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Municipal Bond Participants:
Public Officials and Obligated Persons

May 12, 2017

Public Officials

Report under Section 21(a) of the Exchange Act

Report of Investigation in the Matter of County of Orange, California as it Relates to the Conduct of the Members of the Board of Supervisors., Exchange Act Release No. 36761 (January 24, 1996).

I. Introduction

The staff of the Division of Enforcement has conducted an investigation into various events in 1993 and 1994 involving material misrepresentations and omissions in connection with the offer and sale of certain municipal securities, including those issued by the County of Orange, California (the "County" or "Orange County"). Six of these municipal offerings by the County collectively raised approximately $1.3 billion and are the subject of this report. These offerings were related to the Orange County investment pools (the "County Pools"),1 in one or more of the following ways: 1) the proceeds from one of the offerings were reinvested in the County Pools to obtain interest earnings; 2) the funds pledged to repay certain of the securities were invested in the County Pools; 3) the County Pools agreed to repurchase or repay certain of the securities; and/or 4) the County's economic reliance on the County Pools materially affected its ability to repay the securities. The Official Statements for these municipal securities offerings contained material misstatements and omissions concerning the risks relating to, among other things, the County Pools and the financial condition of Orange County, including its ability to repay the securities.

Based upon information obtained during the investigation, the Commission deems it appropriate that it issue this Report of Investigation ("Report") pursuant to Section 21(a) of the Securities Exchange Act of 1934 "Exchange Act") with respect to the conduct of the individual members of the Board of Supervisors of Orange County, California (the "Supervisors" or "Board members") in authorizing the issuance of these municipal securities.2

Simultaneous to the issuance of this Report, the Commission has filed and settled a related civil injunctive action against the former County Treasurer-Tax Collector, Robert L. Citron (the "Treasurer"), and the former Assistant Treasurer, Matthew R. Raabe (the "Assistant Treasurer"), pursuant to which they will be

enjoined from future violations of the antifraud provisions of the federal securities laws.3 The Commission has also instituted and settled a related cease and desist proceeding pursuant to Section 8A of the Securities Act of 1933 ("Securities Act") and Section 21C of the Exchange Act against Orange County, the Orange County Flood Control District and the Board of Supervisors of Orange County pursuant to which they will be ordered to cease and desist from violations of the antifraud provisions.4 The Commission's investigation is ongoing.

The Commission is issuing this Report to emphasize the responsibilities under the federal securities laws of local government officials who authorize the issuance of municipal securities and related disclosure documents and the critical role such officials play with respect to the representations contained in the Official Statements for those securities.5

Public entities that issue securities are primarily liable for the content of their disclosure documents and are subject to proscriptions under the federal securities laws against false and misleading information in their disclosure documents.6 In addition to the governmental entity issuing municipal securities, public officials of the issuer who have ultimate authority to approve the issuance of securities and related disclosure documents have responsibilities under the federal securities laws as well. In authorizing the issuance of securities and related disclosure documents, a public official may not authorize disclosure that the official knows to be false; nor may a public official authorize disclosure while recklessly disregarding facts that indicate that there is a risk that the disclosure may be misleading. When, for example, a public official has knowledge of facts bringing into question the issuer's ability to repay the securities, it is reckless for that official to approve disclosure to investors without taking steps appropriate under the circumstances to prevent the dissemination of materially false or misleading information regarding those facts. In this matter, such steps could have included becoming familiar with the disclosure documents and questioning the issuer's officials, employees or other agents about the disclosure of those facts.

In this case, the Supervisors approved Official Statements that, among other things, failed to disclose certain material information about Orange County's financial condition that brought into question the County's ability to repay its securities absent significant interest income from the County Pools. The Supervisors were aware of material information concerning Orange County's financial condition; this information called into question the County's ability to repay its securities. Nevertheless, the Supervisors failed to take appropriate steps to assure disclosure of these facts. In light of these circumstances, the Board members did not fulfill their obligations under the antifraud provisions of the federal securities laws in authorizing the issuance of the municipal securities and related disclosure documents.

II. Background

A. The Orange County Board Of Supervisors

The Orange County Board of Supervisors (the "Board") is the body through which the County exercises its powers.7 Orange County is a body corporate and politic and has the powers specified in the California (the "State") Constitution, State statutes, and such implied powers as are necessary for the execution of the powers expressly granted.8 The Board consists of five full-time members, each serving a term of four years. The Board has legislative, financial and police powers.

The Board exercises its financial powers through its general supervision of and control over the financial affairs of the County. The powers of the Board include, among others: 1) examination and audit of the financial accounts and records of all officers having responsibility for County moneys;9 2) supervision of the official conduct of all County officers, including the Treasurer, "particularly insofar as the functions and duties . . . relate to the assessing, collecting, safekeeping, management or disbursement of public funds";10 3) investment and reinvestment of County funds;11 4) fiscal powers, including approving the County's proposed budget and adopting the County's final budget;12 and 5) contracting for County indebtedness,13 including the issuance of municipal securities.

Although the Board may delegate certain of these duties to County officers and employees, it is ultimately responsible for the execution of these duties. In 1985, the Board formally delegated its authority to invest County funds to its Treasurer.

B. The Supervisors

1. Thomas F. Riley, age 83, was appointed Supervisor in 1974, elected to the Board two years later, and served continuously through 1994, after which he retired. Riley was the Chairman of the Board in 1994.

2. William G. Steiner, age 58, was appointed Supervisor in 1993, elected in 1994, and is currently a member of the Board. His term expires on December 31, 1998.

3. Roger R. Stanton, age 58, was first elected Supervisor in 1980, and is currently a member of the Board and its Chairman. His term expires on December 31, 1996.

4. Gaddi H. Vasquez, age 40, was appointed to the Board in 1987, elected in 1988, and served continuously until his resignation on September 27, 1995. Prior to his resignation, Vasquez was the Chairman of the Board in 1995.

5. Harriett M. Wieder, age 75, was first elected Supervisor in 1978, was Chairman of the Board in 1993 and a member through 1994.

C. The County Pools And Orange County's Financial Dependence On The Pools

The County Pools were instrumentalities of the County and were not established as legal entities distinct from the County. The County Pools operated as an investment fund managed by Orange County through which the Treasurer invested public funds deposited by various local governments or districts (the "Pool Participants" or the "Participants"). As of December 6, 1994, the County Pools held approximately $7.6 billion in Participant deposits, including County funds.

Under California law, the Board may delegate its authority to invest or to reinvest County funds to the County Treasurer, who thereafter assumes full responsibility for such transactions and who must make monthly reports of the transactions to the Board.14 Pursuant to this law, the Board delegated its authority to invest and reinvest County funds to the County Treasurer. Notwithstanding this delegation of authority, the Treasurer was required to seek approval from the Board for various kinds of investments.15 The investment strategy devised by the County Treasurer was risky and was predicated on the assumption that interest rates would remain low. The strategy involved a high degree of leverage through the use of short-term reverse repurchase agreements and a substantial investment in derivative securities of a longer term (including inverse floaters that are negatively affected by a rise in interest rates). For example, on December 6, 1994, when the County Pools held deposits of approximately $7.6 billion, the book value of the leveraged investment portfolios was $20.6 billion.

Orange County's financial condition was closely tied to the financial condition of the County Pools. The County was heavily dependent on the County Pools as a source of income to balance its discretionary budget. The County's discretionary budget was the portion of the County's total budget over which the Board had authority to determine how funds would be allocated.16 The discretionary budget was also a source of funds for repayment of the municipal securities that are the subject of this report.

The County's use of interest income as a revenue source to balance its discretionary budget had been increasing since at least fiscal year 1991-92, and increased dramatically for fiscal year 1994-95.17 This increased use of interest income was due to a decline in revenue from other sources, particularly property taxes.18 By budgeting increased projected interest revenue, Orange County was able to balance its budget and avoid implementing other fiscal measures.

The County had two sources of funds to invest in the County Pools and earn investment interest: its own liquid assets and the proceeds of its municipal securities offerings. From January 1993 to December 6, 1994, Orange County had invested essentially all of its liquid assets in the County Pools, almost $2.3 billion. In 1993 and 1994, Orange County issued $1 billion in municipal securities for the purpose of reinvesting the proceeds in the County Pools.

In early December 1994, the County announced that the County Pools' $20.6 billion investment portfolio had suffered a loss in market value of approximately $1.5 billion. Following liquidation of the portfolio, the County realized a loss of approximately $600 million of its investment in the County Pools.

The County also suffered a loss of $157 million in estimated and budgeted interest earnings from the County Pools, contributing to a projected deficit for fiscal year 1994-95 of approximately $172 million. On December 6, 1994, the County filed a petition for bankruptcy under Chapter 9 of the United States Bankruptcy Code. As a result of Orange County's economic dependence on the County Pools and their subsequent collapse, the County has not repaid or repurchased approximately $910 million in municipal securities at the time they were to mature by their original terms or were tendered for repurchase.19

III. The Supervisors Authorized the Issuance of Municipal Securities in 1994

A. The Municipal Securities Offerings

In 1994, the County conducted the six municipal securities offerings that are the subject of this report. These offerings were directly related to the County Pools in one or more of the following ways: 1) the proceeds from certain offerings were reinvested in the County Pools to obtain interest earnings; 2)

the funds pledged to repay certain of the securities were invested in the County Pools; 3) the County Pools agreed to repurchase or repay certain of the securities; and/or 4) the County's economic reliance on the County Pools materially affected its ability to repay the securities.

The Official Statements for these offerings variously contained material misstatements and omissions of fact regarding:

1) the County Pools, including the County Pools' investment strategy and investment results, and the manipulation of the County Pools' yield, which matters affected the issuer's ability to repay the municipal securities and the County Pools' ability to perform under agreements to repurchase or provide for repayment of the municipal securities; 2) Orange County's financial condition, including its economic reliance on the investment results of the County Pools as a source of funds to repay its obligations on the securities; 3) the tax-exempt status of the offering; 4) an undisclosed cap on the interest rate payable to investors on certain variable rate municipal securities sold in the offerings; and 5) the unauthorized use of an audit report.

1. The Reinvestment Offering

The County conducted one reinvestment offering in 1994, the $600,000,000 COUNTY OF ORANGE, CALIFORNIA 1994-95 TAXABLE NOTES, issued on July 8, 1994. The purpose of this offering was to raise funds to reinvest in the County Pools for profit. In such transactions, an issuer such as Orange County expects to generate profits by investing at a rate of return that is higher than the rate of interest to be paid to the purchasers in the offering.

The County deposited the proceeds from this Reinvestment Offering into an account pledged to repay the notes. The Official Statement for this Reinvestment Offering disclosed that the County intended to invest the pledged funds in the County Pools and that, if an investment loss occurred, the County would satisfy the deficiency from any other moneys lawfully available for repayment. The lawfully available funds consisted essentially of funds in the discretionary budget.

2. The Tax And Revenue Anticipation Note Offerings

In 1994, the County conducted two separate offerings of tax and revenue anticipation notes ("TRANs"), raising a total of $200 million for the purpose of funding cash flow deficits. These offerings were the $169,000,000 COUNTY OF ORANGE, CALIFORNIA 1994-95 TAX AND REVENUE ANTICIPATION NOTES, SERIES A, issued on July 5, 1994, and the $31,000,000 COUNTY OF ORANGE, CALIFORNIA

1994-95 TAX AND REVENUE ANTICIPATION NOTES, SERIES B, issued on August 11, 1994. TRANs are designed to help local governments cover periodic cash flow deficits that arise because they receive revenues infrequently during the year while their working capital expenses remain constant. Such notes are later repaid with the expected tax and other revenue received.

In the Official Statements for these offerings, the County represented that the money pledged to repay the notes would be deposited in the County Pools. The Official Statements further advised prospective investors that, if Orange County suffered an investment loss and the repayment funds were insufficient to repay the notes, the County would satisfy the deficiency from any other moneys lawfully available for repayment. The lawfully available funds consisted essentially of funds in the discretionary budget.

3. The Teeter Offerings

The County conducted two Teeter offerings in 1994: the $111,000,000 COUNTY OF ORANGE, CALIFORNIA 1994-95 (TEETER PLAN) TAXABLE NOTES, issued on July 20, 1994; and the $64,000,000 COUNTY OF ORANGE, CALIFORNIA 1994-95 (TEETER PLAN) TAX-EXEMPT NOTES, issued on August 18, 1994. Separately, the County Pools guaranteed repayment of the Teeter notes pursuant to Standby Note Purchase Agreements. The purpose of the Teeter offerings was to fund the Teeter Plan, which is an alternate method of property tax distribution. Pursuant to this plan, Orange County pays local taxing entities (such as school districts) their share of property taxes based upon levy rather than actual collection. Orange County then retains all property taxes, and the penalties and interest thereon, upon collection.

The Official Statements for the Teeter notes represented that the County planned to invest certain delinquent tax receipts pledged to repay the Teeter Notes in the County Pools. The County Pools also agreed to repurchase the Teeter Notes, through Standby Note Purchase Agreements, which agreements obligated the Treasurer, as fund manager of the County Pools, to purchase the Teeter notes to the extent that there were insufficient funds to repay them. The Official Statements further advised prospective investors that if the repayment funds were insufficient, any deficiency would be satisfied from moneys received under the Standby Note Purchase Agreements and other moneys lawfully available for repayment. The lawfully available funds consisted essentially of funds in the discretionary budget.

4. The Pension Bond Offering

Finally, in September 1994, the County issued taxable Pension Obligation Bonds for the purpose of funding the County's unfunded, but accrued, pension liability. The Pension Bonds were issued on September 28, 1994, in two series: the $209,840,000 COUNTY OF ORANGE, CALIFORNIA TAXABLE PENSION OBLIGATION BONDS SERIES 1994A; and the $110,200,000 COUNTY OF ORANGE, CALIFORNIA TAXABLE PENSION OBLIGATION BONDS SERIES 1994B. One feature of the Series 1994B bonds was that investors had the right to tender their bonds to a remarketing agent for repurchase. A remarketing agent would attempt to resell the bonds during a seven-day period. If the bonds could not be remarketed, the County Pools, pursuant to a Standby Withdrawal Agreement, stood ready to purchase the tendered securities in an amount up to the County's unrestricted funds in the County Pools, which included funds in the County's discretionary budget.

B. Procedures Regarding Approval Of Municipal Securities Offerings

Final authority to approve each issuance of Orange County municipal securities rested with the Supervisors, pursuant to State law. Short-term financings in which the securities matured in thirteen months or less were submitted to the Supervisors for approval on the Treasurer's recommendation. With respect to debt securities in which the maturities exceeded thirteen months, the County Administrative Officer initiated the recommendation for Board action instead of the Treasurer.

Municipal securities offerings were submitted to the Board for its approval through a document entitled Agenda Item Transmittal, prepared by the Treasurer for short-term note offerings and the County Administrative Officer for long-term bond offerings. The Agenda Item Transmittal typically contained a very brief description of a particular transaction and was sent to the Supervisors three to five business days prior to a Board meeting. For short-term financings, other documents such as a Contract of Purchase, a proposed Board resolution and a draft of a Preliminary Official Statement were also prepared in advance of the Board meeting. These documents were known as "back-up" to the Agenda Item Transmittal.20

For the six offerings discussed in this Report, the Board adopted authorizing and sale resolutions. For each offering, the resolution adopted by the Supervisors: 1) authorized the issuance of the notes or bonds in a specified dollar amount; 2) approved the Preliminary Official Statement in the draft form presented; 3) delegated authority to the Treasurer or the Assistant Treasurer (or, in the case of the Pension Obligation Bonds, to the County Administrative Officer) to: execute a "deemed final" certificate pursuant to Exchange Act Rule 15c2-12; cause the blanks in the Preliminary Official Statement to be filled in and finalize the Preliminary Official Statement; and execute the Official Statement and to deliver the same to the underwriter; and 4) approved the Official Statement for the offering with such revisions as the Treasurer or Assistant Treasurer (or, in the case of the Pension Bonds, the County Administrative Officer) determined were necessary to make the Official Statement true and correct in all material respects.

In addition, the County retained financial advisers, bond counsel and underwriters to assist in these municipal securities offerings. The County also retained a national accounting firm to audit the County's financial statements. The Supervisors approved the retention of these professionals. While the Supervisors believed that they could rely on these professionals, the Supervisors never questioned the professionals regarding the disclosure in the Official Statements, despite their knowledge of facts calling into question the County's ability to repay the securities.

In preparation for Board meetings, the Supervisors and/or their executive assistants attended weekly briefings regarding the items on the upcoming agenda, which might consist of 100 or more items. These briefings generally lasted between one and two hours and were conducted by the County Administrative Officer and/or his staff. Prior to the briefing, the County Administrative Officer reviewed each agenda item, including those concerning the securities offerings, and typically concurred with the recommendations made by the Treasurer. The County Administrative Officer's review was principally focused on ensuring that the agenda item was consistent with both the adopted budget and the Board's policies.

The Supervisors' executive assistants reviewed the Agenda Item Transmittals and occasionally the back-up documentation. The level of review performed by an executive assistant varied considerably, ranging from mere receipt of the Agenda Item Transmittal to reviewing and summarizing both the Agenda Item Transmittal and back-up documentation, when such documentation was available.

The level of review performed by each Supervisor varied. For example, some of the Supervisors reviewed the Agenda Item Transmittal and summaries of the Agenda Item Transmittal back-up documentation; however, no Supervisor recalled reading any of the draft Preliminary Official Statements or related documents. At least one Supervisor did not review any written documentation and instead relied on the County Administrative Officer and his staff and that Supervisor's executive assistant for advice on how to vote.

Each of the six offerings was placed on the Board's "consent calendar" which contained the vast majority of the agenda items. Each of the subject offerings was approved by consent.

IV. The Supervisors failed to take steps to assure that the County's financial condition was disclosed when they authorized the issuance of Municipal Securities in 1994

Through the formulation and adoption of the County budget, the Supervisors were aware of the County's increasing use of interest earnings from County funds invested in the County Pools as a source of revenue to balance the discretionary portion of the County's budget.

In connection with the budget approval process in fiscal years 1993-94 and 1994-95, the Supervisors were copied on reports from the County Auditor-Controller (the "County Auditor") to the County Administrative Officer discussing the availability of discretionary funds. These documents reported that interest income was a significant factor in balancing the discretionary budget, particularly in 1994.21

The first report in 1994 was distributed in February, and referred to the County's use of interest earnings to offset decreases in other revenue sources. Similarly, the May 1994 County Auditor's report cautioned that the projected budget included interest earnings that were "significant," and that the County could not rely on that source "for the long term." The report further stated that interest earnings had "become an increasingly important source of revenue" and were subject to a variety of factors that may cause such revenue to fluctuate significantly." The May County Auditor's report concluded by advising that "prudent management of one-time revenues [e.g., certain kinds of interest income] is critical to our investment policies and bond rating."

In the August 1994 County Auditor's report, which was copied to the Supervisors prior to the Pension Bond Offering, the County Auditor asserted that "we should be concerned that interest income . . . [is] financing a significant portion of the budget. The [fiscal year] 1995 interest income projection represents 35 percent of the available financing and is our single largest source of discretionary revenue." Further, the report advised that "[i]nterest income is projected based on increased earnings due to increased taxable and nontaxable borrowings," making clear that, in order to balance the budget, the County was issuing an increasing number of municipal securities offerings in order to obtain increased interest earnings on the investment of such funds.22

Despite the use of investment income to balance the County's discretionary budget, the Supervisors testified that they did not understand the investment strategy, the risks of that strategy or the potential risk of loss to the County Pools' principal.23 However, the Board was provided with certain information regarding the County Pools. This information consisted of the Treasurer's annual financial statements, which statements discussed in general terms the County Pools, including the investment strategy and results. For example, in the September 1993 annual financial statement addressed to, and received by the Board, the Treasurer reported to the Supervisors that the County Pools' strategy involved the use of leverage of approximately 2 to 1 and structured or floating rate securities, and was predicated on interest rates remaining low over the next three years. The Treasurer further advised that the County's investment returns were higher than other local investment pools because of the use of reverse repurchase agreements which added an additional two and one-half percent to the yield. Additionally, the Treasurer also stated that it was his investment policy to hold all securities purchased to maturity, that it was his opinion that interest rates could not be sustained at a high rate and that it was also his opinion that there was no risk of principal loss. In September 1994, the Treasurer reported to the Board that he continued to use reverse repurchase agreements which added an additional two percent yield to the portfolio.

The Treasurer had in prior years submitted to the Board monthly reports of investment transactions, as required by California law; however, he ceased submitting such reports in 1991. The Board took no steps to require the Treasurer to comply with State law and produce the reports.

As a result, the Supervisors failed to have sufficient information concerning the investment of County funds and the impact of the investment of those funds on the financial condition of the County and its ability to repay investors in Orange County's municipal securities.

When the Supervisors approved the 1994 offerings of municipal securities discussed above, they were well aware of the increasing budgetary pressure caused by the declining availability of property tax revenues and other discretionary revenues. Indeed, at least one of the offerings was conducted for the sole purpose of providing additional income to the County. Moreover, the Supervisors were informed that interest projections were based on increased amounts of borrowing.

Despite their knowledge of the County's increasing use of interest income from the County Pools to balance the discretionary budget, the Supervisors approved the Official Statements for the various offerings without taking steps to assure disclosure of this information. They never received or asked to receive a copy of any Preliminary Official Statement once finalized, or any final Official Statement; nor did they question the County's officials, employees or other agents concerning the disclosure regarding the County's financial condition. Thereafter, the Supervisors chose to authorize and approve approximately $1.3 billion of municipal securities offerings.

V. Conclusion

In addition to the responsibilities imposed on issuers of municipal securities, the antifraud provisions of the federal securities laws impose responsibilities on a public official who authorizes the offer and sale of securities. A public official who approves the issuance of securities and related disclosure documents may not authorize disclosure that the public official knows to be materially false or misleading; nor may the public official authorize disclosure while recklessly disregarding facts that indicate that there is a risk that the disclosure may be misleading. When, for example, a public official has knowledge of facts bringing into question the issuer's ability to repay the securities, it is reckless for that official to approve disclosure to investors without taking steps appropriate under the circumstances to prevent the dissemination of materially false or misleading information regarding those facts. In this matter, such steps could have included becoming familiar with the disclosure documents and questioning the issuer's officials, employees or other agents about the disclosure of those facts.

The Supervisors were aware of the financial condition of the County and that interest income from the County Pools had become a major component of the County's discretionary budget in an environment of increasing budgetary pressure. The Supervisors also knew that the increase in such interest income was connected to the increased amount of County municipal securities offerings and approved at least one offering conducted solely to raise funds for reinvestment. Based on the Supervisors' significant knowledge relating to the County's finances, they should have understood the materiality of that information to the County's ability to repay the municipal securities. The Supervisors therefore had a duty to take steps appropriate under the circumstances to assure accurate disclosure was made to investors regarding this material information. The Supervisors, however, failed to take appropriate steps. For example, while the Supervisors believed that they could rely on the County's officials, employees or other agents with respect to these offerings, they never questioned these officials, employees or other agents regarding the disclosure of this information; nor did they become familiar with the disclosure regarding the County's financial condition. Had they taken such or similar steps, it should have been apparent to each Supervisor, in light of his or her knowledge, that the disclosure regarding the County's financial condition may have been materially false or misleading.

Consequently, the Supervisors failed to assure appropriate disclosure of these matters by authorizing and approving the dissemination of misleading disclosure documents. This failure denied investors the fair and accurate disclosure required under the federal securities laws.

By the Commission.

Footnotes

-[1]-As discussed below, the County Pools were instrumentalities of the County and were not established as legal entities distinct from the County. The County Pools operated as an investment fund managed by Orange County in which the County and various local governments or districts invested or deposited public funds.

-[2]-Section 21(a) of the Exchange Act authorizes the Commission, in its discretion, to publish information "concerning any . . . violations" and to investigate "any facts, conditions, practices or matters which it may seem necessary or proper" in fulfilling its responsibilities under the Exchange Act. This does not constitute an adjudication of any fact or issue addressed herein. The Supervisors have consented to the issuance of this Report without admitting or denying any of the statements or conclusions set forth herein.

-[3]-See Securities and Exchange Commission v. Robert L. Citron and Matthew R. Raabe, Civil Action No. (C.D. Cal.).

-[4]-In the Matter of County of Orange, California; Orange County Flood Control District; and County of Orange, California Board of Supervisors, Exchange Act Release No. ____________ (January ___, 1996).

-[5]-The Commission has previously reviewed disclosure practices of issuers and others in connection with offerings of municipal securities. See Staff of the Securities and Exchange Commission, Staff Report on Transactions in Securities of the City of New York, Transmitted to subcommittee on Economic Stabilization of the Committee on Banking, Finance and Urban Affairs, House of Representatives, 95th Cong., 1st Sess. (Comm. Print 1977); Final Report in the Matter of Transactions in the Securities of the City of New York, Exchange Act Release No. 15,547, [1979 Transfer Binder] Fed. Sec. L. Rep. (CCH) 81,936 (Feb. 5, 1979); Staff Report on the Investigation in the Matter of Transactions in Washington Public Power Supply System Securities, [1988-1989 Transfer Binder] Fed. Sec. L. Rep. (CCH) 84,327 (1988); Proposal of Exchange Act Rule 15c2-12, Exchange Act Release No. 26,100, [1988-1989 Transfer Binder] Fed. Sec. L. Rep. (CCH) 84,326 (Sept. 22, 1988); Adoption of Exchange Act Rule 15c2-12, Exchange Act Release No. 26,985, 4 Fed. Sec. L. Rep. (CCH) 25,098 (June 28, 1989) (the "1989 Release"); Division of Market Regulation, Securities and Exchange Commission, Staff Report on the Municipal Securities Market (Sept. 1993); Statement of the Commission Regarding Disclosure Obligations of Municipal Securities Issuers and Others, Securities Act Release No. 7049 and Exchange Act Release No. 33,741, 7 Fed. Sec. L. Rep. (CCH) 72,442 (March 9, 1994) (the "March 1994 Release"); Proposal of Amendments to Exchange Act Rule 15c2-12, Exchange Act Release No. 33,742, [1993-1994 Transfer Binder] Fed. Sec. L. Rep. (CCH) 85,324 (March 9, 1994); Adoption of Amendments to Exchange Act Rule 15c2-12, Exchange Act Release No. 34,961, [1994-1995 Transfer Binder] Fed. Sec. L. Rep. (CCH) 85,456 (Nov. 10, 1994).

-[6]- See March 1994 Release; 1989 Release, supra note 5, at 18,199-10 and n.84; see also In re Citisource, Inc. Securities Litigation, 694 F. Supp. 1069, 1072-75 (S.D.N.Y. 1988); Draney v. Wilson, Morton, Assaf & McElligot, 597 F. Supp. 528, 531 (D. Ariz. 1983).

-[7]-See Board of Supervisors of Modoc County v. Archer, 18 Cal. App. 3d 717, 721, 96 Cal. Rptr. 379, 382 (1971); Cal. Gov't Code § 23005 (West 1988).

-[8]- Cal. Const. Art XI, § 1 (West Supp. 1995); Cal. Gov't Code § 23003 (West 1988).

-[9]-Cal. Gov't Code § 25250 (West 1988).

-[10]-Cal. Gov't Code § 25303 (West 1988).

-[11]-Cal. Gov't Code § 53601 (West Supp. 1995).

-[12]-Cal. Gov't Code §§ 29000-29093 (West 1988 & Supp. 1995).

-[13]-Cal. Gov't Code § 25256 (West 1988).

-[14]-See Cal. Gov't Code §§ 53601, 53607 and 53608 (West 1983 & Supp. 1995). See also Cal. Gov't Code § 25303 (West 1988) ("board of supervisors shall supervise the official conduct of all county officers, . . . particularly insofar as the functions and duties . . . relate to the assessing, collecting, safekeeping, management, or disbursement of public funds").

-[15]-For example, at the Treasurer's request in 1985, the Board authorized the Treasurer to engage in reverse repurchase agreements. Additionally, in 1993, the Treasurer sought and received Board authorization to invest in securities with maturities exceeding five years.

-[16]-For fiscal year 1994-95, Orange County's total budget was approximately $3.7 billion. Of that amount, the County was required to spend about 88%, or $3.266 billion, for specific purposes. The remaining 12%, or $462.5 million, comprised Orange County's discretionary budget. The largest portion of the $462.5 million discretionary budget, $162 million, or 35%, was budgeted to come from investment income on Orange County's investment in the County Pools.

-[17]-For fiscal year 1991-92, interest earnings were $36.8 million, or 7.4% of the discretionary budget; for fiscal year 1992-93, $64.5 million, or 12.4% of the discretionary budget; and for fiscal year 1993-94, they were budgeted at $58.3 million, or 15.1% of the discretionary budget.

-[18]-Property tax revenues comprised 52.8% of the total discretionary budget for fiscal year 1991-92, 49.1% for fiscal year 1992-93, 33.4% for fiscal year 1993-94, and were projected to be only 25.4% for fiscal year 1994-95.

-[19]-These municipal securities have been rated in default by one rating agency. In Orange County's bankruptcy proceeding, the County, the noteholders and the creditors' committee agreed to extend, or rollover, the maturity of approximately $800 million of these municipal securities to June 30, 1996.

-[20]-The back-up documentation was not always submitted with the Agenda Item Transmittal. In some instances, the back-up documentation was only filed the day before the Board meeting, or was not distributed to the Supervisors' offices but only to the Clerk of the Board. For example, for two offerings in 1994, the draft Preliminary Official Statements were not filed with the Clerk of the Board until the day before the meeting. For a third offering in 1994, the draft Preliminary Official Statement was filed with the Clerk of the Board on the Friday before the meeting scheduled for Tuesday.

-[21]- In the 1993 County Auditor's reports, the County Auditor stated that one-time revenues, such as certain types of interest earnings, were increasingly being used to balance the County budget and that it was "not fiscally responsible to continue budgeting in this manner any longer."

-[22]-The six offerings, raising a total of approximately $1.3 billion, were authorized by the Supervisors during a three-month period in 1994 --the same three months during which the Supervisors were also in the process of adopting the County's final budget. Further, the municipal securities issued in all but one of the offerings matured one year from the date of their issuance, thereby increasing the significance of the County's current financial condition as it related to the County's ability to repay the securities.

-[23]-During the course of the Treasurer's re-election campaign in the Spring of 1994, the Treasurer's investment strategy was criticized by his opponent as too risky for public funds. The Supervisors were aware of the criticism. The public criticism, however, did not prompt any inquiry or review by the Supervisors.

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Injunctive Proceedings

Securities and Exchange Commission v. Larry K. O'Dell, Civ. Action No. 98-948-CIV-ORL-18A (M.D. Fla.); Litigation Release No. 15858 (August 24, 1998) (settled final order).

The Securities and Exchange Commission today announced the filing of a Complaint against Larry K. O'Dell, the former Director of Public Works for Osceola County, Florida, for failing to disclose his receipt of bribes for assisting a brokerage firm in its selection to sell County bonds.

The Complaint, filed in the Middle District of Florida, alleges the following: In 1992, while the Director of Public Works, O'Dell entered into a secret arrangement with a consultant working for a brokerage firm. The arrangement provided that, in exchange for O'Dell's assistance with the brokerage firm's selection as one of the firms to sell the $149,999,313 Osceola Parkway Project bonds (dated July 15, 1992), the consultant would share his compensation from the firm with O'Dell. After entering into the arrangement, O'Dell persuaded the Osceola County Manager to put the firm in the selling group for the bonds, without disclosing his economic interest in the matter to the County Manager. Following closing of the bond offering, the consultant gave O'Dell money and other things of value totaling $1,755.82. Neither the arrangement nor the benefits conferred thereunder were disclosed to the issuer of, or investors in, the bonds. O'Dell's failure to disclose the arrangement, the payments, and the actual and potential conflicts of interest created thereby, violated the following antifraud provisions of the federal securities laws: Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934, and Rule 10b-5 thereunder.

Simultaneously with the filing of the Complaint, and without admitting or denying the allegations contained in the Complaint, O'Dell agreed to the entry of a final judgment permanently enjoining him from future violations of Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder; and ordering him to pay (1) disgorgement to Osceola County totaling $2,649.57, consisting of the $1,755.82 O'Dell received pursuant to the undisclosed arrangement, plus prejudgment interest thereon, and (2) a civil penalty of $5,000.

Also today, the United States Attorney for the Middle District of Florida filed a criminal plea agreement with O'Dell, pursuant to which O'Dell has agreed to plead guilty to a single felony count of bribery in violation of 18 U.S.C. § 666, arising from the conduct that is the subject of the Commission's Complaint.

The Commission's investigation concerning pay-to-play practices in Florida continues.

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SEC v. Robert L. Citron and Matthew R. Raabe, Civ. Action No. SACV 96-74 GLT (C.D. Cal.), Litigation Release No. 14792 (January 24, 1996) (complaint).

The United States Securities and Exchange Commission announced that on January 24, 1996, the Commission brought its first enforcement actions relating to the Commission's investigation into the financial collapse of Orange County, California and the Orange County Investment Pools (the "County Pools"). Specifically, the enforcement actions taken by the Commission today are:

  • the filing of a complaint in the United States District Court against former Orange County Treasurer-Tax Collector Robert L. "Bob" Citron and former Assistant Treasurer Matthew R. Raabe

  • the institution of a cease and desist administrative proceeding and the entry of a cease and desist order against Orange County, the Orange County Flood Control District and the Orange County Board of Supervisors

All of the above parties were charged with violations of the antifraud provisions of the federal securities laws, Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder. Citron and Raabe, without admitting or denying the allegations in the complaint, consented to the entry of final judgments of permanent injunction, enjoining them from future violations of the antifraud provisions. Orange County, the Flood Control District and the Board of Supervisors submitted an Offer of Settlement, in which, without admitting or denying the findings, they consented to the entry of an Order which makes findings and orders them to cease and desist from committing or causing any violation and any future violation of the antifraud provisions. In addition, all of the parties agreed to cooperate with the Commission staff in the continuing investigation and any resulting litigation.

Also on January 24, the Commission issued a Report of Investigation concerning the conduct of individual members of the Board of Supervisors, namely, Thomas F. Riley, William G. Steiner, Roger R. Stanton, Gaddi H. Vasquez and Harriett M. Wieder. The Report of Investigation does not constitute an adjudication of any fact or issue addressed in the Report. The Supervisors have consented to the issuance of the Report without admitting or denying any of the statements or conclusions addressed therein. The enforcement proceedings concern the fraudulent offer and sale of over $2.1 billion in municipal securities issued in 1993 and 1994 by Orange County, the Flood Control District and a school district located within Orange County, which was not named in the actions. Raabe, acting in his capacity as a County employee, was principally responsible for the two offerings by the school district.

THE MUNICIPAL SECURITIES OFFERINGS

The following eleven municipal securities offerings are the subject of the enforcement actions taken today:

  • the $400,000,000 COUNTY OF ORANGE, CALIFORNIA 1993-94 TAXABLE NOTES issued on July 1, 1993 ("Reinvestment Notes")

  • the $600,000,000 COUNTY OF ORANGE, CALIFORNIA 1994-95 TAXABLE NOTES issued on July 8, 1994 ("Reinvestment Notes")

  • the $299,660,000 COUNTY OF ORANGE, CALIFORNIA 1994-95 POOLED TAX AND REVENUE ANTICIPATION NOTES, issued on July 1, 1994 ("TRANs")

  • the $169,000,000 COUNTY OF ORANGE, CALIFORNIA 1994-95 TAX AND REVENUE ANTICIPATION NOTES, SERIES A issued on July 5, 1994 ("TRANs")

  • the $31,000,000 COUNTY OF ORANGE, CALIFORNIA 1994-95 TAX AND REVENUE ANTICIPATION NOTES, SERIES B issued on August 11, 1994 ("TRANs")

  • the $111,000,000 COUNTY OF ORANGE, CALIFORNIA 1994-95 (TEETER PLAN) TAXABLE NOTES issued on July 20, 1994 ("Teeter Notes")

  • the $64,000,000 COUNTY OF ORANGE, CALIFORNIA 1994-95 (TEETER PLAN) TAX-EXEMPT NOTES issued on August 18, 1994 ("Teeter Notes")

  • the $209,840,000 COUNTY OF ORANGE, CALIFORNIA TAXABLE PENSION OBLIGATION BONDS SERIES 1994A and the $110,200,000 COUNTY OF ORANGE, CALIFORNIA TAXABLE PENSION OBLIGATION BONDS SERIES 1994B both issued on September 28, 1994 ("Pension Bonds")

  • the $100,000,000 ORANGE COUNTY FLOOD CONTROL DISTRICT TAXABLE NOTES issued on August 2, 1994 ("Reinvestment Notes")

  • the PLACENTIA-YORBA LINDA UNIFIED SCHOOL DISTRICT $50,000,000 TAXABLE NOTES issued on August 26, 1993 ("Reinvestment Notes")

  • the PLACENTIA-YORBA LINDA UNIFIED SCHOOL DISTRICT $50,000,000 TAXABLE NOTES issued on August 1, 1994 ("Reinvestment Notes")

The County Pools and their relation to the Municipal Securities offerings

Each of the municipal securities offerings was significantly dependent upon the County Pools such that accurate disclosure about the County Pools was material to investors. The County Pools operated as an investment fund managed by Orange County in which the County and various local governments or districts invested or deposited public funds. The County Pools consisted of the Commingled Pool, the Bond Pool and Specific Investments. Each of the municipal securities offerings was connected to the County Pools in one or more ways:

  • the proceeds from certain offerings were reinvested in the County Pools to obtain interest earnings;

  • the funds pledged to repay certain of the securities were invested in the County Pools;

  • the County Pools agreed to repurchase or repay certain of the securities; and/or

  • the County's economic reliance on the County Pools materially affected its ability to repay the securities.

Misstatements and omissions alleged in the Commission's Actions

As set forth below, the County, the Flood Control District, the Board of Supervisors, Citron and Raabe variously made material misstatements and omissions of fact in the Official Statements for the eleven offerings, regarding:

  • the County Pools, including the County Pools' investment strategy and investment results, manipulation of the County Pools' yield and investment in the County Pools of the funds pledged to repay the municipal securities. These matters affected the issuer's ability to repay the securities and the County Pools' ability to perform under agreements to repurchase or provide for repayment of the securities;

  • Orange County's financial condition, including its economic reliance on interest income from the County Pools as a source of funds to repay the purchasers of the securities;

  • the tax-exempt status of the offering;

  • an undisclosed interest rate cap on certain variable rate securities sold in the offerings; and

  • the unauthorized use of an audit report prepared by an outside accounting firm.

In addition, in connection with the offer and sale of certain of the securities, misrepresentations were made to national securities rating agencies concerning the County Pools.

Misstatements and Omissions Regarding the County Pools

The Official Statements for the eleven offerings misrepresented or omitted to disclose material information concerning the County Pools, despite their significance to each of the offerings. Where the funds pledged to repay the noteholders were invested in the County Pools, the issuer looked to that investment to satisfy its repayment obligations. Any risks that those pledged funds would decrease affected the issuer's ability to repay the noteholders. Similarly, in the offerings where the County Pools agreed to repurchase the securities, disclosure regarding the County Pools was important so that investors could evaluate the County Pools' financial strength and ability to perform under the agreement. In addition, in certain Orange County offerings in which other County funds were a source of repayment, disclosure regarding the County Pools was important to investors because availability of such other funds depended upon the County Pools' performance.

Citron and Raabe caused the County Pools to engage in a very risky investment strategy. The strategy involved using a high degree of leverage by obtaining funds through reverse repurchase agreements on a short-term basis (less than 180 days), and investing in securities with a longer maturity (generally two to five years), many of which were volatile derivative securities.

The County Pools' investment return was to result principally from the interest received on the securities in the County Pools. Leverage enabled the County Pools to purchase more securities for the purpose of generating increased interest income. This strategy was profitable as long as the County Pools were able to maintain a positive spread between the long-term interest rate received on the securities and the short-term interest rate paid on the funds obtained through reverse repurchase agreements.

The Official Statements variously contained false or misleading disclosure regarding the County Pools in four areas:

1. Investment Strategy and the Risks of That Strategy

The Official Statements for all eleven offerings misrepresented and/or failed to disclose material information concerning the County Pools' investment strategy and the risks of that strategy. With respect to the investment strategy, the Official Statements failed adequately to disclose that the strategy: 1) was risky; 2) was predicated upon the assumption that prevailing interest rates would remain at relatively low levels; 3) involved a high degree of leverage through the use of reverse repurchase agreements; 4) involved a substantial investment in derivative securities, including inverse floaters that are negatively affected by a rise in interest rates; and 5) was very sensitive to changes in the prevailing interest rate because of the leverage.

During 1993 and 1994, Citron and Raabe leveraged the County Pools to amounts ranging from 158% to over 292%. Moreover, volatile derivative securities comprised from 27.6% to 42.2% of the combined County Pools' portfolio and from 31% to 53% of the Commingled Pool's portfolio. From January 1993 through November 1994, from 24.89% to 39.84% of the County Pools' total portfolio consisted of inverse floaters. In contrast, the County Pools invested only sparingly in securities that paid interest rates directly related to the prevailing interest rate (variable rate securities) or securities that paid interest rates that rose at certain stated intervals to certain stated rates (step-up securities). From January 1993 through November 1994, only 1.84% to 5.59% of the County Pools' portfolio consisted of such securities. Accordingly, the County Pools invested in inverse floaters to speculate on the direction of short and long-term interest rates.

The Official Statements also failed to adequately disclose the risks of the investment strategy. Specifically, if interest rates rose, as they did in 1994, it would have a substantial negative impact on the County Pools and, because of its dependence on the County Pools, the County itself.

First, the reverse repurchase costs would increase and the income that the County Pools earned from the inverse floaters in the portfolio would decrease, creating lower earnings for the County Pools. Second, the County Pools' securities would decline in market value. Third, as the value of the County Pools' securities fell, the County would suffer collateral calls from broker-dealers and reductions in loan amounts on the reverse repurchase agreements. All three events would reduce the income that Orange County would receive from the County Pools, with the possible loss of principal of invested funds as well. None of these risks were disclosed.

2. Investment Results

The Official Statements for the nine offerings conducted in 1994 failed to disclose material information concerning the County Pools' investment results. During 1994, the County Pools' investment income declined because reverse repurchase costs had increased while the income that the County Pools earned from inverse floaters had decreased. Additionally, the County Pools had suffered substantial market losses in the overall value of the portfolio. The declining market value of securities in the County Pools resulted in collateral calls and reductions in amounts obtained under reverse repurchase agreements and liquidity. These results were not disclosed to investors in the 1994 offerings.

3. Manipulation of the Yield

The Official Statements for eight offerings--the three 1994 Reinvestment Notes, the $169 Million and the $31 Million TRANs, the two Teeter Notes and the Pension Bonds--misrepresented that the County Pools' yield would be distributed pro rata to the Participants. Citron and Raabe had in fact diverted interest income from certain Commingled Pool Participants to an account for the benefit of Orange County. As a result, the Commingled Pools' yield was misrepresented in the Official Statements for these offerings. In late 1994, Citron and Raabe used a portion of the misappropriated funds to supplement the Commingled Pools' yield. The "supplemented" yield was then falsely reported in the Official Statement for the Pension Bonds.

Citron and Raabe also shifted market losses from some Specific Investment Participants, including the County, to the Commingled Pool, causing the Commingled Pool Participants to suffer losses that should have been borne by others. This information was not disclosed and also rendered false the representations regarding the pro rata distribution.

4. Investment in the County Pools

The Official Statements for the $400 Million Reinvestment Notes, the 1993 $50 Million Reinvestment Notes and the $299.66 Million Pooled TRANs stated that the funds pledged to repay the Notes would be invested as permitted by the resolutions authorizing the issuance and sale of the Notes and by California law. None of the Official Statements for these three offerings disclosed that the issuer intended to invest such funds in the County Pools. In fact, there is no narrative discussion of the Pools in the Official Statements for the two reinvestment offerings.

Misstatements and Omissions Regarding the Financial Condition of the County

The Official Statements for six of Orange County's offerings failed to disclose Orange County's true financial condition, in particular, that the County was using interest income from the County Pools as the largest single source of revenue for its discretionary budget. These offerings are the $600 Million Reinvestment Notes, the $169 Million and $31 Million TRANs, the two Teeter Notes and the Pension Bonds. Further, the County's use of this interest income as a revenue source was increasing while other traditional revenue sources, such as property taxes, were decreasing. The funds invested to generate investment income came from two sources, the County's own funds and proceeds from the reinvestment offerings. Orange County had invested essentially all of its liquid assets in the County Pools, including funds to repay its municipal securities. In addition, the investment of virtually all of the County's liquid assets in the County Pools exposed Orange County to the volatility of the County Pools, including the potential loss of not only interest income, but of principal as well. The failure to disclose this information rendered disclosure regarding the County's financial condition and its ability to repay its securities materially misleading.

This information regarding Orange County's financial condition was important as it related to Orange County's ability to repay its obligations, including the municipal securities debt. Moreover, with the exception of the Pension Bonds, these County offerings were short-term general obligations, which, under California law, the County could repay only with funds received or accrued during fiscal year 1994-95. Therefore, given the County's use of interest income from the County Pools, if the County Pools' investments performed poorly, as eventually occurred, the County would have a budget deficit and could not repay the securities and meet its other expenses. The County's financial condition was also material to the County's ability to perform under certain agreements to repurchase or provide for repayment of the securities.

Misstatements and Omissions Regarding the Tax-Exempt Status of the Offering

The Official Statements for the $169 Million and $31 Million TRANs represented that these securities offerings were tax-exempt. These TRAN offerings were to fund the County's cash flow deficit. In order to qualify for tax-exempt status, the offerings must comply with certain IRS regulations that limit the amount that may be raised through tax-exempt offerings. With respect to both of these offerings, the County jeopardized the tax-exempt status of these offerings by increasing the size of its cash flow deficit, and, thereby, the size of the offering, through artificial means. None of the facts relating to the County's artificial increase of the size of its cash flow deficit were disclosed in the Official Statements for these offerings.

Misstatements and Omissions Regarding an Undisclosed Cap on the Interest Rate Payable to Investors

The Official Statements for the $600 Million Reinvestment Notes, the $111 Million Teeter Notes and the $100 Million Reinvestment Notes each stated that they paid a variable interest rate connected to the one-month LIBOR. Undisclosed, however, was the fact that the Notes for each of these offerings contained a 12% cap on the maximum variable interest rate that would be paid by the County. While the existence of this cap was indicated on the face of the Notes, no disclosure was made to noteholders prior to purchase.

Misstatements and Omissions Regarding the Unauthorized Use of an Audit Report

The Official Statements for seven offerings falsely represented that the County's auditor "consented to the inclusion . . . of the County's audited financial statements. . ., together with the report accompanying the audited financial statements." The offerings which contained the false statement were the $600 Million Reinvestment Notes, the $400 Million Reinvestment Notes, the two Teeter Notes, the $169 Million TRANs, the $31 Million TRANs and the $100 Million Reinvestment Notes. This report and Orange County's audited financial statements were included as exhibits to the Official Statements for these offerings.

In fact, the auditors did not consent to the inclusion of their report, did not conduct any post-audit review and were not even aware that the Official Statements represented that they consented to the inclusion of the report until after the County filed for bankruptcy.

Misrepresentations to Rating Agencies

In presentations to national rating agencies relating to eight offerings--the $600 Million, the $100 Million and the 1994 $50 Million Reinvestment Notes, the $169 Million and the $31 Million TRANs, the two Teeter Notes and the Pension Bonds--Raabe misrepresented the County Pools' holdings. These misrepresentations ultimately ran to the purchasers of these securities. Raabe represented that only 20% of the County Pools' portfolio consisted of derivative securities. In fact, derivative securities comprised from 27.6% to 42.2% of the combined County Pools' portfolio and from 31% to 53% of the Commingled Pool's portfolio. In particular, inverse floaters comprised from 24.89% to 39.84% of the County Pools' holdings.

Raabe also misrepresented to rating agencies that money in an Orange County account designated the "Economic Uncertainty Fund" was available to pay the principal and interest on five offerings--the $600 Million Reinvestment Notes, the $169 Million and the $31 Million TRANs and the two Teeter Notes--and omitted to disclose that such funds had been misappropriated from the Commingled Pool Participants.

Report of Investigation Issued concerning Individual Members of the Board of Supervisors

Additionally, the Commission issued a Report of Investigation pursuant to Section 21(a) of the Exchange Act with respect to the conduct of the individual members of the Board of Supervisors in authorizing six of the Orange County offerings. The individual members of the Board of Supervisors have consented to the issuance of the Report, without admitting or denying any of the statements or conclusions contained in the Report.

In 1993 and 1994, the individual members of the Board included:

  • Thomas F. Riley, age 83, who was appointed Supervisor in 1974, elected to the Board two years later, and served continuously through 1994, after which he retired. Riley was the Chairman of the Board in 1994.

  • William G. Steiner, age 58, who was appointed Supervisor in 1993, elected in 1994, and is currently a member of the Board. His term expires on December 31, 1998.

  • Roger R. Stanton, age 58, who was first elected Supervisor in 1980, and is currently a member of the Board and its Chairman. His term expires on December 31, 1996.

  • Gaddi H. Vasquez, age 40, who was appointed to the Board in 1987, elected in 1988, and served continuously until his resignation on September 27, 1995. Prior to his resignation, Vasquez was the Chairman of the Board in 1995.

  • Harriett M. Wieder, age 75, who was first elected Supervisor in 1978, was Chairman of the Board in 1993 and a member through 1994.

The Commission is issuing this Report to emphasize the responsibilities under the federal securities laws of local government officials who authorize the issuance of municipal securities and related disclosure documents and the critical role such officials play with respect to the representations contained in the Official Statements for those securities.

In authorizing the issuance of securities and related disclosure documents, a public official may not authorize disclosure that the official knows to be false; nor may a public official authorize disclosure while recklessly disregarding facts that indicate that there is a risk that the disclosure may be misleading. When, for example, a public official has knowledge of facts bringing into question the issuer's ability to repay the securities, it is reckless for that official to approve disclosure to investors without taking steps appropriate under the circumstances to prevent the dissemination of materially false or misleading information regarding those facts. In this matter, such steps could have included becoming familiar with the disclosure documents and questioning the issuer's officials, employees or other agents about the disclosure of those facts.

In this case, the Supervisors approved Official Statements that, among other things, failed to disclose certain material information about Orange County's financial condition that brought into question the County's ability to repay its securities absent significant interest income from the County Pools. The Supervisors were aware of material information concerning Orange County's financial condition; this information called into question the County's ability to repay its securities. Nevertheless, the Supervisors failed to take appropriate steps to assure disclosure of these facts. In light of these circumstances, the Board members did not fulfill their obligations under the antifraud provisions of the federal securities laws in authorizing the issuance of the municipal securities and related disclosure documents.

The Commission's investigation remains ongoing.

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SEC v. Robert L. Citron and Matthew R. Raabe, Litigation Release No. 14913 (May 17, 1996) (settled final orders).

The United States Securities and Exchange Commission announced that on May 9, 1996, the Honorable Gary L. Taylor, United States District Court for the Central District of California, entered final judgments of permanent injunction against Robert L. Citron and Matthew R. Raabe. In its Complaint filed January 24, 1996, the Commission charged former Orange County Treasurer-Tax Collector Robert L. Citron and former Assistant Treasurer Matthew R. Raabe with violations of the antifraud provisions of the federal securities laws, Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder. Citron and Raabe, without admitting or denying the allegations in the Complaint, consented to the entry of final judgments of permanent injunction, enjoining them from future violations of the antifraud provisions. In addition, they agreed to cooperate with Commission staff in the continuing investigation and any resulting litigation.

The Complaint concerned the fraudulent offer and sale of over $2.1 billion in municipal securities issued in 1993 and 1994 by Orange County, the Orange County Flood Control District, and a school district located within Orange County. The Complaint alleged that Citron and Raabe made material misstatements and omissions of fact in the Official Statements for eleven municipal securities offerings, regarding:

  • the Orange County Investment Pools, including the County Pools' investment strategy and investment results, manipulation of the County Pools' yield and investment in the County Pools of the funds pledged to repay the municipal securities. These matters affected the issuer's ability to repay the securities and the County Pools' ability to perform under agreements to repurchase or provide for repayment of the securities;

  • Orange County's financial condition, including its economic reliance on interest income from the County Pools as a source of funds to repay the purchasers of the securities;

  • the tax-exempt status of certain offerings;

  • an undisclosed interest rate cap on variable rate securities sold in certain offerings; and

  • the unauthorized use of an audit report in certain offerings.

In addition, Raabe made misrepresentations to national securities rating agencies concerning the County Pools in connection with certain offerings.

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Securities and Exchange Commission v. Louis Bethune, Charles L. Howard and John Jackson, Civ. Action No. CV:95-B2509 (N.D. Ala.), Litigation Release No. 14675 (October 2, 1995) (complaint).

The United States Securities and Exchange Commission ("Commission") announced that on September 29, 1995, a complaint was filed in the United States District Court for the Northern District of Alabama seeking to permanently enjoin Louis Bethune ("Bethune"), Charles Howard ("Howard") and John Jackson ("Jackson") from further violations of the antifraud provisions of the federal securities laws. Bethune and Howard are longtime residents of Birmingham. Jackson is the mayor of a White Hall, a small town in central Alabama. The complaint alleges that the defendants participated in a fraudulent scheme to pledge $300 million in revenue bonds purportedly issued by the Redevelopment Authority of White Hall ("Authority") in an attempt to obtain a $255 million margin loan from a Sarasota, Florida office of Smith Barney, Inc. ("Smith Barney"). The complaint also alleges that prime bank securities do not exist and that all series of the bonds issued by the Authority contained multiple misrepresentations, including fundamental misrepresentations that the bonds were "Bank Guaranteed," and that they were backed by "Prime Bank Securities, issued by an acceptable institution in good standing, rated AA+ or higher by Standard & Poors. "The complaint seeks a permanent injunction, an order imposing civil monetary penalties on the defendants and other equitable relief.

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Securities and Exchange Commission v. Louis Bethune, Charles L. Howard and John Jackson, Litigation Release No. 15024 (August 26, 1996) (settled final order).

The United States Securities and Exchange Commission ("Commission") announced that on August 8, 1996, the Honorable Sharon Lovelace Blackburn of United States District Court for the Northern District of Alabama entered a final judgment of permanent injunction against defendant John Jackson, Mayor of White Hall, Alabama, prohibiting Jackson from future violations of Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934. Jackson consented to the entry of the permanent injunction against him without admitting or denying the allegations of the complaint.

The Commission's complaint, filed September 29, 1995, alleged that the defendants participated in a fraudulent scheme to pledge $300 million in revenue bonds purportedly secured by prime bank securities and issued by the Redevelopment Authority of White Hall ("Authority") in an attempt to obtain a $255 million margin loan from a Sarasota, Florida office of Smith Barney, Inc. ("Smith Barney"). The complaint also alleges that prime bank securities do not exist and that all series of the bonds issued by the Authority contained multiple misrepresentations, including fundamental misrepresentations that the bonds were "Bank Guaranteed," and that they were backed by "Prime Bank Securities, issued by a an acceptable institution in good standing." See also, LR.-14675/October 2, 1995.

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Securities and Exchange Commission v. Louis Bethune, Charles L. Howard and John Jackson, Litigation Release No. 15271 (February 28, 1997) (settled final order).

The Securities and Exchange Commission announced today that on February 20, 1997, the Honorable Sharon Lovelace Blackburn, United States District Judge for the Northern District of Alabama, entered a final judgment of permanent injunction against defendant Charles L. Howard ("Howard"), enjoining him from violating Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder. Upon sworn representations of a financial inability to pay a fine, no civil penalties were imposed. Howard consented to the relief without admitting or denying the allegations set forth in a complaint filed by the Commission on September 29, 1995. The complaint alleged that Howard, along with codefendants Louis Between and John Jackson, violated the antifraud provisions of the securities laws in the offer and sale of municipal bonds, the proceeds of which were to be used for downtown redevelopment projects in White Hall, Alabama. Howard and codefendant Bethune persuaded city officials to allow them to sell the bonds at face values disproportionate to the costs of the projects being funded by the bonds. The complaint also alleged that Howard and his codefendants misrepresented to investors that the bonds were backed by "Prime Bank Securities. "In fact, none of the bonds offered for sale by Howard were ever guaranteed or secured by any financial instrument which could be described as a prime bank security.

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Securities and Exchange Commission v. Terry D. Busbee and Preston C. Bynum, Civ. Action No. 95-30024 RV (N.D. Fla.), Litigation Release No. 14387 (January 23, 1995) (complaint).

The Securities and Exchange Commission ("Commission") announced today that it filed a Complaint for Injunctive and Other Equitable Relief and Civil Money Penalties ("Complaint") in the United States District Court for the Northern District of Florida against Terry D. Busbee ("Busbee"), an elected public official of the Escambia County Utilities Authority ("ECUA") from approximately 1984 through 1994, and Preston C. Bynum ("Bynum"), an employee of Stephens Inc. ("Stephens"), a municipal securities underwriter. The Complaint alleges that from at least 1990 through at least 1993, the defendants defrauded the ECUA and investors in three offerings of municipal securities issued by the ECUA. According to the Complaint, Busbee and Bynum entered into certain financial arrangements, pursuant to which Busbee received certain benefits from Bynum, during a time when Busbee had an important role in selecting the underwriter for municipal securities issued by the ECUA. The Complaint alleges that Bynum caused the following benefits to be provided to Busbee: 1) the extension and guarantee of four loans totaling $36,700 from an Arkansas bank; 2) repayment of approximately $27,000 in principal and interest on three of the loans; and 3) payment of approximately $3,500 to Busbee directly. The Complaint further alleges that Busbee voted to select, and otherwise participated in the selection of Bynum's employer as the underwriter or senior managing underwriter for three ECUA municipal securities offerings.

According to the Complaint, Busbee and Bynum each had a duty to disclose the financial arrangements to the ECUA in connection with Stephens' selection as underwriter in the three offerings and to investors in the three offerings. The Complaint alleges that Busbee's and Bynum's failure to disclose the financial arrangements and the actual and potential conflicts of interest created by those arrangements, at the time Bynum's employer was selected as underwriter and at the time those ECUA securities were offered and sold to the public, violated the following antifraud provisions of the federal securities laws: Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 ("Exchange Act") and Rule 10b-5 thereunder. In addition, the Complaint alleges that Bynum also violated Rules G-17 and G-20 of the Municipal Securities Rulemaking Board ("MSRB"), which prohibit unfair practices in the conduct of municipal securities business and place limitations on gifts in relation to certain municipal securities activities, and Section 15B(c)(1) of the Exchange Act, which prohibits effecting transactions in municipal securities in contravention of any rule of the MSRB.

In its Complaint, the Commission seeks permanently to enjoin both defendants from violating the antifraud provisions described above, and to enjoin Bynum from violating MSRB Rules G-17 and G-20, as well as Section 15B(c)(1) of the Exchange Act. In addition, the Commission seeks orders requiring each of the defendants to pay civil money penalties.

Also today, the United States Attorney for the Northern District of Florida announced that a federal grand jury indicted Busbee and Bynum on charges relating to the conduct alleged in the Complaint.

The Commission's investigation continues as to the conduct of other individuals and entities involved in this matter.

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Securities and Exchange Commission v. Terry D. Busbee and Preston C. Bynum, Litigation Release No. 14508 (May 24, 1995) (settled final order).

The Securities and Exchange Commission announced today that Terry D. Busbee and Preston C. Bynum agreed to settle the civil action brought by the Commission in United States District Court for the Northern District of Florida on January 23, 1995. Without admitting or denying the allegations contained in the Complaint, Busbee, an elected public official of the Escambia County Utilities Authority ("ECUA") from approximately 1984 through 1994, and Bynum, formerly an employee of the public finance department of Stephens Inc., consented to the entry of final judgments of permanent injunction providing for all of the equitable relief sought by the Commission.

The Complaint filed by the Commission alleges that from at least 1990 through at least 1993, the defendants defrauded the ECUA and investors in three offerings of municipal securities issued by the ECUA. According to the Complaint, Busbee and Bynum entered into certain financial arrangements, pursuant to which Busbee received certain benefits from Bynum, during a time when Busbee had responsibility for selecting the underwriter for municipal securities issued by the ECUA. The Complaint alleges that Bynum caused the following benefits to be conferred on Busbee: (1) the extension and guarantee of four loans totaling $36,700 from an Arkansas bank; 2) repayment of approximately $27,000 in principal and interest on three of the loans; and 3) payment of approximately $3,500 to Busbee directly. The Complaint further alleges that Busbee voted to select, and otherwise participated in the selection of Bynum's employer as the underwriter or senior managing underwriter for three ECUA municipal securities offerings. See Litigation Rel. No. 14387 (January 23, 1995).

Bynum has consented to the entry of a final judgment that permanently enjoins him from future violations of Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and Section 15B(c)(1) of the Exchange Act and Rules G-17 and G-20 of the Municipal Securities Rulemaking Board. In addition, Bynum also has agreed to pay a civil money penalty in the amount of $25,000. Busbee also has consented to the entry of a final judgment that permanently enjoins him from future violations of Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and that notes that no penalty is imposed on Busbee based on his demonstrated inability to pay.

As part of the settlement, Bynum has also agreed to the issuance by the Commission of an Order Instituting Proceedings, Making Findings and Imposing Sanctions, that bars him permanently from association with any entity regulated by the Commission.

Last week, H. Michael Patterson, the United States Attorney for the Northern District of Florida, announced that in related criminal proceedings, on May 17 Busbee was sentenced to twenty-seven months in prison, with three years probation for his violations of 18 U.S.C. § 666 (bribery concerning programs receiving federal funds) and 26 U.S.C. § 7206 (false statement on an income tax return); and that on May 18 Bynum was sentenced to a prison term of twenty-four months with two years probation, for his violation of 18 U.S.C. § 666. Both defendants had previously pleaded guilty to those charges, on March 3, 1995.

The Commission acknowledges the assistance of the United States Attorney for the Northern District of Florida and the Criminal Investigation Division of the Internal Revenue Service.

The Commission's investigation continues as to the conduct of other entities and individuals involved in this matter.

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SEC v. Whatcom County Water District No. 13, et al., Civ. Action No. C77-103, (W.D. Wash.), Litigation Release No. 7810 (March 7, 1977) (complaint); Litigation Release No. 7592 (May 10, 1977) (settled final orders).

See "The Issuer" section.

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SEC v. Washington County Utility District, et al., Civ. Action No. CA-2-77-15 (E.D. Tenn.), Litigation Release No. 7782 (February 15, 1977)(complaint).

See "The Issuer" section.

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SEC v. Washington County Utility District, et al., Litigation Release No. 7868 (April 14, 1977) (settled final orders).

Jule B. Greene, Administrator of the Atlanta Regional Office of the Securities and Exchange Commission, announced that on March 30, 1977, the Honorable Charles G. Neese, Judge of the United States District Court for the Eastern District of Tennessee, Northeastern Division in Greeneville, issued orders of preliminary and permanent injunction from further violations of the anti-fraud provisions of the federal securities laws against Washington County Utility District ("WCUD"), of Washington County, Tennessee, a "municipality or public corporation", Commissioners Paul G. Puckett of Johnson City, Tennessee, and Stella B. Harwood of Jonesboro, Tennessee and Hertz N. Henkoff of Boston, Massachusetts, an attorney who served as bond counsel for several issues of revenue bonds of WCUD.

WCUD was further directed to make an accounting of the receipt and disbursement of all funds received in connection with all revenue bonds it has issued.

Puckett and Harwood were ordered to disgorge certain bonds of WCUD in their possession and to pay over to the Clerk of the Court for the benefit of bondholders the proceeds from the sale of certain other bonds of WCUD.

In addition, Judge Neese signed an order of preliminary injunction with respect to Wade H. Patrick of Johnson City, Tennessee, the manager of WCUD and ordered that a trust be impressed upon all of his assets and that he make an accounting of all income, property or other assets received by him from WCUD or from other source as a result of activities involving WCUD.

Between 1965 and 1975 WCUD had made seven different bond offerings; four for its garbage division ($2,175,000) and three for its cable antenna television division ($1,500,000).

The complaint alleged numerous untrue statements of material facts concerning, among other things, the use of the proceeds obtained from the sale of revenue bonds issued by WCUD; the purposes for which the bonds were issued; the priority of liens of the bondholders on property owned by WCUD or its divisions; and the sufficiency of revenues in each division of WCUD to meet expenses including debt service. The complaint also alleged numerous omissions to state material facts including the following: that WCUD bonds were sold at substantial discounts, ranging from 10 to 42 percent; that WCUD prior to 1975 failed to have audited financial statements prepared; that WCUD was not making payments into a sinking fund to retire the bonds outstanding; that proceeds from the sale of bonds were used for purposes other than represented in prospectuses or authorized in the bond resolutions, such as loans to Patrick and companies controlled by Patrick or his relatives, payment of interest on prior issues of bonds, and loans or advances to other divisions of WCUD.

The individual defendants consented to the relief requested; the decree against WCUD was entered by default. For further information, see Litigation Release No. 7782.

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SEC v. Washington County Utility District, et al., Litigation Release No. 8410 (May 15, 1978) (settled final order).

Jule B. Greene, Administrator of the Atlanta Regional Office of the Securities and Exchange Commission, announced that on May 5, 1978, the Honorable Charles G. Neese, Judge of the United States District Court for the Eastern District of Tennessee, Northeastern Division, in Greenville, issued an order of permanent injunction from further violations of the anti-fraud provisions of the federal securities laws against Henry C. Miller of Johnson City, Tennessee, in connection with the offer and sale of revenue bonds of Washington County Utility District, Washington County, Tennessee (WCUD) or any other security.

Miller was further ordered to waive claim to a bond of WCUD and monies paid over to the Clerk of the Court.

Between 1965 and 1975 WCUD had made seven different bond offerings; four for its garbage division ($2,175,000) and three for its cable antenna television division ($1,500,000).

The complaint alleged numerous untrue statements of material facts concerning, among other things, the use of the proceeds obtained from the sale of revenue bonds issued by WCUD; the purposes for which the bonds were issued; the priority of liens of the bondholders on property owned by WCUD or its divisions; and the sufficiency of revenues in each division of WCUD to meet expenses including debt service. The complaint also alleged numerous omissions to state material facts including the following: the WCUD bonds were sold at substantial discounts, ranging from 10 to 42 percent; that WCUD prior to 1975 failed to have audited financial statements prepared; that WCUD was not making payments into a sinking fund to retire the bonds outstanding; that proceeds from the sale of bonds were used for purposes other than represented in prospectuses or authorized in the bond resolutions, such as loans to the manager of WCUD or companies controlled by him or his relatives, and loans or advances to other divisions of WCUD.

Miller consented to the relief requested without admitting or denying the allegations in the Complaint. For further information, see Litigation Release Nos. 7782 and 7868.

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SEC v. Washington County Utility District, et al., 1982 U.S. Dist. LEXIS 17316 (E.D. Tenn. Dec. 2, 1982).

Opinion: NEESE, Senior District Judge: The Court hereby ADOPTS, as its own, the findings of fact and conclusions of law proposed jointly by the remaining parties and filed herein on November 3, 1982.

Proposed Findings of Fact and Conclusions of Law

The Plaintiff, Securities and Exchange Commission, and the Defendant, Wade H. Patrick, pursuant to order of this Court dated May 25, 1982, jointly present the following proposed Findings of Fact and Conclusions of Law:

Findings of Fact

I. Background

1. Washington County Utility District ("District") was organized under the laws of the State of Tennessee in 1955 as the Garbage Disposal District of Washington County, Tennessee. Its name was changed to its present form in 1966. (Stipulation)

2. Wade H. Patrick has, since at least 1956, been manager of the District and has dominated and controlled its affairs. (Stipulation; Ex. 104B pp. 18-19, 78-80, 84-85; 105, p. 17; Alcock Tr. 51)

3. HPO Services, Inc ("HPO") is a company owned by Wade H. Patrick. (Ex. 102B pp. 64-65; Patrick Tr. 42-44)

4. Diversified Securities, Inc. ("Diversified") is a New York corporation owned by Thomas R. Alcock. (Stipulation)

5. Thomas R Alcock through Diversified Securities, Inc. or doing business as T.R. Alcock & Co. has acted as underwriter of all the bonds sold by the District since 1965 and as its fiscal agent. (Stipulation)

II. Bond Offerings

6. From 1965 through 1975 the District issued seven different bond issues; three were for its Community Antenna Television System Division (CATV), and four issues were for its Garbage Division. (Stipulation)

7. The total amount of the bonded indebtedness for the Utility District as a result of the bond offerings was $3,675,000. The bonds issued by the CATV Division total $1,500,000; the Garbage Division has issued a total of $2,175,000. (Stipulation)

8. Each of the issues of bonds was payable solely from revenue generated from the particular division which issued the bonds. (Stipulation)

9. Each of the bond resolutions authorizing the issuance of bonds by the District specified the purposes for which the funds were being raised. (Stipulation) The major purposes specified in the bond resolutions were as follows:

(a) The 1965 Garbage Division offering was to refund a prior bond issuance; (Ex. 4)

(b) The 1968 CATV Division offering was to construct a CATV system; (Prel. Ex. 11)

(c) The 1970 Garbage Division offering was to pay for the cost of constructing and acquiring extensions and improvements to the garbage disposal system including the acquisition of an additional landfill site; (Prel. Ex. 11)

(d) The 1971 CATV bond offering was to provide for the acquisition, construction and operation of extensions to the system; (Prel. Ex. 11)

(e) The 1972 Garbage Division bond offering was to provide funds for the cost of constructing and acquiring extensions and improvements to that system; (Prel. Ex. 11)

(f) The 1973 CATV bond offering was for the acquisition, construction and operation of extensions to that system; (Ex. 3)

(g) The 1974 Garbage Division bond offering was for the purchase and operation of a landfill. (Prel. Ex. 11)

10. Monies from each bond offering, with the possible exception of the 1965 Garbage Division Offering, were used for purposes other than those provided in the bond resolutions.

11. The bonds specifically stated that the District covenanted to charge sufficient fees to provide for the operation of the particular divisions including the payment of interest on the bonds and to provide for the retirement thereof. (Stipulation) The bonds further provided that the Tennessee laws required revenue to be sufficient to meet all such items. (Prel. Ex. 11, 12)

12. Even though the bonds specifically represented that the District would charge sufficient fees to cover the cost of operations, including the payment of interest and principal on the bonds issued, the District never charged sufficient fees to cover costs including amortization of the bonded indebtedness, and the only way it was able to continue its operations was through the fraudulent sale of additional bonds to cover the cost of operations, particularly interest on prior issues of bonds. (Tr. 80, 180-181)

13. It was expressly provided in the bond resolution that funds would be disbursed solely for the purposes for which the bonds were authorized and remaining funds would be put into a sinking fund which constituted a trust fund. (Stipulation)

14. Funds received from the sale of the bonds were regularly and routinely disbursed for purposes not disclosed in the bond resolutions, and no funds were ever put into a sinking fund for the retirement of the bonds as represented in the bond resolutions. (Prel. Tr. 40, Tr. 145-146, 158-159)

15. Each of the bond resolutions required that accurate records would be kept. (Prel. Ex. 11; Ex. 4)

16. Patrick knew that the records being kept by the District were totally inadequate and not accurate so as to reflect the use of funds and was repeatedly advised of the inadequacies of the books and records by the accountant engaged by the District. (Prel. Tr. 35-36; Tr. 84-86) Despite being told by the accountant for the District that the records were not accurate and not adequate, Patrick continued to make representations as to the accuracy of the records in all of the bond resolutions, which resolutions were incorporated by reference in each of the bonds. (Prel. Ex. 11; Ex. 4)

17. Each of the bond resolutions provided that the Utility District would have certified financial statements prepared yearly. The bonds incorporated by reference the resolutions authorizing the issuance thereof together with the representations contained therein. (Stipulation)

18. Patrick knew that the above representations contained in the bond resolutions, and in the bonds by incorporation, were false because the Utility District never had an audited financial statement prepared until 1975. (Tr. 84-85 Ex. 102, pp. 37-38 [6-29-76])

19. The law under which the Utility District was organized required that the Utility District have annual financial statements prepared. (Stipulation)

20. Although Patrick knew that the laws of the State of Tennessee required the Utility District to have annual financial statements prepared, he never advised or required that each purchaser of the bonds be advised that the Utility District was not complying with State law in that respect. (Tr. 193-196, Ex. 129)

21. Each bond resolution provided that the bondholders would have a lien on the assets owned or thereafter acquired by the Division of the District offering the particular bonds. (Stipulation; Ex 3; and Prel. Ex. 11)

22. Knowing full well that the first three issues of the Garbage Division had granted a lien on the assets owned or thereafter acquired by the Garbage Division of the Utility District, the District, with Patrick's knowledge, nevertheless falsely represented, in connection with the fourth issue of the Garbage Division's bonds, that the bondholders would have a first lien on certain properties which the Garbage Division had already acquired and to which a lien had attached in favor of the bondholders of the three previous bond offerings. (Tr. 166-167)

III. Financial Condition of the District

23. The Garbage Division operated at a loss for the fiscal years 1969 and 1970. (Prel. Tr. 26; Prel. Ex. 1)

24. Washington County Utility District is and has been insolvent since at least June 30, 1973, in that its assets are less than its liabilities. (Stipulation)

25. For the fiscal year ending June 30, 1973, its liabilities exceeded its assets by over $200,000. For the fiscal year ending June 30, 1974, the liabilities of the District exceeded its assets by over $337,000. (Stipulation)

26. The deficit for the fiscal year ended June 30, 1975, increased to over $550,000, and by the year ended June 30, 1976, the liabilities exceeded the assets by over $656,000. This excess of liabilities over assets has increased for the year ending June 30, 1977, to over $813,600. (Stipulation)

27. As of June 30, 1974, the total bonds payable by the District exceeded the total assets by over $225,000; by June 30, 1976, the total bonds payable exceeded the total assets by over $300,000; and by June 30, 1977, the total bonds payable exceeded total assets by over $338,000. (Prel. Ex. 5 & 17; Ex. 1; Prel. Tr. 53)

28. If the amount of depreciation and amortization could be calculated, the effect would be to further increase the deficit. (Prel. Tr. 38-39, 53; Tr. 80-81)

29. The Statute of the State of Tennessee requiring utility districts to prepare annual financial statements was ignored by the District until at least 1974. (Stipulation) J. B. Holt, a certified public accountant, did accounting work for the District from 1958 through 1974, and repeatedly told Patrick that the District's books and records were inaccurate and inadequate. (Prel. Tr. 23-24; Tr. 84-86) Holt, in 1975, completed an audit of the District for the fiscal years ending June 30, 1973, and June 30, 1974. (Prel. Tr. 37; Prel. Ex. 5)

30. The financial statements prepared by Holt were not certified as required by the bond resolutions and the laws of Tennessee because, among other deficiencies, depreciation of fixed assets and amortization of bond costs could not be calculated since records were incomplete. (Stipulation; Prel. Tr. 35-36; Tr. 80-81, 100-101)

31. The District's liabilities exceeded its assets by approximately $230,000 at June 30, 1973 (Stipulation); this was not disclosed in the bond resolution dated April 1, 1974, for the fourth issue of Garbage Division Bonds. (Prel. Ex. 11)

32. There was no disclosure that the District was not and had not been charging sufficient fees to meet all expenses. (Lamberson Tr. 29, 33-35; Carty Tr. 19, 23-24; Glidden Tr. 9, 12-13, 32, 35; Ex. 47, 102 p. 25; Prel. Ex. 5, 16, 17)

33. Patrick signed and caused to be issued an unaudited earnings statement for the Garbage Division for the six months ending December 31, 1973, to be utilized in the offering and sale of the Garbage Division's fourth issue of bonds which earnings statement represented that the Garbage Division was operating at a profit. (Tr. 181-182, Ex. 47)

34. Patrick, subsequent to April 1974, falsely represented to William Carty, a principal of the broker-dealer selling the Fourth issue of bonds of the Garbage Division, that "the District was operating profitably and everything was all right" when Carty called and expressed concern about the market for the bonds. (Carty Tr. 19) Patrick omitted to tell him material facts, including but not limited to the following: that the District had never had an audited financial statement prepared, and consequently, could not ascertain what its condition was; that records of receipts and expenditures were not appropriately maintained; that the District's assets were less than its liabilities; that the District's Divisions were not operating at a profit; that funds of one Division were used for another Division without receiving interest; that such inter-division transfers were used to keep outstanding bonds current by payment of interest; and that funds were loaned to Patrick, his friends and relatives. (Carty Tr. 20-32)

35. Broker-dealers would not have purchased bonds of the District or sold the District's bonds to their customers if apprised that the District was insolvent in that its liabilities exceeded its assets, or if purchased, it would only be for clients who were absolute speculators who purchased such bonds at five cents on the dollar. (Michaels Tr. 14; Carty Tr. 30, 32; Glidden Tr. 35-36; Lamberson Tr. 22-23)

IV. Misuse of Bond Proceeds

36. Patrick caused the District to use proceeds from one bond offering to pay interest on other bond offerings (Prel. Tr. 43, Ex. 1); even though the bond resolutions required that the funds be expended only for the purpose for which such bonds were issued and any funds remaining were to be put in a sinking fund which was to constitute a trust fund. (Stipulation; Tr. 85-86; Prel. Tr. 28-29, 42-43) Patrick as manager and controlling person caused this course of business. He handled all receipts and disbursements of funds by the District without direction or authority from the Commission except in a few instances. (Ex. 103, p. 80; Ex. 104, p. 97; Ex. 105, p. 41, 59, 75)

37. Despite the fact that each of the bond resolutions required sinking fund payments to be made for the purposes of retiring the bonds as they came due, the Utility District has not made any sinking fund payments and Patrick did not disclose such information to purchasers of the District's bonds. (Prel. Ex. 5, 11, 16, 17; Ex. 1; Prel. Tr. 54-55)

38. Despite the fact that the bonds issued by the CATV Division and the Garbage Division are revenue bonds payable solely from revenues generated by the appropriate Division, monies have been advanced from one Division of the District to another Division of the District without the payment of interest by the borrower Division. In fact, no interest has ever been paid on advances from one Division to another. (Stipulation)

39. Broker-dealers would not have sold the District's bonds to their customers if they had known that proceeds of the bond offerings of one Division were being loaned to another Division without interest or documentation. (Michaels Tr. 15; Glidden Tr. 18-19)

A. 1970 Garbage Division Bond Offering

40. The 1970 bond offering by the Garbage Division was for the purpose of acquiring a landfill for the District. The offering of $650,000 in bonds was authorized by the Commissioners on July 20, 1970. (Stipulation; Prel. Ex. 11)

41. An offering circular utilized in the sale of these bonds by T. R. Alcock represented that the cost of the property to be acquired by the District was $297,500, fraudulently omitting the material fact that the property was to be acquired from Patrick and Alcock at a profit to them of approximately $225,000. (Prel. Ex. 20)

42. No disclosure was made in the bonds, the bond resolution nor the sales literature that of the $297,500 approximately $228,000 in bonds were to be issued to Patrick and Alcock for the transfer of an option to purchase the property for $70,000. (Prel. Tr. 64-65; Prel. Ex. 10, 11 & 12; Alcock Tr. 56-68, 97-98)

43. Patrick omitted to disclose that 6 months prior to transferring the option to the Utility District he paid only $2,000 or $3,000 for the option. (Ex. 102 pp. 35-36; Ex. 102B pp. 8-9; Prel. Tr. 63-65)

44. While the District, in fact, did not pay Patrick $228,000 for the transfer of the option, Patrick did receive approximately $70,000 in bonds, the cancellation of indebtedness, payment of debt and other consideration. (Prel. Tr. 66-67; Ex. 102B pp. 9-10; 102A pp. 107) This was never disclosed. (Prel. Ex. 11 & 12; Glidden Tr. 28-29; Lamberson Tr. 43) $40,000 par value bonds were given by Patrick to Commissioners Harwood, Miller and Puckett, which have subsequently been disgorged pursuant to the Commissions' settlements. (Tr. pp. 122, 158-159)

45. Bonds or a part thereof received by Patrick in connection with the sale of the option to the District were transferred to the Commissioners without consideration. (Ex. 102 pp. 28-29; 102B pp. 9-10; 103 pp. 70-71) Bondholders were never advised of this fact. (Prel. Ex. 11 & 12)

46. Alcock was paid $32,500 in fiscal agent's fees of which one-half or $16,250 was paid to Patrick. (Alcock Tr. 22-25)

47. Commissioners are prohibited by statute from receiving compensation for their services unless specifically authorized and then they are limited to $600 per year. (Judicial Notice – Tenn. Annotated Statute Ch. 26, Sec. 6-2615; Stipulation)

B. 1971 CATV Division Bond Offering

48. Holt prepared and sent to Patrick a schedule of receipts and disbursements for the 1971 CATV Division bond offering which reflected that the District realized only a total of $378,000 including over $10,000 in accrued interest from the sale of bonds with a face amount of $500,000. (Prel. Tr. 32-34; Prel. Ex. 4)

49. Despite the fact that the fiscal agent's fees were excessively set at five or six percent of face rather than the net amount received, Alcock was paid $38,000, of which one-half or $19,000 was paid to Patrick, from the 1971 CATAV Division bound offering which is almost eight percent of par. In addition, over $82,000 was paid in interest on bonds from the proceeds, and the maximum amount which could have been paid by July 31, 1973, on the 1971 bonds was only $49,500; thus pursuant to Patrick's direction there was a diversion of over $32,000 for other issues. (Prel. Ex. 4; Alcock Tr. 22-23)

C. 1972 Garbage Division Bond Offering

50. In July 1972, the District authorized the issuance and sale of $500,000 in Revenue Bonds for the Garbage Division for the purpose of "constructing and acquiring extensions and improvements to the system." (Prel. Ex. 11) The District received $400,000 for the $500,000 face amount of the bonds. (Prel. Ex. 5 & 16) All of the bonds were acquired by Alcock at a discount of twenty (20) percent. (Prel. Tr. 27, 41; Prel. Ex. 2; Ex. 21) In addition, the District paid to Alcock or Diversified $57,000 as a fiscal agent's fee, of which one-half or $28,500 was paid to Patrick. Also, it paid legal and auditing expenses of $7,247.11. From the bond proceeds, bond interest and fees of $11,191 were paid. Moreover, from the bond proceeds, funds were diverted in the form of loans directly to Patrick of $11,500 and to D & P Development Co., a partnership in which he had an interest, of $125,000. Bullington Enterprises, an entity controlled by Patrick's son and son-in-law also received $45,000 as a loan. All of the aforesaid loans have been repaid with interest. From the $400,000 of proceeds realized by the District in this bond offering only $65,874.55 was actually expended for the acquisition of equipment and the construction of improvements to the Garbage Division System. (Prel. Ex. 5, 16; Prel. Tr. 41-45)

51. At Patrick's direction at least $189,000 of the proceeds of the 1972 Garbage Division bond offering was eventually used for a proposed sewer project contrary to the provisions of the bond resolution. (Prel. Ex. 2; Prel. Tr. 28-29; Tr. 160-161)

52. Only one month after misapplying bond proceeds in the form of loans to Bullington Enterprises and D & P Development, the District borrowed funds from a finance company to purchase a truck for the District. (Stipulation; Prel. Ex. 8; Tr. 159-160)

D. 1973 CATV Division Bond Offering

53. Only $309,000 was realized by the District from the sale of $400,000 face amount of the 1973 CATV Division bonds. The proceeds together with the $6,135.27 of interest thereon were commingled with $7,000 transferred from the Garbage Division. From such funds and at Patrick's direction $90,375 was used to pay interest on prior bond issues, including Garbage Division issues; $21,875 was used to pay fiscal agent's fees, of which one-half or $10,937.50 was paid to Patrick; and $3,825 was used to pay legal, printing and audit costs. The sum of $5,500 was transferred to the Sewer Division, and $1,000 was transferred to the Transit Division. (Prel. Ex. 5, 16)

54. Alcock knew, before all bonds of the 1973 CATV issue were sold, that the District was about to default by non-payment of interest and conspired with Patrick to pay the interest to conceal the District's financial plight. As consideration for agreement to pay the interest, Alcock was permitted to buy $50,000 of the bonds at a forty-two (42) percent discount with payment for the bonds being deferred over a period of nine months. (Prel. Ex. 6; Ex. 21, 102B p. 55; Alcock Tr. 76-78)

55. Bonds of the third issue of the CATV Division were sold to Carty & Co., Inc., a Memphis broker-dealer, for $990,000 per hundred in 1973 and then resold to customers and other brokers for prices ranging from $89.00 to $97.15. (Michaels Tr. 5-7; Carty Tr. 24-27; Ex. 46)

56. Broker-dealers were not told the above-mentioned material facts and would not have solicited purchases of the District's third issue of CATV Division's bonds at $90.00 per hundred if they had known that the underwriter had paid only $58.00 per hundred for some of the bonds and even in unsolicited trades would have advised purchasers of the fact that the underwriter had paid substantially less for some of the bonds. (Michaels Tr. 18; Carty Tr. 27-28)

E. 1974 Garbage Division Bond Offering – Landfill

57. The 1974 Bond Offering by the Garbage Division was in the amount of $675,000. Alcock sold, by the end of June, 1974, bonds with the face amount of $500,000 at seventy-five (75) percent of par; the District thus realized $375,000 before expenses. (Prel. Ex. 5; Ex. 21)

58. Patrick and Alcock agreed to use proceeds for purposes other than stated in the bond resolution. (Stipulation; Ex. 55-61, 64, 109, 114; Prel. Ex. 5 & 16)

59. The District paid Alcock $33,750 in fiscal agent's fees of which one-half or $16,875 was paid to Patrick. (Alcock Tr. 22-25)

60. Diversified deposited through May 14, 1975 proceeds of $481,641.94 in its client's funds account from the sale of the Garbage Division's 1974 bond issue from the sale of $635,000 face amount of bonds at seventy-five (75) percent of par. (Ex. 114)

61. Alcock personally handled the distribution of funds from the 1974 Garbage Division bond offering. With Patrick's consent over $140,000 was used for the CATV Division contrary to the provisions of the bond resolution. (Ex. 114; Stipulation; Tr. 166-168)

62. Patrick received a loan of $9,000 and Bullington Enterprises received a loan of $10,000 from funds diverted from the bond proceeds (Prel. Ex. 5), both of which have been repaid.

63. In addition to the $64,000 bond interest paid for CATV Division, Patrick paid bond interest on earlier issues of the Garbage Division of over $40,000 contrary to the provisions of the bond resolution. (Prel. Ex. 5, 16; Ex. 114)

64. The Sewer Division received $9,000 from the proceeds of the 1974 bond offering at Patrick's direction. (Prel. Ex. 5 & 16)

65. Although the purported purpose of the 1974 bond offering was to purchase a landfill, only $20,550 was used to partially pay for the Bowers' property, after Patrick caused the District to issue bonds with a face amount of $675,000. (Prel. Ex. 5, 16)

66. Michaels, a representative of Carty & Co., Inc. a broker-dealer, understood proceeds from the Fourth Issue of Bonds of the Garbage Division were to be utilized only for purposes stated in the offering circular. (Michaels Tr. 14)

67. Because of the information furnished to it, Carty & Co., Inc. purchased $600,000 face amount of the Fourth Issue of the Garbage Division at $80.00 per $100 face amount from Cecil Lamberson. The bonds were then resold to the public at prices ranging from $82 to $89 per $100 face amount. (Ex. 46; Michaels Tr. 11; Carty Tr. 8-14)

68. At the time the purchase of the Fourth issue of bonds of the Garbage Division was agreed upon between Lamberson and Carty & Co., an offering circular and an up-to-date financial statement of the District was requested by representatives of Carty & Co. (Michaels Tr. 11; Carty Tr. 15)

69. Broker-dealers would not have purchased the bonds or sold the bonds of the Fourth Issue of the Garbage Division had they known that proceeds of the bond offering were to be used to pay interest on prior bond issues. Such information was considered material. (Michaels Tr. 14; Glidden Tr. 18-19)

70. The offering circular for the Fourth Issue of the Garbage Division of the District represented that $68,000 of the proceeds were to be used to purchase land and $204,000 was to be used to pay off equipment notes and was so understood by representatives of Carty & Co. who sold the bonds to the public. (Ex. 47; Michaels Tr. 19) With the benefit of all inferences to the defendants only $37,350 could have been used to pay for real estate and only $167,093.97 was used to pay for equipment. (Prel. Ex. 16; Ex. 114)

V. False Representation That Bondholders of the Garbage Division's Fourth Bond Offering Would Have a Superior Lien

71. The Utility District's Garbage Division has utilized only one landfill since its organization in which it had a beneficial interest, that being the landfill commonly referred to as the Jonesboro site. The Garbage Division at no time had a special landfill for the refuse of residential users of the service as opposed to refuse of commercial or industrial users of the service. (Stipulation)

72. As early as 1973 the State of Tennessee was demanding that the Utility District take steps to close its Jonesboro site. At the time of trial the Utility District had closed its Jonesboro site and was utilizing the landfill site owned by the City of Johnson City. (Stipulation)

73. The resolutions for the 1965, 1970 and 1972 Garbage Division bond offerings, which were made at Patrick's direction, provided that the bondholders would have a lien on all property then owned by the Garbage Division or thereafter acquired by the District for the Garbage Division. (Stipulation; Prel. Ex. 11; Ex. 4)

74. The fourth issue of the Garbage Division, in 1974 in the face amount of $675,000, was for the specific purpose of acquiring a landfill. (Prel. Ex. 11) In fact, no properties were acquired by the District subsequent to the offer and sale of such bonds. (Prel. Ex. 9, 16 & 17; Ex. 102B pp. 27 & 35)

75. The bond resolution, for the fourth issuance of bonds for the Garbage Division provided, with Patrick's knowledge and consent, that the bondholders would have a first lien on the property to be acquired for the District. Since the prior shareholders already had a lien on the property owned by the District for the Garbage Division, this representation was false and totally misleading. (Stipulation; Prel. Ex. 11)

VI. Omissions of Material Facts concerning Fiscal Agents Fees Paid by the District and the Financial Feasibility of the Offerings

76. Customary discount in municipal bond underwritings are one and one-half (1 1/2) to two and one-half (2 1/2) percent of par. Discounts of three (3) to five (5) percent are unusual but at times are given. (Prel. Tr. 14)

77. The cost of a bond offering requiring discounts of ten (10) percent and fiscal agent's fees of five (5) percent plus the issuer paying the cost of the issue is exhorbitant as a general rule. (Prel. Test. pp. 15-16)

78. A revenue bond offering providing for a twenty (20) percent discount is very risky, fiscally not feasible nor advisable. (Prel. Tr. 17)

79. Increasing the discount to twenty-five (25) percent results in an exhorbitant cost and a discount of thirty (30) percent becomes disastrous. (Prel. Tr. 17)

80. When Patrick's knowledge and consent, bonds of the second Garbage Division offering were sold by the District at prices ranging from sixty-five (65) percent to ninety (90) percent of par value, or at discounts ranging from ten (10) percent to thirty-five (35) percent and $445,000 of the par value of bonds of this issue were exchanged at par value for certificates of indebtedness. (Ex. 116)

81. With Patrick's knowledge and consent, the third Garbage Division issue was sold by the District at a discount of twenty (20) percent. (Ex. 116)

82. With Patrick's knowledge and consent, the fourth Garbage Division issue was sold by the District at discounts from seventeen and one-half (17 1/2) percent to twenty-five (25) percent of par value. (Ex. 116)

83. With Patrick's knowledge and consent, the first CATV Division issue was sold by the District at discounts from twenty (20) percent to fifty (50) percent of par value. (Ex. 116)

84. With Patrick's knowledge and consent, the second CATV Division issue was sold by the District at discounts from twenty-five (25) percent to forth (40) percent of par value.

85. With Patrick's knowledge and consent, the third CATV Division issue was sold by the District at discounts of twenty (20) percent and forty-two (42) percent of par value. (Ex. 5)

86. Of the $400,000 face amount 1973 CATV Division bond offering with Patrick's knowledge and consent, $350,000 were sold at $80 per hundred and the balance, namely $50,000, was sold to Alcock at $58 per hundred which was a discount of forty-two (42) percent. (Prel. Tr. 47; Prel. Ex. 5) Only one-half of the consideration, $14,500, was paid by June 30, 1974 although the sale was in January, 1974. The other $14,500 was not paid until December 13, 1974. (Prel. Ex. 6; Alcock Tr. 71-83)

87. The purported reason Alcock was getting such a substantial discount on the 1973 bond offering was his agreement to pay interest on the 1973 CATV Division bonds coming due in March and September 1974 to prevent default on the bonds which Patrick knew was not being told to purchasers of the bonds. (Prel. Ex. 6)

88. From the difference between the par value and the price paid by the underwriter (discount) the underwriter usually pays all legal, accounting and fiscal agent's fees; however, the District paid all legal, accounting and fiscal agent's fees in addition to the tremendous discounts. (Prel. Tr. p. 14-15) (Prel. Ex. 5, 16, 17; Ex. 116)

89. The District, at Patrick's direction, agreed to pay Diversified fiscal agent's fees from 1965 to 1975, as follows: 1965 Garbage Division 5% of $350,000 or $17,500; 1968 CATV Division 5% of $600,000 or $30,000; 1970 Garbage Division 5% of $650,000 or $32,000; 1971 CATV Division 5% of $500,000 or $25,000; 1972 Garbage Division 6% of $500,000 or $30,000; 1973 CATV Division $25,000 and 1974 Garbage Division 5% of $675,000 or $33,750. (Prel. Ex. 5, 16, & 17; Ex. 9, 10, 11, 116; Alcock Tr. 22-23)

90. For the fiscal year ending June 30, 1973, Alcock received fiscal agent's fees from the 1972 Garbage Division bond offering of $57,000 rather than the $30,000 per agreement. For the fiscal year ending June 30, 1974, Alcock received fees of $46,875 as fiscal agent and $8,208.54 for the fiscal year ending June 30, 1975, or a total of $55,083.54. (Prel. Ex. 5, 16, 17)

91. Patrick unlawfully received one-half of such fiscal agent's fees. (Alcock Tr. 22-23; Tr. 145-156)

92. Patrick authorized Alcock to obtain the bonds of the District at discounts ranging between ten (10) and forty-two (42) percent. Most of the bonds were at discounts of twenty (20) percent or more. The Commissioners were not advised by Patrick prior to the issuance of the bonds what discount would be granted to Alcock. (Alcock Tr. 76-80; Prel. Ex. 5, 6, 11, 13, 15, 16 and 17; Ex. 8 [4/30/68], 16, 17, 21, 50, 89, 93 102B pp. 51-57)

93. The discounts permitted by Patrick were not disclosed. (Lamberson Tr. 18-19; Alcock Tr. 83; Glidden Tr. 20)

94. Despite the abnormal discounts authorized by Patrick the bonds of the District were offered and sold at substantial markups including par or face value by Alcock and others. (Ex. 2, 20, 30, 33, 38, 40, 42, 45, 46, 72, 110, 111; Prel. Ex. 13)

VII. The District Exceeded the Statutory Interest Limit

95. The interest rate on Utility District revenue bonds cannot exceed eight (8) percent. (Judicial Notice – Tenn. Annotated Statute Ch. 26, Sec. 6-2620; Prel. Tr. 17-19; Stipulation)

96. Patrick caused the CATV Division to exceed the statutory rate of interest limitation; the interest being eight and eighty-two one hundredths (8.82) percent. (Prel. Tr. 17-18)

VIII. Misrepresentations and Omissions of Material Facts Concerning the District's Financial Condition, Records and Management's Conflicts of Interest

97. The District did not maintain accurate books and records. (Prel Ex. 5, 16, Ex. 1; Stipulation)

98. The District bond resolutions presented to the Commissioners by Patrick in 1970, 1972 and 1974 directing the issuance and sale of bonds for the Garbage Division do not disclose that the required sinking fund payments were not met on the prior issues. (Prel. Ex. 11)

99. The District bond resolutions for the CATV Division in 1971 and 1973 presented to the Commissioners by Patrick do not disclose that the required sinking fund payments had not been made as required by the prior bond resolution for the CATV Division. (Prel. Ex. 11; Ex. 3)

100. The conflicts of interest of Patrick and Alcock, including but not limited to the division of fiscal agent's fees with Patrick and Patrick's misapplication of bond proceeds, were not disclosed to investors. (Carty Tr. 21-22, Michael Tr. 15-17, Lamberson Tr. 34-35, Glidden Tr. 12-14, 20, 26-29, 41-42; Prel. Ex. 11 & 12; Ex. 2, 20 & 47)

IX. Funds Unlawfully Diverted to Patrick or Affiliates

101. Patrick dominated and controlled the District and its affairs. (Ex. 104B pp. 78-80, 84-85; 105 p. 17; Alcock Tr. 51)

102. Patrick obtained payments from Alcock of one-half the fiscal agent's fees which totaled $96,604.27. (Prel. Tr. pp. 73-74; Ex.102B p. 44; Alcock Tr. 24-28; Prel Ex. 5, 16, 17, Ex. 9. 10, 11, 116, 117)

103. Broker-dealers would not have purchased bonds of the District or sold such bonds to customers if they had been apprised that Alcock, the fiscal agent and underwriter, was making kickbacks to Patrick, the District manager. (Michaels Tr. 15; Glidden Tr. 13-14)

104. From January 1, 1970 to June 30, 1977 Patrick received $97, 450 in salary from the District. (Ex. 117)

105. Diversified with Patrick's knowledge and consent improperly paid from the proceeds of the District's 1974 Garbage Division offering, which proceeds had been deposited in its clients' funds account, $712.50 in legal fees and $2,500.00 in accounting fees in connection with an Internal Revenue Service inquiry into the personal tax returns of Patrick and Alcock. (Ex. 94, 95, 114, 133; and Alcock Tr. 126-128, 130-131)

106. Patrick authorized Diversified to pay from the proceeds of the District's 1974 Garbage Division bond offering, legal and professional fees of $865.00 and $250.00 in connection with Eastern TV Cable Corp., a company owned by Alcock. (Ex. 94, 114, 133; Alcock Tr. 128-130)

107. Property of the District was commingled with property of Patrick. (Patrick Tr. pp. 57-66)

108. There was no disclosure in the bonds or in the bond resolutions of the loans to Patrick or his affiliates. (Stipulation; Prel. Ex. 11, 12; Ex. 3, 4)

109. Broker-dealers would not have purchased the bonds of the District or sold them to their customers if aware that Patrick was causing the District to loan proceeds of the bond offerings to himself, relatives or entities in which he or his relatives had a beneficial interest. (Michaels Tr. 15; Glidden Tr. 26-32; Lamberson Tr. 21-22)

110. Patrick's self-dealing, besides making and receiving loans and selling land to the District, included obtaining $23,316.66 in commissions for the sale of equipment to the District (Prel. Tr. 72; Ex. 102 pp. 33-35; 117; Patrick Tr. 35-38)

111. The District paid $10,000 to General Electric for D & P Development Company at Patrick's direction in connection with the sale to the District of the option to purchase the Milhorn property. (Ex. 117)

112. Patrick received four (4) $4,500 bonds with a total face value of $20,000 of the 1970 Garbage Division issue in connection with the sale to the District of the option to purchase the Milhorn property. (Ex. 117)

113. Patrick received four (4) $4,500 bonds with a total face value of $20,000 of the 1971 CATV Division issue which were sold for total proceeds of $13,316.66. (Ex. 117)

114. Patrick sold 15,000 par value of the CATV Division's first issue of bonds to T.R. Alcock & Co. on April 26, 1973 for $10,500. (Ex. 49, 50) On May 3, 1973, the District deposited $10,500 from T.R. Alcock & Co. to its bank account and credited Patrick for monies he had previously received from the District. (Ex. 118)

115. Patrick and his wife jointly owned four (4) lots in Johnson City, Tennessee, which they leased to the District at a rental of $400 per month since about 1968. The District at such a rate has paid Patrick $34,000 from December 1, 1968 through December 1975. (Ex. 102B pp. 49-50)

116. No accounting was made by Patrick or the District for the proceeds of the sale of the District's bonds and certificates of indebtedness or transactions between Patrick and the District prior to January 1, 1970, nor of any rents that may have been paid by the District to Patrick. (Ex. 102B pp. 49-50; Ex. 116, 117, 118, 119 & 121)

117. Patrick's brother, a sister, a son, a son-in-law, a daughter and sister-in-law were on the payroll of the District (Ex. 102A p. 108; 103 p. 81; 104B p. 4, 45, 67, 81; 105 p. 68-69; Patrick Tr. p. 13-14)

118. The District at Patrick's direction paid $1,250 to J. B. Holt for accounting fees in connection with the Internal Revenue Service Audit of Patrick personally. (Ex. 118)

119. Simple interest computed at the rate of eight (8) percent on half the fiscal agent's fees received by Patrick from Alcock or Diversified is as follows:

1965
Garbage $8,750.00 at 8% From 6/30/66 to 6/30/79=13 yrs. $9,100.00
1968
CATV $15,000.00 at 8% From 6/30/69 to 6/30/79=10 yrs. $12,000.00
1970
Garbage $16,250.00 at 8% From 6/31/71 to 6/30/79=8 yrs. $10,400.00
1971
CATV $12,500.00 at 8% From 6/30/72 to 6/30/79=7 yrs. $7,000.00
1972
Garbage $15,000.00 at 8% From 6/30/73 to 6/30/79=6 yrs. $7,200.00
1973
CATV $12,500.00 at 8% From 6/30/74 to 6/30/79=5 yrs. $5,000.00
1974
Garbage $16,604.27 at 8% From 6/30/75 to 6/30/79=4 yrs. $5,313.36
 
Total   $56,013.36 interest

120. Simple interest computed at the rate of 8% on accounting and attorney fees paid by the District for Patrick's personal matters from June 30, 1975 to June 30, 1979 amounts to $1,428.

Conclusions of Law

From the foregoing facts, the Court adopts the following conclusions of Law:

1. This Court has jurisdiction of this action under Section 22(a) of the Securities Act of 1933, as amended (15 U.S.C. 77v[a] and Section 27 of the Securities Exchange Act of 1934, as amended (15 U.S.C. 78aa), and it has in personam jurisdiction of the defendants.

2. Defendant Patrick has violated the antifraud provisions of the Federal Securities Laws, namely Section 17(a) of the Securities Act of 1933 (15 U.S.C. 77q[a]0 and Section 10(b) of the Securities Exchange Act of 1934 (15 U.S.C. 78j[b]) and Rule 10(b)5 promulgated thereunder (17 C.F.R. 240.10b-5). As part of his scheme all bond resolutions, bond certificates, and bond offering circulars misrepresented or failed to disclose:

(1) The payments made by Diversified to HPO (Patrick) of half of the fiscal agent's fees;

(2) Commissions paid to HPO (Patrick) on the sale of equipment to the District;

(3) Excessive fiscal agent's fees paid by the District;

(4) Loans and other payments by the District to Patrick and relatives or entities controlled by them;

(5) That accurate books and records were not maintained as required by the bond resolutions;

(6) That the District failed to have audited financial statements as required by the bond resolutions and state law;

(7) Excessive discounts given on the sale of the bonds;

(8) The purchase by the District from Patrick of an option to purchase land;

(9) That Patrick and not the Board of Commissioners controlled the District;

3. A duty to disclose material information arises when a person possessing that information has direct contact with investors. Such direct contact does not require physical presence or face-to-face conversation but is satisfied when an agent of an entity undertakes to transmit, for use of investors, information concerning that entity's securities or the entity itself. Securities and Exchange Commission v. Coffey, 493 F.2d 1304 (6th Cir. 1974); Securities and Exchange Commission v. Washington County Utility District, Case No. 80-1261, slip opinion, pp. 7-9.

4. The Securities Act "was intended to cover any fraudulent scheme in an offer or sale of securities, whether in the course of an initial distribution or in the course of ordinary market trading" U.S. v. Naftalin, 99 S.Ct. 2077, 2084 (1979).

5. The repeated and continuous securities offerings from 1969 through 1974 without complying with any of the promises and representations contained in the resolutions and the bonds; the disregard of State law; the active concealment of the financial condition of the District; the payment and concealment of fiscal agent's fees and other payments made in connection with the sales; and the self-dealing by Patrick, particularly the accepting of one-half of commissions from Alcock, sales of property and loans to himself and entities controlled by him, constitute a violation of the anti-fraud provisions of the Federal Securities Laws.

Securities and Exchange Commission v. Blatt, 583 F.2d 1325 (5th Cir. 1978); Securities and Exchange Commission v. Commonwealth Chemicals Securities, Inc., 574 F.2d 90, 100 (2nd Cir. 1978).

6. "Disgorgement is remedial" and forces the wrongdoer "to give up . . . the amount by which he was unjustly enriched. "Thus, the Court has the power "to order disgorgement . . . with interest" of the amount the person "profited from his wrongdoing."

Securities and Exchange Commission v. Blatt, supra at 1335.

7. Injunctive actions brought by the Securities and Exchange Commission are not governed by state statutes of limitations or laches.

United States v. Summerlin, 310 U.S. 414, 416 (1940); Costello v. United States, 365 U.S. 265, 281 (1961) ; United States v. Kellum, 523 F.2d 1284, 1286 (5th Cir. 1975).

8. Utility Districts are prohibited from paying interest over eight per cent.

Tennessee Code Annotated, Chapter 26, Sec. 6-2620

9. A final judgment of permanent injunction should be granted.

10. Disgorgement to prevent Patrick from being unjustly enriched and benefited should be ordered as follows:

A. One-half of the fiscal agent'sfee received from Alcock or Diversified

$96,604.27

B. Amount misappropriated by Patrick for payment to General Electric on behalf of D & P Development Company

10,000.00

C. Amount received by Patrick as commission on the sale of packers to the District

23,316.66

D. Amount credited to Patrick from the sale $15,000 face amount of the CATV Division's first issue of bonds to T.R. Alcock & Co. on April 26, 1973

10,500.00

E. Amount paid to J. B. Holt for accounting services in connection with the Internal Revenue Service audit of Patrick personally

1,250.00

F. Amounts misappropriated from the proceeds of the District's 1974 Garbage Division offering for payment of legal ($712.50) and accounting ($2,500) fees in connection with an Internal Revenue Service inquiry into the personal tax returns of Patrick and Alcock

3,212.50

11. In view of the fact that Patrick worked for the District, disgorgement of the salary received by Patrick will not be ordered; and because the District obtained the use of Patrick's property, disgorgement of the rental payments received by Patrick is, similarly, not ordered, nor the amounts paid on behalf of Eastern TV Cable Corp. or the proceeds obtained by Puckett from bonds given to him by Patrick because he, Patrick, did not get the use or benefit of such funds.

Table of Abbreviations

Alcock Tr. Alcock Transcript
Carty Tr. Carty Transcript
Ex. Exhibit admitted at the pre-trial hearing
Glidden Tr. Glidden Transcript
Lamberson Tr. Lamberson Transcript
Michael Tr. Michael Transcript
Patrick Patrick Transcript
Prel. Ex. Exhibit admitted at hearing on motion for Preliminary Injunction
Prel. Tr. Transcript of testimony at hearing on motion for Preliminary Injunction

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SEC v. Reclamation District No. 2090, et al., Civ. Action No. C76-1231-SAW (N.D. Cal.), Litigation Release No. 7460 (June 22, 1976) (complaint).

See "The Issuer" section.

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SEC v. Reclamation District No. 2090, et al., Litigation Release No. 7547 (September 2, 1976) (settled final order).

Gerald E. Boltz, Regional Administrator of the Los Angeles Regional Office, and Michael J. Stewart, Acting Associate Regional Administrator of the San Francisco Branch Office, announced that on August 27, 1976, the Honorable Robert H. Schnacke, United States District Judge for the Northern District of California, on motion of the Commission, entered an Order of Preliminary Injunction against James H. Dondich of Santa Ana, California, and Roy J. Jackson of Ogden, Utah, proscribing violations of the anti-fraud provisions of the federal securities laws in connection with offers and sales of securities issued by Reclamation District No. 2090 ("the District") and any other security of any other issuer.

Judge Schnacke also entered Final Judgments of Permanent Injunction against Max H. Mortensen of Oakland, California, All-States Tax Exempt Securities, Inc., and Pasquale "Pat" Tamburri, of Clearwater, Florida on August 18, 1976; against Norton McGiffin of Largo, Florida, George E. Grills of Dunedin, Florida, and Jules L. Steele of Clearwater, Florida, on August 16, 1976; against Robert D. Lewis of Palo Alto, California, and John B. Schoenfeld and Lowell C. Lundell of Atherton, California, on August 19, 1976; and against National Municipal Bond Co., Inc. and Roger W. Osness of St. George, Utah on August 24, 1976. The permanent injunctions enjoin these defendants from violations of Section 17(a) of the Securities Act of 1933 ("Securities Act"), Section 10(b) of the Securities Exchange Act of 1934 ("Exchange Act") and Rule 10b-5 thereunder in connection with offers and sales of any securities issued by the District and any other issuer. These defendants consented to the entry of the permanent injunctions without admitting or denying the allegations of the Commission's complaint.

The Commission's complaint alleged that the defendants' activities in violation of the anti-fraud provisions of the federal securities laws resulted in the sales of approximately $2.2 million of the notes issued by the District to approximately 161 persons residing in at least 12 states. Pursuant to Court approval, the Commission is also participating as a party in interest in a proceeding commenced by the District under Chapter IX of the Federal Bankruptcy Act. For further information, see Litigation Release No. 7460.

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Commission Orders - Settled Administrative Proceedings

In re City of Syracuse, New York, Warren D. Simpson, and Edward D. Polgreen, Securities Act Release No. 7460, Exchange Act Release No. 39149, AAE Release No. 970, A.P. File No. 3-9452 (September 30, 1997).

See "The Issuer" section.

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Obligated Persons

Report under Section 21(a) of the Exchange Act

SEC, Staff Report on Transactions in the Marine Protein Corporation Industrial Development Revenue Bonds, Exchange Act Release No. 15719 (April 11, 1979).

Introduction

The staff of the Division of Enforcement pursuant to a formal order of investigation authorized by the Commission on April 13, 1976, conducted a private investigation In the Matter of Marine Protein Corporation Industrial Development Revenue Bonds, Mammoth Spring, Arkansas. The Commission now makes this report of that investigation.n1 This case is another in the series of investigations which focuses on abuses in connection with the issuance of IDR bonds.n2 It focuses on, among other things: (1) the standards of disclosure required in an industrial revenue bond offering, and (2) the responsibility of the corporate lessee, the underwriter and the financial adviser to the issuer for full disclosure, in connection with the offer of industrial revenue bonds.

According to monthly statistical bulletins edited by the Public Securities Association, the number of tax exempt industrial development bond issues (excluding pollution control issues) since 1972 were: 1972 – 125 issues totaling $296 million; 1973 – 280 issues totaling $573 million; 1974 – 274 issues totaling $493 million; 1975 – 263 issues totaling $455 million; 1976 – 285 issues totaling $487 million; 1977 – January-May, 79 issues totaling $237 million.

The staff's inquiry principally focused on the period from January 1972 when the bond offering was conceived through 1976 when the bonds were declared to be in default. During the investigation, the staff obtained numerous documents and compiled 3,000 pages of transcribed investigative testimony. The staff's Report is a summary of the evidence that has been obtained to date. The Commission has decided to release this Report in the public interest pursuant to Section 21(a) of the Securities Exchange 1934. This is not to be construed as an adjudicative determination. Nor is the investigation or this Report a determination of the rights or liabilities of any person.

Background

This matter involves two successive efforts of a small, newly formed corporation, Marine Protein Corporation ("Marine") to raise financing for the establishment of facilities for Marine's operations. During 1972 the company raised $3.5 million through the offering of common stock to the public. This offering was registered with the Commission pursuant to the Securities Act of 1933. Later in 1972, through an offering of industrial development revenue bonds that were sold pursuant to a claimed exemption from registration with the Commission (pursuant to Section 3(a)(2) of the Securities Act), Marine raised an additional $2.5 million. The striking contrast between the disclosure of material matters contained in the prospectus utilized for the offering of common stock registered with the Commission and the material omissions contained in the offering circular used to promote the sale of the industrial development revenue bonds makes it clear that the participants in the bond underwriting failed to comply with the standards of disclosure that are required by the antifraud provisions in connection with the offering and sale of any securities. The information gathered in the Commission's investigation, demonstrates that Marine fell short of its obligation to public investors by failing to assure that the information being disseminated to the public in connection with the sale of the industrial development revenue bonds was adequate, accurate and consistent with the information it had provided to the bond underwriters.

Marine is a Delaware corporation with headquarters formerly in New York City. The company was incorporated in 1969 and its primary business venture was to perfect a method to breed fish under environmentally controlled, high density conditions (Silo Fish Farms) for ultimate commercial sale. The controlling persons of the company which comprised its executive-managerial staff possessed varied business backgrounds unrelated to the fish industry and Marine's claimed advance research and development relating to the commercial growth of fish was based upon the invention principally of one marine biologist whose theories had never been tested beyond two pilot programs.

At its inception in 1969-1970 the company raised approximately $2.5 million through private placements of securities. In February 1972, the company raised $3.5 million through a public offering of securities registered with the Commission pursuant to the Securities Act of 1933. Prior to Marine's public offering, its activities had been limited to research and development at a pilot facility in Pennsylvania. The proceeds from the sale of the common stock were to be used primarily to begin construction of a trout farm in Mammoth Spring, Arkansas. Because the company was using a completely new technique for raising fish which had not yet been proven commercially feasible, the Commission's Division of Corporation Finance required Marine to make full disclosure of the risks involved in the purchase by investors. Marine's registration statement and prospectus ("stock prospectus") enumerated certain risk factors which prospective investors were warned to "carefully consider". Disclosure of these risk factors and other statements about the company's processes followed closely those disclosures which were included previously by the company in its private placement memoranda that was utilized to raise financing for the company's 1969-70 placement of securities referred to above.

Sale of Industrial Development Revenue Bonds

On May 16, 1972, some three months following issuance of the registered common stock, the City of Mammoth Spring, Arkansas, held a special election for the purpose of authorizing a total of $4 million of Industrial Development Revenue Bonds for the benefit of Marine. On the advice of the bond underwriter, it initially was decided that bonds in the amount of $2.5 million would be offered to the public and that the remaining $1.5 million would be sold whenever Marine requested it. On October 6, 1972, Marine announced to its shareholders the signing of an agreement with the bond underwriter for the sale of $2.5 million of 26-year maturity industrial revenue bonds. This underwriter purchased the bonds from the City of Mammoth Spring, Arkansas, on December 1, 1977, at a discount price of 91 and wholesaled the bonds at 97 to the now defunct municipal bond broker-dealer, Seaney Jones & Co. of Atlanta, Georgia, ("Seaney"). Seaney sold most of the bonds to Paragon Securities of New Jersey ("Paragon") at 99.n3 Paragon retailed most of the issue to individual investors all over the United States at premium prices as high as 116. The bond underwriter had characterized the issue as "speculative" to its trading desk and elected not to allow its trading desk to make retail sales of the bonds to their own customers. This underwriter's role in the offering was that of structuring the issue and preparing the "offering prospectus." For its efforts, the underwriter collected a fee of $142,500 or the difference between purchasing the bonds at 91 from the issuing authority and selling them to Seaney at 97.

The "offering prospectus" was prepared in-house by the bond underwriter's staff and was given to Seaney, Paragon and another bond house in New York that retailed a small percentage of the bonds. The finished document was used by Paragon to prepare a brief two-page summary of the offering which included pertinent facts about the bonds including: Denominations; Date; Interest; Security; Bond Counsel; Marine net worth, etc. Paragon disseminated this information sheet to its retail customers.

The "offering prospectus" was prepared only some eight months after the company's common stock offering. Material about Marine and its operational plans and projections was copied from advertising brochures, news articles and the 1972 Annual Report to Shareholders which had previously been furnished to the underwriter by Marine. In addition to this material, Marine also provided the bond underwriter with a copy of the common stock prospectus. The bond concerning the risks of fish farming or the risks involved in investing in Marine (discussed more fully under "Comparison of Disclosure") that were contained in the common stock prospectus. The bond prospectus did contain misleading bullish information as described below but failed to include disclosures concerning the use of the proceeds of the bond offering. The bond offering prospectus also included excerpts from the bond indenture.

Events Subsequent to Bond Sale

Marine's commercial application of its silo system from research laboratory to its anticipated production site at Mammoth Spring, Arkansas, experienced a variety of problems which over a two-year period contributed to the ultimate collapse of the company. From the date of the bond closing on December 1, 1972, the company had a 10-month grace period in which to complete its major facility in Arkansas and begin marketing fish because first payments for principal on the bonds became due on October 1, 1974. Site preparation at Mammoth Spring began in June 1972 which was several months before the bond financing was obtained. The bond money enabled the company to develop its site in a more grandiose style with the immediate installation of 36 silos and plans for an additional 36 silos if the first set proved the process to be a commercial success. A combination of natural disasters and faulty planning delayed completion of the facility by over seven months.

By October 1973, the first set of 36 silo tanks was in place. But, even at this time, the system was far from final working order. The first harvest, which was smaller than anticipated, did not begin until late February 1974. When the fish were ready for harvesting, the company did not have adequate facilities at the site to dress, package, freeze and ship the product to established markets. Therefore, excessive costs were incurred because the fish had to be air freighted to New York from Arkansas. This requirement diminished whatever advantages the company hoped to obtain through use of the silo systems.

Marine's indebtedness continued to increase and on January 20, 1976, the trustee for bondholders filed a complaint in Arkansas federal court asking that the court decree Marine in default on the bonds. The court appointed a receiver to take custody and control over Marine's only real asset – the silo farm at Mammoth Spring, Arkansas.

Comparison of Disclosure

The disclosures of information contained in the bond prospectus differ significantly from and in some respects are inconsistent with the disclosures in the common stock prospectus. Risk factors and other Important information relating to the speculative nature of an investment in Marine that were included in the common stock prospectus are absent from the bond "offering prospectus" and that document contains considerable bullish promotional information that is inappropriate in a prospectus used to sell securities. A comparison of some of these matters follows:

(1) Fish Production – The bond prospectus states that Marine "has developed one of the most important breakthroughs in fish production since the ancient Chinese" and that "Marine is able to produce over 3,000 times as many pounds of fish in the same surface area as a farmer can raise in a fish pond. "It also states that "A Marine Protein Silo Fish Farm is capable of producing 1,000,000 pounds of fish per surface area per year, even after deducting space for road and equipment."

In fact, these figures were mere estimates which were predicted by the company's scientists based on a pilot project, and were never the result of actual silo production. The common stock prospectus states that "Because of the variety of circumstances under which fish were grown, the Company is unable to state the length of time it takes fish to grow in their natural environment or to be farmed and harvested by conventional means."

(2) Advantages of the Silo System – The bond prospectus states 11 advantages of Marine's silo system as compared to conventional systems. There is no mention of these advantages in the common stock prospectus. The advantages cited include location, non-pollution, predator control, healthy fish, economy in feeding, fast growth, uniform fish sizes, year-round availability, harvesting economy, processing savings and brood stock and spawning.

In fact, Marine's own scientists did not regard these advantages to be particularly unique to the silo system. The same results were achieved by fish farmers using conventional raceway techniques.

(3) Fast Growth/Uniform Fish Sizes – The bond offering prospectus emphasizes particularly the silo's advantage in achieving fast growth and uniform sizes in fish.

As stated under #1 above, scientists are unable to compare fish growth under natural and under artificial conditions with any degree of accuracy.

(4) Harvesting Economy/Processing Savings – The bond prospectus states that Marine's larger harvests are economical because fish can be easily transferred to the "Marine processing plant "Also, it is stated that "Large production facilities make it economically feasible to locate processing plants adjacent to Marine Protein Silo Fish Farms."

In fact, the company never had the type of processing facilities alluded to in the bond prospectus although they had plans for the development. The common stock prospectus does state the company's intention to erect a processing plant in Mammoth Spring but also states with respect to "the commercial feasibility of its operations" that "it is not certain, however, that such processing plants will function according to plan."

(5) Fish Mortality – The bond offering prospectus states that conventional fish rearing systems suffer from considerable mortality because of imposed environmental stresses and that Marine's silo system protects fish from their natural enemies and the stresses of intensive fish culture are reduced to a minimum.

In fact, early tests did not prove that the system could limit the environmental stresses. Moreover, the common stock prospectus specifically stated that Marine's fish are not immune from disease, and their main research facility had experienced losses of fish resulting from temperature changes and poor water quality.

(6) Silo Farm Location – The bond prospectus boasted that the silo system was capable of being installed close to major markets thereby reducing excessive transportation costs.

In fact, the silo system, much like the traditional systems, still depended upon a sufficient supply of water of adequate quality which naturally limited the potential location to land areas where such water is available. As is stated in the common stock prospectus: "The water supply at any existing or future site must be of adequate quality and is always subject to the danger of drought and pollution."

Conclusion

The process by which industrial development revenue bonds are brought to the market place depends upon many persons, including the issuer, underwriter, fiscal agents, bond counsel, company executives and registered representatives. The antifraud provisions of the federal securities laws, while not imposing a structured form of disclosure as required for the offering of non-exempt securities pursuant to the Securities Act of 1933, do prohibit the deception of investors in connection with the offering of exempt securities. In preparing and disseminating the bond offering prospectus, the bond underwriter failed to include the material information referred to above, and Marine failed to accept or assume any responsibility to insure that information being disseminated by bond underwriters in connection with the bond offering was complete and not false and misleading.

Statement of Commissioner Karmel

Commissioner Karmel, dissenting

I object to the issuance of this staff report because, as more fully explained in my dissent In the Matter of Spartek, Inc.,n4 and my separate statement to the Commission's recent announcement relating to reports of investigations,n5 I do not believe that publication based on Section 21(a) of the Securities Exchange Act of 1934 should be used as a sanction to dispose of investigated matters.

Footnotes

-[n1]-Commissioner Karmel dissented from this determination of the Commission for the reasons set forth in her statement which follows this release.

-[n2]-Industrial Development Revenue Bonds are popular financing vehicles because they are used by municipalities to attract new industry to their area. The proceeds of these industrial development revenue bonds are used by the issuing municipality to erect an industrial facility which is then leased to a private corporation for business use. The principal and interest on the bond issue is paid only from the revenues of the private corporation.

-[n3]-As the result of a civil injunctive action brought by the Commission, Paragon and its principals were enjoined by consent from further violations of the antifraud provisions of the federal securities laws. (Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Exchange Act of 1934 and Rule 10b-5 thereunder.) Paragon is no longer in business.

-[n4]-Securities Exchange Act Release No. 15567 (February 14, 1979).

-[n5]-Securities Exchange Act Release No. 15664 (March 21, 1979).

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Injunctive Proceedings

Securities and Exchange Commission v. Lee F. Sutliffe, Civ. Action No. 95-0867-CV-W-BD (W.D. Mo.), Litigation Release No. 14658 (September 28, 1995) (complaint).

The Securities and Exchange Commission today announced the filing of a Complaint on September 27, 1995, in the United States District Court for the Western District of Missouri, in Kansas City, seeking an order of permanent injunction against Lee F. Sutliffe (Sutliffe). The Commission's Complaint alleges that Sutliffe, by participating in the preparation of false and misleading municipal bond offering circulars, violated the antifraud provisions of the Securities Act of 1933 and the Securities Exchange Act of 1934.

The Complaint alleges, among other things, that during the years 1984 through 1989, Sutliffe was the undisclosed promoter and control person of two not-for-profit corporations, First Humanics Corp. (First Humanics) and its successor, International Elderly Care, Inc. (IEC), which participated in 26 public offerings of municipal and corporate bonds raising over $107 million. The purpose of these offerings was to acquire, renovate and operate nursing homes.

The Complaint further alleges that, in connection with two such offerings, First Humanics' 1987 offering to acquire the Medicos Recovery Care Center nursing home in Detroit, Michigan (Medicos) and IEC's 1988 offering to acquire the Colonial Gardens Convalescent Center in Boonville, Missouri (Colonial Gardens), Sutliffe promoted the offerings and participated in the preparation of false and misleading offering circulars. Specifically, the Complaint alleges that the Medicos offering circular contained material misrepresentations and omissions concerning: Sutliffe's role as a promoter of the offering; Sutliffe's control over First Humanics as well as his regulatory history and numerous prior bond and business failures; the commingling of revenues from existing First Humanics nursing homes and the resulting financial interdependence of all First Humanics nursing homes; and First Humanics' ongoing ponzi scheme.

In addition, the Complaint alleges that the Colonial Gardens offering circular contained material misrepresentations and omissions concerning: Sutliffe's role in the offering and his control over IEC as well as his background; the nexus between IEC and First Humanics; and First Humanics' prior bond defaults.

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Securities and Exchange Commission v. Lee F. Sutliffe, Litigation Release No. 14707 (November 1, 1995) (settled final order).

The Securities and Exchange Commission today announced that on October 27, 1995 the United States District Court for the Western District of Missouri, in Kansas City, entered an Order of Permanent Injunction (Order) against Lee F. Sutliffe (Sutliffe). The Order enjoins Sutliffe from future violations of Sections 17(a)(1), 17(a)(2) and 17(a)(3) of the Securities Act of 1933, Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder. Sutliffe consented to the entry of the Order without admitting or denying the allegations in the Commission's Complaint.

The Commission's Complaint, filed on September 27, 1995, alleged, among other things, that during the years 1984 through 1989, Sutliffe was the undisclosed promoter and control person of two not-for-profit corporations, First Humanics Corp. (First Humanics) and its successor, International Elderly Care, Inc. (IEC), which participated in 26 public offerings of municipal and corporate bonds raising over $107 million. The purpose of these offerings was to acquire, renovate and operate nursing homes.

The Complaint further alleged that, in connection with two such offerings, First Humanics' 1987 offering to acquire the Medicos Recovery Care Center nursing home in Detroit, Michigan (Medicos) and IEC's 1988 offering to acquire the Colonial Gardens Convalescent Center in Boonville, Missouri (Colonial Gardens), Sutliffe promoted the offerings and participated in the preparation of false and misleading offering circulars. Specifically, the Complaint alleged that the Medicos offering circular contained material misrepresentations and omissions concerning: Sutliffe's role as a promoter of the offering; Sutliffe's control over First Humanics as well as his regulatory history and numerous prior bond and business failures; the commingling of revenues from existing First Humanics nursing homes and the resulting financial interdependence of all First Humanics nursing homes; and First Humanics' ongoing ponzi scheme.

In addition, the Complaint alleged that the Colonial Gardens offering circular contained material misrepresentations and omissions concerning: Sutliffe's role in the offering and his control over IEC as well as his background; the nexus between IEC and First Humanics; and First Humanics' prior bond defaults.

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SEC v. Calhoun County Medical Facility, Inc., et al., Civ. Action No. WC-81-61 WK-P (N.D. Miss.), Litigation Release No. 9366 (June 1, 1981) (settled final order).

Jule B. Greene, Regional Administrator of the Commission's Atlanta Regional Office, announced the filing of a Complaint, alleging violations of Sections 17(a)(2) and (3) of the Securities Act of 1933 against Calhoun County Medical Facility, Inc. ("the Issuer"), a Mississippi corporation; Bullington-Schas & Co., Inc. ("Bullington-Schas"), a Memphis, Tennessee broker-dealer; A. Dulaney Tipton ("Tipton") of Memphis, Tennessee, President of Bullington-Schas; Terry Allen Frost ("Frost") of Memphis, Tennessee, a registered representative associated with Bullington-Schas; and Jerald H. Sklar ("Sklar"), an attorney in Memphis, Tennessee.

The Commission's Complaint alleged that the Issuer offered and sold $1.8 million of its first mortgage revenue bonds to finance the acquisition of the Calhoun County Hospital in Calhoun County, Mississippi; that Bullington-Schas served as underwriter for the bond issue; that Tipton and Frost performed Bullington-Schas' underwriting duties and participated in the sale of the bonds; and that Sklar acted as bond counsel. The Complaint further alleges that annual financial statements concerning the past operations of the Hospital, which indicated an inability to defease the bond offering, were not included in the offering circular; rather, pro forma financials were included without discussion of the significantly divergent prior financial history.

The Commission's Complaint further alleged that defendants made untrue statements and omitted to state material facts concerning, among other things, the role, duties and responsibilities of counsel to the underwriter and bond counsel.

On May 28, 1981, the Honorable William C. Keady, Chief Judge of the United States District Court for the Northern District of Mississippi, entered final judgments permanently enjoining the defendants from further violations of Sections 17(a)(2) and 17(a)(3) of the Securities Act. The defendants consented to the relief without admitting or denying the allegations of the Commission's Complaint. Defendant Sklar was ordered also to comply with the undertakings contained in his Stipulation and Consent concerning procedures to be followed in connection with future bond issues.

For further information concerning (i) a related administrative proceeding involving Bullington-Schas, Tipton and Frost, see Securities Exchange Act Release No. 17832; and (ii) a Section 21(a) Report involving the role of underwriter's counsel, see Securities Exchange Act Release No. 17831.

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SEC v. San Antonio Municipal Utility District No. 1, et al., Civ. Action No. H-77-1868 (S.D. Tex.), Litigation Release No. 8195 (November 18, 1977) (settled final order).

See "The Issuer" section.

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SEC v. Astro Products of Kansas, Inc., et al., Civ. Action No. 76-359-LG (D. C. Kans.), Litigation Release No. 7557 (September 13, 1976) (complaint).

Richard M. Hewitt, Administrator of the Fort Worth Regional Office of the Securities and Exchange Commission, announced today the filing on August 31, 1976 of a civil injunctive complaint in federal district court at Wichita, Kansas naming 19 corporate and individual defendants. The complaint charged violation of the securities registration and antifraud provisions of the federal securities laws and the Trust Indenture Act in connection with the offer and sale of industrial development revenue bonds issued by Astro Products of Kansas, Inc., Haysville, Kansas, and the City of Haysville.

The defendants were charged with violations of the following provisions of the Securities Act of 1933, the Securities Exchange Act of 1934, and the Trust Indenture Act of 1939:

Astro Products of Kansas, Inc., Los Angeles, California – antifraud; securities registration; trust indenture qualification.

Canter Line Tool Company, Inc., Los Angeles, California – antifraud.

The Vern Hunt Co., Los Angeles, California – antifraud.

The National Bank of Wichita, Wichita, Kansas – antifraud.

Sima Walding Supply Co., Inc., Los Angeles, California – antifraud.

Tower Brokerage, Inc., St. Petersburg, Florida – antifraud.

Hugh Bell, St. Petersburg, Florida – antifraud.

Bruce Bressman, Los Angeles, California – antifraud.

Roman A. Dimeo, Los Angeles, California – antifraud, securities registration; trust indenture qualifications.

Theodore F. Dubowik, Memphis, Tennessee – antifraud.

George B. Flowers, Los Angeles, California – antifraud.

Richard T. Heagy, Memphis, Tennessee – antifraud.

Vern Hunt, Los Angeles, California – antifraud.

Herbert M. Kohn, Kansas City, Missouri – antifraud; securities registration; trust indenture qualification.

Stephen A. Lancaster, Memphis, Tennessee – antifraud.

Ray W. Lipper, Los Angeles, California – antifraud.

James J. Russ, Memphis, Tennessee – antifraud; securities registration; trust indenture qualification.

Walter A. Sawhill, Wichita, Kansas – antifraud; securities registration; trust indenture qualification.

M. Kelley Sims, Los Angeles, California – antifraud.

The complaint charged the defendants with a scheme to violate the federal securities laws. The Commission alleged in the complaint that James J. Russ, Roman A. Dimeo and Walter A. Sawhill engaged in a scheme to promote an industrial development revenue project in Haysville, Kansas. The alleged scheme involved procuring the issuance by the City of Haysville of $2,200,000 industrial development revenue bonds of which the proceeds were to be used to acquire equipment for a plant to assemble vehicular wheel. As part of the alleged scheme, Russ misrepresented his background and the economic potential to Haysville of the proposed assembling plant and bond counsel, Herbert A. Kohn, by furnishing an opinion that the bonds were duty authorized made it possible for the issue to be marketed and issued and tax exempt.

Further, the complaint charged that following the issuance of the bonds, Russ, Dimeo and Sawhill arranged for the bonds to be sold to several underwriters, including Richard T. Heagy, Stephon A. Lancaster, Theodore F. Dubowik and Hugh Bell. The complaint further alleged that these underwriters than sold the bonds through misrepresentation to various broker-dealers, including Bruce Bressman, who ultimately sold the bonds to the public. In selling the bonds, the underwriters, relying ostensibly upon unverified information supplied by Russ, and without exercising due diligence, misrepresented;

(1) The security behind the investment;

(2) The financial condition of the corporate issuer;

(3) The use of the project's proceeds;

(4) The background of those involved in the project;

(5) The likelihood of success for the project;

(6) The lead time necessary for beginning operations; and

(7) The tax exempt status of the bonds; and omitted to state:

(1) The high risk nature of the investment;

(2) The diversion of the project's proceeds; and

(3) The lack of security available to the bondholders.

Approximately $400,000 of the issue was sold to public investors and approximately $1,800,000 was used as part of an alleged scheme to defraud the First Federal Savings and Loan, Utica, New York.

During and after the issuance of the bonds (which were issued in five increments between December 21, 1973 and May 6, 1974), Russ and Dimeo allegedly in a scheme to misappropriate proceeds of the issue, or approximately $1,700,000, with four of the project's equipment suppliers, Ray W. Lipper, Center Line Tool Company, Inc., M. Kelley Sims, Sims Walding Supply Company, Vern Hunt, Vern Hunt Company, and George Flowers. The complaint alleges that each of these suppliers had done business with defendant Russ prior to the Haysville project and that through the suppliers submission of false invoices, many of which were allegedly prepared by or at the direction of Russ, in excess of $800,000 of the proceeds were diverted through fraud from the project.

According to the complaint this fraud was made possible because Haysville and the National Bank of Wichita, the fiscal agent, violated express duties which they had agreed to perform for the protection of the bondholders. The complaint charged that these breaches of duty occurred, in part, because Kohn gave incorrect advice to officials of both Haysville and the fiscal agent concerning their duties. In addition to this alleged scheme involving the four suppliers and their companies, Russ allegedly submitted a number of purportedly false and forged invoices to the National Bank of Wichita for which he paid over $200,000.

The complaint states that the project never began operation. Over a year and a half after the last closing in May 1974, a committee of the bondholders assumed control over the project and liquidated it. The liquidation value of the bonds has been set at $.037 on the dollar. The bondholders' committee is now distributing the liquidated proceeds to the bondholders.

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SEC v. Astro Products of Kansas, Inc., et al., Litigation Release No. 7774 (February 10, 1977) (settled final orders).

Richard M. Hewitt, Administrator of the Fort Worth Regional Office of the Securities and Exchange Commission, announced today that on January 19, 1977, Federal District Judge Frank G. Theis of Wichita, Kansas, granted the Commission's motion for preliminary injunction enjoining defendants Tower Brokerage, Inc.; Hugh Bell, both of St. Petersburg, Florida; Richard T. Heagy of Memphis, Tennessee; and Theodore DuBowik of Phoenix, Arizona, from future violations of the anti-fraud provisions of the federal securities laws. Judge Theis also granted the Commission's motion for preliminary injunction against Roman A. DiMeo of Santa Ana, California, enjoining him from future violations of the registration, anti-fraud, and trust indenture qualification provisions of the federal securities laws.

On January 18, 1977, Judge Theis issued a default order preliminary enjoining defendants Vern Hunt and the Vern Hunt Company, both of West Covina, California, from future violations of the anti-fraud provisions of the federal securities laws.

On November 29, 1976, defendants James J. Russ and Astro Products of Kansas, Inc., both of Memphis, Tennessee, consented, without admitting or denying the Commission's allegations, to the entry of a permanent injunction enjoining them from future violations of the registration, anti-fraud, and trust indenture qualification provisions of the federal securities laws. For further information, see Litigation Release No. 7557.

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SEC v. Astro Products of Kansas, Inc., et al., Litigation Release No. 8613 (December 8, 1978) (defaults entered).

Michael J. Stewart, Administrator of the Fort Worth Regional Office, announced that on October 31, 1978, Federal District Judge Frank Theis, chief judge for the District of Kansas at Wichita, entered orders of permanent injunction by default against Theodore F. DuBowik, Phoenix, Arizona; Vern Hunt, and The Vern Hunt Company, both of Los Angeles, California. These orders enjoin the defendants from future violations of the anti-fraud provisions of the securities laws. For further information, see Litigation Release No. 8574.

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SEC v. The Senex Corporation, et al., Civ. Action No. 74-53 (E.D. Ky.), Litigation Release No. 6451 (July 24, 1974) (complaint).

The Securities and Exchange Commission today announced the filing of a complaint in the U.S. District Court for the Eastern District of Kentucky seeking a preliminary and permanent injunction against The Senex Corporation, a Delaware corporation; Arthur Jay Tarley, Wyoming, Ohio; Mentor Corporation, a Kentucky corporation; A.J. Jolly, Alexandria, Kentucky; Alison, Jay, Malcolm & Company (formerly known as Stemac Management Corporation), a Delaware corporation; BFT, Inc., an Ohio corporation; and Thomas N. Street, Jr., Memphis, Tennessee, from engaging in further violations of certain anti-fraud provisions of the federal securities laws [Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder] in connection with the offer and sale of certain municipal revenue bonds.

The Commission's complaint alleges that the defendants engaged in a fraudulent scheme pursuant to which they promoted with officials of the City of Covington, Kentucky, the concept of building in Covington a nursing home to house the indigent, the infirm and the elderly and that they induced the City of Covington, Kentucky, to authorize the issuance of $4,415,000 City of Covington Health Care Project Revenue Bonds to provide funds to finance the construction of the proposed nursing home.

The complaint alleges that the defendants caused a corporation controlled by certain of the defendants to be appointed to construct the facility for a contract price of approximately $2.9 million and subsequently entered into a contract with a local contractor to construct the same facility for approximately $2.3 million; that when a question arose as to the need for such a facility in the Covington area, the defendants convinced City officials of the need for and the feasibility of the project by withholding and/or endeavoring to discredit two contemporaneous studies which reflected adversely on the need for such a nursing home in the Covington area. In this connection, the complaint alleged that the defendants refused to make available to the Northern Kentucky Health and Welfare Planning Council a copy of an adverse feasibility report stating that the report was "the private domain of the underwriter" when in fact no such underwriter was in existence at that time; and that certain of the defendants stated that the best indication of the project's feasibility was that a sophisticated investment banker was willing and anxious to invest in excess of $4,000,000 in the project when in fact that statement was untrue, and the defendants had been unable to locate any independent securities dealer to underwrite the proposed bond issue.

The complaint alleges that as a further part of the scheme, the defendants caused a purportedly independent feasibility consultant to render a report bearing favorably on the feasibility of the project when in fact the feasibility consultant was not independent but was a promoter and a developer of the nursing home project who expected to share in the developer's profits; and further that the defendants caused a broker-dealer controlled by certain of the defendants to be appointed as financial adviser for the project and as underwriter of the bond issue.

The complaint further alleges that as a further part of the scheme, an offering prospectus was prepared and distributed to investors which failed to disclose, among others, the above material facts, and that the misleading prospectus was used by the defendants in securing an "A" rating for the bonds, which rating was used along with the prospectus to facilitate the sale of the bonds to other dealers and ultimately to individual investors.

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SEC v. The Senex Corporation, et al., Litigation Release No. 6769 (March 5, 1975) (settled final orders.)

The Securities and Exchange Commission announced the entry on March 3, 1975, of an order of preliminary injunction in the U.S. District Court for the Eastern District of Kentucky against A.J. Jolly, Mentor Corp. and Thomas N. Street, Jr. enjoining them from engaging in further violations of certain of the antifraud provisions of the federal securities laws (Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder) in connection with the offer, sale or purchase of City of Covington Health Care Project Revenue Bonds, Series 1972, or any other securities.

After an eleven day hearing on the Commission's motion for preliminary injunction, the Court in its opinion found that in connection with a new offering of municipal bonds issued to finance the construction of a health care facility in Covington, Kentucky, the defendants violated the antifraud provisions by, among other things, failing to disclose: (1) that the defendant Mentor Corporation which issued a consultant's report demonstrating the desirability of the proposed project would share in 50 percent of the developer's profit; (2) that there was a difference of opinion among experts concerning the need for the proposed project as evidenced by the existence of other feasibility reports bearing adversely on the proposed project; and (3) that the project's financial adviser and underwriter were owned and controlled by the developer.

The Court stated in its opinion that "Notwithstanding his biased position, Jolly prepared and permitted use of the Mentor report in the prospectus and as part of a 'package' designed to impress securities dealers" and that "At no time during the lengthy period involved in the promotion did the defendants make any effort to afford an accurate depiction of the experts' disagreements or the financial entanglement among involved entities."

Previously, Judgments of Permanent Injunction in this matter were entered by the U.S. District Court for the Eastern District of Kentucky against The Senex Corporation, Arthur Jay Tarley, Alison, Jay, Malcolm & Company formerly known as Stemac Management Corporation, and BFT, Inc., permanently enjoining them from further violations of Section 17(a) of the Securities Act of 1933 and Section 10(b) and Rule 10b-5 of the Securities Exchange Act of 1934 in connection with the offer, sale or purchase of City of Covington Health Care Project Revenue Bonds, Series 1972 or any other securities. These defendants consented to the entry of permanent injunctions without admitting or denying the allegations of the Commission's complaint.

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SEC v. The Senex Corporation, et al., Litigation Release No. 8651 (January 23, 1979) (settled final orders).

The Securities and Exchange Commission announced the entry on December 5, 1978, of a Judgment of Permanent Injunction upon consent in the United States District Court for the Eastern District of Kentucky against A J Jolly, and Mentor Corporation, enjoining them from engaging in further violations of certain of the anti-fraud provisions of the federal securities laws (Section 17(a) of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder) in connection with the offer, sale or purchase of CITY OF COVINGTON HEALTH CARE PROJECT REVENUE BONDS, SERIES 1972, or any other securities.

The Commission charged that in connection with a new offering of municipal bonds in 1972 issued to finance the construction of a health care facility in Covington, Kentucky, the defendants violated the anti-fraud provisions by, among other things, failing to disclose: (1) that the defendant Mentor Corporation which issued a consultant's report demonstrating the desirability of the proposed project would share in 50 percent of the developer's profit; (2) that there was a difference of opinion among experts concerning the need for the proposed project as evidenced by the existence of other feasibility reports bearing adversely on the proposed project; and (3) that the project's financial adviser and underwriter were owned and controlled by the developer.

Previously, Judgments of Permanent Injunction in this matter were entered by the United States District Court for the Eastern District of Kentucky against Thomas N. Street, The Senex Corporation, Arthur Jay Tarley, Alison, Jay Malcolm & Company formerly known as Stemac Management Corporation, and BFT, Inc., permanently enjoining them from further violations of Section 17(a) of the Securities Act of 1933 and Section 10(b) and Rule 10b-5 of the Securities Exchange Act of 1934 in connection with the offer, sale or purchase of CITY OF COVINGTON HEALTH CARE PROJECT REVENUE BONDS, SERIES 1972 or any other securities. All defendants consented to the entry of permanent injunctions without admitting or denying the allegations of the Commission's complaint.

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SEC v. The Senex Corporation, et al., 399 F. Supp. 497 (E.D. Ky. 1975).

See Federal Reporter.

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Commission Orders - Settled Administrative Proceedings

In re Joseph LeGrotte, Securities Act Release No. 7200, Exchange Act Release No. 36036, A.P. File No. 3-8763 (July 31, 1995).

I. The Commission deems it appropriate and in the public interest that public administrative proceedings be instituted pursuant to Section 8A of the Securities Act of 1933 ("Securities Act") and Section 2lC of the Securities Exchange Act of 1934 ("Exchange Act") against Joseph LeGrotte ("LeGrotte").

In anticipation of the institution of these administrative proceedings, LeGrotte has submitted an Offer of Settlement which the Commission has determined to accept. Solely for the purpose of this proceeding and any other proceeding brought by or on behalf of the Commission, or to which the Commission is a party, and without admitting or denying the findings herein, except as to jurisdiction, which is admitted, LeGrotte consents to the entry of this Order Instituting Proceedings pursuant to Section 8A of the Securities Act and Section 21C of the Exchange Act, Making Findings and Imposing a Cease and Desist Order.

Accordingly, it is ordered that proceedings pursuant to Section 8A of the Securities Act and Section 21C of the Exchange Act be, and hereby are, instituted.

II. On the basis of this Order and the Offer of Settlement submitted by LeGrotte, the Commission makes the following findings:

ENTITY INVOLVED

A. First Humanics Corp. ("First Humanics" or "the company"), a not-for-profit corporation, was in the business of acquiring, renovating and operating nursing homes. From 1984 through 1989, First Humanics renovated and operated 21 nursing homes acquired through 21 separate offerings totalling approximately $82 million in publicly sold municipal and corporate bonds. On October 15, 1987, the Economic Development Corporation of the City of Detroit, Michigan, for the benefit of First Humanics, acquired the Medicos Recovery Care Center (Medicos) through the issuance of $6,955,000 in tax-exempt bonds. This was First Humanics' last offering.

RESPONDENT

B. LeGrotte was an officer and director of First Humanics from 1986 to 1988. LeGrotte reviewed and signed the Medicos offering circular, participated in earlier First Humanics offerings and bond closings and was involved in the operations of First Humanics.

BACKGROUND

C. In connection with each offering, First Humanics contracted to purchase a particular nursing home. To finance the purchase, the Company arranged for a municipality to issue tax free municipal bonds. However, the Company remained liable for all payments to bondholders. To finance the issuance costs on certain of the above offerings, the Company, in some instances, also issued a modest amount of corporate bonds in conjunction with the tax exempt bonds. Again, the Company was liable for all payments to bondholders.

D. Each prospective nursing home was initially located by Lee F. Sutliffe ("Sutliffe"), the undisclosed control person of First Humanics and the undisclosed promoter of' First Humanics' offerings. If Sutliffe decided the nursing home was acceptable for acquisition, the First Humanics Board of Directors then voted to acquire the facility. Sutliffe received an acquisition fee of between $100,000 and $300,000 in connection with each nursing home purchased by First Humanics.

E. Subsequent to the Board's approval, Sutliffe initiated the offering process, through which First Humanics obtained the funds necessary to purchase the nursing home. In connection therewith, Sutliffe assembled an offering "working group" which coordinated the offering process and was responsible for preparing the offering circulars. The activities of the First Humanics working group were largely directed by Sutliffe. In this manner, Sutliffe acted as the promoter of the offerings. LeGrotte also sometimes participated in working group meetings and reviewed offering materials prepared by the working group.

F. In connection with each offering, an offering circular was prepared. The offering circular typically contained sections describing First Humanics, the nursing home to be acquired,the bonds, sources and uses of bond proceeds, risk factors and, as appendices, a financial feasibility study and the Company's audited financial statements. The primary purpose of the offering circular was to provide the investing public with all material facts pertaining to the offering. LeGrotte reviewed offering circular drafts and executed numerous supporting documents which were used in connection with the drafting of the offering circular. In some instances, LeGrotte also signed the offering circulars on behalf of First Humanics. Thus, he participated in the preparation of the offering circulars.

G. Upon completion of the offering process, Sutliffe coordinated the bond closings. In connection therewith, Sutliffe prepared closing documents and directed the wiring and disbursement of bond proceeds from which were paid most of the issuance costs. At each bond closing, the municipal issuer sold the bonds to an underwriter who, in turn, resold them to the investing public through various retail broker dealers. Upon receiving the bond proceeds from the underwriter, the municipal issuer either lent such proceeds to First Humanics so that the Company could purchase the nursing home, or the issuer purchased the nursing home and leased it back to the Company. A certain amount of bond proceeds were also set aside as working capital for the benefit of First Humanics.

H. Immediately after closing, First Humanics assumed the municipal issuer's repayment obligation to the bondholders. Thereafter, the Company was required to make monthly bond payments to the indenture trustee sufficient for the trustee to meet semi-annual interest payments to the bondholders. At all times, effective control of the nursing homes remained with First Humanics. Pursuant to various bond and trust indentures, the Company was also required to allocate a certain amount of the offerings proceeds to a debt service reserve fund. The debt service reserve fund was used to offset any insufficiencies in funds available for the semi-annual interest payments to bondholders. However, the Company was required to pay back any monies withdrawn from this account.

I. Prior to promoting the First Humanics offerings, Sutliffe was involved in the promotion of numerous other bond issues. Most of these earlier offerings, however, had experienced financial problems and some eventually defaulted prior to the Medicos offering. Furthermore. in March 1985, the State of Missouri found that Sutliffe had participated in the making of false filings, and issued a cease and desist order against him. LeGrotte was aware of Sutliffe's business and regulatory history.

J. In addition to Sutliffe's promoting activities, he also controlled First Humanics. The First Humanics officers and Board of Directors, including LeGrotte, allowed Sutliffe to dictate virtually all significant First Humanics' decisions. Sutliffe even served on various First Humanics sub-committees, including a management sub-committee. As such, Sutliffe determined which nursing homes First Humanics would acquire and was involved in the day-to-day operations of the nursing homes. Sutliffe's control was openly displayed at Board of Directors meetings and reflected in the pertinent minutes and in First Humanics internal memoranda and correspondence. Thus, although LeGrotte was an officer and director of First Humanics and was actively involved in the management of the Company, he followed the directions of Sutliffe.

K. Revenues from First Humanics' nursing homes were generally paid directly to the company and, from 1984 on, First Humanics freely and openly commingled all such revenues in a central bank account located in Dixon, Illinois (Dixon account). First Humanics then used the revenues from any one nursing home to pay the expenses of other homes, as the need arose. When a nursing home's revenues were insufficient to meet a bond payment money was simply taken from available funds in the Dixon account, whatever the source. Each nursing home's expenses were paid according to the urgency of the bill and not limited by the amount of revenue generated by the particular nursing home. From 1986 onward, however, most of the nursing homes failed to generate an amount of revenues sufficient to meet their own expenses. As a result, commingling became essential to the operation and survival of First Humanics. The success or failure of any one nursing home was thereby dependent upon the success or failure of all the other nursing homes. Therefore, each municipal offering was, in fact, a de facto investment into First Humanics and its existing nursing homes. LeGrotte was, in fact, aware that the use of one nursing home's revenues to pay anothers expenses was essential to the operation of First Humanics. Thus, LeGrotte acknowledged that a problem in any one nursing home would have an effect on the other nursing homes.

L. In addition, the vast majority of First Humanics' nursing homes were located in Illinois and heavily dependent on Illinois' Medicaid reimbursements, which were often insufficient and continually late. Given the nursing homes interdependence, as the result of the commingling discussed above, such late and insufficient payments affected all nursing homes, even those located outside of Illinois. Thus, largely because of the medicaid problems in late 1985 First Humanics became late in its required monthly bond payments to the indenture trustees for certain bond issues. Therefore, First Humanics began using the funds from some of these delinquent nursing homes' debt service reserve accounts to offset the insufficiencies. Although First Humanics was required to pay back monies withdrawn from such accounts, these payments were often late and insufficient. LeGrotte was aware of both the Medicaid problems and the late and insufficient payments to the debt service reserve funds.

M. As a result of First Humanics' cash flow shortages, First Humanics also became reliant on the working capital generated from new bond offerings as a source of funds for current operations. Additionally, a procedure was developed whereby Sutliffe "kicked-back" a portion of his acquisition fee to First Humanics at or shortly after, each bond closing. Thus, the success of existing nursing homes and the payments to existing bondholders became largely dependent on First Humanics' ability to obtain funds from future offerings. In this manner, First Humanics operated a Ponzi scheme in which LeGrotte participated.

N. Nonetheless, First Humanics continued to be late in its monthly bond payments to the trustees. As a result, First Humanics also continued to deplete certain bond issues' debt service reserve funds. In August 1986, one of the trustees, in fact, informed First Humanics that based on its continued failure to repay these funds it was in violation of four of its bond indentures and, therefore, in technical default. First Humanics experienced a $912,946 loss before depreciation for its fiscal year ended November 30, 1986, even including Sutliffe's kickbacks. Furthermore, none of the nursing homes had met their cash flow projections as stated in their offering circulars. In December 1986, one of the trustees again informed First Humanics that it was in technical default on two of its municipal bonds. However, Sutliffe caused six new bond issues to close on December 18, 1986. As a result, and in connection with the First Humanics Ponzi scheme, additional working capital was 7 generated and, undisclosed to investors, $500,000 of Sutliffe's acquisition fee was kicked-back to First Humanics. These funds were immediately applied to cure First Humanics' monthly bond payment deficits and to pay its pact due bills. Nonetheless, First Humanics' cash flow problems continued.

MEDICOS OFFERING

O. Despite First Humanics' financial problems, in 1987 Sutliffe directed First Humanics to acquire Medicos. Connection therewith, Sutliffe arranged to have the City of Detroit issue $6,955,000 in tax-exempt bonds. Sutliffe directed LeGrotte and other First Humanics board members to issue $530,000 in taxable bonds to cover the issuance expenses; series of bonds were issued pursuant to one offering circular.

P. Sutliffe, acting as the promoter, then began the offering process by assembling the working group which provided the Medicos offering circular. LeGrotte attended these group meetings. Again, Sutliffe largely directed the women group's activities as the undisclosed promoter for Medicos. Although LeGrotte was not primarily responsible for drafting Medicos offering circular, he assisted with its preparation. Furthermore, LeGrotte signed the offering circular on behalf of First Humanics.

Q. Upon completion of the offering process, Sutliffe coordinated the Medicos bond closing. The Medicos offering closed on October 15, 1987 and the municipal and corporate bonds were sold to the public through underwriters and various broker-dealers. Upon receiving the proceeds from the underwriters, municipal issuer purchased Medicos and thereafter leased the facility back to First Humanics. At closing, LeGrotte signed pertinent acquisition and closing documents. In addition, LeGrotte signed certifications stating that the Medicos offering circular did not misrepresent or omit to state any material facts. Finally, Sutliffe kicked-back approximately $200.00 of his Medicos acquisition fee to First Humanics as part of Humanics' ongoing Ponzi scheme.

R. The Medicos offering circular omitted to disclose numerous material facts. For instance, the Medicos offering circular failed to adequately disclose Sutliffe's promotion of the Medicos offering, his control over First Humanics, his bond failures and his past securities law sanctions. Additionally, the Medicos offering circular portrayed Medicos as a "stand alone" nursing home. Thus, the Medicos offering was simply presented as an investment into Medicos. In connection therewith, the offering circular stated that the bondholders' ability to receive interest and principal payments was dependent on the revenues derived from the operation of Medicos, not First Humanics' other nursing homes. As a result, nothing adequately describing the commingling of nursing home revenues or resulting financial interdependence among First Humanics' homes was disclosed. Thus, Medicos bondholders were also not informed that Medicos revenues would be used to pay Humanics existing nursing homes' expenses. Consequently, bondholders were not informed that, in fact, their investments constituted de facto investments into First Humanics and its existing nursing homes and not merely Medicos.

S. Similarly, the serious Illinois Medicaid problem which at the time was adversely affecting all First Humanics' nursing homes was not disclosed. Thus, Medicos bondholders were not informed that, given the nursing homes' financial interdependence, their future bond payments were largely dependent on First Humanics' ability to secure the late Medicaid payments from the State of Illinois. The offering circular also failed to disclose both the August and December 1986 defaults which related directly to First Humanics' ability to pay bondholders.

T. Finally, neither Sutliffe's $200,000 kick-back nor first Humanics' dependence on the capital generated from future offerings to finance its existing nursing homes, as part of its ongoing ponzi scheme, were disclosed. Thus, Medicos bondholders were not informed that their ability to receive payments was also dependent on First Humanics' ability to secure funds from, future offerings.

U. Through LeGrotte's role as an officer and director and his participation in the Medicos offering process LeGrotte was aware of the above material facts. In addition, through his participation in the drafting of the Medicos offering circular LeGrotte knew or should have known that the Medicos offering circular omitted these facts. However, despite this knowledge, LeGrotte actively encouraged the sale of the Medicos bonds to the public by voting to approve the acquisition, signing the offering circular, signing pertinent bond closing documents and certifying that the offering circular contained no material misrepresentations or omissions.

V. Respondent LeGrotte caused violations of Section 17(a) of the Securities Act in that he, in the offer or sale of certain securities, namely Medicos municipal bonds and First Humanics corporate bonds described in paragraphs II. A. and O. above, by use of the means or instruments of transportation or communication in interstate commerce or by use of the mails, directly or indirectly, caused the: employing of devices, schemes or artifices to defraud; obtaining of money or property by means of untrue statements of material facts or omissions to state material facts necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading; or engaging in transactions, practices or courses of business which operated as a fraud or deceit upon purchasers or prospective purchasers. As part of the aforesaid conduct, Respondent caused misrepresentations and omissions of material fact to be made to purchasers and prospective purchasers regulatory history and numerous prior bond and business failures; First Humanics' prevalent commingling of revenues from past nursing home projects and the resulting financial interdependence of all First Humanics nursing homes; the Illinois Medicaid problem; and First Humanics' on-going ponzi scheme.

W. Respondent LeGrotte caused violations of Section 10(b) of the Exchange Act and, Rule 10b-5 promulgated thereunder in that he, in connection with the purchase or sale of certain securities, namely Medicos municipal bonds and First Humanics corporate bonds described in paragraphs II. A. and O above. by use of the means or instrumentalities of interstate commerce or by the use of the mails. directly or indirectly, caused the: employing of devices, schemes or artifices to defraud; making of untrue statements of material facts or omissions to state material facts necessary in order to make the statements made, in the light of the circumstances under which they were made not misleading or engaging in acts, practices or courses of business which operated as a fraud or deceit. As part of the aforesaid conduct. Respondent caused misrepresentations and omissions of material fact to be made to purchasers and sellers concerning, among other things, Sutliffe's role in promoting the offering. his control over First Humanics as well as his regulatory history and numerous prior bond and business failures; First Humanics' prevalent commingling of revenues from past nursing home projects and the resulting financial interdependence of all First Humanics nursing homes; the Illinois Medicaid problem; and, First Humanics' on-going ponzi scheme.

III. In view of the foregoing, it is in the public interest to impose the sanctions agreed to in the Offer of Settlement.

Accordingly, IT IS HEREBY ORDERED THAT, pursuant to Section 8A of the Securities Act and Section 21C of the Exchange Act, Joseph LeGrotte cease and desist from committing or causing any violation, and committing or causing any future violation, of Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10-b promulgated thereunder.

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In re Sidney Gould, Securities Act Release No. 7201, Exchange Act Release No. 36037, A.P. File No. 3-8764 (July 31, 1995).

I. The Commission deems it appropriate and in the public interest that public administrative proceedings be instituted pursuant to Section 8A of the Securities Act of 1933 ("Securities Act") and Section 21C of the Securities Exchange Act of 1934 ("Exchange Act") against Sidney Gould ("Gould").

In anticipation of the institution of these administrative proceedings, Gould has submitted an Offer of Settlement which the Commission has determined to accept. Solely for the purpose of this proceeding and any other proceeding brought by or on behalf of the Commission, or to which the Commission is a party, and without admitting or denying the findings herein, except as to jurisdiction, which is admitted, Gould consents to the entry of this Order Instituting Proceedings pursuant to Section 8A of the Securities Act and Section 21C of the Exchange Act, Making Findings and Imposing a Cease and Desist Order.

Accordingly, it is ordered that proceedings pursuant to Section 8A of the Securities Act and Section 21C of the Exchange Act be, and hereby are, instituted.

II. On the basis of this Order and the Offer of Settlement submitted by Gould, the Commission makes the following findings:n1

ENTITY INVOLVED

A. First Humanics Corp. ("First Humanics" or "the company"), a not-for-profit corporation, was in the business of acquiring, renovating and operating nursing homes. From 1984 through 1989, First Humanics renovated and operated 21 nursing homes acquired through 21 separate offerings totalling approximately $82 million in publicly sold municipal and corporate bonds. On October 15, 1987, the Economic Development Corporation of the City of Detroit, Michigan, for the benefit of First Humanics, acquired the Medicos Recovery Care Center (Medicos) through the issuance of $6,955,000 in tax-exempt bonds. This was First Humanics' last offering.

RESPONDENT

B. Gould was an officer and director of First Humanics from 1986 to 1989. Gould reviewed the Medicos offering circular, participated in earlier First Humanics offerings and bond closings and was involved in the operations of First Humanics.

BACKGROUND

C. In connection with each offering, First Humanics contracted to purchase a particular nursing home. To finance the purchase, the Company arranged for a municipality to issue tax-free municipal bonds. However, the Company remained liable for all payments to bondholders. To finance the issuance costs on certain of the above offerings, the Company, in some instances, also issued a modest amount of corporate bonds in conjunction with the tax-exempt bonds. Again, the Company was liable for all payments to bondholders.

D. Each prospective nursing home was initially located by Lee F. Sutliffe ("Sutliffe"), the undisclosed control person of First Humanics and the undisclosed promoter of First Humanics' offerings. If Sutliffe decided the nursing home was acceptable for acquisition, the First Humanics Board of Directors then voted to acquire the facility. Sutliffe received an acquisition fee of between $100,000 and $300,000 in connection with each nursing home purchased by First Humanics.

E. Subsequent to the Board's approval, Sutliffe initiated the offering process, through which First Humanics obtained the funds necessary to purchase the nursing home. In connection therewith, Sutliffe assembled an offering "working group" which coordinated the offering process and was responsible for preparing the offering circulars. The activities of the First Humanics working group were largely directed by Sutliffe. In this manner, Sutliffe acted as the promoter of the offerings. Gould sometimes participated in working group meetings and also reviewed offering materials prepared by the working group.

F. In connection with each offering, an offering circular was prepared. The offering circular typically contained sections describing First Humanics, the nursing home to be acquired, the bonds, sources and uses of bond proceeds, risk factors and, as appendices, a financial feasibility study and the Company's audited financial statements. The primary purpose of the offering circular was to provide the investing public with all material facts pertaining to the offering. Gould reviewed offering circular drafts, commented on certain drafts, and executed numerous supporting documents which were used in connection with the drafting of the offering circular. Thus, he was involved in the process of preparing offering circulars.

G. Upon completion of the offering process, Sutliffe coordinated the bond closings. At each bond closing, the municipal issuer sold the bonds to an underwriter who, in turn, re-sold them to the investing public through various retail broker-dealers. Upon receiving the bond proceeds from the underwriter, the municipal issuer either lent such proceeds to First Humanics so that the Company could purchase the nursing home and leased it back to the Company. A certain amount of bond proceeds were also set aside as working capital for the benefit of First Humanics.

H. Immediately after closing, First Humanics assumed the municipal issuer's repayment obligation to the bondholders. Thereafter, the Company was required to make monthly bond payments to the indenture trustee sufficient for the trustee to meet semi-annual interest payments to the bondholders. At all times, effective control of the nursing homes remained with First Humanics. In addition, pursuant to various bond and trust indentures, the Company was required to allocate a certain amount of each offering's proceeds to a debt service reserve fund. The debt service reserve fund was used to offset any insufficiencies in funds available for the semi-annual interest payments to bondholders. However, the Company was required to pay back any monies withdrawn from this account.

I. Prior to promoting the First Humanics offerings, Sutliffe was involved in the promotion of numerous other bond issues. Most of these earlier offerings, however, had experienced financial problems and some eventually defaulted prior to the Medicos offering. Furthermore, in March 1985, the State of Missouri found that Sutliffe had participated in the making of false filings, and issued a cease and desist order against him. Gould was aware of Sutliffe's business and regulatory history.

J. In addition to Sutliffe's promoting activities, he also controlled First Humanics. The First Humanics officers and Board of Directors, including Gould, allowed Sutliffe to dictate virtually all significant First Humanics' decisions. Sutliffe even served on various First Humanics' Board sub-committees, including a management sub-committee. As such, Sutliffe determined which nursing homes First Humanics would acquire and was involved in the day-to-day operations of the nursing homes. Sutliffe's control was openly displayed at Board of Directors meetings and reflected in the pertinent minutes and in First Humanics internal memoranda and correspondence. Thus, although Gould was an officer and director of First Humanics and was involved in the management of the Company, he followed the directions of Sutliffe.

K. Revenues from First Humanics' nursing homes were generally paid directly to the company and, from 1984 on, First Humanics freely and openly commingled all such revenues in a central bank account located in Dixon, Illinois (Dixon account). First Humanics then used the revenues from any one nursing home to pay the expenses of other nursing homes, as the need arose. When a nursing home's revenues were insufficient to meet a bond payment, money was simply taken from available funds in the Dixon account, whatever the source. Thus, each nursing home's expenses were paid according to the urgency of the bill and not limited by the amount of revenue generated by the particular nursing home. From 1986 on, however, most of the nursing homes failed to generate an amount of revenues sufficient to meet their own expenses. As a result, commingling became essential to the operation and survival of First Humanics. The success or failure of any one nursing home was thereby dependent upon the success or failure of all the other nursing homes. Therefore, each municipal offering was, in fact, a de facto investment into First Humanics and its existing nursing homes. Gould was, in fact, aware that the use of one nursing home's revenues to pay another's expenses was essential to the operation of First Humanics.

L. In addition, the vast majority of First Humanics' nursing homes were located in Illinois and heavily dependent on Illinois' Medicaid reimbursements, which were often insufficient and continually late. Given the nursing homes interdependence, as the result of the commingling discussed above, such late and insufficient payments affected all nursing homes, even those located outside of Illinois. Thus, largely because of the Medicaid problems, in late 1985 First Humanics became late in its required monthly bond payments to the indenture trustees for certain bond issues. Therefore, First Humanics began using the funds from some of these delinquent nursing homes' debt service reserve accounts to offset the insufficiencies. Although First Humanics was required to pay back monies withdrawn from such accounts, these payments were often late and insufficient. Gould was aware of both the Medicaid problems and the late and insufficient payments to the debt service reserve funds.

M. As a result of First Humanics' cash flow shortages, First Humanics also became reliant on the working capital generated from new bond offerings as a source of funds for current operations. Additionally, a procedure was developed, of which Gould was aware, whereby Sutliffe "kicked-back" a portion of his acquisition fee to First Humanics at, or shortly after, each bond closing. Thus, the success of existing nursing homes and the payments to existing bondholders became largely dependent on First Humanics' ability to obtain funds from future offerings. In this manner, First Humanics operated a Ponzi scheme in which Gould participated.

N. Nonetheless, First Humanics continued to be late in its monthly bond payments to the trustees. As a result, First Humanics also continued to deplete certain bond issues' debt service reserve funds. In August 1986, one of the trustees, in fact, informed First Humanics that based on its continued failure to repay these funds it was in violation of four of its bond indentures and, therefore, in technical default. First Humanics experienced a $912,946 loss before depreciation for its fiscal year ended November 30, 1986, even including Sutliffe's kick-backs. Furthermore, none of the nursing homes had met their cash flow projections as stated in their offering circulars. In December 1986, one of the trustees again informed First Humanics that it was in technical default on two of its municipal bonds. However, Sutliffe caused six new bond issues to close on December 18, 1986. As a result, and in connection with the First Humanics Ponzi scheme, additional working capital was generated and, undisclosed to investors, $500,000 of Sutliffe's acquisition fee was kicked-back to First Humanics. These funds were immediately applied to cure First Humanics' monthly bond payment deficits and to pay its past due bills. Nonetheless, First Humanics' cash flow problems continued.

MEDICOS OFFERING

O. Despite First Humanics' financial problems, in early 1987 Sutliffe directed First Humanics to acquire Medicos. In connection therewith, Sutliffe arranged to have the City of Detroit issue $6,955,000 in tax-exempt bonds. Sutliffe also directed Gould and other First Humanics board members to issue $530,000 in taxable bonds to cover the issuance expenses. Both series of bonds were issued pursuant to one offering circular.

P. Sutliffe, acting as the promoter, then began the offering process by assembling the working group which prepared the Medicos offering circular. Again, Sutliffe largely directed the working group's activities as the undisclosed promoter for Medicos. Gould reviewed the Medicos offering circular and the related offering documents. Although Gould was not primarily responsible for drafting the Medicos offering circular, as an officer he was involved in its preparation.

Q. Upon completion of the offering process, Sutliffe then coordinated the Medicos bond closing. The Medicos offering closed on October 15, 1987 and the municipal and corporate bonds were sold to the public through underwriters and various broker-dealers. Upon receiving the proceeds from the underwriters, the municipal issuer purchased Medicos and thereafter leased the facility back to First Humanics. At closing, Gould, signed pertinent acquisition and closing documents necessary for the offering to close. In addition, Gould signed certifications stating that the Medicos offering circular did not misrepresent or omit to state any material facts. Finally, Sutliffe kicked-back approximately $200,000 of his Medicos acquisition fee to First Humanics as part of First Humanics' ongoing Ponzi scheme.

R. However, the Medicos offering circular omitted to disclose numerous material facts. For instance, the Medicos offering circular failed to adequately disclose Sutliffe's promotion of the Medicos offering, his control over First Humanics, his prior bond failures and his past securities law sanction. Additionally, the Medicos offering circular portrayed Medicos as a "stand alone" nursing home. Thus, the Medicos offering was simply presented as an investment into Medicos. In connection therewith, the offering circular stated that the bondholders' ability to receive interest and principal payments was dependent on the revenues derived from the operation of Medicos, not First Humanics' other nursing homes. As a result, nothing adequately describing the commingling of nursing home revenues or the resulting financial interdependence among First Humanics' nursing homes was disclosed. Thus, Medicos bondholders were also not informed that Medicos revenues would be used to pay First Humanics existing nursing homes' expenses. Consequently, bondholders were not informed that, in fact, their investments constituted de facto investments into First Humanics and its existing nursing homes and not merely Medicos.

S. Similarly, the serious Illinois Medicaid problem which at the time was adversely affecting all First Humanics' nursing homes was not disclosed. Thus, Medicos bondholders were not informed that, given the nursing homes' financial interdependence, their future bond payments were largely dependent on First Humanics' ability to secure the late Medicaid payments from the State of Illinois. The offering circular also failed to disclose both the August and December 1986 defaults which related directly to First Humanics' ability to pay bondholders.

T. Finally, neither Sutliffe's $200,000 kick-back nor First Humanics' dependence on the capital generated from future offerings to finance its existing nursing homes, as part of its ongoing ponzi scheme, were disclosed. Thus, Medicos bondholders were not informed that their ability to receive payments was also dependent on First Humanics' ability to secure funds from future offerings.

U. Through Gould's role as an officer and director and his participation in the Medicos offering process Gould was aware of the above material facts. In addition, through his participation in the Medicos offering process, Gould knew or should have known that the Medicos offering circular omitted these facts. However, despite this knowledge, Gould actively encouraged the sale of the Medicos bonds to the public by voting to approve the acquisition, signing pertinent bond closing documents and certifying that the offering circular contained no misrepresentations or omissions of material fact.

V. Respondent Gould caused violations of Section 17(a) of the Securities Act in that he, in the offer or sale of certain securities, namely Medicos municipal bonds and First Humanics corporate bonds described in paragraphs II. A. and O. above, by use of the means or instruments of transportation or communication in interstate commerce or by use of the mails, directly or indirectly, caused the employing of devices, schemes or artifices to defraud; obtaining of money or property by means of untrue statements of material facts or omissions to state material facts necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading; or engaging in transactions, practices or courses of business which operated as a fraud or deceit upon purchasers or prospective purchasers. As part of the aforesaid conduct, Respondent caused misrepresentations and omissions of material fact to be made to purchasers and prospective purchasers concerning, among other things, Sutliffe's role in promoting the offering, his control over First Humanics as well as his regulatory history and numerous prior bond and business failures; First Humanics' prevalent commingling of revenues from past nursing home projects and the resulting financial interdependence of all First Humanics nursing homes; the Illinois Medicaid problem; and, First Humanics' on-going ponzi scheme.

W. Respondent Gould caused violations of Section 10(b) of the Exchange Act and Rule 10b-5 promulgated thereunder in that he, in connection with the purchase or sale of certain securities, namely Medicos municipal bonds and First Humanics corporate bonds described in paragraphs II. A. and O. above, by use of the means or instrumentalities of interstate commerce or by the use of the mails, directly or indirectly, caused the: employing of devices, schemes or artifices to defraud; making of untrue statements of material facts or omissions to state material facts necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading; or engaging in acts, practices or courses of business which operated as a fraud or deceit. As part of the aforesaid conduct, Respondent caused misrepresentations and omissions of material fact to be made to purchasers and sellers concerning, among other things, Sutliffe's role in promoting the offering, his control over First Humanics as well as his regulatory history and numerous prior bond and business failures; First Humanics' prevalent commingling of revenues from past nursing home projects and the resulting financial interdependence of all First Humanics nursing homes; the Illinois Medicaid problem; and, First Humanics' on-going ponzi scheme.

III. In view of the foregoing, it is in the public interest to impose the sanctions agreed to in the Offer of Settlement.

Accordingly, IT IS HEREBY ORDERED THAT, pursuant to Section 8A of the Securities Act and Section 21C of the Exchange Act, Sidney Gould cease and desist from committing or causing any violation, and committing or causing any future violation, of Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 promulgated thereunder.

Footnotes

-[n1]- The findings herein are made pursuant to Gould's offer of settlement and are not binding on any other person or entity named as a respondent in this or any other proceeding.

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