UNITED STATES OF AMERICA
COMMODITY FUTURES TRADING COMMISSION
|In the matter of:||)||CFTC Docket No. 97-4|
LEXUS FINANCIAL GROUP, INC.,
|)||ORDER MAKING FINDINGS AND|
DAVID ALAN LUGER, and
|)||IMPOSING REMEDIAL SANCTIONS AS|
MARK LEE SINGER,
|)||TO RESPONDENTS LEXUS FINANCIAL|
|)||GROUP, INC., DAVID ALAN LUGER,|
|Respondent.||)||AND MARK LEE SINGER|
On November 25, 1996, the Commodity Futures Trading Commission ("Commission") filed a Complaint and Notice of Hearing against Lexus Financial Group, Inc. ("Lexus"), David Alan Luger, and Mark Lee Singer (collectively, "Respondents"). The two-count Complaint charges that Respondents: 1) violated the anti-fraud provisions of Section 4c(b) of the Commodity Exchange Act, as amended ("Act"), 7 U.S.C. § 6c(b) (1994), and Section 33.10 of the Commission's Regulations ("Regulations"), 17 C.F.R. § 33.10 (1999); and 2) failed to supervise diligently as required by Section 166.3 of the Regulations, 17 C.F.R. § 166.3 (1999).
Lexus, Luger, and Singer each has submitted an Offer of Settlement ("Offers") which the Commission has determined to accept. Respondents acknowledge service of this Order Making Findings and Imposing Remedial Sanctions as to Respondents Lexus Financial Group, Inc., David Alan Luger, and Mark Lee Singer ("Order"). Respondents consent to the use of the findings contained in this Order in this proceeding and in any other proceeding brought by the Commission or to which the Commission is a party.1
The Commission finds the following:
Singer and Luger were principals and registered associated persons ("APs") of Lexus, which registered with the Commission as an independent introducing broker ("IB") on December 16, 1992. Over the course of four years, Lexus solicited prospective customers primarily through the broadcast of at least 56 thirty-minute radio advertisements ("infomercials"). Singer appeared in most of the Lexus infomercials, which aired throughout the United States. When prospective customers responded to the infomercials, Lexus APs, including Singer and Luger, solicited them to buy options on futures contracts for the commodities advertised in the infomercials ("commodity options").
In both the infomercials and telephone solicitations, Respondents fraudulently solicited customers and prospective customers (collectively, "customers") by knowingly misrepresenting and omitting material facts. Respondents overstated customers' ability to exploit seasonal and other existing and known supply and demand forces in the cash markets for various commodities in order to profit on commodity options, downplayed the risk inherent in such options, and overstated customers' performance records in trading them. In fact, nearly 90% of Lexus' customers lost money, resulting in total losses of approximately $6.8 million.
Lexus Financial Group, Inc., is a Florida corporation that employed approximately seven APs and conducted business from 450 North Park Road, Suite 707, Hollywood, Florida 33021. Lexus, which changed its name to Alexis Financial Group, Inc., on September 10, 1997, was registered as an IB from December 16, 1992 through March 4, 1999.
David Alan Luger resides at 740 Champagne Place, Boca Raton, Florida 33422. Luger has been President, a 51% shareholder, and a principal of Lexus since its incorporation. Luger was registered as an AP of Lexus from November 3, 1992 through March 4, 1999.
Mark Lee Singer resides at 570 Carrington Drive, Weston, Florida 33326. Singer has been Vice President, a 40% shareholder, and a principal of Lexus since its incorporation. Singer was registered as an AP of Lexus from November 3, 1992 through March 4, 1999.
1. The Lexus Infomercials
Radio infomercials were Lexus' primary means of attracting customers. Virtually every Lexus customer originally called as a result of hearing one of the infomercials. The Lexus infomercials were the first contact that many customers had with the firm or the commodities industry generally, and they provided the first opportunity for customers to learn about the risks of commodity options investing.
Every one of at least 56 Lexus radio infomercials over a period of four years represented that the cash price of the advertised commodity was about to go up because demand would exceed supply, often due to seasonal patterns, e.g., demand for unleaded gasoline always increases in summer when people take driving vacations, or demand for heating oil always increases in autumn due to the impending onset of colder weather. The Lexus infomercials then represented that Lexus customers who purchased options on futures contracts in the commodity being advertised would profit from these cash price increases, and suggested that there is a one-to-one correlation between an increase in the cash price of a commodity and the resulting profit to the holder of a commodity option.
The Lexus infomercials repeatedly identified a "standard" cash price movement for the commodity, as well as the return that such a price movement purportedly would yield to the holder of a commodity option. Each infomercial also referred at least once to an extraordinary historical cash price movement for the advertised commodity and/or an extraordinary return that could be achieved by the holder of a commodity option in the event the extraordinary price move occurred again.
Lexus' infomercials also downplayed the risks involved with commodity options trading. The infomercials mentioned only briefly that a customer could lose all or part of his investment, and then immediately offset that statement with the suggestion that one could manage the risk by taking advantage of seasonal tendencies or other known supply and demand forces in the cash market for the commodity.
2. The Telephone Sales Solicitations of the Lexus APs
Singer and Luger hired APs with no prior training or experience in analyzing commodity markets or in selling commodity options. When Lexus APs talked to customers who responded to the Lexus infomercials, the Lexus APs routinely repeated the misrepresentations that the customers previously had heard in the infomercials. In particular, Lexus APs: 1) promised an imminent increase in the cash price of the advertised commodity; 2) indicated that there is a direct correlation between the cash price movement of a commodity and the resulting profit on a commodity option; 3) promised customers large and virtually certain profits in a short period of time; and 4) minimized the risk inherent in trading commodity options, as general and fleeting references to risk were nullified by the APs' assurances that purchasing commodity options with Lexus was virtually risk-free.
Finally, in their telephone sales solicitations to customers, Lexus APs often made misrepresentations that overstated the performance records of Lexus' customers. In fact, Lexus' actual trading results for its customers were disastrous - from January 1, 1993 through June 30, 1996, nearly 90% of the 823 accounts opened at Lexus lost money. Total losses in Lexus' unprofitable accounts exceeded $6.8 million, while profits in Lexus' profitable accounts totaled approximately $355,000.
3. Singer and Luger
a. Control of Lexus
Singer and Luger were the only two corporate officers of Lexus. Together, they: 1) possessed final authority in all hiring and firing decisions; 2) had the authority to investigate, reprimand, and discipline Lexus APs; 3) controlled Lexus' finances, were co-signatories of Lexus' corporate checking account, and signed paychecks to employees; and 4) established the commission rates paid by Lexus customers and the compensation for Lexus APs and themselves. Singer and Luger each had supervisory duties at Lexus, and each exercised a high degree of corporate control at the firm.
b. The Role of Singer and Luger in the Lexus Infomercials and Telephone Sales Solicitations
As Singer and Luger were getting the firm off the ground in December 1992, Lexus' sales efforts focused on options on coffee futures contracts. In their own telephone solicitations during that early period, Singer and Luger presented a uniform story about coffee, telling customers that: 1) an international coffee committee would be meeting in a week or two and was going to try to hold back some coffee so that the price of coffee was likely to go up; 2) for every 5 or 10 cents that coffee went up, the holder of a commodity option on coffee would make approximately $1,800 or $3,750, respectively; and 3) coffee, which at the time was trading at about 80 cents, had in the past traded for $1.50. Over time, Singer and Luger continued to engage in telephone solicitations of customers regarding various commodity options, during which they also made most of the same misrepresentations regarding profit potential, risk of loss, and Lexus' performance record, as did the other Lexus APs.
Luger and Singer jointly decided to use the infomercials at Lexus. Luger knew that most Lexus customers came to the firm as a result of hearing those infomercials. Yet, Luger never listened to any one of the Lexus infomercials in its entirety.
Singer appeared in most of the infomercials with another Lexus AP, Todd Alan Thomas.2 When Thomas appeared alone in some live infomercials that ran for a few months in 1994, Singer listened to tapes of those infomercials shortly after they aired. Singer set up Thomas as Lexus' on-air spokesperson in the infomercials, discussed everything that was to be in the infomercials with Thomas in advance, and actively encouraged some of the most exaggerated profit claims made by Thomas. In a Lexus heating oil infomercial, for example, Singer described Thomas' prediction of a ten-cent move in the heating oil market as too pessimistic. And in a sugar infomercial, Singer urged Thomas to "forget conservative" in describing the profit potential of trading commodity options on sugar.
c. Knowledge of Singer and Luger
Singer and Luger were aware of the results of the option trades of Lexus' customers. Lexus received a daily equity run from its futures commission merchant showing the positions of each Lexus customer. In addition, Lexus received a duplicate of each customer month-end account statement showing all open positions (including the unrealized gain or loss on those positions) and whether option positions that closed during the month were profitable or had expired worthless.
Singer and Luger also were placed on notice of the misleading nature of the Lexus infomercials on several occasions. First, in mid-1994, Lexus retained a consulting firm to review two Lexus infomercials for compliance with National Futures Association ("NFA") Compliance Rule 2-29, which governs communications between NFA members and the public. The consulting firm presented its conclusions to Lexus in a written report dated September 26, 1994 ("Consultant Report"), which was read by both Singer and Luger.
The Consultant Report specifically warned Lexus that "one could infer from [its infomercial] statements that an option customer would benefit from the full amount of the change in the underlying commodity contract." The Consultant Report noted the misimpression created by the statement in one of the infomercials that "[w]e're looking, conservatively, for a ten-cent move [in heating oil]. Folks, that would bring you back as much as $42,000 in return on premium if you were to see a ten-cent move in the premium of your option." The Consultant Report concluded:
When most of the advertisement centers on the historical trend of the underlying commodity, it can be confusing to switch to discussion of gains or losses in the option premium. An unsophisticated investor could draw the conclusion that the ten-cent rise in heating oil prices would result in $42,000 in profits. In practice, it is highly unlikely that a ten-cent change in heating oil prices would lead to a ten-cent change in the option premium. (Emphasis in the original.)
Second, on July 15, 1995, Singer himself conducted what he termed an "Independent Introducing Broker Examination of Lexus Financial Group," and summarized his findings in a written report ("IIBE Report") that Luger read shortly after it was completed. The IIBE Report was a "self-examination" by Singer and was the only internal audit ever done at Lexus. In evaluating Todd Thomas' performances in the infomercials, Singer wrote in his IIBE Report:
The review of the radio ads indicated that on several occasions pie-in-the sky predictions regarding the soybean market were presented. Note that all predictions must have a reasonable basis in fact. A dollar move over the premium price would be an extreme situation. You should present a more realistic view of the investment. (Emphasis added.)
Third, Lexus received a letter from NFA Compliance Department staff dated March 13, 1996, notifying Lexus of several deficiencies in an infomercial on orange juice that Lexus had aired ("March 13 letter"). The NFA's March 13 letter, which both Singer and Luger read, specifically admonished that the Lexus orange juice infomercial "did not disclose that option prices do not always move in direct proportion to the price of the underlying futures nor did it discuss option pricing characteristics and its effect on profit potential." The NFA's March 13 letter further warned that the infomercial "mentioned the risk of loss; however, it was downplayed and the risk of loss was not mentioned in an equally prominent manner as the potential for profit."
Finally, on May 16, 1996, NFA's Board of Directors issued Notice I-96-11 ("NFA Notice"), a strong statement that seasonality claims of the type made in the Lexus infomercials violate NFA Compliance Rule 2-29:
Claims Regarding Seasonal Trades -- Some Members have suggested almost certain profits from so-called seasonal trades in, among other things, heating oil and unleaded gas. These ads cite historical data which supposedly shows that certain trades produce dramatic profits year in and year out. Invariably, however, the "historical data" involves different products, different time frames or different fee structures. The most telling point, by far, is that the firm's customers have never experienced the types of profits touted by the Member.
The NFA Notice went on to state that seasonality claims "present a distorted and misleading view of the likelihood of customers earning dramatic profits by investing with the Member firm, and . . . represent a clear violation of NFA sales practice rules."
E. LEGAL DISCUSSION
Section 4c(b) of the Act and Section 33.10 of the Regulations, taken together, provide that it shall be unlawful, in or in connection with an offer to enter into, the entry into, the confirmation of the execution of, or the maintenance of, exchange-traded commodity option transactions, to cheat or defraud, or attempt to cheat or defraud, any other person. Liability requires proof that a person or entity made misleading statements of, or omitted to disclose, material facts with scienter, i.e., proof that the respondent committed the alleged wrongful acts "intentionally or with reckless disregard for his duties under the Act." Hammond v. Smith Barney, Harris Upham & Co., Inc., [1987-1990 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 24,617 at 36,657-59 (CFTC March 1, 1990). See also In re Staryk, [Current Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,206 at 45,810 (CFTC Dec. 18, 1997) (scienter is a necessary element for options fraud).
Statements made in solicitations to open commodity option accounts meet the "in or in connection with" requirement of Section 33.10 of the Regulations as do representations made in the solicitation of specific orders. In re R&W Technical Servs., [Current Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,193 at 45,724-25 (CFTC Dec. 1, 1997). It is the "common understanding" of the information conveyed that is examined to determine if a misrepresentation has been made. Hammond, ¶ 24,617 at 36,657 n.12; Staryk, ¶ 27,206 at 45,809-11.
a. Seasonal and Other Existing and Known Supply and Demand
Forces Do Not Affect the Profitability of Commodity Options
In infomercials and telephone solicitations that echoed those infomercials, Respondents falsely represented that customers would achieve large and certain profits by purchasing options on futures contracts for commodities that are subject to purportedly predictable price movements caused by seasonal or other existing and known supply and demand forces. In fact, however, known supply and demand forces in the cash market, including predictable seasonal trends, do not necessarily affect the likelihood of profit or the risk of trading commodity options because the markets anticipate and account for those factors in the price paid for the option and in the price of the option's underlying futures contract. Bishop v. First Investors Group of the Palm Beaches, Inc., [Current Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,004 at 44,418 (CFTC March 26, 1997) ("[A] seasonal increase in the demand for heating oil would not necessarily result in the increased value of a heating oil option, because the market had already factored seasonal demand into the price of an option. [These] statements were misleading half-truths and thus violate Section 4c(b) of the Act and Regulation § 33.10."). Thus, these representations by Respondents are false.
b. There is No Direct Correlation between an Increase in the
Price of a Commodity and Profits from Trading Commodity Options
Respondents also falsely indicated that there is a direct correlation between an increase in the price of a commodity and the resulting profit to the holder of a call option for that commodity. They suggested that the customer's strike price is simply the price of the commodity at the time he purchases the option, and that if the commodity's price increases from there, the customer will profit accordingly.
In fact, however, price movements in the cash and futures markets generally do not move in direct correlation, and this non-correlation is generally even more pronounced between price movements in the cash and options markets. Option values do not usually move in the same manner or in direct proportion to the underlying futures prices. In re JCC, Inc., [1992-1994 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 26,080 at 41,576 (CFTC May 12, 1994), aff'd sub nom. JCC, Inc. v. CFTC, 63 F.3d 1557 (11th Cir. 1995) (statement "[e]very time sugar moves ten cents you make $67,000" violated anti-fraud provisions of the Act and Regulations); Bishop, ¶ 27,004 at 44,418 ("the statements misrepresented the profit potential of such a seasonal strategy by representing that a penny move in the underlying market would translate into a $420 profit per option"); CFTC v. Commonwealth Financial Group, 874 F. Supp. 1345, 1352 (S.D. Fla. 1994) (such statements "are deceptive because the movement of the cash price or the underlying futures contract seldom produces a directly proportional increase in the value of an option on that futures contract"). Thus, these representations by Respondents are false.
c. Respondents Made Fraudulent Profit Claims, Minimized the Risk of
Trading, and Overstated the Performance Record of Their Customers
In infomercials and telephone solicitations, Respondents built on the foregoing misrepresentations by exaggerating both the likelihood and the magnitude of profit that purchasers of commodity options are likely to achieve. They also minimized the risk of trading commodity options by emphasizing the supposed advantage that knowledge of seasonal or other existing supply and demand forces offers the options investor.3 These are very similar to representations that have been held to be misleading:
Although Staryk does not explicitly state that the predictable nature of the seasonal price trends in gasoline and heating oil decreases the risk or increases the likelihood of profits in options tied to those commodities, no reasonable consumer could fail to take this message away from his sales presentation.
Staryk, ¶ 27,206 at 45,809 (quoting from and endorsing ALJ holding in In re Staryk, [1994-1996 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 26,701 at 43,928-29 (ALJ June 5, 1996)).
It is well established that promises of large and certain profits, like the promises made by Respondents in their infomercials and telephone solicitations, are fraudulent. Munnell v. Paine Webber Jackson & Curtis, [1986-1987 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 23,313 at 32,863 (CFTC Oct. 8, 1986) (statements that an investor could conservatively expect a profit of 32% per year amount to a guarantee of profitability and are inherently fraudulent); CFTC v. Commonwealth, 874 F. Supp. at 1353 (combining claims that risks are subject to certain limitations, with "predictions of profit [that] exceeded `mere optimism'" violated Section 4c(b) of the Act and Section 33.10 of the Regulations); Levine v. Refco, Inc., [1987-1990 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 24,488 at 36,115 (CFTC July 11, 1989) ("bold predictions of significant profit coupled with claims that risks are subject to specific limitations amounts to the type of guarantee of profits" that are prohibited).
d. Respondents' Misrepresentations were Material
A statement is material if it is substantially likely that a reasonable investor would consider the matter important in making an investment decision. Sudol v. Shearson Loeb Rhoades Inc., [1984-1986 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 22,748 at 31,119 (CFTC Sept. 30, 1985). Respondents' claims regarding the purported ability to exploit existing and known cash market conditions (including seasonality), and the correlation between cash price movements and profits on commodity options, went to the heart of option purchasers' decisions to invest.
The misstatements by Respondents regarding profit potential, risk of loss, and their performance record also were material. JCC, ¶ 26,080 at 41,576 n.23 ("When the language of a solicitation obscures the important distinction between the possibility of substantial profit and the probability that it will be earned, it is likely to be materially misleading to customers"); CFTC v. British Am. Commodity Options Corp., [1977-1980 Transfer Binder] Comm Fut. L. Rep. (CCH) ¶ 20,662 at 22,701 (S.D.N.Y. 1978) ("[U]nsupported and unreasonable predictions [of dramatic price shifts] unmistakably implied the near-certainty of sizeable and immediate returns, and were thus materially misleading to potential investors"); CFTC v. Commonwealth, 874 F. Supp. at 353-54 (misrepresentations regarding the trading record and experience of a firm or broker are fraudulent because past success and experience are material factors to reasonable investors).
e. Respondents Acted with Scienter
Scienter requires proof that the respondent committed the alleged wrongful acts "intentionally or with reckless disregard for [his] duties under the Act." Hammond, ¶ 24,617 at 36,659. A reckless statement is one made with so little care that it is "very difficult to believe the [actor] was not aware of what he was doing." Do v. Lind-Waldock & Co., [1994-1996 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 26,516 at 43,321 (CFTC Sept. 27, 1995), quoting Drexel Burnham Lambert v. CFTC, 850 F.2d 742, 748-49 (D.C. Cir. 1988). A finding of intentional wrongdoing may be supported by inferences from circumstantial evidence. JCC, ¶ 26,080 at 41,579; In re Miller, [1994-1996 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 26,440 at 42,914 (CFTC June 16, 1995).
Respondents knew that their customers did not make anywhere near the profits they advertised in their infomercials and telephone solicitations. The trading results of Lexus' own customers were disastrous, and belied Respondents' claims of tremendous profit potential with only a modest risk of loss. From January 1, 1993 through June 30, 1996, nearly 90% of Lexus customer accounts lost money. Total losses in Lexus' unprofitable accounts exceeded $6.8 million, while profits in Lexus' profitable accounts totaled approximately $355,000. These actual trading results revealed that Lexus customers did not benefit from seasonal or other existing and known supply and demand forces in the cash market, and did not profit from any correlation between commodity price increases and options profits.
Respondents also received specific and ample notice of the serious deficiencies in the Lexus infomercials: 1) in 1994, the Consultant Report admonished Respondents about the infomercials' claims of a direct, one-to-one correlation between cash price movements and resulting profits on commodity options; 2) in 1995, Singer's own IIBE Report expressed concern regarding "pie-in-the sky predictions" in the infomercials; and 3) in 1996, both NFA's March 13 Letter and the NFA Notice warned of the problems with the seasonality approach utilized in the Lexus infomercials. Despite these blunt warnings, though, each Lexus infomercial continued to exhibit the same defects as those that had aired before. Accordingly, the Respondents acted with scienter.
Lexus is liable for the acts, omissions and failures of Singer, Luger, and the Lexus APs that occurred within the scope of each such person's employment or office with Lexus pursuant to the respondeat superior liability provisions of Section 2(a)(1)(A)(iii) of the Act, 7 U.S.C. § 2 (1994), and Section 1.2 of the Regulations, 17 C.F.R. § 1.2 (1999). The corporation, as principal, is strictly liable for the misconduct of its employees and agents, Stotler and Co. v. CFTC, 855 F.2d 1288, 1292 (7th Cir. 1988), and the "only question is whether the [misconduct] was within the scope of his agency." Rosenthal & Co. v. CFTC, 802 F.2d 963, 967 (7th Cir. 1986). The violations of Section 4c(b) of the Act and Section 33.10 of the Regulations discussed above indisputably occurred within the scope of Singer's, Luger's, and the Lexus APs' respective employment or office with Lexus, and Lexus is thereby liable for them. See Reed v. Sage Group, Inc., [1987-1990 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 23,943 at 34,299-300 (CFTC Oct. 14, 1987).
3. Singer and Luger Aided and Abetted Violations of the
To be liable as an aider and abettor under Section 13(a) of the Act, 7 U.S.C. § 13c(a) (1994), a respondent "must knowingly associate himself with an unlawful venture, participate in it as something that he wishes to bring about and seek by his actions to make it succeed." In re Commodities International Corp., [Current Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 26,943 at 44,564 (CFTC Jan. 14, 1997). Here, Singer aided and abetted Todd Thomas' material misrepresentations in the Lexus infomercials by making his own fraudulent misrepresentations in those same infomercials, as discussed above. Further, Singer discussed everything that was to be in the infomercials with Thomas in advance, and he actively encouraged some of Thomas' most exaggerated profit claims.
Both Singer and Luger aided and abetted the misrepresentations of the Lexus APs in their telephone sales solicitations to customers by orchestrating the fraudulent conduct at Lexus from the time they started the company. The initial fraudulent coffee solicitation by Singer and Luger in their early sales calls became the model for the Lexus infomercials and the subsequent telephone sales solicitations of other Lexus APs that echoed those infomercials. Lexus APs, who generally had no prior experience in the futures industry, did not attend any formal training programs. Rather, the new APs' training came from listening and learning from Singer, Luger, and the APs already at Lexus -- who, in turn, had been trained by Singer and Luger. Singer and Luger led by example as they made the same material misrepresentations themselves, Singer in the infomercials and both Singer and Luger in their own telephone sales solicitations with customers.
Singer and Luger participated in the fraudulent solicitations of customers by Lexus APs as something that they wished to bring about, and they benefited financially from these successful fraudulent sales efforts. By virtue of these actions, they satisfied the aiding and abetting standard of knowing association and purposeful participation in the violative conduct. See generally, In re Richardson Securities, Inc., [1980-1982 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 21,145 at 24,646 (CFTC Jan. 27, 1981); In re Lincolnwood Commodities, Inc. of California, [1982-1984 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 21,986 at 28,253-54 (CFTC Jan. 31, 1984). Singer and Luger, therefore, aided and abetted violations of the anti-fraud provisions of the Act and Regulations and are responsible for them pursuant to Section 13(a) of the Act.
To be liable as a controlling person under Section 13(b) of the Act, 7 U.S.C. § 13c(b) (1994), a respondent must possess the requisite degree of control and either: 1) knowingly induce, directly or indirectly, the acts constituting the violation; or 2) fail to act in good faith. In re Apache Trading Corp., [1990-1992 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 25,251 at 38,794 (CFTC March 11, 1992). Knowing inducement requires a showing that "the controlling person had actual or constructive knowledge of the core activities that constitute the violation at issue and allowed them to continue." In re Spiegel, [1987-1990 Transfer Binder] Comm. Fut. L. Rep. (CCH), ¶ 24,103 at 34,767 (CFTC Jan. 12, 1988). A controlling person fails to act in good faith if, for example, he does not maintain and enforce an adequate system of supervision over his employees. Apache Trading, ¶ 25,251 at 38,794-95.
Singer and Luger possessed the ability to set corporate policy, to hire and fire, to control corporate accounts, to set commission rates and AP salaries, and to control day-to-day corporate operations, which establishes their control for purposes of Section 13(b) of the Act. See Spiegel, ¶ 24,103 at 34,768 (respondent was founder, president, sole shareholder and sole authorized signatory, and possessed ultimate authority to hire and fire); In re GNP Commodities, Inc., [1990-1992 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 25,360 at 39,216 (CFTC Aug. 11, 1992), aff'd in pertinent part sub nom., Monieson v. CFTC, 996 F.2d 852 (7th Cir. 1993) (respondent was founder, co-owner, chairman of the board and majority shareholder, had day-to-day control including hiring and firing decisions, set salary levels, resolved disputes regarding commissions, and supervised and gave instructions to top managers).
Singer and Luger are liable as controlling persons for the misrepresentations in the Lexus infomercials, Singer because he knowingly induced them and Luger because he failed to act in good faith. Singer had actual knowledge of Thomas' material misrepresentations in the Lexus infomercials, as Singer appeared in most of them and listened to tapes of the live infomercials that Thomas did on his own for a few months in 1994. Yet, Singer allowed these misrepresentations to continue through at least 56 infomercials over four years. Singer thereby knowingly induced Thomas' material misrepresentations in the Lexus infomercials for purposes of controlling person liability pursuant to Section 13(b) of the Act.
Luger knew that most Lexus customers came to the firm as a result of hearing the infomercials, yet he paid little or no attention to the content of the infomercials on which his firm's customer base ultimately depended. Luger's reckless disregard of what Singer and Thomas were telling customers to bring them to Lexus evinced a lack of good faith with respect to the Lexus infomercials for purposes of controlling person liability pursuant to Section 13(b) of the Act.
Both Singer and Luger also knowingly induced the misrepresentations by the Lexus APs in the telephone sales solicitations. Singer and Luger acquired actual knowledge of the APs' misrepresentations by walking around the office and monitoring the solicitations while listening to the APs talk to customers on the phone. Yet, far from stopping the fraudulent practices at Lexus, Singer and Luger not only allowed them to continue but contributed to them by committing those very same offenses themselves in their own sales calls. Singer and Luger thereby knowingly induced the Lexus APs' material misrepresentations in their telephone solicitations for purposes of controlling person liability pursuant to Section 13(b) of the Act.
Regulation 166.3, 17 C.F.R. § 166.3 (1999), imposes a duty of diligent supervision upon each Commission registrant (except APs who have no supervisory duties). Singer, Luger and Lexus each had supervisory duties. The "focus of any proceeding to determine whether Rule 166.3 has been violated will be on whether such review occurred and, if it did, whether it was `diligent.'" In re Paragon Futures Ass'n., [1990-1992 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 25,266 at 38,850 (CFTC April 1, 1992).
Singer and Luger did not prohibit or correct the material misrepresentations in the Lexus infomercials or the telephone sales solicitations of the Lexus APs. Rather, they aided, abetted, participated in, and encouraged them. See CFTC v. Trinity Financial Group, Inc., [Current Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 27,179 at 45,635 (S.D. Fla. 1997) (respondents failed to establish and maintain meaningful procedures for deterring and detecting fraud by their employees, and knew of specific incidents of misconduct but failed to take reasonable steps to correct the problems in violation of Regulation 166.3).
The extent of the supervisory review at Lexus was limited to the one-time IIBE Report, which was an isolated and cursory audit by Singer. Despite the IIBE Report's criticism of Lexus' infomercials, Respondents conducted no further review of the infomercials and made no changes to the content of the infomercials as a result of the IIBE Report. Other than the IIBE Report, Lexus issued no reprimand or criticism of any of its APs. Nor did it take any disciplinary or corrective action, or implement any internal controls, as a result of any customer complaint or reparations action against Lexus or its APs. The repeated and manifest nature of the misrepresentations in the 56 Lexus infomercials and the APs' telephone sales solicitations over a four-year period further establish Lexus' failure to supervise diligently. See Paragon, ¶ 25,266 at 38,850 ("evidence of the occurrence of violations . . . is probative of a firm's failure to supervise, if the violations which occurred are of a type which should be detected by a diligent system of supervision, either because of the nature of the violations or because the violations occurred repeatedly").
OFFER OF SETTLEMENT
Respondents Lexus, Luger, and Singer have each submitted an Offer of Settlement in which they:
1. Acknowledge service of the Complaint and this Order;
2. Admit the jurisdiction of the Commission with respect to all matters set forth in the Complaint and this Order;
3. Admit the findings of this Order;
(a) any further hearings;
(b) all post-hearing procedures;
(c) judicial review by any court;
(d) any objection to the staff's participation in the Commission's consideration of their respective Offers;
(e) any claim of Double Jeopardy based upon the institution of this proceeding or the entry in this proceeding of any order imposing a civil monetary penalty or any other relief; and
(f) all claims which they may possess under the Equal Access to Justice Act, 5 U.S.C. § 504 (1994) and 28 U.S.C. § 2412 (1994), as amended by Pub. L. No. 104-121, §§ 231-232, 110 Stat. 862-863, and Part 148 of the Regulations, 17 C.F.R. §§ 148.1 et seq. (1999), relating to, or arising from, this action, and they shall not assert any right under the Equal Access to Justice Act to seek costs, fees, or other expenses relating to, or arising from, this proceeding;
5. Stipulate that the record basis on which this Order is entered consists of the Complaint, the Joint Stipulations of Facts filed September 9, 1998, the Consent Order issued April 9, 1999,4 this Order, and the findings they have admitted in their respective Offers, which are incorporated in this Order; and
6. Consent to the issuance of this Order, which makes findings and orders:
a. Lexus, Luger, and Singer to cease and desist from violating Section 4c(b) of the Act and Sections 33.10 and 166.3 of the Regulations;
b. Revocation of Lexus' registration as an IB and the registrations of Luger and Singer as APs of Lexus;
c. Lexus, Luger, and Singer to be permanently prohibited from trading on or subject to the rules of any contract market, and directs all contract markets to refuse Lexus, Luger, and Singer trading privileges, beginning on the third Monday after the date of this Order;
d. Lexus, Luger, and Singer to comply with their undertakings as set forth in their respective Offers; and
e. Luger and Singer to pay, jointly and severally, restitution of up to $6,809,046.53, plus prejudgment interest thereon in the amount of $1,804,523.91, for a total amount of up to $8,613,570.44, in accordance with the terms set forth in Section VI.3 below.
FINDINGS OF VIOLATIONS
On the basis of the admissions evidenced by the Offers, the Stipulations filed September 9, 1998, and the Consent Order issued April 9, 1999, the Commission finds that Lexus, Luger, and Singer violated Section 4c(b) of the Act, 7 U.S.C. § 6c(b) (1994), and Sections 33.10 and 166.3 of the Regulations, 17 C.F.R. §§ 33.10, 166.3 (1999).
Accordingly, it is hereby ordered that:
1. Lexus, Luger, and Singer shall cease and desist from violating Section 4c(b) of the Act, 7 U.S.C. § 6c(b) (1994), and Regulations 33.10 and 166.3, 17 C.F.R. §§ 33.10 and 166.3 (1999);
2. Lexus' registration as an IB and the registrations of Luger and Singer as APs of Lexus are hereby revoked;
3. Beginning on the third Monday after the date of this Order, Lexus, Luger, and Singer shall be prohibited from trading on or subject to the rules of any contract market, and all contract markets shall refuse Lexus, Luger, and Singer trading privileges;
4. Luger and Singer shall pay, jointly and severally, restitution to their customers of up to $6,809,046.53, plus prejudgment interest thereon in the amount of $1,804,523.91, for a total amount of up to $8,613,570.44. The amount of the respective Annual Payments by Luger and Singer shall consist of a portion of:
1) the adjusted gross income (as defined by the Internal Revenue Code) earned or received by Luger and Singer, respectively, during the course of the preceding calendar year; plus 2) all other net cash receipts, net cash entitlements or net proceeds of non-cash assets received by Luger and Singer, respectively, during the course of the preceding calendar year. The respective Annual Payments will be determined as follows:
|Where Adjusted Gross Income Plus Net Cash Receipts Total:||Percent of Total to be Paid by Luger and Singer, Respectively, to Customers is:|
|Up to $50,000||0%|
|$50,001-$100,000||30% of the amount above $50,000|
|Above $100,000||$15,000 (30% of the amount between $50,000 and $100,000) plus 40% of the amount above $100,000;|
Luger and Singer shall make their respective Annual Payments to an account designated by a monitor designated by the Commission (the "Monitor") on or before July 31 of each calendar year, starting in calendar year 2000 and continuing for five (5) years5 (or until his obligation to make the Annual Payments is discharged if that happens first).6 Such funds shall be distributed annually as restitution payments to Lexus' customers in the amounts calculated by the Monitor, unless, at its sole discretion, based upon the amount of funds available for distribution, the Monitor decides to defer distribution. If, at the end of the five-year payment period, any part of the Annual Payments has not been distributed, the Monitor shall either distribute the funds in the account or make a recommendation to the Commission that the funds instead become a civil monetary penalty pursuant to Section 6(c) of the Act. In the event the Commission rejects the Monitor's recommendation, the funds shall be distributed as restitution.
5. The Commission notes that an order imposing a civil monetary penalty and requiring immediate payment of restitution against Lexus, Luger, and Singer would be appropriate in this case, but does not do so based upon their financial condition. Lexus, Luger, and Singer acknowledge that the Commission's acceptance of their Offers is conditioned upon the accuracy and completeness of the sworn Financial Statement and other evidence they have provided regarding their financial condition. Lexus, Luger, and Singer each consent that if at any time following the entry of the Order, the Division obtains information indicating that his or its representations concerning his or its financial condition were fraudulent, misleading, inaccurate, or incomplete in any material respect at the time they were made, the Division may, at any time following the entry of the Order, petition the Commission to: 1) reopen this matter to consider whether that Respondent provided accurate and complete financial information at the time such representations were made; 2) determine the amount of civil monetary penalty to be imposed against that Respondent; 3) if that Respondent is Luger or Singer, require immediate payment of restitution by Luger or Singer, or, if that Respondent is Lexus, determine the amount of restitution to be imposed; and 4) seek any additional remedies that the Commission would be authorized to impose in this proceeding if the Offer of that Respondent had not been accepted. No other issues shall be considered in connection with this petition other than whether the financial information provided by that Respondent was fraudulent, misleading, inaccurate, or incomplete in any material respect, the amount of civil monetary penalty to be imposed against that Respondent, and whether any additional remedies should be imposed. Respondent may not, by way of defense to any such petition, contest the validity of, or the findings in, this Order, contest the allegations of the Complaint or the amount of restitution to be paid, or assert that payment of a civil monetary penalty should not be ordered;
6. Luger and Singer shall immediately comply with the following undertakings:
a. Luger and Singer each shall provide his respective sworn financial statement to the Monitor on June 30 and December 31 of each calendar year, starting June 30, 2000, and continuing through and including December 31, 2003. The financial statement shall provide a true and complete:
i. itemization of all of Luger's and Singer's respective rights, title and interest in (or claimed in) any asset, wherever, however and by whomever held;
ii. itemization, description and explanation of all transfers of assets with a value of $1,000 or more made by or on behalf of Luger and Singer, respectively, over the preceding six-month interval; and
iii. detailed description of the source and amount of all of Luger's and Singer's respective income or earnings, however generated.
Luger and Singer each shall also provide the Monitor with complete copies of his respective signed federal income tax return, including all schedules and attachments thereto (e.g., IRS Forms W-2) and Forms 1099, as well as any filings he is required to submit to any state tax or revenue authority, on or before June 30 of each calendar year, or as soon thereafter as the same are filed. If Luger or Singer moves his residence at any time, he shall provide written notice of the new address to the Monitor and the Commission within ten (10) days thereof;
b. Luger and Singer each shall cooperate fully and expeditiously with the Monitor and the Commission in carrying out all aspects of his respective restitution Annual Payments. They each shall cooperate fully with the Monitor and the Commission in explaining his respective financial income and earnings, status of assets, financial statements, asset transfers, tax returns, and shall provide any information concerning himself as may be required by the Commission. Furthermore, Luger and Singer shall provide such additional information and documents with respect thereto as may be requested by the Monitor or the Commission;
c. Luger and Singer shall not transfer or cause others to transfer funds or other property to the custody, possession, or control of any member of Luger's or Singer's family or any other person for the purpose of concealing such funds or property from the Monitor or the Commission;
d. Lexus, Luger, and Singer shall never apply for registration or claim exemption from registration with the Commission in any capacity, and shall never engage in any activity requiring such registration or exemption from registration, or act as a principal, agent or officer of any person registered, exempted from registration or required to be registered with the Commission; and
e. Neither Lexus, Luger, or Singer, nor any of their respective agents or employees under their authority or control, shall take any action or make any public statement denying, directly or indirectly, any allegation in the Complaint or any finding in this Order, or creating, or tending to create, the impression that the Complaint or Order is without a factual basis; provided, however, that nothing in this provision shall affect: (i) the testimonial obligations of Lexus, Luger, and Singer; or (ii) their right to take legal positions in other proceedings to which the Commission is not a party.
Unless otherwise specified, the provisions of this Order shall be effective on this date. Copies of this Order shall be served on Lexus, Luger, and Singer, on all contract markets, and on the NFA.
|By the Commission|
|Dated: February 17, 2000|
|Jean A. Webb|
|Secretary to the Commission|
|Commodity Futures Trading Commission|
1 Respondents do not consent to the use of the Offers, the findings consented to in the Offers, or this Order, as the sole basis for any other proceeding brought by the Commission other than in a proceeding to enforce the terms of this Order. Nor do Respondents consent to the use of the Offers, the findings consented to in the Offers, or this Order, by any other party in any other proceeding.
2 On November 3, 1999, in other proceedings, the Commission issued an Order accepting an Offer of Settlement from Todd Thomas and finding that Thomas committed fraud in violation of Section 4c(b) of the Act and Section 33.10 of the Regulations in his infomercials and telephone sales solicitations both at Lexus and at a separate IB firm established by Thomas. See Order Making Findings and Imposing Remedial Sanctions as to Respondents Todd Alan Thomas and Wellington Financial Group, Inc., CFTC Docket Nos. 98-13, 99-10 (CFTC Nov. 3, 1999).
3 Fraud exists although a statement may be literally true if, when "recited repeatedly as a sales inducement . . . the representation inflates the likelihood of profit while minimizing the risk of loss . . ." Staryk, ¶ 27,206 at 45,809; Bishop, ¶ 27,004 at 44,841 (emphasis in the original). Accord, Swickard v. A.G. Edwards & Sons, [1984-1986 Transfer Binder] Comm. Fut. L. Rep. (CCH) ¶ 22,522 at 30,275 (CFTC Mar. 7, 1985) ("[H]alf of the truth may obviously amount to a lie if it is understood to be the whole"), quoting Prosser & Keeton, The Law of Torts, 738 (1984).
4 On April 9, 1999, the Administrative Law Judge ("ALJ") entered a Consent Order Granting the Division of Enforcement's Motions for Partial Summary Disposition ("Consent Order") based in part on Joint Stipulations of Facts ("Stipulations") entered into by the Respondents. In his Order, the ALJ found that: 1) with respect to the Lexus infomercials, Singer and Lexus committed fraud in violation of Section 4c(b) of the Act and Section 33.10 of the Regulations, Singer aided and abetted Lexus' fraud, and Singer and Luger were liable as controlling persons for Lexus' fraud; 2) with respect to Lexus' telephone sales solicitations of customers, Lexus APs (including Singer and Luger) made material misrepresentations and omissions in or in connection with commodity option transactions, and Singer and Luger were controlling persons of Lexus with respect to the APs' telephone solicitations; and 3) Lexus, Luger, and Singer failed to diligently supervise the Lexus infomercials and the Lexus APs' telephone sales solicitations to customers in violation of Section 166.3 of the Regulations.
5 The five-year restitution period shall run from January 1, 1999 through December 31, 2003. Restitution payments for a calendar year shall take place by July 31 of the following year. Therefore, the final restitution payment for the year 2003 will occur on or before July 31, 2004.
6 The NFA is hereby designated as the Monitor for a period of six years from the date of this Order. Notice to the Monitor shall be made to Daniel A. Driscoll, Esq., Vice President, Compliance, or his successor, at the following address: National Futures Association, 200 West Madison Street, Chicago, IL 60606. For five years, based on the information contained in Luger's and Singer's respective sworn financial statements, tax returns, and the other financial statements and records provided to the Monitor, the Monitor shall calculate the total amount of restitution to be paid by Luger and Singer, respectively, for that year and the specific amounts payable to each customer. On or before July 31 of each year and starting in calendar year 2000, the Monitor shall send written notices to Luger and Singer with instructions to pay immediately the amount of restitution to an account designated by the Monitor. In the event Luger or Singer makes payments to any of the customers, which payments have not been directed by the Monitor, the Commission and Monitor shall reduce that Respondent's total restitution obligation upon receipt from the customer of a signed written acknowledgment stating the amount paid.