United States District Court, D. Columbia
[Copyrighted Material Omitted]
[Copyrighted Material Omitted]
U.S. SECURITIES AND EXCHANGE COMMISSION, Plaintiff: Kenneth
John Guido, Jr., LEAD ATTORNEY, U.S. SECURITIES & EXCHANGE
COMMISSION, Enforcement, Washington, DC.
GRACE, Defendant, Pro se, Boulder, CO.
SAITO, Defendant, Pro se, Miyagi-Ken, Japan.
J. ROWEN, Defendant, Pro se, Sebastapol, CA.
E. BOASBERG, United States District Judge.
civil-enforcement case brought by the Securities and Exchange
Commission has at long last rounded the corner from the
liability phase to the remedy phase. In 2011, the SEC accused
Mary A. Grace, Tamio Saito, e-Smart Technologies, Inc.,
Intermarket Ventures Inc., and IVI Smart Technologies, Inc.,
along with several individual brokers, of violating multiple
provisions of the Securities Exchange Act of 1934 and the
Securities Act of 1933 in connection with the unlawful sale
of e-Smart securities. In three decisions spanning 2014 and
2015, the Court granted in substantial part the SEC's
Motions for Summary Judgment on the liability of Grace and
Saito. Separately, the Clerk entered a default against the
three corporate Defendants -- e-Smart, Intermarket,
and IVI -- on account of their failure to obtain counsel and
defend against the SEC's accusations, and the brokers
have all settled.
Commission now moves for specific remedies, seeking permanent
injunctive relief -- i.e., bars on violating the
securities laws, serving as officers or directors of publicly
traded companies, and participating in penny-stock offerings
-- disgorgement of all ill-gotten gains (along with
pre-judgment interest), and civil penalties. It also asks for
an opportunity to move for the establishment of a " Fair
Fund" if the SEC manages to recoup sufficient assets to
warrant distribution back to investors. The Court will grant
the Commission's Motion in part and deny it in part, with
instructions to the SEC and Grace to provide supplemental
submissions on several issues pertaining to disgorgement and
Court has already set forth detailed background facts in the
four decisions leading up to this point. See SEC v. e-Smart
Technologies, Inc. (E-Smart I), 31 F.Supp.3d 69 (D.D.C. 2014)
(denying Defendants' motion to dismiss); SEC v. e-Smart
Technologies, Inc. (E-Smart II), 74 F.Supp.3d 306 (D.D.C.
2014) (granting partial summary judgment against Grace on
counts I and II); SEC v. e-Smart Technologies, Inc. (E-Smart
III), 82 F.Supp.3d 97 (D.D.C. 2015) (granting summary
judgment against Grace on counts V and VII and denying
judgment as to count VI); SEC v. e-Smart Technologies, Inc.
(E-Smart IV), 85 F.Supp.3d 300, 2015 WL 1423495 (D.D.C. 2015)
(granting summary judgment against Saito on counts I and V).
The facts recited here are limited to those necessary to
resolve the SEC's remedial requests, with some additional
details provided for context.
Grace and Tamio Saito are the central players in this case.
Grace was President, CEO, Chief Financial Officer, and a
director of e-Smart Technologies, Inc., a publicly traded
company that directed its business activities towards
creating and selling " biometric identification
verification systems." E-Smart II, 74 F.Supp.3d
at 311. The company claimed that its blockbuster product was
a " smart card" that could verify its
possessor's identity using fingerprint sensors.
Id. Grace, along with e-Smart's Chief Technology
Officer, Saito, sought the assistance of investors to bring
this technology to market. But in doing so, Grace, Saito, and
the corporate Defendants committed a number of violations of
the securities statutes, and the SEC maintains that the whole
enterprise was a sham.
their first misstep, from early 2005 to the end of 2007,
Defendants Grace and e-Smart sought investor capital by
selling free-trading e-Smart shares without first registering
those securities with the SEC -- a violation of sections 5(a)
and (c) of the Securities Act. Id. at 324; see Mot.,
Declaration of Jeffrey R. Anderson, ¶ 7a-b; id., Exh.
A-1 (Stock Issuance Spreadsheet); id., Exh. A-2 (Bank
Deposits, 2006-2007). The sale actually consisted of a
convertible-loan scheme, in which investors would make
short-term loans to two intermediary corporations controlled
by Grace (Intermarket and IVI), which would then offer up
their restricted e-Smart shares as collateral for the loans.
When the loans inevitably went into default, the "
lenders" -- i.e., investors -- would be given
the option to convert their notes into e-Smart stock at $0.10
per share. E-Smart II, 74 F.Supp.3d at 325. As a
result of this scheme, " millions of dollars in
'loans' were exchanged for millions of unregistered,
free-trading [e-Smart] shares," thereby circumventing
the Securities Act's requirement that shares be
Separately, in a bid to make the company attractive to
investors, Grace and Saito in 2007 and 2008 caused e-Smart to
publish several claims about its business that subsequently
proved false, in violation of section 10(b) of the Securities
Exchange Act and SEC Rule 10b-5. Specifically, in a public
filing made to the SEC in October 2007 -- the 2006 10-KSB --
Saito and e-Smart made numerous " detailed technological
claims about the capabilities" of e-Smart's
smart-card product, many of which proved false. E-Smart
IV, 85 F.Supp.3d at 313. Several months later, in
February 2008, Grace and e-Smart issued a press release in
which the company falsely claimed to have landed a supremely
profitable contract to supply the multinational corporation
Samsung with 20 million smart cards. E-Smart II, 74
F.Supp.3d at 318.
while sitting at its helm, Grace played a key role in
e-Smart's failure to keep its books in order, implement
proper internal controls, and file certain mandatory reports
with the SEC (violations of the Exchange Act sections 13(a),
13(b)(2)(A), and 13(b)(2)(B), as well as Rules 12b-20, 13a-1,
13a-11, and 13a-13).
though e-Smart proved rather skillful at fishing for capital
from investors, it had little to no revenue, notwithstanding
its principals' representations that substantial income
would be forthcoming. See E-Smart II, 74 F.Supp.3d
at 312. And, despite the anemic state of e-Smart's
balance sheet, Grace had no compunction about drawing down
the company's cash deposits, spending millions of dollars
on hotels, travel, jewelry, clothing, restaurants, and other
personal services. Id. at 313.
filed this suit against Defendants in 2011. After a lengthy
period of discovery, the Commission moved serially for
summary judgment against all Defendants, which the Court
largely granted. It held Grace liable for selling
unregistered securities, making false statements in a 2008
press release, and failing to manage her business in
accordance with SEC regulations. See E-Smart II, 74
F.Supp.3d 306; E-Smart III, 82 F.Supp.3d 97. It also
held Saito liable for making false statements in the 2006
10-KSB and failing to make certain filings required of large
shareholders. See E-Smart IV, 85 F.Supp.3d 300. When
the three corporate Defendants failed to obtain counsel, the
Court directed the Clerk to enter a default against them
pursuant to Federal Rule of Civil Procedure 55(a). See ECF
No. 118 (May 7, 2013, Order granting in part SEC's Motion
for Default Judgment). With all issues of liability resolved,
the SEC now seeks final judgment against all five Defendants.
substantive standards governing the SEC's particular
remedial requests as to the individual Defendants will be set
forth in each subsection below. In resolving this Motion, the
Court must also determine whether judgment against the three
defaulting corporate Defendants is appropriate. It therefore
now summarizes the legal standard governing entry of default
Rule of Civil Procedure 55 establishes a two-step process for
entering a default judgment against a party that fails to
plead or otherwise defend. First, the Clerk enters the
party's default, see Fed.R.Civ.P. 55(a), and then, unless
the claim is for a sum certain, the Court determines whether
to enter a default judgment, conducting hearings as necessary
in order " to enter or effectuate judgment."
Fed.R.Civ.P. 55(b)(2). " The determination of whether
default judgment is appropriate is committed to the
discretion of the
trial court." Int'l Painters & Allied Trades
Indus. Pension Fund v. Auxier Drywall, LLC, 531
F.Supp.2d 56, 57 (D.D.C. 2008) (citing Jackson v.
Beech, 636 F.2d 831, 836, 205 U.S.App.D.C. 84 (D.C. Cir.
default resolves the question of liability against the
defaulting party, see, e.g., Boland v. Elite Terrazzo
Flooring, Inc., 763 F.Supp.2d 64, 67 (D.D.C. 2011), it
does not necessarily determine Plaintiff's entitlement to
all remedies requested. See SEC v. Mgmt. Dynamics,
Inc., 515 F.2d 801, 814 (2d Cir. 1975) (requiring
district court to " make an independent
determination" regarding SEC's entitlement to
equitable remedies); SEC v. One or More Unknown Traders
in the Common Stock of Certain Issuers, 825 F.Supp.2d
26, 31-32 (D.D.C. 2010) (making " independent
determination" regarding amount of disgorgement to be
awarded against defaulting defendants). Where the remedy
requested involves a particular sum -- as in the case of
disgorgement -- the plaintiff " 'must prove its
entitlement'" to such amount, but the court may, in
resolving the motion, " 'rely on detailed affidavits
or documentary evidence to determine the appropriate sum for
the default judgment.'" Teamsters Local
639-Employers Health Trust v. Davis, 736 F.Supp.2d
168, 171 (D.D.C. 2010) (quoting Flynn v. Mastro Masonry
Contractors, 237 F.Supp.2d 66, 69 (D.D.C. 2002)).
Similarly, a plaintiff must prove its entitlement to
injunctive relief based on actual evidence. See Mgmt.
Dynamics, Inc., 515 F.2d at 814.
Court, therefore, will consider the merits of the SEC's
particular requests for judgment against both the individual
and the defaulting corporate Defendants.
Commission here requests four remedies. First, a permanent
injunction barring: all five Defendants from committing
securities-fraud violations, Grace and Saito from serving as
officers or directors of publicly traded companies, and Grace
and Saito from participating in any offering of penny stock.
Second, disgorgement of $19,639,344 in ill-gotten gains and
$9,332,640 in prejudgment interest from e-Smart, with the
remaining Defendants jointly and severally liable for lesser
portions of that total. Third, civil penalties against
e-Smart ($1,950,000), Grace ($17,250,233.60), Saito
($520,000), IVI ($650,000), and Intermarket ($650,000). Last,
the SEC requests that the final judgment include a provision
allowing the SEC to move for establishment of a Fair Fund if
it locates a sizeable-enough sum of Defendants' assets to
warrant distribution to investors. The Court examines each
set of remedies in turn.
first asks this Court to permanently enjoin the five
Defendants from future violations of the securities laws
commensurate with the scope of each Defendant's
liability. Simply stated, Plaintiff seeks a broad injunction
against future violations by e-Smart and Grace, and a
narrower one for Saito, IVI, and Intermarket.
21(d) of the Exchange Act, 15 U.S.C. § 78u(d), permits
the SEC to seek, and district courts to grant, injunctions
" commanding compliance with [federal securities] laws
and regulations promulgated thereunder." SEC v.
Savoy Indus., Inc., 665 F.2d 1310, 1318 n.54, 215
U.S.App.D.C. 7 (D.C. Cir. 1981). The remedy gives teeth to
the securities laws by " subject[ing] defendant[s] to
contempt sanctions if [their] subsequent [activity] is deemed
unlawful . . . ." SEC v. Unifund SAL, 910 F.2d
1028, 1040 (2d Cir. 1990).
essential question in deciding whether to issue a permanent
injunction in light of past violations is whether there is a
reasonable likelihood that the wrong will be repeated.
SEC v. Bilzerian, 29 F.3d 689, 695, 308 U.S.App.D.C.
43 (D.C. Cir. 1994). In this Circuit, a court must generally
consider three factors in deciding whether a future violation
is reasonably likely: " 'whether a defendant's
violation was isolated or part of a pattern, whether the
violation was flagrant and deliberate or merely technical in
nature, and whether the defendant's business will present
opportunities to violate the law in the future.'"
Id. (quoting SEC v. First City Fin. Corp.,
890 F.2d 1215, 1228, 281 U.S.App.D.C. 410 (D.C. Cir. 1989)).
No factor is dispositive; rather, the
reasonable-likelihood-of-violation inquiry is to be answered
" based on the totality of circumstances."
First City, 890 F.2d at 1228. But see SEC v.
Wills, 472 F.Supp. 1250, 1273 (D.D.C. 1978)
(highlighting as " the most important" factor
" whether the defendants' prior illegal conduct was
repeated and persistent or merely amounted to an isolated
all Defendants, the SEC has shown a reasonable likelihood
that the specific wrongs will be repeated. The securities
violations they committed reveal a dogged pattern of using
different tactics to obtain investor funds, regardless of
whether the means for doing so violated federal law.
Beginning at least with the convertible-loan scheme,
masterminded by Grace and implemented with the help of IVI
and Intermarket, e-Smart and its collaborators worked closely
to ensure consistent streams of investor moneys. When the
two-year period of unregistered security issuances ceased,
Grace and Saito found ways of keeping investor money
streaming in by misrepresenting e-Smart's revenue
prospects and income potential, keeping e-Smart tenuously
afloat for another three years. In short, the violations
between closely related actors were numerous and repeated,
and cannot be said to comprise a single " isolated
incident." See SEC v. Johnson, 595 F.Supp.2d
40, 43-44 (D.D.C. 2009) (distinguishing series of closely
related steps taken to commit single fraudulent act --
i.e., one " incident" -- from "
'repeated and persistent misconduct'" ) (quoting
SEC v. Nat'l Student Marketing Corp., 457
F.Supp. 682, 715 (D.D.C. 1978)).
violations, moreover, were flagrant and deliberate.
Defendants' actions were carried out with
scienter and resulted in the loss of millions of
dollars in investor capital. Nor were the violations "
merely technical." SEC v. Savoy Indus. Inc.,
587 F.2d 1149, 1165, 190 U.S.App.D.C. 252 (D.C. Cir. 1978)
(defining technical violations as those that are "
inconsequential" or that do not cause type of harm that
statutory scheme was designed to prevent). On the contrary,
they caused precisely the kind of harm to investors and the
marketplace that the securities laws are designed to prevent.
Defendants' violations here thus stand near the opposite
end of the spectrum from violations of the technical or
malum prohibitum variety. Cf. Black's Law
Dictionary 1045 (9th ed. 2009) (defining malum
prohibitum as an act that is wrongful " merely
because it is prohibited by statute, although the act itself
is not necessarily immoral" ).
the SEC has submitted undisputed evidence that
Defendants' business endeavors will, absent an
injunction, present ample opportunity for them to violate the
securities laws again. See Wills, 472 F.Supp. at
1273 (framing the inquiry as determining whether defendants
are " now in positions where future violations can be
anticipated" ). Central to the SEC's argument are
indicia that e-Smart's brain trust, Grace and Saito, plan
to continue developing and commercializing smart-card
products of the type that landed them in hot water in the
glaring is Grace's insistence that, despite the SEC's
ongoing enforcement action and its success on summary
judgment, she will continue selling, marketing, and seeking
investors to support some version of a smart-card product
through a non-party company, IVI Holdings, Ltd. See Grace
Opp. at 40 (" If Plaintiff will leave Defendant's
business alone now, the shareholders of Defendant's
companies and their investors, lenders and shareholders can
finally benefit." ); id. (" Defendant's [
sic] have never stopped [seeking future
opportunities to market their product] -- it is
Defendant's businesses. The survival and future of
Defendant's companies, investors and shareholders depend
on this. And- the product is not an 'alleged
there is nothing wrong with seeking investor funds to sell a
product per se -- assuming no securities laws are
violated in the process -- Grace and Saito seem determined to
repeat the same missteps that brought them before this Court.
As an example, in Saito's motion seeking reconsideration
of this Court's summary-judgment decision, he stated that
the U.S. Patent and Trademark Office had issued five patents,
filed between 2002 and 2007, covering some of the
technologies e-Smart previously sought to develop. See ECF
Nos. 663 (Saito Mot. for Reconsideration), 664 (same).
Although his purpose in bringing up the patents is to show
the legitimacy of his invention -- which, presumably, would
illustrate the illegitimacy of this Court's conclusion
that the claims in the 2006 10-KSB were fraudulent, see
E-Smart IV, 85 F.Supp.3d 300, 2015 WL 1423495, at *18-19
-- his filings reveal his unyielding belief that the
statements he made contained no false information whatsoever.
In so doing, Saito sheds light on how he might treat such
technology in the future, equating, as he does, the
development of an idea (as embodied in a patent) with its
reduction to practice in a commercially viable product (as
was promised in the 2006 10-KSB).
moreover, appears an inextricable partner in that
technology's future marketing and commercialization. The
patents are held by IVI Holdings, a company that she admits
she formed " to own and hold the patents which were
developed and patented and originally owned by IVI Smart
Technologies, Inc." Grace Opp. at 26. Indeed, Grace
insists that, but for the existence of non-party IVI Holdings
and its willingness to " revive and reactivate th[ose]
patents," they would have been lost, " saving
defendant companies from utter ruin." Id. at 27
(emphasis added). The SEC provides additional evidence that,
at least as of 2012, Grace was publicly repeating the same
misrepresentations regarding the smart-card technology at the
center of this suit in a website for a Hong Kong-registered
company named I Am Holdings. See Mot., Att. D (Nov. 8, 2012,
Screen Grab of www.iam-holdings.com); id., Att. E (Hong Kong
Registration of I AM HOLDINGS). And Grace appears not to
dispute that she intends to market and sell similar products
in the future. See Grace Opp. at 27 (" The alleged
wrongdoing . . . has nothing to do with the patents revived
by IVI Holdings or the I AM card . . . . Plaintiff is trying
to . . . prevent Defendants from continuing to do business,
with products and companies that were never named or accused
of any wrongdoing." ).
has thus established a " reasonable likelihood"
that Grace and Saito would commit securities violations in
the future. And the Court sees no reason to part ways with
that conclusion as applied to the corporate Defendants. See
Chris-Craft Indus., Inc. v. Piper Aircraft Corp.,
480 F.2d 341, 388 (2d Cir. 1973) (Timbers, J., dissenting in
part) (" [W]here violations of the securities laws have
in the past by a corporation through its officers, the nature
of the corporation and its officers is an important
consideration in determining the likelihood of further
violations." ). The Court will, therefore, impose on
Grace and Saito a lifetime injunction against violating the
securities laws as specified in the Conclusion
also asks the Court to permanently bar Grace and Saito from
serving as an officer or director of a publicly traded
company on account of their violations of section 10(b) of
the Exchange Act. That Act provides that, in a
civil-enforcement action brought by the SEC:
[T]he court may prohibit, conditionally or unconditionally,
and permanently or for such period of time as it shall
determine, any person who violated [Section 10(b)] or the
rules or regulations thereunder from acting as an officer or
director of any issuer . . . if the person's conduct
demonstrates unfitness to serve as an officer or director of
any such issuer.
15 U.S.C. § 78u(d)(2) (emphasis added).
neither Congress nor this Circuit has elaborated on the
meaning of " unfitness" in this context, most
courts have zeroed in on a series of non-exhaustive factors
-- derived almost wholly from the scholarship of one law
professor -- that purport to identify predictors of future
unlawful behavior from known facts about a defendant's
Second Circuit's six-factor framework in SEC v.
Patel, 61 F.3d 137 (2d Cir. 1995), is the most
prevalent. In assessing " unfitness" to serve, it
required an evaluation of: " (1) the
'egregiousness' of the underlying securities law
violation; (2) the defendant's 'repeat offender'
status; (3) the defendant's 'role' or position
when he engaged in the fraud; (4) the defendant's degree
of scienter; (5) the defendant's economic stake in the
violation; and (6) the likelihood that misconduct will
recur." Id. at 141 (drawing from Jayne W.
Barnard, When is a Corporate Executive " Substantially
Unfit to Serve" ?, 70 N.C. L.Rev. 1489, 1492-93
(1992)). Importantly, the Patel court was
careful to emphasize the importance of the " likelihood
of future misconduct" factor, requiring courts to find
the facts sufficient to " justify the prediction that
future misconduct will occur" before granting an
injunctive remedy. Id. at 141.
decades later -- and after Congress in 2002 modified §
78u(d)(2) to require only a showing of mere "
unfitness" rather than " substantial
unfitness" -- a court in this district articulated a
revised, nine-factor version of the Patel test, also derived
from an article written by Professor Barnard. See SEC v.
Levine, 517 F.Supp.2d 121, 144 (D.D.C. 2007). Those
factors include: " (1) the nature and complexity of the
scheme; (2) the defendant's role in the scheme; (3) the
use of corporate resources in executing the scheme; (4) the
defendant's financial gain (or loss avoidance) from the
scheme; (5) the loss to investors and others as a result of
the scheme; (6) whether the scheme represents an isolated
occurrence or a pattern of misconduct; (7) the
defendant's use of stealth and concealment; (8) the
defendant's history of business and related misconduct;
and (9) the defendant's acknowledgment of wrongdoing and
the credibility of his contrition." Id. at 145
Rule 10b-5 and the " Unfitness" Question, 47 Ariz.
L.Rev. 9, 46 (2005)). Recognizing that the central purpose of
such injunctions was to " protect the public against
future harm" by predicting individuals who were likely
to commit future misdeeds, Barnard nevertheless omitted from
the revised test the " likelihood of future
misconduct" factor, in large part because of courts'
inclination to lean on the " severity of the
defendant's prior misconduct" as a predictive proxy
instead of engaging in a " sincere effort to predict the
future." Barnard, Rule 10b-5, 47 Ariz. L.Rev. at 30, 53.
Instead, the test aimed for greater predictive accuracy by
tailoring the Patel factors to identify " only those
defendants who, by their conduct and attitude both in
business and before the court, have demonstrated that they
are 'opportunity seekers' . . . [who] look for ways
to abuse or disrupt the capital markets." Id.
of both tests, therefore, is to separate likely recidivists
from the reformed to ensure injunctions are entered only
against the former. As a result, the Court need not pick and
choose among the dueling frameworks because under both,
Grace's and Saito's conduct and recent
representations to the Court make clear that they are likely
recidivists who are " unfit" to serve as a
director or officer -- at least for the time being. Critical
here is that, as discussed previously, both Defendants
readily volunteered their intent to continue seeking investor
capital in promoting and selling some version of a smart-card
product. More importantly, the Defendants not only fail to
accept the illegality of their previous behavior, but appear
incredulous that any court could conclude that their prior
statements to investors were anything but truthful. See Grace
Opp. at 5 (" No Evidence of Fraud or Extreme
Recklessness regarding the Samsung Press ...