Sec. & Exch. Comm'n v. Scoville

• Decision Date: 24 January 2019
• Docket Number: No. 17-4059,17-4059
• Citation: 913 F.3d 1204
• Parties: SECURITIES AND EXCHANGE COMMISSION, Plaintiff - Appellee, v. Charles D. SCOVILLE, Defendant - Appellant, and Traffic Monsoon, LLC, Defendant. Peggy Hunt, Receiver - Amicus Curiae.
• Court: U.S. Court of Appeals — Tenth Circuit

913 F.3d 1204

SECURITIES AND EXCHANGE COMMISSION, Plaintiff - Appellee,

v. Charles D. SCOVILLE, Defendant - Appellant,andTraffic Monsoon, LLC, Defendant.Peggy Hunt, Receiver - Amicus Curiae.

No. 17-4059

United States Court of Appeals, Tenth Circuit.

FILED January 24, 2019

D. Loren Washburn (Micah S. Echols and Tom W. Stewart, Marquis Aurbach Coffing, Las Vegas, Nevada, with him on the briefs), Smith Correll, LLP, Salt Lake City, Utah for Defendants-Appellants.

William K. Shirey (Robert B. Stebbins, General Counsel, Michael A. Conley, Solicitor, with him on the briefs), Counsel to the Solicitor, Securities and Exchange Commission, Washington, D.C., for Plaintiff-Appellee.

Peggy Hunt, Michael F. Thomson, and John J. Weist, Dorsey & Whitney LLP, filed a brief for Receiver-Amicus Curiae Peggy Hunt, in support of Plaintiff-Appellee.

Before BRISCOE, EBEL, and HARTZ, Circuit Judges.

EBEL, Circuit Judge.

This case involves an alleged worldwide Ponzi scheme and the antifraud provisions of the federal Securities Act of 1933 and the Securities Exchange Act of 1934. Defendant Charles Scoville operated an internet traffic exchange business through his Utah company, Defendant Traffic Monsoon, LLC. The Securities and Exchange Commission ("SEC") initiated this civil enforcement action, alleging Defendants were instead operating an unlawful online Ponzi scheme involving the fraudulent sale of securities. In this interlocutory appeal, Scoville challenges several preliminary orders the district court issued at the outset of this still ongoing enforcement action, including orders freezing Defendants’ assets, appointing a receiver, and preliminarily enjoining Defendants from continuing to operate their business.

In upholding these preliminary rulings, we conclude first that the antifraud provisions of the federal securities laws reach Traffic Monsoon’s sales to customers outside the United States because, applying the conduct-and-effects test added to the federal securities laws by the 2010 Dodd-Frank Act, Traffic Monsoon undertook significant conduct in the United States to make those sales to persons abroad. We further conclude that Traffic Monsoon’s Adpacks (bundled internet advertising services that allowed a purchaser to share in some of Traffic Monsoon’s revenue) qualified as investment contracts, which are securities regulated under the 1933 and 1934 securities acts. We further conclude that the SEC has asserted sufficient evidence to make it likely that the SEC will be able to prove that Defendants were operating a fraudulent scheme—a Ponzi scheme—selling Adpacks and that scheme violated the antifraud statutes invoked in this litigation. Having jurisdiction under 28 U.S.C. § 1292(a)(1) and (2), we, therefore, AFFIRM the district court’s challenged preliminary orders.

I. BACKGROUND

The parties have very different versions of Traffic Monsoon’s business model. According to the SEC, Traffic Monsoon was operating a Ponzi scheme; that is, a fraudulent scheme in which the business pays returns to its investors that are financed, not by the success of the business, but instead with money acquired from later investors. See S.E.C. v. Thompson, 732 F.3d 1151, 1154 n.3 (10th Cir. 2013) ; Okla. Dep’t of Sec. ex rel. Faught v. Wilcox, 691 F.3d 1171, 1173 n.2 (10th Cir. 2012).

Scoville claims, instead, that Traffic Monsoon is a legitimate internet traffic exchange offering internet advertising services. Such a business is based on the fact that internet search engines such as Google use algorithms that rank more frequently visited websites higher than less frequently visited websites. In light of this, website traffic exchange businesses sell visits to a purchaser’s website in order to make that website look more popular than it really is. Scoville operated several other website traffic exchanges before starting Traffic Monsoon in September 2014.

Scoville is the sole member, manager and registered agent of Traffic Monsoon, a Utah limited liability company. Scoville is also Traffic Monsoon’s sole employee, running the business from his Utah apartment. The company contracts with a Russian computer programmer and several call centers hired to respond to telephone inquiries from Traffic Monsoon’s customers.

Scoville operated Traffic Monsoon through a website, www.trafficmonsoon.com, which was housed on servers physically located in the United States. Someone wanting to do business with Traffic Monsoon first had to become a member by going to the website and creating an account. The member could then purchase through the website several different advertising services. For example, for $5, a member could purchase twenty clicks on the member’s online advertisement, and for $5.95 a member could purchase 1,000 visits to his website.

Alternatively, instead of purchasing these services "ala carte," a member could purchase an Adpack for $50. A single Adpack entitled a member to receive 1,000 visits to his website and twenty clicks on his internet ad (a $10.95 value), plus the opportunity to share in Traffic Monsoon’s revenue up to a maximum amount of $55. An Adpack purchaser qualified to share in Traffic Monsoon’s revenue for each day that the purchaser clicked on ten (later fifty¹ ) internet ads for other Traffic Monsoon members’ websites and remained on the ad’s landing page for five seconds. In this way, Scoville gave Adpack purchasers an incentive to provide some of the advertising traffic that Traffic Monsoon was selling to its members.

Traffic Monsoon made it easy for members to complete their daily qualifying advertising clicks. When an Adpack purchaser logged onto his account, Traffic Monsoon would present rotating ads on which the member could click.

The [member] is required to view each banner ad for only 5 seconds, and a counter appears that counts down the 5 seconds for [the member]. At the end of that time the [member] must click on an image that appears, to verify that he is human, and then the next banner ad appears automatically. The act of completing the 50 clicks takes the [member] 4.1 minutes per day.

(Aplt. App. at 18-19 ¶ 31 (bracketed material added).)

Each day that the Adpack purchaser completed the requisite number of clicks, the purchaser qualified to share in Traffic Monsoon’s revenue earned during the preceding twenty-four hours. Ninety-nine percent of Adpack purchasers qualified to share in at least some of Traffic Monsoon’s revenue. But "neither the website nor any other publicly available source of information informed the members how Traffic Monsoon split the revenue between itself and qualified Adpack holders." (Id. 2068 ¶ 14.) Furthermore, because Traffic Monsoon "kept no accounting records[,] ... there are no readily available documents that describe precisely how the money was distributed." (Id. 2067 ¶ 13.) Typically an Adpack purchaser would earn $1 in shared revenue for each day that he made the requisite number of qualifying clicks. That meant that in approximately fifty-five days an Adpack purchaser could reach the maximum $55 return, recouping the $50 the member originally paid for the Adpack plus earning an additional $5 (a 10% return over the fifty-five days). When an Adpack purchaser reached the maximum $55 limit in revenue sharing, that member could either use that money to purchase another $50 Adpack, or he could withdraw some or all of his money.

A member could buy as many $50 Adpacks as he wanted; some members owned hundreds or even thousands of Adpacks. Significantly, no matter how many Adpacks a member purchased, the member could qualify to share in Traffic Monsoon’s revenue on all of those Adpacks through a single four-minute session clicking on other members’ ads. So, for example, if a member bought 100 Adpacks for $5,000 and spent just four minutes a day for fifty-five days clicking on other Traffic Monsoon members’ ads, the Adpack purchaser would earn back the original $5,000 he paid for all 100 Adpacks plus an additional 10% return of $500. If a member consistently rolled over his Adpacks every fifty-five days, instead of cashing out, he would earn a 66% annual return on his original $50 purchase and in a year he would have 166 Adpacks. In three years, he could earn "$25,080—over five times the initial [$5,000] investment." (Id. 2073-74 ¶ 30.)

A second way a Traffic Monsoon member could earn money was to recruit other members. The recruiting member would earn a 10% commission on every advertising service the recruited member purchased. This included Adpacks the recruit purchased, both with new money and by rolling over earnings from prior Adpacks. The district court noted that "for all $50 Adpacks that were purchased by a referred member, Traffic Monsoon typically deposited $60 worth of credits in member accounts: $55 into the purchasing member’s account over a 55-day period (so long as the member qualified [to share revenue] ) and $5 into the referring member’s account." (Id. 2068-69 ¶ 17.)

The district court found that, while "[s]ome individuals initially purchased Adpacks principally as a way to promote their online businesses[,] ... for many members, the profits that could be reaped from the Adpacks themselves quickly eclipsed this motive." (Id. 2071 ¶ 23.) "Indeed, many members have not received or used the web visits and banner clicks purchased in the Adpack" (id. 2072 ¶ 24), because Traffic Monsoon only delivered about 10% of the clicks and website visits it sold as part of the Adpacks.

Before buying an Adpack, the member had to agree with Traffic Monson that the Adpack was not an "investment" and that Traffic Monsoon’s "past performance does not guarantee [the purchaser] the same result in the future." (Id. 2069 ¶ 18 (internal quotation marks omitted).) Traffic Monsoon’s website also included a lengthy explanation to its members as to why it was not operating a Ponzi scheme. The website further stated that the revenue Traffic Monsoon shared with its qualifying members was earned from the sale of all of...