Securities Regulation Daily Wrap Up, FRAUD AND MANIPULATION—5th Cir.: Injunction and receivership were proper in securities fraud case, the Fifth Circuit affirms, (Apr 21, 2025)

By Rebecca E. Hoffman, J.D.

The court agreed with the Texas district court that these measures were necessary to prevent the defendant’s profligate spending of invested funds and ensure that the “defrauded investors” could recover in the future.

A district court order granting a receivership pending civil and criminal proceedings against an alleged fraudster who could not stop spending the money he collected from investors, and another order granting a preliminary injunction freezing the assets of the defendant’s entities not within the receivership, were affirmed April 17 by the Fifth Circuit (SEC v. Barton, No. 23-11237 (5th Cir. Apr. 17, 2025)).

The court disagreed with the defendant’s proposed “monitorship,” as a less severe alternative to receivership, finding that the defendant “has made no showing that a monitorship would police his conduct any more effectively than a contempt order.”

Spending spree. The defendant founded a real estate development company and in 2017 began working with others to offer opportunities to Chinese investors, who were promised a 10 percent rate of return. The funds were earmarked for purchase and development of property, but the SEC found that the defendant was using that money for his “lavish lifestyle,” and parallel civil and criminal fraud proceedings began. The SEC charged the defendant with violations of Securities Act Section 17(a) and Exchange Act Section 10(b) and Rule 10b-5 thereunder.

The defendant’s spending continued, to the tune of hundreds of thousands, the court said. The court granted the receivership, but the defendant appealed, and the Fifth Circuit then found that it was overbroad. The district court was instructed as to the standard and again granted a receivership, this time “to include all entities that ‘received or benefited from assets traceable to [the defendant’s] alleged fraudulent activities that are the subject of this litigation.’” The defendant appealed again.

Agreements here are ‘securities.’ The appellate court first determined that jurisdiction is proper, because the “loan agreements” the investors entered into were investment contracts, and thus securities. Lenders provided funding in exchange for the promise of greater returns; they were given to a “common enterprise,” in that they collectively rely on the defendant’s expertise in developing property and making their money back; the “lenders” expected profits; and those profits depended upon the efforts of others.

The re-imposition of a receivership was not an abuse of discretion, the court found. The district court, as instructed, applied the test in Netsphere, Inc. v. Baron, 703 F.3d 296 (5th Cir. 2012). First, the receivership was clearly necessary to protect the investors’ interests, given that even after fraud charges, the defendant kept spending invested funds. In addition, receivership allows for proper management of the properties involved to prevent loss of value. The assets are also protected from third-party actions, the court said.

Second, “less drastic” remedies would not be sufficient. Although the defendant suggested a combination monitorship and asset freeze plan, the court found that “the district court was correct that ‘[s]uch a gamble of a remedy is insufficient to protect investors’ interests.’” Last, the benefits of a receivership would far outweigh its burdens, the court said.

Received or benefitted. The defendant argued that the receivership wrongly included properties that did not benefit “enough” from lender funds, and that the court failed to require proper tracing evidence, and did not exercise discretion. The court here found that entities receiving or benefitting from investor funds to any degree were fair game, and that finding otherwise “would encourage rapid reshuffling of assets—the very problem which has confounded tracing efforts so far in this case.”

The court also determined that the SEC’s tracing evidence was sufficient. “Indeed, the SEC relied on … specific examples from financial records … not just expenditures from entities that received investor funds.” Last, the court’s application of its rule of including entities within the receivership that received or benefitted from investor money was “anything but mechanical.”

Asset freeze injunction. According to the defendant, the court abused its discretion in granting the injunction. The Fifth Circuit disagreed, finding that the court below correctly concluded there was a likelihood of success on the merits, based on a record showing that the defendant “solicited investments from Chinese nationals for real estate development projects but misappropriated those funds and used them for improper, personal purposes.”

“Second, the SEC has also shown irreparable harm to the defrauded investors through further dissipation of assets,” the court added. This harm outweighs any harm to the defendant by blocking any asset transfers. And, protecting investors and upholding securities laws is in the public interest, the court concluded.

Furthermore, reassigning the case to another judge on remand “is not just unwarranted; it would be highly inefficient and wasteful of judicial resources.”

The case is No. 22-11237.

Judge: Willett, D.

Attorneys: Ezekiel Levenson Hill for the SEC. Michael J. Edney (Hunton Andrews Kurth, L.L.P.) for Timothy Barton.

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