Securities & Exchange Commission v. Mahabub

          ORDER GRANTING IN PART AND DENYING IN PART SEC'S REVISED MOTION FOR SUMMARY JUDGMENT

          WILLIAM J. MARTINEZ UNITED STATES DISTRICT JUDGE.

         This is a securities fraud case that Plaintiff Securities and Exchange Commission (“SEC”) has brought against Taj “Jerry” Mahabub (“Mahabub”) and the company he founded, GenAudio, Inc. (“GenAudio”) (together, “Defendants”). The SEC asserts various theories of liability under the Securities Act of 1933 (“Securities Act”), 15 U.S.C. §§ 77a et seq., and the Securities Exchange Act of 1934 (“Exchange Act”), 15 U.S.C. §§ 78a et seq.

         Currently pending before the Court is the SEC's Revised Motion for Summary Judgment. (ECF No. 84.) The SEC requests judgment as a matter of law on all of its causes of action, leaving only remedies for further consideration. (Id. at 8 & n.1.)^[1]GenAudio and Mahabub, represented separately, each filed responses (ECF Nos. 89, 90), and the SEC filed a combined reply (ECF No. 91).

         For the reasons explained below, the Court finds that a subset of facts-more limited than the set of facts proffered by the SEC-entitles the SEC to summary judgment on its claims brought under Securities Act § 17(a)(2) and Rule 10b-5(b). The SEC is also entitled to summary judgment on its claim for sale of unregistered securities under Securities Act § 5(a) and (c). Beyond that, judgment as a matter of law is not appropriate on this record. The Court will order the SEC to file a status report regarding whether a trial on liability is needed, or whether the foregoing is enough to support the remedies the SEC intends to seek.

         I. LEGAL STANDARD

         Summary judgment is warranted under Federal Rule of Civil Procedure 56 “if the movant shows that there is no genuine dispute as to any material fact and the movant is entitled to judgment as a matter of law.” Fed.R.Civ.P. 56(a); see also Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 248-50 (1986). A fact is “material” if, under the relevant substantive law, it is essential to proper disposition of the claim. Wright v. Abbott Labs., Inc., 259 F.3d 1226, 1231-32 (10th Cir. 2001). An issue is “genuine” if the evidence is such that it might lead a reasonable trier of fact to return a verdict for the nonmoving party. Allen v. Muskogee, 119 F.3d 837, 839 (10th Cir. 1997).

         In analyzing a motion for summary judgment, a court must view the evidence and all reasonable inferences therefrom in the light most favorable to the nonmoving party. Adler v. Wal-Mart Stores, Inc., 144 F.3d 664, 670 (10th Cir. 1998) (citing Matsushita Elec. Indus. Co., Ltd. v. Zenith Radio Corp., 475 U.S. 574, 587 (1986)). In addition, the Court must resolve factual ambiguities against the moving party, thus favoring the right to a trial. See Houston v. Nat'l Gen. Ins. Co., 817 F.2d 83, 85 (10th Cir. 1987).

         II. FACTS

         The following facts are undisputed unless attributed to a party or otherwise noted.

         A. GenAudio & Mahabub

         GenAudio is a Colorado corporation headquartered in Centennial, Colorado. (ECF No. 84 at 9, ¶ 1.) “[I]t engages in the development and marketing of software that creates three-dimensional audio, which it calls ‘AstoundSound.'” (Id.)

         Mahabub founded GenAudio, served as its CEO and its Chairman of the Board from 2009 to 2012. (Id. ¶ 3.) “Between November 2009 and April 2012, Mahabub had the right to vote a majority of GenAudio's securities and controlled GenAudio's Board.” (Id. ¶ 4.)

         During the same timeframe (2009 to 2012), GenAudio primarily financed itself through selling debt and equity securities in private offerings, but it was nonetheless “consistently insufficiently funded.” (Id. at 10, ¶¶ 9-10.) GenAudio had an employee, Jim Wei-Kung Mattos, who spent most of his time trying to raise money for the company. (Id. ¶ 6.)

         B. Communications About Apple from July 2009-March 2010

         1. The Beginnings of the Apple Relationship This case centers around Mahabub's attempts to secure a deal with Apple, Inc., to integrate AstoundSound into Apple products. GenAudio began discussing AstoundSound with Apple in late 2006. (ECF No. 89 at 16, ¶ 108.) The relationship between GenAudio and Apple over the next two-and-a-half years is unclear. However, on July 1, 2009, Mahabub executed Apple's standard non-disclosure agreement (“NDA”) on behalf of GenAudio. (ECF No. 84 at 12, ¶ 19.)

         Mahabub's primary point of contact at Apple was Victor Tiscareno, a senior audio and acoustic engineer. (Id. ¶ 17.) Mahabub also met and communicated with Michael Hailey, a product market manager for the iPod, iPhone, and iPad product lines; and Ronald Isaac, a “signal processing engineer and acoustician technologist.” (Id. ¶ 18.) Tiscareno was Mahabub's point of contact with the iPhone/iPod/iPad division, and Isaac was Mahabub's point of contact with the Mac division. (ECF No. 89 at 20, ¶ 124.)

         2. The First Wave of Altered E-Mails

         Between August 2009 and February 2010, Mahabub forwarded several of his e-mails to or from his Apple contacts (mostly Tiscareno) to a group the parties refer to as the “GenAudio Team, ” meaning “GenAudio's employees, contractors, and Board.” (ECF No. 84 at 10, ¶ 12.) Mahabub altered the forwarded versions of these e-mails. (See generally ECF No. 84-92.) These alterations generally conveyed the impression, or claimed outright, that:

• Mahabub had met with Phil Schiller, Apple's senior vice president of worldwide marketing, and Tim Cook, then Apple's chief operating officer;

• Apple's then-CEO Steve Jobs was being apprised of the GenAudio discussions;

• Mahabub was scheduled to meet with Jobs personally;

• progress toward a deal with Apple had generally been swift; and

• Schiller was targeting a late 2010 rollout of GenAudio-enhanced Apple products.

(Id.; ECF No. 84 at 13-14, ¶¶ 24-25, 30-31, 33.) In truth, Mahabub had not met with- and never would meet with-Jobs, Cook, or Schiller, and Apple employees never brought GenAudio to Jobs's attention. (Id. ¶¶ 26, 32, 34-35.)

         As will be seen below, forwarding altered e-mails to the GenAudio Team continued to be Mahabub's modus operandi in coming months and years. Mahabub suggests he made these alterations only to maintain morale among GenAudio's overworked and inconsistently paid employees, not as a means of encouraging investment. (ECF No. 89 at 4; ECF No. 90 at 9, ¶¶ 212-13.)

         3. Other Events Coinciding with the Altered E-Mails

         Other events potentially material to this case occurred in this same timeframe as the first set of altered e-mails (August 2009 through February 2010). On September 25, 2009, Mahabub told the GenAudio Board that a deal with Apple was “highly probable.” (ECF No. 84 at 13, ¶ 27.) On November 9, 2009, Mattos (GenAudio's full-time fundraiser) sent an e-mail, authored and signed by Mahabub, to GenAudio's investors, informing them that “nothing is assured yet, but as shareholders you should be aware that there is a strong possibility that the Company may be acquired within the next 6 months in light of our extensive discussions with a global industry leader in consumer electronics.” (ECF No. 84-35 at 3.) He requested that investors “[p]lease continue to tell people about our Company and direct[] them to our website.” (Id.) A few days later, a recipient of this e-mail named Donaghue replied to Mattos with a “list of investors, ” and each of the listed investors purchased GenAudio shares soon afterward. (ECF No. 84 at 16, ¶¶ 38-39.)^[2]

         Around this same time, Mahabub began selling his personal GenAudio shares to investors. (Id. at 17, ¶ 44.)^[3] The sales continued through April 2012. (Id. ¶ 45.) No. registration statement was filed or in effect for these sales. (Id. at 18, ¶ 47.)

         On November 28, 2009, Mahabub sent Apple employees Tiscareno and Hailey a lengthy e-mail attempting to ingratiate himself to them, extolling the potential for an Apple-GenAudio partnership, suggesting that Apple's IP lawyers begin examining GenAudio's patents, and stating that “we hope Apple becomes happy with us once the deal is inked and the initial products from Apple incorporating AstoundSound . . . are brought to market.” (ECF No. 84-44 at 3-10.) Hailey (the iPod/iPhone/iPad product market manager) responded on December 16, 2009, that “[w]e're making progress and building our story, but this is not something we can execute overnight. The business side of things would come into play after we have exec buy-in on the product side.” (Id. at 3.) This response caused Mahabub to focus intensely on “exec buy-in.” (ECF No. 89 at 24, ¶ 142.) In a follow-up e-mail, he asked if Hailey had “any idea as to when the exec buy-in might take place.” (ECF No. 84-44 at 2.) It is not clear if Hailey responded to that e-mail. However, on January 5, 2010, Hailey responded to a separate e-mail from Mahabub. (ECF No. 84-45 at 2-3.) Hailey wrote that Apple was “pretty serious about looking at audio quality across the board and this will take time-definitely more than a couple of months.” (Id. at 3.)

         4. The 2010 Offering

         Mahabub recalls a conversation with Tiscareno in February 2010 or thereabouts, in which Tiscareno said something to the effect that he and Hailey were “confident” that they could get AstoundSound integration “okayed by the big man if [they played their] cards right.” (ECF No. 89 at 27, ¶ 159.) Whether Tiscareno recalls this conversation is not clear, but Tiscareno testified at his deposition that if he used the term “big man, ” it was usually a reference to Jobs. (Id. at 26, ¶ 154.)

         Tiscareno's alleged “big man” remark became the basis of alterations Mahabub made to a February 12, 2010 e-mail that he forwarded to GenAudio's board that same day. (See ECF No. 84 at 18, ¶ 50.) The original e-mail was simply about whether Mahabub had considered testing GenAudio's technology in the newest iPad model. (See ECF No. 84-47 at 2.) Mahabub added to that e-mail several sentences, including one in which Tiscareno purports to say that he and Hailey “are both confident that we can get this ok'd by the big man if we play our cards right.” (ECF No. 84-46 at 3.) Mahabub also put into Tiscareno's mouth a mention of “the project Phil [Schiller] discussed for Christmas product rollout with you.” (Id.) Finally, in Mahabub's commentary on Tiscareno's alleged statements, he told the GenAudio board that he had a “[g]reat meeting with Phil Schiller yesterday” who was targeting a “Christmas rollout” and had also “requested to see a copy of the [GenAudio] valuation report ASAP.” (Id. at 2.)

         Later the same day, February 12, 2010, GenAudio held a board meeting. (ECF No. 84 at 18, ¶ 51.) After a “summary of the discussions with Apple, ” the board agreed that GenAudio should prepare a new stock offering and directed Mahabub to prepare a draft private placement memorandum for the board's review. (Id.) The board formally approved the offering on March 5, 2010 (“2010 Offering”). (Id. at 19, ¶ 52.)

         On March 10, 2010, Mahabub e-mailed fifteen GenAudio shareholders the company valuation report, announcing that GenAudio would include that report in the 2010 Offering materials and that the 2010 Offering would “go live on March 15, 2010.” (Id. ¶ 53.) He then gave these investors an opportunity, ahead of the formal offering, to buy up to 250, 000 of his own GenAudio shares at fifty cents per share. (Id.)^[4] And he went on to state that GenAudio was “starting to discuss the business side with the LCEC [i.e., Large Consumer Electronics Company], and I expect to have a very substantial license deal in place for their Christmas Product Rollout.” (ECF No. 84-50 at 4.) GenAudio's investors generally understood that “LCEC” referred to Apple. (ECF No. 84 at 16, ¶ 41.)

         As promised in Mahabub's e-mail, the 2010 Offering commenced on March 15, 2010. (Id. at 19, ¶ 54.) It lasted through August 31, 2010. (Id.) GenAudio did not file a registration statement for the 2010 Offering, nor did it provide an audited balance sheet to potential investors. (Id. ¶ 55; id. at 22, ¶ 69.) The solicitation included a private placement memorandum (ECF No. 84-3) with a cover letter dated March 15, 2010 and signed by Mahabub (ECF No. 84-52). This letter was specifically directed to current GenAudio shareholders “to keep [them] apprised of current developments.” (Id. at 2.) Mahabub represented, among other things, that the 2010 Offering was

being conducted to provide bridge capital until we can “ink” a deal with a large consumer electronics company (referred to as the “LCEC” throughout the [private placement memorandum]) with whom we have had over 15 meetings with marketing and technical management, and will start the actual embedded level integration process within the next 30 days.

(Id.)

         5. Fundraising Exhortations & More Altered E-Mails

         On March 18, 2010, Mahabub e-mailed the GenAudio Team to explain the current state of company finances, and attached the 2010 Offering cover letter. (Id. at 22, ¶ 73; ECF No. 84-9 at 2-4.) The e-mail included an exhortation that it was “[t]ime to go back into fund raising mode, and if any of you feel like helping out with this effort, I would certainly appreciate it. It's not like you are doing your friends and family a bad thing by getting them into GenAudio at this stage in the game.” (Id. at 4.) The following day, Mahabub forwarded that e-mail again to the GenAudio Team, adding some additional information, and further stating,

Time to get some $$$ and drive the business side of our company through the roof! * * * And someone would not want to invest at this stage in the game, or increase there [sic] shareholder position because why? There is no answer to this question, however, in order to truly get to where this ship needs to go, we need to stop for a moment and re-fuel.

(Id. at 2.)

         On March 21, 2010, Mahabub sent an e-mail to Tiscareno, Hailey, and Isaac, stating that he would soon be sending them certain software that would permit Apple engineers to test AstoundSound as an embedded part of certain Apple products. (ECF No. 84-92 at 7.) Later that same day, Mahabub forwarded an altered version of that e-mail to the GenAudio Team. (Id.) Specifically, Mahabub altered the “To:” line to make it appear that the e-mail had been sent to Schiller and other important Apple executives. (Id.) Mahabub also added a paragraph to make it appear that his e-mail had not simply announced his intent to send the software, but that it was actually in response to Apple's request for the software in light of specific business plans to incorporate AstoundSound into Apple's products, and that Mahabub had continued to communicate directly with Schiller:

This [software transmittal] will be right in time for you to start the embedded level integration process as we discussed on our last conference call and will keep everything on schedule with what Phil [Schiller] is hoping for-a fall product rollout. I will be available anytime on Tuesday for a conference call to go over the [software development kit], and I believe Phil and Michael [Hailey] wanted to follow up and go over a few things with us on the marketing side in terms of the actual application integrations for Quick[T]ime, [i]Tunes, DVD Player among others...Just let me know when you are all available.

(Id. (ellipses in original).)

         C. Communications About the “Exec Buy-In” Meeting (April-May 2010)

         1. Learning of the Meeting

         According to the SEC, Mahabub learned in early April 2010 of an important upcoming “internal meeting at Apple regarding GenAudio's technology.” (ECF No. 84 at 23, ¶ 76.) Mahabub partly disputes this, claiming that he knew “long before” April 2010 that such a meeting had been scheduled, and that he and Tiscareno had worked “in late 2009” on the “demos to be used at that meeting.” (ECF No. 89 at 12, ¶ 76.) In any event, this was the meeting where Mahabub's coveted “buy-in” from an Apple “exec” would be decided. (Id. at 25, ¶ 150.) If an executive “did not give a ‘green light' to continue with GenAudio, then discussions between GenAudio and Apple's iPhone/iPod/iPad division . . . would end.” (Id. ¶ 151.) Mahabub understood this. (Id. at 26, ¶ 140.)

         2. “Jobs” vs. “Joz”

         The SEC claims that none of Mahabub's Apple contacts told him the upcoming demonstration meeting would include Steve Jobs. (ECF No. 84 at 23, ¶ 77.) Mahabub claims, however, that he reasonably came to believe that Jobs would attend. Specifically, in the run-up to the meeting, Mahabub and Tiscareno had discussions about preparing the demonstration for “the executive” or “the exec.” (ECF No. 89 at 26, ¶ 155.) Moreover, Mahabub claims that Tiscareno and Hailey told him over the phone that the meeting would be with “Jobs, ” when in fact-if they named the executive at all-they probably said that the meeting would be with “Joz.” (Id. at 26-27, ¶¶ 156-57.) “Joz” (pronounced “jaws”) is the nickname for Greg Joswiak, who was then “the Vice President of iPod/iPhone in the Marketing Department, [and was] among the most senior executives at Apple.” (Id. at 25, ¶¶ 148-49.) But Mahabub had never heard of Joswiak and was never told that someone by that name would attend the meeting. (Id. at 27, ¶ 158.) Thus, he asserts, he reasonably understood Hailey and/or Tiscareno to be saying that “Jobs, ” not “Joz, ” would attend. (Id. at 27, ¶ 157.)

         3. Altered E-Mails and Other Statements About the Anticipated Meeting

         On April 7, 2010-still in the run-up to the “exec buy-in” meeting-Tiscareno e-mailed Mahabub about delivery of certain demonstration hardware, concluding with, “No rush at the moment. I don't have a meeting date or time yet.” (ECF No. 84-73 at 2.) Mahabub responded, and then forwarded an altered version of his response and Tiscareno's trailing e-mail to the GenAudio Team. (ECF No. 84-57.) Among other things, Mahabub removed from Tiscareno's e-mail the portion about not having a meeting date or time, and inserted the sentence, “Phil [Schiller] let us know earlier that this [meeting] might be postponed until early next week. Apparently Steve [Jobs] is planning on going out of town with his family for the weekend.” (Id. at 3.) To his own response, Mahabub added that the fabricated postponement “might be better given that Steve will be relaxed from having a weekend getaway with his family. Perhaps this is why Phil is rescheduling for next week. He did say [that whether Jobs is relaxed] was a very important factor . . . .” (Id. at 2.)

         On April 30, 2010, while attending a conference for investment bankers and broker-dealers, Mahabub sent at least one investor an e-mail announcing that the LCEC was “looking to acquire GenAudio's tech for integration into their entire lineup of product offerings . . . and we are now waiting [for the time] when we will initiate negotiations, pending the CEO's [approval of] the integrated product rollout strategy and the technical implementation strategy that will be presented to the CEO next week!!!” (ECF No. 84-74 at 5.) The e-mail prompted the recipient to purchase 5, 000 shares for $15, 000. (ECF No. 84 at 24, ¶ 80.)^[5]

         At some point, Mahabub learned that the specific date of the “exec buy-in” meeting would be May 6, 2010. (See ECF No. 89 at 26, ¶¶ 153, 155.) On May 5, Mahabub e-mailed Tiscareno, offering to fly to Apple headquarters and attend the meeting, and also offering to coach Tiscareno on how best to present AstoundSound. (ECF No. 84-71 at 2-3.) Later that day, Tiscareno replied,

Thanks for your offer to help us, but this is not that kind of demo.

Michael [Hailey] and I are pitching this as a concept, and our proof of concept is what you developed for us.

I think the demo and the product will speak for itself. Once we get the go ahead that this is a great idea, then the questions will be, “[W]ell, what about the other technologies have we reviewed them? etc[.]” Then we sort of start over internally to prove that we know what we are talking about, etc.

We have to get to first base...

(Id. at 2 (ellipses in original).)^[6]

         On the morning of May 6, Mahabub sent e-mails to the GenAudio Team about the meeting scheduled for that day, with statements suggesting that Schiller and Jobs would attend. (ECF No. 84-75 at 2-3.)

         4. The Meeting Itself & Aftermath

         The “exec buy-in” meeting indeed took place later that day, but only Tiscareno, Hailey, and Joswiak attended. (ECF No. 89 at 27, ¶ 160.) At his later deposition, Hailey described Joswiak's “response” as follows: “So, I think he agreed that-he agreed that there was a value and exploring ways to enhance the listening experience for people using iPods and iPhones. * * * My recollection was that he saw value in the consumer problem we were trying to solve.” (ECF No. 89-26 at 6.)

         The record does not show what Tiscareno or Hailey said, if anything, to Mahabub about the outcome of the May 6 meeting. However, late in the evening of the same day, Mahabub sent an e-mail to the GenAudio Team with a purported transcript of a phone call he had supposedly just had with Tiscareno. (ECF No. 84-33.) The fact of the phone call and the transcript were both fabrications. According to the transcript, Tiscareno reported that “the meeting could not have gone any better” and that “Steve thought the technology was so extraordinary, ” but “it will take a lot of time before you and Apple get to the business side” because Jobs believed that the upcoming release of a new operating system version for iPhones and iPads already had many new features and AstoundSound “is too good to be rolled into a giant pool of other features. I believe [Jobs] wants to explode this technology into the world, and he stated he needs some time to figure out the plan and when to launch this.” (Id. at 3-4.) In the meantime, Jobs had “instructed all of us to be in a no radio period, ” i.e., to cease discussions with GenAudio as Apple prepared for formal negotiations. (Id. at 4.)

         Following this fake transcription, Mahabub provided his own commentary, including a prediction that Apple would take “60 to 90 days, ” “most likely to prepare what I believe will be a buyout offer.” (Id. at 5.) As for Jobs, Mahabub stated, “I can't wait to meet him for our one on one meeting, which according to [Tiscareno] is still on the radar screen for when we re-open haling [sic] frequencies with [Apple].” (Id.)

         Mahabub's e-mail included a mandate that recipients should delete it after reading it, because “[i]f this ever got out, it could kill our deal.” (Id. at 3.) However, Mahabub himself forwarded it to a potential investor named Dell Skluzak, albeit with another command to delete after reading. (Id. at 2.) Mahabub says he sent the e-mail to Skluzak as part of a campaign to persuade him to join the GenAudio Board, not to invest. (ECF No. 90 at 12, ¶¶ 231-32.) Skluzak had decided to invest in GenAudio before receiving this e-mail and did not rely on the e-mail when, later in May 2010, he participated in the 2010 Offering. (Id. at 11, ¶¶ 229-30; ECF No. 84 at 25, ¶ 85.) Rather, according to Skluzak, he had twice met with Mahabub “sometime in the first four months of 2010.” (ECF No. 84-37 at 5.) During those meetings, Mahabub persuaded Skluzak to invest by trumpeting Steve Jobs's supposed enthusiasm. (Id.) Skluzak was impressed at Mahabub's “extensive and high level” interactions with Apple. (Id. at 5-6.) Skluzak says that the May 6, 2010 fake-transcript e-mail “affirmed my willingness to purchase [GenAudio shares], because I still would have had the opportunity to stop the monetary transaction to purchase those stocks. It just confirmed that the decision I had made to purchase the stocks was a good decision.” (Id. at 8.)

         As for what Mahabub actually learned about the May 6, 2010 meeting with “Jobs”/“Joz, ” the record reveals nothing. Mahabub claims he assumed that the “critical ‘green light'” must have been given because no one at Apple told him otherwise, and because “substantive work” with Tiscareno and other Apple engineers continued after that date. (ECF No. 89 at 27-29, ¶¶ 162, 164-65.)

         D. Communications About Apple from May-December 2010

         1. Altered E-Mails and other Claims During the “No Radio” Period

         Soon after May 6, 2010, GenAudio created an investor video presentation featuring Mahabub saying, among other things, “as of a couple of days ago . . . the CEO of the LCEC finally met with senior marketing and technical management and we have the green light to move forward.” (ECF No. 84-76 at 55.) Mahabub also encouraged investors to review the 2010 Offering materials. (Id. at 55-56.) On June 2, 2010, Mattos e-mailed to potential investors a link to the video. (ECF No. 84-54.)

         2. Alleged Resumption of Negotiations & False Claims About Steve Jobs

         On July 2, 2010, Mahabub and Tiscareno had an e-mail exchange to set up a July 7 meeting between them and two others on Tiscareno's “team, ” including Andrew Bright, a Ph.D. in acoustics. (ECF No. 84-78 at 2.) Mahabub then forwarded this e-mail to the GenAudio Team, announcing that “[t]he quiet period has ended” and that “Steve [Jobs] and his team are getting serious about the real core of the technology.” (ECF No. 84-77 at 3.) Thus, Jobs had requested that “his big phd [sic] in acoustic [sic] report back to him.” (Id. at 2-3.) To back up these fabrications, Mahabub altered Tiscareno's e-mail to state that the meeting with Bright was ...