repeatedly offered to them). This is what Rule 230 requires. No more. The provision of the searchable databases was a courtesy. With respect to the second part of Jarkesy/JTCM's motion, which seeks an adjournment of the hearing date anda transfer of the venue to Texas, the Division recognizesthat the 1 investigative fileis voluminous and does not object to a reasonable adjournment. However, the Division objects to a transferof venue. Jarkesy/JTCM's unsubstantiated claim that the majority of witnesses reside in Texas is not a sufficient reason to change the venue. Likewise, the 1 The Division hasseparately requesteda three-weekadjournment in order to give the Commission the appropriate time to review the termsof a settlement offer made by the New York-based respondents in order to avoid the possibility of duplicative hearingsshould the Commission reject the settlement offer. That prior request is hereby renewed. 2 Division's receipt of anoffer of settlementfrom the New York-based respondents, which it intends to recommend to the Commission, does not meanthat Anastasios"Tommy" Belesis and/orother currentand former employees of John ThomasFinancial, Inc. ("Belesis/JTF') will not be witnesses at thishearing against Jarkesy/JTCM. Indeed,the factthat Jarkesy chose a New York-based placement agent forhis fundsshould preclude him fromarguing that New York is not a proper venue. Moreover, Jarkesy/JTCMdoes not (andcannot) claim that all investors reside in Texasor that it will be convenient fornon-Texan investors to come to Texasfor a hearing. Nor should the location of their professionalwitnesses and/or their counsel be considered. Jarkesy/JTCM could have chosen New York counsel - thereis no shortageof New York lawyerswho handleSEC administrativeproceedings. Instead, they engaged two Dallas basedlawyers (at separatefirms) and a third Washington,D.C .-basedcounsel. Jarkesy/JTCM's request boils downto the factthat it will be more convenient forthem if this matter is adjudicated in Texas.That is insufficientreason to changethe venue. ARGUMENT I. JARKESY/JTCMOVERSTATE THE RULE 230 PRODUCTION OBLIGATIONS The Division's discoveryobligations aredescribed in Rule 230 of the Rules of Practice. Pursuantto Rule 230(a)(l), the Division "shall make available for inspection and copying ... documentsobtained by the Divisionprior to the institutionof proceedings, in connection with the investigationleading to theDivision's recommendationto institute proceedings" (emphasis added). Pursuantto Rule 230(a)(2), the Division may withhold documents that are obtained prior to the institutionof proceedings that: (1) are privileged; (2) areinternal memoranda, notes, or other attorneywork product so long asthose documents are not going to be offeredinto evidence; (3) identify confidential sources;and (4) thehearing officer grants 3 leave to withhold forgood cause shown. Rule of Practice 230(b)(l). The Division, however, may not withhold docwnentsthat contain material exculpatoryevidence under Bradyv. Maryland,373 U.S. 83, 87 (1963). Rule of Practice 230 (b)(2). Rule of Practice 230(b)(2), whichprevents the Division fromwithholding exculpatorydocuments, is the only applicationof the Brady doctrinein SEC enforcement actions. Indeed, asa general matter of law, Brady does not apply in civil proceedings. See SEC v. Follick,00 Civ. 4385, at 9 (slip op. Mar.3, 2003) ("[T]heprosecutorial dutyto disclose exculpatory evidence, articulatedin Brady [and] Giglio ... applies to defendantsin criminal actions, not to defendantsin civil actions where the government is plaintiff."). Consequently, Bradyonly applies in SEC administrative actions to theextent that the SEC Rules of Practice require, andthe Commission hasnever expansivelyinterpreted Brady. See, e.g., In the Matter of Cityof Anaheim, File No. 3-9739, 1999 SEC LEXIS 1662 (Decision of ALK Kelly, July 30, 1999); Notes to Proposed Rule of Practice20(a), 1993 SEC LEXIS 3062 (Nov.5, 1993) ("Theprinciples enunciated in Bradyv. Maryland,373 U.S. 83 (1963) arenot directly applicable to Commission administrativeproceedings"). TheCommission described the Division's Brady obligations asfollows: The Rules of Practicedo not "authorizerespondents to engage in 'fishing expeditions' through confidentialGovernment materials in hopes of discovering something helpfulto their defense. Unless defensecounsel becomes awarethat exculpatory evidence has been withheld and brings it to the judge's attention,the government'sdecision asto whether or not to disclose infonnationis final. Mere speculation that governmentdocuments may contain Brady material is not enough to require the judge to make an in camera review. In order to justify such a review, a respondent must firstestablish a basis forclaiming that the documents containmaterial exculpatoryevidence. A 'plausible showing' must be made that the documents in question contain informationthat is both favorable andmaterial to the respondent's defense." 4 In the Matter ofJett, File No. 3-8919, 1996 SEC LEXIS 1683 *1-2 (June 17, 1996) (emphasis added); see also In the Matter of OptionsXpress, Inc., File No. 3-14848, 2013 SEC LEXIS 3235 (Oct. 16, 2013) (same). Withrespect to interviewnotes, the Division is not required to produce unredacted interviewnotes even pursuant to Rule 230(b )(2). See In the Matter ofAesoph, CPA, File No. 3- 15168, 2013 SEC LEXIS 2325 *2 (Aug. 9, 2013) (denying respondents' request forunredacted interviewnotes). Other SEC ALJs have held that the Division canfulfill its Brady obligations under Rule 230(a)(2) by providing short summariesof potentially exculpatorystatements made by witnesseswithout producing interviewnotes at all. In the Matterof Bandimere, File No. 3- 15124, 2013 SEC LEXIS 746 *4-5 (Decision of ALJ Elliot, Feb. 5, 2013) (denying request for interviewnotes, stating "[t]he Division will be ordered to submit a declarationdescribing its compliancewith Brady,but that is all Bandimereis entitled to"). TheRules of Practice do not presumptively require theDivision to submit a withheld document list to respondents. Thehearing officer,however, may require the Division to submit for review a list of withhelddocuments or to submit anydocument withheld, and may detennine whetheror not such document should be made available to the respondents forinspection and copying. Rule of Practice 230(c). To date, the HearingOfficer has not required that the Division produce such a list although, as described below, the Division in an abundance of caution provided this list to respondents. Rule 231 separatelyprovides that anyrespondent in an enforcementproceeding may seek anystatement of anyperson to be called as a witness that pertainsto hisor her testimony andthat would be required to be produced pursuantto the Jencks Act, 18 U.S.C. 3500. For purposesof therule, "statement" is a definedterm and meanseither: ( 1) a writtenstatement made by said 5 witness and signedor otherwiseadopted or approved by him; (2) a stenographic, mechanical, electrical,or other recording, or a transcription thereof, which is a substantiallyverbatim recital of an oral statement made by said witness and recorded contemporaneouslywith the makingof such oral statement; or (3) a statement, however takenor recorded, or a transcription thereof, if any, made by said witnessto a grand jury. Theseare the only witnessstatements that require production under Rule 231. Therequirement to produce Jencks materials does not mature untilthe filing of the Division's witness list. Aesoph, 2013 SEC LEXIS2325 at *3. Notably, prior to filingthis motion, Jarkesy/JTCMdid not move forthe production of Jencks material. II. THEDIVISION'S PRODUCTIONEXCEDED ITS OBLIGATIONS JTCM was servedon May 7, 2013 andJarkesy was servedon May 15, 2013. On May 10, the Division produced certain documents to the respondents that were immediately available (including transcriptsof investigative testimony andexhibits) an d informedJarkesy/JTCM that they could inspect the remainder of the documents at the New York Regional Office. On May 20, the Division produced the bulk of the investigative fileto Jarkesy/ITCMin theform of a harddrive containing searchable databasesof all documents produced to the Division during the investigation. Thedocuments were produced to Jarkesy/JTCM as they were produced by third partiesto the Division. Thus, if a subpoenaed party"bates stamped" the documents, the copies produced to Jarkesy/JTCMwere bates stamped. If a subpoenaed partydid not bates stamp the documents, the copies produced to Jarkesy/JTCMwere not bates stamped. The Division farexceeded its obligations under the Rules of Practice. TheRules of Practice only require that the Division makethe documents available forinspection and copying in the New York Regional Office. Moreover, the Rules of Practice provide that respondents 6 have to pay forcopies. Nothing in the rulesrequired the Division to turnover all of the documents or to provide the documentsin an electronicsearchable format. TheDivision did so withoutreceiving anypayment fromJarkesy/JTCM for the costs of copying andproducing the documents. Likewise, while the Rules of Practicedo not require that the Division provide a list of withhelddocuments to Jarkesy/JTCM,the Division did so, listing categories of documents withheld(internal e-mail, internalmemoranda and internal spreadsheets). The withheld document listalso provided a list of persons with whom the Division spoke where therewas no transcript duringthe pre-filinginvestigation. Further, the Division provideda declarationfrom the its lead trialcounsel in this matter stating that he personally reviewed all of thedocuments on the withhelddocument list andthat other that certain witnessstatements, none containedBrady material. His declaration provided a summaryof potentially exculpatorystatements made by individuals withwhom the Division spoke during the investigation. Even further,his declaration provided a summaryof potentially exculpatory statements made by individuals withwhom the Division spoke subsequent to filingthis administrativeproceeding; theRules of Practicerequire only such disclosure of materials generated prior to the filingof anadministrative proceeding. The Division has not yet made a specificJencks disclosureto Jarkesy/JTCM. There are tworeasons forthis: (1) prior to this motion being filed,Jarkesy/JTCM had not moved forthe Division to produce such materials, which is required under Rule 231(a); and (2) the Division hasnot yet submitted its list of witnesses forthis proceeding and, as such, any Jencks production would be premature. TheDivision notes, however, that it produced all of the transcriptsof the investigative testimony to Jarkesy/JTCMand that, outside of such testimony transcripts,it hasno other Jencks "statements" to produce as definedunder 18 U.S.C. 3500(e).2 2 See In the Mallerof ThomasJ. Fillin, File No. 3-6571, 1991 SEC LEXIS 880 (Order of the Commission, May 8, 1991) (respondentsnot entitled to interview notes under Jencks because they are not the substantial verbatim 7 III. THE DIVISION HAS COMPLIED WITH ITS BRADY OBLIGATIONS Jarkesy/JTCMhas asked your Honor to require the following: (I) that the Division produce its witnessinterview notes, (2) that the Division review every document thatit has already produced to the moving respondents to look forBrady material andthen to provide those documents to themin some fonnof a binder, and (3) to produce a certificationof compliance with Bradybeyond what theDivision hasalready produced. Theserequests should be denied as the Division already has fully complied with its Bradyobligations. A. The Division's Interview Notes are Privileged It is beyond contention thatwitness interviewnotes areprivileged work product. See, e.g., U.S. v Gupta, 848 F.Supp.2d 491 (S.D.N.Y., Mar.26, 2012) (SEC's witnessinterview notes are protected work product r�quiringa showing of "substantialneed" by defendant);S.E. C. v. Nadel, 2013 U.S. Dist. LEXIS36251, (E.D.N.Y. Mar.15, 2013) (SEC interviewnotes constitute opinion/corework product andare subject to heightened protection); SEC v. NIR Group, LLC, 283 F.R.D. 127 (E.D.N.Y. Aug. 17, 2012) (SEC notes andmemoranda relating to witness and investor interviewsare "highly protected work product of which production may not be demanded");S.E.C. v. Strauss, 2009 U.S. Dist. LEXIS101227, (S.D.N.Y. Oct 28, 2009) (application to compel production of SEC interviewnotes andmemoranda denied, since SEC interview notes and memorandaprepared in anticipationof litigation fitwithin the protection of statements of a witness);In the Matter ofGeorge J. Kolar, File No. 3-9570, 1999 SEC LEIXS 2300 (Order of AU Kelly, Oct. 28, 1999) ("although the Division interviewedMr. Czernyseveral times beforethe hearing, it did so in a fashion that did not create Jencks Act statements, releasable to Mr. Kolar under Rule 23 l(a)"); In the Matter of OrlandoJoseph Jen, File No. 3-8919, 1996 SEC LEXIS 1367 (Order of AU, May 14, 1996), order to produce memoranda/or in camera review vacated, 1996 SEC LEXIS 1683 (Order of the Commission, June 17, 1996) ("Not all documentscontaining descriptions of statements by a witness will be Jencks Act material"); In the Matter of Kevin Upton, File No. 3-7604 (Order of ALI Regensteiner, March I 0, 1992) (interview notes do not meet the Jencks test because they are not a substantial verbatim recital of an oralstatement); In the Matter ofRobert E. lies,Sr., File No. 3-7261, 1990 SEC LEXIS 3931 (Order of Chief ALI Blair, April 19, 1990) (interviewnotes not substantial verbatim statements of the witness);In the Matter ofStuart-James Co., Inc., File No. 3-7164 (Order of AU Regensteiner, Sept. 29, 1989) (same). 8 work-product doctrine). The witnessinterview n�tes at issue relate to interviewsconducted by Division attorneysin connection with the investigation of respondents, andwere conducted in anticipationof this litigation. Althoughthe interviewspredated the formalinitiation of this litigation, they "were conducted in order to provide theCommission with informationso that it could make the determinationwhether to proceed with litigation," andthus, fall "squarelywithin the protections of the work-product doctrine. S.E.C. v. Cavanagh, 1998 U.S. Dist. LEXIS 3713, at *6 (S.D.N.Y. Mar.23, 1998). Because notes of attorneys'investigative interviews inherently reflecttheir mental impressions, opinions, theories and conclusions, such notes have long been entitledto the strictestlevel of work product protection. See, e.g., Upjohn Co. v. United States, 449 U.S. 383, 398-401 (1981) (disclosure ofattorney interview notes is disfavored,and justified eitherrarely or "never"), S.E.C. v. Stanard, 2001 U.S. Dist. LEXIS 46432 (S.D.N.Y. Jun. 26, 2007) (analysisof case 'in anticipationoflitigation' is work product, andreceives heightened protection underRule 26(b)(3)); S.E.C. v. Treadway,229 F.R.D. 454 (S.D.N.Y. Jul. 26, 2005) (notes protected by work product privilege because they represent attorney work product that at leastin part,reflects thought process ofcounsel); S.E.C. v. Downe, 1994 U.S. Dist. LEXIS 708 (S.D.N.Y. Jan.27, 1994) (attorneywork product based on oral statements ofwitnesses is likely to reveal attorney'smental processes). While the Division hasnot turnedover the witnessnotes to Jarkesy/JTCM,the Division hasprovided a declaration describing all of the potentially exculpatorystatements that are contained within such notes, which has been held to be sufficient under Rule 230. See Bandimere 2013 SEC LEXIS 746 at *8. (denying respondent's request forproduction of interviewnotes when Division provided essential factsand substance of material exculpatory evidence in affidavit);In the Matter ofDearlove, File No. 3-12064, 2006 SEC LEXIS 1476 *5 9 (Order of ALJ Kelley, Jan. 19, 2006) (declaration satisfies Brady obligations). Jarkesy/JTCM speculate in their memorandum of law that the interview notes may contain other information that was not provided to them. Mere speculation is not sufficient to require even the production of such notes to the ALJ for an in camera review. Jett, 1996 SEC LEXIS 1683 at *2 ("Mere speculation that government docwnents may contain Brady material is not enough to require the judge to make an in camerareview"); OptionsXpress, 2013 SEC LEXIS 3235 at *15 (respondents must make plausible showing that documents contain information both favorable andmaterial to their defense). Moreover, if Jarkesy/JTCMbelieved that the witnesses with whom the Division spoke had something to offertheir defense, they are free to inquire directly of the individualswithout offendingthe Division's privileges. Jarkesy/JTCMhave not even attempted to state in their memorandum of law that they are unable to speakwith these witnesses themselves and must, instead, rely on the Division's privileged work product. B. Rule 230 Does Not Impose the Duties Suggested by Respondents JTCM/Jarkesy request that the Division review each document that has already been produced to them, identify all documents that contain potential exculpatory material, and put them into a binder so that they can easily go through those documents and prepare their defense. Rule 230 does not require that the Division take such steps. Rule 230 simply states that the Division cannot withhold from production documents that might be covered under Brady. By definition, the documents that were produced to respondents were not "withheld." The notes to the proposed ruleof practice 20 (now memorialized as Rule 230) make clear the Brady obligation in the ruleonly applies to withheld documents ("if the interested division disclosed 10 underProposed Rule 20(a) that it has withheld material directly relevantto the culpability of any respondent, the hearing officer ... ") In Bandimere, ALJ Elliot stated that "Brady is not a discovery rule, it is intended to insure that exculpatorymaterial knownto the Division is not kept fromthe respondent." 2013 SEC LEXIS 746 at* 7-8. Moreover, ALJ Elliot stressedthat "Rule 230(b)(2) only prohibits the Division fromacting 'contraryto the doctrineof Brady.' I amaware of no support forthe proposition that the Commissionintended to hold the Division to a higher standardthan what Brad�requires." Id at*9. TheDivision has not kept anypotentially exculpatorymaterials from the respondents. It has produced its entire investigative fileto Jarkesy/JTCM_except for privileged materials and,even with respect to privileged material, it hassummarized all potentially exculpatorymaterial contained in thatprivileged material. Respondents simply want the Division to do their work forthem. Respondents have not cited anyCommission or ALJ decision that imposes on the Division the obligation they now seek. TheDivision is not awareof casein which such relief wasgranted. To the contrary, in In the Matter ofCMKMDiamonds, Inc., File No. 3-11858, 2005 SEC LEXIS 998*7 (Decision of Chief ALJ Murray,May 2, 2005), the ALJ deniedthe request ''that I require the Division to search through all the Commission's files forexculpatory evidence because it is excessive and impractical." Similarly, in In the Matter of David M Haber, File No. 3-8155, 1994 SEC LEXIS 352 {ALJ decision, Feb. 2, 1994), the Judge held that "Division counsel is not obligated to searchthe entire investigatory record to meets its Brady obligation.,, The only federalcourt case cited by Jarkesy/JTCMwhere such a request wasgranted is United States v. Salyer, CR. No. S-10-0061, U.S. Dist. LEXIS 77617 (E.D. Ca. Aug. 2, 2010). 11 Salyer is inapplicable here. See Bandimere, 2013 SEC LEXIS 399 at *5 ("All the cases cited by Bandimere were decided under the Federal Rules of Civil Procedure (FRCP), which do not governthis proceeding") (andcases collected). Moreover, Salyer is, at best, an outlier and should not be considered precedential in any way in this mattergiven the wealth of authority that runscounter to it. In Strickler v. Greene, 527 U.S. 263, 283 n.23 (1999), forexample, the United States Supreme Court stated "we certainlydo not criticize the prosecution's use of the open file policy. We recognizethat this practice may increase the efficiency and the fairness of the criminal process." In United States v. Warshak, 631 F.2d 266,297 (6th Cir. 2010),the Sixth Circuit Court of Appeals rejected the defendant'sargument that the governmentfailed to comply with its Brady obligations when it handed over "millions of pages of evidence and fore[ed] the defense to find anyexculpatory informationcontained therein." TheCourt held that there was no evidence thatthe governmentacted in bad faith, lardingits production withentirely irrelevant documents or concealing exculpatory evidence in the informationturned over. Consequently, the courtrejected the argument that the governmentwas obliged to siftthrough all of the evidence in an attempt to locate anything favorable to the defense, stating that such an argument "comes up empty." In United States v. Rubin/Chambers, Dunhi/1Ins. Servs.,825 F. Supp.2d 451, 454-55 (S.D.N.Y. 201 I), the courtspecifically rejected Salyer, holding that "it is apparent that prosecutors may satisfytheir Brady obligations through 'open file' policies or disclosure of exculpatory or impeachment material within largeproduction of documents of files." And "even when the material disclosed is voluminous," in the absence of prosecutorial misconduct (bad faith or deliberate attempts to knowingly hide Brady material), the prosecutor's use of "open file disclosures ... does not runafoul of Brady." Similarly, in United States v. Ohle, S3 08 CR 1109, 2011 U.S. Dist. LEXIS 12581 *7-11 (S.D.N.Y. Feb. 7,2011), the court rejected defendants' 12 argumentthat the prosecutors should be required to identifyspecific Brady documentswithin the files produced by the government- even thoughthe governmentin thatcase had produced nine separatesearchable Concordancedatabases to the defendants, whichcontained several gigabytes of data "including millions of separatefiles extending to several million pages in length." The court held that"as a general rule,the Governmentis under no dutyto direct a defendantto exculpatoryevidence withina largermass of disclosed evidence." (Id at * 11, citations omitted). Moreover, thecourt noted thatwhile there were manydocuments, the governmenthad produced anel �ctronicallysearchable database,to which both parties had equal access, andtherefore, the defendants''were justas likely to uncoverthe purportedly exculpatory evidence as wasthe government. See also United States v. AU Optronics Corp., No. C 09-0110, 2011 U.S. Dist LEXIS 14803 7 (N.D. Cal. Dec. 23, 2011) (denying motionseeking order requiring the governmentto review 37 million pages of documents produced to identifypotentially exculpatorymaterial under Brady).3 c. The Division has Produced a Brady Declaration to Jarkesy/JCTM As described above, the Division hasproduced its entire investigative fileto Jarkesy/JTCMwith the exception of privileged material. With respect to the privilegedmaterial, the Division provided a declarationto Jarkesy/JTCMdescribing thepotentially exculpatory materialscontained in the interviewnotes andstating that the other· privileged material produced does not contain material exculpatory statements. Becausethe Division should not be required 3 Jarkesy/JTCM's citation of United Statesv. Skilling, 554 F.3d 529 (5th Cir. 2009), ajf'din part and vacated on other grounds; 130 S.Ct. 2896 (2010) only underscores the Division's argument. First, the courtin that case did not order the governmentto go through the files that had already been produced and identifypotentially exculpatory material under Brady. Second, the courtin that case held that the potential issues caused by the government's production of a large filewas mitigated by the fact that fileproduced was searchable and that the governmenthad also produced hot documents. Here theDivision did the same, producing thedocuments in a searchable Concordance database and also separatelyproducing the investigative testimony and the exhibits thereto, which comprise itshot documents file. Jarkesy/JTCM has not explained how the factthat the Division's production of several databases makes it more difficult to search or that it cannot combine those databases itself. 13 to review the entire investigative file already produced to identify additional potentially exculpatorydocuments, no further declaration is required. Jarkesy/JTCM's claim that the Division did not produce the declaration to them on a timely basis is also inaccurate. The Division produced this declaration to Jarkesy/JTCM more thanone month in advance of the scheduled hearing date. The timing of the Division's production is not a violationof Respondents' rights sincethis material was provided to them withmore thansufficient time to prepare for the hearing. In the Matter ofEgan-Jones Rating Co., File No. 3-14856, 2012 SEC LEXIS 2204 * 14 (AIJdecision, July 13, 2012). IV. JARKESY/JTCM'SREQUEST TO CHANGE VENUE SHOULD BE DENIED Separately fromtheir unsupportedrequest for additional Bradydisclosures, Jarkesy/JTCM request that the venue of the proceeding be changed fromNew York to either Houston or DallasTexas. In support of this motion, Jarkesy/JTCM state that they expect to call six Texas-based witnesses, and that the professionals that were hired by Jarkesy/JTCM may also expect to be indemnifiedfor the travel costs associatedwith coming to New York forthe hearing. Notably, Jarkesy/JTCMdo not identifyany of these witnesses, explain what their testimony might be, or state why it is inconvenient for them to travel to New York ( except potentially forcost). Nor do Jarkesy/JTCM attach a copy of the indemnification agreement. Consequently, it is impossible forthe Division and/or the Hearing Officer to evaluate these statements and they should be ignored. See, e.g., Union Cent. LifeIns. Co. v. Anchor Fin. Servs., LLC, No. 1:10-cv-95, 2010 U.S. Dist. LEXIS 139405 *7 (S.D. Ohio May 21, 2010) ("[w]hen a party moves forchange of venue based on inconvenience to witnesses or the burden of transporting documents, the party should provide specific evidence of inconvenience"); Farmers Select, LLCv. United Motor Freight, 07-CV-342, 2008 U.S. Dist. LEXIS *12 (E.D. Tex. Dec. 14 19, 2008) (''the party seeking transfer 'must clearly specificthe key witnesses to be called and make a general statement of what their testimony will cover."').4 In addition, Jarkesy/JTCM fail to consider the factthat Belesis andthe currentand former employees of his firmare located in New York. The factthat Belesis/JTF have made an offer to settlethis case thatthe Division intends to recommend to the Commission does not meanthat Belesis and/or employees of his firm will not be called as witnesses. Jarkesy/JTCM also ignore that numerous investors (including investors on the list of individuals with whom the Division hasspoken) are located in New York or close to New York. Jarkesy/JTCMdo not address how a proceeding in Texas will be convenient forthese individuals. The location of Jarkey/JCTM's lawyers is irrelevant. See, e.g., National Gypsum Co. v. Tremco., Inc., No. 97 C 2818, 1997 U.S. Dist. LEXIS 11814 (N.D. Ill. Aug. 8, 1997) (the location of a party'sattorneys is not, however, a proper consideration in the[ changeof venue] analysis");Solomon v. Continental American Life Ins. Co., 472 F.2d 1043, 1047 (3d Cir. 1973) ("[t]he convenience of counsel is not a factor to be considered"). In sum, Jarkesy/JTCM simply want this caseadjudicated in Texas because it will be more convenient for them to litigate in Texas. This is not a sufficient reason to change the venue, particularly in light of thefact that Jarkesy/JTCMused a New York-based broker dealer as the placement agent fortheir funds. By virtue of this fact alone, Jarkesy/JTCMreasonably should have expected that they might have to litigate in New York. Consequently, the Division respectfully requests that the change of venue motion be denied. 4 While federalcourt decisions resolving procedural mattersunder the federalrules do not have precedential value in administrative proceedings, we were unable to find ALJdecisions with a substantive discussion of the standards for moving venue. Consequently, we cite these caseas guidance. 15 UNITED STATES OF AMERICA Beforethe SECURITIESAND EXCHANGECOMMISSION ADMINISTRATIVEPROCEEDING FileNo. 3-15255 Inthe Matter of JOHNTHOMAS CAPITAL MANAGEMENT GROUP,LLC, d/b/aPATRIOT28, LLC, GEORGE R.JARKESY JR., JOHNTHOMAS FINANCIAL, INC. and ANASTASIOS "TO:MMY' BELESIS, . Respondents. . ------. Divisionof Enforcement's Post-Ht�ring Memorandum of Law Pursuant to Rule of Practice 340., . Todd D. Brody, SeniorTri.al CowtSel Alix Biel, SeniorStaff Attorney Division of Enforcement 200 Vesey Street,4 th Floor Tel: (212) 336-0080 (Btody) Tel: (212) 336-0028 (Biel) Facsimile: (212) 336-1324 (Brody) Facsimile: (212) 336-1353 (Biel) Email: [email protected] Email: [email protected] TABLEOF CONTENTS I. TheCredibility of the WitnessesWho Testified at the Hearing. I II. The Claims Asserted by the Division against Respondents 2 A. Respondents Made Numerous Misrepresentations to Investors 5 B. Respondents Misrepresentations Were Material 8 1. ThePPM Disclosures did not Makethe Representations Immaterial 11 C. Respondents Had theRequisite Scienter 14 1. Relianceon Accountantsand Experts is not a SufficientDefense 18 D. Respondents areSeparately Liable fortheir Participationin the Scheme 22 E. Respondents Violated the Advisers Act 22 III. Respondents Should Receive MaximumSanctions 24 A. Respondents Should Receive a Ceaseand Desist Order 26 B. Respondents Should Pay Disgorgement, Interest, andPenalties 27 C. JarkesyShould Receive Collateral Bars 30 D. JarkesyShould Receive PennyStock andOfficer and Director Bars 31 CONCLUSION 32 TABLE OF AUTHORITIES A.J. White& Co. v. SEC, 556 F.2d 619 (1st Cir.), cert. den., 434 U.S. 969(U.S. 1977) ...... 17 Aaron v. SEC, 446 U.S. 680(U.S. 1980) ...... 3 Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128 (U.S. 1972) ...... 4 Arthur LipperCorp., 46 S.E.C. 78 {I 975) ...... 25 Basic Inc. v. Levinson, 485 U.S. 224 (U.S. 1988) ...... 2, 8 C.E. Carlson, Inc. v. SEC, 859 F.2d 1429(10 th Cir. 1988) ...... 17, 21 Christopher A. Lowry,55 S.E.C. 1133(2002), ajfd, 340 F.3d 501(8th Cir. 2003) ...... 25 ECA & Local 134 IBEW Joint Pension Trust ofChi. v. JP Morgan Chase Co., 553 F .3d 187(2d Cir. 2009) ...... 8 Ernst& Ernstv. Hochfelder,425 U.S. 185 (1976) ...... 14 EvergreenInvestment Mgmnt. Co., LLC, 2009 SEC LEXIS 1853 (June 8, 2009) ...... 9, 23 Folger Adam Co. v. PM/ Indus., Inc., 938 F.2d 1529(2d Cir.), cert. den., 502 U.S. 983 (1991)... 8 FTCv. Commerce Planet, Inc., 878 F. Supp.2d I 048 (C.D. Cal. 2012) ...... 21 Ganino v. Citizens Utils. Co., 228 F.3d 154 (2d Cir. 2000) ...... 8 Graham v. SEC, 222 F.3d 994 (D.C. Cir. 2000) ...... 14 IKBInt'/ S.A. v. Bank ofAmerica, 12 Civ. 4036, 2014 U.S. Dist. LEXIS 45813 (S.D.N.Y. March31, 2014) ...... 6 Illesv. Commissioner, 983 F.2d 163 (6th Cir.), cert. den., 982 F.3d 163 (U.S. 1992) ...... 21 In re Bank ofAm. Corp. Sec. Deriv. & ER/SA Litig., No. 09 MD 2058, 2011 U.S. Dist. LEXIS 84831 (S.D.N.Y. July 29, 2011) ...... 19 In re Connetics Corp. Sec. Litig., 542 F. Supp.2d 996(N.D. Cal. 2008) ...... 6 In re Donald J. Trump Casino Sec. Litig., 1 F.3d 357(3d Cir. 1993), cert. den., 510 U.S. 1178 (U.S. 1994) ...... I l In re Global Crossing, Ltd Sec. Litig., 322 F. Supp.2d 319(S.D.N.Y. 2004)...... 22 In re IntegratedResources Real Estate Ltd Part. Sec. Litig., 815 F. Supp. 620(S.D.N.Y. 1993) ...... ll In re Merck & Co., Deriv. & ERISA Litig., MDL No. 1658, 2011 U.S. Dist. LEXIS 87578(D.N.J. Aug. 8, 2011) ...... 7 In re SJ Corp. Secs. Litig., 173 F. Supp.2d 1334 (N.D.Ga. 2001) ...... 11 In re Sadia, S.A. Sec. Litig., 269 F.R.D. 298 (S.D.N.Y. 2010)...... 10 In re StillwaterCapital Partners Inc. Litig., 858 F. Supp.2d 277 (S.D.N.Y. 2012) ...... 7 In re: Rochester Funds Group Sec. Lilig., 838 F. Supp.2d 1148 (D. Colo. 2012) ...... 12 In the Maller of Constantin, 2013 SEC LEXIS 3134 (Initial Decision, Oct .. 4, 2013) ...... 30 In the Matter ofDaniel Bogar, 2013 SEC LEXIS 2235(Initial Decision, Aug. 2, 2013) ...... 25, 30 In the Matter of David F. Bandimere, 2013 SEC LEXIS 3142 (Initial Decision Oct. 8, 2013) ... 18 In the Matter ofFields, 2012 SEC LEXIS 3747(Initial Decision, Dec. 5, 2012) ...... 26 In the Matter ofGerasimowicz, 2013 SEC LEXIS 2019(Initial Decision July 12, 2013) ..... 27, 28 In the Matter of GregoryM Dearlove, CPA, 2006 SEC LEXIS 1684 (Initial Decision July 27, 2006) ...... 2 In the Matter ofGualario & Co., LLC, 2012 SEC LEXIS 497 (Feb. 14, 2012) ...... 29 In the Matter of Koch, 2012 SEC LEXIS 1645 (Initial Decision, May 24, 2012) ...... 26 In the Matter of Leaddog Capital Markets LLC, 2012 SEC LEXIS 2918 (Initial Decision, Sept. 14, 2012) ...... passim In the Matter ofNext Financial Group, Inc., 2008 SEC LEXIS 1393 (Initial Decision June 18, 2008) ...... 2 In the Matter of Seeley, 2013 SEC LEXIS3156 (Initial Decision, Oct. 9, 2013) ...... 30 In the Matter of Siris, 2012 SEC LEXIS 407 5 (Initial Decision, Dec. 31, 2012) ...... 30 In the Matter of Steven E. Muth, 2004 SEC LEXIS 2320 (Initial Decision Oct. 8, 2004) ...... 2, 28 In the Matter of the Application of Harold B. Hayes,1994 SEC LEXIS 2870 (Commission Opinion Sept. 13, 1994) ...... 21 In the Matter of the Application ofLouis Feldman, 1994 SEC LEXIS 3428 (Commission Opinion Nov. 3, 1994) ...... l 9 Janus Capital Grp., Inc. v. First Derivative Traders, 131 S. Ct. 2296 (U.S. 2011) ...... 6, 7 Krasnerv. RahfcoFunds, L.P., 11 CV 4092, 2012 U.S. Dist. LEXIS 134353 (S.D.N.Y. Aug. 9, 2012) ...... � ...... 10 Markowskiv. SEC, 34 F .3d 99 (2d Cir. 1994 ) ...... 18 Marshall E. Melton, 56 S.E.C. 695 (2003) ...... 25 Middlesex Retirement Sys. v. Quest Software Inc., 527 F. Supp.2d 1164 (C.D. Cal.2007) ...... 22 Pennsylvania.Pub. Sch. Emplys. Ret. Sys.v. Bank ofAm. Corp., 874 F. Supp.2d 341 (S.D.N.Y. 2012) ...... 10 Renner v. Townsend Fin. Servs.Corp., 98 Civ. 926, 2002 U.S. Dist. LEXIS 8898 (S.D.N.Y. May 20, 2002)...... 20 Ro/fv.Blyth, Eastman Dillon& Co., Inc., 570 F.2d 38 (2d Cir.), cert. den., 439 U.S. 1039 (U.S. 1978) ...... 14 Schield Mgmt.Co., Exchange Act Release No. 53201 (Jan. 31, 2006), 87 SEC Docket 848 ...... 25 SEC v. AIC,Inc., 3:1 l-CV-176, 2013 U.S. Dist. LEXIS 130249 (E.D. Tenn. Sept. 12 2013) ...... 19 SEC v. BankatlanticBancorp., Inc., No. 12-60082, 2013 U.S. Dist. LEXIS 146699 (S.D. Fla. Oct. 10, 2013) ...... 18 SEC v. Batterman, 00 Civ. 4835, 2002 U.S. Dist. LEXIS 18556 (S.D.N.Y. Sept. 30, 2002) ...4, 24 SEC v. Biovail Corp., No. 08 Civ. 2979, 2009 U.S. Dist. LEXIS 15546 (S.D.N.Y. Feb. 10, 2009) ...... 14 SEC v. Blinder, Robinson & Co., 542 F. Supp. 468 (D. Colo. 1982) ...... 18 SEC v. Boock, 2011 U.S. Dist. LEXIS 129673 (S.D.N.Y. Nov. 9, 2011) ...... 8 SEC v. Bremont, 954 F. Supp. 726 (S.D.N.Y. 1997) ...... 15 SEC v. Capital Gains Research Bureau, Inc., 375 U.S. 180 (1963) ...... 4 SEC v. Coates, 137 F. Supp.2d 413 (S.D.N.Y. 2001) ...... : ...... 29 SEC v. Curshen, No. 09-1196, 2010 U.S. App. LEXIS 7555 (10th Cir. 2010) ...... 3 SEC v. Dorozhko, 514 F.3d 42 (2d Cir. 2009) ...... 22 SEC v. Fife,311 F.3d 1 (1st Cir.), cert. den., 538 U.S. 1031 (U.S. 2002) ...... 10 SECv. Fraser, 2009 U.S. Dist. LEXIS 70198 (D. Ariz.Aug. 11, 2009) ...... 22 SEC v. Gane, No. 03-61553, 2005 U.S. Dist. LEXIS 607 (S.D. Fla. Jan.4, 2005) ...... 6 SEC v. Garber, 959 F.Supp.2d 374 (S.D.N.Y. 2013)...... 7 SEC v. Glantz, 94 CV 5737, 2009 U.S. Dist. LEXIS 95350 (S.D.N.Y. Oct. 13, 2009) ...... 28 SECv. Hu.ff,158 F. Supp.2d 1288 (S.D. Fla. 2010) ...... 18 SECv. Johnson, No. 04-4114, 2006 U.S. App. LEXIS8230 (3d Cir. April 5, 2006) ...... 19 SECv. Kenton CapitalLtd, 69 F. Supp.2d 1 (D.D.C. 1998) ...... 28 SECv. Kimmes, 199 F. Supp. 852 (N.D. Ill. 1992), affd, 991 F.2d 287 (7th Cir. 1993) ...... 22 SECv. Koester, No. 1 :12-cv-01364, 2014 U.S. Dist. LEXIS45863 (S.D. Ind. April 2, 2014) .... 11 SEC v. Lauer, No. 03-80612, 2008 U.S. Dist. LEXIS 73026 (S.D. Fla. Sept. 24, 2008) .... .4, 9, 23 SEC v. Levin, No. 12-21917-CIV, 2013 U.S. Dist. LEXIS 146702 (S.D. Fla. Oct. 10, 2013) ..... 10 SECv. Mannion, 789 F. Supp.2d 1321 (N.D. Ga. 2011) ...... 12-13 SECv. Manor Nursing Ctrs., Inc., 458 F.2d 1082 (2d Cir. 1972) ...... 18 SECv. Mayhew,121 F.3d 44 (2d Cir. 1997) ...... 8 SECv. McNulty, 131F.3d 732 (2d Cir.), cert. den., 525 U.S. 931 (U.S. 1996) ...... 14 SECv. Meltzer, 440 F. Supp.2d 179 (E.D.N.Y.2006) ...... 13-14, 20 SECv. Merchant Capital, 483 F .3d 747 (11th Cir. 2007) ...... 3 , 13 SEC v. Milan Capital Group, Inc., 00 Civ. 0108, 2001 U.S. Dist. LEXIS 11804 (SONY 2001) ...... 28 SECv. Monerosso, 2014 U.S. App. LEXIS 3891 (11th Cir. Mar.3, 2014) ...... 8 SEC v. Morgan Keegan & Co., 678 F.3d 1233 (11th Cir. May 2, 2012) ...... 3 SECv. Mudd, 885 F. Supp.2d 654 (S.D.N.Y. 2012) ...... 3 SECv. Novus Techs., LLC, No. 2:07-CV-235, 2010 U.S .Dist. LEXIS 111851 (D. Utah Oct. 20, 2010), affd, 183F.3d 1151 (10th Cir. 2013) ...... 10 SECv. O'Meally. No. 06 Civ 6483, 2010 U.S. Dist. LEXIS 107696 (S.D.N.Y. Sept. 29, 2010) ...... 21 SEC v. Pentagon Capital Mgmt., 725 F.3d 279 (2d Cir. 2013) ...... 3 , 29 SECv. Penthouse Int'/, Inc., 390 F. Supp.2d 344 (S.D.N.Y. 2005) ...... 12 SECv. Seghers, No. 3:04-CV-1320, 2006 U.S. Dist. LEXIS 69293 (N.D. Tex., Sept. 14, 2006), affdin part and vacated in part on other grounds 2008 U.S. App. LEXIS 23507 (5th Cir. 2008) ...... 9, 23 SECv. Softpoint,Inc., 958 F.Supp. 846 (S.D.N.Y. 1997), affd,159 F.3d 1348 (2d Cir. 1998)..... 3 SECv. Stanard,06 Civ. 7736, 2009 U.S. Dist. LEXIS 6068 (S.D.N.Y. Jan.27, 2009)...... 14 SEC v. Stoker, 865 F. Supp.2d 457 (S.D.N. Y. 2012) ...... 3 SECv. Tambone, 550F.3d 106 (1st Cir. 2008) ...... 4, 24 SECv. Texas GulfSulphur Co., 401 F. 2d 833 (2d Cir. 1968), cert. den., 394 U.S. 976 (lJ.S. l 969) ...... 2 SEC v. Tourre, 10 Civ. 3229, 2014 U.S. Dist. LEXIS 1570 (S.D.N.Y. Jan.7, 2014) ...... 3 SEC v. U.S.En v'tl., Inc., 155 F .3d 107 (2d Cir. 1998), cert. den., 526 U.S. 1111 (U.S. 2000) .... 14 Steadman v. SEC, 450 U.S. 91 (1981) ...... 25-26 Steven E. Muth, 58 S.E.C. 770 (2005) ...... 28 Stokesv. S.States Coop., Inc., 651 F.3d 911 (8th Cir. 2011) ...... 18 Stoneridge Inv. Partners, LLC v. Scientific-Atlanta�552 U.S. 148 (2008) ...... 22 Superintendent ofInsurance v. BankersLife and CasualtyCo., 404 U.S. 6 (1971) ...... 22 U.S.v. Scott, 31 F.3d 1564 (10th Cir. 1994), cert. den., 513 U.S. 1100 (U.S. 1995) ...... 18 Underland v. Alter, No. 10-3621, 2011 U.S. Dist. LEXIS 102896 (E.D. Pa. Sept. 9, 2011) ...... 11 United States v. Smith, 523 F.2d 771 (5th Cir. 1975), cert. den., 429 U.S. 817 (U.S. 1976) ...... 21 Weiss v. SEC, 468 F.3d 849 (D.C. Cir. 2006) ...... 6 Pursuant to Rule of Practice 340, the Division of Enforcement ("Division") submits the following post-hearingmemorandum of law, which outlines its case against John Thomas Capital ManagementGroup LLC, d/b/aPatriot28, LLC ("JTCM") andGeorge R. Jarkesy, Jr. ("Jarkesy") (collectively "Respondents'') and the legal theories upon which theDivision relies. The factsupon which this memorandum of law is based are described in the Division's proposed 1 :findings of factand conclusions of law, filed herewith. I. The Credibilityof the WitnessesWho Testifiedat the Hearing. Twelve witnesses testifiedin this case, eleven of them credibly andbelievably. Only Jarkesy's testimony lacked credibility. During the Division's examination, Jarkesy repeatedly answered that he did not remember essentially anythingthat occurred while he managed the two John Thomas Bridge and OpportunityFunds (the "Funds"). Jarkesy even claimed he could not recall the assetsthat are currentlyin the twoFunds or their values, notwithstandinghis testimony that those Funds are still operating. And Jarkesyrepeatedly suggested that documents he was shownwere inauthentic, even though the documents were his own records that had been produced by his owncounsel duringthe investigation. Duringexamination by his ownattorneys, however, Jarkesy's memory suddenly improved and he was able to answer questions substantively. Just as suddenly, when the Division followed up on these answers duringcross examination, Jarkesy'smemory again failed him. Jarkesy's self-serving andseemingly coached testimony should not be given any credence by the Hearing Officer. See, e.g., In the Matter of 1 As described in the proposed findingsof factand conclusions of law, the Division offeredDX 231 and DX 503- 506 into evidence but those documents were not admitted. DX-231 is a document that was produced by Respondents and carriesthe JTBOF bates stamp. DX-503-506 are documents that were produced pursuantto subpoena and are the subject of business record declarationsby John Thomas Financial, Inc. ("JTF') It would be inconsistent with the other evidentiaryrulings in this case to exclude such exhibits and the Division renews its request that they be admitted. The Division notes that DX 503-506 arediscussed andexplained in the pages from the investigative testimony of Anastasios "Tommy,, Belesis ("Belesisn) that were counter-designated by the Division asper the order of the Hearing Officer. 1 Next Financial Group, Inc., 2008 SEC LEXIS 1393 *54 (Initial Decision June18, 2008) (fact that witnesses "developed poor memories when the inquiryturned to their personal involvement" leads Hearing Officerto discount their testimony"); In the Matter of GregoryM Dearlove, CPA, 2006 SEC LEXIS 1684 * 159 {Initial Decision July 27, 2006) (witnesses "inordinate numberof 'I don't recall' answers"leads HearingOfficer to conclude that his testimony wasnot credible"); In the Matter ofSteven E. Muth, 2004 SEC LEXIS 2320 *58 (Initial Decision Oct. 8, 2004) (hearingofficer finds Respondent not credible where his "testimony was littered with references about being unable to remember certain events, yet he recalled specificfacts and details when it servedhis interests to do so"). II. The Claims Asserted by the Division against Respondents The Division assertsclaims against Respondents based on Section 10(b) of theExchange Act of 1934 ("ExchangeAct") andRules 10b-5(a)-(c) thereunder; Section l 7(a)(l)-(3) of the Securities Act of 1933 ("Securities Act"); and Section 206 of the InvestmentAdvisers Act of 1940 ("Advisers Act") and Rule 206(4)-8 thereunder. Section 10(b) of the Exchange Act prohibits fraudin connectionwith the purchase or sale of securities. Specifically, Section 10(b) and Rule 10b-5(b) thereunder prohibit the making of material misstatements or omissions in connection with the sale or purchase of securities. See Basic Inc. v. Levinson, 485 U.S. 224, 231-32 (U.S. 1988); SECv. Texas GulfSulphur Co., 401 F. 2d 833 (2d Cir. 1968), cert. den., 394 U.S. 976 (U.S. 1969). Rules l0b-S(a) and(c) prohibit any "scheme ... to defraud"or "course of business which operates ... as a fraudor deceit upon any person." To prove a § 10(b) violation or Rule 10b-5 violation, the SEC must show (1) material misrepresentations or materially misleading omissions, (2) in connection with the purchase or 2 sale of securities,(3) made with scienter. See, e.g., SECv. Curshen, No. 09-1196, 2010 U.S. App. LEXIS 7555 (10th Cir. 2010); SEC v. Merch. Capital, LLC, 483 F.3d 747, 766 (11thCir. 2007). In actions brought by theDivision, reliance,damages, and loss causation are not required elements. See, e.g., SECv. Morgan Keegan & Co., 618 F.3d 1233,1244 (11th Cir. May 2,2012). Section 17(a) of the Securities Act prohibits any person in the offer or sale of securities from (1) employing anydevice , scheme or artificeto defraud,(2) obtaining money or property by means of material misstatements andomissions, and (3) engaging in anytransaction, practice, or course of business which operates or would operate as a fraud or deceit upon a purchaser. Section 17(a) of theSecurities Act prohibits fraud in the offer or sale of securities,using the mails or instruments of interstatecommerce. Section 17(a)(l) forbids the direct or indirect useof any device,scheme, or artificeto defraud;Section l 7(a)(2) makes it unlawfulto obtain money or propertythrough misstatements or omissions about materialfacts; and Section 17(a)(3) proscribes anytransaction orcourse of business thatoperates as a fraud or deceit upon a securities buyer. SECv. Softpoint, Inc., 958 F.Supp. 846,861 (S.D.N.Y. 1997), affd,159 F.3d 1348 (2d Cir. 1998). Claims under Section l 7(a) of the Securities Act have essentially the same elements as lO(b), althoughsubsections (a)(2) and (a)(3) require only a finding of negligence not scienter. Aaronv. SEC, 446 U.S. 680, 697 (U.S. 1980); .SEC v. Pentagon Capital Mgmt.,725 F.3d 279,285 (2d Cir. 2013). Subsection l7(a)(2) also requires that the person "obtained money or property" through the misstatements. The statute does not require that theperson obtained "some kind of additional 'fraud bonus."' Sec v. Tourre, IO Civ. 3229, 2014 U.S. Dist. LEXIS 1570 *11-12 (S.D.N.Y. Jan. 7, 2014).2 2 A Respondent may be liable under Section 17(a)(2) even if he did not personally obtain money or property.See SEC v. Stoker, 865 F. Supp.2d457, 463 (S.D.N.Y. 2012); see also SEC v. Mudd, 885 F. Supp.2d654, 669-70 (S.D.N.Y. 2012). In Stoker, the courtrejected the argument that Section I 7(a)(2) requires personal gain by the defendant, reasoning that the statute,"on its face,does not state that a defendant must obtain the fundspersonally or 3 Section 206 of the Advisers Act makesit unlawfulfor any investment adviser, among other things, "(1) to employ anydevice, scheme, or artificeto defraud anyclient or prospective client; (2) to engage in any transaction, practice, or courseof business which operatesas afraud or deceit upon anyclient or prospective client ...; [and) (4) to engage in anyact, practice or courseof business which is fraudulent,deceptive or manipulative." Rule 206(4)-8 specifically prohibits advisers of pooled investment vehicles frommaking material misrepresentations and omissions or otherwise engagingin anyfraud, deception or manipulation. Proof underSection 206 of the Advisers Act hasbeen deemed less stringent thanunder Section 1 O(b) of the ExchangeAct because there is no requirement under Section 206 that the fraudulentactivity be in the offeror sale of a securityor in connectionwith the purchaseof a security. SECv. Lauer, No. 03-80612, 2008 U.S. Dist. LEXIS 73026 *90-91 (S.D. Fla. Sept. 24, 2008) (citing Advisers Act Rel. No. 1092, 1987 SEC LEXIS 3487 (Oct. 8, 1987)). "Section 206 imposes a :fiduciary duty on investment advisers to act at all times in the best interest of the fundand its investors, and includes anobligation to provide 'fulland fair disclosureof all material facts' to investors and independent trusteesof the fund. SEC v. Tambone, 550 F.3d 106, 146 (1st Cir. 2008) (quotingSECv. Capital Gains Research Bureau, Inc., 315 U.S. 180, 191 (1963)); see also SEC v. Batterman, 00 Civ. 4835, 2002 U.S. Dist. LEXIS 18556, *23 (S.D.N.Y. Sept. 30, 2002) ("An investmentadviser hasa fiduciaryduty to exercise good faith, fulland fair disclosureof all directly," and that it would defeat thestatute's remedial purpose ''to allow a corporateemployee who facilitated a fraudthat netted his company millions of dollarsto escape liability forthe fraud by reading into the statute a narrowingrequirement not found in the statutorylanguage itself." 865 F. Supp.2dat 463. Stoker further observed that to narrow the statute would be to ignorethe Supreme Court's instructionthat "Congress intended securities legislation enacted forthe purpose of avoiding fraudsto be construed 'not technically and restrictively, but flexibly to effectuate its remedial purpose."' Id. (quoting AffiliatedUte Citizens of Utah v. United States, 406 U.S. 128, 151 (U.S. 1972)). Thus, even if Jarkesy did not personally obtain money or property but JTCM receivedmoney or property, Jarkesy can still be held liable. 4 material facts,and an affirmative obligation 'to employ reasonablecare to avoid misleading' his clients.") (internal citation omitted). A. Respondents Made Numerous Misrepresentations to Investors Respondents made numerous misrepresentations to investors. In the Private Placement Memoranda("PPM") andLimited Partnership Agreements, Respondents represented that (1) the Fundswould purchaseinsurance policies with facevalue of 117% of the investor capital; (2) half of all investor capital would be used to purchase the insurance policies or would be set aside and segregated to pay premiums;(3) Respondents would mitigate lifeexpectancy risk; (4) the insurancepolicies would be transferredto th� Master Trust; (5) the totalinvestment of the partnershipin anyone companyat anyone time would not exceed 5% of the aggregatecapital commitments; (6) the general partner,JTCM, would utilize good faith;(6) fair value would be used to value securities where no marketquotation wasreadily available; (7) the Funds'financial statements would be preparedaccording to generally accepted accounting principles ("GAAP"); and(8) that the managementof the partnershipwould be vested exclusively in the General Partner. Manyof these misrepresentationswere repeated in marketing materials, in periodic investor updates (including a podcast followingthe release of the 2008 audited financial statements), and in the Funds' audited financial statements. Respondents' marketing materials and investor updates made additional misrepresentations,including that: (1) KPMGwas theauditor forthe Funds;(2) Deutsche Bank wasthe prime broker for the Funds; (3) insurancepolicies would be purchased fromAA rated insurance companies; (4) Fund I had purchased fourteenpolicies fromfourteen separate insurancecompanies; (5) the bridge loans were be "collateralized"; and (6) valuations of the 5 Funds'assets would be conservative. Respondents' website made the additional misrepresentation that JTF did not manage, direct, or make anydecisions forthe Funds. In addition to the misrepresentations,Respondents fraudulentlyvalued manyof the positions in the portfolio including ( 1) the life insurance policies, which Respondents valued using a 12% discountrate instead of the 15% discount rate that valuation consultants had used; (2) the restrictedstock, whichRespondents valued at the sameprice as free-trading stock; (3) the notes of America West Resources("America West") andGalaxy Media & MarketingCorp. ("Galaxy"),which Respondents valued at parnotwithstanding that the notes were in default;( 4) the shares of RadiantOil & Gas, Inc. ("Radiant")and America West, which Respondentsvalued basedupon promotional activities they paid forwith money fromthe Funds; (5) theRadiant warrants,which Respondents valued at a non-existent stock price; and(7) the sharesof portfolio companieslike Galaxy,which Respondents overvalued,given thepoor financialcondition of those companies. These valuations,which Respondents knew lacked anyreasonable basis, are fraudulent. See, e.g. IKBInt 'IS.A. v. Bank ofAmerica, 12 Civ. 4036, 2014 U.S. Dist. LEXIS 45813 *2 (S.D.N.Y. March31, 2014) (implicit representation that there is a reasonable basis for valuation); Weiss v. SEC, 468 F.3d 849,855 (D.C. Cir. 2006) ("[a]n opinion must have a reasonablebasis"); In re Connetics Corp. Sec. Litig., 542 F. Supp.2d996, 1010 (N.D. Cal. 2008) (opinions are actionable where there is no reasonable basisfor the belief or the speaker is aware of undisclosed factstending to seriously undenninethe accuracy of the statement); SEC v. Gane, No. 03-61553, 2005 U.S. Dist. LEXIS 607 *30-31 (S.D. Fla. Jan.4, 2005). Respondents may argue that underthe U.S. Supreme Court'sholding in Janus Capital Grp., Inc. v. First Derivative Traders, 131 S. Ct. 2296, 2302 (U.S. 2011), they cannotbe held liable forthe misrepresentations in thePPM because those misrepresentations areattributable 6 only to the Funds andnot to themselves. This argument fails fornumerous reasons. First, because Respondents had "ultimate authority" over the PPM andits contents, they areliable for the misrepresentations contained therein. See, e.g., Janus, 131 S. Ct. at 2302 (attributioncan be implicit fromsurrounding circumstances); SEC v. Levin, No. 12-21917-CIV, 2013 U.S. Dist. LEXIS 146702 *43 (S.D. Fla. Oct. 10, 2013) (managingmember andowner of companyhad sufficientcontrol over the statements); In re StillwaterCapital Partners Inc. Litig., 858 F. Supp.2d277, 288 (S.D.N.Y. 2012) (reasonable factfinder could conclude thatin companywith few employees, statements made by its officers);In re Merck & Co., Deriv. & ER/SALitig., MDL No. 1658, 2011 U.S. Dist. LEXIS 87578 •2s (D.N.J. Aug. 8, 2011) (senior executive liable asmaker of company'sfinancial statements). As demonstratedat the hearing, Respondents had the "ultimate authority"for the statements in thePPM. Second, the misstatements in the PPM were repeated numeroustimes in documentsthat were directly attributableto Respondents, including the power point presentations, the investor updates, the marketingmaterials, the audited financialstatements, the monthly account statements, andthe website. Consequently, even if Respondents were not liable forthe misstatements in the PPM, they would be liable forthe misstatements in the other documents that they provided or caused to be provided to Fund investors. Third,Janus applies only to cases brought underRule 10b-S(b ). It does not apply to scheme liability claims under Section 1 0(b) of the ExchangeAct andit does not apply to any claims under Section 17 of the Securities Act. See, e.g., SEC v. Garber, 959 F.Supp.2d 374, 380 (S.D.N.Y. 2013) ("The textual basis forJanus does not extend to claims based on schemes to defraud under Rule 10b-5(a)and (c), which do not focuson the 'making' of anuntrue statement"); SEC v. Pentagon Capital Mgmt. PLC, 844 F.Supp.2d 377, 421 (S.D.N.Y. 2012); 7 SEC v. Boock, 2011 U.S. Dist. LEXIS 129673, at *2-5 (S.D.N.Y. Nov. 9,2011) (liabilityunder Rule 10b-5(a) and(c) was not affectedby Janus); SEC v. Monerosso, 2014 U.S. App. LEXIS 3891, *16 (11th Cir. Mar. 3, 2014) (Janus does not apply to Section 17 or scheme liability provisions); SEC v. Geswein, 2014 U.S. Dist. LEXIS 28057 (N.D. Ohio Mar. 5, 2014) (''the Courtwill not presume to extend Janusto violations of the SecuritiesAct Section 17(a)").3 B. Respondents Misrepresentations Were Material A statement is material if a substantiallikelihood exists that a reasonable investor would consider theinformation important in making aninvestment decision. Basic, 485 U.S. at 231-32; SEC v. Mayhew,121 F.3d 44, 51-52 (2d Cir. 1997). The informationneed not be of a typethat necessarilywould cause an investor to changehis investmentdecision. Rather,a statement is material so long as the investor would have viewed it as significantlyaltering the total mix of information available. Ganino v. Citizens Utils. Co., 228 F.3d 154, 162 (2d Cir. 2000); Folger Adam Co. v. PMI Indus., Inc., 938 F.2d 1529,1533 (2d Cir.),cert. den., 502 U.S. 983 (1991). Misstatements that arequantitatively off by more than fivepercent are preswnptively material. ECA & Local 134 IBEW Joint PensionTrust of Chi. v. JP Morgan Chase Co., 553 F.3d 187,204 (2d Cir. 2009). Misstatements may be material,however, even if they fall beneath a numerical threshold; qualitative factorsmay cause even small misstatementsto be material. StaffAccounting Bulletin No. 99,provides a non-exhaustive list of qualitative factors that may make small misstatements material. Ganino 228 F.3d at 162; SEC v. Penthouse Int'/, Inc., 390 F. Supp.2d344, 353 (S.D.N.Y. 2005). Misrepresentations concerningthe value of the investments areconsidered qualitatively material as a matterof law. See EvergreenInvestment Mgmnt. Co., LLC, 2009 SEC LEXIS 1853 3 To date, there have been no decisions addressing whether Janus applies to Rule 206(4)-8 under the Advisers Act, 8 *31-32 (June8, 2009); SECv. Lauer, No. 03-80612, 2008 U.S. Dist. LEXIS 73026 *77-78 (S.D. Fla. Sept. 24, 2008); SEC v. Seghers, No. 3 :04-CV-1320, 2006 U.S. Dist. LEXIS 69293 *3-5 (N.D.Tex., Sept. 14, 2006), affdin part and vacated in part on other grounds2008 U.S. App. LEXIS 23507 (5th Cir. 2008). This includes misrepresentations about the actual value of the securities as well as misrepresentations about the way in which the securitieswould be valued. Therefore, all of Respondents' fraudulent valuations were qualitatively material. From a quantitativestandpoint, however, the fraudulentvaluations were also material. As demonstratedat the hearing, the Funds' auditors determined that forthe yearended December 31, 2008, any misstatement (or combination of misstatements) of more than$150,000 was material. (DX-340). For the yearended December 31, 2009, any misstatement (or combinationof misstatements) of more than$180,000 wasmaterial. (DX-341). And forthe yearended December 31, 2010, anymisstatement ( or combination of misstatements) of more than $210,000 wasmaterial. (DX-342). The fraudulentvaluations well-exceeded thisamount. For example, had Jarkesy used Steve Boger's December 31, 2008 valuation of the eight insurancepolicies based on 15% NPV, the policies would have been valued at negative $176,452. Instead, Jarkesy valued the policies at $555,149, which represented the value of only fiveof the eight policies at 12% NPV. The differencein the twovaluations is $731,601, well above the$150,000 materiality threshold. Similarly,Respondents failed to write-downhundreds of thousandsof dollars of America West notes that were in default. Furthermore,Jarkesy valued the Galaxy stock position in 2010 at millions of dollars. Had he used an appropriate valuation forthe shares, the value ofthe position would have been negligible. In a similar vein, misrepresentations concerningthe risks of the investment arematerial as a matteroflaw. See, e.g. Krasner v. RahftoFunds, L.P., 11 CV 4092, 2012 U.S. Dist. LEXIS 9 134353 *14 (S.D.N.Y. Aug. 9, 2012) (misrepresenting the risk entailedin the investments is a material misrepresentation).4 The representations concerning the fivepercent limitation on investment in a single company,the 117% insurancecoverage requirement, andthe identityof the primebroker andauditor all relate to risk. Accordingly, the investors testifiedat the hearing that these representations were importantto them. The insurance feature wasa primaryreason why they invested; they thought that the policies would ensure a return of their principal. As RobertFulhardt testified, "it was like a backstop investment that would protect against downside losses." Thefive percent limitation was importantfactor in their investment because they believed that diversificationwould reduce the risk. As Mr. Fulhardttestified, "if the Fund limited its investment in any one company it could withstanda number of bad investments without devastating the Fund." Having Deutsche Bank and KPMG associated with the Fund was also importantto investors. As Steven Benkovsky testified, knowing that Deutsche Bankwas the prime broker gave him comfortin his investment in the Fund. The investor testimony establishes thatRespondents' misrepresentations were material. See, e.g., SEC v. Koester, No. 1: 12-cv-01364, 2014 U.S. Dist. LEXIS 45863 *11 (S.D. Ind. April 2, 2014); 4 See also Pennsylvania.Pub. Sch. Emp/ys. Rel. Sys.v. Bank ofAm. Corp., 874 F. Supp.2d 341 (S.D.N.Y. 2012) (representations that defendant held particular loanassets were material because of a failureto disclose clouded ownership); SEC v. Fife, 311 F.3d I (151 Cir.),cert. den., 538 U.S. 1031 (U.S. 2002) ("a reasonableinvestor would want to know the risks involved"); SECv. Novus Techs., LLC, No. 2:07-CV-235,2010 U.S .Dist. LEXIS 111851 *33 (D. UtahOct. 20, 2010),affd, 783 F.3d 1151 (10th Cir. 2013) ("[m]isrepresentations regarding... the risk associatedwith the investment are material"); In re Sadia. S.A. Sec. Litig., 269 F.R.D. 298,315 (S.D.N.Y. 2010) ("common sense ... suggest[s] that risk taJcingis material to investors"). 10 1. The PPM Disclosures did not Make the Representations Immaterial Respondents may arguethat the warningsin the PPMs made some of the misrepresentationsimmaterial. As described below,this argumentwould be unsupportedby the law or the specificfacts of this case. First,the "bespeaks caution" doctrinedoes not apply to facts. "Fraud is still fraud,and all of the cautionarylanguage in the world will not replace a truematerial omission or misstatement of a factwhich would matterto a reasonable investor." In re IntegratedResources Real EstateLtd Part. Sec. Litig., 815 F. Supp. 620,674 (S.D.N.Y. 1993). Consequently,no warningin the PPMs would eliminate liabilityfor Respondents' representations that they had actuallypurchased 1 17% facevalue of life insurance policies( or more) or had set asidethe money to pay thepremiums on the policies when,in fact,they did neither. Second,general boilerplatewarnings that the investmentwas risky or speculative, or that the investor could lose all of its investment,do not qualifyunder the "bespeaks caution" doctrine. See, e.g. In the Matter of Leaddog Capital MarketsLLC, 2012 SEC LEXIS 2918 *44-45 (Initial Decision, Sept. 14,2012) ("boilerplatelanguage in the offering materialswarning against the possibility of almost any eventuality ... does not excuse misrepresentations"); In re SJ Corp. Secs. Litig., 113 F. Supp.2d 1334, 1351 (N.D. Ga. 2001) ("boilerplatewarnings merely reminding aninvestor that theinvestment holds risk are not sufficient"); Underlandv. Alter,No. 10-3621, 2011 U.S. Dist. LEXIS 102896 *25 (E.D. Pa. Sept. 9, 2011) ("a blanketwarning that aninvestment is riskyis likely to be insufficientto ward offa securities fraudclaim"); In re Donald J. Trump Casino Sec. Litig.,1 F.3d 357, 371 (3d Cir. I 993), cert. den., 510 U.S. 1178 (U.S. 1994) ("blanket (boilerplate)disclaimer which merely warnsthe reader that the investment has risks will ordinarily be inadequate to prevent misinformation"). 11 Respondents might argue thatbecause the PPMs gave them some discretion over the valuation of portfolio positions, the valuations - even if inflated- cannotform the basis of a fraudclaim. Thisargument was rejected inln re: Rochester Funds Group Sec. Litig., 838 F. Supp.2d 1148, 1171-72 (D. Colo. 2012), where the court stated: [i]f a security's designation of liquidityis purely subjective andsolely within the business judgment of Defendants to determine, then the statement [that the fund would monitor liquidityand maintain less than a certainamount of illiquid securities] conveyed no meaningfulinformation and certainlyno meaningful assurancesto prospective investors. Yet the statements clearlysuggest that something real is being warranted. Moreover, such an argument by Respondents would ignore the specificprovisions in the PPMs andthe limited partnership agreements statingthat GAAP and fair value would be utilized andthat valuations would be reasonable and in good faith. Similarly, the Fund's audited financial statements specifically stated that the statements had been prepared using GAAPand fairvalue. Thus, Respondents' discretion was limited. A valuation without basis and/or contrary to the valuations purportedlyprovided by outside consultants is neither reasonable nor in good faith. Respondents similarlymight arguethat because the PPMs stated that some of the positions would be hardto value, the valuations - even if inflated- cannot be deemed material. This exact argument was rejected in SEC v. Mannion, 189 F. Supp.2d 1321, 1333 (N.D. Ga. 2011). In that case, the defendants argued that statements about the value of an investment in a "side pocket" were not material because they had represented to investors that valuing these assets would be a challenge andthe existence of the "side pocket" sent a "powerful signal" that the assets were illiquid, impaired, or hard to value. The court disagreed. Under Defendant's theory, creating the Side Pocket and calling it hard to value would give fundadvisors freereign to assign any value they wish to the Side Pocket. This argument is illogical and contradicts the remedial purpose of the 12 securities laws. The SEC does not allege that Defendants simply had difficulty valuing the Side Pocket, but that they deliberately inflated the Side Pocket's value. A reasonable investor would know that the valuation of the Side Pocket was less reliable thantypical market-traded securitiesand that the value of World Health assets would be unstable, but they were entitled to expect Defendants to attemptin good faithto determine the best, most accurate valu� possible forthe Side Pocket. Defendants' estimate of the Side Pocket is especially relevantwhere investors rely on Defendants' investing expertise and specific familiarity with WorldHealth. Id. at 1333-34 (emphasis added). Finally, even the more specificwarnings in the PPMs about the risks of the corporate investmentsor the risks associated with the insurancepolicy portfolio (including life-expectancy risk) were insufficientbecause the PPMs were used during the entire existence of the Funds mid did not disclose thatsome of the contingencies actually had taken place. Thus, even if some of the risk warnings in the FundI PPM originally were sufficient in 2007, they became insufficient upon the occurrence of the contingencies. SECv. Merchant Capital, 483 F.3d 747, 759 (11th Cir. 2007) ("what may once have been a good faithprojection became, with experience, a materially misleading omission of material fact"). The PPM used to sell Fund I interests in 2009 did not disclose that Respondents had decided to allow the largest of thelife settlement policies (Paul Evert) to lapse because the costs associated with that policy were greater thanthe benefitsdue to the change in lifeexpectancies. The PPM forFund I thatwas used to sell interests in 2010 did not disclose that America West and Amber Ready/Galaxy were in default on loan obligations. The PPM did not disclose that the Funds, in fact, had been unable to sell much of the stock that was received in connection with the bridge loansbecause there was no market forthat stock. In SEC v. Meltzer,440 F. Supp.2d 179, 191 (E.D.N.Y. 2006) the court explained that the "bespeaks caution" doctrine is not applicable in such a case: It must be remembered that the "cautionary language associated with the 'bespeaks caution' doctrine is aimed at warning investors that bad things may come to pass in dealing with the contingent or unforeseen future." Thus, the doctrinedoes not apply to "historical or present fact-knowledge withinthe grasp 13 of the offeror." "Such facts exist and are known; they are not unforeseen or contingent. It would be perverseindeed if an offeror could knowingly misrepresent historicalfacts but at the sametime disclaim those misrepresented factswith cautionary language." In sum, the "bespeaks caution" doctrinedoes not apply "where a defendant knew that its statement wasfalse when made." Consequently, any argumentRespondents raise based on warningsshould fail. C. Respondents Had the Requisite Scienter Scienter is a "mental state embracing intent to deceive, manipulate or defraud" andis also considered present when one acts with a reckless disregardfor the truth. Ernst & Ernst v� Hochfelder, 425 U.S. 185, 194 n.12 (1976). "[K]nowledge ...is sufficient to satisfy [the scienter] requirement." Graham v. SEC, 222 F.3d 994, 1004 (D.C. Cir. 2000); see also SEC v. U.S. Env'tl., Inc., 155 F.3d 107, 111 (2d Cir. 1998) ("It is well-settled that knowledge of the proscribed activity is sufficient scienter under§ l0(b)"), cert. den., 526 U.S. 1111 (U.S. 2000). The Division, however, does not have to demonstratethat Respondentsintended "to do somethingfraudulent." SECv. Stanard, 06 Civ. 7736, 2009 U.S. Dist. LEXIS 6068 *79 (S.D.N.Y. Jan. 27, 2009). Reckless conduct also suffices to violate the antifraudprovisions. Id. Reckless conduct is conduct thatis highly unreasonable and represents an extreme departurefrom the standards of ordinary care to the extent that the danger was either knownto the defendant or so obvious that the defendant must have been aware of it. Recklessness may be established through Respondents' knowledge of or access to contradictory information. Recklessness may also be established where Respondents failed to review or check information that they had a duty to monitor, or ignoredobvious signsof fraud. See Rolfv. Blyth, Eastman Dillon& Co., Inc., 510 F.2d 38, 47 (2d Cir.), cert. den., 439 U.S. 1039 (U.S. 1978); U.S.Envt'l, Inc., 155 F.3d at 111; SEC v. McNulty, 131 F.3d 732, 741 (�d Cir.), cert. den., 525 U.S. 931 (U.S. 1996); SEC v. Biovail Corp., No. 08 Civ. 2979, 2009 U.S. Dist. LEXIS 15546 (S.D.N.Y. Feb. 10, 2009). Representations and opinions given without basis and in reckless disregard of 14 their truth or falsity establish scienter. SECv. Bremont, 954 F. Supp. 726 (S.D.N.Y. 1997); Rolf 570 F.2d at 47. Jarkesyhad the requisite scienter. He knew that K.PMGdid not audit either Fund. He knew that Deutsche Bank was not the primebroker for the Funds, but he continued to represent that Deutsche Banlcwas the primebroker even after Deutsche Bank demanded thatits namebe removedfrom Fund Il's PPM. Thefact that Respondents may have engaged KPMG and Deutsche Bank forthe InternationalMaster Fund and/orthe International Feeder Funddid not give themlicense to tell investors andprospective investors that thesewell-known, respected, and trustedentities were engaged by Fund I or Fund II, particularlywhen KPMG never performedany audit andno Deutsche Banlcaccount wasever funded. In sum, Respondents used the good namesof KPMG andDeutsche Banlcto lend legitimacy to theirfraudulent operations. Jarkesycontrolled all operationsof JTCM andmade all investment decisions forthe Funds. He either knew that he was concentratingmore than fivepercent of investor capital into severalof the portfoliocompanies or he wasreckless in doing so. Indeed,.the total investmentin America West in FundI waswell in excess of $2 million when Fund I investor capital was approximately $20 million. In Leaddog Capital Markets, 2012 SEC LEXIS 2918 at *4344, this Hearing Officerheld thatsuch representations were fraudulent: The representation that Leaddog would "try to limit investments to 5% per issuer maximum" was manifestly false, given that the Fund's portfolio was concentrated in four issuers, withUnited EcoEnergy at 26.64%. Messalas's answers show at least a reckless degreeof scienter - highly unreasonable and an e;xtreme departure fromthe standards of ordinarycare - and a clear violation of thefiduciary duty owed by an investment adviser. Theserepresentations were so farfrom the truth that LaRocco also, even absent special knowledge of trading the type of securities that Leaddog held, had to have knownthat they were misrepresentations. Notably, in Leaddog, the representation was that the hedge fund would "try to limit its investment to 5% per issuer .... " Id. (emphasis added). In the instant case, the PPM forFund I 15 stated that "[t]he total investment of the Partnershipin anyone companyat any one time will not exceed 5% of the aggregate Capital Commitments." ( emphasis added). Jarkesypurchased the insurancepolicies forthe Fund. He either knew or recklessly disregardedthat he wasnot purchasingpolicies with 117% facevalue of investor capital. He also knew or recklessly disregardedthat he was not putting asidethe money that he represented would be set aside andsegregated to pay the insurancepremiums. Furthermore, Jarkesy negotiated the termsof the loansthat the Funds provided to the portfoliocompanies. He either knew or recklessly disregardedthat manyof thebridge loanswere not "collateralized," creating greatrisk to theFunds in the event of default. With respect to the valuations, Jarkesyknew that the appropriatediscount rate forthe life insurancepolicies was not 12%. He told the brokers who were lookingfor policies that he was seeking policies with yields of 15%. He told investors that the Fund had purchased policieswith average yields of 15%. Jarkesyknew that his representations concerningthe independent relationship between the Fundsand JTF were misleading because, even as he made them, he was directly negotiating investmentbanking agreements that often werein conflictwith the interests of the Funds. Jarkesy'sintent is best expressed by his email to Belesis that "we will always try to get you as much aspossible. Every time without exception." Jarkesynegotiated the investment banking agreement between America West and JTF but did not attempt to reduce JTF's fees-even though it was in the interest of the Funds to have JTF's fees be as low as possible. 5 TheDivision does not claim that the promotional campaigns were, in and of themselves, fraudulent or illegal. The Division's claim is that the stock prices in December were not "real" because they reflectedthe promotional activity. Jarkesy knew this and used those prices anyway. 16 Jarkesyalso knew or recklessly disregarded that JTF was not going to raise sufficient money forRadiant and Galaxy. As such, his recommendation that the portfoliocompanies hire JTF wasunreasonable and hurt the Funds. Jarkesy knew this because JTF failed to raise sufficientinterest in the Fundsto meet the Funds' targetinvestments of $25 million and $250 million respectively. JTF failed to raise sufficientfunds for America West, resulting in America West being unable to repay manyof its debt obligations. Moreover,Belesis sought unreasonable compensation, including demanding that one of the America West directors give Belesis stock that the director's family owned. Notwithstanding all of this, Jarkesy approved an investment bankingagreement between Radiantand JTF that,in addition to the customaryfees, made JTF the second largestshareholder in the company- even greater thanthe Funds. Finally, Jarkesy ceded controlover the Funds' investment in Galaxy to TommyBelesis who made decisions about how the Fund's money would be used. As one example,when Belesis promised Galaxy'slawyer that he would be paid $49,000 from the Funds,the Funds that supposedly Respondents controlledpaid asBelesis ordered. Belesis also ordered Fund money to be used for other Galaxy expenses anddirected who would be Galaxy officersand directors. Jarkesy participated in this andallowed it to happen. JTCM is accountable forthe actions of its responsible officers,including Jarkesy. See C.E. Carlson, Inc. v. SEC, 859 F.2d 1429, 1435 (10th Cir. 1988) (citingA.J. White& Co. v. SEC, 556 F.2d 619, 624 (1st Cir.), cert. den., 434 U.S. 969 (U.S. 1977)). A company's scienter is imputed from that of the individuals controlling it. See SEC v. Blinder, Robinson & Co., 542 F. Supp. 468,476 n.3 (D. Colo. 1982) (citing SEC v. Manor Nursing Ctrs., Inc., 458 F.2d 1082, 1096-97 nn.16-18 (2d Cir. 1972)). Thus, Jarkesy's conduct and scienter are attributed to JTCM. 17 1. Reliance on Accountants and Experts is not a SufficientDefense Respondents may arguethat because they relied on the opinions of outside valuation experts aswell as the Funds' outside accountants andauditors, the Division cannotdemonstrate that they had the required scienter. This argumentis contrary to the evidence. First, the outside accountantsand auditors did not actually value any of the positions. Instead,they relied on Respondents' valuations andmerely sought supportfrom Respondents forthose valuations. Moreover, because Respondents did not provide full and complete information to their accountantsand their auditors ( and knewthat the accountantsand auditors were relying on the incomplete information),Respondents cannot argue that their relianceon the accountantsand auditors wasin good faith. Similarly, Respondents cannotassert a defense basedupon their "expert"insurance valuations because they did not, in fact, rely on those valuations and ultimately had those experts create spreadsheetsusing Respondents' ownbaseless discounrtrate assumptions. Furthennore, two of three valuation "experts"were not independent. To establish a reliance-on-professional-advice defense, Respondents must show that they (1) sought professional advice; (2) completely disclosed the issue to the professional; (3) received advice; and(4) relied on that advice in good faith. SEC v. BankatlanticBancorp., Inc., No. 12-60082, 2013 U.S. Dist. LEXIS 146699 *59 (S.D. Fla. Oct. 10, 2013); SEC v. Huff,158 F. Supp.2d1288, 1349 (S.D. Fla. 2010); Markowskiv. SEC, 34 F.3d 99, 104-05 (2d Cir. 1994); In the Matter ofDavid F. Bandimere, 2013 SEC LEXIS 3142 *146-47 (Initial Decision Oct. 8, 2013). It is Respondents burden to establish that they made full andfair disclosures to the professionals of all factsknown and that they relied in good faithon thatadvice. Stokesv. S. States Coop., Inc., 651 F.3d 911, 920 (8th Cir. 2011); U.S. v. Scott, 31 F.3d 1564, 1583 (10th Cir. 1994), cert. den., 513 U.S. 1100 (U.S. 1995) ("reliance upon advice of counsel is a defense that 18 the defendantmust' establish"); SEC v. AIC, Inc., 3: 11-CV-176, 2013 U.S. Dist. LEXIS 130249 •22 (E.D. Tenn.Sept. 12 2013) (burdenon defendant);In the Matter of the Application ofLouis Feldman, 1994 SEC LEXIS 3428 *6 (Commission Opinion Nov. 3, 1994) ("Feldmanhas fallen farshort of the meeting the threshold requirement forinvocation on the defense of relianceon counsel"). With respect to the third-partyaccountants, Spectrumdid not actually value anyof the portfoliopositions. Instead, it relied on Respondents' valuations forthe non-publicly traded stock, the restrictedstock, the notes, the warrants,and the insurancepolicies, Spectrum. Even when Spectrumelevated concernsover Galaxy's sharevalue in September 2010, its role was limited to obtaininginfonnation supportingRespondents' valuation. Spectrumdid not opine on whether such valuation was corrector whether such valuation was in accordancewith GAAP. Respondents also cannotdemonstrate their lack of scienter by relying on the factthat the auditors at MFR issued a clean opinion on the Funds'financial statements. First, MFR did not review anyof the monthly financialstatements forthe Funds. Consequently, Respondents cannotclaim relianceon their auditors with respect to the monthly valuations. Second, in order to invoke the principle of relianceon their auditors, Respondents must show ''that (they] made complete disclosure.... " In re Banko/Am. Corp. Sec. Deriv. & ERISA Litig., No. 09 MD2058, 2011 U.S. Dist. LEXIS 84831 *15 (S.D.N.Y. July 29, 2011) (failure to update counselabout growinglosses impeded counsel's abilityto make a fullyinformed analysis and, assuch, court rejects relianceon counsel defense). Therefore,in SEC v. Johnson, No. 04-4114, 2006 U.S. App. LEXIS 8230 (3d Cir. April5, 2006), the Third Circuit Courtof Appeals rejected a reliance on advice defensewhere the defendant "did not tell the auditors about a statecourt injunction and securityagreement that effectivelyprevented MERL fromexercising controlover Essex. In 19 addition, [defendant]supplied to the auditors variousbaseless assumptions about a customer list acquired fromthe Hanoldentites, which resulted in their giving the list aninflated value." 6 Respondents here have not demonstratedthat theymade complete disclosureto their auditors. There is no evidence in the record that Respondents disclosed to MFR, as examples, (a) thatthe America West andGalaxy notes were in default,(b) that the valuationsfrom the purportedexperts were basedon Respondents' own 12% NPV assumptionand that the consultantshad valued the policies basedupon a 15% NPV assumptionwith much lower resulting values, (c) all of thefacts concerning the lawsuits brought by OhioNational Life AssuranceCorp., or ( d) all of the factsabout Galaxy'sfinancial condition. Given the amountof informationthat they failedto disclose to their auditors, Respondents cannotrely on the audit opinions that MFRrendered. Moreover, while Respondents received valuations forthe insurancepolicies, they did not actually followthe valuations that they originally received. Instead, Jarkesyrepeatedly requested new valuations using his own12% NPV assumption, which he knew did not reflectthe market price. By using the 12% NPV values instead of the 15% NPV values originally received from their purportedexperts, Respondents grossly and unreasonably inflatedthe value of the insurance policy portfolio. As such, Respondents cannotargue that they relied on experts. The valuation opinionsfrom Abacus and Life Settlement Solutions were also not independent as Respondents had purchased the policies fromthose companies. Clearly, the companies that sold the policies to theFunds had an interest in giving Respondents high 6 See also SECv. Melzer, 440 F. Supp.2d 179, 190 (E.D.N.Y. 2006) (no relianceon counsel defense where defendant did not make a complete disclosure, including failure to discuss specificdisclosures with counsel); Renner v. TownsendFin. Servs. Corp., 98 Civ. 926, 2002 U.S. Dist. LEXIS 8898 *22 and n.8 (S.D.N.Y. May 20, 2002) (defendant'sselective disclosure would render unavailable the defense of advice of counsel); Leaddog Capital Markets, 2012 SEC LEXIS at *45 ("[a ]ny claim analogous to a reliance on advice of counsel claim must fail because Respondents did not disclose the related-partytransactions to [the auditors]"). 20 valuations because they wanted additional business. Professionalopinions must be disinterested andindependent. S.E.C.v. O'Meal/y. No. 06 Civ 6483, 2010 U.S. Dist. LEXIS 107696, *4 (S.D.N.Y. Sept. 29, 2010) (citing C.E. Carlson, Inc. v. SEC, 859 F.2d 1429, 1436 (10thCir. 1988)); Ries v. Commissioner, 983 F.2d 163, 166 (6th Cir.), cert. den., 982 F.3d 163 (U.S. 1992) (Relianceon a professionalis not reasonable where theprofessional is not disinterested). The only "independent" consultanthired by Respondents to value the policies wasSteve Boger. Respondents, however, did not useBoger's valuation at 14-16% NPV, anddid not seek values fromhim forany of the policies purchasedin 2009. Finally, professionals cannotsanction something that Respondents should have !mown was wrong.·FTCv. Commerce Planet, Inc., 878 F. Supp.2d 1048, 1084 (C.D. Cal. 2012). Thus, in United States v. Smith, 523 F.2d 771, 778 (5th Cir. 1975), cert. den., 429 U.S. 817 (U.S. 1976), the courtheld thatthe defendant'sreliance on a CPA could not be in good faith if he had knowledgecontrary to theconclusions of the CPA. Moreover, the court held that "[t]he factthat material is not intentionally hiddenfails to meet the requirement that it be fullydisclosed." Id. In In the Matterof the Application ofHarold B. Hayes,1994 SEC LEXIS 2870 *13 (Commission Opinion Sept. 13, 1994), the Commissionsimilarly held that where the impropriety of the Respondent's actions should have been obvious, Respondent could not excuse his activities even if he had received advice that his actions were proper." Respondents knew that their valuationsdid not have a reasonable basis. Consequently, even the receipt of professional opinions supporting those valuations (or not contradictingthose valuations) does not eliminate their fraudulentintent. 21 D. Respondents are Separately Liable for their Participationin the Scheme In addition to liability formisrepresentations, Section 17(a) of the Securities Act and Section 1 O(b) of the ExchangeAct also generally prohibit anywrongdoing by anyperson that rises to the level of a deceptivepractice. See Superintendent of Insurance v. BankersLife and CasualtyCo., 404 U.S. 6,10 (1971). For the purposesof the securitieslaws, a "'scheme to defraud' is merely a planor meansto obtain something of value by trickor deceit." SEC v. Kimmes, 799 F. Supp. 852,858 (N.D. Ill. 1992),affd, 991 F.2d 287 (7thCir. 1993). Thus, scheme liability is established where a defendant "engagedin conduct that had the principal purposeand effect of creating a false appearanceof factin furtheranceof the scheme." Middlesex Retirement Sys. v. Quest Software Inc., 527 F. Supp.2dl 164, 1191 (C.D. Cal. 2007).7 Thecase forscheme liabilityagainst Jarkesy andJTCM is predicated on the samefacts that form thebasis of their liability underSection 17(a)(2) of the SecuritiesAct andSection 1O(b) of the ExchangeAct andRule 1Ob-S(b) thereunder. Whilethe misrepresentations andfailures to disclose were partsof the scheme,and in andof themselves violative of the statutes,the overall scheme involved a multi-year campaignto falsely induce investmentsin the Funds,to routinely inflatethe valuation of the Funds' holdings,and to steadily divertthe Funds' assetsto Belesis andJTF. Thus, scheme liability is appropriatefor Jarkesy and JTCM. E. Respondents Violated the AdvisersAct Respondents,through the sameconduct described above,also violated Sections 206( 1), 206(2) and206(4) of the Advisers Act andRule 206(4)-8 thereunder. JTCM andJarkesy, as the 7 See also SEC v. Fraser, 2009 U.S. Dist. LEXIS 70198, *25 (D. Ariz. Aug. 11, 2009); Stoneridge Inv. Partners, LLC v. Scientific-Atlanta:,. 552 U.S. 148, 158 (2008) (holding that "(c ]onduct itself can be deceptive" and,as such, liabilityunder Section I 0(b) or Rule 10b-5 does not require "a specificoral or writtenstatement"); SEC v. Dorozhko, 514 F.3d 42, 50 (2d Cir. 2009); In re Global Crossing, Ltd Sec. Litig., 322 F. Supp.2d319, 335-36 (S.D.N.Y. 2004) ("a cause of action exists under [Rule l0b-5) subsections (a) and(c) for behavior that constitutes participationin a fraudulentscheme, even absent a fraudulentstatement by the defendant 22 alterego of JTCM, canbe chargeddirectly as investmentadvisers because they meet the definitionunder the Advisers Act. See Advisers Act Section 202(a)(l 1). As definedin Section 202(a)(l 1) of the Advisers Act, Respondents, forcompensation, engaged inthe business of advising others, either directly or throughpublications or writings,as to the value of securitiesor asto the advisability of investing in, purchasing, or selling securities. Inaddition, as partof their work, Respondents, forcompensation andas a partof their regularbusiness, issued or promulgatedanalyses or reports concerningsecurities. There is ampleevidence of misconduct establishing violations of Sections 206(1 ), 206(2) and206(4) andRule 206(4)-8. Primarily, the violative conduct was Respondents' fraudulent valuationof the Funds' holdings, which deceived investors andinflated the management fees, resultingin a misuse of Fundassets that directly defraudedthe Funds. Moreover, Respondents knowinglysolicited investments in the Funds on the basis of false andmisleading misrepresentations about (1) the insurancecomponent of theportfolio; (2) the identityof the Funds' serviceproviders; (3) the manner in which Respondents would value the portfolio positions; and(4) the concentration of the Funds' assets. In similarcircumstances, investment advisers andfund managers have been foundin violation of the antifraudprovisions of the Advisers Act basedon misrepresentations regarding,among other things,valuations of funds' portfolios,concentrations of assets, and manipulation of assetsin the portfolio. See e.g., Lauer, 2008 U.S. Dist. LEXIS 73026 at *77-78; Seghers, 2006 U.S. Dist. LEXIS 69293 at *3-5 Evergreen, 2009 SEC LEXIS 1853 *31-32. Finally, by repeatedly favoringBelesis's and JTF's pecuniaryinterests over those of the Funds (including by negotiating and/orapproving investment bankingagreements that paid JTF excessive feesand fees forperforming no services), Respondents breached theirfiduciary 23 obligations to the Funds. By allowing Belesis and JTF to influence certain decisions on behalf of the Funds as to the disposition of certain Funds' assets, Respondents further violated their fiduciaryduty to the Funds. The fact that Jarkesy actively sought to maximize Belesis's and JTF's fees wasnever disclosed in the offeringdocuments. Nor did Jarkesyand JTCM disclose that they would permit Belesis to drive utilization of the Funds' assets, a decision that was directly contrary to Jarkesy'ssupposedly exclusive role as manager of the Funds. Based on the foregoing Respondents are liable under the Advisers Act. See Tambone, 550 F.3d at 146; Batterman, 2002 U.S. Dist. LEXIS 18556 at *23. III. Respondents Should Receive Maximum Sanctions The Division seeks the following relief against Respondents: (i) censure pursuantto Section 203(e) of the Advisers Act; (ii) an order directing Respondents to cease and desist from committing or causing violations andany futureviolations of Section 17(a) of the Securities Act, Section IO(b) of the Exchange Act and Rule l0b-5 thereunder, and Sections 206(1), 206(2), and 206(4) of the Advisers Act and Rule 206(4)-8 thereunder, pursuant to Section 8A of the SecuritiesAct, Section 21C(a) of the Exchange Act, and Section 203(k) of the Advisers Act; (iii) disgorgement, pre-judgment interest, and third-tier penalties on a joint and several basis, pursuant to Section 21B(a) and (e) and 21C(e) of the ExchangeAct, Section SA(e), (g) of the SecuritiesAct, and Section 203(i)-(j) of the Advisers Act; (iv) permanentofficer and director bars against Jarkesypursuant to Section 20(d)(2) of the ExchangeAct and Section 20(e) of the SecuritiesAct; (v) permanentcollateral bars against Jarkesy pursuant to the Dodd-Frank Wall Street Refonn and Consumer Protection Act of 2010 ("Dodd-FrankAct"), Section 15(b) of the ExchangeAct, and Section 203(£) of the Advisers Act; (vi) permanentpenny stock bars against 24 Jarkesy pursuant to Section 2l(d) of the Exchange Act and Section 20(g) of the Securities Act; and (vii) an accounting of all JTCM operations and investments. In In the Matter ofDaniel Bogar, 2013 SEC LEXIS 2235 (Initial Decision, Aug. 2,2013) (Foelak, ALJ),this HearingOfficer stated that "in detenniningsanctions, the Commission considers such factors as: the egregiousnessof the defendant'sactions, the isolated or recurrent nature of theinfraction, the degreeof scienter involved,the sincerity of the defendant's assurancesagainst futureviolations, the defendant'srecognition of the wrongfulnature of his conduct, andthe likelihood that the defendant'soccupation will present opportunitiesfor future violations." Id. at *79 (citing Steadman v. SEC, 450 U.S. 91,97-104 (1981). "The Commission also considers the age of the violation and the degreeof harmto investors andthe marketplace resulting fromthe violation." Id. at *80 (citing MarshallE. Melton, 56 S.E.C. 695,698 (2003).) "Additionally,the Commission considers the extent to which the sanctionwill have a deterrent effect." Id. (citing Schield Mgmt. Co., Exchange Act ReleaseNo. 53201 (Jan.31, 2006), 87 SEC Docket 848, 862 & n.46.) "As the Commission has often emphasized,the public interest determinationextends to the public-at-large, the welfareof investors as a class, andstandards of conduct in the securities business generally." Id. (citing Christopher A. Lowry, 55 S.E.C. 1133, 1145 (2002), ajfd,340 F.3d 501 (8th Cir. 2003); Arthur Lipper Corp., 46 S.E.C. 78,100 (1975)). Based on these factors,Respondents should receive the most severe sanctions available. Theirconduct was egregious and they had a high degree of scienter. Theirconduct took place starting in 2007 andcontinues through today. Respondents have not accepted or recognizedthe wrongful nature of their conduct. Indeed, at no point during the hearing, did Jarkesy even suggest that he did anythingwrong. To the contrary,Jarkesy blamedinvestor losses on the financial meltdown and credit crunch and on the failure of JTF to raise sufficient capital for 25 portfolio companies. Jarkesyalso sought to blameothers by repeatedly stating during the hearingthat he did not value the positions - that the values camefrom others - andthat he was not responsible forthe financialstatements or their notes. Jarkesy's attemptto place the blame on othersunderscores his culpability. Leaddog Capital Markets,2012 SEC LEXIS 2918 at *45. In addition, the fraudulentconduct wasrecent and the hannto investors was significant. Millions of dollarsof investor fundswere squanderedand lost. Jarkesy cannoteven quantifythe amountof the loss even though he continues to claim that the Funds arestill in existence. Moreover, Jarkesy'soccupation presents furtheropportunity for future violations. He is highly engaged in the securities industry. In addition to the Funds, he provides investmentadvice throughhis syndicated radioshow andthrough the National Eagles andAngels Association, which he chairs. As such, he hasample opportunity to commit futureviolations even thoughhe claimedat the hearingthat he hasno present intention to manageany funds in the future. A. Respondents Should Receive a Cease and Desist Order Theshowing required to obtain a ceaseand desist order is "significantly less thanthat required foran injunction. 11 In the Matter of Fields, 2012 SEC LEXIS 3747 *43 (Initial Decision, Dec. S, 2012) (Foelak, ALJ). As described above, based on the Steadman factors, a ceaseand desist order is warranted. See In the Matter ofKoch, 2012 SEC LEXIS 1645 * 43-44 (Initial Decision, May 24, 2012) (Foelak, ALJ) (Respondents' conduct wasegregious and recurrentover a period of three months.The conduct involved at least a reckless degreeof scienter. The lack of assurancesagainst futureviolations andrecognition of the wrongfulnature of theconduct goes beyond a vigorous defenseof thecharges. Koch's chosen occupation in the financialindustry will present opportunities forfuture violations). 26 B. Respondents Should Pay Disgorgement, Interest, and Penalties In addition to thecensure and the ceaseand desist order, the Division seeks disgorgement, penalties,and prejudgmentinterest. In In the Mattero/Gerasimowicz, 2013 SEC LEXIS 2019 *6 (Initial Decision July 12, 2013) (Foelak, AU), this Hearing Officer described the standardfor ordering monetaryrelief. "Sections 8A(e) of the Securities Act, 21B(e) of the ExchangeAct, and 2030) of the Advisers Act authorize disgorgement of ill-gotten gains from Respondents. Disgorgement is anequitable remedy that requires a violator to give up wrongfully-obtainedprofits causally related to the proven wrongdoing." With respect to advisors such as Respondents, "[m]anagementand incentive fees are appropriately disgorged where they constituteill-gotten gains earnedduring the courseof fraudulentactivities. However, the Commission distinguishes betweenamounts earned through legitimate activities andthose connectedto violative activities, andit falls on the Division to show what a reasonable approximation of the feesconstituted unjust enrichment." Id at *6-7 (internalcitations omitted). "The amountof the disgorgement ordered need only be a reasonable approximation of profits causally connected to the violation." Id. at *7 (internalcitations omitted). Afterthe Division meets its burden, "the burden shift[s] to Respondents to demonstrate that a lesser amountwas appropriate." Id. at * 11. Once disgorgement is ordered, prejudgmentinterest shall be paid. Id. at * 14. Pursuantto 17 C.F.R. § 20 l .600(a), interest shall be due fromthe firstday of the month followingthe violation ... throughthe last day of the month preceding the month in which payment of disgorgement is made." Id. at * 15 n. 7. In this case, the Division is seeking anorder forRespondents to disgorge all of the incentive feesRespondents paid themselves (approximately $260,000) plus the $1.3 million in management feesthat Respondents received for"managing" a fraudulentoperation. The 27 incentive feeswould not have been earnedby Respondents had they accuratelyvalued the positions. Moreover, Respondents would not have been able to attractinvestors (andobtain the management fees)had theirdisclosures (including concerningthe risk associated withthe investment)not been fraudulent. Leaddog Capital Markets,2012 SEC LEXIS 2918 *51-52 ( ordering disgorgement of management fees). Withrespect to penalties,"Sections 21B of the ExchangeAct, 203(i) of the Advisers Act, and9( d) of the Investment Company Act authorizethe Commission to impose civil money penaltiesfor violations of the Securities, Exchange,Advisers, or Investment Company Acts or rulesthereunder. Six factorsare to be considered when determining whether a penalty is inthe public interest: (1) fraud; (2) harmto others; (3) unjust enrichment; (4) previousviolations; (5) deterrence; and(6) such other matters asjustice may require." Gerasimowicz, 2013 SEC LEXIS 2019 at * 16. In this case,multiple units of third-tier penalties should be ordered, particularlyin light of the natureof the conduct, the nwnberof Fundsharmed, the number of investors banned, andthe amountof the loss. Units of third-tier penalties are$150,000 fornatural persons (including Jarkesy) and$725,000 forother persons (including JTCM). 17 C.F.R. § 201.1004. In Gerasimowicz, penalties were determinedby multiplying the statutory third-tier penaltyby the nwnberof fundinvestors harmed by the conduct. Id. at * 18 (citing Steven E. Muth, 58 S.E.C. 770, 813 (2005) ("we believe that a civil money penalty based on the number of customers that [the respondent] defrauded .. . is appropriate."); see also SEC v. Glantz, 94 CV 5737, 2009 U.S. Dist. LEXIS 95350 *17 (S.D.N.Y. Oct. 13, 2009) (multiplying the penalty by the number of victims); SEC v. Milan Capital Group, Inc., 00 Civ. 0108, 2001 U.S. Dist. LEXIS 11804 (SONY 2001) (multiplying the penalty by each of the 200 defraudedinvestors, resulting in a $10 million penalty); SEC v. Kenton Capital Ltd, 69 F. Supp.2dl, 17 & n.15 (D.D.C. 1998) 28 (assessing a $1.2 million penalty calculated by "multiplyingthe maximumthird tier penaltyfor natural persons ($100,000) by the numberof investors who actually sent money to [defendant] (12)"). In thiscase, Jarkesy testified that there were more thanninety investors in Fund I anda document produced by Respondents andoffered into evidence by the Division (but not admitted) shows that there were at least 103 investors bannedby the conduct. Thus,it would be appropriate forthe HearingOfficer to issue a penaltyequaling ninetytimes the statutoryamount and up to 103 times thestatutory amount. Alternatively,the Hearing Officermight calculate the penaltyby multiplying the statutoryamount by thenumber of false statements. Because each monthly account statement startingin March 2009 was fraudulentlyinflated (based upon the firstuse of the 15% NPV calculation), it would be appropriateto multiply the statutorypenalty by a largenumber. In addition to the false accountstatements � ere were numerous additional false and misleading marketing materials andperiodic investor communications. SEC v. Pentagon Capital Mgmt., PLC, 725 F.3d 279, 288 n. 7 (2d Cir. 2013) ("althoughwe vacate the civil penaltyaward, we find no errorin the districtcourt's methodology for calculating the maximumpenalty be counting each tradeas a separateviolation"); SEC v. Coates, 137 F. Supp.2d413, 430 (S.D.N.Y. 2001) (multiplying the penaltyamount by the number of violations); In the Matter of Gualario & Co., LLC, 2012 SEC LEXIS497, *55-56 (Feb. 14, 2012) (multiplying the statutorypenalty by three (representing the operation of the fund,and the sale of two notes)). 29 C. Jarkesy Should Receive Collateral Bars The Division also seeks bars against Jarkesy from associationwith brokers, dealers, investment advisers, municipal securities dealers, municipal advisors, transfer agents, nationally recognized statisticalrating organizations, and investment companies. Such collateralbars are authorized under Sections 15(b) of the Exchange Act and 203(t)of the Advisers Act. Respondents may arguethat the Division cannotobtain collateral barsbecause most of their conduct pre-dates the effective date of the Dodd-Frank Act This argumentwas specifically rejected in Bogar, where this Hearing Officerruled: While Respondents' misconduct antedates the July 22, 2010, effectivedate of the Dodd-Frank Act, the Commission has detennined that sanctioning a respondent with a collateral barfor pre-Dodd-Frank wrongdoingis not impermissibly retroactive,but rather provides prospective relief fromhann to investors and the markets. John W. Lawton,Advisers Act ReleaseNo. 3513 (Dec. 13, 2012), 105 SEC Docket 61722; see also Alfred ClayLudlum, Ill, Advisers Act ReleaseNo. 3628 (July 11, 2013); Johnny Clifton, Securities Act ReleaseNo. 9417 (July 12, 2013); Tzemach David Netzer Korem, ExchangeAct Release No. 70044 (July 26, 2013). 2013 SEC LEXIS 2235 at *89 n.40; see also In the Matter ofSiris, 2012 SEC LEXIS4075 *13 n.3 (Initial Decision, Dec. 31, 2012) (Foelak, ALJ);In the Matter ofSeeley, 2013 SEC LEXIS 3156 * 34-35 (Initial Decision, Oct. 9, 2013); In the Matter o/Constantin, 2013 SEC LEXIS 3134 *5 n.3 (Initial Decision, Oct. 4, 2013). The fact that Respondents were not engaged in all of these activities during the time that they engaged in the fraud is also not a barrier to imposing the collateral bars. See LeadDog Capital Markets, 2012 SEC LEXIS at *57 n.22. Indeed, the collateral barsare particularly appropriate where, as here, theviolators are fiduciariesand "their abuse of thetrust placed in them is particularlyreprehensible." Id. at *57. 30 � D. Jarke�-y Should Receive Penny Stock and Officerand Director Bars The Division also seeks orders barring Jarkesy from engaging in pennystock activity and fromserving as an officer or director of a public company. Since the fraud at issue concerned numerous "penny stocks," including America West andRadiant, a penny stock baris particularly appropriate. Likewise, since Jarkesy was an officer anddirector of several of the portfolio companies thatwere fraudulentlyovervalued and used his power asan officerand director of these companies to inappropriately direct money to Belesis and JTF, he should be barredfrom servingas an officerand director. Section 21 (d)(2) of the ExchangeAct provides that officer and director bars are appropriate where "the person's conduct demonstratesunfitness to serve as anofficer or director of anysuch issuer." Even if Jarkesy's fraudulent conduct wasunrelated to his activities as an officer anddirector, his conduct to his fiduciaries and investors demonstrates"wrlitness." Jarkesy's securities laws violations were egregious. And he was not a low-level employee talcing directions fromhigher rankingindividuals. As Jarkesystated in his Answer to the OIP, "Jarkesy does not 'purportedly' control all operations and activities of JTCM andthe Funds because, in fact,he does controlall operations, etc.'' Jarkesy had an economic stake in the violations receiving fees, he directed the fraud, andhe had a high degree of scienter. 31 CONCLUSION For the reasonsset forthin this memorandum,the Division respectfullyrequests that the HearingOfficer find that Respondents violated Section 17(a) of the Securities Act, Section l0(b) of theExchange Act andRule I0b-5 thereunder, and Sections 206(1), 206(2), and206(4) of the Advisers Act andRule 206(4)-8 thereunder. TheDivision also respectfullyrequests thatthe HearingOfficer grant all of the requested relief against Respondents. Dated: April 7, 2014 RespectfullySubmitted, Todd D. Brody, Senior Trial Counsel Alix Biel, Senior StaffAttorney Division of Enforcement 200 Vesey Street,4 th Floor Tel: (212) 336-0080 (Brody) Tel: (212) 336-0028 (Biel) Facsimile: (212) 336-1324 (Brody) Facsimile: (212) 336-1353 (Biel) Email: [email protected] Email: [email protected] 32