Whitney v. S.E.C.

• Citation: 604 F.2d 676,196 U.S.App.D.C. 12
• Decision Date: 28 June 1979
• Court: United States Courts of Appeals. United States Court of Appeals (District of Columbia)

Page 676

604 F.2d 676

196 U.S.App.D.C. 12, Fed. Sec. L. Rep. P 96,913

Stanton L. WHITNEY, Petitioner v SECURITIES AND EXCHANGE COMMISSION, Respondent.

No. 78-1326.

United States Court of Appeals District of Columbia Circuit.

Argued 3 April 1979.

Decided 28 June 1979.

Petition for Review of an Order of the Securities and Exchange commission.

Steven B. Duke, for petitioner.

Michael J. Connell, Sp. Counsel, Securities and Exchange Commission, Washington, D. C., with whom Harvey L. Pitt, Gen. Counsel, Paul Gonson, Associate Gen. Counsel, and Jacob H. Stillman, Principal Asst. Gen. Counsel, Securities and Exchange Commission, Washington, D. C., were on the brief, for respondent.

Also Michael K. Wolensky and Elisse B. Walter, Counsel, Securities and Exchange Commission, Washington, D. C., entered appearances, for respondent.

Before TAMM and WILKEY, Circuit Judges, and CORCORAN, Senior District Judge. ^*

Opinion for the Court filed by WILKEY, Circuit Judge.

WILKEY, Circuit Judge:

Petitioner seeks review of an order of the Securities Exchange Commission suspending him for nine months from association with any broker or dealer in securities. ¹ The Commission based its order on findings that petitioner had willfully violated provisions of the Securities Exchange Act of 1934 ² by engaging in fraudulent conduct in connection with the sale of securities belonging to the Town of Stratford, Connecticut. Because we believe these findings were not supported by substantial evidence, we set aside the subject order and remand the case for proceedings consistent with this opinion.

I. BACKGROUND

A. Facts.

Petitioner Whitney is the sole proprietor of a business in Fairfield, Connecticut, selling insurance and various types of securities, the latter as a registered representative of CNA Investor Services, Inc. (CNA), a broker-dealer registered with the SEC. In connection with his insurance business, Whitney had on occasion arranged to have retirement pension funds placed under the management of Connecticut General Life Insurance Company (CG), a service for which CG compensated him. In 1972 and 1973 Whitney sought to secure for CG the management of such a fund belonging to the Town of Stratford. Although CG had originally proposed to assume management of the entire fund, the Stratford Pension Board chose to place with it only one-half, leaving the remainder with the prior manager. Under this arrangement, one-half of the fund assets, chiefly securities listed on the New York Stock Exchange, would be sold at the outset and the cash proceeds invested by CG. In accordance with an accompanying escrow agreement, CG would conduct the initial liquidation once the securities were delivered by the Town.

In the course of its deliberations the Pension Board raised the question whether Whitney's compensation, if any, would be a charge against the fund assets. On two occasions, John Elliot, CG's area pension fund manager and a friend of Whitney's, represented to the pension board that Whitney's fee, billable to the fund, would be $700. However, believing the $700 "finder's fee" would be inadequate, Elliot and Whitney began considering other avenues of compensation, among them an arrangement whereby Whitney, as a registered securities representative for CNA, would share in the brokerage commissions generated by CG's liquidation of the fund assets. The idea required another broker-dealer inasmuch as CNA was not a member of the New York Stock Exchange and could not directly liquidate the fund. For this purpose, Elliot approved the brokerage firm of Thomson & McKinnon, Auchincloss & Kohlmeyer (TM) in August 1973. Thereafter Whitney wrote to TM explaining what was intended.

In October or November 1973 Elliot told Whitney that senior officers at CG had "for political reasons" disapproved Whitney's receiving commissions on the liquidating sales but that Whitney would yet be compensated through commissions on other brokerage. Although in December 1973 Elliot was instructed to tell Whitney that CG would not participate in any arrangement whatever for indirect compensation, it is uncertain what he conveyed to Whitney. ³ Then, in January 1974, Elliot died.

Whitney was introduced to Elliot's successor, Lawrence English, on 3 April, at which time, according to the Commission, Whitney was told that "CG would not permit him to receive compensation from the portfolio liquidation or from any other CG brokerage, and that CG would not utilize TM for the liquidation." ⁴ After Whitney objected, raising his contrary understanding with Elliot, English again pursued the matter at CG and later telephoned Whitney, confirming what had been said on 3 April. ⁵

Thereafter Whitney proposed to English that Whitney earn additional compensation by personally conducting the liquidating of the fund. ⁶ English indicated that CG would be agreeable, but that Whitney would have to prevail on the Town to retain him. At Whitney's request, Frederick Castellani, an underwriter in CG's pension department, wrote Whitney on 10 April confirming CG's approval but noting that the escrow agreement, providing that CG liquidate the fund, would in that event have to be rescinded. Later in April 1974 English spoke with Whitney on the telephone and apparently was told that Whitney and the Town were "moving along nicely" in the direction of a satisfactory liquidation agreement.

On 16 May the Town's Director of Finance called Whitney and asked him to pick up the fund securities for CG, whereupon Whitney called Alvin Rapps at TM and told him to expect delivery of the securities. Whitney received the securities on 17 May, signing receipts which recited that the securities were received "for conveyance to" CG. Then, accompanied by the Town's pension board chairman, Whitney took the securities to TM's New York office. While other TM personnel reviewed the securities, Rapps prepared a new account form in the name of the "Town of Stratford Pension Fund Agency," with a notation that the account was "for the courtesy" of CNA. After reading the account form Whitney told Rapps that it was unnecessary to send copies of confirmations of the securities sales to CG in addition to the Town and CNA, as was provided in the account form. ⁷

According to the Commission, after delivering the securities to TM Whitney continued his efforts to persuade the Town to liquidate the fund through him. On 29 May, apparently at Whitney's request, an officer of CG wrote to the pension board chairman recommending that the Town liquidate the fund in the manner proposed by Whitney. On 31 May Whitney wrote to the pension board chairman, enclosing a draft letter which he proposed the board send to TM authorizing the liquidation "to conform with" CG's letter of 29 May. The Town, however, declined to proceed with the liquidation through TM unless CG would approve the proposed sequence of liquidation, which it refused to do. After apparently fruitless discussions, the Town attorney on 17 July instructed CG to proceed with the liquidation in accordance with the escrow agreement.

It was learned, however, that in the event TM did not conduct the liquidation it would still charge the Town $5,000 for services it had already performed. Consequently, the pension board decided on 6 August to rescind the escrow agreement and to liquidate through TM after all. The securities were then sold in the normal course and Whitney received $3,500 in commissions in accordance with CNA's agreement with TM.

B. Course of the Proceedings.

Following a five-day evidentiary hearing, the presiding Administrative Law Judge found that Whitney, seeking additional compensation, had engaged in a fraudulent scheme in connection with the sale of securities belonging to the pension fund in violation of section 10(b) of the 1934 Act and the Commission's Rule 10b-5. The ALJ suspended Whitney for nine months from association with any securities broker or dealer. The Commission, after reviewing the record, agreed that Whitney had "willfully violated" section 10(b) and rule 10b-5, and affirmed the ALJ's imposition of a nine-month suspension.

II. ANALYSIS

Under section 15(b) of the Securities Exchange Act ⁸ the Commission may suspend for a period not exceeding twelve months any person from being associated with a broker or dealer if the Commission finds, after notice and hearing, that the person has willfully violated any provision of the Act and that the suspension would be in the public interest. The antifraud provisions of the Act, set out in section 10(b), ⁹ make it unlawful for any person directly or indirectly to "use or employ, in connection with the purchase or sale of any security . . . any manipulative or deceptive device or contrivance" in violation of the Commission's rules. Rule 10b-5 in turn proscribes three categories of conduct. It makes it unlawful:

(a) to employ any device, scheme, or artifice to defraud,

(b) to make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or

(c) to engage in any act, practice or course of business which operates or would operate as a fraud or deceit upon any person,

in connection with the purchase or sale of any security.

The Commission, after a hearing, ¹⁰ found that Whitney "deliberately deceived" CG and the Town pension board in violation of section 10(b) and rule 10b-5. ¹¹ The Commission thought it plain enough that the fraud was in connection with the sale of securities inasmuch as Whitney's sole purpose was "to obtain compensation by arranging to have those securities sold through an agent of his own choosing." ¹² While we suppose that Whitney's conduct occurred in connection with the sale of securities for purposes of section 10(b), we neither find the proven conduct fraudulent, nor think that those allegations which arguably do describe fraud were...