U.S. v. Sarno
| Decision Date | 05 April 1995 |
| Docket Number | 95-50270 and 50271,Nos. 93-50859,94-50010,93-50860,s. 93-50859 |
| Parties | 95 Cal. Daily Op. Serv. 9376, 95 Daily Journal D.A.R. 16,355 UNITED STATES of America, Plaintiff-Appellee, v. Anthony C. SARNO and Charles W. Knapp, Defendants-Appellants. (Two Cases). UNITED STATES of America, Plaintiff-Appellee, v. Joseph V. NASH, Defendant-Appellant. |
| Court | U.S. Court of Appeals — Ninth Circuit |
Donald M. Re, Los Angeles, California (argued); John J. Bartko, Bartko, Zankel, Tarrant & Miller, San Francisco, California (argued); Joseph V. Nash, pro se, North Las Vegas, Nevada (on the briefs), for defendants-appellants.
Carolyn J. Kubota and David Schindler, Assistant United States Attorneys, Los Angeles, California, for plaintiff-appellee.
Appeal from the United States District Court for the Central District of California.
Before McKAY, *** REINHARDT, and FERNANDEZ, Circuit Judges.
These appeals recount a sadly familiar tale from the Eighties: the financial looting of a federally-insured lending institution by would-be robber barons. 1 The following facts are those which the jury reasonably could have found.
The architect of this particular scheme, Defendant Charles W. Knapp, controlled a suite of financial service corporations collectively identified as the "Trafalgar entities." In the spring of 1988, Mr. Knapp was gathering capital to fund a foray into the insurance business. Defendant Anthony Sarno, who headed a financial consulting firm, was retained by Mr. Knapp to "build a balance sheet" that would enable Mr. Knapp to enter the reinsurance industry. Mr. Sarno planned to obtain assets for the various Trafalgar corporations through a series of stock swaps with other small businesses: After exchanging its preferred stock with the preferred stock of an outside corporation, a Trafalgar entity would note an increase in shareholders' equity equal to the value of the transferred stock and then record the acquisition of an asset equal to the value of the received stock. Among those companies solicited by Mr. Sarno were three companies partially owned by Defendant Joseph Nash, a CPA and long-time associate of Mr. Sarno who used his influence on behalf of his friend. Mr. Nash's advocacy proved unavailing, however, and the three corporations--Paperulers, Inc., Star-Glo Industries, and Detroit Body Products--rejected Mr. Sarno's overtures.
Mr. Sarno's other efforts likewise failed to meet with great success, and in June 1988, Mr. Knapp, whose companies were plagued with cash flow difficulties, sought out alternative sources of funds. Mr. Knapp found Mr. Gary Driggs, at that time the President of Western Savings and Loan and presently an unindicted co-conspirator of the Defendants. Mr. Knapp was desperate to borrow money; Mr. Driggs, in turn, was desperate to lend it. 2 Western agreed to loan Trafalgar Capital $15 million if Trafalgar Capital could submit a financial statement showing a net worth of $45 million. The loan was to close on June 30, and an audited financial statement was due by August 1. Messrs. Knapp and Sarno redoubled their efforts to build an appropriate balance sheet for Trafalgar Capital.
On June 22, 1988, Mr. Knapp submitted to Western a draft financial package based upon a "pro forma" Trafalgar Capital financial statement. This pro forma statement assumed that stock swaps worth $108 million would close by June 30. These assumptions notwithstanding, in the last week of June Mr. Sarno informed Mr. Knapp that the stock swap method would not suffice to create the net worth desired for Trafalgar Capital. Undaunted, Mr. Knapp quickly discovered a transaction that would generate the paper assets needed to put Trafalgar over the top. Mr. Knapp turned to Mr. Bill Morgan, a business associate who occasionally worked as real estate broker in Texas. Mr. Morgan brokered a deal between Trafalgar Interests of Texas ("TIOT"), a Knapp entity that was not (in form at least) a subsidiary of Trafalgar Capital, and the owners of the Circle C Ranch, a financially troubled residential development near Austin, Texas.
On June 28, the Circle C owners agreed to sell TIOT a one-half interest in the Circle C for $31.5 million. Mr. Knapp tendered a check for $1 million, with $30.5 million in promissory notes to follow. On June 29, TIOT transferred its interest in the Circle C to a subsidiary of Trafalgar Capital for $71 million--$1 million in cash (which would be used to fund the check given to the owners of the Circle C) and $70 million in Trafalgar Capital preferred stock. Trafalgar Capital did not assume the $30.5 million debt incurred by TIOT in purchasing the Circle C. The net result of this non-arms-length transaction was therefore the acquisition by Trafalgar Capital of a (supposed) $71 million asset in exchange for a $70 million increase in shareholder equity.
On June 28, 1988, Messrs. Sarno and Knapp prepared and submitted a second "pro forma" financial package to Western. Like its predecessor, this package also assumed that the deals described therein would close by June 30. The information given Western indicated that Trafalgar Capital's net worth far exceeded $45 million. Anticipating the events of the next day and undeterred by the purchase price paid by TIOT on the morning of June 28, Trafalgar Capital's financial statement listed the Circle C as a $71 million asset unencumbered by any debt. The financial package, relying upon papers of intent signed that same day by Joseph Nash, also assumed that Paperulers, Star-Glo, and Detroit Body would swap with Trafalgar Capital an amount of stock whose value substantially exceeded the net worth of each of those companies--notwithstanding the earlier refusal by those companies to do that very thing. While generally labelling its representations vis-a-vis the Circle C and the stock swap as "assumptions," the financial package warranted that the impact of all transactions (hypothetical and otherwise) had been calculated in accordance with "generally accepted accounting principles" ("GAAP").
On June 30, 1988, Mr. Brian O'Boyle, a Western loan officer, met with Mr. Sarno and representatives of Trafalgar Capital to finalize the loan agreement. At this meeting, Mr. Sarno disclosed to Mr. O'Boyle the elements of the Circle C deal, and assured him that the $40 million "step-up" in the value of the Circle C comported with GAAP. The loan for $15 million closed at the end of the meeting. Trafalgar received $13 million by July 6; 3 the remaining $2 million was withheld pending an audit of Trafalgar Capital.
Messrs. Knapp and Sarno looked to Mr. Nash (a CPA and the head of his own accounting firm) to perform the required audit. On Mr. Nash's advice, the Circle C "step-up" was retroactively re-created to bring the deal into better alignment with GAAP. The Defendants backdated documents that purported to excise TIOT from the deal and, in its place, to substitute Nepenthe, Inc., a shell corporation owned by Mr. Morgan. Nepenthe then retroactively sold the property to Trafalgar Insurance for $71 million--$1 million in cash (which had, in fact, already been paid by Mr. Knapp) and $70 million in Trafalgar Capital preferred stock. As had TIOT, Nepenthe on paper retained the $30.5 million owed to the sellers of the Circle C, and Trafalgar Capital again bought a $71 million asset for a comparatively trivial payment. To further bolster Trafalgar Capital's financial statement, during July 1988, Messrs. Knapp, Sarno, and Nash fabricated a series of transactions to augment Trafalgar's otherwise meager income stream by roughly $1.8 million.
On July 28, 1988, Mr. Nash signed a standard opinion letter certifying the audit of Trafalgar Capital. Western funded the remaining $2 million shortly thereafter. Through the remainder of 1988 and the early months of 1989, the Defendants continued their efforts to cloak the events surrounding the Western loan with a semblance of propriety, albeit with little success. Trafalgar defaulted on its loan later in 1989.
On March 3, 1993, the Defendants were indicted for three counts of violating 18 U.S.C. Sec. 1014 by submitting false statements to a federally insured lending institution for the purposes of inducing a loan. The charges arose from the submission of the June 22, 1988, financial package, the June 28, 1988 financial package, and the audited financial statement, respectively. The Defendants were also indicted for conspiracy to violate 18 U.S.C. Sec. 1014. After a two-week jury trial, Messrs. Sarno and Knapp were found guilty of conspiracy and of two substantive violations of Sec. 1014 (). Mr. Nash was convicted of conspiracy and of one substantive violation of Sec. 1014 (). The jury acquitted Mr. Knapp on the remaining count (the June 22 draft financial package), and was unable to reach a verdict with respect to Mr. Sarno on that count.
On appeal, each defendant makes numerous allegations of error. Each allegation is addressed in turn below. Arguments common to more than one defendant are, of course, grouped.
From the outset of this case, Messrs. Knapp and Sarno have assiduously argued that the term "false statement," as used within the meaning of Sec. 1014, does not comprise--as a matter of fact or law--the class of allegedly hypothetical representations made by the June 28, 1988, "pro forma" financial package. The Defendants argue that the "pro forma" financial statement--which they equate to an explicitly hypothetical representation--is not an assertion of fact and, thus, cannot as a matter of law be either true or false. Hence, they conclude, the June 28 package could not have violated Sec. 1014, which by its terms requires a "false statement."...
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