483 F.3d 747 (11th Cir. 2007), 06-10353, S.E.C. v. Merchant Capital, LLC
|Citation:||483 F.3d 747|
|Party Name:||SECURITIES AND EXCHANGE COMMISSION, Plaintiff-Appellant, v. MERCHANT CAPITAL, LLC, Steven C. Wyer, and Kurt V. Beasley, Defendants-Appellees.|
|Case Date:||April 04, 2007|
|Court:||United States Courts of Appeals, Court of Appeals for the Eleventh Circuit|
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Dominick V. Freda, Jacob H. Stillman, Susan S. McDonald, SEC/Office of Gen. Counsel, Washington, DC, for SEC.
Mark G. Trigg, Greenberg, Traurig, LLP, Atlanta, GA, for Defendants-Appellees.
Appeal from the United States District Court for the Northern District of Georgia.
Before ANDERSON and BARKETT, Circuit Judges, and GOLDBERG, [*] Judge.
ANDERSON, Circuit Judge:
The SEC brought this enforcement action against defendants Steven Wyer, Kurt Beasley, and Merchant Capital, LLC ("Merchant"), alleging violations of the registration and antifraud provisions of the federal securities laws. Wyer and Beasley, through Merchant, sold interests in twenty-eight registered limited liability partnerships ("RLLPs") to 485 persons. The SEC asserted that these interests were "investment contracts" within the meaning of the federal securities laws, and that the defendants had committed securities fraud in marketing the interests. The district court concluded that the interests were not investment contracts and, regardless, that the defendants had not committed securities fraud. We reverse in part, vacate in part, and remand for further proceedings.
I. Facts 1
Wyer and Beasley formed Merchant in order to participate in the business of buying, collecting, and reselling charged-off consumer debt from financial institutions such as banks and credit card companies. Because this case depends to a significant extent on the nature of this industry, we will set out its characteristics in some detail.
When a consumer is delinquent on a credit account, the company that provided the account begins by trying to collect the debt itself. After 180 days, however, the company normally sells the debt to a wholesale purchaser. Most sales of debt occur in large pools. Some of these pools are sold at auction. Others are sold pursuant to long-term contracts with large purchasers, so-called "forward-flow contracts." Forward-flow contracts are attractive to the seller because they provide a consistent and reliable way to get rid of debt. They are attractive to the wholesaler because they provide a reliable supply and also typically guarantee that the accounts are a representative sample of the company's debt pool and that none of the debtors are deceased or bankrupt.
After auction and forward-flow contracts dispose of the large pools, a credit card company or bank may have small amounts of debt left over. It will generally sell the remaining debt in small pools in what are known as "one-off" sales. These sales may occur in parcels as small as $25,000, and have none of the guarantees that are present in the long-term forward-flow contracts.
While some wholesalers attempt to collect the debt themselves, most purchase debt and then outsource the collection of that debt to attorneys and collection agencies. For these wholesalers, the key business decision is determining the price at
which they are willing to buy particular pools of debt from the issuer. 2
As established at trial, the appropriate price for a pool of debt depends on the many factors that determine how likely it is that the debt in the pool will be collected. These factors include (1) who the issuer is, (2) how hard the issuer tries to collect the debt before selling it, (3) how the issuer selects the accounts it sells from the general pool of debtor accounts, (4) whether the selection produces a fair representation of the issuer's general debt profile, (5) the geographic distribution of the accounts, (6) the laws of the states where the accounts are located, (7) the terms and conditions of the particular debtor accounts, (8) how old the accounts are, (9) how recently a payment was made on an account, (10) how many payments were made on an account, and (11) whether a payment was ever made on an account at all. 3 Wholesalers often have proprietary computer programs that assign a weight to the various factors, assess the characteristics of the particular debt pool, and thereby estimate how valuable the pool is. The wholesaler makes its profit by buying pools that seem profitable; outsourcing the collection for a certain period of time; and then reselling the debt on the secondary market for an even lower price than it paid for the debt.
Wyer and Beasley had no prior experience in the debt purchasing industry. Wyer was formerly a principal in a securities firm. His most recent business was conducting direct marketing for financial institutions. Wyer had declared personal bankruptcy because that business defaulted on certain obligations that he had personally guaranteed. Beasley was a lawyer and CPA whose practice focused on banking, asset protection, and corporate representation. He had previously done legal work for Wyer.
Wyer became interested in the debt purchasing business through conversations with a participant in the industry, Fred Howard. Howard was principal owner of New Vision Financial ("New Vision"), a wholesale debt purchaser. Wyer sought to enter a business where his personal relationships with financial institutions would be valuable, and through discussions with Howard, he believed debt purchasing was such a business. Howard had previously raised funds by selling RLLP interests, but had abandoned that model because a number of states were investigating whether the RLLP interests were securities under state law. Howard provided Wyer with business models and legal opinions on the status of the RLLP interests under the securities laws. He also informed Wyer and Beasley of the existence of the state securities investigations.
Wyer and Beasley formed Merchant, with Wyer owning seventy-five percent, and Beasley twenty-five percent. Wyer and Beasley planned to raise funds through Merchant and then buy fractional shares in debt pools ultimately purchased by New Vision. New Vision would aggregate money from Merchant and other sources, purchase debt pools through auction and forward-flow contracts, and then outsource the collection of the debt to Enhanced Asset Management ("EAM"), a collection company. To formalize this relationship,
Merchant entered into a services contract with New Vision.
Merchant began raising money in November 2001 by soliciting members of the general public to become partners in Colorado Registered Limited Liability Partnerships. Merchant employed a network of recruiters to sell the RLLP interests, and provided the recruiters with scripts. These recruiters informed potential partners that, while they would be expected to participate in the operation of their partnership, their actual duties would be limited to checking a box on ballots that would be periodically sent to them. Merchant's offering materials also represented that the RLLP interests were not securities and that the federal securities laws did not apply to the interests.
Each RLLP was to have no more than 20 partners. Merchant eventually organized twenty-eight RLLPs, containing 485 partners, with a total capitalization of over $26 million. The eventual RLLP partners were all members of the general public with no demonstrated expertise in the debt purchasing business, and included a nurse, a housewife, and a railroad retiree. Each partner had a net worth of at least $250,000, and more than seventy-five percent had a net worth exceeding $500,000. Further, ninety percent of the partners self-reported business experience between "average" and "excellent." Two-thirds of the investors invested through their IRA accounts. 4
The partnerships were marketed and sold as freestanding entities. Merchant did not disclose the existence of the other partnerships or the relationship with New Vision to the RLLP partners. Despite the partnerships' formal independence, Wyer testified at trial that Merchant planned from the beginning to pool the money collected from the RLLPs in order to purchase fractional interests in debt pools owned by New Vision.
Under the partnership agreement provided by Merchant, each partnership was scheduled to participate in the debt purchasing, collection, and resale business for three years, at which point it would be dissolved. The managing general partner ("MGP") would be the operational head of the partnership, with sole authority to bind the partnership. At the end of the three years, the partnership assets would be distributed to the partners and the MGP. The partnership agreement also provided that partners could elect to receive returns on capital equal to 3.6 percent of their contribution per quarter for three years, or else a 16.5 percent annual return on capital payable at the end of the three years. The MGP would collect fees on each transaction in debt. In addition, the MGP would participate in any profits over and above the 14.4 or 16.5 percent annual return. Partners would receive fifty percent of such profits, and the MGP would receive the other half.
The partnership materials told the partners that they were expected to have an active role in managing the business of their partnership. The agreement reserved certain powers for the partners. They had the ability to select the MGP. They had the exclusive right to approve any act obligating the partnership in an amount exceeding $5,000. They could remove the MGP upon a unanimous vote, for cause. Finally, they could inspect books and records and participate in various committee meetings.
Merchant prepared all the partnership...
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