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UNITED STATES DISTRICT COURT

FOR THE DISTRICT OF COLUMBIA

SECURITIES AND EXCHANGE COMMISSION, )

)

Plaintiff, )

)

v. )

)

) CIVIL NO. 1:19-cv-2490

CRYSTAL WORLD HOLDINGS, INC., )

) Judge Carl Nichols

and )

)

THE NEW SPORTS ECONOMY INSTITUTE, )

)

and )

)

CHRISTOPHER PAUL RABALAIS )

)

Defendants. )

)

________________________________________________)

DEFENDANT’S RULE 12(b)(6) MOTION TO DISMISS

OR, IN THE ALTERNATIVE, MOTION FOR SUMMARY JUDGMENT

Defendants Christopher Paul Rabalais (“Rabalais”), Crystal World Holdings, Inc. (“CWH”), The New Sports Economy Institute (“NSEI”) (collectively, the “Defendants”) file this motion to dismiss Plaintiff Securities & Exchange Commission’s (“SEC” or the “Commission”) claims under Federal Rule of Civil Procedure 12(b)(6) or, in the alternative, motion for summary judgment under Federal Rule of Civil Procedure 56. In support of these motions, the Defendants state as follows:

Introduction

If the Commission’s intention is to enforce securities laws, this is the wrong case. As a threshold matter, the Commission recharacterizes, without doing any analysis whatsoever, a donation transaction as a sale. If the transaction at issue is a sale, then the Commission has established an entirely new precedent that effectively ends charitable giving as we know it.

The Commission is also going against a longstanding principle that for a transaction to be characterized as an investment, investment should be the sole motive. The fact that the donors have received many other things in addition to stock in return for their donations is nowhere to be found in the SEC’s brief is a tacit acknowledgement that it is fatal to SEC’s case.

Even if both of these high bars are cleared and the transaction is found to be a securities sale, the SEC has not proven why the ‘investors’ need the protection of the Securities Act in the first place. One would not know by simply reading the SEC’s brief that the shareholders had full access to weekly management calls – more than 350 to date – that were posted in the public domain. That type of information disclosure is not only unprecedented by a private company, but the concern around information disclosure is why we have securities laws in the first place. The fact that information asymmetry could exist, ex ante, is a valid reason to have securities laws, but those laws do not need to be enforced when it is known, ex post, that such information asymmetry had never existed for a certain group of investors to begin with.

The fact that the company stock was not the only item the donors received, but one of many in a mixed basket of goods and services, and the fact that unprecedented information disclosure was made are only two of many material omissions in the SEC’s complaint. In fact, the story the SEC concocted fails precisely because it cherry picks certain facts and omits important key details in every facet. The case in front of this Court is, then, not an act of commission, but an act of omission by the Commission.

CWH owns both granted and pending patents and over 20 trademarks, yet that is nowhere to be found. The reader of the SEC complaint would also have never surmised that CWH appeared, 11 years ago, in front of Commodity Futures Trading Commission (“CFTC”) with a draft submission for a financial product in hand, only to be stopped at the one-yard line, because its licensee partner ceased operations due to financial reasons during the Great Recession of 2008. In addition, the reader would be unaware that CWH submitted a no-action letter to the SEC (on an unrelated matter) and never received a response, 44 months and counting. The reader would not know that a meeting was held with the Ontario Securities Commission (“OSC”) in Canada in 2018.

The SEC’s complaint fails to mention the high level of civic engagement demonstrated by the non-profit defendant, NSEI; and that it submitted multiple amicus briefs to various courts, including one to the Supreme Court of the United States. The fact that some of the donations to the NSEI were redirected through another charity, multiplied through various matching programs and ultimately benefited the kids in Africa, to the tune of approximately $1.6 million, is conveniently missing from SEC’s complaint. The fact that Rabalais filed not one, but two bankruptcies, has a net worth of approximately $0.8 million, with a big minus sign before it, is also missing. So is the fact that Rabalais does not own even one (1) share of CWH stock and has effectively zero financial upside. The alter ego story promoted by the SEC is a house of cards that would not withstand an even light breeze of truth.

Worse, the SEC knew or should have known all these facts. Rabalais was deposed by the SEC and he provided to the SEC 79,150 documents amounting to 19.9 GB of data. Subsequently, the Defendants submitted a response to the Wells notice that contains all the material facts. By doing so, the Defendants have done what they always felt was the highest ethical standard of doing business: full transparency, warts and all. The Commission certainly did not return the favor; it instead chose to cherry pick a couple of facts that are convenient to its case and ignored the rest.

The Defendants voluntarily stopped the alleged violation anyway, seven months before this response and even before the Wells notice was received. Essentially, upon understanding that their actions could run afoul of securities laws in the preliminary discussion stage, the Defendants drew a line in the sand and stopped granting CWH stock to the donors. This case should have ended right then and there. Instead, the SEC decided to turn it into a long battle draining its own resources, the Defendant’s and the judiciary’s, when the focus needs to be on the real harm that is being done to investors on a daily basis by people with malicious intent. Simply put, the SEC is trying to enforce an outcome that the Defendants had already self-imposed upon themselves.

The narrative advanced by the SEC, full of material omissions, fails for multiple reasons and this Court should dismiss it summarily.

Argument 1. Standard of Review

Dismissal of a complaint is appropriate where, accepting the complaint as true and drawing all reasonable inferences in the plaintiff’s favor, the complaint fails as a matter of law to state a claim on which relief can be granted. Fed. R. Civ. P. 12(b)(6); Bell Atl. Corp. v. Twombly, 550 U.S. 544, 558 (2007) (holding dismissal appropriate “when the allegations in a complaint, however true, could not raise a claim of entitlement to relief”); Kassem v. Wash. Hosp. Ctr., 513 F.3d 251, 253 (D.C. Cir. 2008) (citing Erickson v. Pardus, 551 U.S. 89, 93 (2007)). In deciding a motion to dismiss, the court may consider the complaint and documents referenced in the complaint. See Gustave-Schmidt v. Chao, 226 F. Supp. 2d 191, 196 (D.D.C. 2002) (noting that court may consider on motion to dismiss documents “incorporated by reference in the complaint”).

Summary judgment is appropriate when “the pleadings, depositions, answers to interrogatories, and admissions on file, together with the affidavits, if any, show that there is no genuine issue as to any material fact and that the moving party is entitled to a judgment as a matter of law.” Fed. R. Civ. P. 56(c); Celotex Corp. v. Catrett, 477 U.S. 317, 322 (1986); Diamond v. Atwood, 43 F.3d 1538, 1540 (D.C. Cir. 1995). The court must view the record in the light most favorable to the party opposing the motion, giving the non-movant the benefit of all favorable inferences that can reasonably be drawn from the record and the benefit of any doubt as to the existence of any genuine issue of material fact. Defenders of Wildlife v. Dep’t of Agric., 311 F. Supp. 2d 44, 53 (D.D.C. 2004) (citing Adickes v. S.H. Kress & Co., 398 U.S. 144, 157-159 (1970)). “To determine which facts are ‘material,’ a court must look to the substantive law on which each claim rests.” Id. (citing Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 248 (1986)). “A ‘genuine issue’ is one whose resolution could establish an element of a claim or defense and, therefore, affect the outcome of the action.” Id. (citing Celotex, 477 U.S. at 322, and Anderson, 477 U.S. at 248).

2. Grants of CWH Stock to NSEI Donors Were Gifts, Not Sales

As a threshold matter, the Commission asserts, without any analysis, that the Defendant’s conduct was a securities sale. The Defendants do not dispute that the CWH stock granted to the donors are securities. However, that a ‘sale’ has happened is an opinion, not a fact. The Defendants vehemently disagree that they engaged in a securities sale, because neither the form, nor the substance of the transaction is consistent with that characterization.

The Form of the Transaction is a Donation

Not every transaction where money changes hands and a good or service is received in return is a sale. The charitable deduction dates back to 1917.[1] As the tax bill that increased the top income tax rate from 15% to 67% snaked its way through Congress, nonprofits worried that rich philanthropists, like Andrew Carnegie and John D. Rockefeller, would stop giving in light of the new tax, and New Hampshire Senator Henry F. Hollis, who also served as a regent for the charity-dependent Smithsonian Institution, proposed that taxpayers should be able to deduct charitable donations from their tax bills.[2]

It is not required that the charitable donor does not receive anything of value in a donation transaction, only that if something of value was received in the form of a good or service, the deduction could only be taken above the fair value of the gift. The IRS labels that as a quid pro quo contribution.[3]

There are no laws, regulations, or case law the Defendants are aware of that would make a non-profit entity granting stock in another entity illegal in the context of charitable contributions. The Commission is establishing an entirely new precedent by imposing a sale characterization on gifts. Real life examples abound where goods change hands every day in charity auctions, gala dinners and other charitable giving. The intention is not to buy a good or service, but to contribute to a good cause. The goods and services, if provided, are simply tools to incentivize the potential donor to take action. The present case is nothing more than an example where company stock was used instead of an autographed baseball, a gift card, or a bottle of wine. From a donor’s perspective, it is incongruent that a donation to a charity is a donation to charity when what is received is an autographed baseball, a gift card, or a bottle of wine, but flips to a purchase of securities if the item received is company stock. Creating that artificial distinction all but guarantees that the judicial system will be clogged with non-profit cases for years to come, the collective result of which will be the effective end of charitable giving as we know it.

A gift cannot turn into a sale by the sleight of the SEC’s hand. There is no real distinction between stock in a private company and any other good, other than the artificial one the SEC is trying to create.

The Substance of the Transaction is Not a Sale

One would not know this fact by reading the SEC’s brief, but CWH stock was not the only good or service that changed hands in the donation transaction. In return for their donations, the donors received a mixed basket of goods and services, not just CWH stock.

The Defendants do not deny that having a mixed basket of goods and services with multiple items were intended to entice donors to take action. NSEI did not identify a good or service that, if it were to be the only item received by donors, would increase the chances of securing donations. Instead, NSEI understood that different people responded to different incentives and decided to include the CWH stock, among other things, in a mixed basket of goods and services.

The form of the transaction aside, the Defendants agree that substance generally trumps form. “Finally, we are reminded that, in searching for the meaning and scope of the word “security” in the Act, form should be disregarded for substance and the emphasis should be on economic reality.” Tcherepnin et al. v. Knight et al., 389 U.S. 332 (1967) (citing SEC v. Howey Co., 328 U.S. 293, 298 (1946)). “This Court has decided a number of cases in which it looked to the economic substance of the transaction, rather than just to its form, to determine whether the Acts applied.” Landreth Timber Co. v. Landreth et al., 471 U.S. 681 (1985).

While the Defendants agree with the principle of ‘substance over form’ in general, they disagree that the transaction in which donors, as a result of donating to a non-profit, were engaging in a stock purchase transaction, or conversely that the Defendants were engaging in a securities offering. As mentioned, supra, the CWH shares were but one item that the donors received as part of a mixed basket of goods and services.

In sharp contrast, in a typical securities transaction, the investor is focused on one thing, and one thing only: the security. In United Housing Foundation, the Supreme Court argued: “[The Howey] test, in shorthand form, embodies the essential attributes that run through all of the Court’s decisions defining a security. The touchstone is the presence of an investment in a common venture premised on a reasonable expectation of profits to be derived from the entrepreneurial or managerial efforts of others. By profits, the Court has meant either capital appreciation resulting from the development of the initial investment, as in Joiner, supra (sale of oil leases conditioned on promoters’ agreement to drill exploratory well), or a participation in earnings resulting from the use of investors’ funds, as in Tcherepnin v. Knight, supra (dividends on the investment based on savings and loan association’s profits). In such cases, the investor is “attracted solely by the prospects of a return” on his investment. Howey, supra, at 300.” United Housing Foundation v. Forman, 421 U.S. 837 (1975) (emphasis added). “By contrast, when a purchaser is motivated by a desire to use or consume the item purchased – “to occupy the land or to develop it themselves,” as the Howey Court put it, ibid. – the securities laws do not apply. See also Joiner, supra.” Id.

The Commission, by conveniently omitting the fact that the donors received a mixed basket of goods and services, is essentially implying that the NSEI donors were donating money with CWH stock being the only motive, as it typically is in a securities transaction. That is pure speculation that has no basis. In fact, there are two data points that suggest the contrary:

First, the donors reported why they engaged in the transaction. According to an internal survey the Defendants conducted in April 2019 (186 participants responded), only 8.1% of the respondents (15 out of 186) reported that it was the only reason, and 61.3% of the participants reported that the stock grant was either a major reason or the only reason why they participated in NSEI donation programs.

What happened afterwards is also quite instructive. As of April 30, 2019, NSEI voluntarily stopped including CWH stock in the basket of goods and services provided to the donors in return for their donations. In its May 2019 donation drive, despite NSEI not including CWH stock as part of the basket of goods and services, it still received approximately 64% of the donations (measured in dollars) from its donor base compared to its three-month average prior to April 30, 2019.

This alternative data point also supports the Defendant’s position. The concept of revealed preferences, advanced by Nobel Laureate Paul Samuelson, refers to the idea that how people actually behave (as opposed to what a normative economic theory suggests or what people said they would do) is the best way to measure consumer preferences.[4] The fact that the Defendants voluntarily stopped the alleged violation provided an excellent natural experiment, one where substantially all other factors were held constant, allowing an outsider to observe how people actually behaved. What happened is not what the SEC’s theory would imply: the donations did not stop. In fact, more than half of the donors kept giving.

Thus, compared to the SEC, which has zero basis in arguing that 100% of the donors were engaging in a securities purchase, the Defendants submit that they have multiple data points that measure not only what the donors indicated as to why they engaged in a transaction, but also how the donors actually behaved. Thus, the hypothesis that the grant of CWH stock amounts to a securities offering in disguise is not supported at all by the data. For donors, the stock was a gift that was perhaps a motivating factor, and not a security to be purchased under the disguise of a donation. The data unequivocally show that the NSEI donors were not solely attracted by the prospects of a return, the linchpin of a securities offering.

The Defendants Disclosed Substantially All Material Information and Did Not Solicit the General Public, Therefore They Could Not Possibly Have Harmed ‘Investors’

Even if the Court finds that the Defendants sold unregistered securities, the Defendants could not possibly have harmed investors because they disclosed substantially all material information. Furthermore, the Defendants never engaged in a mass solicitation to potential investors. In essence, the Defendants’ actions were in compliance with the spirit of the securities laws. In addition, the investors, to the extent the Court concludes the ‘investor’ label is the proper characterization for them, did not need the protection of the Securities Act of 1933 (“Securities Act”).

The Defendants Disclosed Substantially All Material Information

Potential information asymmetry is the biggest reason why we have the Securities Act in the first place. As the Commission has noted, front and center on its webpage, “Companies offering securities for sale to the public must tell the truth about their business, the securities they are selling, and the risks involved in investing in those securities.”[5] Similarly, the Commission has emphasized the significance of information asymmetry in recent guidance. “Absent the disclosures required by law about those efforts and the progress and prospects of the enterprise, significant informational asymmetries may exist between the management and promoters of the enterprise on the one hand, and investors and prospective investors on the other hand. The reduction of these information asymmetries through required disclosures protects investors and is one of the primary purposes of the federal securities laws.”[6] (emphasis added)

Case law supports this position. “A fundamental purpose … was to substitute a philosophy of full disclosure for the philosophy of caveat emptor and thus to achieve a high standard of business ethics in the securities industry. SEC v. Capital Gains Research Bureau, Inc., 375 U. S. 180, 186 (1963). “Failure to disclose material facts must be deemed fraud or deceit within its intended meaning, for, as the experience of the 1920’s and 1930’s amply reveals, the darkness and ignorance of commercial secrecy are the conditions upon which predatory practices best thrive.” Id.

The profile of the investors plays a role in determining whether or not investors need the protection of the Securities Act. “[T]he availability of the Section 4(a)(2) exemption should turn on whether the particular class of persons affected needs the protection of the Act. An offering to those who are shown to be able to fend for themselves is a transaction “not involving any public offering’’”. SEC v. Ralston Purina, Co., 346 U.S. 119 (1953). Ultimately, however, it is the level of information disclosure that controls the outcome. “But, once it is seen that the exemption question turns on the knowledge of the offerees, the issuer’s motives, laudable though they may be, fade into irrelevance. The focus of inquiry should be on the need of the offerees for the protections afforded by registration. The employees here were not shown to have access to the kind of information which registration would disclose. Id. (emphasis added)

The SEC’s own actions also highlight the critical nature of information disclosure. In a recent press release, the SEC remains committed to bringing enforcement cases when investors are deprived of material information they need to make informed investment decisions.”[7] (emphasis added)

Thus, even if this Court re-characterizes the transaction as a securities sale and the donors as offerees, the SEC still has the burden of proof of showing that the offerees needed the protection of the Securities Act. The Defendants submit that they did not, given that the Defendants chose to provide their stakeholders easy access to substantially all material information.

The Defendants have a somewhat unique way of doing business when it comes to transparency. Guided strongly by the personal philosophy of Rabalais that can colorfully be described as “we shouldn’t do anything that we don’t want to see on the front page of the New York Times,” the Defendants have a robust history of fully disclosing substantially all material information. One would not know by reading the SEC’s brief that shareholders had full access to weekly management calls – more than 350 to date – that are posted in the public domain. That type of information disclosure is unprecedented by a private company.

Information disclosure cuts both ways. Standing alone in a world when substantially all your peers are only disclosing what the law requires (and even dancing around that in many cases) makes you vulnerable and it is not for the faint of heart. Yet, it also means that there are no ‘skeletons in the closet’ and in spirit, the Defendants have complied with securities laws. The donors cannot have been possibly harmed in this case, even if they did purchase securities, because they had access to substantially all material information. Nor does the SEC argue that they are harmed.

“As Dean Shulman said in discussing the nature of securities transactions what is required is “a picture not simply of the show window, but of the entire store . . . not simply truth in the statements volunteered, but disclosure.”” SEC v. Capital Gains Research Bureau, Inc., 375 U. S. 180, 186 (1963). The Defendants are confident that they cleared this high bar. For better or worse, they chose to be fully transparent at the cost of potentially making themselves vulnerable. They chose to operate in the bright sunlight and not in “the darkness and ignorance of commercial secrecy,” disclosed substantially all material information, and therefore could not possibly have harmed investors. Id.

Defendants Did Not Solicit the General Public

Another hallmark of securities laws is drawing the boundaries around public solicitation, which effectively functions as a supplement to information disclosure requirements. The SEC recently highlighted this point: “The statutory exemptions and those established by the Commission’s rules and regulations include a variety of requirements, investor protections , and other conditions … Some exemptions limit the manner in which the offering can be conducted, such as by prohibiting the use of general solicitation or general advertising to solicit investors.” Concept Release on Harmonization of Securities Offering[8], p.9.

Not every communication under the sun falls under the general solicitation umbrella. “Although the terms ‘general solicitation and general advertising’ are not defined in Regulation D, Rule 502(c) does provide examples of general solicitation and general advertising, including advertisements published in newspapers and magazines, communications broadcast over television and radio, and seminars where attendees have been invited by general solicitation or general advertising. The Commission has stated that other uses of publicly available media, such as unrestricted websites, also constitute general solicitation and general advertising.” Id. p.65.

None of these fact patterns applies in this case. Donation programs were not published in newspapers or magazines, no TV or radio ads were made for this purpose, no seminars were organized and the information was not advertised on a public-facing website. The SEC admits as much in its complaint: “Rabalais authored these emails and sent them to mailing lists compiled from individuals who had registered on the NSEI website, previously made payments to NSEI for other programs, and/or previously received CWH shares. The texts of these solicitation emails also were posted publicly on the NSEI website and on the community forum of the ASM website, both of which were accessible to NSEI and ASM members.” (emphasis added) To the extent the Defendant’s act was solicitation for investment purposes, which it was not, they did not blast these programs to the world through a megaphone; they only shared it with a select group of people. In addition, the people that received these e-mails were the very same people that possessed, or had the means to access substantially all material information (via the posted conference calls).

Having pre-existing, substantive relationships matters. In a letter to Citizen VC, the SEC acknowledged as much: “We agree that the quality of the relationship between an issuer (or its agent) and an investor is the most important factor in determining whether a “substantive” relationship exists.”[9] Nor does having an audience of people numbering in the hundreds necessarily imply public solicitation. In Woodtrails – Seattle, Ltd., the SEC Staff determined that Woodtrails did not generally solicit when it proposed to mail a written offer to approximately 330 persons who had previously invested in other limited partnerships sponsored by Woodtrails’ general partner.[10]

CWH and NSEI, and in particular Rabalais, has substantial relationships with a large number of NSEI donors, and knows quite a few of them in person, with some of the relationships going back more than a decade. NSEI programs were not broadcast publicly (though the donors could share it with family and friends); they were intended to be for people that are familiar with the overall project. Therefore, there was no general solicitation of the public and investors could not possibly have been harmed.

The Defendants Are Good Actors That Have Been Through a Long and Costly Journey to Make Sports an Asset Class, and the SEC’s Alter Ego Argument is Meritless

A court may pierce the corporate veil and hold individuals liable if the corporate entity is found to be “the alter ego, alias, stooge, or dummy of the individuals sought to be [held personally liable] and … a device or sham used to disguise wrongs, obscure fraud, or conceal crime.” Cheatle v. Rudd’s Swimming Pool Supply, 360 S.E.2d 828 (1987). However, a corporation is “an entity separate and apart from its officers and stockholders.” Terry v Yancey, 344 F.2d 789 (4th Cir. 1965). “[T]he decision to pierce the corporate veil and expose those behind the corporation to liability is one that is to be taken reluctantly and cautiously.” In re County Green Ltd. P’ship, 604 F.2d 289, 292 (4th Cir.1979). “Disregarding the corporate structure to impose liability on its shareholders or officers … is an extraordinary remedy … undertaken only when necessary to avoid an injustice.” SEC v. Woolf, 835 F. Supp. 2d 111 (E.D. Va. 2011) (internal citations omitted). “Corporate veil should be pierced only reluctantly and cautiously[ ]” and “[i]n extreme circumstances[ ]”). Id.

The SEC simply put forth the allegation of alter ego without bothering with providing any factual support. “Mere labels and conclusory allegations … cannot survive a Rule 12(b)(6) challenge without further factual enhancement.” Id. Despite being provided with all the information, it completely ignored a voluminous record encompassing sixteen years of CWH and eight years of NSEI history respectively. It ignored the fact that CWH has hundreds of shareholders, over 20 registered trademarks, one granted patent, appeared in front of the CFTC and the OSC and tried to engage the SEC itself (on a product-related matter), to no avail. It ignored that NSEI authored multiple amicus briefs, including one to the United States Supreme Court. Finally, the SEC is trying to advance an alter ego theory in possibly the only case of its kind; one where the individual that allegedly is an alter ego has exactly 0% ownership in the corporate entity.

The SEC simply “offers labels and conclusions or a formulaic recitation of the elements of a cause of action” and relies upon ““naked assertion[s]” devoid of “further factual enhancement.”” Ashcroft v. Iqbal, 556 U.S. 662 (2009) (internal citations omitted). The evidence against alter ego is so voluminous, the SEC’s alter ego allegations should be summarily dismissed.

CWH and NSEI are Real Entities with a Substantial Record and Output

One wouldn’t get this impression by just reading the SEC complaint, but CWH and NSEI are real entities that have been around for a while. The trajectory of the business may not have followed that of a hot start-up that ‘makes it’ in a couple years, but that does not turn it into a shell; quite the contrary. A close and honest inspection of the voluminous history of the nearly two decades of the Defendants’ existence shows nothing but pure intentions and the costly journey to execute on a single mission: to make sports an asset class.

CWH develops socially beneficial sports trading instruments that it intends to offer to the investing public in regulated financial markets overseen by the SEC and/or the CFTC in the U.S., the OSC in Canada, and/or similar regulatory bodies in other jurisdictions. The first product CWH is planning to bring to market is ‘SportShares’, which are virtual ‘interests’ or ‘stocks’ that represent specific sports teams that are currently trading, on a limited basis, on the AllSportsMarket (“ASM”) platform. Through the development of SportShares and the ASM platform, CWH has invented the concept of sports investing.

The development of SportShares (though they were not called that at the time) started in Costa Rica by Soluciones Globales Optimas, S.A. (“SGO”), a now-defunct entity domiciled in Costa Rica and predecessor to CWH. Seeking regulatory certainty on the business model, NERA was retained as an economic advisor in 2006, with Sharon-Brown-Hruska, who previously served as the Acting Chairman of the CFTC, leading the team. Alston & Bird was retained as external legal counsel.

Once advised by his external legal counsel that establishing regulatory certainty on SportShares and the ASM platform may be difficult, it became clear to Rabalais that he needed to move the business to the US to be close to the regulators. Subsequently, CWH was formed in early 2007 as a Delaware corporation (and later moved to Wyoming). CWH was intended to be, and still is, a holding company that owns substantially all of CWH’s intangible assets, including but not limited to issued and pending patents, and over 20 registered trademarks.

Concurrently, CWH pivoted to another sports-based financial product, the Sports Risk Index (“SRI”), which was designed to be a proxy for franchise valuation, and also developed SRI futures contracts that traded against the SRI. Effective July 14, 2008, CWH entered into a license agreement with USFE, a now-defunct designated contract market (“DCM”). Under the terms of the license agreement, USFE was going to be responsible for the listing and trading of the SRI futures. Around this time, a comment letter was also submitted to the CFTC by Rabalais.[11]

On October 27, 2008, CWH, its advisors, and USFE jointly made a presentation to the Division of Market Oversight at CFTC to further discuss the proposed SRI futures. Before an application could be submitted by USFE in its capacity as the DCM, USFE ceased operations for financial reasons, leaving CWH in a spiral that lasted close to a decade. It was during that time that the NSEI was formed, product development continued, CWH registered as a Wyoming corporation, and the overall vision and mission were refined. It was also during that time a decision was made to be fully transparent with all stakeholders. As a result, weekly management calls (more than 350 to date) were recorded and posted online for easy access.

During that period, the Defendants made a strategic decision to revive their operations and chose SportShares as their lead product. In 2014, NSEI launched a free version of the ASM platform for educational purposes. Subsequently, in March 2016, NSEI launched a pilot market for SportShares.

Concurrent with the start of the operations of the Pilot Market on March 3, 2016, NSEI filed a no-action relief request with the SEC with a copy to the CFTC. In its request, NSEI stated its desire to work with the regulators toward regulatory certainty and highlighted that the Pilot Market was meant to be a transitory phase toward full regulation. “It is our intent during this phase to collaborate with the SEC and other regulatory agencies, as needed, through a continuous and transparent dialogue to determine the details as to how the proposed sports stocks and the concept of sports investing should ultimately be regulated.”[12] The same statement was posted on the ASM website as well.

44 months and counting, the SEC has not responded to the no-action request, but the sentence cited above found its way to the Court in its complaint, after being conveniently cut at the perfect spot. “collaborate with the SEC and other regulatory agencies, as needed, through a continuous and transparent dialogue …” and “no such collaboration or dialogue has occurred with respect to the issuance of CWH shares.” To the Defendant’s dismay, their only reward for being fully transparent and proactive when most everyone eschewed regulation became an opening for an opportunistic attack. A good-faith effort and an open invitation to collaborating with a regulator, unfortunately, turned into a cherry-picking exercise to desperately prove a point.[13]

NSEI took steps toward establishing regulatory certainty in Canada as well. To that end, external consultants were retained over a multi-yearperiod to educate various Canadian government agencies on the concept of sports investing. On April 12, 2018, a NSEI/CWH delegation, not including Rabalais, had a meeting with various members of the Ontario Securities Commission in Toronto. This delegation included, among others, an independent contractor of NSEI based in Canada, external consultants, and a start-up sports league owner who was considering to raise capital for his league on the ASM platform pending regulatory certainty.

Also missing from the SEC complaint is the fact that CWH attempted to raise money through the Regulation Crowdfunding rules mandated by the Jumpstart Our Business Startups (“JOBS”) Act, twice. As part of the compliance process, various corporate documents (e.g. corporate by-laws) were shared externally with vendors. In one of these cases, the funding portal halted the process, citing the regulatory uncertainty about SportShares, which was, of course, precisely the reason why CWH was trying to raise capital in the first place. Yet again, being transparent about the fact that its products may be subject to regulation and that the Defendants are actually willing to engage in the regulatory process, though certainly being the right approach from a business ethics standpoint, only harmed the business. In part, this uncertainty was exacerbated by the fact that the SEC took no action on NSEI’s no-action request.

In addition to trying its hand with the JOBS Act twice, CWH also worked with an external firm to prepare a private placement prospectus in connection with a section 506(b) offering, and raised a few thousand dollars from certain investors. As part of that effort, CWH maintained a website for investors (www.investincwh.com) that requested more information. This website also contained a password protected database whereby accredited investors have registered and provided their proof of residency and/or proof of accreditation.

Together, these acts demonstrate that CWH never intended to sell securities under the disguise of accepting donations; if that were the intent, CWH would have never taken the significant steps described above in connection with the Regulation Crowdfunding and 506(b) processes. These acts also demonstrate that the registration intent was real, and there was a substantial effort made in an area that is complex for small issuers. The SEC itself is well aware that exempt securities offerings can be complicated. “Smaller companies with more limited resources … may find it particularly difficult to manage this complexity”[14] Having first-hand experience with these challenges, Rabalais also submitted a letter to the SEC commenting on the Concept Release.[15]

From a civic engagement perspective, NSEI, like CWH, has a consistent and productive record. It successfully filed two amicus briefs at the judiciary level, one with the Supreme Court of the United States, and one with the Indiana Supreme Court. A third one was filed with the New York Supreme Court but a settlement in that case prevented it from being formally docketed.

One of NSEI’s objectives is to teach finance through sports and is currently preparing a detailed educational curriculum with the objective of advancing financial literacy. It also partners with students and educational institutions as needed. Earlier in the development process, it posted online 17 short chapters on financial literacy. Because the development of that curriculum relied heavily on unpaid volunteers, however, it fell short of turning into a complete curriculum. Rabalais was concerned with the fact that NSEI was not offering a substantially complete curriculum at the time, and before starting to receive donations of any kind, he has consulted with a non-profit expert. Upon her advice, NSEI implemented a policy, which is still in effect today, whereby 10% of all incoming donations were re-routed to another charity, World Vision. World Vision is a humanitarian aid organization that empowers people out of poverty.[16] World Vision has generous matching and other programs that stretch every dollar donated. Between January 1, 2016 and September 30, 2019, $1,648,270 was contributed to people in poverty through World Vision as a result of NSEI’s efforts, an amount that is already over what the SEC is seeking as a disgorgement. In addition, the donors were fully aware that a part of their donations were being spent for a good cause and the amounts were being reported to them on a weekly basis.

The record of CWH and NSEI is so substantial that it is beyond implausible that they were shell entities created for Rabalais’ alter ego.

Rabalais Did Not, and Will Not Benefit Financially

In a typical alter ego case, entities serve no purpose other than enriching the individual who is hiding behind the corporate veil. See, e.g. Wells Fargo Bank, National Assn. v. Weinberg, 227 Cal. App. 4th 1 (2014) (“Weinberg withdrew $420,981.78 during the corporation’s last 18 months of existence and paid it to himself and family members.”)

The case in front of this Court is at the exact opposite end of the spectrum. Rabalais has not benefited financially. As of November 15, 2019, Rabalais had a net worth of approximately $0.8 million, with a big minus sign before it. If this was an alter ego scheme personally enriching Rabalais, it failed spectacularly.

Another hallmark of alter ego cases is unity of ownership. “The doctrine is generally applied to situations known as ‘one-man corporations,’ i. e., where one man owns practically all of the stock, either directly or through others who hold it for his use and benefit, and where the stockholder uses the corporation as a shield to protect him from debts or wrongdoings.” Dockstader v. Walker, 29 Utah 2d 370, 510 P.2d 526.

Once again, the case in front of this Court is at the exact opposite end of the spectrum; Rabalais owns none of the stock.[17] Even if the struggling business of CWH turns around somehow, and becomes a billion-dollar corporation, the most Rabalais would get is bragging rights. Therefore, there is no plausible pathway for Rabalais to benefit financially in the future.

There cannot be a corporate veil to pierce, if there is nothing to see behind the veil in the first place. The SEC floats the idea of alter ego without showing any evidence whatsoever that Rabalais benefited financially, or might benefit in the future. The SEC knew or should have known about Rabalais’ financial situation , and the fact that he doesn’t have any CWH stock. The SEC’s conclusory allegations have no factual support and are meritless.

The Omissions in SEC’s arguments Are Material and Potentially Defamatory

The omission of substantial information is the omission of truth. In a recent story involving one NBA executive stealing $13.5 million from one NBA team, an Assistant U.S. Attorney is quoted saying: “[A]ny half-truth will be considered a lie. Leaving out pertinent facts will be considered a lie.”[18] The Commission conveniently omits so many critical facts (described in detail, supra) in its brief, its narrative ends up amounting to the creation of a parallel universe that is completely disconnected from reality.

The Commission’s position is not unlike what transpired in a daycare sexual abuse case. Tomblin v. WCHS-TV8, 10-1136 (4th Cir. 2011) (unpublished). In Tomblin, “After WCHS-TV8 in Charleston, West Virginia, broadcast a news report that a four-year-old child was sexually abused at Kim’s Kids Daycare in Barboursville, West Virginia.” Id. The District Court has entered summary judgment in favor of WCHS-TV8’s owner “concluding that the station accurately reported the abuse allegations made by the mother of the child” Id. The Appeals Court reversed, pointing out that the “broadcast omitted the most important exculpatory detail, that the incident involved one four-year-old boy inappropriately touching another four-year-old boy.” Id. (emphasis added) The reporter “chose to air a news report suggesting that an adult abused a child, despite her knowledge that there was no allegation of adult on child abuse” Id.

The SEC unfortunately chooses the same tactic. It paints CWH and NSEI as shell entities, completely ignoring a substantial record that spans two decades, and dangles an alter ego allegation as a naked assertion, ignoring, again, the pertinent facts around Rabalais’ financial situation altogether.

Just like the television reporter in Tomblin, the SEC knew or should have known all of these facts. Rabalais was deposed by the SEC and provided the SEC with 79,150 documents amounting to 19.9 GB of data. CWH and NSEI have also submitted a response to the Wells notice that highlights all the material facts.[19] By doing that, the Defendants have done what they always felt is the highest ethical standard of doing business: full transparency, warts and all. The Defendants understood that “what is required is ‘a picture not simply of the show window, but of the entire store’ . . . not simply truth in the statements volunteered, but disclosure.” SEC v. Capital Gains Research Bureau, Inc., 375 U. S. 180, 186 (1963) The Commission certainly did not return the favor; it instead chose to cherry pick a couple of facts that are convenient to its case, and ignored the rest.

As Tomblin shows us, there is a large distance between recitation of literal facts and the truth. “This rationalization … does not transform a misleading statement into a true statement.” Id. The television station crossed a line, arguably in the interest of getting media attention and so did the Commission. The television station in Tomblin conveniently omitted the most important exculpatory detail, the Commission has omitted many. The SEC’s omissions are material and potentially defamatory; and its naked alter ego assertion is a house of cards that would not withstand even a light breeze of truth.

The Defendants’ Voluntarily Stopped the Alleged Violation, and The Remedy the SEC is Seeking Is Not Equitable

Even if the Court finds that the Defendants sold unregistered securities, the remedy the SEC is seeking is not equitable. The Defendants already stopped the alleged violation and the SEC is trying to enforce an outcome that the Defendants had already self-imposed upon themselves.

The Defendants themselves realized their actions could potentially lead to moral hazard. They stated: “While we genuinely believe that we have not engaged in any illegal security offerings, we understand the power of precedents. We realize that the act of granting company stock through a non-profit could turn into a slippery slope in the hands of bad actors. We understand that non-profits could be formed not for charitable purposes, but to mask securities offerings. The Commission should not allow that to happen. We believe in ‘do no harm’, and if our actions are going to open a door that should stay closed, we want to be the first ones to close it. As of April 30, 2019, we essentially self-imposed a cease-and-desist on the alleged violation.”[20]

The mere potential of a slippery slope should not impact the outcome of this case; and the Court should rule on the basis of existing law, not on hypotheticals. That said, the fact that the Defendants stopped the alleged violation is a voluntary act that matters. It is yet another example of Defendants zagging, when the rest of the world is zigging.

The SEC itself gives weight to it. “The Commission assesses the societal interest in holding the cooperating individual fully accountable for his or her misconduct by considering … the degree to which the individual tolerated illegal activity including, but not limited to, whether he or she took steps to prevent violations from occurring or continuing…” SEC Enforcement Manual (November 28, 2017) p. 97. “The Commission assesses whether, how much, and in what manner it is in the public interest to award credit for cooperation, in part, based upon the cooperating individual’s personal and professional profile by considering … the degree to which the individual has demonstrated an acceptance of responsibility for his or her past misconduct.” Id. The Defendants have done what any law-abiding citizens would do; they stopped the conduct, committed to never doing it again, and informed the SEC of such.

Preventing future violations has always been the main objective of the SEC, but historically, it was even more than that. In its early existence, it was the only remedy available to the Commission. “Initially, the only statutory remedy available to the SEC in an enforcement action was an injunction barring future violations of securities laws. Kokesh v. SEC, 137 S. Ct. 1635 (2017). “Beginning in the 1970’s, courts ordered disgorgement in SEC enforcement proceedings in order to “deprive . . . defendants of their profits in order to remove any monetary reward for violating” securities laws and to “protect the investing public by providing an effective deterrent to future violations.”” Id. However, there is no need to deter future violations in this case, because the Defendants had already stopped the alleged violation.

The Commission ignores this good-faith effort by the Defendants, instead turning the last date of the alleged violation, April 30, 2019, into a bookend to the time period under which they bring the allegations. They add insult to the injury by stating “Unless restrained and enjoined, Defendants are reasonably likely to continue to violate the federal securities laws.” That is pure speculation that has no basis whatsoever. The Commission knew the Defendants stopped the alleged violation; and the mere fact that they completely ignored it and decided to still speculate on Defendant’s future actions is unfortunate. The Court should give no weight to this baseless speculation.

As mentioned, supra, the Defendants believe the SEC is worried about precedents and does not want this case potential to turn into a “back door” for bad-intentioned people that want to avoid the framework of securities offerings. If that is the SEC’s concern, the Defendants fully agree; that would indeed be an undesirable outcome for society. In fact, the Defendants not only stopped the alleged violation, but they already committed to not offering company stock in the NSEI donation drives in the future, regardless of this Court’s decision (and are willing to formally commit to that in whatever form the Court or the Commission deems necessary). The Defendants believe their commitment would address the most pressing concern the SEC has, arguably one of the important factors why this case is in front of the Court.

The Defendants and the shareholders of CWH, on the other hand, would simply like to survive and keep fighting the good fight. Closing a loophole, if one exists, does not necessitate to crush the Defendants out of existence after almost 20 years of sweat equity and dedication to a great cause.

From a stakeholder’s perspective, a ruling that leads to the demise of the company is absolutely the worst outcome. For the donors that didn’t solely donate with the intention of making an investment in CWH (92% didn’t), they lose a valuable channel to contribute to the greater good. The donors that engaged in the transaction with the intention to make an investment would not fare any better; they are neither recovering their investment today (the “ill-gotten gains” are not sitting in an off-shore bank account after all, but at least some of it did go outside of the US, namely Africa via donations to WorldVision), nor would there be any hope for them to recover their investment in the future. This cannot be the cost of giving the SEC what it wants, especially when the Defendants believe that they have done that already.

An equitable solution is to allow the Defendants to live another day so they can continue to channel their grit and dedication into a solid business that will create thousands of jobs; and into education to advance financial literacy; and to not deny the shareholders a genuine opportunity to recover their investment.

Conclusion

For all the foregoing reasons, Defendants respectfully ask this Court to dismiss the SEC’s Complaint, or in the alternative, grant summary judgment in favor of the Defendants.

Respectfully submitted,

_______________________

Christopher Paul Rabalais, Pro Se

833 N. Garfield Avenue

Pasadena, CA 91104

_______________________

Crystal World Holdings, Inc.

1701 Pennsylvania Ave NW Ste. 300

Washington, DC 20006

_______________________

The New Sports Economy Institute

833 N. Garfield Avenue

Pasadena, CA 91104

Defendants



CERTIFICATE OF SERVICE

This is to certify that a copy of Defendant’s Motion to Dismiss, or, In the Alternative, Motion for Summary Judgment has been sent by overnight delivery this ________ day of November 2019 to:

Patrick R. Costello

Attorney for Plaintiff, Securities & Exchange Commission

100 F Street, N.E.

Washington, D.C. 20549-5949

Phone: (202) 551-3982

____________________________________

Christopher Paul Rabalais, Defendant, Pro Se



[1] https://www.npr.org/sections/money/2019/11/12/778326512/charitable-giving-is-down-it-might-be-time-to-reform-the-charitable-deduction. Accessed November 17, 2019.

[2] Id.

[3] https://www.irs.gov/charities-non-profits/charitable-organizations/charitable-contributions-quid-pro-quo-contributions. Accessed November 17, 2019.

[4] https://www.investopedia.com/terms/r/revealed-preference.asp. Accessed November 26, 2019.

[5] The Role of the SEC, SEC website. https://www.investor.gov/introduction-investing/basics/role-sec. Accessed November 17, 2019.

[6] Framework for “Investment Contract” Analysis of Digital Assets. Available at https://www.sec.gov/corpfin/framework-investment-contract-analysis-digital-assets. Accessed November 26, 2019.

[7] https://www.sec.gov/news/press-release/2019-202. Accessed November 26, 2019.

[8] https://www.sec.gov/rules/concept/2019/33-10649.pdf. Accessed on November 26, 2019.

[9] Response of the Office of Chief Counsel Division of Corporation Finance (dated August 6, 2015), re: Citizen VC, Inc. Incoming letter dated August 3, 2015. Available at https://www.sec.gov/divisions/corpfin/cf-noaction/2015/citizen-vc-inc-080615-502.htm. Accessed November 26, 2019.

[10] https://media2.mofo.com/documents/160600practicepointersgeneralsolicitation.pdf.

[11] Available at http://www.cftc.gov/idc/groups/public/@lrfederalregister/documents/frcomment/08-004c023.pdf Accessed on November 27, 2019.

[12] NSEI No Action Relief request, dated March 3, 2016.

[13] In addition, the fact that NSEI submitted a no-action relief request to the SEC was, in the interest of full disclosure to all stakeholders, being prominently displayed on the ASM website. In or around June 2018, the SEC asked Rabalais to remove the statement from the ASM website, and Rabalais complied.

[14] SEC’s Concept Release on Harmonization of Securities Offering, p.6.

[15] https://www.sec.gov/comments/s7-08-19/s70819-6193339-192500.pdf. Accessed on November 27, 2019.

[16] https://www.worldvision.org/ Accessed on November 27, 2019.

[17] Rabalais’ various family members, including his two kids own some small amounts (collectively, less than 6% of the outstanding stock).

[18] https://www.espn.com/nba/story/_/id/28078881/how-nba-executive-jeff-david-stole-13-million-sacramento-kings. Accessed November 24, 2019.

[19] Wells Submission of Crystal World Holdings, Inc. and the New Sports Economy Institute, submitted to the SEC on June 7, 2019. Available at https://www.thenewsportseconomy.com/wp-content/uploads/2019/08/Wells-Submission-6.7.19.pdf.

[20] Id., p. 4.

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