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A federal judge has rejected charges by the U.S. Securities and Exchange Commission in Atlanta that a Tennessee investment company defrauded 350 investors of more than $20 million. In a 111-page order, U.S. District Senior Judge Marvin H. Shoob determined that Merchant Capital — a capital investment firm based in Brentwood, Tenn. — and the limited partnerships it established to buy and sell credit debt are viable businesses and that the conduct of Merchant Capital’s principals “was at all times appropriate, legal, ethical and forthright.” In his order, released 10 months after the SEC took the case to trial, Shoob also determined that, in contrast to SEC allegations, Merchant Capital had disclosed to its investors the risks inherent in the enterprise and made no guarantees regarding the enterprise’s probability of success. Shoob wrote that during three years of litigation the SEC did not introduce any testimony or evidence that would have contradicted his findings. He noted that SEC expert witnesses even acknowledged during the trial that Merchant Capital’s investment partners “were clearly advised of the potential risks … prior to the time that they made their initial capital contributions.” Shoob also rejected SEC assertions that the investment partners recruited by Merchant Capital “were incapable of intelligently exercising their partnership powers,” noting that every investor had a minimum net worth of $250,000 or more, with “good general business knowledge and experience,” and that 75 percent of the partners reported net worth in excess of $500,000. Merchant Capital lawyer Mark G. Trigg, a partner with Greenberg Traurig, said that three years after the SEC initiated the litigation with a request for a temporary restraining order, neither he, his co-counsel Hayden R. Pace, nor his clients know why the SEC initiated charges. “It’s a very good question,” Trigg said. “It’s one Judge Shoob literally asked from the bench. … I still don’t have an answer to that. I still don’t understand what the motivation was.” During the trial, Trigg told the court that the three-year litigation by the SEC had cost the defendants more than $500,000 in legal fees, persuaded at least one credit card company to stop doing business with them and “effectively ruined their business enterprise.” Atlanta SEC attorneys Alex Rue and William Hicks could not be reached. CLAIMS OF FRAUD The SEC first filed suit on Nov. 4, 2002, seeking a temporary restraining order to stop Merchant Capital from selling interests in a series of limited liability partnerships. Using investment capital generated by those partnerships, Merchant Capital commissioned third-party vendors to buy and sell unpaid debts from credit card companies and other financial institutions. In its complaint and in news releases, the SEC claimed the investment enterprise was a fraudulent scheme, that Merchant Capital’s sales materials contained significant misrepresentations about the business’s viability and operations and that the partnerships were illegal securities. The SEC complaint also named Merchant Capital principals Steven C. Wyer and Tennessee attorney Kurt V. Beasley in the litigation. Before forming Merchant Capital in 2001, Wyer had in 2000 filed for personal bankruptcy, as a result of unpaid corporate debts associated with his firm Wyer Creative Communications Inc., according to Shoob’s order. Wyer had no debt collection experience when he established Merchant Capital but learned about the business of buying credit card debt through Internet research. “The SEC has contended from the outset of this action that the fact that [Merchant Capital's limited partnerships] have not been profitable is a substantial factor to be considered by the court,” Shoob wrote. “Indeed, a significant portion of the testimony and evidence offered by the SEC has attempted to establish this fact. “The SEC has cited no legal authority, however, for the proposition that the profitability, or lack thereof, of a partnership is a factor to be considered in the determination of whether an interest in that partnership constitutes a security under federal law. The evidence was uncontroverted that Merchant Capital fully advised all of its prospective general partners of the speculative nature of the [limited partnership] business and the significant risks attendant to one’s participation in it.” SEC v. Merchant Capital, No. 1:02CV02984 (N.D. Ga. Nov. 10, 2005). FORM OVER SUBSTANCE In structuring Merchant Capital, Beasley secured opinion letters from four law firms — among them Baker, Donelson, Bearman, Caldwell & Berkowitz and the Houston office of Chamberlain, Hrdlicka, White, Williams & Martin. Those opinion letters supported the legality of the enterprise, in particular that the investor partnerships were not a form of security that must be registered with the SEC, according to Shoob’s order. But the SEC, according to Shoob, “elevates form over substance” by defining those partnership interests as a form of security. “Under the SEC’s theory,” the judge wrote, “a law or accounting firm’s partnership interests would become securities if the firm issued certificates to its partners representing their ‘points’ or other form of participation in firm profits.” Although Merchant Capital sales materials suggested that investment returns could reach 16 percent, Shoob’s order noted that those materials also cited “significant risks” and “specifically advised the prospective partners that these rates of return might not be achieved.” According to Shoob’s order, SEC analysts concluded that the Merchant Capital investment partners’ average rate of return would be about 68 percent of their original capital contributions. In addition, Shoob wrote, Merchant Capital specifically sought investment partners “capable of withstanding the risk of losing their entire capital contribution.” But Shoob’s order also singled out an SEC witness, who testified that it was possible for “someone with limited capital and absolutely no experience in the debt-buying business” to manage one of the limited partnerships successfully. None of Merchant Capital’s debt purchases was hidden from the general partners, the judge affirmed. The SEC also claimed that the firm had collected excessive fees from its investors, but Shoob pointed out that, prior to the trial, the SEC’s expert — in three reports — had identified only $117,500 out of more than $5 million in fees that were potentially excessive. According to the judge’s order, that SEC expert indicated “he had no reason to believe that the inconsistency was anything other than an inadvertent mistake on the part of Merchant Capital. … Partnership interests are not investment contracts.” Shoob’s order also noted that in seeking an injunction and disgorgement of alleged “ill-gotten” gains from the defendants, the SEC never gave Merchant Capital’s principals an opportunity to respond formally to the charges before the commission filed suit. Trigg said that his clients cooperated with the SEC and agreed to a temporary restraining order until Shoob could hear the SEC’s case for a preliminary injunction. In May 2003, Shoob denied the motion for an injunction and entered a judgment in favor of Merchant Capital. Although the judge granted the SEC’s subsequent request to take the case to trial, he put SEC attorneys on notice at that time that he had found Wyer and Beasley to be credible witnesses. “I’ve heard some probably 5,000 witnesses over the last 20-odd years,” Shoob said, according to a transcript, “and I would conclude at this point that there was no fraud involved.”

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