SEC Prevails on Partial Summary Judgment
The Commission prevailed on a motion for partial summary judgment in an offering fraud action. The agency won a ruling concluding that certain defendants acted as unregistered brokers in violation of Exchange Act Section 15(a) and that the joint venture contracts being offered were securities. SEC v. Mieka Energy Corporation, Civil Action No. 4:15-cv-00300 (E.D. Tx.). The ruling follows a series of Section 15(a) actions in which the Commission has taken aggressive positions beyond that taken here regarding the application of the Section.
The complaint named as defendant Mieka Energy, a wholly owned subsidiary of another defendant, Vadda Energy Corporation, based in Flower Mound, Texas, which registered its shares under the Exchange Act; Daro Blankenship, the founder and managing director of Mieka and also the President and CEO of Vadda of which he and his wife own 79%; Robert Myers, Jr., Mieka’s vice president of project development and at one time a registered representative at a registered broker-dealer; and Stephen Romo, previously a real estate broker, who sold interests in Mieka.
Beginning in September 2010 Mieka Energy, according to the complaint, marketed what were called joint venture interests nationwide to investors. The offering package contained brochures, newspaper and magazine segments, a Confidential Information Memorandum, a joint venture agreement, a subscription agreement and an investor questionnaire. Investors were told that the funds raised in the offering would be used to drill, test and complete horizontal and vertical gas wells in Westmoreland County, Pennsylvania. The documents also authorized the payment of offering and organizational costs and discussed a fee for Mieka Energy. These were supposed to be turnkey projects undertaken with an affiliate.
The interests were marketed through extensive boiler-room type calls. While investors were told that they would be acquiring joint venture interests, in fact they had little control. Two of the salesmen in this effort were defendants Myers and Romo. Neither was registered with the SEC or associated with a Commission registered broker-dealer.
Contrary to the representations made to investors, Mieka Energy did not drill the horizontal well. It did do work on a vertical well. That well is not functional, however, because it was never connected to a transmission line for the gas. About $850,000 was spent on development activities. Overall the commissions and the development costs constituted a little over 21% of the total funds raised from investors.
When most of the investor funds were gone, Mr. Blankenship furnished investors with a series of update letters. Those letters indicated that the wells would be developed and completed in the near future. Filings made with the Commission by Vadda did not disclose the true nature of the project. The complaint alleged violations of Securities Act Section 17(a) and Exchange Act Sections 10(b), 13(a) and 15(a) and control person liability under Section 20(a).
The Commission moved for partial summary judgment, arguing that Messrs. Myers and Romo acted as unregistered brokers in selling the joint venture interests which were investment contracts and thus securities. Exchange Act Section 15(a) prohibits a person from acting as a broker without registering with the Commission, the Court began. The term broker is defined by Exchange Act Section 3(a)(4). It includes “any person engaged in the business of effecting transactions in securities for the account of others,” according to the statutory definition. Being “engaged in the business,” “effecting transactions” and “buying and selling” securities are phrases not defined in the statute but by the courts. Effecting transactions includes soliciting investors to purchase securities, participating in the negotiations between the issuer and the investor and receiving transaction based compensation.
Here Messrs. Myers and Romo acted as brokers. The two men “were cold-calling potential investors from lead sheets, developed relationships by discussing the potential investor’s history, recommended the investment with Mieka, sent the potential investors offering documents, took orders and were paid transaction based compensation. Indeed, about $4 million was raised from 60 investors in 21 states. Mr. Myers was paid $165,453.47 for an offering in 2010 and $102,484 in 2011. Mr. Romo received $69,962 in commissions for his work in 2010. Under these circumstances there is no doubt that Messrs. Myers and Romo were acting as unregistered brokers – each admits to not being registered.
It is equally clear that the joint venture interests offered to investors here were investment contracts and thus securities. The classic test is whether 1) individuals are led to invest money, 2) in a common enterprise with 3) the expectation that they would earn a profit solely through the efforts of the promoter or someone other than themselves.
Here the investors purchased joint venture interests which gave them virtually no control over the enterprise and their investment. Rather, Mr. Blankenship had virtually total control. In addition, the investors were largely inexperienced and had little knowledge of the business affairs of the venture. The investors were thus dependent on the management of Mr. Blankenship. Stated differently, the investors entrusted their money in a common enterprise with the hope that a profit would be obtained through the efforts of those promoting the venture – the joint venture was an investment contract and thus a security. Since the interests sold by Messrs. Myers and Romo are securities and they were not registered with the Commission, their sales activities violated Exchange Act Section 15(a). Partial summary judgment was granted in favor of the Commission.