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Securities and Exchange Commission v. American Board of Trade Inc.

decided: September 28, 1987.


Appeals from orders of the United States District Court for the Southern District of New York (Shirley Wohl Kram, Judge appointing a receiver for the corporate defendants, freezing assets of the individual defendants, holding an individual defendant in criminal contempt, sua Sponte holding the same defendant in civil contempt (an apparently unique ruling), enjoining the individual defendants from communicating with note-holders of a corporate defendant without prior approval of the court, denying motions of an individual defendant to intervene as plaintiff, and denying defendants' motion to amend their answers. We dismiss the appeal from the order denying the motion to amend, and affirm in all other respects.

Newman, Cardamone and Winter, Circuit Judges.

Author: Winter

WINTER, Circuit Judge

This decision is yet another encounter with this case, see SEC v. American Bd. of Trade, Inc., 751 F.2d 529 (2d Cir. 1984) ("ABT I"); SEC v. American Bd. of Trade, Inc., 798 F.2d 45 (2d Cir. 1986) (per curiam) ("ABT II"), which itself is only a chapter in the litigious history of the appellants Arthur N. Economou, Phyllis H. Economou and firms they control. See, e.g., Butz v. Economou, 438 U.S. 478, 57 L. Ed. 2d 895, 98 S. Ct. 2894 (1978), vacating Economou v. United States Dep't of Agric., 535 F.2d 688 (2d Cir. 1976); CFTC v. American Bd. of Trade, Inc., 803 F.2d 1242 (2d Cir. 1986), aff'g 473 F. Supp. 1177 (S.D.N.Y. 1979); Economou v. United States Dep't of Agric., 494 F.2d 519 (2d Cir. 1974) (per curiam); Economou v. Wade, 515 F. Supp. 813 (S.D. Iowa 1980); American Bd. of Trade, Inc. v. American Stock Exch., Inc., 430 F. Supp. 655 (S.D.N.Y. 1977); American Bd. of Trade, Inc. v. Bagley, 402 F. Supp. 974 (S.D.N.Y. 1975).

In these consolidated appeals, the Economous contend that Judge Kram erred when she: (1) appointed a receiver for defendant companies and their affiliates; (2) entered a preliminary injunction freezing $500,000 of the Economous' assets; (3) held Arthur Economou in criminal contempt; (4) in an apparently unique ruling, sua sponte held Mr. Economou in civil contempt; (5) enjoined the Economous from communicating with noteholders of ABT entities without the prior approval of the court; (6) denied Arthur Economou's motions for leave to intervene as a plaintiff on behalf of various entities placed in receivership; and (7) denied appellants' motion to amend their answer. We dismiss the appeal from the denial of their motion to amend. In all other respects, we affirm.


ABT I, familiarity with which is assumed, held that appellants were violating Section 5 of the Securities Act of 1933, 15 U.S.C. ยง 77e (1982), by selling unregistered securities in the form of short-term unsecured notes issued by The American Board of Trade Service Corp. ("ABT Service") and distributed by The American Board of Trade, Inc. ("ABT"). We nevertheless directed Judge Kram on remand to stay her injunction against further sales of such notes ("commercial paper" in the appellants' lexicon) in order to provide appellants with the opportunity to register ABT Service's notes with the SEC.

On that remand, however, it became apparent that ABT Service's inability to provide certified financial statements for years prior to ABT I, and for some time thereafter, precluded the corporations from registering their notes. In addition, the financial data provided to the district court demonstrated that ABT and ABT Service were grossly insolvent. Although incomplete, the data showed that the companies' liabilities exceeded their assets by at least $35 million and that the defendants were incurring substantial operating losses. Moreover, the companies were applying the proceeds from the continuing sales of notes to cover those operating losses. ABT Service was investing the proceeds of new commercial paper sales in certificates of deposit and bank accounts paying interest at rates that were 1-1/2 to 2 percentage points lower than the rates at which it was paying interest to its noteholders. During the period of time between our decision in 1984 and May 1986, the total amount of notes outstanding increased by approximately $20.6 million, while total liquid assets increased by only $6.3 million. Continued losses were thus a virtual certainty unless covered by ever larger sales of new notes.

Faced with an ongoing Ponzi scheme, the district court on May 30, 1986 lifted the stay of the injunction against defendants' sales of notes. In addition, the court enjoined defendants from redeeming previously issued notes pending both an examination of defendants' financial condition by a court-appointed master and the proposal by the master of a plan for the distribution of defendants' assets. On June 10, 1986, we stayed the district court's injunction against sales and redemptions until an expedited appeal could be heard. We vacated this stay on July 18, 1986, the day after oral argument, and on August 8 affirmed the order of the district court. ABT II, 798 F.2d at 45.

After we had lifted our stay, Judge Kram concluded that an injunction against further sales and redemptions would not suffice to protect the noteholders. Because ABT Service lacked sufficient income to cover its operating expenses, its assets were being continually depleted. Accordingly, on August 8, 1986, the district court issued a temporary restraining order freezing all assets of the notes program and directing Arthur Economou to file an affidavit with the court listing all expenditures by the ABT entities since June 1986. Shortly thereafter, on August 13, Mr. Economou filed with the court an affidavit that listed disbursements since July 1 of approximately $5 million, a figure that appeared greatly to exceed ABT Service's income. The SEC then moved for the appointment of a limited receiver with power to approve or to disapprove expenditures by the ABT firms. On August 15, the court set a briefing schedule on the SEC's request and, in light of the ABT entities' "gross insolvency," continued losses, and failure to maintain adequate records, entered a preliminary injunction continuing the freeze of notes program assets pending the issuance of the Master's report. SEC v. American Bd. of Trade, Inc., 645 F. Supp. 1047, 1051 (S.D.N.Y. 1986) (" ABT III"). The court also ordered defendants to obtain the Master's approval for any checks written by the corporations.

Mr. Economou subsequently failed to cooperate with the Special Master's efforts to approve expenditures for the defendant companies. In addition, on August 14 and August 22, 1986, Mr. Economou used funds in an ABT Service account to mail notices to ABT noteholders. In light of these events, the SEC sought the appointment of a full receiver for the ABT entities. This request was granted on September 2, when the district court ordered a freeze of the assets of the ABT entities and appointed Mr. Gould as receiver with full control of the ABT entities pending his report to the court on a plan for distributing ABT assets to the noteholders. Id. at 1053-54. In appointing a receiver, the court found that the defendants had continued to expend corporate assets in violation of the court's express orders. In particular, Judge Kram found that after we had lifted out stay of the injunction against note redemptions, Mr. Economou had nevertheless redeemed a large number of notes. Id. at 1052. The district court also found that, despite its orders freezing assets of the notes program, Mr. Economou had used such assets to print and distribute to noteholders a bulletin concerning this case. Id. Finally, the court found that Mr. Economou was unable to provide an adequate explanation for a number of large transfers of cash from the notes program to other ABT entities in violation of the freeze order.

During the hearing on September 2, the district court announced that it would conduct a hearing on whether civil and criminal contempt sanctions should be imposed on Mr. Economou. Because no party had moved for such relief, the initiation of civil contempt proceedings was sua sponte. After a five-day hearing, the court on October 8 held Mr. Economou in both civil contempt and criminal contempt of court. In re Economou, 645 F. Supp. 1055, 1057-60 (S.D.N.Y. 1986). As a civil contempt remedy, the court ordered Mr. Economou to make restitution to the ABT entities in the sum of $182,800 -- $175,000 for the redeemed notes and $7,800 for mailing expenditures in violation of the asset freeze. Id. at 1060. The court also fined Mr. Economou $2,000 for criminal contempt.

Meanwhile, the document that Mr. Economou had caused to be mailed to ABT noteholders became the subject of still further controversy before the district court. Styled "Bulletin No. 2" and addressed to "all ABT commercial paper customers," the document contained a bitter attack upon the SEC and its handling of the ABT litigation. The first sentence of the Bulletin charged that "the SEC over the past three years has deliberately contrived and implemented a violently hostile, Mafia oriented type of combative posture versus the ABT exchange and marketplace and against me [Arthur N. Economou], personally." The Bulletin accused the SEC of seeking to destroy ABT and the Economous in order to protect the competitive position of "the old-line stock and commodity exchanges" and claimed that the SEC had maliciously withheld its approval of ABT's registration statements. Bulletin No. 2 did not inform its audience that ABT's inability to register its commercial paper program was due to its own failure to provide certified financial data concerning the program. The Bulletin also did not mention that such financial data would have revealed that ABT and its related entities were hopelessly insolvent and were operating a Ponzi scheme. Instead, readers of Bulletin No. 2 were told that "the enthusiasm for ABT's market-making system evidenced by the public gave it the go-ahead to raise $10 billion to $20 billion to establish a full-fledged National Market System for stock trading," and that "the vision of 1,000 ABT Investment Centers across the country was no longer an 'impossible dream.' It was about to become stark reality."

Yet another pamphlet, "Bulletin No. 3," set forth an "Optimum Plan" for the redemption of all ABT commercial paper through the registration and public offering of $230 million in equity securities. Bulletin No. 3 did not discuss how such a registration could occur in light of the legal history and financial condition of the notes program.

These communications caused ABT noteholders to inundate Special Master Gould with hundreds of letters and telephone calls demanding information about ABT's proposed registrations and about the SEC's purported obstruction of ABT's efforts to register its commercial paper. Because his duty to communicate with the noteholders had become enormously complicated by the Bulletins, on September 8, 1986 the Special Master asked the district court to order the Economous not to send any additional communications to the noteholders unless and until such communications were submitted to and approved by the court. This request was granted.

Finally, on October 21, the district court, noting that Mr. Economou had obtained personal loans from ABT entities amounting to approximately $500,000, issued a temporary restraining order freezing $500,000 of the Economous' personal assets until a final determination could be made as to whether the assets in fact belonged to ABT. On November 6, 1986, the court preliminary enjoined the expenditure of these funds. Meanwhile, the Special Master and Receiver had submitted his report and recommendations to the court on November 5. Relying on a report prepared by Cooper & Lybrand, Mr. Gould reported that the ABT entities were "grossly insolvent," having $30,028,183 in total assets and $85,340,628 in total liabilities (including $79,167,481 in notes liabilities). Mr. Gould recommended the dissolution of the ABT entities and proposed a plan of distribution of their assets to noteholders and other creditors. His recommendations were adopted by Judge Kram virtually in their entirety on February 2, 1987. SEC v. American Bd. of Trade, 654 F. Supp. 361 (S.D.N.Y. 1987) ("ABT IV").



The Economous contend that the district court erred when it appointed an interim receiver for the ABT entities. They argue that the district court's decision was based upon misrepresentations and falsifications by the SEC, and that the district court could not have properly concluded from the evidence before it that the ABT entities were grossly insolvent. We disagree. There is absolutely no credible evidence either supporting the allegations of SEC misconduct or contradicting the conclusion that the ABT entities were hopelessly insolvent. Similarly, the district court's conclusion that the ...

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