U.S. Sec. v. Sierra Brokerage Servs., Inc.

• Decision Date: 04 April 2013
• Docket Number: No. 10–3546.,10–3546.
• Citation: 712 F.3d 321
• Parties: UNITED STATES SECURITIES AND EXCHANGE COMMISSION, Plaintiff–Appellee, v. SIERRA BROKERAGE SERVICES, INC., c/o Jeffrey A. Richardson, President, et al., Defendants, Aaron Tsai, Defendant–Appellant.
• Court: U.S. Court of Appeals — Sixth Circuit

712 F.3d 321

UNITED STATES SECURITIES AND EXCHANGE COMMISSION, Plaintiff–Appellee,

v. SIERRA BROKERAGE SERVICES, INC., c/o Jeffrey A. Richardson, President, et al., Defendants,Aaron Tsai, Defendant–Appellant.

No. 10–3546.

United States Court of Appeals,Sixth Circuit.

Argued: Oct. 11, 2012.

Decided and Filed: April 4, 2013.

ARGUED:Ronald E. DePetris, Southampton, New York, for Appellant. Hope Hall Augustini, Securities and Exchange Commission, Washington, D.C., for Appellee. ON BRIEF:Ronald E. DePetris, DePetris & Bachrach, LLP, New York, New York, Matthew T. Anderson, Luper Neidenthal & Logan, Columbus, Ohio, for Appellant. Hope Hall Augustini, David Lisitza, Securities and Exchange Commission, Washington, D.C., for Appellee.

Before: BATCHELDER, Chief Judge; GIBBONS, Circuit Judge; and ROSENTHAL, District Judge.^*

OPINION

ALICE M. BATCHELDER, Chief Judge.

The Securities and Exchange Commission filed this civil enforcement action against twelve Defendants, alleging that they violated registration, disclosure, and anti-fraud provisions of federal securities law. The SEC moved for summary judgment against the Defendants, and the Defendants made a cross-motion for summary judgment. The district court granted the SEC's motion in part and denied it in part, granted permanent injunctions against the Defendants, and denied the Defendants' cross-motion. On appeal, Defendant–Appellant Aaron Tsai challenges the grant of summary judgment and permanent injunction against him. For the reasons that follow, we AFFIRM.

I.

The district court explained the “reverse merger” process that led to the SEC's claims against Tsai in this case:

This case centers on Defendant Tsai's creation of MAS Acquisition XI Corporation (“MAS XI”), a “shell” company that ultimately merged with Bluepoint and sold shares to the public on the Over–the–Counter Bulletin Board in March of 2000. The SEC maintains that the Defendants' conduct relating to that process repeatedly violated the federal securities laws.

“Shell companies,” like MAS XI, ... are formed with the purpose of qualifying for public trading on the Over–the–Counter Bulletin Board and later being sold to a privately-held company. The private company is then merged into the shell. To accomplish the reverse merger, the public shell company exchanges its stock with the outstanding shares of the private company. The shareholders in control of the shell company transfer most of their shares to the owners of the private company.

The public shell company often changes its name to the name previously used by the private company and continues the business activity of the formerly private company except that the company is now an issuer of publicly traded securities.

SEC v. Sierra Brokerage Servs., Inc., 608 F.Supp.2d 923, 927 (S.D.Ohio 2009). A reverse merger enables a private company to access public markets without undertaking the expensive process of an initial public offering. See SEC v. Kern, 425 F.3d 143, 146 (2d Cir.2005). This inexpensive way to “go public” creates a market for shell companies.

Tsai is the only Defendant on appeal, though there are other Defendants who play significant roles in this case. Tsai has formed over 100 shell companies. No neophyte in the world of securities, Tsai has been a registered representative of multiple brokerage firms and has passed five exams related to the securities industry. The SEC has sued Tsai once before, though in that case Tsai consented to the final judgment without admitting or denying the allegations him, and the judgment came several years after the events leading to the instant suit. See SEC v. Surgilight, Inc., Lit. Rel. No. 19169, 85 S.E.C. Docket 391, 2005 WL 770873 (Apr. 6, 2005).

Tsai incorporated MAS Acquisition XI Corporation (“MAS XI,” and “Bluepoint” after the reverse merger occurred), the issuer of the stock in this case, in Indiana in 1996, and he served as its CEO, president, and treasurer from the outset. Even though MAS XI's bylaws required three directors as of the date on which the bylaws took effect, Tsai was MAS XI's only director at that time. After its incorporation, MAS XI issued 8.5 million shares of common stock to Tsai, but he reported beneficial ownership of only 8.25 million shares to the SEC.

To make MAS XI attractive for a reverse merger, Tsai pursued clearing the company's stock for trading on the Over–the–Counter Bulletin Board (“OTCBB”), a public securities market that the National Association of Securities Dealers (“NASD”) oversaw. To prepare MAS XI for clearance on the OTCBB, Tsai used thirty-three initial shareholders of MAS XI (“thirty-three shareholders”). The thirty-three shareholders consisted of two groups. Five individuals were in the first group. Tsai claimed they were former directors of MAS XI, but admitted that three of them never actually performed any services for MAS XI and that he could not remember whether the other two had performed any services. In fact, the “former directors” never participated in a board meeting of any kind. Notwithstanding the former directors' lack of involvement, Tsai had MAS XI issue a small number of shares to each of the former directors in 1997 and again in 1998 as “compensation for their services.” In 1997, Tsai also gave 50,000 shares of his own to each of the five former directors. This transfer accounts for the 250,000 shares as to which Tsai reported no beneficial ownership to the SEC.

The second group within the thirty-three shareholders (the twenty-eight “additional shareholders”) entered the scene after Tsai's initial and failed attempt to have MAS XI cleared for public trading. The NASD had rejected Tsai's initial “Form 211” filing—a securities listing application form that needed the NASD's approval before MAS XI's stock could be quoted on the OTCBB—because MAS XI's shares were concentrated in the hands of only five shareholders. Following the NASD's rejection, Tsai accordingly transferred shares from the five former directors to the twenty-eight additional shareholders, who were his friends or acquaintances.

Tsai made these transfers using stock powers, which are powers of attorney over securities, that the five former directors had signed in advance of any transfer and perhaps as early as the time they became shareholders. In his preparations for reverse mergers, Tsai had a practice of obtaining shareholders' signatures on stock powers prior to specific transfers of their stock. He did this to preempt delays that might occur if he had to track those shareholders down and obtain their signatures months or years later. In this case, Tsai recalled that after he obtained the former directors' signatures he likely went back and typed information onto the blank stock power forms. Tsai accordingly transferred some of the former directors' stock to the twenty-eight additional shareholders; he admitted to deciding arbitrarily the amounts of stock each of the additional shareholders received. It should be noted that Tsai obtained stock powers from each of the twenty-eight additional shareholders as well. And, once Tsai held signed stock powers, he did not need any other document to transfer the thirty-three shareholders' stock.

With the total number of shareholders at thirty-three, Tsai succeeded in his second attempt to obtain clearance for public trading from the NASD. Tsai turned to the next stage of his plans: the reverse merger. Another set of entities (the “promoter Defendants”) played a significant role in the events surrounding the reverse merger and leading to the suit against Tsai. They include Yongzhi Yang (a business consultant), K & J Consulting (Yang's company, which he used to trade unregistered shares of MAS XI which, by that time, had become Bluepoint), Michael Markow (a financial consultant with experience in reverse mergers), Global Guarantee (Markow's company, which he used to trade unregistered shares of Bluepoint), Francois Goelo (who introduced Yang to Markow, and controlled two companies that he used to trade unregistered shares of Bluepoint), Ke Luo (who helped pay Tsai for his efforts), and M & M (Luo's company, which he used to trade unregistered shares of Bluepoint).

In December of 1999, Yang was working as a consultant for a Chinese software company (that later became Bluepoint) that was seeking a U.S. shell for a merger. Goelo knew Yang and introduced Yang to Markow. Tsai recalled Markow's contacting him to discuss the possibility of a reverse merger with Bluepoint. The collective efforts of Goelo, Yang, and Markow paid off on January 7, 2000, when Tsai and Bluepoint's CEO formally agreed to a reverse merger.

Tsai had MAS XI declare a 15–for–1 stock split. That stock split multiplied the thirty-three shareholders' stock to approximately 3.75 million shares. Markow, working to facilitate the sale of the stock, told Tsai that he had arranged a group of investors eager to buy from the thirty-three shareholders. Tsai accordingly created stock certificates for the thirty-three shareholders' stock. These certificates had never been issued in the first place; instead, the thirty-three shareholders' ownership had only been recorded as book entries. Tsai mailed the certificates and stock powers to Markow, who sent each of the thirty-three shareholders $100, for a total of $3,300, regardless of how many shares each one held. Tsai testified that most of the thirty-three shareholders probably had no knowledge of the reverse merger or of their shares' having been cleared for public trading before Tsai sent their certificates and stock powers to Markow.

Tsai received a check, written to his company MAS Capital, Inc., for $250,000 from Markow, who had received wire transfers—that together totaled approximately $250,000—from Goelo, Yang, and Luo. Tsai received the $250,000 for transferring the stock of the thirty-three shareholders, which Tsai acknowledged.

On February 22, 2000, Markow ordered that the thirty-three shareholders'...