Avalon Holdings Corp. v. Gentile

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AVALON HOLDINGS CORPORATION, Plaintiff, v. GUY GENTILE and MINTBROKER INTERNATIONAL, LTD., Defendants.

NEW CONCEPT ENERGY, INC., Plaintiff, v. GUY GENTILE and MINTBROKER INTERNATIONAL, LTD., Defendants.

Nos. 18-CV-7291 (DLC)(RWL), 18-CV-8896 (DLC)(RWL)

United States District Court, S.D. New York

October 6, 2023

REPORT AND RECOMMENDATION TO HON. DENISE L. COTE SHORT-SWING PROFITS AWARD

ROBERT W. LEHRBURGER, UNITED STATES MAGISTRATE JUDGE.

In these two related cases, Plaintiffs Avalon Holdings Corporation (“Avalon”) and New Concept Energy Inc. (“New Concept”) sued Guy Gentile (“Gentile”) and his offshore brokerage company Mintbroker International, Inc. (“Mintbroker”) for disgorgement of short-swing profits under § 16(b) of the Securities Exchange Act of 1934 (the “Act”). Section 16(b) imposes strict liability on beneficial owners of more than 10% of a company's stock who acquire and sell above that threshold within any six-month period. The statute allows the company whose stock was traded to recover profits made by the beneficial owner during that period. The Honorable Vincent S. Broderick previously granted summary judgment on liability, finding that the Defendants had exceeded the 10% beneficial ownership threshold and must disgorge profits to each Plaintiff. Avalon Holdings Corp. v. Guy Gentile and Mintbroker International, Ltd., 597 F.Supp.3d 640 (S.D.N.Y. 2022) (“Gentile I”). The matter then came to me for determination of the amounts due to Plaintiffs. Currently, the action is stayed as to Mintbroker due to liquidation proceedings in the Bahamas. Gentile's application to stay the case as to him was denied.

Typically calculation of damages in short-swing profits cases is not terribly difficult. Indeed, in the instant cases, the parties largely agree on how to calculate short-swing profits. However, the parties' calculations differ significantly. Plaintiffs assert that Avalon should receive $6,235,908, plus pre-judgment interest, and that New Concept should receive $6,102,002, plus pre-judgment interest. In contrast, Gentile contends that Plaintiffs have not met their burden to prove damages with reasonable certainty, but even if they had, short-swing profits payable to Avalon would be no more than approximately $1.2 million, and there would be zero short-swing profits with respect to New Concept. The total difference in the parties' calculations is thus more than eleven million dollars exclusive of pre-judgment interest.

The reason for the stark difference stems from trading data that Gentile produced long after closure of discovery and after summary judgment was granted against him (the “Post-Discovery Trading Records”). Gentile contends that the Post-Discovery Trading Records show that many trades previously attributed to Mintbroker on its own account are in fact attributable to Mintbroker customers for which they, not Mintbroker, were beneficial owners. Excluding the purported customer trades from calculation of shortswing profits results in the dollar amounts advanced by Gentile.

Plaintiffs take the position that the Post-Discovery Trading Records, and any testimony about them, should be excluded from consideration for several reasons, including that Gentile's damages analysis premised on those records is fundamentally inconsistent with the summary judgment decision as well as with earlier representations made by Gentile and Mintbroker that no such customer data existed. Additionally, Plaintiffs contend that the Post-Discovery Trading Records, and testimony about them, should be excluded as unreliable evidence. And, Plaintiffs assert, even if the Court were to consider the Post-Discovery Trading Records, they would not change the multi-million short-swing profit numbers advanced by Plaintiffs.

Accordingly, the Court is tasked first with determining whether the Post-Discovery Trading Records, and testimony and opinions about them, should be excluded, and second with determining the amount of short-swing profits payable to Plaintiffs. Following extensive briefing and a two-day evidentiary hearing, and for the reasons set forth below, I find that Gentile's damages theory is barred by the law of the case and that, in any event, the records and expert testimony on which Gentile seeks to rely are unreliable. Accordingly, I recommend that (1) Avalon be awarded disgorged profits in the amount of $6,235,908; (2) New Concept Energy be awarded disgorged profits in the amount of $6,102,002; and (3) prejudgment interest be awarded to each Plaintiff.^[1]

The Short-Swing Profits Legal Framework

For context, the Court begins with the legal provisions and principles governing short-swing profits.

A. Short-Swing Profits Strict Liability

Section 16(b) of the Act requires an “insider” to disgorge short-swing profits. See 15 U.S.C. § 78p(b). Statutory insiders include directors, officers, and beneficial owners of more than 10% of any class of a company's registered equity securities. 15 U.S.C. § 78p(a)(1). Liability requires proof of four elements: “‘(1) a purchase and (2) a sale of securities (3) by an [insider] (4) within a six-month period.'” Chechele v. Sperling, 758 F.3d 463, 467 (2d Cir. 2014) (quoting Gwozdzinsky v. Zell/Chilmark Fund, L.P., 156 F.3d 305, 308 (2d Cir. 1998)). Judge Broderick's summary judgment decision determined that those elements had been proven beyond dispute with respect to Defendants' trading in shares of both Avalon and New Concept. See Gentile I, 597 F.Supp.3d at 655-56.

As explained by the Second Circuit, “§ 16(b) was designed to prevent an issuer's directors, officers, and principal stockholders from engaging in speculative transactions on the basis of information not available to others.” Donoghue v. Bulldog Investors General Partnership, 696 F.3d 170, 173-74 (2d Cir. 2012) (internal quotation marks omitted). The provision was “crafted as a blunt instrument to impose[ ] a form of strict liability,” requiring “no showing of actual misuse of inside information or of unlawful intent.” Id. at 174 (internal quotation marks and citations omitted); see also Rubenstein v. International Value Advisers, LLC, 959 F.3d 541, 543 (2d Cir. 2020) (recognizing that Section 16(b) “imposes strict liability”). In other words, it “operates mechanically, and makes no moral distinctions, penalizing technical violators of pure heart, and bypassing corrupt insiders who skirt the letter of the prohibition.” Magma Power Co. v. Dow Chemical Co., 136 F.3d 316, 320-21 (2d Cir. 1998). For this reason, courts have been “reluctant to exceed a literal, ‘mechanical' application of the statutory text in determining who may be subject to liability.” Packer v. Raging Capital Management, LLC, 981 F.3d 148, 154 (2d Cir. 2020).

B. Beneficial Owners

Defendants were not officers or directors of Avalon or New Concept. Rather, their liability turns on their being “beneficial owners” of more than 10% of the companies' stock. The Act does not define the term “beneficial owner.” Rather, the term is defined in regulations promulgated by the SEC: “Solely for purposes of determining whether a person is a beneficial owner of more than ten percent of any class of equity securities ... the term beneficial owner shall mean any person who is deemed a beneficial owner under section 13(d) of the Act.” 17 C.F.R § 240.16a-1(a)(1). In turn, Rule 13d-3(a) promulgated pursuant to section 13(d) of the Act, defines a “beneficial owner” of a security as “any person who has “(1) [v]oting power which includes the power to vote, or to direct the voting of, such security; and/or (2) [i]nvestment power which includes the power to dispose, or to direct the disposition of, such security.” 17 C.F.R. § 240.13d-3(a)(1)-(2). Judge Broderick found, beyond dispute, that Defendants were beneficial owners of the shares at issue because they had the power to dispose of them and did so.^[2] Gentile I, 597 at 656.

C. Calculation Of Short-Swing Profits

The parties have not voiced any disagreement about the basic principles and methods for calculating short-swing profits. Short-swing profits are to be calculated according to the lowest-in, highest-out method, which “has been consistently and diligently followed by courts in the Second Circuit.” Morales v. Consolidated Oil & Gas, Inc., No. 81-CV-4871, 1982 WL 1328, at *4 (S.D.N.Y. July 17, 1982) (collecting cases); see also Smolowe v. Delendo Corp., 136 F.2d 231, 239 (2d Cir. 1943) (“The only rule whereby all possible profits can be surely recovered is that of lowest price in, highest price out - within six months”); Chechele v. Standard General L.P., No. 20-CV-3177, 2021 WL 2853438, at *10-11 (S.D.N.Y. July 8, 2021) (“In light of the ‘broadly remedial' purposes of § 16(b), the Second Circuit has long applied the rule of ‘lowest price in, highest price out'”) (quoting Smolowe, 136 F.2d at 239).

“[T]he trades must be matched in a manner that maximizes the disgorgeable amount .... This is accomplished by matching the highest sale prices with the lowest purchase prices within the six month period.” Segen ex rel. KFx Inc. v Westcliff Capital Management, LLC, 299 F.Supp.2d 262, 272 (S.D.N.Y. 2004). “Pursuant to this method of computation, [an insider's] short-swing profits may be calculated by matching ... his highest-priced and hence most profitable sales transactions ... with the same number of shares purchased for the least cost. The remaining sales transactions that did not produce profits are dropped from the equation.” Donoghue v. MIRACOR Diagnostics, Inc., No. 00-CV-6696, 2002 WL 233188, at *3 (S.D.N.Y. Feb. 11, 2002). When matching trades in this fashion, the trade taking a shareholder's beneficial ownership over the ten percent threshold is not deemed matchable, while the trade taking a shareholder...