The opinion of the court was delivered by: Baylson, J.
MEMORANDUM RE: MOTIONS TO DISMISS DEFENDANTS' AMENDED COUNTERCLAIMS AND THIRD-PARTY CLAIMS
The unique question presented in this securities fraud case is whether a violation of Section 10(b) of the Securities Exchange Act and Rule 10b(5) can be committed by officers of a corporation, not by their misrepresentations to investors in connection with the sale of the corporation's shares, as is usually alleged, but by a scheme centered around manipulating the restricted nature of the company's shares under SEC Rule 144, 17 C.F.R. § 230.144(i), in order to gain control over the stock's "float" and enrich themselves at the detriment of the corporation.
From the pleadings, the battle of allegations between Plaintiffs and Defendants reveal disputes about sinister intent and financial motive, as well as possibly innocent acts and statements, that might serve well as the plot of an opera, perhaps not as deep or threatening as the intrigues between King Phillip II of Spain and his son, Don Carlos, over the fate of Flanders in the Sixteenth Century in Verdi's opera. But the plot of an opera can be resolved by the librettist in three of four hours; this case, seventeen months ongoing and still at the stage of pleadings, must move into the second stage, of discovery, and hopefully for a shorter period.
As the Court previously denied the Defendant's Motion to Dismiss the Complaint (ECF 8) by Order of August 27, 2012 (ECF 38), the Court must now also deny Plaintiffs' and Third-Party Jehu Hand's Motions to Dismiss Defendants' Amended Counterclaims and Third-Party Claims. (ECF 50 & 51). The Court concludes that the Supreme Court's broad holdings enforcing Section 10(b) and Rule 10b(5) in prior cases extends to a manipulative scheme by an officer of a corporation to gain control the stock's float, artificially inflate its share price through fraud on the market, and reap substantial gains by selling off his shares while causing the corporation and its other shareholders to suffer losses.
II. FACTUAL &PROCEDURAL BACKGROUND
A.Factual Background per Allegations of Complaint, Amended Counterclaims and Third-Party Claims
1. Edward Bukstel started VitaminSpice, LLC in 2008, in Pennsylvania. He raised money from local investors to develop a new commercial product, vitamin-infused spices. In 2009, he desired to take the LLC public. (Complaint ¶ 14-15).
2. Bukstel began discussions with Jehu Hand, a securities lawyer in California, in the summer of 2009. Bukstel was interested in consummating a reverse merger with Qualsec LLC, a company owned by Hand's brother, Learned Hand. At the time of the reverse merger, Plaintiffs Able Direct Marketing, Inc. ("Able") and Esthetics World, Inc. ("Esthetics"), were part of a group of noteholders in Qualsec, to whom the corporation owed $130,000. (Id. ¶ 16-17).
3. In August 2009, Bukstel travelled to California to meet with Jehu and Learned Hand, to discuss the reverse-merger. (Id. ¶ 18). It was agreed the merger would go forwards. Also during this trip, Qualsec shareholders and noteholders agreed to convert their debt in Qualsec into post-merger equity in Vitaminspice. (Id. ¶ 19).
4. On September 28, 2009, the reverse-merger was consummated. (Amended Counterclaims ¶ 17). There were 121 million new shares of VitaminSpice acquired -- 21 million shares acquired by the Qualsec shareholders and noteholders, and 100 million shares acquired by VitaminSpice investors, including Bukstel and Plaintiff International Business Development, Inc. ("IDB"). (Complaint ¶ 23). Plaintiff Advanced Multilevel Concepts, Inc. ("Advanced") acquired its shares in VitaminSpice from shareholders in the Qualsec group. (Id.). The public company was renamed VitaminSpice and VitaminSpice, LLC became the wholly-owned subsidiary. (Id.).
5. Also on September 28, 2009 Hand allegedly issued a false "Corporate Resolution" of the Qualsec investors; sent an "Opinion Letter" to a transfer agent, Stalt, Inc., stating falsely that VitaminSpice was not and never had been a shell company; and signed another allegedly false "Seller's Representation Letter." (Amended Counterclaims ¶¶ 17-20, 24).
6. At some point throughout these transactions, Jehu Hand became in-house counsel of VitaminSpice. (See id. ¶ 10).
7. In January 2010, Hand allegedly commissioned the publication of two press releases about VitaminSpice, containing false information. The press releases inflated the company's share price. From January 14, 2010 through February 1, 2010, Hand allegedly engaged in massive sales and purchases of VitaminSpice shares through a "pump and dump" scheme. (Id. ¶¶ 48-52).
8. On March 24, 2010, Hand sent an email to Bukstel and the VitaminSpice Board of Directors, advising them that under [SEC] Rule 144(i), "if the company was a 'shell' at any time in its history (as this company was for about two months prior to the merger) . . . the restricted shares issued on the merger cannot use Rule 144 until 1 year after the form 10 . . . has been filed." (Id. ¶ 30). In other words, Hand related that because VitaminSpice had been a shell prior to the merger, Rule 144(i) prevented legitimate VitaminSpice shareholders from trading their shares. This both stopped VitaminSpice investors from trading their shares, and dissuaded the VitaminSpice Board from issuing additional shares, which would have reduced the float controlled by Hand. (Id. ¶ 29). Allegedly, Hand was transmitting this information at the same time he was orchestrating his scheme to flood the market with free trading shares issued in the name of his shell companies, relatives, friends, and fictional persons. (Id. ¶ 30).
10. In May 2010, Hand allegedly engaged in another pump-and-dump operation, involving the commission and publication of false press releases. (Id. ¶¶ 54-55).
11.On July 5, 2010, Hand reported to VitaminSpice's Board of Directors that Bukstel had been derelict in his duties as CEO -- after months of allegedly observing that Bukstel had merged company accounts with his personal accounts, had failed to impose internal controls, and had failed to file reports in a timely fashion, Hand brought this information to the Board of Directors. (Complaint ¶¶ 25-35).
12. On July 6, 2010, Hand was terminated as VitaminSpice's counsel. (Id. ¶ 36).
13. On July 12, 2010, Bukstel imposed a "stop order" on the shares held by Plaintiffs (e.g., Advanced, Able, Esthetics, and IDB) by directing Stalt, the transfer agent, not to allow their shares to be traded. (Id. ¶¶ 37, 40).
14. In August 2010, Bukstel allegedly caused VitaminSpice to issue 7.32 backdated shares of VitaminSpice stock to Bukstel's "confederates," for no consideration to the company. (Id. ¶ 59). This diluted the value of Plaintiffs' holdings in VitaminSpice. (Id. ¶ 74).
15. At the conclusion of the Complaint, and the Amended Counterclaims and Third-Party Claims, these pleadings relate the injuries suffered by the respective parties, including damages and other matters, ...