U.S. S.E.C. v. Fehn

Decision Date09 October 1996
Docket NumberNo. 94-16136,94-16136
Citation97 F.3d 1276
Parties, Fed. Sec. L. Rep. P 99,330, 96 Cal. Daily Op. Serv. 7516, 96 Daily Journal D.A.R. 12,375 UNITED STATES SECURITIES AND EXCHANGE COMMISSION, Plaintiff-Appellee, v. H. Thomas FEHN, Defendant-Appellant.
CourtU.S. Court of Appeals — Ninth Circuit

Gregory J. Sherwin, Fields, Fehn & Sherwin, Los Angeles, CA, for defendant-appellant.

Simon M. Lorne, Lucinda O. McConathy, Jacob H. Stillman and Catherine A. Broderick, Securities and Exchange Commission, Washington, D.C., for plaintiff-appellee.

Appeal from the United States District Court for the District of Nevada, Mary Johnson Lowe, Senior District Judge, Presiding. * D.C. No. CV-92-00946-HDM.

Before: GOODWIN and HAWKINS, Circuit Judges, and FITZGERALD, ** District Judge.

MICHAEL DALY HAWKINS, Circuit Judge:

This appeal requires us to apply Section 104 of the recently enacted Private Securities California attorney H. Thomas Fehn appeals the district court's final judgment and permanent injunction order of April 1, 1994, which ordered Fehn to refrain from aiding and abetting violations of Section 10(b) and Section 15(d) of the Securities Exchange Act of 1934 and related regulations. Fehn advances three distinct challenges to the district court's injunction. He first contends that the Supreme Court's decision in Central Bank of Denver v. First Interstate Bank of Denver, 511 U.S. 164, 114 S.Ct. 1439, 128 L.Ed.2d 119 (1994), which held that a private plaintiff may not maintain an action for aiding and abetting violations of Section 10(b) of the Securities Exchange Act, should extend to SEC injunctive actions like the one that precipitated this case. Fehn argues, in the alternative, that even if Central Bank does not preclude the SEC's injunctive action against him, the district court erroneously concluded that he aided and abetted violations of Section 10(b) and Section 15(d) and related regulations. Finally, Fehn contends that the district court abused its discretion in entering a permanent injunction against him.

Litigation Reform Act of 1995, which expressly authorizes the Securities and Exchange Commission ("SEC") to bring injunctive actions against those who aid and abet violations of certain securities laws.

We have jurisdiction over this appeal from a final judgment pursuant to 28 U.S.C. § 1291. We hold that extension of Central Bank to SEC injunctive actions is barred by Section 104 of the recently enacted Private Securities Litigation Reform Act of 1995, Pub.L. 104-67, 109 Stat. 737 (1995). We affirm the district court's permanent injunction order because we conclude that the court correctly found that Fehn had aided and abetted violations of Section 10(b) and Section 15(d) of the Securities Exchange Act and related regulations, and did not abuse its discretion in permanently enjoining him from future aiding and abetting violations.

FACTUAL AND PROCEDURAL BACKGROUND
I. The Initial Public Offering by CTI Technical, Inc.

CTI Technical, Inc. was incorporated in Nevada in January 1987 by its promoter, Las Vegas resident Edwin "Bud" Wheeler. Although Wheeler directed CTI's operations from the date of its incorporation, his status as company president and chief executive officer was not disclosed publicly until August 1988. In June 1987, seeking to raise capital to acquire other businesses, CTI conducted a $200,000 "blind pool" initial public offering of securities ("IPO").

The CTI offering was tainted by violations of state and federal securities laws. First, CTI violated state blue sky laws by failing to register its securities with the states in which those securities were sold. Second, although CTI filed a Form S-18 registration statement with the SEC, 1 it violated the Securities Act of 1933 and SEC regulations 2 by failing to disclose that Wheeler was the promoter of the company and controlled its nominal directors. Finally, Wheeler and Stoneridge Securities, Inc., underwriter for the IPO, attempted to defraud investors by manipulating the price of the securities in aftermarket trading.

II. The SEC Investigation of CTI's Initial Public Offering

In early 1988, the SEC launched a formal investigation of CTI's IPO. That investigation was to culminate in the SEC's September 1989 complaint against CTI and Wheeler. As a result of the SEC's action, the defendants consented to a permanent injunction against future securities laws violations, and Wheeler was convicted of securities fraud for misstatements and omissions in CTI's registration statement. 3

In connection with the SEC investigation, defendant-appellant Fehn was retained to represent CTI and Wheeler, as well as CTI's underwriter and various CTI officers and directors. Fehn is a California attorney who has specialized in securities law during nearly three decades of practice. He has represented clients in connection with the registration and offering of securities under the Securities Act of 1933, compliance with reporting and disclosure requirements under the Securities Exchange Act of 1934, and litigation of various securities matters. Prior to Fehn's retention in connection with the SEC investigation, Fehn's law firm had represented underwriter Stoneridge Securities during CTI's IPO.

During the SEC investigation of CTI and Wheeler, Fehn became aware that CTI was not in compliance with certain reporting requirements of the Securities Exchange Act of 1934. First, Fehn learned that after the IPO, CTI had failed to file Form 10-Q quarterly reports as required by Section 15(d) of the Securities Exchange Act and related regulations. Second, Wheeler's investigative testimony before the SEC revealed that the Food and Drug Administration had banned sales of a diet product known as "Accupatch," CTI's main product and the source of gross sales of $1 million a month, and had impounded CTI's existing inventory of the product. CTI's registration documents, however, failed to disclose these FDA actions.

Fehn advised Wheeler that CTI was required to file the quarterly Form 10-Q's, and that it must disclose, in particular, the FDA's restriction of its Accupatch product. He also discussed with Wheeler whether the Securities Exchange Act required disclosure, in the Form 10-Q's, of Wheeler's and CTI's apparent violations of the Securities Act of 1933 in connection with the IPO. Wheeler flatly refused to make such disclosures. Fehn later testified that he told Wheeler it was his professional opinion that such disclosures were unnecessary under the regulations, and furthermore could impair Wheeler's ability to assert his Fifth Amendment privilege against self-incrimination with respect to those earlier violations.

Because Wheeler wished to limit CTI's expenses, he had a non-lawyer employee of CTI--rather than Fehn--draft the Form 10-Q's. Fehn gave Wheeler a copy of Regulation S-K, which outlines disclosure requirements for Form 10-Q, an instruction booklet describing how to fill out a Form 10-Q, and a sample Form 10-Q. The employee prepared a draft of the Form 10-Q for the quarter ending March 31, 1988, which disclosed the FDA's ban on CTI's Accupatch product. However, the Form 10-Q mischaracterized Wheeler's true role in CTI, describing him as CTI's recently appointed CEO and president rather than the individual who in fact had promoted, incorporated, and controlled the company since its inception. The form also failed to disclose the potential civil liability stemming from Wheeler's and CTI's earlier violations of state and federal securities laws. Fehn reviewed and edited the draft of the Form 10-Q, incorporating financial statements he had obtained from CTI's accountant. Fehn maintains that he made no substantive changes to the document, and, in particular, did not delete from the report any information the SEC later contended was improperly omitted. Fehn's secretary mailed the final Form 10-Q to the SEC, where it was filed in August 1988.

Based on CTI's Form 10-Q for the quarter ending March 31, 1988, Fehn's law firm prepared and mailed two other Form 10-Q's, for the quarters ending December 31, 1987, and June 30, 1988, respectively. These forms, too, mischaracterized Wheeler's relationship to CTI, and failed to mention contingent liabilities stemming from CTI's and Wheeler's earlier securities law violations. Fehn insists that his involvement in the preparation of these later Form 10-Q's was minimal, but the SEC points out that editing notations in Fehn's handwriting appeared on drafts of these Form 10-Q's. These Form 10-Q's were filed in November 1988.

III. The SEC Injunctive Action Against Fehn

In November 1992, the SEC filed a complaint against Fehn, alleging that in preparing and filing the three Form 10-Q's, Fehn had aided and abetted violations of Sections On April 1, 1994, following a bench trial, the district court entered final judgment against Fehn, based on its findings that Fehn had aided and abetted violations of Sections 10(b) and 15(d) of the Securities Exchange Act, the Act's antifraud and reporting provisions, respectively, along with Rules 10b-5, 12b-20, and 15d-13. Because it concluded that there was a reasonable likelihood of future violations on Fehn's part, the district court entered an order permanently enjoining Fehn from future aiding and abetting violations of the securities laws. Fehn timely appealed.

10(b) and 15(d) of the Securities Exchange Act, 15 U.S.C. §§ 78j(b) and 78o(d), and violations of Rules 10b-5, 12b-20, and 15d-13, 17 C.F.R. §§ 240.10b-5, 240.12b-20, and 240.15d-13. Pursuant to Section 20(b) of the Securities Act of 1933, 15 U.S.C. § 77t(b), and Sections 21(d) and 21(e) of the Securities Exchange Act of 1934, 15 U.S.C. §§ 78u(d) and 78u(e), the SEC brought an action to permanently enjoin Fehn from future securities laws violations. The SEC alleged that CTI and Wheeler had violated Section 10(b) and Section 15(d) by preparing and filing Form...

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