KAREN MATTESON, Cal. Bar No. 102103
Attorneys for Plaintiff
UNITED STATES DISTRICT COURT
Securities and Exchange Commission,
PAUL JOSEPH SHEEHAN
Plaintiff Securities and Exchange Commission ("Commission") alleges as follows:
1. This Court has jurisdiction over this action pursuant to Sections 21(d)(3)(A), 21(e) and 27 of the Securities Exchange Act of 1934 ("Exchange Act"), 15 U.S.C. §§ 78u(d)(3)(A), 78u(e) & 78aa, and Sections 209(e)(1) and 214 of the Investment Advisers Act of 1940 ("Advisers Act"), 15 U.S.C. §§ 80b-9(e)(1) & 80b-14. Defendant Paul Joseph Sheehan ("Sheehan") has, directly or indirectly, made use of the means or instrumentalities of interstate commerce, of the mails, or of the facilities of a national securities exchange, in connection with the transactions, acts, practices and courses of business alleged in this Complaint.
2. Venue is proper in this district pursuant to Section 27 of the Exchange Act, 15 U.S.C. § 78aa, and Section 214 of the Advisers Act, 15 U.S.C. § 80b-14, because certain of the transactions, acts, practices and courses of conduct constituting violations of the federal securities laws occurred within this district, and because Sheehan resides in and transacted business in this district.
3. From at least April 1999 through September 2000, Sheehan, a Commission-registered investment adviser doing business as Paul J. Sheehan & Associates, engaged in a fraudulent scheme commonly referred to as a "trade allocation" scheme, or a "cherry-picking"scheme. Specifically, Sheehan fraudulently allocated profitable securities trades to his own personal accounts at the expense of his clients' accounts. Each of the profitable trades that Sheehan allocated to his own accounts was an economic opportunity for his clients that Sheehan usurped for his own profit. By allocating profitable day trades to his own accounts, rather than to his clients' accounts, Sheehan improperly earned profits of $7.4 million. By putting his interests ahead of his clients' interests, Sheehan breached his fiduciary duty to his clients and defrauded them.
4. Sheehan, by engaging in the conduct described above, has violated the antifraud provisions of Section 10(b) of the Exchange Act, 15 U.S.C. § 78j(b), and Rule 10b-5 thereunder, 17 C.F.R. § 240.10b-5, and Sections 206(1), 206(2) and 207 of the Advisers Act, 15 U.S.C. §§ 80b-6(1), 80b-6(2) & 80b-7.
5. Therefore, the Commission seeks: (a) a permanent injunction prohibiting Sheehan from future violations of the above provisions; (b) an order that Sheehan disgorge his ill-gotten gains together with prejudgment interest thereon; and (c) an order that Sheehan pay a civil penalty.
6. Paul Joseph Sheehan resides in Los Angeles, California. Sheehan has been registered with the Commission as an investment adviser since 1989. He did business as and was the sole proprietor of Paul J. Sheehan & Associates, located in Los Angeles, California, from 1989 through early 2003. As of November 2001, Sheehan had 576 accounts with total assets of $32.2 million under management.
7. From at least April 1, 1999 through September 30, 2000, Sheehan provided investment management services to individuals, pension and profit-sharing plans, trusts, estates, charitable organizations and corporations. Sheehan provided these services on a discretionary basis, meaning that his clients gave Sheehan the authority to buy and sell securities for their accounts without the clients' prior authorization.
8. During the relevant period, almost all of Sheehan's clients had their account assets held in custody at the brokerage firm of Salomon Smith Barney. Sheehan also maintained two of his personal trading accounts at Salomon Smith Barney: Account No. 322-02202-18-607 (entitled "Paul J. Sheehan") and Account No. 322-01232-14-607 (entitled "Paul J. Sheehan & Associates Sole Proprietorship") (collectively, the "Sheehan Accounts"). During the relevant period, Sheehan primarily invested for both his own and his clients' accounts in equity securities issued by large, medium and small capitalization companies.
9. When initiating trades, Sheehan or one of his assistants provided one of the approximately twenty-five brokers that Sheehan used to execute the trades with the name of the security, the quantity to be bought or sold, and whether it was a limit order. Sheehan did not provide the executing broker with the name of the client for whose account the purchase or sale was being made.
10. After a trade had been executed, the executing broker transferred the shares or trade proceeds to the Prime Broker Allocation Account For Account ofPaul J. Sheehan & Associates, Account No. 340-00029, at Salomon Smith Barney (the "Sheehan Allocation Account").
11. Salomon Smith Barney could not allocate shares or sales proceeds from the Sheehan Allocation Account to one of the Sheehan Accounts or to any client accounts until Sheehan provided it with specific instructions as to which account(s) the allocation was to be made.
12. Sheehan withheld from his assistant traders allocation information for the trades at issue until the end of each trading day. By that time, Sheehan knew whether or not a day trade (the purchase and offsetting sale of the same security on the same day) had been profitable. At the end of the trading day, Sheehan provided trade allocation instructions to his assistant traders and directed them to input those instructions into an electronic database known as the Upload Allocation File.
13. The Upload Allocation File was maintained by Sheehan and by office personnel at Sheehan's direction. It consisted of all the trade allocation data entered by Sheehan and his assistants for a given trading day. The Upload Allocation File identified the specific Sheehan Accounts or client accounts to which shares or sales proceeds were to be allocated by Salomon Smith Barney from the Sheehan Allocation Account. After entry of Sheehan's allocation instructions into the Upload Allocation File, the file was transmitted electronically to Salomon Smith Barney in accordance with procedures established by Sheehan.
14. Pursuant to Sheehan's instructions contained in the Upload Allocation File, Salomon Smith Barney allocated shares and sales proceeds from the Sheehan Allocation Account to the Sheehan Accounts and/or to his clients' accounts.
15. In a form that Sheehan initially filed with the Commission in order to register as an investment adviser, known as a Form ADV, Sheehan represented that he bought and sold the same securities for himself that he recommended to hisclients. In the Schedule F dated June 11, 1998, which amended Sheehan's Form ADV, Sheehan further represented that he would "give absolute priority to client accounts over any [Sheehan] account when there is accumulation or disposition of a security involving a client account and the [Sheehan] account."
16. Contrary to the above representations he made in the Form ADV and the amendment thereto, Sheehan knowingly allocated to his own Sheehan Accounts thousands of day trades that he knew were profitable, realizing profits of $7.4 million, at the expense of his clients.
17. By allocating trades in the above manner, Sheehan subordinated the interests of his clients to his own interests and failed to act in his clients' best interests by stealing their economic opportunities.
18. The Commission realleges and incorporates by reference ¶¶ 1 through 17 above.
19. Defendant Sheehan, by engaging in the conduct described above, directly or indirectly, in connection with the purchase or sale of a security, by the use of means or instrumentalities of interstate commerce, of the mails, or of the facilities of a national securities exchange, with scienter:
a. employed devices, schemes, or artifices to defraud;
b. made untrue statements of a material fact or omitted 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; or
c. engaged in acts, practices, or courses of business whichoperated or would operate as a fraud or deceit upon other persons.
20. By engaging in the conduct described above, defendant Sheehan violated, and unless restrained and enjoined will continue to violate, Section 10(b) of the Exchange Act, 15 U.S.C. § 78j(b), and Rule 10b-5 thereunder, 17 C.F.R. § 240.10b-5.
21. The Commission realleges and incorporates by reference ¶¶ 1 through 17 above.
22. Defendant Sheehan, by engaging in the conduct described above, directly or indirectly, by use of the mails or means or instrumentalities of interstate commerce:
a. with scienter, employed devices, schemes, or artifices to defraud clients or prospective clients; or
b. engaged in transactions, practices, or courses of business which operated as a fraud or deceit upon clients or prospective clients.
23. By engaging in the conduct described above, defendant Sheehan violated, and unless restrained and enjoined will continue to violate, Sections 206(1) and 206(2) of the Advisers Act, 15 U.S.C. §§ 80b-6(1) & 80b-6(2).
24. The Commission realleges and incorporates by reference ¶¶ 1 through 17 above.
25. Defendant Sheehan, by engaging in the conduct described above, willfully made an untrue statement of a material fact in a registration applicationor report filed with the Commission under Section 203 or 204 of the Advisers Act, 15 U.S.C. §§ 80b-3 & 80b-4, or willfully omitted to state in such application or report material facts required to be stated therein.
26. By engaging in the conduct described above, defendant Sheehan violated, and unless restrained and enjoined will continue to violate, Section 207 of the Advisers Act, 15 U.S.C. § 80b-7.
WHEREFORE, the Commission respectfully requests that the Court:
Issue findings of fact and conclusions of law that defendant Sheehan committed the alleged violations.
Issue a judgment, in a form consistent with Fed. R. Civ. P. 65(d), permanently enjoining defendant Sheehan and his agents, servants, employees and attorneys, and those persons in active concert or participation with any of them, who receive actual notice of the order by personal service or otherwise, and each of them, from violating Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and Sections 206(1), 206(2) and 207 of the Advisers Act.
Order defendant Sheehan to disgorge all ill-gotten gains from his illegal conduct, together with prejudgment interest thereon.
Order defendant Sheehan to pay a civil penalty pursuant to Section 21(d)(3) of the Exchange Act, 15 U.S.C. § 78u(d)(3), and Section 209(e) of the Advisers Act, 15 U.S.C. § 80b-9(e).
Retain jurisdiction of this action in accordance with the principles of equity and the Federal Rules of Civil Procedure in order to implement and carry out theterms of all orders and decrees that may be entered, or to entertain any suitable application or motion for additional relief within the jurisdiction of this Court.
Grant such other and further relief as this Court may determine to be just and necessary.
DATED: September 30, 2003
Attorney for Plaintiff
Securities and Exchange Commission
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