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Securities and Exchange Commission v. Esposito

United States District Court, D. Massachusetts

January 27, 2017





         In May 2016, Plaintiff Securities and Exchange Commission (the “SEC” or the “Commission”) filed this civil enforcement action against two corporate entities and four individuals, including James Gondolfe (“Gondolfe”) and Cannabiz Mobile, Inc. (“Cannabiz”). [ECF No. 1 (hereinafter the “Complaint”)]. The case arises out of allegations that the defendants schemed to offer or sell securities without registration or exemption in violation of federal securities laws and regulations. Currently before the Court is the SEC's Motion for a Default Judgment against Gondolfe and Cannabiz [ECF No. 39], which is supported by a Memorandum of Law [ECF No. 40] and the Declarations of David H. London (“London Dec.”) [ECF No. 40-1] and Mark Albers (“Albers Dec.”) [ECF No. 40-2].

         On June 3, 2016, the SEC served process on Gondolfe. [ECF No. 10]. Gondolfe, as Cannabiz's CEO, agreed to accept service on Cannabiz's behalf by email on June 7, 2016. [ECF No. 7]. Neither Gondolfe nor Cannabiz filed an answer or motion within the required time period, which prompted this Court to order Gondolfe and Cannabiz to show cause as to why the Court should not instruct the Clerk to enter a default against them. [ECF No. 18]. They failed to respond to this Court's Show Cause Order. Accordingly, the Court directed the Clerk to enter a default against Gondolfe and Cannabiz on August 2, 2016. [ECF No. 35].

         For the reasons set forth in this Memorandum and Order, the SEC's Motion for Default Judgment against James Gondolfe and Cannabiz [ECF No. 39] is GRANTED IN PART.


         As set forth in Fed.R.Civ.P. 55(b), “a plaintiff ‘must apply to the court for a default judgment' where the amount of damages claimed is not a sum certain.” Vazquez-Baldonado v. Domenech, 792 F.Supp.2d 218, 221 (D.P.R. 2011) (quoting Fed.R.Civ.P. 55(b)). As to the defendants' liability, the entry of default “constitutes an admission of all facts well-pleaded in the complaint” Id. (internal quotations and citations omitted). Because Gondolfe and Cannabiz have defaulted in this case, they are “taken to have conceded the truth of the factual allegations in the complaint as establishing the grounds for liability.” In re The Home Restaurants, Inc., 285 F.3d 111, 114 (1st Cir. 2002) (quoting Franco v. Selective Ins. Co., 184 F.3d 4, 9 n.3 (1st Cir. 1999)). On a motion for a default judgment, however, it is appropriate to independently “examine a plaintiff's complaint, taking all well-pleaded factual allegations as true, to determine whether it alleges a cause of action.” Ramos-Falcon v. Autoridad de Energia Electrica, 301 F.3d 1, 2 (1st Cir. 2002). Allegations that support a viable cause of action will establish the defendants' liability. See Fed.R.Civ.P. 55(b).

         With regard to damages, Fed.R.Civ.P. 55(b)(2) provides that the court “may conduct hearings or make referrals . . . when, to enter or effectuate judgment, it needs to (A) conduct an accounting; (B) determine the amount of damages; (C) establish the truth of any allegation by evidence; or (D) investigate any other matter.” A hearing, however, is not necessarily required, particularly where the pleadings and the moving party's affidavits establish the amount of the default judgment. See In re The Home Restaurants, Inc., 285 F.3d at 114 (holding that district court did not abuse its discretion by entering default judgment without first holding evidentiary hearing, where there was “no uncertainty about the amounts at issue, ” the pleadings contained “specific dollar figures, ” and the court requested and received affidavits in support of the default judgment).


         The SEC argues that the facts alleged in its Complaint establish that the defaulting defendants violated federal securities laws by selling and offering to sell unregistered securities in interstate commerce. The SEC further argues that these facts entitle it to a permanent injunction against Gondolfe and Cannabiz enjoining their further violation of federal securities laws and regulations, disgorgement of their ill-gotten gains with prejudgment interest, civil monetary penalties against Gondolfe and Cannabiz, and an order barring Gondolfe from serving as an officer or director of a public company and from participating in penny stock offerings. In this Memorandum and Order, the Court will address whether the Complaint adequately supports liability before turning to the SEC's requests for remedies.


         The salient facts alleged in the Complaint are summarized below. The Court accepts the well-pleaded facts as true for purposes of this Memorandum and Order. See Conetta v. Nat'l Hair Care Ctrs., Inc., 236 F.3d 67, 76 (1st Cir. 2001) (noting that the “entry of default prevents the defendant from disputing the truth of well-pleaded facts in the complaint pertaining to liability.”).

         i. Relevant Defendants

         Cannabiz is a corporation purportedly based in Cambridge, MA, but in reality operated out of office space it shares with co-defendant Lionshare Ventures LLC (“Lionshare”), a privately held corporation with its principal place of business in Danvers, MA. Compl. ¶¶ 14 - 15; London Dec., Ex. A, at 34. Cannabiz initially claimed to be in the business of mineral exploration in Brazil, and, later, the business of servicing the medical marijuana industry. Id. ¶ 15. Before adopting its current name of Cannabiz, it operated as ReBuilder Medical Technologies, Inc. from March 2007 to August 2012 and as Lion Gold Brazil, Inc. from August 2012 to May 2014. Id. Cannabiz's stock is not registered with the SEC, and it has not registered any securities offerings with the SEC. Id. Since at least March 2007, however, Cannabiz (and its predecessors) has been quoted and publicly traded on the Over-the-Counter (OTC) securities markets (“OTC Markets”). Id.

         On April 3, 2014, Lionshare's Managing Director Christopher R. Esposito (“Esposito”), despite having no official position with Cannabiz, id. ¶¶ 10, 26, installed Gondolfe as Cannabiz's President, Chief Executive Officer (CEO), Chairman, and sole Director. Id. ¶¶ 12, 39. Before then, Gondolfe had been working odd jobs and at a Boston nightclub. London Dec., Ex. A, at 27.

         ii. Allegations

         The following factual allegations are again taken from the SEC's Complaint, the well-pleaded portions of which are taken to be true by virtue of the entry of default against Gondolfe and Cannabiz. See In re The Home Restaurants, 285 F.3d at 114.

         The SEC alleges that, beginning in late May 2012, Esposito used approximately $75, 000 of Lionshare investors' money to purchase five convertible promissory notes collectively amounting to $711, 238, which represented all of the outstanding debt obligations of Cannabiz (then known as ReBuilder). Compl. ¶ 23. The notes gave Esposito (through Lionshare) effective control over Cannabiz because they were convertible at any time into 711, 238, 000 shares of Cannabiz's common stock (almost 18 times the amount of outstanding shares). Id. ¶ 24.

         Even though Esposito had no official position with Cannabiz, he secretly controlled and funded it. Id. ¶ 26; London Dec., Ex. A, at 56, 74 - 76, 172, 174; Ex. B (“Chris [Esposito] is among the largest debt holders of [Cannabiz] and can sink [it] at any time, as we have no access to capital and are asking Chris to fund the company.”). By virtue of their control over Cannabiz, Esposito and Lionshare were “affiliates” of the company. See 17 C.F.R. § 230.144(a)(1) (defining a company's “affiliate” as “a person that directly, or indirectly through one or more intermediaries, controls, or is controlled by, or is under common control with” the company).

         Esposito, however, concealed his affiliate status in order to profit from prohibited transactions, such as inducing Cannabiz's transfer agent to issue to Esposito and others millions of Cannabiz common shares without a restrictive legend. Compl. ¶¶ 27, 28; London Dec., Ex. A, at 199-200. Without a restrictive legend, these shares could be sold into the public market despite Esposito and Cannabiz's having failed to comply with the applicable laws regulating sales of shares owned or controlled by affiliates. By hiding his affiliate status and inducing the issuance of unlegended common shares, Esposito contravened an SEC rule prohibiting sales of securities received from an affiliate prior to the completion of a one-year holding period. 17 C.F.R. § 230.144(d)(1)(ii).

         Moreover, Esposito provided the transfer agent various fraudulent and misleading documents stating that Lionshare was not an affiliate of Cannabiz (by August 2012, Cannabiz was known not as ReBuilder, but as Lion Gold) and that the to-be-issued ReBuilder common shares were “free trading common stock” unburdened by “restrictive legend or transfer restrictions.” Compl. ¶ 29. On July 27, 2012, based on Esposito's misrepresentations about his and Lionshare's affiliate status, the transfer agent issued 47 stock certificates without restrictive legends, representing 18, 236, 000 shares of ReBuilder common stock, at least 3, 675, 000 of which went to Esposito personally. Id. ¶ 31.

         On or around October 8, 2012, Esposito directed the transfer agent to issue additional stock certificates without restrictive legends in order to transfer 3.3 million of his personal shares to various investor relations “consultants” as payment for their blasts of promotional emails to potential investors. Id. ΒΆ 32. The consultants sold 2, 396, 000 of their shares to the public, gaining a profit of $62, 835; Esposito personally sold 94, 500 shares to the public, gaining $1, ...

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