Free Motion for Miscellaneous Relief - District Court of California - California

Case 3:08-cv-00400-DMS-BLM

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Filed 07/10/2008

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1 DAVID L. OSIAS (BAR NO. 091287) DEBRA A. RILEY (BAR NO. 151925) 2 TED FATES (BAR NO. 227809) ALLEN MATKINS LECK GAMBLE MALLORY & NATSIS LLP 3 501 West Broadway, 15th Floor 4 San Diego, California 92101-3541 Phone: (619) 233-1155 5 Fax: (619) 233-1158 E-Mail: [email protected] [email protected] 6 [email protected] 7 Attorneys for Permanent Receiver Thomas F. Lennon 8 9 10 11 12 SECURITIES AND EXCHANGE COMMISSION, 13 Plaintiff, 14 v. 15 TUCO TRADING, LLC and 16 DOUGLAS G. FREDERICK, 17 18 19 20 Thomas F. Lennon ("Receiver"), Court-appointed permanent receiver for Tuco Trading, Defendants. Case No. 08-CV-0400 DMS (BLM) MEMORANDUM OF POINTS AND AUTHORITIES IN SUPPORT OF RECEIVER'S MOTION FOR ORDER AUTHORIZING INTERIM DISTRIBUTION Date: Time: Ctrm: Judge: July 25, 2008 1:30 p.m. 10 Hon. Dana M. Sabraw UNITED STATES DISTRICT COURT SOUTHERN DISTRICT OF CALIFORNIA

21 LLC ("Tuco"), submits this memorandum of points and authorities in support of his motion for 22 order authorizing an interim distribution to the class B members ("Members") and other creditors 23 of Tuco. Since his appointment as temporary receiver on March 5, 2008, the Receiver has 24 received numerous requests and inquiries from Members regarding withdrawals and interim 25 distributions. The Members' concerns are not only with being able to use the funds for trading 26 activities, but also with paying monthly bills and other obligations. The Receiver is also conscious 27 of concerns of certain Tuco non-Member creditors that a distribution from the receivership estate 28 not be made without their participation.
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Case No. 08-CV-0400 DMS (BLM)

Case 3:08-cv-00400-DMS-BLM

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Although his accounting is not yet complete, the Receiver has been able to analyze Tuco's

2 assets and liabilities sufficiently to make an interim distribution that will not compromise an 3 equitable final distribution of the receivership estate. Based on preliminary accounting figures, 4 and using a conservative approach, the Receiver proposes that 40% of each Member's undisputed 5 account balance1 with Tuco be distributed. Likewise, the Receiver proposes that 40% of the 6 undisputed amount owed to each trade creditor, as reflected by Tuco's books and records and 7 confirmed by the Receiver, be distributed. A reserve of 40% will be created for disputed Member 8 and other creditor claims. The Member account balances and amounts owed to other creditors 9 according to Tuco's books and records are collectively referred to herein as "Preliminary Claims". 10 To minimize the risk that any interested party might receive more or less than it ultimately should, 11 the Receiver proposes that the amount distributed at this time be limited to 40%, and that the 12 distribution be made pro rata to both Members and other creditors. 13 This does not in any way represent an estimate of what Members and other creditors will

14 ultimately receive. This is merely a conservatively-calculated, interim distribution, made in an 15 effort to ease the immediate financial burden on Tuco's Members. Pursuant to Local Rule 66.1.f, 16 all Members and other creditors have been given at least 10 days notice (not including weekends 17 and holidays) of the hearing on the Motion. Notice has been provided to all known non-Member 18 creditors by mail, and pursuant to the Order in Aid of Receivership entered on March 19, 2008, to 19 all Members by email. 20 21 I. BACKGROUND FACTS

On March 4, 2008, the Securities and Exchange Commission ("SEC") filed its Complaint

22 and Ex Parte Motion for Temporary Restraining Order and Orders: (1) Freezing Assets; 23 (2) Appointing a Temporary Receiver; (3) Requiring Accountings; (4) Prohibiting the Destruction 24 25 26 27 28
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As discussed in the Receiver's First Interim Report, certain Members had more than one account with Tuco. For purposes of an interim distribution, multiple accounts held by one member ("Master Accounts") will be aggregated and netted. These members will receive one payment of 40% of the aggregate, net balance of their accounts. Additionally, certain members allowed more than one individual, and in some instances many individuals, to trade through their account at Tuco ("Accounts with Sub-Accounts"). One payment will be made to the Member under whose name the Account with Sub-Accounts was established. Tuco does not and will not account for or have any involvement in how these Members handle payments from Tuco, including how they distribute the funds amongst their individual traders.
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Allen Matkins Leck Gamble Mallory & Natsis LLP

693757.01/SD

Case 3:08-cv-00400-DMS-BLM

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Filed 07/10/2008

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1 of Documents, (5) Granting Expedited Discovery; and (6) Order to Show Cause re Preliminary 2 Injunction and Appointment of a Permanent Receiver. On March 5, 2008, the Court issued a 3 Temporary Restraining Order and Orders: (1) Appointing a Temporary Receiver; (2) Requiring 4 Accountings; (3) Prohibiting the Destruction of Documents, (4) Granting Expedited Discovery; 5 and (5) Order to Show Cause re Preliminary Injunction and Appointment of a Permanent Receiver 6 ("TRO"). The Receiver, the SEC and the Defendants sought clarification of the TRO, which was 7 provided in the Court's Supplement to the TRO ("Supplement"), entered on March 6, 2008. 8 The TRO and Supplement appointed the Receiver as temporary receiver with limited

9 powers. The Receiver was granted access to the company, but Tuco was permitted to continue 10 operations in the ordinary course of business. The Supplement also restricted the ability of 11 Members to withdraw funds. 12 On March 6, 2008, trading activity at Tuco was halted when Penson terminated clearing

13 service to Tuco's main broker accounts. Members were only permitted to issue liquidating orders 14 from that point forward. The Court held telephonic hearings on March 7 and March 10, 2008 to 15 address this change in circumstances. At those hearings, it was determined that Tuco could 16 continue to operate on a limited basis until the Receiver could provide an initial accounting and 17 the parties could brief the Order to Show Cause re Preliminary Injunction. 18 On March 11, 2008, Douglas Frederick and Tuco filed financial statements as required

19 under the TRO and Supplement. On March 14, 2008, the SEC filed the Consents of Tuco and 20 Frederick, and a Joint Motion for Judgment as to Defendants Tuco and Frederick and Orders: 21 (1) Freezing Tuco's Assets, (2) Appointing a Permanent Receiver for Tuco; and (3) Prohibiting the 22 Destruction of Documents ("Judgment"). The Court entered the Judgment on March 17, 2008. 23 On March 19, 2008, in response to the Receiver's application, the Court entered an Order

24 in Aid of Receivership: (1) Allowing Notice by Email to Members; (2) Providing that 25 Commissions Earned or Payable to Frederick are Property of the Receivership Estate; 26 (3) Authorizing the Receiver to Enter into a Temporary Transaction with GLB Trading, Inc.; and 27 (4) Granting Ancillary Relief ("Order in Aid"). The Order in Aid provides, among other things, 28 that the Receiver's initial report may be filed in conjunction with the accounting due under Part
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1 VIII.E. of the Judgment, and that interim reports shall be filed by the Receiver approximately 2 every 120 days thereafter. 3 On May 1, 2008, the Receiver applied for approval of a sale of Tuco's office furniture and

4 equipment to Frederick for $21,000. The Court entered an order approving the sale on May 5, 5 2008. 6 On May 15, 2008, new counsel representing Frederick filed a Stipulation for Substitution

7 of Counsel ("Stipulation"). The Stipulation states that Frederick's new counsel is substituted as 8 counsel of record for Tuco and Frederick. With the assistance of Allen Matkins, the Receiver 9 contacted Frederick's new counsel and advised that Frederick's former counsel was not employed 10 by the Receiver or Tuco at any time after entry of the Judgment. The Stipulation is therefore 11 improper to the extent that Frederick's new counsel purports to represent Tuco. 12 On May 19, 2008, new counsel for Frederick, again purporting to represent Tuco, filed a

13 Notice of Appeal of the Judgment ("Notice of Appeal"). On May 29, 2008, the Ninth Circuit 14 Court of Appeals issued a Time Schedule Order for the appeal that was entered on this Court's 15 docket. As of the filing of this report, Frederick has not sought a stay of the Judgment pending 16 appeal or filed any other motions with the Court of Appeals. 17 On June 2, 2008, the Receiver filed his First Interim Report, including his Preliminary

18 Accounting of Tuco ("Report"). The Report was served by email and mail on the parties, and by 19 mail on all non-Member creditors. Notice of the Report was emailed to all Members and the 20 Report itself was posted on the Receiver's website. A hearing on the Report is scheduled for 21 July 18, 2008. 22 23 II. RELIEF REQUESTED

This Motion should be read in conjunction with the Report, which provides detailed,

24 preliminary accounting analysis of Tuco, including its assets, liabilities, and Member account 25 balances. As discussed in the Report, the accounting analysis thus far by the Receiver and his 26 forensic accountant, William H. Ling ("Ling"), is preliminary only. The Receiver and Ling 27 continue to review and analyze records of Tuco's operations. The Receiver is confident, however, 28 that under the worst case scenario, the Members and other creditors of Tuco would receive a
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1 distribution of at least 40%. Again, 40% is not an estimate of what Members and creditors will 2 ultimately receive. This is only a conservatively-calculated, interim distribution. 3 If this application is approved, a distribution form will be emailed to all Members and

4 mailed to all other creditors, instructing each to provide wiring or mailing instructions for 5 transmission of their distribution from the estate. The Receiver will work to resolve any name 6 and/or address issues with the Members and other creditors to ensure that all parties receive an 7 interim distribution promptly.2 As the distribution forms are returned, the Receiver will process 8 interim distribution payments. 9 To the extent that the Receiver determines that a Member or creditor (a) has unresolved

10 amounts pertaining to his/her Preliminary Claim, or (b) has a relationship with Tuco or Frederick 11 other than as a Member or other creditor, the Receiver, in his sole discretion, will decide whether 12 such Member or other creditor's interim distribution will be reserved pending additional 13 investigation. 14 This is not the appropriate time for Members and other creditors to dispute Preliminary

15 Claims. In the next several weeks, the Receiver will seek approval from the Court of a process for 16 receiving and administering claims. The Receiver will ask the Court to set a bar date by which all 17 claims must be submitted. The Receiver will then review the claims submitted and, where 18 appropriate, file objections. Members and other creditors will have the opportunity to respond to 19 the Receiver's objections, and the Court will resolve claim disputes. Claims that have been 20 submitted to the Receiver and resolved by agreement or by the Court are referred to herein as 21 "Final Claims". In due course, the Receiver will also seek approval from the Court of a plan of 22 distribution, providing for distribution of the assets of the receivership estate to Members and 23 other creditors with allowed Final Claims. 24 The claims process will be the appropriate time for Members and other creditors to provide

25 evidence indicating that their Final Claim amounts should be something other than what the 26 Receiver's records show. Allowing Members and other creditors to dispute Preliminary Claim 27 28
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Shortly after the Receiver's appointment as permanent receiver, Members and other creditors were instructed to contact the Receiver with any changes to their contact information.
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Allen Matkins Leck Gamble Mallory & Natsis LLP

693757.01/SD

Case 3:08-cv-00400-DMS-BLM

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Filed 07/10/2008

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1 amounts will duplicate the claims process, and unnecessarily complicate and delay the proposed 2 interim distribution. 3 4 III. ARGUMENT

"The power of a district court to impose a receivership or grant other forms of ancillary

5 relief does not in the first instance depend on a statutory grant of power from the securities laws. 6 Rather, the authority derives from the inherent power of a court of equity to fashion effective 7 relief." SEC v. Wencke, 622 F.2d 1363, 1369 (9th Cir. 1980). The "primary purpose of equity 8 receiverships is to promote orderly and efficient administration of the estate by the district court 9 for the benefit of creditors." SEC v. Hardy, 803 F.2d 1034, 1038 (9th Cir 1986). As the 10 appointment of a receiver is authorized by the broad equitable powers of the court, any distribution 11 of assets must also be done equitably and fairly. See S.E.C. v. Elliot, 953 F.2d 1560, 1569 (11th 12 Cir. 1992). 13 District courts have the broad power of a court of equity to determine the appropriate

14 action in the administration and supervision of an equity receivership. See SEC v. Capital 15 Consultants, LLC, 397 F.3d 733, 738 (9th Cir. 2005). The Ninth Circuit explained: 16 17 18 19 20 21 A district court's power to supervise an equity receivership and to determine the appropriate action to be taken in the administration of the receivership is extremely broad. The district court has broad powers and wide discretion to determine the appropriate relief in an equity receivership. The basis for this broad deference to the district court's supervisory role in equity receiverships arises out of the fact that most receiverships involve multiple parties and complex transactions. A district court's decision concerning the supervision of an equitable receivership is reviewed for abuse of discretion. Id. (citations omitted); see also Commodities Futures Trading Comm'n. v. Topworth Int'l,

22 Ltd.; 205 F.3d 1107, 1115 (9th Cir. 1999) ("This court affords 'broad deference' to the court's 23 supervisory role, and 'we generally uphold reasonable procedures instituted by the district court 24 that serve th[e] purpose' of orderly and efficient administration of the receivership for the benefit 25 of creditors."). 26 This Court has broad equitable powers and discretion in the administration of this equity

27 receivership estate, including the discretion to authorize an interim distribution. An interim 28 distribution will allow the Members to pay their bills and continue with their livelihood (trading).
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1 The Receiver's preliminary accounting shows that 40% of Preliminary Claims can be distributed at 2 this time without jeopardizing an equitable final distribution. 3 It is important that the Receiver have discretion to reserve an interim distribution if there

4 are unresolved issues pertaining to Preliminary Claims such that additional investigation can be 5 done. In some cases, unresolved fees, charges or disputes could substantially reduce Preliminary 6 Claims. An interim distribution should not be made if such distribution might result in a Member 7 or other creditor receiving more than it ultimately should as part of an equitable final distribution. 8 The Receiver will exercise his business judgment under the specific circumstances to determine 9 when, and in what amount, an interim distribution will be made. 10 Finally, allowing Members and other creditors to dispute their Preliminary Claim amount

11 would cause the estate to incur the expenses associated with administering claims twice. The 12 proposed interim distribution has been conservatively calculated to account for the likelihood that 13 some adjustments to Preliminary Claims will have to be made. As noted above, the Receiver will 14 seek approval of a process for receiving and administering claims in the next several weeks. The 15 claims process will the be the appropriate time for Members and creditors to provide evidence 16 indicating that their Final Claim amounts should be something other than what the Receiver's 17 records show. The claims process will also provide the opportunity for Members and other 18 creditors to have their Final Claims reviewed and determined by the Court to the extent there is an 19 unresolved dispute. 20 The goal of an interim distribution is to get money into the hands of Members and other

21 creditors sooner rather than later. Disputes over Preliminary Claims will unnecessarily delay and 22 complicate this process. 23 As discussed in the Declaration of Ted Fates in Support of the Motion, the Motion, in

24 substantially final form, was circulated to the SEC, Douglas Frederick and Tuco's largest non25 Member creditor, Lightspeed, before filing. The SEC and Lightspeed have stated that they do not 26 oppose the Motion. Frederick has not stated a position with respect to the Motion. 27 28
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IV.

CONCLUSION

Based on the foregoing, the Receiver requests entry of an order granting the Motion,

3 authorizing an interim distribution to the Members and other creditors of Tuco in the amount of 4 40% of their Preliminary Claims, and granting such other relief as the Court deems just and 5 proper. 6 7 Dated: July 10, 2008 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28
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ALLEN MATKINS LECK GAMBLE MALLORY & NATSIS LLP By: /s/ David L. Osias DAVID L. OSIAS Attorneys for Permanent Receiver Thomas F. Lennon

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Case No. 08-CV-0400 DMS (BLM)