sec v. recycle tech, inc. et al doc 52

UNITED STATES DISTRICT COURT

SOUTHERN DISTRICT OF FLORIDA

Case No. 1:12-cv-21656-JAL

SECURITIES AND EXCHANGE COMMISSION,

Plaintiff,

v.

RECYLE TECH, INC., KEVIN SEPE,

RONNY J. HALPERIN, RYAN GONZALEZ,

OTC SOLUTIONS LLC, ANTHONY

THOMPSON, PUDONG LLC, JAY FUNG,

and DAVID REES,

Defendants,

and

CHARTER CONSULTING GROUP, INC.

/

DEFENDANTS PUDONG LLC’S AND JAY FUNG’S

MOTION TO DISMISS PLAINTIFF’S AMENDED COMPLAINT WITH SUPPORTING

MEMORANDUM OF LAW

Defendants, Pudong LLC (“Pudong”) and Jay Fung (“Mr. Fung”) (collectively,

“Defendants”), by and through their undersigned counsel, hereby respectfully move this Court to

dismiss Plaintiff Securities and Exchange Commission’s (“Commission” or “Plaintiff”)

Amended Complaint pursuant to Rules 9(b) and 12(b)(6) of the Federal Rules of Civil Procedure

on the ground that the Complaint fails to state a claim upon which relief may, or should, be

granted. The grounds for this Motion are set forth below in the accompanying Memorandum of

Law.1

1 In the event the Court permits a complaint against Pudong and Mr. Fung to stand with the

same named, but wholly unrelated, co-defendants, Pudong and Mr. Fung intend to file a motion

for a separate trial under Fed. R. Civ. P. 20 and/or Fed. R. Civ. P. 42 from the unrelated co-

defendants in this matter. By filing the instant Motion, neither Pudong nor Mr. Fung concede

that the Commission’s Amended Complaint should stand without being severed in the event that

it is not dismissed. Defendants expressly reserve their right to move for severance or for a

separate trial in the future.

Case 1:12-cv-21656-JAL Document 52 Entered on FLSD Docket 08/31/2012 of 18

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DEFENDANTS PUDONG’S AND MR. FUNG’S

MEMORANDUM OF LAW IN SUPPORT OF MOTION TO DISMISS

I. INTRODUCTION

The Commission’s Amended Complaint alleges that Defendants violated Sections 5(a),

5(c), 17(a), and 17(b) of the Securities Act of 1933 (“Securities Act”), and Section 10(b) of the

Securities Exchange Act of 1934 (“Exchange Act”), and Rule 10b-5 thereunder. It appears from

the Amended Complaint’s introduction that the Commission’s position is that Defendants

engaged in a scheme to promote stock issued by Recycle Tech, Inc. (“Recycle Tech” or the

“Company”) by issuing e-mail newsletters without adequately disclosing their compensation or

stock sales. However, turning to the few factual allegations of the Amended Complaint, which

are the culmination of several years of an exhaustive regulatory investigation, it becomes obvious

that the sparse and confusing allegations raise more questions than they provide guidance about

what the Commission believes were Pudong’s and Mr. Fung’s purported transgressions. In

places, the Amended Complaint conveniently lumps together the conduct of unrelated defendants

in such a way that makes it impossible for Pudong or Mr. Fung to delineate what conduct is

being ascribed to the them from that attributable to others. Moreover, the Amended Complaint

evidences a total lack of understanding of the plain language of Section 17(b) of the Securities

Act, and the jurisprudence interpreting the same.

As set forth below, the Amended Complaint is fatally vague and unspecific, not only

failing to meet the heightened pleading requirement mandated by Rule 9(b) of the Federal Rules

of Civil Procedure (“Rule 9(b)”), but also the requirements of Rule 12(b)(6).

II. THE COMMISSION’S ALLEGATIONS

The Commission’s Amended Complaint alleges the following:

Jay Fung is thirty-seven years old and has lived the majority of his adult life in South

Florida. Amended Complaint, ¶13. During the relevant time period, Mr. Fung owned Pudong

which generated a “Penny pic” newsletter that, in turn, for compensation, published information

on the Internet via www.Pennypic.com concerning public companies. Amended Complaint,

¶¶12-13. In February 2010, Pudong received 2.325 million shares of Recycle Tech stock from a

third-party, which, according to legal opinions that it received, was not an affiliate of the

Company. Amended Complaint, ¶66. Pudong issued at least one Penny Pic newsletter

concerning Recycle Tech that contained information that was gathered from publicly-available


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sources. Amended Complaint, ¶¶67, 74. For its services, Mr. Fung received 2.325 free trading

shares of Recycle Tech stock that had been issued as the result of the conversion of

approximately $25 million of debt, and such conversion was completed by Defendant Rees, who

also provided an opinion letter verifying the free-trading nature of the shares. Amended

Complaint, ¶¶3, 26, 66. Indeed, Pudong’s Penny Pic newsletter specifically stated:

When Pennypic.com receives free trading shares as compensation for a

profiled company, Pennypic.com may sell part or all of any such

shares during the period in which Pennypic.com is performing such

services.

Amended Complaint, ¶75.

The Pennypic.com newsletter also fully disclosed that it had received “2.325 million free

trading shares of [Recycle Tech] for advertising and marketing.” Amended Complaint, ¶76.

Pennypic.com did not disclose the identity of the third party that provided the free trading shares.

Id. The Complaint also alleges that the newsletter failed to disclose Mr. Fung’s Recycle Tech

stock sales. Id. On February 23, 2010, Pudong liquidated its 2.325 million Recycle Tech shares.

Amended Complaint, ¶84.

While paragraphs 65 through 68 and paragraphs 73 through 76 of the Amended

Complaint contain allegations concerning Pudong and Mr. Fung, none of the allegations asserts

that they knew or should have known that (1) the press releases issued by the company were false

or inaccurate, (2) that the opinion letter(s) provided to Pudong and Mr. Fung reflecting that the

shares were free trading were incorrect and/or legally flawed, and (3) Defendants Sepe or

Halperin were affiliated with, or control persons of, the Company. Moreover, the incessant

hyperbole utilized by the Commission in labeling the newsetters as “touting” or “promoting” or

“hyping,” does not mean that they were violative of the federal securities laws.

III. ARGUMENT

The Commission’s sparse factual allegations lodged against Defendants Pudong and Mr.

Fung do not support the “scalping” claims brought pursuant to Section 17(a) of the Securities Act

or Section 10(b) of the Exchange Act, which are both fraud claims. Moreover, the allegations in

the Commission’s Amended Complaint actually undermine its Section 17(b) claim, which is

commonly referred to as the “anti-touting” statute. After nearly two years of invasive and

exhaustive investigative discovery, the Commission’s failure to plead its case with specificity is


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no mere technicality, but rather an effort to mask insurmountable flaws in its case against Pudong

and Mr. Fung. For the following reasons, the Amended Complaint against Pudong and Mr. Fung

should be dismissed insofar as it alleges violations of Sections 17(a) and (b) of the Securities Act,

and Section 10(b) of the Exchange Act, and Rule 10b-5 thereunder.2

A. THE SEC IS AN ORDINARY LITIGANT WHEN IT INVOKES THE PROCESSES OF THE

COURTS

As a preliminary matter, and at the risk of stating the obvious, although the Commission

is a governmental agency, once it becomes a litigant and seeks redress from the court, it is

subject to the same pleading and discovery standards as any other litigant. See SEC v. Collins &

Aikman Corp., 256 F.R.D. 403, 414 (S.D.N.Y. Jan. 13, 2009). This requirement applies to both

procedural matters as well as substantive pleading requirements, such as the heightened standards

for alleging fraud.

The Supreme Court has held that the text of a securities law controls and that violations of

the antifraud provisions should be interpreted consistent with the statute, whether the plaintiff

invoking the statute as a private litigant or the Commission. Central Bank of Denver v. First

Interstate Bank of Denver, 511 U.S. 164, 173 (1994). In interpreting the securities laws, the

Supreme Court has instructed that the plain language of a statute must be adhered to and is the

starting point in constructing a statute. Id. at 172. “Thus, if language of a provision of the

securities laws is sufficiently clear in its context . . . it is unnecessary to ‘examine the additional

considerations of the “policy” that may have influenced lawmakers in their formulation of the

statute.’” Aaron v. SEC, 446 U.S. 680 (1980), quoting Ernst & Ernst v. Hochfelder, 425 U.S.

185, 214 n. 33 (1976). Therefore, in construing the securities laws, it is appropriate that the

Commission be judged by the same standards for pleadings as any other litigant.

B. STANDARD OF REVIEW – MOTIONS TO DISMISS UNDER

RULE 12(B)(6) AND RULE 9(B)

In 2007, rules governing a motion to dismiss changed substantially. No longer can a

plaintiff avoid dismissal by relying upon the oft-quoted line from the Supreme Court’s decision

in Conley v. Gibson, 355 U.S. 41, 45-46 (1957), which provided that “[a] Complaint should not

be dismissed for failure to state a claim unless it appears beyond doubt that the plaintiff can

prove no set of facts in support of his claim which may entitle him to relief.” In 2007, the

2 Defendants are not moving to dismiss the Section 5 of the Securties Act (Count I).


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Supreme Court made it clear that the Conley Court’s use of this “phrase is best forgotten as an

incomplete, negative gloss on an accepted pleading standard: once a claim has been stated

adequately, it may be supported by showing any set of facts consistent with the allegations in the

complaint.” Bell Atl. Corp. v. Twombly, 550 U.S. 544, 127 S.Ct. 1955, 1969 (2007). Besides

finding the Conley Court’s statement as supplussage, the Supreme Court rejected the Conley

standard because under Conley, “[a] wholly conclusory statement of claim would survive a

Motion to Dismiss whenever pleadings left open the possibility that a plaintiff might later

establish some ‘set of [undisclosed] facts’ to support recovery.” Id. at 1965.

Instead, the Supreme Court provided that

a plaintiff’s obligation to provide the ‘grounds’ of his ‘entitle[ment] to

relief’ requires more than labels and conclusions, and a formulaic

recitation of the elements of a cause of action will not do. Factual

allegations must be enough to raise a right to relief above the

speculative level . . . on the assumption that all the allegations in the

complaint are true (even if doubtful in fact). . . .

Bell Atl. Corp. v. Twombly, 127 S.Ct. at 1964-65 (addition in original) (internal citations

omitted). See also In re Managed Care Litig., 2009 U.S. Dist. LEXIS 25427 at *22 (S.D. Fla.

Mar. 26, 2009); City of Winter Haven v. Cleveland Indians Baseball Co., LP, No. 809-CV-

00190-T-17EAJ, 2009 U.S. Dist. LEXIS 38708 at *2-3 (M.D. Fla. Apr. 22, 2009) (both

following Twombly and dismissing the matters under 12(b)(6)).

Pursuant to Rule 12(b)(6), a court must dismiss a complaint if the complaint fails to state

a cognizable claim upon which relief can be granted. See Fed. R. Civ. P. 12(b)(6). In ruling on a

motion to dismiss pursuant to Rule 12(b)(6), the court must accept the well-pleaded factual

allegations in the complaint as true, but will not accept unsupported conclusions, unwarranted

inferences, or sweeping conclusions cast in the form of factual allegation. See Miree v. DeKalb

County, Ga., 433 U.S. 25, 27 n.2 (1977); Oxford Asset Mgmt. Ltd. v. Jaharis, 297 F3d 1182,

1188 (11th Cir. 2002). If a complaint does not plead facts that state a claim as a matter of law, it

must be dismissed. See Aldana v. Del Monte Fresh Produce, N.A., Inc., 416 F.3d 1242, 1253

(11th Cir. 2005) (commending district court “for remembering that some minimal pleading

standard does still exist . . .” and finding that “bald assertions” and “unwarranted deductions of

facts” are not accepted as true and will not survive a Rule 12(b)(6) motion to dismiss).


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A complaint that alleges fraud must also meet the heightened pleading requirements of

Rule 9(b), which provides that, “[i]n all averments of fraud or mistake, the circumstances

constituting fraud or mistake shall be stated with particularity.” See Fed. R. Civ. P. 9(b). The

provisions of Rule 9(b) apply both to the scienter-based and to the negligence-based anti-fraud

provisions of the federal securities laws. See MeterLogjc, Inc. v. Copier Solutions, Inc., 126 F.

Supp. 2d 1346, 1360 n.10 (S.D. Fla. Sept. 27, 2000); Rhodes v. Omega Research, Inc., 38 F.

Supp. 2d 1353, 1359-60 (S.D. Fla. March 1, 1999).

As touched on above, complaints filed by the Commission are not exempt from the

heightened pleading requirements of Rule 9(b), and must plead sufficient detail to alert the

defendant as to the precise misconduct with which he is charged. See SEC v. Dunlap, 2002 U.S.

Dist. LEXIS 10769, at *6 (S.D. Fla. Mar. 27, 2002); SEC v. Gold, 2006 U.S. Dist. LEXIS 87042,

at *5 (E.D.N.Y. Aug. 18, 2006); SEC v. Blackman, 2000 U.S. Dist. LEXIS 22358, at *13 (M. D.

Tenn., May 26, 2000). Dismissal of the Commission’s complaint is appropriate when the

Commission fails to meet Rule 9(b)’s requirements. See SEC v. Tambone, 417 F. Supp. 2d 127,

131 (D. Mass. Jan. 27, 2006) (applying Rule 9(b) particularity requirements to SEC fraud

complaint and granting motions to dismiss complaint); SEC v. Yuen, 221 F.R.D. 631, 634-36

(C.D. Cal. June 10, 2004) (dismissing Commission’s complaint based on Rules 12(b)(6) and 9(b)

where Commission failed to plead elements of fraud with requisite particularity). This heightened

standard is particularly fitting because the Commission has mandatory investigative, pre-suit

subpoena power.

Accordingly, in order to satisfy the particularity requirement under Rule 9(b), the

Commission must “(1) specify the statements that the plaintiff contends were fraudulent, (2)

identify the speaker, (3) state when and where the statements were made, and (4) explain why the

statements were fraudulent.” SEC v. Apolant, 411 F. Supp. 2d 271, 276 (E.D.N.Y. Jan. 31, 2006)

(internal citation omitted). Stated differently, Rule 9(b) mandates that the Commission’s

Amended Complaint must “answer the familiar questions of ‘who, where, when, why, and

how.’” SEC v. Digital Lightwave, 196 F.R.D. 698, 700 (M.D. Fla. Sept. 7, 2000) (internal

citation omitted). Conclusory allegations do not satisfy Rule 9(b)’s heightened pleading

standards. Miller v. Lazard, Ltd., 473 F. Supp. 2d 571, 588 (S.D.N.Y. Feb. 7, 2007). Simply put,

“in the context of securities fraud claims,” conclusory allegations, such as those that defendants

“knew or were reckless in not knowing,” are “so broad and conclusory to be meaningless.”


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Shields v. Citytrust Bancorp, Inc., 25 F.3d 1124, 1129 (2d Cir. 1994). As described more fully

below, the Commission has failed to meet the standards articulated by Rules 12(b)(6) and 9(b)

and, as a result, dismissal of its Amended Complaint in its entirety is appropriate.

C. THE FRAUD CLAIMS (COUNTS III AND XI) AGAINST DEFENDANTS SHOULD BE

DISMISSED FOR FAILURE TO MEET RULE 12(B)(6) STANDARDS AS WELL AS THE

HEIGHTENED PLEADINGS STANDARDS OF RULE OF 9(B)

A violation occurs under Section 17(a)(1) of the Securities Act, Section 10(b) of the

Exchange Act, and Rule 10b-5 thereunder when there is (1) a misrepresentation or omission, (2)

that is material, (3) which is made in the offer or sale of a security [Section 17(a)(1)] or in

connection with the purchase or sale of a security [Section 10(b) or Rule 10b-5], (4) with

scienter, and (5) involves interstate commercial, the mails, or a national securities exchange. See

SEC v. Gane, 2005 U.S. Dist. LEXIS 607, at *29; See also SEC v. Corporate Relations Group,

Inc., 2003 U.S. Dist. LEXIS 24925, at *24; SEC v. Monarch Funding Corp., 192 F.3d 295, 308

(2d Cir. 1999) (noting that essentially the same elements are required under Section 17(a) and

Rule 10b-5). Section 17(a)(1) of the Securities Act, Section 10(b) of the Exchange Act, and Rule

10b-5 thereunder, are commonly referred to as the “antifraud provisions” of the federal securities

laws.

Liability under the antifraud provisions of the federal securities laws arises not only from

affirmative misrepresentations, but from failures to disclose material information. SEC v. GLT

Dain Rauscher, 254 F.3d 852, 855-856 (9th

Cir. 2001). Rule 10b-5, by its plain language, makes

it unlawful “to omit to state a material fact necessary in order to make the statements made, in

light of the circumstances under which they were made, not misleading.” Nevertheless, fraud

liability does not attach for failure to disclose material information unless a party is under a duty

to so disclose. See Chiarella v. U.S., 445 U.S. 222, 228 (1980) (emphasis added). A duty to

disclose exists when one party possesses information ‘that the other [party] is entitled to know

because of a fiduciary duty or other similar relation of trust and confidence between them.” Id.

In the instant case, the Commission’s fraud claim against Pudong and Mr. Fung is

explicitly cast as “scalping” claims. Scalping, which in certain circumstances is a violation of the

antifraud provisions, is “the practice of, without disclosure, recommending a stock while and

after selling one’s shares.” SEC v. Gane, 2005 U.S. Dist. LEXIS 607, at *23. The fraud “lies not

in [the] practice of selling stocks contrary to [the newsletter’s] recommendations, but in the


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failure to disclose that practice to potential investors and readers.” Id., citing SEC v. Huttoe,

1998 U.S. Dist. LEXIS 23211, at *29. “The practice reflects on the objectiveness [or lack

thereof] of the investment advice and is therefore material.” Id.

As explained in more detail below, the Commission’s Amended Complaint fails to state a

claim against Pudong and Mr. Fung for violations of the antifraud provisions of the federal

securities laws for several reasons. First, the Commission fails to allege the existence of a

relationship, fiduciary or otherwise, which would give rise to the existence of a duty. Second, the

Commission’s Amended Complaint admits that Pudong and Mr. Fung did, in fact, disclose that

Pennypic.com “may sell part or all of any shares during the period in which Pennypic.com is

performing [advertising and marketing] services,” which eviscerates any “scalping” claim that

the Commission could advance based upon a material omission. Amended Complaint, ¶75.

Third, the manner in which Counts II and IX are pled, wholly fail to comply with the Eleventh

Circuit’s holding in Wagner v. First Horizon Pharm. Corp., which stated that a plaintiff

advancing a cause of action for securities fraud fails to comply with Rule 9(b) where he or she

simply realleges and incorporates by reference the complaint’s factual allegations into the

substantive counts. 464 F.3d 1273, 1279 (11th

Cir. 2006).

1. THE COMMISSION HAS FAILED TO ALLEGE FACTS GIVING RISE TO THE EXISTENCE

OF A DUTY

Scalping, which is the purported basis for the Commission’s fraud action against

Defendants Pudong and Mr. Fung, is a practice whereby the owner of a stock recommends the

purchase of that stock and, at the same time, sells it without adequate disclosure. SEC v. Capital

Gains Research Bureau, Inc., 375 U.S. 180, 181 (1963). The defendant’s ownership and intent

to sell such securities places his or her objectivity, and thus the objectivity of such

recommendations, at issue. However, as stated above, fraud liability does not attach for failure to

disclose material information unless a party has a duty to do so. Chiarella, 445 U.S. 222, at 228;

See also, Santa Fe Industries v. Green , 430 U.S. 462, 474-75 (1977).

Here, the Commission has failed to allege that Pudong or Mr. Fung owed anyone a duty.

It has also failed to allege specific facts that would give rise to a duty by virtue of a fiduciary or

other type of special relationship. The Court should contrast the instant Amended Complaint to

the one filed in the oft-cited scalping case, SEC v. Park, 99 F. Supp.2d 889 (N.D. Ill. May 5,

2000). In Park, the court denied the defendant’s motion to dismiss based on the extensive steps


9

that the Commission took to establish a relationship between the defendant and those to whom he

recommended securities and, unlike here, to whom he failed to disclose that he owned shares of

stock. Among other things, the Commission’s complaint in Park contained allegations that: (1)

the defendant had an ongoing relationship with his website’s subscribers; (2) the defendant

communicated with his subscribers on a daily basis; (3) the defendant answered subscriber’s

questions via chat rooms; and (4) subscribers paid defendant a “not-insubstantial fee for

information and services that they could have acquired practically for free through other web

sites, cable t.v. programs, and newspapers.” Id. at 899. Indeed, Park’s relationship with his

subscribers was so extensive that the Commission alleged his conduct was tantamount to acting

as an “investment advisor,” a role which by its very nature involves a fiduciary relationship. Id.

at 893-896.

In contrast to the facts in Park, the Commission’s Amended Complaint here is wholly

devoid of anything that would suggest a fiduciary or other special relationship that gives rise to a

duty to disclose. Indeed, the Commission’s Amended Complaint states that in “January and

February 2010, OTC Solutions [an unrelated co-defendant] and Pudong…collectively issued five

e-mails newsletters touting Recycle Tech stock.” See Amended Complaint, ¶4 (emphasis added).

This is hardly the detail that the court in Park found “may” give rise to a duty to disclose.

Indeed, rather than the daily contact present in Park, the allegations in the instant Amended

Complaint simply mean that Pudong issued one (1) or possibly as many as four (4) newsletters

over a two month period. Pudong and Mr. Fung are left guessing as to what the Commission is

asserting against them because the Amended Complaint does not even bother to break out,

consistent with the strictures of Fed. R. Civ. P. 9(b), which of the alleged five (5) newletters are

attributable to them versus those that may be attributable to an unrelated co-defendant. There is

simply nothing in the instant Amended Complaint to suggest Pudong and Mr. Fung, on the one

hand, and the subscribers to Pennypic.com, on the other, had any relationship that would give

rise to a duty to disclose.

The Commission may attempt to argue that Defendants “assumed a duty to disclose”

based on their relationship with the Pennypic subscribers. In denying the defendants’ motion to

dismiss in Park, the court stated that:

[B]ecause the alleged facts may show that Defendants enjoyed a

relationship of trust and confidence with their subscribers or may have


10

assumed a duty to disclose their scalping, the SEC has properly alleged

its claims based on Defendants omission.

Park , 99 F. Supp. 2d at 990. However, the “assumption of a duty” standard, which is premised

on a close relationship between the defendant and subscribers that has not been alleged here, is

based on the Ninth Circuit decision in Zweig v. Hearst Corp., 594 F.2d 1261 (9th

Cir. 1979). In

Zweig, the court held that a newspaper’s financial columnist violated Section 10(b) and Rule

10b-5 by failing to disclose his personal ownership interest in stock issued by the corporations

detailed in his column, as well as his intention to sell the stock upon the rise in the price of the

stock resulting from his column. Id. at 1266-67. Zweig’s vitality is questionable, however,

because it is based upon the “duty” analysis that that the Supreme Court later rejected in

Chiarella v. United States, 445 U.S. 222, 235 (1980) (in the case of omissions, “there can be no

fraud absent a duty to speak.”).

Indeed, even the Ninth Circuit Court of Appeals, which drafted the Zweig opinion, later

retreated from its own analysis and questioned the vitality of Zweig in light of the holding in

Chiarella, which post-dated Zweig. See Feldman v. Simkins Indus., 679 F.2d 1299, 1304 (9th

Cir.

1982). In Feldman, the Ninth Circuit stated that “Zweig may be distilled thusly: Where a

financial adviser gives advice with regard to a stock he has or intends to purchase or sell, he has

a conflict of interest. Where such a conflict is not apparent to other investors, he is under a duty

to disclose the conflict.” Id. (emphasis added). The Feldman court also stated that where a

defendant’s “holdings of stock was public knowledge as was his desire to liquidate them[, . . .]

any conlfict of interest which [defendant’s] statements may have raised [would have been]

apparent to investors.” Id.

Here, Pudong and Mr. Fung, who are not alleged to have been acting as financial

advisors, fully disclosed their stock holdings. Again, there was no issue as to their objectivity

vis-à-vis Recycle Tech stock. Further, Pudong and Mr. Fung fully disclosed that they may

liquidate all or a portion of such stock in the future. They did not suggest that they “may buy”

more or otherwise “buy and sell” the stock. Rather, the possibility that they might liquidate their

postion was clear from the disclosure; this sharply contrasts to any of the scalping cases where

defendants have been found liable under the federal securities laws.


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2. NOTWITHSTANDING THE ABSENCE OF A DUTY TO DISCLOSE, DEFENDANTS DID

DISCLOSE THAT THEY OWNED RECYCLE TECH STOCK

The practice of scalping, as explained by several district courts in this circuit, places at

issue the “objectiveness” of an investment recommendation in light of the fact that the person

making the recommendation owns and, more importantly, intends to sell the stock her or she is

recommending, i.e., the person has a financial incentive in the success of the stock being touted.

Gane, 2005 U.S. Dist. LEXIS 607, at *33; Corporate Relations Group, Inc., 2003 U.S. 24925, at

*29-30. Accordingly, whether the scalping is fraudulent depends, in part, upon the disclosure, or

lack thereof.

In the instant case, Pudong and Mr. Fung affirmatively disclosed that they received

“2.325 million free trading shares of [Recycle Tech] for advertising and marketing.” Amended

Complaint, ¶¶75,76. Hence, as far as any reader of Pennypic.com is concerned, there is no

suggestion by Pudong or Mr. Fung that they were “objective” or disinterested in the Company.

Rather, any reasonable reader of the Pennypic.com website or newsletter was on notice that

Pudong and Mr. Fung had a financial stake in Recycle Tech by virtue of their stock ownership.

Moreover, the Pennypic.com website also disclosed that it “may sell part or all of any

such shares” during the period that Pennypic.com is providing advertising and marketing

services. Amended Complaint, ¶76. Accordingly, Pudong and Mr. Fung, through a public

website, disclosed that they might sell Recycle Tech stock while they were providing

“advertising and marketing” services for the Company. And, ultimately, they did just that – they

sold all Pudong’s shares into the market while providing marketing and advertising services

through their website. Frankly, Pudong and Mr. Fung are at a loss as to what more they should

have disclosed, or what the Commission believes was fraudulent, and the Amended Complaint

provides them little guidance. They were neither silent concerning their future conduct nor were

they vague, stating that they “might buy or sell” Recycle Tech. Pudong and Mr. Fung disclosed

that they owned the security and might sell all or a portion of it.

The Commission will likely argue that courts have frowned on the “may” type of

disclosures that some scalpers have utilized because such a disclosure does not adequately fulfill

the duty to disclose. See Corporate Relations Group, 2003 U.S. Dist. LEXIS 24925 at *27.

However, in those cases, the defendants disclosed that they “may” buy or sell stock that they are

recommending, when they actually owned undisclosed shares. Hence, the statement would be


12

materially false because it does not affirmatively disclose that defendants owned and sold the

shares. Id.; See also Gane, 2005 U.S. Dist. LEXIS 607, at *45 (defendant, who owned stock in

the recommended company, failed to provide adequate disclosure by only disclosing that

affiliates, officers, directors, or employees may buy or sell recommended stock); SEC v. Huttoe,

1998 U.S. Dist. LEXIS 23211, at *32-33 (only disclosure was that employees “may from time to

time have a postion” in the featured securities was insufficient where promoter consistently, over

a two-year period, sold such securities immediately after promoting such companies as “strong”

or “aggressive” buys or as “long term” investments).

To the contrary, Pudong and Mr. Fung, through their website, affirmatively disclosed that

they received 2.325 million shares. There is nothing vague or ambiguous about such a

disclosure. Pudong’s and Mr. Fung’s “objectiveness” or lack thereof was not at issue; they had a

stake in the game. The only disclosure that included the word “may,” is Pudong’s and Mr.

Fung’s statement that they may sell part or all of their shares. This is not, by any means a

material omission, notwithstanding the fact that the Pudong and Mr. Fung ultimately sold their

shares. Rather, as the Amended Complaint clearly states, Defendants dislosed that they (1)

owned 2.325 shares of Recycle Tech and (2) may sell all or a portion of their shares. The

Commission has not alleged that either of these statements is false.

As an analogy, imagine someone making the statement, “I may go to the store later

today.” If the maker of the statement has the intention of going to the store, dependent on a

variety of conditions, and, in fact, later goes to the store later that day, his or her earlier statement

is neither false nor misleading. Indeed, at the time of the statement, the speaker may not have

known with certainty whether he or she would be able go to the store later that day.

Ironically, the Commission alleges that between February 3, 2010, and February 16,

2010, no Recycle Tech shares traded in the market. See Amended Complaint, ¶79. This

allegation, if true, would make it impossible for Pudong and Mr. Fung, or anyone for that matter,

to predict how many shares of Pudong’s and Mr. Fung’s 2.325 million shares, if any portion at

all, could be sold into an otherwise illiquid market. Under the Commission’s logic, if Pudong

and Mr. Fung disclosed that they “will sell” their shares, and market forces prevent them from

doing so, they would have made a false or misleading statement. Accordingly, Defendants

statement that they “may sell” all or a portion of the Recycle Tech shares, absent some

allegations of clarvoiyance of the part of the Commission, provided full and accurate disclosure.


13

3. THE COMMISSION’S AMENDED COMPLAINT DOES NOT SATISFY FED. R. CIV. P. 9(B)

INSOFAR AS COUNTS III AND XI SIMPLY REALLEGE AND INCORPORATE BY

REFERENCE

In addition to the foregoing, the Commission’s claims against Defendants for violations

of the antifraud provisions contained in Counts III (Section 17(a)(1)) and XI (Section 10(b) and

Rule 10b-5) do not state with particularity which specific allegations apply to which specific

count. The Eleventh Circuit has held that this represents a “shotgun pleading” in the context of

securities cases where fraud is alleged. In Wagner v. First Horizen Pharm. Corp., the plaintiff

did not weave the specific allegations against the defendant into the fraud counts, but rather

simply realleged and incorporated by reference the factual allegations into the substantive counts.

The Wagner court was troubled that the defendants were “left to wonder which prior paragraphs

support the elements of the fraud claim.” 464 F.3d at 1279. The court further stated that while

the allegations were very extensive and specific, structurally there was a “lack of connection

between the substantive count and the factual predicates [and]…plaintiffs ha[d] not connected

their facts to their claims in a manner sufficient to satisfy Rule 9(b).” Id.

Courts in this district have dismissed Commission complaints for failing to comply with

the Wagner mandates. In SEC v. Solow, the Commission filed a lengthy, very detailed complaint

against a single defendant. The Honorable Donald M. Middlebrooks dismissed the

Commission’s complaint because the Commission had simply realleged and reincorporated the

factual allegations of the complaint, but failed to “state with particularity which specific

allegations apply to which specific count, thereby impeding [d]efendant’s ability to discern the

exact nature of the complaint against him.” SEC v. Solow, No. 06-81041, slip op. at 4-5 (S.D.

Fla. March 22, 2007) (a true and correct copy is attached as Exhibit A). Hence, notwithstanding

the fact that Solow was the only defendant in the referenced case, the court still determined that

simply realleging and reincorporating dozens and dozens of factual allegations in insufficient to

meet the strictures of Rule 9(b).

Here, the Commission’s Amended Complaint has totally ignored the Eleventh Circuit’s

holding in Wagner and the guidance it received from Judge Middlebrooks. The only facts

alleged in Counts III and XI, are that the “Commission repeats and realleges” the paragraphs of

its complaint concerning Pudong and Mr. Fung, as well as others. The summary paragraphs of

Counts III and XI are identical to the language the Commission utilized in the Solow complaint,


14

which was dismissed for its failure to adhere to the Rule 9(b) and the Wagner mandates.

Moreover, unlike Solow, which involved only one defendant, there are multiple co-defendants in

the instant matter, making the “shotgun pleading” even more problematic for Pudong and Mr.

Fung.

In light of the foregoing, the Counts III and XI of the Commission’s Amended Complaint

should be dismissed.

D. THE ANTI-TOUTING CLAIMS (COUNTS VII) AGAINST PUDONG AND MR. FUNG

SHOULD BE DISMISSED FOR FAILURE TO MEET RULE 12(B)(6) STANDARDS, AS

WELL AS THE HEIGHTENED PLEADINGS STANDARDS OF RULE OF 9(B)

1. THE COMMISSION’S ANTI-TOUTING CLAIMS FAIL TO STATE A CAUSE OF ACTION

The Commission has failed to state a cause of action in Count VII of its Amended

Complaint under Rule 12(b)(6), Fed. R. Civ. P., because there is no requirement to identify the

source of consideration received for publishing a newsletter or to update previously-published

newsletters to reflect sales of stock received as consideration for publishing the newsletter.

Section 17(b) of the Securities Act makes it unlawful for any person to tout a stock for

compensation without fully disclosing the receipt, either past or prospective, of compensation.

SEC v. Gane, 2005 U.S. Dist. LEXIS 607, 45-46. Specifically, Section 17(b) makes it unlawful

for any person to:

[p]ublish, give publicity to, or circulate any notice, circular,

advertisement…or communication which, though not purporting to

offer a security for sale, describes such security for a consideration

received or to be received, directly or indirectly, from an issuer,

underwriter or dealer, without fully disclosing the receipt, whether past

or prospective, of such consideration and the amount thereof.

In the instant case, Pudong and Mr. Fung fully disclosed their compensation – 2.325

million shares of Recycle Tech common stock. See Amended Complaint, ¶76. The Commission

has not suggested that they received any additional compensation or otherwise failed to

adequately disclose the amount of it.3

3 Indeed, in Gane, Judge Gonzalez found that the touting defendants violated Rule 17(b)

because they did not fully disclose the entire amount of their compensation. However, because,

among other things, such defendants actually disclosed a “significant portion of the

compensation,” the court denied the Commission’s request for an injunction.


15

The Commission seems to base its Section 17(b) claims on the fact that Defendants failed

to disclose the identify of the third party from who they received the stock. Amended Complaint,

¶76. However, there is nothing to suggest that Pudong and Mr. Fung knew or should have

known the identify of the third party. Indeed, there is nothing whatsoever in the language of

Section 17(b) or the relevant jurisprudence interpreting it that remotely suggest that one who

receives compensation for publishing information concerning the issuer of security needs to

disclose or state the identity or ultimate “source” of such compensation. Rather, “Section 17(b)

calls for the disclosure of the receipt of compensation and the amount.” SEC v. Gorsek, 222 F.

Supp. 2d 1099 (C.D. Ill. Apr. 20, 2001) (emphasis in original). That is it. Indeed, in Gane, the

Honorable Jose A. Gonzalez denied the Commission’s request for an injunction against

defendants in Section 17(b) case because, in part, the defendants had updated their disclosure to

state, during the relevant time period, that they “ha[d] been compensated by third party

shareholders….” 2005 Dist. Ct. LEXIS at *27. Pudong and Mr. Fung utilized essentially

identicial language (a third-party) to identify the source of compensation.

To the extent that the Commission argues that Pudong and Mr. Fung should have

disclosed the identity of the third party who compensated them for their services, there is no

requirement to do so. Indeed, there is no statutory requirement that a recipient must disclose

anything about its compensation if the compensation is received from a source other than the

“issuer, underwriter, or dealer.” See Section 17(b) of the Securities Act of 1933. The

Commission’s position would read a requirement into the Rule that simply does not exist.

Here, the Amended Complaint alleges that Pudong and Mr. Fung received free trading

shares as an assignment from a third party who converted approximately $25 million in debt to

shares of Recycle Tech common stock, and that Defendant Halperin, a lawyer, physically

provided them with such shares. Amended Complaint ¶¶3, 27-29, and 47. It is axiomatic that

the shares were ultimately “issued” by the company, as that is how of shares of stock are created,

whether it be for Recycle Tech or IBM. However, the operative language in 17(b) relates to the

disclosure of compensation and not to the identity of the provider or source of such

compensation, regardless of what or who it is.

Based on the foregoing, Count IV should be dismissed insofar as it concerns Pudong and

Mr. Fung.


16

2. THE COMMISSION HAS FAILED TO PLEAD THE ANTI-TOUTING CLAIM WITH

PARTICULARITY

The Commission’s Anti-Touting claim is premised on Pudong’s and Mr. Fung’s failure to

disclose information fully. See Amended Complaint at ¶¶76, 111. See Fed. R. Civ. P. 9(b);

MeterLogjc, Inc., 126 F. Supp. 2d at 1360 n.10; Rhodes, 38 F. Supp. 2d at 1359-60. Even

assuming that Pudong and Mr. Fung were required to disclose the identity of the person or entity

providing them with consideration under Section 17(b), the Commission has failed to allege

“who” actually provided the consideration to Pudong and Mr. Fung and “why” that omission

would constitute a volation. In other words, the Commission has failed to “answer the familiar

questions of ‘who, where, when, why, and how.’” Digital Lightwave, 196 F.R.D. at 700 (internal

citation omitted) (emphasis added).

Additionally, the Commission has claimed under Count VII that Pudong and Mr. Fung

“received consideration for [publishing a news letter] from or on behalf of the issuer of these

securities and did not fully disclose the receipt of such consideration and the amounts.”

Amended Complaint, ¶111. In light of the Commission’s admission that Pudong and Mr. Fung

disclosed the receipt of 2.325 million shares of Recycle Tech common stock from a third-party

non-affiliate, the Commission has failed, under Count VII, to state with particularity what

information would be required to comply with Section 17(b)’s requirement to disclose fully the

receipt of consideration and the amount of such consideration. Instead, in the absence of any

clarity from the plain text of Section 17(b), Pudong and Mr. Fung are left guessing as to what

omission constituted their purported violation, because the Commission has failed to “explain

why the statements were fraudulent.” Apolant, 411 F. Supp. 2d at 276.

IV. CONCLUSION

For all of the foregoing reasons, Defendants Pudong, LLC, and Jay Fung, respectfully

request that this Court grant their motion, pursuant to Rules 12(b)(6) and 9(b) of the Federal

Rules of Civil Procedure, to dismiss the Amened Complaint for failure to state a cause of action

and for failure to plead fraud with particularity.


17

Respectfully submitted,

SALLAH & COX, LLC

Boca Corporate Center

2101 NW Corporate Blvd., Ste. 218

Boca Raton, FL 33486

561-989-9080 (Tele.)

561-989-9020 (Fax)

___s/Joshua A. Katz____

James D. Sallah, Esq. (Lead Counsel)

Fla. Bar. No. 0092584

[email protected]

Jeffrey L. Cox, Esq.

Fla. Bar. No. 0173479

[email protected]

Joshua A. Katz, Esq.

Fla. Bar No. 0848301

[email protected]


mailto:[email protected]



18

CERTIFICATE OF SERVICE

I HEREBY CERTIFY that on August 31, 2012, I electronically filed the foregoing

document with the Clerk of the Court using CM/ECF. I also certify that the foregoing is being

served this day upon all counsel of record identified on the attached Service List in the manner

specified, either via transmission of Notices of Electronic Filing generated by CM/ECF or in

some other authorized manner for those counsel or parties who are not authorized to receive

electronically Notice of Electronic Filing.

/s/ Joshua A. Katz

Joshua A. Katz

Reycle Tech, Inc.

2039 NW 1st Place

Miami, FL 33127

Jeffrey A. Neiman, Esq.

100 Southeast Third Avenue

Suite 2612

Fort Lauderdale, FL 33394

Telephone: (954) 462-1200

Counsel for Anthony Thompson and OTC

Solutions

Brian Lam

Lam Law Offices, LLC

1901 W. Lettleton Blvd.

Littleton, CO 80120

Counsel for Recycle Tech, Inc.

Mark Hunter

Tiffany J. Brown

Hunter Taubman Weiss, LLP

255 University Drive

Coral Gables, FL 33134

Counsel for Ryan Gonzalez

Brent R. Baker

E Loren Washburn

Clyde Snow & Session

201 S. Main St., 13th

Floor

Salt Lake City, UT 84111

Counsel for Anthony Thompson and OTC

Solutions


sec v. recycle tech, inc. et al doc 52

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