Sec V Veldhuis

Key Facts

Issues

• Appellants challenged the court's decision to hold them jointly and severally liable with Fred Sharp for disgorgement. The court reasoned that the hub-and-spoke conspiracy model justified this approach, as all parties shared in the profits of a coordinated illegal enterprise. The court emphasized that the Q system data linked each appellant's individual allocations to the scheme, and caps on the awards prevented overreach. The First Circuit agreed this exception to the default rule of individual liability was appropriately applied.
• Gasarch argued the SEC failed to prove her involvement in securities trading or fraudulent conduct. The court countered that her role as 'the master of finance' in the Sharp Group, including creating fake invoices and managing nominee company accounts, provided ample evidence of her participation. Encrypted communications and the Q system data demonstrated her knowledge and coordination in the scheme, meeting the legal standard for a 'course of business which operates as a fraud.'
• Gasarch and Sexton contested the civil penalties, arguing the SEC failed to prove violations within the five-year statute of limitations. The court relied on the Q system data and Gasarch's May 2017 and May 2018 activities, while Sexton's penalty was based on seven third-tier violations. The First Circuit affirmed the penalties, noting the SEC's expert analysis and the financial stakes of the scheme, which supported the higher-tier classifications.
• Gasarch argued the five-year statute of limitations for non-scienter-based violations should apply to her Section 17(a)(3) liability. The court and First Circuit rejected this, citing the NDAA's explicit retroactive application to actions pending or commenced after January 1, 2021. The court found the Q system data and Gasarch's role in the conspiracy demonstrated scienter, thereby justifying the ten-year window. The analysis distinguished the NDAA from the Sarbanes-Oxley Act, which lacked similar retroactive language.
• Gasarch claimed the jury instructions incorrectly lowered the scienter standard to 'knowledge or recklessness' instead of 'specific knowledge.' The court rejected this, noting the 2010 Dodd-Frank amendments to 15 U.S.C. § 78t(e) explicitly allow 'knowingly or recklessly' as the standard. The instructions also required the jury to find Gasarch understood her conduct was part of an 'improper activity,' which the court deemed sufficient to address her concerns.
• The SEC's internal accounting system (Q system) was central to proving the fraud scheme. Appellants argued it lacked proper authentication and was inadmissible hearsay. The court found the Q system met the business records exception criteria, citing testimony from its creator, former users, and corroborating data from independent brokerages. The Q system's reliability was supported by its use in tracking transactions and allocations, with code names and contemporaneous entries aligning with the conspiracy's concealment tactics.
• Sexton challenged the breadth of the injunctions, particularly one referencing Schedule 13D and Rule 13d-1 without sufficient detail. The First Circuit agreed this portion was invalid, as it failed to describe the prohibited conduct explicitly. The remaining injunctions, which prohibited violations of Sections 10(b), 17(a), and 5 of the securities laws, were upheld as providing adequate notice. The court emphasized that injunctions must balance breadth with clarity to avoid overreach.

Holdings

• Disgorgement awards were affirmed as reasonable approximations of ill-gotten gains, with the burden of proof shifted to appellants to rebut the SEC's calculations.
• Civil penalties against Gasarch ($296,651) and Sexton ($1,562,603) were affirmed, with the court finding no abuse of discretion in their calculation.
• The jury's verdict against Gasarch for primary and aiding/abetting violations was affirmed, with evidence showing her active role in the fraudulent scheme.
• The court affirmed the district court's admission of the Q system evidence as authentic and admissible under the business records exception, citing sufficient foundational testimony and reliability.
• The injunction against Sexton for violations of Section 13(d) was vacated due to impermissible incorporation by reference, while other injunctions were affirmed.
• The court found no error in the jury instructions for aiding and abetting liability, confirming the instructions incorporated the necessary scienter standard and elements.
• The court applied the ten-year statute of limitations retroactively under the NDAA, rejecting claims that the amendment lacked clear retroactive intent.
• The district court's imposition of joint and several liability for disgorgement was upheld, as co-conspirators in a hub-and-spoke model warranted this equitable remedy.

Remedies

• The court ordered joint and several disgorgement of ill-gotten gains totaling $2,522,367 for Zhiying Yvonne Gasarch, $1,582,785 for Courtney Kelln, $17,367,474 for Paul Sexton, $13,289,897 for Mike K. Veldhuis, and $11,846,176 for Jackson T. Friesen. These amounts were calculated based on profits from securities violations between 2010-2019, with the SEC relying on the Q system data and expert analysis to approximate gains. The court applied the ten-year statute of limitations under the National Defense Authorization Act (NDAA) of 2021 to justify the awards, despite challenges to their calculation. Disgorgement was capped at individual Q account allocations, and no prejudgment interest was awarded due to insufficient evidence of exact fund receipt timing.
• The court issued permanent injunctions against all appellants under 15 U.S.C. § 78u(d)(1), prohibiting violations of Sections 10(b), 17(a), and 5 of the federal securities laws. Sexton faced additional restrictions on participating in penny stock offerings and was barred from professional securities market engagement. One injunction against Sexton (related to Section 13(d) of the Exchange Act) was vacated for failing to meet Rule 65(d)(1)(C)’s specificity requirements. The remaining injunctions were affirmed, emphasizing their necessity to prevent recidivism given the appellants’ history of sophisticated fraud.
• Civil penalties were levied under 15 U.S.C. § 77t(d) for violations involving fraud, deceit, or substantial investor losses. Gasarch received a $296,651 penalty (two third-tier and one second-tier violations), while Sexton, Veldhuis, and Friesen were assessed $1,562,603 each for seven third-tier violations. The court found these penalties appropriate under the three-tiered schedule, emphasizing the appellants' roles in a decade-long pump-and-dump scheme. Kelln’s penalty of $904,078 was also upheld, though she did not appeal the amount.

Monetary Damages

Legal Principles

• The court admitted the Q system evidence under the business records exception, finding it met criteria for reliability and trustworthiness despite challenges to its admissibility as hearsay. The Q system's data was authenticated through multiple percipient witnesses and verified against independent brokerage records.
• The court held that the SEC must establish a reasonable approximation of profits causally connected to securities violations. Once this burden was met, the onus shifted to appellants to demonstrate the disgorgement amounts were not a reasonable approximation, which they failed to do.
• The case centered on violations of federal securities laws, including Sections 10(b) and 17(a) of the Securities Exchange Act and Rule 10b-5. The court affirmed the SEC's authority to enforce these provisions against fraudulent conduct, such as pump and dump schemes and concealment of beneficial ownership.

Precedent Name

• Tax-Free Fixed Income Fund for P.R. Residents, Inc. v. Ocean Cap. LLC
• United States v. Naftalin
• Lattab v. Ashcroft
• SEC v. Johnston
• Kokesh v. SEC
• Omnicare, Inc. v. Laborers Dist. Council Const. Indus. Pension Fund
• Gen. Aircraft Corp. v. Lampert
• SEC v. Navellier & Assocs., Inc.
• Liu v. SEC
• SEC v. Commonwealth Equity Servs., LLC

Cited Statute

• Securities Exchange Act Of 1934
• Securities Act Of 1933
• National Defense Authorization Act Of 2021

Judge Name

• Gelpi
• Montecalvo
• Thompson

Passage Text

• One injunction, however, does impermissibly run afoul of Rule 65(d)(1)(C)'s requirement that an injunction may not incorporate a separate document by reference. [...] we vacate this portion of the injunction and remand for the district court to describe the requirements and proscribed conduct within its injunction.
• the court found appellants were co-conspirators in a hub-and-spoke model with Sharp operating at the hub. [...] The district court did not abuse its discretion in holding appellants jointly and severally liable for their disgorgement awards.
• Between 2010 and 2019, appellants participated in an elaborate securities fraud scheme involving a series of separate (but functionally parallel) endeavors, colloquially referred to as pump and dump schemes. [...] Over the years, appellants repeated this process to the tune of more than $1 billion in gross proceeds.