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2004 In
the Matter of the Application of CHRIS DINH HARTLEY for Review
of NASD Action
In
the Matter of Department of Enforcement vs. Chris Dinh Hartley (NAC,
Complaint No. C01010009, December 3, 2003)
Scianna provided Hartley with various materials concerning FLIC, including a Dun and Bradstreet report and FLIC's "Disclosure Document" that was used to solicit sales of the company's notes. According to Hartley, Scianna assured him that FLIC's notes were not securities. However, the second page of the Disclosure Document that Hartley received recited in block capital letters as follows:
Hartley decided to sell FLIC notes to his customers. On September 9, 1996, he signed a FLIC agent agreement and a FLIC "Representative's Compliance Declaration." As required, he initialed each of the statements in the Declaration, including the following:
From September 21, 1996 through January 10, 1997, Hartley sold six FLIC notes in the total amount of $255,000 to five customers, two of whom were Pruco clients. Hartley earned a total of $10,160 in commissions on his sales. According to Hartley, in late September or October 1996, he had a brief conversation about the FLIC notes with his Pruco supervisor, Marlene Kasparian. Kasparian had remarked to Hartley that she had money in the bank that "wasn't doing anything." Hartley suggested that she might be interested in purchasing a FLIC note that he was selling. Kasparian replied that she wasn't interested, and did not question Hartley about the notes or his sales. FLIC's Fraudulent Transfers In mid-January 1997, Scianna began receiving complaints from FLIC noteholders that they were not being paid when notes matured or were receiving late or no interest payments. Hartley also began receiving calls from clients asking why their monthly interest checks were late. In early March, Scianna advised Hartley to stop doing business with FLIC and, on March 10, returned a FLIC subscription agreement and check to Hartley that Hartley had forwarded from one of his customers. Thereafter, Hartley discontinued the sale of FLIC notes. Pruco agents customarily updated the firm as to their outside activities once a year following Pruco's annual compliance meeting. After Pruco's compliance meeting in November 1997, some eight months after his last abortive sale of a FLIC note, Hartley amended his Form U-4 by including the name FLIC in a list of 40 outside entities with which he had conducted business during the year. Susan Korp, the business manager of Hartley's office who was then serving as compliance officer, questioned Hartley about FLIC, and Hartley told her that he had sold FLIC promissory notes. Korp passed this information on to the office's interim managing director. The director approved Hartley's amended Form U-4 without taking further action. Nearly two years later, in August 1999, Hartley received a letter from an attorney representing the receiver appointed for FLIC by a bankruptcy court. The letter stated that the receiver's investigation had revealed that FLIC had been engaged in a Ponzi scheme, and that the commissions paid to Hartley for selling FLIC notes constituted fraudulent transfers recoverable by the receiver. The letter further stated that the court had authorized the receiver to sue Hartley to recover his commissions. It offered to settle the matter for 85% of the amount that FLIC had paid Hartley, and threatened suit unless Hartley accepted the settlement offer within 14 days. Hartley promptly remitted payment, accepting the receiver's settlement offer. NASD Rule 3040
Hartley appeared pro se before an NASD Hearing Panel, which found that during the period September 1996 through January 1997, Hartley violated NASD Conduct Rules 3040 and 2110 by selling promissory notes for compensation without giving Pruco prior written notification and receiving Pruco's prior written approval. Specifically, the Panel found that without informing Pruco and obtaining its approval, Hartley sold six FLIC notes in the total amount of $255,000 to five customers and earned commissions of $10,160 on the sales. The Panel imposed a $7,500 fine and a 30 day suspension. The NASD's National Adjudicatory Council (NAC) called the matter for review, Hartley again appeared pro se, and the NAC increased his suspension to 90 days. Hartley appealed the $7,500 fine and 90 day suspension to the SEC and did so through a lawyer. SEC Appeal
NASD determined that Hartley's violation of Rule 3040 also constituted a violation of Conduct Rule 2110, which requires adherence to high standards of commercial honor and just and equitable principles of trade. Hartley argues that he did not violate Rule 2110. The SEC sustained the violation.
Hartley complained that NASD did not consider or gave insufficient weight to various mitigating circumstances, and that his conduct was "neither intentional, reckless, nor grossly negligent." Under Section 19(e)(2) of the Exchange Act, the SEC must sustain NASD sanctions unless it finds them excessive or oppressive or an undue burden on competition. Hartley argues that no sanctions should be imposed on him, let alone what he characterizes as the overly severe sanctions that NASD assessed. He complains particularly about his suspension, which NASD's National Adjudicatory Council ("NAC"), after calling this matter up for review, increased to 90 days from the 30 days assessed by the NASD Hearing Panel. Hartley's major contentions are that he was guilty of only an innocent mistake, that he reasonably believed that the FLIC notes were not securities, and that he did not try to deceive anyone. Notwithstanding his assertions, the SEC deemed that the evidence in the record substantially undercut his protestations.
Ultimately,
what NASD and SEC are missing or else glossing over, is that Hartley
largely acted in a manner consistent with an individual who thought he was
selling a legal, non-security product and did virtually nothing to hide
his conduct. Whatever the nature of his notices or disclosures ---
he still made them. In
reviewing the NASD's evaluation of its applicable Sanction Guidelines
factors, the SEC refuted Hartley's claims that he wasn't given enough
credit for what he described as mitigating factors --- moreover,
the SEC found that five of the seven guideline factors served to
aggravate Hartley's offense. Hartley's sought consideration of
the fact that he only sold to two Pruco customers, and they did not
use money from their Pruco account to purchase the notes. Noting the purpose of Rule
3040 is to protect investors from unsupervised sales and securities firms
from exposure to loss and litigation from transactions by associated persons
outside the scope of their employment. See, e.g., Jim Newcomb, Exchange Act
Rel. No. 44945 (October 18, 1991), 76 SEC Docket 172, 181, the SEC failed to
see
how investors and firms are better protected if customers use funds for
outside transactions with firm personnel that are not taken from the
customers' accounts with the firm. Hartley also complained that the
NAC failed to recognize that FLIC note holders will recoup from 44% to 74% of
their funds in the FLIC bankruptcy proceeding. He also noted that he "voluntarily" returned the
commissions that he earned on his FLIC transactions. The SEC did not consider that
Hartley was deserving of a reduction in sanctions because his clients may be
able to recover some of their losses. Moreover, they characterized
his surrender of his FLIC commissions as an act that
occurred only after he was threatened with a lawsuit
by FLIC's receiver in bankruptcy. Nonetheless, the SEC noted that the NASD has already taken into account other
mitigating factors cited by Hartley -- Pruco's inadequate training and
supervision, the fact that Hartley told Kasparian that he was selling FLIC
notes (although he did not provide all of the details), and that Hartley
cooperated in NASD's investigation and expressed genuine remorse. No further
reduction in sanctions were warranted based on these considerations. Rule 3040
Sanction Guidelines Factors
(1) had an interest in the issuer, (2) attempted to create the
impression that his employer sanctioned the activity, (3) sold away to
customers of his employer, (4) provided his employer with verbal notice of
all relevant factors, (5) sold the securities despite an employer's
prohibition or warning, (6) was properly registered to sell the securities,
and (7) sold directly to customers or referred them to a properly registered
individual. Decision The SEC sustained the NASD's
imposition of a $7,500 fine and a 90 day suspension. BILL SINGER'S COMMENTARY So, what happened?
Apparently, Mr. Hartley did quite well before the Panel. He appeared
without a lawyer and muddled through as best he could. If you read
the Panel decision, you'll see such language as Respondent expressed
remorse and promptly relinquished his FLIC commissions Respondent
immediately ceased soliciting the FLIC notes when _______ indicated that
there might be a problem. Respondent also promptly relinquished his
commissions to FLIC's receiver when requested to do so.38 (Tr. p. 196). The
Hearing Panel was also favorably impressed with Respondent's remorse and
sincerity.39 Korp testified that Respondent was one the most outstanding
Pruco agents and she held him in very high regard. (Tr. pp. 96-97). The
Hearing Panel views Respondent as a truthful and trustworthy man who is not
likely to engage in similar misconduct in the future. In fact, the Panel seemed so
impressed that they rejected Enforcement's requested sanctions by reducing the sought
fine by 25% to $7,500 and the sought suspension by 75% to 30 days. And
remember, Dinh, pulled this off by himself. There wasn't any lawyer
representing him. And then things take a nasty
turn. The NAC calls the matter on appeal --- not the parties.
And the NAC claims it does so because it wants to examine the
sanctions. Except Hartley had already appeared before a Hearing Panel, presented
evidence and testimony, witnesses were called, and he won his case --- if
you use the fact that the sanctions imposed upon him following that trial
were less than those sought by his prosecutors. Despite putting him
through that hearing, despite having an entire hearing process to provide
for face-to-face confrontation, the NAC intervenes and ups the suspension
from one month to three. And the NAC's main concern seems to be
crystallized in this statement: Finally,
the Hearing Panel found that Hartley testified truthfully, cooperated with
NASD's investigation, expressed genuine remorse for his violative conduct
and promptly remitted his commissions to FLIC's receiver when asked to do
so. We accept the Hearing Panel's findings in this regard. Nevertheless, we
are troubled that Hartley falsely represented in his FLIC compliance
declaration that he had advised Pruco of his participation and had received
permission from Pruco to participate in the offering. This compliance
declaration also should have put Hartley on notice that greater disclosure
to Pruco may have been required. What
was the point of the trial? The Hearing Panel saw and heard Hartley
and the various witnesses --- a critical opportunity to assess everyone's
credibility. The Panel had the same opportunity to decide how upset it
should be about Hartley's false representations in his FLIC
declaration. Based upon all of that,
the Panel suspended Hartley for 30 days. In what can only be
characterized as gross second-guessing, the NAC said "Nah . . . let's
triple the suspension." From my perspective the NAC has wrongly
substituted it's second-hand observations for the primary ones of the
Panel. What was the point of the trial? But
there's a larger issue here. There is a critical check and balance
missing from the NASD's disciplinary system. Supposing Hartley agreed
that he was guilty but having read the caselaw and considered the facts of
his case, he believed he should only pay a $5,000 fine and do 30 days
suspension. Now, let's assume that whoever is calling the shots on the
NASD's prosecution team is playing what we call hardball. Let's
imagine that he's trying to bluff Hartley and rather than agree to a
settlement of 30 days is demanding four months, hoping to get three
months. Worse, let's assume that this staffer realizes he's dealing
with a pro se respondent and assumes he can intimidate him into
settling. The NAC's and the SEC's actions in considering this appeal
totally fail to address that situation. Clearly, and I am prepared to
debate this anywhere and anytime, the procedural rule should be quite
simple: At
the opening of an NASD hearing, the Hearing Officer should ask Enforcement
to specify on the record the sanction it demands from the Respondent.
Respondent should then be given an opportunity to accept that proposed
sanction. If that sanction is rejected, the hearing proceeds. In
the event that the Panel awards a sanction less than that sought by
Enforcement at the hearing, neither the NAC nor the SEC should be permitted
to increase said sanction on appeal. This necessary procedural device
will ensure that regulatory staff always attempt to fairly resolve proposed
enforcement proceedings. |
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Remember
this issue for later --- FLIC stated in writing that it believed the
notes are exempt securities.
There
are a number of things that I find wrong with this decision. Most
notably, when the NASD brought its case to trial before an NASD Hearing
Panel, its Enforcement staff sought a $10,000 fine and a four month
suspension. Let's put that into perspective. Perhaps Mr. Hartley felt
totally innocent of the charges --- or perhaps he felt that he had engaged
in a minor violation caused by a simple misunderstanding. Accordingly,
he may have been prepared to pay a $10,000 fine but didn't see the need for a
suspension --- or let's say he was prepared to offer a two month
suspension. In any event, assume that he felt that by
going before a Panel and telling his story, he would obtain a lesser
sanction than that demanded by Enforcement.