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SEC v. Cavanagh

United States Court of Appeals for the Second Circuit

July 17, 1998, Argued ; September 2, 1998, Decided

Docket Nos. 98-6111, 98-6119, 98-6129

Opinion

 [*131]  REAVLEY, Circuit Judge:

The Securities and Exchange Commission brought this enforcement action against multiple defendants for violations of the registration and antifraud provisions of the federal securities laws. 2 [**3]  The SEC also named several relief defendants in the complaint and sought disgorgement of the stock at issue and all proceeds from sales of that stock. After a six day hearing, the district court entered a preliminary injunction in favor of the SEC. 3 William Levy, Tamar Lehmann, Thomas Cavanagh, Karen Cavanagh, U.S. Milestone, and Cromlix, L.L.C. For the reasons discussed below, we affirm.

BACKGROUND

Based on evidence introduced at the preliminary injunction hearing, the district court made the following findings of fact, which (except where otherwise noted) are effectively uncontested for purposes of this appeal. WTS Transnational, Inc., a Massachusetts corporation in the process of developing and producing a security fingerprint system, needed financing to continue. As of September 30, 1997, WTS had $ 10,000 in assets, $ 655,000 in current liabilities and no revenues. It had yet to produce or test a prototype of its unpatented fingerprint verification system.

Thomas Cavanagh is an investment banker who runs U.S. Milestone, an investment banking company specializing in Regulation S offerings. Levy, a New Jersey securities lawyer, is Milestone's legal counsel. Cavanagh and Levy agreed to work out financing for WTS. They located a shell corporation, Curbstone Acquisition Corp., which had registered 3,500,000 shares with the SEC and had essentially no assets. Curbstone's principals--including George [**4]  Chachas--registered the 3,500,000 shares pursuant to an S-8 registration statement, which is used to register securities offered to directors of a corporation, employees, and consultants. 4 Chachas was an officer, director, and major shareholder of Curbstone. Chachas and three others owned approximately 97% of the shares in Curbstone, which shares are hereafter referred to as the management shares. Levy, Cavanagh, and Chachas worked out a reverse stock acquisition, whereby Curbstone  [*132]  would acquire WTS, and WTS's management would replace Curbstone's. The resulting entity was to be named Electro-Optical Systems Corporation (EOSC).

On December 8, 1997, WTS and Curbstone signed the Acquisition Agreement. The agreement provided for a closing on or prior to January 16, 1998. In late December 1997, Chachas, Levy, and Cavanagh arranged for the sale of Curbstone shares to third parties, with the actual sales to be made after the closing on the Acquisition [**5]  Agreement. Chachas submitted a letter of resignation from his position as officer and director with Curbstone on December 12, after the Acquisition Agreement was executed, but before the transaction closed; Chachas and Thomas Brooksbank, acting as Curbstone's board, accepted their own resignations on December 18, 1997. The SEC alleges that, after the acquisition closed on December 18, Cavanagh and Chachas drove up the price of EOSC shares by purchasing small lots at high prices, issuing false and misleading press releases about WTS, and controlling the supply of EOSC shares through the third parties to which the management shares had been sold. Cavanagh also distributed hundreds of thousands of shares to friends, relatives and associates, often without consideration. Tamar Lehmann's husband, who introduced Cavanagh to WTS's management, was one of these people; he directed that the shares be deposited in his wife's account.

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155 F.3d 129 *; 1998 U.S. App. LEXIS 21480 **; Fed. Sec. L. Rep. (CCH) P90,277

SECURITIES AND EXCHANGE COMMISSION, Plaintiff-Appellee, v. THOMAS EDWARD CAVANAGH, U.S. MILESTONE, and WILLIAM N. LEVY, Defendant-Appellants, KAREN CAVANAGH, CROMLIX, LLC, and TAMAR LEHMANN, Relief-Defendant-Appellants, ELECTRO-OPTICAL SYSTEMS, CORP., GEORGE CHACHAS, THOMAS R. BROOKSBANK, OPTIMUM FUND, AGIRA TRADING, LTD., CUSTOMER SAFETY, S.L., CAMBIARIOS, S.L., CONSTRUCCIONES, S.L., THOMAS A. HANTGES, COSIMO TACOPINO, Defendants, DONALD & CO. SECURITIES INC., SHBL ASSOCIATES EUROPE LTD., JOSEPH FALCO, MARTIN HODAS, BERND STIEGHORST, ERIN MARTIN, ANTHONY S. LUTTENBERGER, ANA P. LOPEZ, METROPOLITAN TRADE FINANCE LTD., TIM TIMLIN, CARMILLO MONASTRA, EUGENE STRICKER, ARTHUR DE ACUTIS, JEAN-PIERRE NEUHAUS, KENNETH C. KEHOE, and ANTONIO V. BOROTTO, Relief-Defendants.

Prior History:  [**1]  The Securities and Exchange Commission brought action against multiple defendants for violations of the registration and antifraud provisions of the federal securities laws. The United States District Court for the Southern District of New York, Denise Cote, J., entered a preliminary injunction, and the defendants appealed. The Court of Appeals, Thomas M. Reavley, Circuit Judge, sitting by designation, held that the SEC had made a sufficient showing to support the findings that: (1) the defendants had been involved in an offer to sell unregistered securities owned by an affiliate of the corporation, (2) the likelihood of future violation justified a preliminary injunction against such illegal conduct, and (3) the relief defendant had no legitimate claim to the proceeds of the stock.

Disposition: Affirmed.

CORE TERMS

shares, registration statement, district court, proceeds, stock, preliminary injunction, registration, Acquisition, registered, offering, future violations, injunction, freezing, exemption, argues, sales, registration requirement, substantial likelihood, securities law, offer to sell, enjoining

Business & Corporate Compliance, Regulators, US Securities & Exchange Commission, Injunctions, Civil Procedure, Appeals, Standards of Review, Clearly Erroneous Review, Remedies, Injunctions, Preliminary & Temporary Injunctions, Securities Law, General Overview, Judicial Review, Initial Offerings of Securities, Registration of Securities, Transactions Involving Unregistered Securities, Blue Sky Laws, Offers & Sales, Exemptions & Exclusions, Exempt Issuers Transactions, Securities Registration, Exemptions, Registration Requirements, Exempt Securities, Exempt Transactions, Filing Requirements, Civil Liability Considerations, Equitable Relief, Exempt Classes of Securities, Exempt Nonissuer & Resale Transactions, Exempt Persons, Investment Advisers, Adviser, Broker & Dealer Liability, Contracts Law, Contract Conditions & Provisions, Conditions Precedent, Securities Act Actions, Definitions, Definitions, Criminal Law & Procedure, Criminal Offenses, Acts & Mental States, Preservation of Remedies & Rights, Judgments, Relief From Judgments, Independent Actions, Abuse of Discretion