Federal Court Says SEC Complaint Sufficiently Alleges Dealer Status

August 21, 2020

The SEC says that Justin Keener was a dealer. He says he was a trader. If he was a dealer, then he needed to register with the SEC, and since he didn't, he may be in a lot of trouble. If he was a trader, then he may not have needed to register with the SEC, in which case, the federal regulator doesn't have a case against him. It would seem a simple task to come up with a definition of what's a "dealer" versus what's a "trader." Simple? Yeah, sure, good luck with that!

Dealer's Choice

For those of you who are aspiring Wall Street legal eagles, I have prepared an at-home version of Securities Industry Words of Wisdom, a fun-packed game for the entire family to play while quarantining at home. Your first challenge for the day is to try and understand the definition of a "Dealer," as set forth in 15 U.S. Code § 78c: Definitions and application states in pertinent part under (a):

(5) Dealer.-
(A) In general.-
The term "dealer" means any person engaged in the business of buying and selling securities (not including security-based swaps, other than security-based swaps with or for persons that are not eligible contract participants) for such person's own account through a broker or otherwise.

(B) Exception for person not engaged in the business of dealing.-
The term "dealer" does not include a person that buys or sells securities (not including security-based swaps, other than security-based swaps with or for persons that are not eligible contract participants) for such person's own account, either individually or in a fiduciary capacity, but not as a part of a regular business.

(C) Exception for certain bank activities.-A bank shall not be considered to be a dealer because the bank engages in any of the following activities under the conditions described:
(i) Permissible securities transactions.-The bank buys or sells-
(I)commercial paper, bankers acceptances, or commercial bills;
(II)exempted securities;
(III)qualified Canadian government obligations as defined in section 24 of title 12, in conformity with section 78o-5 of this title and the rules and regulations thereunder, or obligations of the North American Development Bank; or
(IV)any standardized, credit enhanced debt security issued by a foreign government pursuant to the March 1989 plan of then Secretary of the Treasury Brady, used by such foreign government to retire outstanding commercial bank loans.
(ii) Investment, trustee, and fiduciary transactions.-The bank buys or sells securities for investment purposes-
(I)for the bank; or
(II)for accounts for which the bank acts as a trustee or fiduciary.
(iii) Asset-backed transactions.-The bank engages in the issuance or sale to qualified investors, through a grantor trust or other separate entity, of securities backed by or representing an interest in notes, drafts, acceptances, loans, leases, receivables, other obligations (other than securities of which the bank is not the issuer), or pools of any such obligations predominantly originated by-
(I) the bank;
(II) an affiliate of any such bank other than a broker or dealer; or
(III) a syndicate of banks of which the bank is a member, if the obligations or pool of obligations consists of mortgage obligations or consumer-related receivables.
(iv) Identified banking products.- The bank buys or sells identified banking products, as defined in section 206 of the Gramm-Leach-Bliley Act.

Stand Aside -- Let the SEC Play

In a Complaint filed in the United States District Court for the Southern District of Florida "SDFL" https://www.sec.gov/litigation/complaints/2020/comp-pr2020-72.pdf, the SEC alleged that Justin W. Keener d/b/a JMJ Financial with violating the registration provision of the Securities Exchange Act. As alleged in part in "SEC Charges Unregistered Penny Stock Dealer" (SEC Release) https://www.sec.gov/news/press-release/2020-72:

[B]etween January 2015 and January 2018, Keener engaged in the business of purchasing convertible notes from penny stock issuers, converting the notes into shares of stock at a large discount from the market price, and selling those newly issued shares into the market at a significant profit. Keener allegedly purchased convertible notes from more than 100 separate issuers and sold more than 17.5 billion shares of newly issued penny stock into the market, generating over $21.5 million in profits. As alleged, Keener was not registered as a dealer with the SEC, in violation of the mandatory registration provisions of the federal securities laws.

Upping the Ante

Defendant Keener filed a Motion to Dismiss in SDFL arguing that he is not a "dealer" but a "trader," and does not need to registere with the SEC pursuant to the '34 Act. Securities and Exchange Commission, Plaintiff, v. Justin W. Keener, d/b/a JMJ Financial, Defendant (Order, United States District Court for the Southern District of Florida, 20-CV-21254 / August 14, 2020)|
http://brokeandbroker.com/PDF/KeenerOpinionSDFL200814.pdf In more pointed fashion, Keener alleged:

five overarching arguments: (i) there is extensive legal guidance on the definition of a dealer; (ii) Plaintiff fails to allege any facts to show that Defendant was a dealer; (iii) the Complaint's allegations show that Defendant was a trader; (iv) Plaintiff fails to state a claim for injunctive relief; and (v) the Complaint alternatively should be dismissed as a due process violation because of a lack of fair notice that his conduct could be unlawful.

at Page 3 of the SDFL Order

Additionally, Keener asks SDFL to consider that the:

"question presented is this: can the SEC allege a plausible dealer registration claim against Mr. Keener under the Securities Exchange Act of 1934, if (1) it alleges no facts to show Mr. Keener is a dealer under the criteria set forth in many court cases and prior SEC statements; and (2) it alleges no facts to show that Mr. Keener was more than a trader excluded from the statutory dealer definition? The answer is no, and thus the Complaint must be dismissed." ECF No. [24] at 1. He makes four points. First, the dealer factors are "essential to the Iqbal analysis;" second, the Complaint fails to allege the dealer factors; third, Plaintiff's cases are "not on point;" and fourth, the request for injunctive relief must be dismissed because Plaintiff fails to allege a reasonable likelihood of future violation. 

at Page 4 of the SDFL Order

Before SDFL is Plaintiff Keener's Motion to Dismiss based upon his argument that he is not a "dealer" covered under the cited '34 Act provisions but a "trader," not subject to those rules:

[U]nder the Exchange Act, a "dealer" is "any person engaged in the business of buying and selling securities . . . for such person's own account through a broker or otherwise." 15 U.S.C. § 78c(5)(A). A dealer, however, does not include a trader, a "person that buys or sells securities . . . for such person's own account, either individually or in a fiduciary capacity, but not as a part of a regular business." Id. at § 78(c)(5)(B). The Exchange Act requires "dealers" to register with the SEC. Id. at § 78o(a)(1). 

at Page 6 of the SDFL Order

In determining whether to grant Keener's motion, SDFL comprehends his argument into two factors: 1. that the SEC Complaint fails to state a claim on the basis that the pleading does not allege that he is a covered "dealer," and 2. the the claim for injunctive releif is inappropriate under the attendant circumstances.

Call and a Raise

In addressing whether to grant the Motion to Dismiss based upon the sufficiency of the Complaint's use of the term "dealer," SDFL deemed that the SEC met its burden for presenting a plausible claim. The Court concedes that during such a preliminary stage of litigation as ruling on a Motion to Dismiss, a overly fact-intensive analysis would be ill-suited for the task. Notwithstanding, the Court found that the SEC alleged sufficient facts to satisfy the pleading requirements. Consequently, Keener has a relatively high-burden of proof to demonstrate that it is wholly implausible for the SEC to have deemed him a "dealer," and, conversely, the SEC has a relatively low-burden of proof to demonstrate that it has plausibly set forth enough facts to show that Keener was a dealer for the limited purpose of providing him with adequate notice of the charges and the conduct at issue. It may be that the SEC will not be able to make the case that Keener was a dealer, at which time SDFL would reconsider dismissing the charges. For the time being, the court is satisfied that the case should be allowed to proceed.

Finally, Keener argued that "[i]njunctions such as penny stock bars and obey-the-law injunctions are proper only to prevent imminent harm, not to punish the defendant," and, therefore, in light of the fact that the Complaint does not allege any ongoing violations, the SEC's resort to an injunction is inappropriate. Frankly, that's a clever point and worth raising to the Court. Unfortunately, SDFL isn't buying "clever" during the COVID pandemic and, in part, offers this rationale [Ed: footnote omitted]:

Based on the Complaint's allegations, Plaintiff has pled sufficient facts to obtain injunctive relief. Defendant was previously barred by FINRA from associating with any FINRA member in any capacity after 2012, his alleged instant securities violations spanned three years and involved selling over 17.5 billion shares, he employed twenty people working on commission at one point, sponsored conferences and gave presentations as part of his business, and he dealt with over 100 different microcap issuers. Although none of these features alone demonstrate a reasonable likelihood of future violations, together they permit an inference that Defendant's alleged misconduct will be repeated if not enjoined. Indeed, they illustrate that by skirting dealer registration requirements, Defendant could conduct a highly lucrative business in a relatively short period of time and can enlist numerous people to assist him. Therefore, because it is premature at this stage to dismiss this claim for relief, Defendant's Motion is also denied on this ground. 

at Pages 12 - 13 of the SDFL Order