Citations
- 400 F. Supp. 2d 1336
Full opinion text
ORDER
SHOOB, Senior District Judge.
On November 4, 2002, plaintiff Securities and Exchange Commission (“SEC”) filed this action against Merchant Capital, LLC (“Merchant Capital”), and its principals, Steven C. Wyer and Kurt V. Beasley. The complaint alleged that defendants had raised approximately $20 million from more than 350 investors through a fraudulent scheme involving the sale of general partnership interests in Colorado registered limited liability partnerships, which were formed to purchase and collect debt pools consisting of freshly charged off consumer debt.
Specifically, the SEC alleged that Merchant Capital’s sales materials misrepresented the fees to be charged in connection with the operation of the partnerships, the independent nature of the partnerships, and the role played by Merchant Capital as the managing general partner. The SEC further alleged that the sales of partnership interests were unlawful because the interests were securities but no registration statement had been filed and no exemption was available.
The complaint asserted violations of Sections 5(a), 5(c), and 17(a) of the Securities Act of 1933 (“Securities Act”), 15 U.S.C. §§ 77e(a), 77e(c) and 77q(a); Section 10(b) of the Securities Exchange Act of 1934 (“Exchange Act”), 15 U.S.C. § 78j(b), and Rule 10b-5 promulgated thereunder, 17 C.F.R. § 240.10b-5; and Section 15(a) of the Exchange Act, 15 U.S.C. § 78o(a). The SEC sought a temporary restraining order and preliminary and permanent injunctions prohibiting defendants from further violations of these securities laws and freezing defendants’ assets to prevent the misappropriation or dissipation of investor funds. The SEC also sought an order requiring defendants to disgorge all ill-gotten gains or unjust enrichment and imposing civil penalties on defendants.
On November 7, 2002, a consent temporary restraining order was entered under which defendants, although denying any violations of the securities laws, agreed to stop selling interests in registered limited liability partnerships and to limit expenditures and transfers of their assets pending a hearing on the SEC’s motion for a preliminary injunction.
On January 13-15, 2003, the Court conducted an evidentiary hearing on the request for a preliminary injunction. By Order entered May 5, 2003, as amended by Order entered June 27, 2003, the Court denied the SEC’s request for a preliminary injunction. After numerous extensions of time to complete discovery and to pursue settlement efforts, the case came on for trial before the Court sitting without a jury on January 18 and 20-21, 2005. Now, having considered the evidence presented both at trial and at the preliminary injunction hearing, together with the submissions of counsel, the Court directs entry of final judgment in favor of defendants on the basis of the following findings of fact and conclusions of law.
FINDINGS OF FACT
I. Merchant Capital
Formed in July 2001, Merchant Capital is a Tennessee limited liability company with its principal office in Brentwood, Tennessee. (PIT. 35:22-23; Pl.Ex. 2, p. 19.) Beginning in October 2001, Merchant Capital served as the organizing general partner and the elected managing general partner of twenty-eight Colorado registered limited liability partnerships (“RLLPs”). (PIT.35:13-17; PIT.43:14-18; Def.Ex.4.) Each of the partnerships is named “Evergreen High Yield RLLP,” followed by a numerical designation. (PIT.45:16-18.) The Evergreen High Yield RLLPs were formed for the purpose of purchasing, collecting, and reselling consumer debt charged off by financial institutions. (Pl.Ex.2, pp. 2, 19; PIT.91:4-12.)
II. Steven C. Wyer and Kurt V. Beasley
Steven C. Wyer is the Chief Manager of Merchant Capital. (PIT.33:22-23.) Kurt V. Beasley is the Secretary. (PIT.34:2.) Wyer owns 75% of Merchant Capital through an LLC, while Beasley owns the remaining 25% through another LLC. (PIT.34:14-23; PIT.164:4-15.)
Wyer has experience in the sales and marketing of financial services products and was a principal in the Chicago, Illinois, securities firm of Elwin, Wilbert and Hague. (PIT.50:22-51:1; Pl.Ex.3b.) Prior to forming Merchant Capital, Wyer was the President and CEO of Wyer Creative Communications, Inc., an integrated direct marketing company focused on the financial services industry. (PIT.51:8-12; PI. Ex.3b). In 2000, Wyer filed for personal bankruptcy as a result of unpaid debts of Wyer Creative Communications that he had guaranteed. (PIT.51:18~52:7.)
Kurt Beasley has a law degree from Nashville School of Law and is a certified public accountant. Mr. Beasley is the founder of Beasley, Tyson & Altshuler, a law firm located in Brentwood, Tennessee. His law practice concentrates in areas of banking, asset protection, and general corporate representation. (Pl.Ex.3b.)
From the date of formation of Merchant Capital in 2001 through the date of trial, Wyer received total payments from the Merchant Capital business in the approximate amount of $900,000, and Beasley received total payments in the approximate amount of $268,000. (TT.256:22-257:3.)
III.The Origin of Merchant Capital
Wyer and Beasley initially learned about the business of buying charged off consumer credit card debt through Wyer’s personal research, which began in early 2001. (PIT.35:6-9.) Prior to that time, neither Wyer nor Beasley had any debt collection experience. (PIT.545:17-24.) Wyer began his research on the Internet. He also read articles and interviewed people who were active in the industry. (PIT.546:8-16.)
In the spring of 2001, Wyer met Fred Howard, the principal owner of former relief defendant New Vision Financial, LLC (“New Vision”). (PIT.36:10-23.) Beasley later met Howard in the summer of 2001. (PIT.169:7-10.) Howard introduced Wyer to New Vision’s business and to the industry generally. He told Wyer about the mechanism of the Colorado RLLP, how New Vision’s business worked, and how New Vision’s RLLPs were funded. (T.37:2-6.) At the time Wyer initially spoke with Howard, New Vision had already organized and managed more than fifty RLLPs. (PIT.37:21-23.) As of the date of the hearing in this action, New Vision had formed more than ninety RLLPs. (PIT.340:24-25).
Shortly after meeting Wyer, Howard supplied him with audited financial statements of New Vision’s RLLPs that reflected their historical financial performance. (PIT.128:l-8; T.227:15-20.) Howard also supplied Wyer with a spreadsheet that showed New Vision’s “break even” business model. (PIT.108:5-12; PIT. 324:13-23; PIT.567:16-24.) The model reflected the monthly target performance goals necessary for an RLLP to return 100% of the partners’ capital contributions at the conclusion of the thirty-six month anticipated life of the RLLP, along with the projected partnership distributions. (PIT.474:6-18.) Howard told Wyer that the New Vision RLLPs that repurchased debt with proceeds from the sale of existing debt (the same model ultimately chosen by Merchant Capital) were performing consistent with the model. (PIT.567:25-568:3; PIT.228:8-11.)
After Beasley first discussed this new business opportunity with Wyer, he did extensive personal research regarding RLLPs. (PIT.169:18-22.) Beasley learned that both New Vision and another business in the industry, Collect America, used the RLLP structure. (PIT.492:5-12.) Beasley visited the offices of New Vision and met with Fred Howard and New Vision’s legal counsel. He requested and received copies of various legal opinions from New Vision’s counsel and spoke at length with New Vision’s counsel regarding the structure of the RLLP, as well as the actual historical performance of the New Vision RLLPs. (PIT.492:23-493:6.)
Beasley spent the next several months learning as much as he could regarding RLLPs. He retained the Nashville firm of Baker, Donelson, Bearman & Caldwell and requested that firm’s independent evaluation of the RLLP entity and the proposed structure of Merchant Capital’s business. He specifically requested an analysis and evaluation from the firm regarding whether a Merchant Capital RLLP partnership interest should be considered a security. (PIT.493:9-22; Pl.Ex.17.) Merchant Capital received a formal legal opinion letter from Baker, Donelson stating that the Evergreen High-Yield RLLP partnership interest “should not be viewed as a security.” (PIT.497:11-15; Pl.Ex.17.)
Merchant Capital also reviewed and relied upon several other legal opinions that were provided to Merchant Capital by New Vision’s counsel. One of those opinion letters had previously been issued at the request of Collect America and similarly opined that RLLPs were not subject to the federal securities laws. (PIT.494:3-16; Def.Ex. 7.) A third opinion letter reviewed by Merchant Capital dated May 25, 2001, from a Florida law firm further confirmed the opinion that an RLLP was not subject to the federal securities laws. (PIT. 494:25-495:21; Def.Ex.8.)
New Vision’s counsel also provided Merchant Capital with an opinion letter from the Houston office of the law firm of Chamberlain, Hrdlicka, White, Williams & Martin. (Def.Ex.9). That opinion letter, dated May 31, 2001, opined that RLLP partnership interests “are not securities under the Texas Securities Act.” (PIT495:22-496:16; Def.Ex.9.)
Finally, New Vision provided Merchant Capital with a “no-action” letter from the State of Texas, in which the staff of the Texas State Securities Board took a “no-action” position on the issuance of partnership interests in a general partnership entity formed to buy and collect receivables of small businesses, thereby concluding that the partnership interests were not securities. (PIT.496:12-22; Def.Ex.6.)
Beasley reviewed, evaluated, and relied upon these legal opinion letters when deciding to use the RLLP structure in connection with Merchant Capital’s business. (PIT.491.-9-12; PIT.496.-23-25.)
IV. The Market for Charged-Off Credit Card Debt
When an unsecured consumer account has been in default for a determined period of time (approximately 180 days), the internal policy of many national credit grantors requires that the account be charged off of the issuer’s financial statements. (Pl.Ex.2, p. 2.) Once the account is charged off, the issuer can continue to attempt collection efforts, but because the collection process has evolved into a unique time and labor intensive process, many credit grantors choose to sell all or portions of this charged-off debt. (Id.)
This charged off debt is known in the industry as “fresh debt.” Fresh debt is debt that is purchased directly from the credit card issuer after it is charged off by the issuer, usually after 180 days of unsuccessful collection history. (PIT.549:6-9.) “Secondary debt” is debt that has been worked by one collection agency and is then offered for sale a second time. (PIT. 549:10-14.) “Tertiary debt” is debt that has been worked by two collection agencies and is offered for sale for the third time. (PIT.549:15, 16.) “Quad debt” is debt that has been worked by three collection agencies and is then offered for sale for a fourth time. (PIT.549:17-19.) The cost per dollar of the debt generally becomes lower as the debt moves from fresh to secondary to tertiary to “quad.” (PIT. 549:20-23.)
Typically, credit card issuers pool fresh delinquent credit card debt and either sell it at auction or sell it to companies that purchase it pursuant to “forward flow contracts” (contracts that obligate the credit card issuer to sell periodically, and the company to purchase periodically, a certain minimum amount of debt at agreed-upon pricing) or pursuant to single sale contracts. (PIT.67:7-17.) “Fresh debt” files can be purchased from credit card issuers with face values that range from less than $25,000 per file (or “pool”) to as large as $35,000,000 per file. (PIT.339:16~ 340:16; PIT.398:7-8; PIT.399:l-7; PIT. 561:5-7.)
Purchasers of debt are also able to purchase debt known as “in-house returns.” (PIT.400:22-401:4.) These files, which consist of accounts in which the debtors have breached payment plan agreements directly with the issuer, can be purchased from debt issuers in small face amounts. (PIT. 400:10-21.) Secondary, tertiary and “quad” debt can be purchased at virtually any face amount. (PIT.403:8-12.)
Banks also have what are called “one-off sales,” in which they sell “fresh” debt files that remain after they have sold larger debt pools to their forward-flow contract purchasers. (PIT.410:4-13.) In these “one-off sales,” the debt files sold directly by the bank may be offered for sale for as little as $25,000. (PIT.410:4~13; PIT. 561:5-7.)
Y. Returns Anticipated to be Generated by the Merchant Capital RLLPs
Each RLLP is limited to no more than twenty partners. (Pl.Ex.2, p. 2.) There are approximately 485 partners in the twenty-eight RLLPs. (PIT.43:19-20.) The minimum capital contribution permitted from a partner in an RLLP was $25,000. The maximum capital contribution permitted was $3,000,000. (Pl.Ex.2, p. 4.) Approximately $26,000,000 of capital contributions were made by the partners during the period from the formation of the first RLLP in October 2001 through the funding of the last RLLP in November 2002. (PIT.35:22-24; PIT.43:13-22.)
Each Merchant Capital RLLP contemplates a thirty-six month life of the business, with the partners having the option of a projected 3.6 percent quarterly return or, alternatively, a projected deferred annual return of 16.5 percent, which is paid upon the termination of the partnership at month 37. (PIT.566:2-7.) The RLLP contemplates the return of all of the partners’ capital contributions at the conclusion of the thirty-six month period, in addition to the quarterly or deferred annual return. (PIT.556:8-11.)
These high returns, 14.4 percent in the case of quarterly returns or 16.5 percent in the case of a deferred annual return, reflect the level of risk that is inherent in the business. (PIT.566:12-18.) Merchant Capital never guaranteed these rates of return, or any rates of return, to any of the prospective partners. (PIT. 566: 21-23.) In fact, Merchant Capital specifically advised the prospective partners that these rates of return might not be achieved. (PIT.566:24-567:5.)
In the partnership application, Merchant Capital expressly advised prospective partners of the risks associated with the business and the fact that the businesses might not perform as anticipated:
Applicants are advised that there are SIGNIFICANT RISKS involved in the buying and subsequent collection of charged-off debt. As a result, becoming a General Partner is only appropriate for those persons capable of withstanding the risk of losing their entire capital contribution. While the Organizing General Partner is confident that it has done its very best to mitigate these risks and to develop adequate contingency plans, it can offer no guarantees.
1. The actual rate of recovery for the collection of the purchased debt may be higher or lower than projected. In fact, there are no assurances that any amount, for a specific pool(s) of debt purchased, can actually be recovered. Further, the actual amount of time necessary to recover an acceptable return may be so long as to materially reduce any rate of return.
3. An economic downturn of any serious proportion or a national crisis could adversely affect the ability to collect on a timely basis.
(Pl.Ex.2, p. 10.)(Emphasis in original.)
VI. Structure of the RLLPs
A. Merchant Capital’s Role as Organizing General Partner
Prior to the election of a managing general partner by each RLLP, Merchant Capital served as the organizing general partner for each RLLP. This fact was disclosed to the prospective partners in the partnership application. (PIT.574:8-12.)
As the organizing general partner, Merchant Capital performed all of the clerical and administrative duties associated with preparing and distributing the partnership application documents. (PIT.576:5-9.) Merchant Capital also provided its network of financial professionals throughout the country the information and materials necessary to present the RLLP business opportunity to their respective clients. (PIT.576.T0-14.) Merchant Capital was also responsible for locating and training these recruiters, most of whom were CPAs, attorneys, insurance professionals, and annuities professionals. (PIT.576:18-25.)
Merchant Capital entered into written agreements with each of its recruiters. (PIT.577:2-3.) Merchant Capital required each of its recruiters to agree that under no circumstances would they make the following representations to any prospective partner:
a. That an RLLP is “guaranteed.”
b. That an RLLP is “safe” and/or “without risk.”
c. That an RLLP has been “approved” by any state or federal regulatory organization.
d. That your efforts are for the “sale of’ or “solicitation of offers to buy.”
e. That the RLLP is an “investment contract.”
f. That the RLLP represents an indebtedness, profit-sharing arrangement or certificate, or another form of investment security.
g. That the RLLP represents the “selling” of “partnership interests” to “investors” or “soliciting” “subscribers” to make passive “investments” by “subscribing for” and “buying” “units of Partnership interests” for “proceeds of sale.”
h. That the RLLP will pay “dividends” or that “interest” can be paid on the “principal” of “investment funds.”
i. That the RLLP is an “investment security.”
(PIT.578:7-579:9; Gristy Dep., Def.Ex.1.)
Merchant Capital was further responsible for establishing the escrow relationship with U.S. Bank and for establishing the specific escrow accounts for each RLLP and performing the associated clerical and administrative duties. (PIT.576:14-17.)
As the organizing general partner, Merchant Capital received a fee of fifteen percent (15%) of the total capital contributions. (PIT.56:3-7; Pl.Ex.2, p. 3.) From that fifteen percent (15%) fee, Merchant Capital then paid commissions to the “recruiters” who introduced the partners to Merchant Capital. These commissions ranged from seven percent (7%) to eleven percent (11%) of the total capital contributions made by each partner. (PIT.56:8-19.) The remainder was used to fund Merchant Capital’s ongoing business.
B. Hole of the Partners
Section 7.2 of the RLLP partnership agreement defines the role of the partners:
Management. The participation in this RLLP is not a passive involvement. The General Partners themselves will manage the RLLP. Each and every General Partner is required to actively participate in important business decisions affecting the RLLP by exercising its voting privileges. Each General Partner may be required to participate in one or more committees, which shall oversee and conduct important business.
These committees may include the following: Accounting and Audit; Legal Oversight; Planning, Budget, and Finance; and Debt Pool Acquisition.
By establishing the above committees, each General Partner will have the opportunity to be involved in the day-today management of the business of the RLLP and have meaningful input by utilizing both personal and business expertise and experience in the performance of partnership duties, even if located some distance from the RLLP’s place of business. Thus, each General Partner will have active control of the RLLP’s affairs. The RLLP will hold formal and informal committee and RLLP meetings at various geographic locations, including the offices of the RLLP’s place of business. All meetings will be open to attendance by all General Partners either in person, by conference telephone, by video teleconference, or otherwise.
(Pl.Ex.2, p. 29.)(Emphasis in original.)
Each of the partners makes a specific representation that he or she understands the need to actively participate in the business affairs of the RLLP and agrees to do so:
Each General Partner represents that it understands that the success of the RLLP’s business will depend upon the active participation and involvement in RLLP matters by all General Partners. Each General Partner undertakes and agrees to devote such time and energy as is reasonably necessary to assist in the management of the RLLP’s business and use its best efforts to participate in RLLP meetings and actions by written consent.
(Pl.Ex.2, p. 29.)(Emphasis in original.)
Although the partnerships have contracted with Merchant Capital to have some of the management functions performed by Merchant Capital and by persons with whom Merchant Capital contracts, the partnership agreement is clear that Merchant Capital does not have the authority to manage the partnership. The partnership agreement makes it clear that only the partners have authority to manage the business, and with respect to the primary partnership decision, the purchase and sale of debt, Merchant Capital is expressly prohibited from acting without the approval of two-thirds of the partners in each partnership.
The partnership agreement expressly reserves to the partners the following powers: (i) the ability to call meetings for any purpose and to hold regular quarterly meetings (Pl.Ex.2, Section 7.9); (ii) the ability to control the managing general partner by requiring a two-thirds vote of the units in the partnership to permit the managing general partner to enter into any obligation in excess of $5,000 or incur any expenses in excess of $5,000 per month (Pl.Ex.2, Section 7.6) (PIT.83:21-84:1); (iii) the ability to participate in one or more committees (Pl.Ex.2, Section 7.2); (iv) the ability to elect a managing general partner and to remove the managing general partner by a two-thirds vote of the units if the managing general partner materially fails to carry out its duties (PI. Ex.2, Section 7.8); (v) the ability to inspect all of the books and records of the general partnership (Pl.Ex.2, Section 12.6); (vi) the ability to approve additional funding after the initial closing of the partnership by a two-thirds vote of the units of the partnership (Pl.Ex.2, Section 4.3); and (vii) the ability to amend the partnership agreement by either a two-thirds or unanimous vote depending on the type of amendment (Pl.Ex.2, Sections 7.1, 13.1 and 13.3). The partners also have the ability to dissolve the partnership prior to the original stated term. (Pl.Ex.2, Section 9.1.)
Merchant Capital advised all of its prospective partners that the RLLPs are not securities and are not registered with the SEC. (PIT.498:10-13; Pl.Ex.2, front cover.) This disclosure was made based upon Merchant Capital’s own research and upon the legal opinion letters that Merchant Capital had reviewed. (PIT.499:12-16.)
Most of the partners were introduced to Merchant Capital through existing relationships that the partners had with financial professionals who also served as “recruiters” for Merchant Capital. (T.54:21-55:1.) RLLP partners were not required to have any prior debt collection experience. (PIT.47:19-21.) Nor were they required to be “accredited investors.” (PIT.47:15-18.)
Prospective Merchant Capital RLLP partners applied for the partnership by filling out an application form that was contained in the partnership application packet. (PIT.44:5-21; Pl.Ex.2.) The application packet that a prospective partner received contained general information regarding the RLLPs, information regarding the consumer debt collection industry in the United States, a description of the relationship of the entities involved, a form of a Colorado registration form, a form of certificate of general partnership, a ballot for the election of managing general partner, the partnership agreement, the partnership agreement signature page, a Colorado RLLP registration statement, a questionnaire seeking individual applicant information, a wire transfer deposit authorization, and other information. (PI. Ex.2, pp. 1-50.)
Along with his or her completed application, a prospective partner submitted a ballot indicating its choice for managing general partner. Merchant Capital informed the partners that it was qualified to serve in that capacity but did not require the partners to vote for it. (PIT.58:8-16; Pl.Ex.2, p. 14.) The evidence is in dispute as to whether any partner ever voted for anyone other than Merchant Capital. (PIT.58:25-59:1; PIT. 305:22-25.) Regardless, Merchant Capital was elected by a two-thirds majority of each of the twenty-eight RLLPs to serve in that capacity. (PIT.58:23-59:6.)
At the time each RLLP was closed, Merchant Capital provided the partners with a list of the names, city of residence, and degree of equity participation of each of the other partners. The evidence is in dispute at to whether partners were also provided the addresses and telephone numbers of each of the other partners, but this information was available upon request. (PIT.593:15-20; Richter Dep., p. 23, Ex. 200; Johnston Dep., p. 14, Ex. 151.)
The actual degree of each partner’s involvement in the business of the RLLPs varies greatly, depending on the extent to which the partner chooses to exercise the managerial powers reserved to the partners in the partnership agreement. Some of the partners are extremely active, while others have minimal participation. (PIT.77:3-7.)
Each RLLP has quarterly meetings in which the partners are invited to participate. The first quarterly meeting of each RLLP was scheduled approximately three months after the closing of the partnership. (PIT.81:16-23.) During the course of the quarterly meeting, the partners are provided additional information regarding their monthly statements and any questions that the partners have are answered. (PIT.81:25-82:1.)
The partners have all of the information necessary to perform the same analysis that Merchant Capital performs in evaluating the potential purchase or sale of debt. (PIT.586:10-12.) The monthly statements that the partners receive, coupled with the ballots that are sent to the partners, provide the partners with the name of every pool of debt in which they own an interest, the date that the interest was purchased, the length of time that the RLLP has held the interest, and both the historical gross and net collections from the debt. (PIT. 586:10-24.) In addition, all the partners have complete access to the RLLP’s books and records in accordance with the express terms of the RLLP’s partnership agreement. (PIT.586:25-587:2; Pl.Ex.2, p. 9.)
The partners frequently request information from Merchant Capital related to the business of the RLLP. (PIT.587:21-588:1.) Merchant Capital generally complies with such requests. (PIT.588:2-5.) Only two partners have ever complained to Merchant Capital about an alleged failure to provide requested information. (PIT. 600:1-6; Reiter Dep. 30-32, 35-37, 44-50, Ex. 18, 22; TT.387:14-20.)
The partners are capable of affording and understanding the risk associated with the business of the RLLPs. Steven Wyer testified that Merchant Capital instructed its recruiters to look for potential partners who had a minimum net worth of $250,000 with good general business knowledge and experience, and who were willing to actively participate in the management of the business of the RLLP. (PIT.579:14-19.)
Each partner has a net worth of at least $250,000 and more than 75% of the partners reported net worth in excess of $500,000. (PIT. 579:20,21; 596:2-25.) A significant number of the partners have a net worth in excess of $1,000,000. (PIT. 596:11-23.) Ninety percent (90%) of the partners reported that their business experience ranged from “average” to “excellent.” (PIT.597:l-4.)
The Court finds that the partners have the ability to actively participate in the management of the business of the RLLPs. The RLLP partnership agreement does not leave so little power in the hands of the partners that the arrangement distributes power as would a limited partnership. The partners are not so inexperienced and unknowledgeable in business affairs that they are incapable of intelligently exercising their partnership powers.
C. Merchant Capital’s Role as Managing General Partner
Each RLLP was free to elect any person or entity that it chose to serve as its managing general partner. (PIT.574:16-17.) Each RLLP initially chose to elect Merchant Capital as its managing general partner. (T.574:13-15.) In August 2004, RLLP 19 chose to replace Merchant Capital as its managing general partner and was successful in doing so. (TT.420:1-11.) Merchant Capital has no equity interest in any of the RLLPs and has no voting power. (PIT.575:22-576:4.)
In its role as managing general partner, Merchant Capital acts as the business manager responsible for facilitating the conduct of the day-to-day business affairs of the RLLPs and is otherwise responsible for managing the organization and administrative duties of the RLLPs.
Section 7.3 of the partnership agreement provides the following disclosures regarding the role of the managing general partner:
The General Partners recognize that it is in the interest of the RLLP and the General Partners to facilitate the conduct of day-to-day business affairs of the RLLP by designating and appointing a Managing General Partner as the business manager. The Managing General Partner shall be elected by General Partners as they are accepted into the Partnership. The Managing General Partner shall be responsible for managing the organization and administrative duties of the RLLP. The Managing General Partner shall be obligated to devote its best efforts on a non-exclusive basis to the RLLP affairs.
(PIT.582:12-25; Pl.Ex.2, p. 29.)
As the business manager for an RLLP, Merchant Capital is responsible for a wide range of duties, which include locating, evaluating, and negotiating with potential third-party vendors, administering the relationship with the third-party escrow agent, reconciling financial accounts and records, making recommendations regarding the purchase and sale of debt to the partners, facilitating the ballot process for the proposed purchase and sale of debt, reporting to the partners, as well as monitoring the collection activity of the debt assets owned by the RLLP. (PIT.583:8-584:11.)
Merchant Capital is also responsible for evaluating the recommendations it receives from third-party vendors regarding potential purchases and sales of debt. (PIT. 584:12-15.) When a third-party vender provides Merchant Capital with information regarding potential debt purchases, Merchant Capital provides all the information to the partners. (PIT.560:3-9.) Merchant Capital does not withhold any information from the partners. (PIT.585:17-586:3.)
Merchant Capital could easily be replaced as managing general partner as there are many other people and entities in the industry who have the requisite ability. (PIT.395:16-23.) Indeed, Merchant Capital has been approached by others who have expressed an interest in serving as a managing general partner for an RLLP. (PIT.574:18-575:20.) In addition, the members of the Debt Buyers’ Association, a trade association, include hundreds of industry participants, many of whom would be capable of serving as the managing general partner of an RLLP. (PIT. 547:7-548:19.)
Extensive experience in the delinquent credit card debt business is not necessary for one to become a managing general partner of an RLLP. Neither Wyer nor Beasley had any previous debt collection experience prior to forming Merchant Capital (PIT.36:3-5), and Wyer became knowledgeable enough to function as a managing general partner in as few as thirty days. (PIT.546:17-23.) The partnerships could operate profitably without Merchant Capital or any other managing general partner if the partners would take the necessary time and effort to educate themselves and fulfill the role and function of the managing general partner. (PIT. 548:20-23.) Indeed, even one of plaintiffs expert witnesses, Louise Epstein, testified that it is possible for someone with limited capital and absolutely no experience in the debt-buying business to operate a business profitably. (TT.232:21-233:7.)
Defendant Wyer testified that in August 2004, RLLP 19 terminated Merchant Capital as its managing general partner and requested that all of its assets, including its capital and its specific individual debt files, be returned to it. (TT.420:1-11.) Merchant was in fact capable of complying with the partnership’s request in that regard. (TT.420:12-13.)
Merchant was capable of physically returning all of the partnership’s assets by using the “N-select” process to identify and deliver the specific individual debt files. Merchant also returned the original partnership book, all of the partnership subscription documents, all of the information relating to tax filings and all other ancillary correspondence between any of the partners and Merchant Capital during Merchant’s term as the partnership’s managing general partner. (TT.420.T4-22.)
In response to the RLLP’s request for recommendations of other potential managing general partners, Merchant Capital provided the partnership with a list of six potential companies. (TT.421:1-13.) The partnership thanked Merchant Capital for its assistance and cooperation in facilitating the partnership’s decision to replace Merchant with another managing general partner of its own selection. (TT.421:14-19.) The SEC offered no evidence to contradict or otherwise dispute Mr. Wyer’s testimony in this regard.
The Court finds that Merchant Capital has properly performed its duties and responsibilities as managing general partner of the RLLPs. The Court further finds that the partners are not so dependent upon some unique entrepreneurial or managerial ability of Merchant Capital that they could not replace the managing general partner or otherwise exercise meaningful partnership powers without the managing general partner.
D. Role of Third Party Vendors
Merchant Capital makes it clear in the RLLP partnership application that it will rely heavily on outside vendors: “If elected [managing general partner], Merchant Capital, LLC, shall contract, retain, and oversee relationships with one or more outside vendors who will assist the Partnership in analyzing, purchasing, selling, and managing the debt assets of the RLLP.” (Pl.Ex.2, p. 5; PIT. 384:7-22.)
VII. The RLLPs’ Business Operations
When charged-off debt becomes available for purchase in the marketplace, third-party vendors with whom Merchant Capital has contracted notify Merchant Capital of the basic terms regarding the potential debt purchase. (PIT. 396:14-397:7; Def.Ex.2.) Merchant Capital, as the elected managing general partner of the RLLPs (other than RLLP 19 since August 2004), then notifies the RLLPs that have funds available to purchase debt of the opportunity and transmits the information from the third-party vendor directly to each of the partners by way of a ballot. (PIT.585:17-586:3.)
The partners are generally given ten (10) days to return their ballots by mail or facsimile to approve or reject a proposed debt purchase. (Def.Ex.10.) Pursuant to the partnership agreement, a partner who fails to vote within that time frame is deemed to have given his or her power of attorney to the managing general partner with respect to the debt purchase at issue. (Def.Ex.10; Pl.Ex.2, p. 28.)
The SEC alleges that the Merchant Capital balloting process is, in effect, a sham. In support of this contention, the SEC offered the testimony of Sheridan Towers, an accountant employed by Lawrence J. Warfield, the Receiver for One Vision Children’s Foundation. Mr. Towers testified that he had reviewed financial records and ballots related to the five RLLPs in which One Vision had partnership interests. Mr. Towers testified that based upon his review of approximately 260 ballots, there were thirty ballots in which Merchant purchased more debt than was authorized on the ballot. (TT.109:9-12.) Mr. Towers confirmed on cross-examination, however, that while the total purchase price may have exceeded the amount authorized in the ballot on those occasions, the specific price actually paid for the portfolios at issue never exceeded the price which was authorized by the ballots. (For example, if the ballot authorized the purchase of a specific portfolio at six cents on the dollar, the actual purchase price never exceeded the authorized ballot price.) (TT.149:6-17.) Accordingly, while the gross amount of the purchase may have been increased on occasion, the price per dollar that was authorized by the ballot was always followed. (TT.149:15-17.)
Mr. Towers also testified that there were six instances in which debt purchases were made prior to the ballots being sent out seeking authorization for those purchases, and seventy-three examples of debt purchases having been made prior to the expiration of the ballot response deadline. (TT. 118:9-17; 122:12-20.) On cross-examination, Mr. Towers admitted that the Merchant Capital partnership agreement does not mandate a ten-day response period to a ballot solicitation. (TT.145:13-16.) Mr. Towers further admitted that he found no instance in which the general partners ultimately disapproved of any debt purchase that may have been made prematurely. (TT.145:17-5.) Mr. Towers also conceded that he had made no effort to determine what processes or options were available to Merchant Capital to recall a purchase in the event that the ballots subsequently disapproved of a specific purchase. (TT.146:6-10.)
Significantly, Mr. Towers also confirmed that many of the bank transfers he was relying upon to opine that debt purchases were made early were made into a “zero account.” (TT.146:20-147:6.) Mr. Towers was unable to make a determination that when funds were transferred from the RLLP account to another escrow account, those funds were immediately used to purchase debt, as opposed to remaining in that escrow account for some additional period of time. (TT.147:7-22.)
Mr. Towers further testified that the monthly partnership statements that were sent to all of the Merchant Capital general partners accurately reflected ■ the actual debt portfolio purchases that had been made in the previous month on the partnerships’ behalf. (TT.147:23-148:20.) None of the debt purchases were hidden or disguised from the general partners. (TT.147:15-20.) Mr. Towers also testified that he had not reviewed any records subsequent to September 2003, and that he was therefore unaware of any practices or procedures that may have been improved since that date. (TT.15L2-6.) He did acknowledge that he was aware that Merchant Capital had instituted a procedure by which general partners could vote over the telephone. (TT.15L7-11.)
The Court finds that Mr. Towers’ testimony failed to show that the Merchant Capital balloting procedure is a sham.
As of the date of the preliminary injunction hearing, each of the purchases made by a Merchant Capital RLLP had been the purchase of an individual interest in a larger debt pool. The RLLPs have the ability, however, to purchase 100% interests in smaller debt pools, using only the capital of their own RLLP. (PIT.394:24-395:3; PIT.395:4-9; PIT.498:7-9; PIT.560:14-21; PIT.561:14-17.)
Upon the RLLP’s purchase of the debt, the managing general partner, through its contractual relationship with third-party vendors, places the debt for collection with third-party collection agencies. (PIT.35:18-21; Pl.Ex.2, p. 2.) The RLLPs generally try to collect on the debt for approximately 12-18 months.
When the third-party debt collection agency collects debt, the collection agency generally deducts its fee, which is disclosed in the partnership agreement, from the gross collections, and then deposits the net balance of the collections into an escrow account maintained by the agency. (PIT.177.T3-15; PIT.93.-4-14.) The funds are then transferred to the third-party vendor who contracts with the collection agency. The third-party vendor, in turn, remits the funds owned by the Merchant Capital RLLPs to Merchant Capital. (PIT.93:4-14.)
Once Merchant Capital receives the funds, it provides U.S. Bank with directions for distributing the funds into each of the respective RLLPs’ escrow accounts in an amount that accurately reflects each RLLP’s ownership interest in the debt at issue. (PIT.94:14-17.) Then Merchant Capital directs U.S. Bank to distribute the fees that are disclosed in the partnership agreement to Merchant Capital and to the third-party vendor. (PIT.96:10-12.) The remaining funds are then used by the RLLPs to either fund the quarterly distributions or for reinvestment in additional debt purchases. (PIT.94:18-21.)
The RLLPs’ business model assumes that, at the conclusion of twelve to eighteen months, the RLLP, again by a vote of two-thirds of its partners, will sell the debt in the secondary market. (PIT.90:17-91:3.) The cash collections and the proceeds from the sale of the debt into the secondary market are then used to purchase additional debt if such purchases are approved by a two-thirds vote of the RLLP’s partners. (PIT.93:4-14.)
Each RLLP has a projected three-year term, after which its assets (credit card debt) are liquidated and the cash is then distributed to the partners, unless its term is extended by a two-thirds vote of its partners. (Pl.Ex.2, p. 33.)
VIII. Role of New Vision
New Vision Financial was initially one of Merchant Capital’s outside vendors (PIT. 384:23-385:3), but not the only one. (PIT. 550:22-24; PIT.564:19-20; PIT.564:18-21; PIT.564:22-565:2.) New Vision purchased pools of fresh credit card debt from issuers. It then offered percentage interests in those pools for sale to various purchasers, including any of the Merchant RLLPs whose general partners authorized such purchases. New Vision contracted with a third-party collection agency that collected the debt and remitted the proceeds to New Vision. New Vision then remitted the proceeds to the owners of the debt according to their ownership interest in the debt.
During calendar year 2002, Merchant Capital RLLPs accounted for approximately 20-25% of New Vision’s business. (PIT.410:16-21.) There was a small period of time during which Merchant Capital was among the two largest purchasers of debt from New Vision. (PIT.388:17-23.) New Vision sold debt to a number of companies other than Merchant Capital. (PIT.389:l-5.)
New Vision drew upon its experience in the industry as it undertook to analyze debt purchase opportunities for the Merchant Capital RLLPs. It evaluated overall liquidation rates over a given period of time, as well as the historical selling price for a given type of debt. (PIT.385:4-14.)
When a debt issuer decided to offer a debt file for sale, it provided New Vision with a spreadsheet that contained a variety of entries, such as the individual debtors’ names, addresses, phone numbers, Social Security numbers, payment history, credit extension dates and locations of the accounts. (PIT.385:15-386:1). New Vision did not share this information with Merchant Capital. (PIT.396:10-13). The only information that New Vision shared with Merchant Capital regarding a potential debt purchase was the name of the issuer, the month, the number of accounts, the price and the principal balance of the file, along with an indication of what kind of debt the file represented. (PIT.396:14-397:7; Def.Ex.2.)
Once New Vision had conducted its initial analysis of whether a debt pool offered by a bank presented a potentially attractive purchase opportunity, New Vision generally shared that opinion with Merchant Capital. (PIT.386:17-21). Merchant Capital was not bound, however, to accept New Vision’s recommendations (PIT.386:22-24), and there were occasions when Merchant Capital rejected New Vision’s recommendations. (PIT.387:6-10.)
Merchant Capital was under no obligation to purchase any debt from New Vision. (PIT.387:18-20.) New Vision acknowledged that Merchant Capital was free to purchase debt from companies other than New Vision. (PIT.389:8-10.)
New Vision was also one of the third-party vendors that assisted Merchant Capital in connection with the management of the RLLPs’ debt assets. (PIT.389:19-25.) New Vision monitored the monthly collection activities regarding the debt assets that it had purchased on behalf of the Merchant Capital RLLPs. (PIT.390:l-5.) The actual collection results were shared with Merchant Capital through monthly statements, which reflected collections on a file-by-file basis. (PIT.390:19-25.)
New Vision was also one of the third-party vendors that assisted Merchant Capital by advising Merchant Capital regarding the time to sell debt assets and the pricing of those assets at the time of sale. (PIT.392:4-7.) New Vision did this by monitoring the collection activity of particular assets and placing assets on the market for competitive bidding. (PIT.392:8-25). According to Fred Howard, there are many potential buyers of debt on the secondary market. (PIT.392:22-25.)
New Vision had to remain competitive in the marketplace with respect to the services it provided and the fees it charged in order to retain Merchant Capital’s business. (PIT. 389:15-18; PIT.326:14-19.)
New Vision didn’t manage the RLLPs. New Vision was a service provider pursuant to a written service contract with Merchant Capital. New Vision had no authority to take any action whatsoever on behalf of the RLLPs and, in fact, had no contractual relationship with the RLLPs. Only the partners of each RLLP can authorize the purchase or sale of debt. Although New Vision managed the collection process with respect to the majority of the debt pools in which the RLLPs had an ownership interest, the RLLPs maintained the power to take over the collection process at any time if they so chose. The RLLPs also had the ability to liquidate their interests in any debt pools in which they participated.
Throughout the spring of 2003, Merchant Capital purchased most of its debt through New Vision because New Vision had generally obtained good results for Merchant Capital, and because it takes time to establish a good working relationship with a third-party vendor. (PIT. 552:2-8.) There was no financial benefit to Merchant Capital in recommending debt offered by New Vision as opposed to debt being offered by some other company. (PIT.552:18-21.)
The Merchant Capital RLLPs have also purchased debt from BAF Holdings. (PIT.550:23-551:4.) Merchant Capital began looking for other third-party vendors from whom to purchase debt in March 2001. (PIT.564:2-6.) Wyer first approached BAF Holdings in August and September 2002, before this action was filed. (PIT.564:18-21.) Merchant Capital began purchasing debt from BAF Holdings in December 2002. (PIT.563:19-20.)
BAF Holdings did not purchase its debt from credit card issuers pursuant to forward-flow contracts. (PIT.553:7-9.) It purchased debt pursuant to one or more single sale contracts. (PIT.553:10-16.) The debt that was purchased through BAF Holdings was identical in characteristics and price to the debt purchased through New Vision and its forward-flow contracts. (PIT.553:17-554:3.)
Merchant Capital also had discussions with Collins Financial regarding the prospect of a third-party vendor relationship. (PIT.564:22-565:2.) Those discussions also began in March 2001. (PIT.565:4-13.) The proposed relationship was a comprehensive one, in which Collins Financial would provide all of the services Merchant Capital had obtained from New Vision. (PIT. 565:14-21.)
In September of 2002, Merchant Capital decided to replace New Vision with Trilogy Capital Management. (TT.249:18-23.) The contract between Merchant Capital and Trilogy was entered into on or about January 2, 2003. (TT.251:10-19.) When Trilogy became the new third-party vendor, Merchant Capital was able to cut the third-party vendor fees in half. Where New Vision had been charging a fourteen percent (14%) sales fee, Trilogy charged only seven percent (7%). (TT.250:14-23.) In November 2003, Merchant Capital balloted the general partners to seek their permission to replace Trilogy with Merchant Management, an affiliated entity, to perform the third-party vendor services. (TT. 249:18-250:2; 251:2-6.) Upon receiving that permission and assuming its role, Merchant Management adopted the same fee structure that had been used by Trilogy. (TT.250:24-251:1.)
The Court finds that the nature of Merchant Capital’s relationship with third-party vendors generally, and with New Vision in particular, is appropriately disclosed in the partnership application and agreement. Although Merchant Capital primarily used the services of New Vision as its third-party vendor through early 2003, Merchant Capital did not use New Vision exclusively, nor was it required to do so.
The Court further finds that the Merchant Capital RLLPs are not dependent upon any unique managerial or entrepreneurial skills or abilities of New Vision. When this case was initiated by the SEC, it contended that the Merchant Capital RLLPs were completely dependent upon New Vision. Since this litigation was filed, New Vision was replaced by Trilogy Capital Management, which was then itself replaced by Merchant Management. The undisputed fact that the RLLPs were capable of changing their third-party vendors (on two separate occasions) establishes that the partnerships are not dependent upon any unique managerial or entrepreneurial skills of New Vision or any other third-party vendor.
IX. An RLLP’s Ability to Control Its Interest In a Debt Pool
The SEC has contended that the Merchant Capital RLLPs have to purchase fractionalized interests in larger pools of debt to be profitable, and that ownership of fractional interests affords them no meaningful ability to manage or control their assets. The Court finds that this is not the ease.
A. The RLLPs Do Not Need To Purchase Fractionalized Interests In Large Debt Pools To Be Profitable.
The ability of a Merchant Capital RLLP to be successful is not dependent upon its purchasing fractionalized interests in larger pools of debt as opposed to purchasing 100% of smaller debt pools. (PIT.394:24-395:3.) In fact, Mr. Howard testified that it is “absolutely” possible for an RLLP to be just as successful purchasing 100% of a $1,000,000 debt pool as it would be if it purchased a ten (10%) percent fractional-ized interest in a $10,000,000 debt pool. (PIT.395-.4-9.)
Mr. Beasley also testified that it is not necessary for an RLLP to pool its funds with other entities in order to conduct its business profitably. (PIT.498:7-9.) This fact was further confirmed by Mr. Wyer, who testified that the Merchant Capital RLLPs do not need to pool their capital in order to engage in their business. (PIT. 560:14-21.)
One of the SEC’s own expert witnesses at trial, Louise Epstein, testified that it is possible for a partnership to purchase debt at a retail price and potentially make a profit from the collection and resale of that debt, even if the partnership had limited capital available to it and no previous experience in the debt-buying business. (TT.232:13-233:7.)
Accordingly, the Court finds that it is not necessary for a partnership to purchase fractionalized interests in large debt pools in order to be profitable.
B. Each RLLP Has Control Over Its Fractionalized Interest.
Defendants offered testimony from four witnesses to demonstrate that a Merchant Capital RLLP has the ability to liquidate its fractionalized interest in a larger debt pool at any time and therefore has the ability to manage and control its assets. The SEC cross-examined Fred Howard, Steve Wyer, Kurt Beasley, and Kenneth Hall regarding their testimony on this issue.
Fred Howard of New Vision testified that if at any time a particular Merchant Capital RLLP wanted to liquidate its fractional interest in a larger debt pool, it could (PIT.391:16-19; PIT.436:5-11); that if a Merchant Capital RLLP was not satisfied with the collection performance of a particular debt file, it could take possession of its fractionalized interest from that debt pool and place it with another collection agency (PIT.391:20-25.); and that if a Merchant Capital RLLP was not satisfied with the performance of a particular debt pool in which it owned a fractionalized interest, the RLLP could take possession of its fractionalized interest from the larger pool and sell it. (PIT.393:5-10.) In fact, New Vision has permitted Merchant Capital RLLPs to liquidate their fractionalized interests in debt pools in the past. (PIT. 416:5-12.)
Mr. Wyer also testified that the fact that an RLLP owns a percentage interest in a debt pool as opposed to an entire debt pool does not adversely impact the partnership’s control over its business. (PIT. 561:14-17.)
The SEC questioned Mr. Howard regarding contractual limitations upon Merchant Capital’s right to withdraw accounts from New Vision in an effort to demonstrate that a Merchant Capital RLLP did not have the ability to request that New Vision liquidate or return its fractionalized interest in a debt pool. (PIT.411:11-415:17.) In response to this questioning, Mr. Howard testified unequivocally that New Vision would permit a Merchant Capital RLLP to withdraw its fractionalized interest in a pool because it was his intent to “create a favorable servicing contract and environment with my client.... [I]f I don’t do a good job, [Merchant Capital] will terminate the contract.” (PIT.421:1-6.)
The SEC also asked Mr. Howard about potential limitations upon New Vision’s ability to withdraw files from its collection agency, Enhanced Asset Management. (PIT.422:16-424:5.) Mr. Howard testified that because New Vision maintained the right to terminate its contract with Enhanced Asset Management, Enhanced Asset Management would cooperate with New Vision, for the same reasons that New Vision would cooperate with Merchant Capital. (PIT.424:l-5.) In fact, Enhanced Asset Management has previously facilitated and permitted Merchant Capital RLLPs’ request to liquidate their fraction-alized interests in debt pools purchased through New Vision and assigned to Enhanced Asset Management for collection. (PIT.436:16-18.)
Most significantly, Steve Wyer testified at trial that RLLP 19 requested that its assets be returned to it in August 2004. (TT.420:1-11.). Merchant Capital was able to comply with this request and to in fact return all of the partnership’s assets, including the partnership’s individual debt files. (TT.420:12-13.) This testimony was not challenged by the SEC. The Court therefore finds that the RLLPs do in fact have the ability to control their individual debt file assets.
C. The Fractionalized Interests In A Large Debt Pool Can Be Converted Into Specific Accounts.
The Court heard testimony concerning the process by which undivided interests in debt pools are identified and segregated for transfer or liquidation. This process is known as the “N-Select” process (PIT. 416:22-417:5), which is a random selection of accounts in a debt pool. It is a process similar to the one used by the credit issuer when it offers a “fresh debt” pool for purchase. (PIT.428:11~16.)
Kenneth Hall explained that when one uses the “N-Select” process in the context of segregating fractional interests in debt pools, there will almost invariably be one account that, if transferred, would give the transferee more than his fractionalized interest. At that point in the process, a dollar value is placed upon the portion of the account that exceeds the RLLP’s ownership percentage. The RLLP then pays that amount to the other owners of the pool on a pro rata basis so that the liquidation is fully reconciled. (PIT.457:3-458:7.)
Mr. Howard testified that over the course of New Vision’s relationship with Merchant Capital, there were not many requests made of New Vision to liquidate fractionalized interests in debt pools. (PIT.435:17-23.) Nevertheless, when such a request was made by Merchant Capital RLLPs, Mr. Howard confirmed that the “N-Select” process was successfully used by New Vision to permit Merchant Capital to liquidate a fractionalized interest in a debt pool. (PIT.436:12-15.)
Mr. Howard testified that New Vision had improved its ability to perform the “N-Select” process, which made it easier for New Vision to segregate fractionalized interests from larger debt pools than it had previously been for New Vision, at the time that Mr. Howard was deposed in September 2002 by the SEC. (PIT.427:25-428:4.)
As referenced above, Merchant Capital actually used the “N-Select” process in August 2004 to identify and return the specific individual debt files owned by RLLP 19. This process was completed satisfactorily and without any problems or complaints on behalf of the partnership. (TT.420:14-22.)
The Court finds that the general partners of the Merchant Capital RLLPs do in fact have the ability to control the assets of the RLLPs.
X. Alleged Material Misrepresentations or Omissions
The SEC has alleged that Merchant and its principals have made material misrepresentations and omissions to prospective partners.
A. “Pooling ”
According to the SEC, the offering materials “make it appear that the individual partners pool their funds into one partnership and use their total capital contri-button to purchase, collect and resell pools of debt” when, instead, “the individual Merchant partnerships purchase fractional interests in large debt pools from New Vision” with large numbers of other investors. (Compl.lffl 46-47.) However, as discussed above, the RLLPs can function either way because there is nothing requiring Merchant Capital or the Merchant Capital RLLPs to purchase debt from New Vision or to continue to purchase only fractionalized interests in large debt pools rather than purchasing 100% of smaller debt pools of either fresh, secondary, tertiary or “quad” debt. Nor are they prohibited from purchasing 100% of “in house returns” files or from purchasing 100% of fresh debt through “one-off’ sales or single sale contracts.
The SEC contends that Merchant Capital RLLPs could not operate profitably unless they pooled their resources with other entities, because they would, not have enough capital in their own RLLPs to purchase “fresh debt” directly from banks.
While it is possible that when “fresh debt” is purchased directly from a bank the size of the purchase may have some impact on profitability, that is not always the case. (PIT.4034-24.) Mr. Howard testified that he is aware of instances in which another debt purchaser has bought less debt than New Vision has, yet still obtained a better price for the debt than New Vision did. (PIT.406:4,5.)
Mr. Howard testified that if an RLLP wanted only to buy fresh debt directly from a bank, it might be at a disadvantage if it did not participate in a pooling process. However, if the RLLP was prepared to purchase debt on the secondary market, it could do that “very easily regardless of the amount of money [the RLLP is] willing to spend.” (PIT.407:8-14.) Fred Howard testified that in the secondary debt market, in which debt is purchased after it has been placed with at least one collection agency, debt can be purchased at virtually any face amount. (PIT.403:8-12.)
There is no prohibition upon the Merchant Capital RLLPs purchasing secondary, tertiary, or “quad” debt. (PIT. 549:24-550:1.) Merchant Capital never advised any of the RLLP partners that they would be purchasing only “fresh debt” from banks (PIT.548:24-549:8), and the partnership application suggests they would be purchasing other types of debt as well:
The RLLP will pay up to forty percent (40%) for collection services to be performed on debt pools consisting of primary or “fresh” accounts and up to fifty percent (50%) for debt consisting of secondary, tertiary, or “quad” accounts.
(PIT.550:2-15; Pl.Ex.2, p. 3).
The SEC also attempted to establish that the Merchant Capital RLLPs could not operate profitably unless they' purchased debt through third-parties who have forward-flow contracts with debt issuers. However, Fred Howard testified that the fact that debt is purchased through a for