- Fifth Circuit Court of Appeals, Docket no. 10-10989
- "Not all securities frauds are Ponzi Schemes." Receiver moved for turnover against charity that received $240,000 from companies prior to receivership, primarily arguing under the Texas Uniform Fraudulent Transfer Act that, as the Companies were operating a “Ponzi-like scheme,” their transfers to ACS were presumptively made with fraudulent intent. As Receiver failed to prove that money was moving from new investors in the companies to prior investors in the companies - the "sine qua non" of any Ponzi scheme - Receiver was not entitled to the presumption of fraudulent intent and the District Court's decision was reversed.
- Procedural context:
- Karen Cook was appointed receiver over the assets of a number of related corporations and individuals ("Giant"). Noting some $240,000 in pre-receivership donations to the American Cancer Society, Cook moved to recover them under Texas' Uniform Fraudulent Transfer Act. The District Court took the matter up solely on affidavits, and then ruled for Cook. The ACS appealed to the Fifth Circuit.
- SEC alleged that numerous entities and individuals associated with Giant Operating, LLC ("Giant") raised $13.4 million from investors through five unregistered securities offerings. While the offerings indicated that 80% of the investor's funds would be used operationally and 20% administratively, the SEC alleged that a considerable portion of the investor funds were used for personal and non-operational purposes. Based on these allegations, the district court appointed Cook receiver. The court authorized Cook to “immediately take and have complete and exclusive control, possession, and custody of the Receivership Estate and to any assets traceable to assets owned by the Receivership Estate.” Cook was also authorized to “[i]nstitute such actions or proceedings to impose a constructive trust, obtain possession, and/or recover judgment with respect to persons or entities who received assets or records traceable to the Receivership Estate.” Pages1-2. Cook soon discovered that the American Cancer Society had received some $240,000 from Giant in the three-year period before the receivership. Cook moved to recover the $240,000, asserting theories of (a) fraudulent transfer under the Texas Uniform Fraudulent Transfer Act and (b) constructive trust. Ruling on a stipulated record, the Magistrate reasoned that Giant was operating a "Ponzi-like scheme" and Giant's transfers to ACS were presumptively made with fraudulent intent under Warfield v. Byron, 436 F.3d 551, 558-59 (5th Cir. 2006). The district court adopted the Magistrate's findings and ACS appealed to the Fifth Circuit arguing that Cook failed to provide evidence of a "Ponzi-like scheme." Pages 3-4. The Fifth Circuit found clear error in the district court's ruling. A Ponzi scheme is a “fraudulent investment scheme in which money contributed by later investors generates artificially high dividends or returns for the original investors, whose example attracts even larger investments.” Janvey v. Alguire, 647 F.3d 585, 597 (5th Cir. 2011) (quoting BLACK’S LAW DICTIONARY 1198 (8th ed. 2004)). Missing from Cook's case was any evidence that investor funds were "returned" to earlier investors, the "sine qua non of any Ponzi scheme." See Janvey, 647 F.3d at 597. The Court also noted that Cook's counsel failed to identify any evidence of such a return at oral argument. Page 5. Cook next argued that even if Giant was not operating a Ponzi scheme, there was sufficient circumstantial evidence that the transfers were made with actual fraudulent intent as the transfers were made to lure new investors into the fraudulent scheme, and the donations were not an authorized use of the investors' money. Unfortunately for Cook, however, the "dearth" of evidence supporting her conclusions was "dispositive." Page 6. Cook finally made two arguments not addressed by the district court. See LLEH, Inc. v. Wichita Cnty., 289 F.3d 358, 364 (5th Cir. 2002) (“‘[W]e may affirm for reasons other than those relied upon by the district court.’” (alteration in original) (quoting Joslyn Mfg. Co. v. Koppers Co., 40 F.3d 750, 753 (5th Cir. 1994))). First, Cook argued that the receivership order which enabled Cook to take possession of “any assets traceable to assets owned by the Receivership” and to institute actions necessary to achieving this end, provided in and of itself a justification for the $240,000 judgment against ACS. The Court disagreed, refusing to construe the "boilerplate enabling order" as anything other than the authority for Cook to pursue the recovery under other applicable law. Secondly, Cook urged the Court to impose a constructive trust on ACS's assets, arguing that the funds rightfully belonged to the defrauded investors of Giant. Under Texas law, a constructive trust is an equitable remedy that may be imposed if the following elements are present: (1) actual or constructive fraud; (2) unjust enrichment of the wrongdoer; and (3) tracing of the property over which the trust is placed to some identifiable res in which the plaintiff has an interest. Burkhart Grob Luft und Raumfahrt GmbH & Co. KG v. E-Sys., Inc., 257 F.3d 461, 469 (5th Cir. 2001). The Court, however, had little trouble refusing to exercise its equitable powers to aid Cook, citing a general lack of evidence of fraud, coupled with the equities tilted in favor of ACS. Pages 7-8.
- Before JONES, Chief Judge, and HIGGINBOTHAM and SOUTHWICK, Circuit Judges.
In re Carol Engen
Summarizing by Bradley Pearce
3101 in the system
2 Being Processed