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Harrington v. Office of Mississippi Secretary of State

Supreme Court of Mississippi, En Banc

November 21, 2013

Jack HARRINGTON and Marshall Wolfe
v.
OFFICE OF the MISSISSIPPI SECRETARY OF STATE, Securities and Charities Division.

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[Copyrighted Material Omitted]

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Dale Danks, Jr., Michael Verdier Cory, Jr., Jackson, Clarence Terrell Guthrie, III, Ridgeland, attorneys for appellants.

Office of the Attorney General by Alison Elizabeth O'Neal, Harold Edward Pizzetta, III, attorneys for appellee.

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COLEMAN, Justice.

¶ 1. The Securities and Charities Division of the Mississippi Secretary of State Office (the " Division" ) brought charges against Marshall Wolfe and Jack Harrington for securities violations pertaining to their operation of SteadiVest, LLC. The Secretary of State found that Wolfe and Harrington had violated Mississippi securities laws, and fines were levied against them. Wolfe and Harrington appealed, and the Chancery Court of the First Judicial District of Hinds County affirmed. Wolfe and Harrington appealed to this Court.

Facts and Procedural History

¶ 2. SteadiVest, LLC, was formed in late 2007. It consisted of a " family" of real estate related companies that purported to offer " a diversified suite of real estate products and services to real estate investors," including mortgage lending, property management, construction and development, buying and selling real estate, and managing real estate portfolios. Marshall Wolfe merged and renamed several existing real estate and investment companies to create SteadiVest. Jack Harrington was hired to help consolidate and repackage the existing companies.

¶ 3. In January 2008, Wolfe sent a letter to potential investors regarding the formation of SteadiVest and the opportunity to purchase membership interests in the new company. Wolfe wrote that SteadiVest was " in the process of raising $10 million of growth equity." Material attached to the letter included a Power Point presentation that provided a vague overview of the company, a private placement memorandum (PPM), the company's LLC agreement, and a proforma. The material identified the " SteadiVest Management Team," which included Wolfe as chief executive officer and Harrington as president and chief operating officer, among others. Both Wolfe and Harrington testified that Harrington was the chief financial officer as well. The PPM instructed investors to contact Harrington with questions about the offering.

¶ 4. SteadiVest projected $60,000,000 in revenue and $20,000,000 in earnings over the first five years. The PPM provided that " full and complete records and books of accounts" would be maintained and available to investors at any time upon request. According to the PPM, investment funds would be held in escrow until $1,000,000 was raised or until September 30, 2008, whichever occurred first. In fact, the letter stated: " Importantly, most of the new equity will not be spent at all. It will be kept in the company to give us access to borrowing leverage that will lower the overall cost of capital and allow us to achieve increased profits from our lending products." In response to the letter to investors, the PPM, and personal solicitations by Wolfe, Harrington, and others, SteadiVest raised approximately $1,585,000 from seventeen investors. However, Wolfe and Harrington never allocated the funds as outlined in the PPM. Escrow accounts were not set up; instead, investors' money was commingled with other business funds and used to pay bills and support the daily operations of SteadiVest.

¶ 5. The Division presented evidence showing that all of the investors' money was used to prop up SteadiVest or to personally benefit Wolfe and Harrington. For example, between March 19 and 24, 2008, SteadiVest received $495,000 in investments. The money was deposited into SteadiVest's checking account, and on March 24, 2008, $475,000 was transferred to another of its companies, MTW Investment Financing, LLC. On the same day, MTW used $461,770 to pay off five prior MTW/SteadiVest investors, one of whom

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was Harrington. Harrington received $306,302 to pay off his promissory notes, which had not yet matured. Harrington also received a salary increase from $100,000 to $150,000. Wolfe used the SteadiVest credit card for personal expenses, including a trip to Disney World, multiple airline tickets, clothing, furniture, almost $5,000 in personal restaurant charges, and more than $22,000 in " miscellaneous personal charges."

¶ 6. Wolfe filed for Chapter 11 bankruptcy in March 2009. The court converted the bankruptcy to Chapter 7 and added all of the SteadiVest companies. In July 2009, several investors filed suit against Wolfe, Harrington, and other officers in the Circuit Court of Rankin County alleging fraud, negligent misrepresentation, conversion, and conspiracy. The case was removed to the U.S. District Court for the Southern District of Mississippi, then referred to the bankruptcy court.

¶ 7. On November 18, 2009, the Division issued a Summary Cease and Desist Order against SteadiVest. A Summary Cease and Desist Order is also known as a " temporary" or " pending" order or notice. When the Division has reason to believe a person has engaged in conduct prohibited under the Mississippi Securities Act, the Division enters a summary order directing the person to cease and desist illegal activity. See Miss.Code Ann. § 75-71-715 (Rev.2009). The respondent then has thirty days to request a hearing. Miss. Sec. Act R. 803.[1] After the hearing, the hearing officer submits findings of fact and conclusions of law. The Secretary of State reviews the hearing officer's findings and enters a Final Order. Miss. Sec. Act R. 821.

¶ 8. The Summary Order against SteadiVest indicated that the Division began investigating SteadiVest in May 2009 after receiving a consumer complaint about the company. The Division alleged that SteadiVest was a Ponzi scheme and that it had " mislead [sic] and deceived its investors in order to pay off mounting debt and keep its numerous subsidiaries afloat." The Division accused SteadiVest of " mislead[ing] investors through a PPM [ ... ] which SteadiVest had no intention of fully honoring; through material misstatements of its CEO, Marshall Wolfe; and through material omissions in sales presentations and materials presented to its investors." A Final Cease and Desist Order against SteadiVest was executed on January 5, 2010.

¶ 9. On January 26, 2010, the Division issued a second Summary Cease and Desist Order and a Notice of Intent to Impose an Administrative Penalty, this time against Wolfe and Harrington, alleging that forward-looking statements in the PPM and personal statements made to investors were misleading and deceptive. The Division said that the numbers used to show potential profit were improbable, were not supported by financials or other evidence, and did not account for the poor economic environment and housing crisis. The Division charged Wolfe and Harrington with five violations:

A. Failure to meet the terms of the PPM because the investment funds were not placed in an escrow account and operating as a fraud in violation of § 75-71-501(2) and (3).
B. Failure to abide by the " Source and Use of Proceeds" section of the PPM.

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C. Using investment funds for personal gain.
D. Failure to maintain adequate and required books and records of SteadiVest's financial operating activities.
E. Misleading and deceptive forward looking statements in the PPM and misleading and deceptive statements to investors regarding the stability of SteadiVest.

Wolfe and Harrington each requested an administrative hearing. The administrative hearing officer approved a motion to bifurcate filed by the Division, which allowed issues A, C, and D to be resolved by formal briefing and issues B and E to be resolved by live testimony and argument.

¶ 10. The hearing officer issued a ruling on September 2, 2010. He determined that there was not enough evidence to reach a conclusion as to Issue C (use of investment funds for personal gain), but he found against Wolfe and Harrington on Issues A and D (failure to place investment funds in an escrow account and failure to maintain adequate books and records). The hearing officer suggested that the Secretary of State impose a penalty of $1,585,000, the amount raised from the offering, with Wolfe paying two-thirds and Harrington paying one-third of that amount. Thereafter, Wolfe and Harrington withdrew their request for a live hearing, and the Division agreed to dismiss charges B and E.

¶ 11. On December 1, 2010, the Secretary of State issued a Final Cease and Desist Order against Wolfe and Harrington; Wolfe was fined $850,000, and Harrington was fined $170,000. Wolfe and Harrington appealed to Chancery Court of Hinds County, First Judicial District, and their appeals were consolidated. All parties submitted full briefing to the chancellor, and a hearing was held on January 25, 2012. The chancellor affirmed the Secretary of State's Final Order. Wolfe and Harrington appealed to this Court.

Standard of Review

¶ 12. " When this Court reviews a decision by a chancery or circuit court concerning an agency action, it applies the same standard of review that the lower courts are bound to follow." Miss. Sierra Club, Inc. v. Miss. Dep't of Envtl. Quality, 819 So.2d 515, 519 (¶ 15) (Miss.2002). As for the chancellor's review of factual findings, by statutory mandate, " [t]he findings of the secretary of state as to the facts, if supported by competent material and substantial evidence, are conclusive." Miss.Code Ann. § 75-71-601 (Rev.2009) (repealed 2010).[2] However, " statutory interpretation is a question of law that is reviewed de novo. " W.C. Fore v. Miss. Dep't of Revenue, 90 So.3d 572, 577 (¶ 12) (Miss.2012).

¶ 13. Generally, an administrative agency decision will be reversed only if it " (1) was unsupported by substantial evidence; (2) was arbitrary and capricious; (3) was beyond the power of the administrative agency to make; or (4) violated the complaining party's statutory or constitutional right." Id. This Court has said the following about substantial evidence and arbitrary decisions:

Substantial evidence is " something less than a preponderance of the evidence but more than a scintilla or glimmer. The reviewing court is concerned only with the reasonableness of the administrative order, not its correctness."

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Miss. Dep't of Envtl. Quality v. Weems, 653 So.2d 266, 280-81 (Miss.1995) (internal citations omitted). An action " is arbitrary or capricious if the agency entirely failed to consider an important aspect of the problem, or offered an explanation for its decision that runs counter to the evidence before the agency or is so implausible that it could not be ascribed to a difference in view or the product of agency expertise." Id. at 281 (internal citations omitted). A rebuttable presumption exists in favor of agency decisions, and this Court may not substitute its own judgment for that of the agency. Miss. Comm'n on Envtl. Quality v. Chickasaw County Bd. of Supervisors, 621 So.2d 1211, 1216 (Miss.1993).

Sierra Club v. Miss. Envtl. Quality Permit Bd., 943 So.2d 673, 678 (¶ 11) (Miss.2006).

Discussion

¶ 14. Wolfe and Harrington were charged with violating Mississippi Code Section 75-71-501, which provides:

It is unlawful for any person, in connection with the offer, sale[,] or purchase of any security, directly or indirectly,
(1) To employ any device, scheme[,] or artifice to defraud;
(2) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they are made, not misleading; or
(3) To engage in any act, practice[,] or course of business which operates or would operate as a fraud or deceit upon any person.

Miss.Code Ann. § 75-71-501 (Rev.2009) (repealed 2010). There exists a dearth of caselaw on Mississippi securities law, however, Mississippi's regulations are similar to the federal securities regulations, and we are able to look to federal caselaw for guidance.[3] In fact, " [Section] 75-71-501 is virtually identical to § 17(a) of the Securities Act of 1933 [.]" Allyn v. Wortman, 725 So.2d 94, 102 (Miss.1998). Section 17(a) is codified at 15 U.S.C. § 77q(a)(1), and it provides:

It shall be unlawful for any person in the offer or sale of any securities ... by the use of any means or instruments of transportation or communication in interstate

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commerce or by use of the mails, directly or indirectly
(1) to employ any device, scheme, or artifice to defraud, or
(2) to obtain money or property by means of any untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading; or
(3) to engage in any transaction, practice, or course of business which operates or would operate as a fraud or deceit upon the purchaser.
See [4]

¶ 15. The hearing officer found, and the Secretary of State and the chancellor both affirmed, that Wolfe and Harrington had violated Mississippi Code Section 75-71-501 because they had failed to comply with the terms of the PPM by not placing investment funds in an escrow account and by not maintaining adequate records of SteadiVest's financial operating activities. On appeal, Wolfe asserts that (1) the chancellor's findings were not supported by substantial evidence; (2) the PPM contained sufficient warnings, which rendered the alleged misrepresentations immaterial as a matter of law; and (3) the penalties imposed were not provided for in the statute and were arbitrary, capricious, and unconstitutional. Wolfe also adopts Harrington's arguments. Harrington asserts that: (1) the hearing officer applied the wrong burden of proof; (2) proof of scienter should have been required; (3) Harrington was not responsible for depositing funds into an escrow account, but even if that allegation was true, failure to do so is not a violation of Section 75-71-501; (4) Harrington did not fail to maintain books and records, but even if that allegation was true, failure to do so is not a violation of Section 75-71-501; (5) the hearing officer should have found that Harrington did not use funds for personal gain; (6) Section 75-71-501 is unconstitutionally vague as applied; and (7) the penalty imposed was improper and excessive. The issues have been reorganized for the purpose of discussion.

I. Whether the hearing officer applied the wrong burden of proof.

¶ 16. Harrington asserts that the hearing officer erred in applying the preponderance of the evidence standard, and he claims the burden of proof should have

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been clear and convincing evidence. The Division rebuts that the Mississippi Securities Act Rules provide that the preponderance of the evidence standard applies. The Division is correct that Rule 817(B) provides that " [u]nless otherwise specified by law, the standard of proof at the hearing shall be by a preponderance of the evidence standard." Miss. Sec. Act R. 817(B). Harrington claims that Mississippi caselaw has " specified otherwise" by requiring clear and convincing evidence in fraud cases. The dissent agrees with Harrington, doing a solid job of describing the elements and burden of proof applicable to a common law fraud claim sounding in tort. However, both the dissent and Harrington fail to grasp that the instant case is a securities case, brought pursuant to statutory law— not common law— by a state agency to enforce said securities law. Also, the plain language of Section 75-71-501(3) does not contemplate the actual commission of a fraud, but rather " any act, practice[,] or course of business which operates or would operate as a fraud or deceit[.]" (Emphasis added.) Accordingly, there exists no applicable statutory requirement that fraud be proven at all; it is enough to satisfy the statute to show the existence of an act, practice, or course of business that would operate as a deceit.

¶ 17. While common law fraud does require clear and convincing evidence, the United States Supreme Court has held that " the antifraud provisions of the securities laws are not coextensive with common law doctrines of fraud," and the Supreme Court has upheld the preponderance of the evidence standard in federal antifraud cases. Herman & MacLean v. Huddleston, 459 U.S. 375, 387-89, 103 S.Ct. 683, 74 L.Ed.2d 548 (1983); Steadman v. SEC, 450 U.S. 91, 92, 96, 101 S.Ct. 999, 67 L.Ed.2d 69 (1981). As stated above, Section 75-71-501 is virtually identical to Section 17(a) of the federal securities act, and the United States Supreme Court has held that " proof by a preponderance of the evidence ...


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