PRESENT: Carrico, C.J., Lacy, Hassell, Koontz, Kinser, and
Lemons, JJ., and Stephenson, S.J.
DAVID R. TANNER, JAMES C. PERRY,
AND BRIAN W. KREIDER
OPINION BY
v. Record Nos. 020938, 020939,
and 020940 SENIOR JUSTICE ROSCOE B. STEPHENSON, JR.
STATE CORPORATION COMMISSION January 10, 2003
FROM THE STATE CORPORATION COMMISSION
In these three consolidated appeals of right, we determine
whether the State Corporation Commission (the Commission) erred
in finding that the appellants violated certain sections of the
Virginia Securities Act, Code § 13.1-501 et seq. (the Act). The
underlying issue presented is whether various instruments sold
by the appellants were securities, as defined by the Act, that
were required to be registered with the Commission.
I
David R. Tanner, James C. Perry, and Brian W. Kreider
(collectively, the Defendants) were ordered to appear before the
Commission to show cause why they jointly or severally should
not be penalized pursuant to Code § 13.1-521 and permanently
enjoined pursuant to Code § 13.1-519 for their alleged
violations of the Act. Following a hearing, the Commission's
hearing examiner issued a report recommending to the Commission
the following:
1. That Tanner be penalized the sum of $1,000 for one
violation of Code § 13.1-504(A) (failure to register as a
securities agent); the sum of $11,000 for 22 violations ($500
per violation) of Code § 13.1-507 (sale of unregistered
securities); the sum of $1,000 for one violation of Code § 13.1-
502(2) (securities fraud); and that he be permanently enjoined
from transacting the business of a securities agent in the
Commonwealth.
2. That Perry be penalized the sum of $1,000 for one
violation of Code § 13.1-504(A); the sum of $9,000 for 18
violations ($500 per violation) of Code § 13.1-507; the sum of
$1,000 for one violation of Code § 13.1-502(2); and that he be
permanently enjoined from transacting the business of a
securities agent in the Commonwealth.
3. That Kreider be penalized the sum of $1,000 for one
violation of Code § 13.1-504(A); the sum of $11,000 for 22
violations ($500 per violation) of Code § 13.1-507; and that he
be permanently enjoined from selling unregistered securities in
the Commonwealth.
The Commission adopted the hearing examiner's
recommendations in separate judgment orders entered against the
Defendants on December 21, 2001. These appeals ensued.
II
2
The evidence established that the Defendants acted as
selling agents for an organization known as The Charterhouse
Group, Ltd. (Charterhouse). Charterhouse, acting through the
Defendants and other agents, sought to sell U.S. Capital
Funding, Inc. Corporate Funding Notes (U.S. Capital Notes),
Granite Financial Holding Corporation Corporate Funding Notes
(Granite Financial Notes), Kennsington Holding Corporation
Account Receivable Purchase and Sales Agreements (Kennsington
Account Receivable Agreements), Postal Flyers Inc.com Promissory
Notes (Postal Flyers Notes), and Postmistress General, Inc.
Promissory Notes (Postmistress General Notes). None of these
instruments were registered as securities pursuant to the Act.
Tanner sold 18 U.S. Capital Notes, one Granite Financial
Note, and three Kennsington Account Receivable Agreements. He
was not licensed as a securities agent for Charterhouse.
Perry sold 16 U.S. Capital Notes, one Granite Financial
Note, and one Kennsington Account Receivable Agreement. He was
not licensed as a securities agent for Charterhouse.
Kreider sold ten U.S. Capital Notes, six Kennsington
Account Receivable Agreements, two Postal Flyers Notes, and four
Postmistress General Notes. Although he was licensed as a
securities agent, he was not licensed as a securities agent for
Charterhouse.
III
3
It is firmly established that, "[o]n appeal, the findings
of the Commission are presumed to be just, reasonable, and
correct." Swiss Re Life Company America v. Gross, 253 Va. 139,
144, 479 S.E.2d 857, 860 (1997); Bralley-Willett v. Holtzman
Oil, 216 Va. 888, 890, 223 S.E.2d 892, 895 (1976). The
Commission's decisions are accorded the respect due "a tribunal
informed by experience, and its decision will not be disturbed
when 'based upon the application of correct principles of
law.' " Lawyers Title Insurance Corp. v. Norwest Corp., 254 Va.
388, 390-91, 493 S.E.2d 114, 115 (1997) (quoting Gross, 253 Va.
at 144, 479 S.E.2d at 860). We will reverse a Commission's
decision, however, if it is based upon a mistake of law. Lake
Monticello Service Co. v. Board of Supr's, 237 Va. 434, 438, 377
S.E.2d 446, 448 (1989).
IV
We first consider the corporate funding notes issued by
U.S. Capital Funding, Inc. and Granite Financial Holding
Corporation. All of these notes had a maturity of less than six
months.
The Defendants concede that these notes are securities as
defined by Code § 13.1-501. 1 They contend, however, that the
1
Code § 13.1-501 defines a security as
any note; stock; treasury stock; bond; debenture;
evidence of indebtedness; certificate of interest or
4
notes are exempt from registration pursuant to Code § 13.1-514,
which provides, in pertinent part, as follows:
A. The following securities are exempted from the
securities registration requirements of this chapter:
. . . .
9. Any commercial paper which arises out of a
current transaction or the proceeds of which have been
or are to be used for current transactions, and which
evidences an obligation to pay cash within nine months
after the date of issuance, exclusive of days of
grace, or any renewal thereof which is likewise
limited, or any guaranty of such paper or of any such
renewal.
The Defendants assert that, because these notes mature in less
than nine months, they qualify as exempt "commercial paper"
under Code § 13.1-514(A)(9).
participation in any profit-sharing agreement;
collateral trust certificate; preorganization
certificate of subscription; transferable share;
investment contract; voting-trust certificate;
certificate of deposit for a security; oil, gas or
other mineral lease, right or royalty, or any interest
therein; or, in general, any interest or instrument
commonly known as a "security," or any certificate of
interest or participation in, temporary or interim
certificate for, guarantee of, or warrant or right to
subscribe to or purchase, any of the foregoing.
However, this definition shall not apply to any
insurance policy, endowment policy, annuity contract,
variable annuity contract or any contract or agreement
in relation to and in consequence of any such policy
or contract, issued by an insurance company subject to
the supervision or control of the Commission's Bureau
of Insurance when the form of such policy or contract
has been duly filed with the Bureau as now or
hereafter required by law.
5
As the Commission points out, however, the notes' maturity
period is not the sole criterion for determining whether they
are exempt commercial paper under Code § 13.1-514(A)(9). The
Commission's securities rules have incorporated the federal
criteria for commercial paper as follows:
Commercial paper as referred to under § 13.1-514
A 9 of the Act, shall be considered as any note,
draft, bill of exchange, or banker's acceptance which
arises out of a current transaction or the proceeds of
which have been or are to be used for current
transactions, and which has a maturity at the time of
issuance of not exceeding nine months, exclusive of
days of grace, or any renewal thereof, the maturity of
which is likewise limited. Commercial paper shall
also exemplify the following characteristics: prime
quality negotiable paper of a type not ordinarily
purchased by the general public, issued to facilitate
well recognized types of current operational business
requirements, and of a type eligible for discounting
by Federal Reserve Banks.
21 VAC 5-40-10 (emphasis added).
The Defendants produced no evidence that the notes
exemplified the characteristics set forth in 21 VAC 5-40-10.
Indeed, the hearing examiner concluded that the notes failed to
meet two requirements necessary in order to qualify as
commercial paper; first, the notes "were not prime quality
negotiable paper," and, second, the notes "were sold to the
general public."
The Defendants bore the burden of proving that the notes
were exempted from registration. Code § 13.1-514(C). They
failed to meet that burden, and, therefore, we hold that the
6
Commission did not err in ruling that these notes were not
eligible for exemption from registration. 2
V
We next consider whether the instruments issued by
Kennsington Holding Corporation (Kennsington) and sold by the
Defendants are securities under the Act. Each instrument is
entitled "Account Receivable Purchase and Sales Agreement"
(collectively, the Agreements).
The Agreements provide that Kennsington "sells, sets over
and assigns" to the purchasers certain accounts receivable and
that the purchasers "shall be the absolute owner[s] of the
accounts." Additionally, Kennsington agreed to deliver to the
purchasers "a detailed listing of all of the accounts [and] the
work folder for each account, as available, containing all
supporting documents." The Agreements also provide that the
purchasers have "the right to assign the collection of the
Accounts Receivable . . . to the Collection Company of their
choice."
Code § 13.1-501 defines a "security" to include an
"investment contract." In Securities and Exchange Com'n v. W.J.
Howey Co., 328 U.S. 293, 298-99 (1946), the Supreme Court ruled
2
On appeal, the Defendants challenge the validity of the
Commission's securities rules. This issue was not raised before
the Commission; therefore, we will not consider it for the first
time on appeal. Rule 5:21(i).
7
that "an investment contract for purposes of the Securities Act
[of 1933] means a contract, transaction or scheme whereby a
person invests his money in a common enterprise and is led to
expect profits solely from the efforts of the promoter or a
third party."
Relying upon W.J. Howey Co., the Commission contends that
the purchasers of these Agreements were led to expect profits
only from the efforts of others. The Commission asserts that
the purchasers "had no ability to manage or control the
investment[s]." We do not think the record supports the
Commission's contention.
The sole evidence relating to the operation of the
Agreements was the testimony of Harold J. Bailey, who had
purchased accounts receivable owed to an entity called "The
Legal Society." Bailey received a UCC-1 financing statement
related to his purchase that showed the legal name of the
debtor. He was furnished an information packet, including an
explanation of "how the entire system [of accounts receivable
financing] works." Although Bailey, by a separate agreement,
engaged Summit Financial Services to be his collection agent,
nothing in the record suggests that Bailey was not free to
proceed directly against The Legal Society to collect the
accounts receivable.
8
We conclude that the Agreements are not investment
contracts under the Howey test. Clearly, the purchasers
received title to the accounts receivable and retained control
over their collection. The purchasers did not have to rely upon
the efforts of others to obtain a return on their investments.
Thus, we hold that the Commission erred in finding that the
Agreements were unregistered securities.
VI
We now determine whether the Commission erred in ruling
that the Postmistress General and Postal Flyers Notes were not
exempt from registration under the Act. Kreider contends that
the notes were exempt because they were "covered securities"
under federal law.
Code § 13.1-507(iii) specifically exempts from registration
a "federal covered security." A "federal covered security" is
defined in Code § 13.1-501 as "any security described as a
'covered security' in § 18 of the Securities Act of 1933." In
pertinent part, 15 U.S.C. § 77r(b)(4)(2000), which codified
§ 18, provides the following:
A security is a covered security with respect to
a transaction that is exempt from registration under
this subchapter pursuant to –
. . . .
(D) [Securities and Exchange] Commission
rules or regulations issued under section 77d(2)
of this title, except that this subparagraph does
9
not prohibit a State from imposing notice filing
requirements that are substantially similar to
those required by rule or regulation under
section 77d(2) of this title that are in effect
on September 1, 1996.
An investigator with the Commission's staff requested
material and information from the issuer of the notes. As part
of its response, the issuer's attorney, by letter introduced
into evidence by the Commission, stated that the notes were
issued pursuant to a Rule 504 Regulation D filing with the
Securities and Exchange Commission. This was the sole evidence
regarding the rule governing the issuance of the notes.
Kreider contends that securities issued pursuant to Rule
504 Regulation D are covered securities as defined by § 18 of
the Securities Act of 1933 and, therefore, exempt from
registration under the Act. The Commission, on the other hand,
contends that only Rule 506 Regulation D securities are covered
securities exempt from registration under the Act. We do not
agree with the Commission.
Rule 504 Regulation D was issued under the authority of 15
U.S.C. § 77d(2) (2000). The rule allows an issuer to sell a
limited amount of securities in any twelve-month period to any
number of purchasers with no requirement for registration. 17
C.F.R. § 230.504 (2002). It follows, therefore, that, because
Rule 504 was issued pursuant to the authority of 15 U.S.C.
10
§ 77d(2), securities issued under Rule 504 are "covered
securities" exempt from registration under the Act.
The hearing examiner found that the issuer of the notes
"failed to file for an exemption pursuant to 21 VAC 5-40-120.
Consequently, [Kreider] sold securities that were neither
registered nor exempted by the Act." It is true that 21 VAC 5-
40-120 provides that "[a]n issuer offering a security that is a
covered security under § 18(b)(4)(D) of the Securities Act of
1933" is required to file a notice with the Commission and pay a
fee. These requirements, however, only apply to "[o]fferings
conducted pursuant to Rule 506 of federal Regulation D (17 CFR
230.506)." As previously stated, the notes in question were
issued pursuant to Rule 504 Regulation D, and there is no
requirement under 21 VAC 5-40-120 for an issuer of securities
issued pursuant to Rule 504 to do anything. We hold, therefore,
that the Commission erred in ruling that the notes were not
exempt from registration under the Act.
VII
Finally, we consider an issue that we have not previously
decided. Tanner and Perry contend that the Commission erred in
finding that they violated Code § 13.1-502(2) because there was
no evidence of scienter presented at the hearing. 3
3
Tanner and Perry also contend that scienter was required
to prove that they violated Code § 13.1-507. However, they did
11
Code § 13.1-502 states, in pertinent part, the following:
It shall be unlawful for any person in the offer
or sale of any securities, directly or indirectly,
. . . .
(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 the light of the circumstances
under which they were made, not misleading[.]
In Aaron v. Securities and Exchange Commission, 446 U.S.
680 (1980), the Supreme Court considered whether scienter was
required for violations of § 17(a) of the Securities Act of
1933, 15 U.S.C. § 77q(a). Section 17(a), which is nearly
identical to Code § 13.1-502, provides, in pertinent part, as
follows:
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 commerce or by the use of
the mails, directly or indirectly –
. . . .
(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 the light of the circumstances
under which they were made, not misleading[.]
The Supreme Court held that scienter was not required for
violations of § 17(a)(2), stating that the language of the
not raise this issue before the Commission, and, therefore, we
will not consider it on appeal. Rule 5:21(i).
12
statute is "devoid of any suggestion whatsoever of a scienter
requirement." 446 U.S. at 696.
We will apply the Aaron standard to Code § 13.1-502(2) and
hold that scienter is not required to prove its violation.
Therefore, the Commission did not err in so ruling.
VIII
In sum, we will affirm the Commission's judgments as they
relate to the corporate funding notes issued by U.S. Capital
Funding, Inc. and Granite Financial Holding Corporation and with
respect to the violations of Code § 13.1-502(2). We will
reverse the judgments as they relate to the Kennsington Account
Receivable Agreements and as to the Postmistress General and
Postal Flyers Notes. We will remand the case to the Commission
for reconsideration of penalties in the light of our holdings as
expressed in this opinion. 4
Affirmed in part,
reversed in part,
and remanded.
4
Because the case will be remanded for reconsideration of
penalties, we express no opinion regarding the Defendants' claim
that the penalties are excessive.
13