In SEC v. Gendarme Cap. Corp., No. CIV S-11-0053 KJM-KJN (D. Cal. 2011), the District Court for the Eastern District of California denied the defendants’ motion to strike portions of the complaint and motion to dismiss under Federal Rule of Civil Procedure (“FRCP”) 12(b)(6). The Securities and Exchange Commission (“SEC”) filed the complaint on January 6, 2011, alleging that the defendants violated §§ 5(a) and (c) of the Securities Act of 1933 and 12 U.S.C. §§ 77e(a) and (c).

According to the SEC’s complaint, defendant Gendarme Capital Corporation (“Gendarme”) is a Minnesota corporation. The individual defendants are Ian Lamphere, Gendarme’s Vice President and Secretary; Ezat Rahimi, Gendarme’s President and Chief Executive Officer; and Cassandra Armento, Gendarme’s attorney in its acquisition of stock.  Gendarme allegedly purchased stock from companies under  Rule 504 of Regulation D of the Securities Act.  The company acquired  the stock in unregistered transactions with small publicly traded companies that could not directly issue the stock to the public.  Once it purchased the stock, Gendarme was alleged to have quickly sold the shares to the public.

Defendants moved  to strike portions of the complaint.  as “redundant, immaterial, impertinent or scandalous.”  Allegations are redundant when they are foreign to the issue at hand; allegations are immaterial when they have no relationship to the claim; impertinent statements are statements that do not relate to the claim; and scandalous allegations cast a negative light on a party. A motion is stricken only when it has “no possible bearing on the subject matter of the litigation.”

The defendants specifically sought to strike the allegations of scienter.  The court conceded that  the plaintiff was not required to plead scienter under § 5 of the Securities Act.  Nonetheless, the allegations were permissible.  The SEC argued that the scienter allegations were relevant to establish that Gendarme was an underwriter.  The court agreed that the allegations were not “scandalous” because they established “relevant, material and pertinent factual assertions against” Armento.

Second, the court analyzed the defendants’ motion to dismiss under FRCP 12(b)(6).  Under FRCP 12(b)(6), a motion to dismiss is granted only when a complaint “lacks a cognizable legal theory [or lacks] sufficient facts alleged under a cognizable legal theory.”  The defendants argued that all claims against Armento, the company’s counsel, should be dismissed because she did not purchase or distribute the underlying securities.

Liability under § 5 of the Securities Act extends to anyone who is a “necessary participant” and a “substantial factor” in the sales transaction.  “Necessary” requires a showing that the  the transaction would not have taken place without the defendant’s participation.

The SEC’s complaint alleged that Armento wrote over fifty opinion letters in which she claimed that Gendarme was not an underwriter.  Additionally, the SEC alleged that Armento completed over thirty-five warrant agreements that gave  Gendarme the right to purchase the shares.  Finally, the Commission alleged, according to the court, that "Armento engaged in these activities without first determining whether the information in the letters and warrants was true, and continued to do so after finding out that the information likely was false and that Gendarme was likely selling the shares" and that "without Armento's actions, Gendarme would not have been able to obtain the stock without restrictions and thus would not have had shares to sell." (citations to the record omitted)

The court denied the defendants’ motion to dismiss and ordered that they answer the complaint within twenty-one days.

The primary materials for this case may be found on the DU Corporate Governance website.