Case 4:16-cv-00246-ALM Document 44 Filed 11/04/16 Page 1 of 35 PageID #: 542

IN THE UNITED STATES DISTRICT COURT
EASTERN DISTRICT OF TEXAS
SHERMAN DIVISION
:
SECURITIES AND EXCHANGE
COMMISSION,
Plaintiff,
v.

:
:
:
Civ. Action No. 4:16-cv-00246

WILLIAM E. MAPP, III,
WARREN K. PAXTON, JR.,
CALEB J. WHITE, and
SERVERGY, INC.,

:
ORAL ARGUMENT REQUESTED
:
Defendants.

:
:

DEFENDANT WARREN K. PAXTON, JR.’S MOTION TO DISMISS
UNDER FEDERAL RULES OF CIVIL PROCEDURE 12(b)(6) AND 9(b)
AND MEMORANDUM OF LAW IN SUPPORT THEREOF
_________________________________________________
William B. Mateja
Texas Bar No. 13185350
Polsinelli PC
2950 N. Harwood
Suite 2100
Dallas, TX 75201
Tel: (214) 754-5751
Fax: (214) 397-0033
Mateja@polsinelli.com

J. Mitchell Little
Texas Bar No. 24043788
Scheef & Stone, LLP
2600 Network Blvd., Ste. 400
Frisco, TX 75034
Tel: (214) 472-2140
Fax: (214) 472-2150
Mitch.Little@solidcounsel.com

Matthew T. Martens (pro hac vice)
(Lead Counsel)
Jaclyn N. Moyer (pro hac vice)
Alyssa DaCunha (pro hac vice)
Kevin Gallagher (pro hac vice)
Wilmer Cutler Pickering Hale and Dorr LLP
1875 Pennsylvania Avenue, NW
Washington, DC 20006
Tel: (202) 663-6000
Fax: (202) 663-6363
Matthew.Martens@wilmerhale.com

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TABLE OF CONTENTS
Page
TABLE OF AUTHORITIES .......................................................................................................... ii
MOTION TO DISMISS…………………………………………………………………………..1
STATEMENT OF THE ISSUES PRESENTED .............................................................................1
INTRODUCTION ...........................................................................................................................2
BACKGROUND .............................................................................................................................4
ARGUMENT ...................................................................................................................................9
I.

The Federal Rules of Civil Procedure Require the Court to Screen Out Legally
Meritless Claims—Especially Fraud Claims—at the Pleading Stage .................................9

II.

The SEC’s Fraud Claims Are Still Legally Insufficient ....................................................10
A.

The SEC Again Has Not Pled Any Misstatements By Mr. Paxton .......................11

B.

The SEC Still Has Not Pled Facts Giving Rise to a Duty to Disclose...................13

C.

1.

The SEC Still Has Not Identified a Statement Mr. Paxton Made
About His Compensation That Was a Half-Truth .....................................14

2.

Because the SEC Still Has Not Adequately Pled a Section 17(b)
Violation, That Statute Does Not Create a Duty to Disclose .....................15

3.

No New Allegation in the Amended Complaint Gives Rise to a
Fiduciary Duty to Disclose ........................................................................15

The SEC Has Still Not Pled a Duty to Disclose Under a Scheme Liability
Theory ....................................................................................................................24

III.

The Amended Complaint Does Not Allege That Mr. Paxton Was Compensated
for Publishing or Circulating Any Communication, As Required by Section 17(b)
and This Court’s Order ......................................................................................................25

IV.

The Amended Complaint Does Nothing to Remedy Its Deficient Unregistered
Broker Allegations .............................................................................................................26

CONCLUSION ..............................................................................................................................28

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TABLE OF AUTHORITIES
Page(s)
CASES
Arst v. Stifel, Nicolaus & Co., Inc., 86 F.3d 973 (10th Cir. 1996).................................................12
Ashcroft v. Iqbal, 556 U.S. 662 (2009) ......................................................................................9, 12
Basic Inc. v. Levinson, 485 U.S. 224 (1988)..................................................................................13
Bass v. Stryker Corp., 669 F.3d 501 (5th Cir. 2012) .......................................................................4
Bell Atl. Corp. v. Twombly, 550 U.S. 544 (2007) ............................................................................9
Carlucci v. Han, 886 F. Supp. 2d 497 (E.D. Va. 2012) .................................................................11
Carpenter v. United States, 484 U.S. 19 (1987) ............................................................................19
Carroll v. Fort James Corp., 470 F.3d 1171 (5th Cir. 2006) ........................................................10
Cent. Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 511 U.S. 164
(1994) .................................................................................................................................13
Chiarella v. United States, 445 U.S. 222 (1980) .........................................................13, 14, 16, 24
Covarrubias v. Dukes, No. 1:14-CV-379-LY, 2015 WL 2151835 (W.D. Tex. May
7, 2015) ........................................................................................................................22, 23
Dirks v. SEC, 463 U.S. 646 (1983) ................................................................................................14
Fernandez-Montes v. Allied Pilots Ass’n, 987 F.2d 278 (5th Cir. 1993) .......................................12
Herrmann Holdings Ltd. v. Lucent Techs. Inc., 302 F.3d 552 (5th Cir. 2002) ..............................10
In re Enron Corp. Sec., Derivative & ERISA Litig., 586 F. Supp. 2d 732 (S.D.
Tex. 2008) ..........................................................................................................................24
In re Enron Corp. Sec., Derivative & ERISA Litig., 610 F. Supp. 2d 600 (S.D.
Tex. 2009) ................................................................................................................3, 19, 21
In re Sanofi-Aventis Sec. Litig., 774 F. Supp. 2d 549 (S.D.N.Y. 2011) ........................................11
Ind. Elec. Workers’ Pension Trust Fund IBEW v. Shaw Grp., Inc., 537 F.3d 527
(5th Cir. 2008)....................................................................................................................13
Kadlec Med. Ctr. v. Lakeview Anesthesia Assocs., No. CIV.A. 04-0997, 2005 WL
1309153 (E.D. La. May 19, 2005) .....................................................................................17

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Kasten v. Saint-Gobain Performance Plastics Corp., 563 U.S. 1 (2011)......................................17
Leocal v. Ashcroft, 543 U.S. 1 (2004)............................................................................................18
Marini v. Adamo, 995 F. Supp. 2d 155 (E.D.N.Y. 2014) ..............................................................11
Matrixx Initiatives, Inc. v. Siracusano, 563 U.S. 27 (2011) ..........................................................13
McNamara v. Bre-X Minerals Ltd., 57 F. Supp. 2d 396 (E.D. Tex. 1999)....................................14
Regents of the Univ. of Cal. v. Credit Suisse First Bos. (USA) Inc., 482 F.3d 372
(5th Cir. 2007)..............................................................................................................13, 24
SEC v. Kirch, 263 F. Supp. 2d 1144 (N.D. Ill. 2003) ....................................................................15
SEC v. Kornman, 391 F. Supp. 2d 477 (N.D. Tex. 2005) ..................................................... passim
SEC v. Spinosa, 31 F. Supp. 3d 1371, 1375-76 (S.D. Fla. 2014) ..................................................11
SEC v. St. Anselm Exploration Co., 936 F. Supp. 2d 1281 (D. Colo. 2013) .................................25
SEC v. Tambone, 597 F.3d 436 (1st Cir. 2010) (en banc) .............................................................12
Southland Sec. Corp. v. INSpire Ins. Solutions, Inc., 365 F.3d 353 (5th Cir. 2004) .....................10
Stratte-McClure v. Morgan Stanley, 776 F.3d 94 (2d Cir. 2015) ..................................................15
Town North Bank, N.A. v. Shay Fin. Servs., Inc., No. 3:11-CV-3125-L, 2014 WL
4851558 (N.D. Tex. Sept. 30, 2014) ......................................................................12, 18, 22
United States ex rel. Williams v. Bell Helicopter Textron, Inc., 417 F.3d 450 (5th
Cir. 2005) ...........................................................................................................................10
United States v. Bustillos-Pena, 612 F.3d 863 (5th Cir. 2010) ......................................................17
United States v. Chestman, 947 F.2d 551 (2d Cir. 1991) (en banc) ...................................... passim
United States v. Kim, 184 F. Supp. 2d 1006 (N.D. Cal. 2002) ......................................................18
United States v. Orellana, 405 F.3d 360 (5th Cir. 2007) ...............................................................18
United States v. Schiff, 602 F.3d 152 (3d Cir. 2010) .....................................................................17
United States v. Skelly, 442 F.3d 94 (2d Cir. 2006) .......................................................................17
United States v. Whitman, 904 F. Supp. 2d 363 (S.D.N.Y. 2012) .................................................21
Welk v. Simpkins, 402 F. App’x 15 (5th Cir. 2010) .......................................................................18

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STATUTES, RULES, AND REGULATIONS
17 C.F.R. § 240.10b-5............................................................................................................ passim
17 C.F.R. § 275.203A-3 .................................................................................................................27
15 U.S.C. § 77q ...................................................................................................................... passim
15 U.S.C. § 77x ..............................................................................................................................17
15 U.S.C. § 78c ..............................................................................................................................27
15 U.S.C. § 78j...............................................................................................................1, 10, 13, 24
15 U.S.C. § 78ff .............................................................................................................................17
15 U.S.C. § 78o ..................................................................................................................1, 3, 4, 26
15 U.S.C. § 80b-2 ..........................................................................................................................27
Federal Rule of Civil Procedure 9(b) ...................................................................................9, 10, 11
Federal Rule of Civil Procedure 12(b)(6) ....................................................................................1, 9
Federal Rule of Civil Procedure 15 .................................................................................................8
Tex. Bus. Org. Code § 5.201(b)(2)(A).............................................................................................6
Tex. Bus. Org. Code § 5.206(a) .......................................................................................................6

OTHER AUTHORITIES
37 Am. Jur. 2d Fraud & Deceit § 37 ........................................................................................18, 22

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MOTION TO DISMISS
Warren K. Paxton, Jr. moves to dismiss the First Amended Complaint (“Amended
Complaint”) pursuant to Federal Rules of Civil Procedure 12(b)(6) and 9(b). The U.S. Securities
and Exchange Commission (“SEC” or “Commission”) alleges that Mr. Paxton engaged in fraud,
in violation of Section 10(b) of the Securities Exchange Act of 1934 (“Exchange Act”) and Rule
10b-5 thereunder, and Section 17(a) of the Securities Act of 1933 (“Securities Act”); touted
securities in return for undisclosed compensation from the issuer, in violation of Section 17(b) of
the Securities Act; and acted as a securities broker without registering with the Commission, in
violation of Section 15(a) of the Exchange Act. The Amended Complaint does not allege facts
sufficient to overcome the deficiencies identified in the Court’s prior Memorandum Opinion and
Order conditionally granting Mr. Paxton’s motion to dismiss the SEC’s original Complaint
(“Order”). Accordingly, the Amended Complaint should be dismissed with prejudice.
STATEMENT OF THE ISSUES PRESENTED
1.

Whether the SEC has pled with particularity a duty to disclose on the part of Mr. Paxton,

as required to state a fraudulent omission claim under Section 10(b) of the Exchange Act and
Rule 10b-5 thereunder, and Section 17(a) of the Securities Act.
2.

Whether the SEC has alleged the receipt of compensation in return for publishing a

communication covered by Section 17(b) of the Securities Act.
3.

Whether the SEC has alleged any facts suggesting that Mr. Paxton was in the business of

effecting securities transactions for the account of others so as to be a “broker” required to
register with the Commission under Section 15(a) of the Exchange Act.

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INTRODUCTION
This is a case still in search of a plausible theory of a duty to disclose.
In April 2016, after nearly three years of investigation, the SEC filed a securities fraud
case against Mr. Paxton based on his alleged failure to disclose a sales commission arrangement
with regard to a company known as Servergy. This Court concluded that the Commission’s
fraud-by-omission theory lacked any basis in law, but afforded the SEC the opportunity to plead
any additional facts that it might have.
With the Commission’s case hanging by a thread, one of the SEC’s witnesses (“Investor
1”) has stepped forward now claiming that there was some “express policy” among members of
an investment group to whom Mr. Paxton promoted the Servergy investment—not that they
would disclose any compensation arrangements to each other, but merely that they would not
“benefit” off of one another’s investments. Amended Compl. ¶ 78. At this stage, both Mr.
Paxton and the Court must assume that this belated allegation is true. But this newly-minted
allegation does nothing to rescue the SEC’s case from its still-fundamental flaw—namely, the
absence of any legally cognizable duty to disclose.
First, the Amended Complaint does not allege facts sufficient to transform a “policy,”
express or otherwise, among members of an investment group into a legally enforceable
fiduciary duty to disclose on the part of Mr. Paxton. “At the heart of the fiduciary relationship
lies reliance, and de facto control and dominance.” United States v. Chestman, 947 F.2d 551,
568 (2d Cir. 1991) (en banc) (citation omitted); SEC v. Kornman, 391 F. Supp. 2d 477, 488
(N.D. Tex. 2005) (same). A fiduciary duty does not arise from mere subjective trust in another
person, but rather from entrusting another with control of one’s money, property, or affairs. See
Chestman, 947 F.2d at 569 (holding that a fiduciary relationship exists when “the beneficiary of
the relation . . . entrust[s] the fiduciary with custody over property of one sort or another”);
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Kornman, 391 F. Supp. 2d at 487 (same). An “express policy” among members of an investment
group is not a talisman that can alone give rise to a fiduciary duty in the absence of allegations of
reliance, dominance, or control. As this Court observed, the original Complaint contained no
such allegations, Order at 12, and the Amended Complaint does nothing to cure that flaw. To the
contrary, the Amended Complaint now makes clear that the investment group existed for decades
before any involvement by Mr. Paxton.
Second, while the Amended Complaint alleges that Mr. Paxton was “told” by Investor 1
of the investment group’s “policy,” there is no allegation that Mr. Paxton agreed to abide by
what he was told about the group, much less that he agreed to disclose anything to its members.
The absence of an alleged agreement is alone fatal to the SEC’s fraud claim, as a fiduciary duty
giving rise to a duty to disclose “cannot be imposed unilaterally.” See Chestman, 947 F.2d at
567; Kornman, 391 F. Supp. 2d at 490 (same); see also In re Enron Corp. Sec., Derivative &
ERISA Litig., 610 F. Supp. 2d 600, 649 (S.D. Tex. 2009) (holding that “unilateral expectations
. . . do not give rise to . . . a duty to disclose”).
With respect to the other claims asserted against Mr. Paxton—that he disseminated
communications in violation of Section 17(b), and that he acted as an unregistered broker in
violation of Section 15(a)—the Amended Complaint asserts no new allegations to remedy the
deficiencies this Court noted in its Order.

As with the original Complaint, the Amended

Complaint still fails to identify any emails or other recorded communications distributed by Mr.
Paxton for compensation, as required to state a violation of Section 17(b). And the Amended
Complaint makes no effort to allege that Mr. Paxton was engaged in the business of effecting
securities transactions or that he did so for the accounts of others, as this Court held is required to

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state a claim under the plain language of Section 15(a). Accordingly, those claims should be
dismissed as well.
In sum, even were all of the allegations in the newly-amended complaint true—and they
are not—none of that would cure the fundamental defect still remaining in the SEC’s case,
namely that it has not alleged sufficient facts to support its theory that Mr. Paxton had a legal
duty to disclose any sales commission arrangement. Given that this flaw in the SEC’s theory of
the case persists notwithstanding the second opportunity the Commission had to plead its case,
Mr. Paxton should not be subjected to onerous discovery parsing through the minutia of the
Amended Complaint when its allegations, even if ultimately proven, do not make out the duty to
disclose requisite to state a securities fraud claim. The Commission to date has been unable to
cite a single example where a court has recognized such a disclosure duty. That is not a
coincidence. Mr. Paxton’s case should not be used to manufacture such a duty ex post facto.
The Court should again dismiss the Commission’s complaint, this time with prejudice.
BACKGROUND1
For the most part, the Amended Complaint simply repeats in more verbose form the
legally insufficient allegations of the original Complaint.

Despite the added length, the

Amended Complaint still fails to allege a single false statement by Mr. Paxton. And as for the
fraud-by-omission theory, the Amended Complaint offers only one new allegation—the
supposed “express policy”—that merits discussion.
A.

Investment Group

The centerpiece of the SEC’s original Complaint was the allegation that Mr. Paxton was
a member of an “investment group” with Investors 1 and 2 and that, “[b]ased on prior dealings in
1

For purposes of this motion, Mr. Paxton is required to accept as true any of the
Commission’s well-pleaded allegations. See Bass v. Stryker Corp., 669 F.3d 501, 506 (5th Cir.
2012).
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the group, members trusted each other to consider the interests of the group as a whole.” Compl.
¶¶ 78, 81. The Amended Complaint elaborates that, for twenty-five years, the investment group
consisted of Investors 1, 2, 3, and 4, Amended Compl. ¶ 77, and that, more recently, Mr. Paxton
“participate[d] in investments with the investment group,” id. ¶ 78.2
The primary new allegation of the Amended Complaint is that, at some point, Investor 1
had an “explicit expectation[]” that Mr. Paxton would disclose any compensation arrangements
to the investment group. Id. ¶ 74. According to the Amended Complaint, Investor 1 “expressly
told” Mr. Paxton of the group’s “established policy” “that members participating in an
investment deal take the same risk and receive the same benefit; that the member who introduces
an investment opportunity typically acts as point person for that opportunity going forward; and
that no one member makes money or otherwise benefits off of the investment of another
member.” Id. ¶¶ 77, 78. This allegation appeared nowhere in the original Complaint, nor was it
even alluded to in the SEC’s briefing on the Motion to Dismiss.
The Amended Complaint puts no date on when Mr. Paxton was purportedly “told” all
this. See id. Nor, more importantly, does the Amended Complaint allege that Mr. Paxton agreed
to what Investor 1 “told” him. See id. ¶ 78. And, as with the original Complaint, the Amended
Complaint makes no allegation that Mr. Paxton had control of or dominance over the investment
group (a group that, according to the Amended Complaint, existed for decades without him),

2

The original Complaint alleged that Mr. Paxton was a member of the investment group.
Compl. ¶ 78. The Amended Complaint has stricken the paragraph containing that allegation.
See Notice of Filing of First Amended Complaint, No. 4:16-cv-00246-ALM, ECF No. 41 (Oct.
21, 2016), at 26 (providing a redline of Amended Complaint and original Complaint and
showing Paragraph 78 of the original Complaint as struck). As a result, it is unclear whether the
SEC now contends that Mr. Paxton was a member of the investment group or whether, instead,
he merely “participate[d] in investments with the investment group.” See Amended Compl.
¶¶ 78, 79. In any event, as discussed below, the Commission has not alleged that Mr. Paxton
assumed a fiduciary duty to anyone, whether he was a member of the alleged investment group
or not.
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much less with regard to any member’s investment decisions, as this Court previously held was
needed to make out a fiduciary duty to disclose. Order at 12 (“The Commission does not allege
that Paxton had any sort of control or dominance over his investment club members.”).
The Amended Complaint also alleges that, at various points in the past, Mr. Paxton
provided legal services to Investor 1. Amended Compl. ¶ 78. And the Amended Complaint
alleges that on a prior, unidentified occasion Mr. Paxton “provide[d] legal services” (to whom,
the Amended Complaint never explains) in exchange for shares of an investment. Id. ¶ 80. At
the hearing on the Motion to Dismiss, counsel for the SEC conceded in response to a question
from the Court that the Commission was not contending that Mr. Paxton was “recruiting current
law firm clients in his capacity as their attorney,” Order at 2 n.1, and acknowledged that “if
we’re going to hang our hat on that fiduciary duty [as an attorney] then we’re far beyond what I
view as the heartland of the case,” Motion to Dismiss Hearing Transcript (“MTD Tr.”), No.
4:16-cv-00246-ALM, ECF No. 37 (Sept. 2, 2016), at 60. The Amended Complaint still contains
no allegation that Mr. Paxton was providing any legal services to Investor 1, the investment
group, or any member thereof at the time of the Servergy investments. See Amended Compl. ¶
81.3
B.

S3 Group

The Amended Complaint also alleges for the first time that Mr. Paxton “participated in
investment opportunities” with the “‘S3 Group,’ including people who were long-time legal
3

The SEC repeats the assertion it made at oral argument that Mr. Paxton served as
registered agent for certain of Investor 1’s entities. Amended Compl. ¶ 81. A registered agent is
a ministerial role that does not entail the provision of legal services and gives rise to no fiduciary
duties. See Tex. Bus. Org. Code § 5.206(a) (specifying the “only” duties of a registered agent
are to receive process and provide notice). There is no requirement in Texas law that a registered
agent even be an attorney. See id. § 5.201(b)(2)(A) (noting that the only requirements for an
individual to serve as a registered agent are that the individual “is a resident of [Texas]” and “has
consented in a written or electronic form to be developed by the office of the secretary of state to
serve as the registered agent of the entity”).
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clients of his.” Amended Compl. ¶ 83. The Amended Complaint alleges that Mr. Paxton
“solicited S3 Group members for whom he was at the time also performing legal services and
with whom he was co-investing.” Id. ¶ 101. The Amended Complaint fails to identify the date,
or even a month, when these group members were purportedly solicited. See id. While the
Amended Complaint alleges that S3 Group members were solicited by Mr. Paxton “at the time”
he was performing legal services, id., it does not allege that they were solicited by Mr. Paxton in
his capacity as their attorney, id.; see also Order at 2 n.1 (“At oral argument, the Commission
clarified that Paxton was not recruiting current law firm clients in his capacity as their
attorney.”). Most importantly, the Amended Complaint does not allege that any of the S3 Group
members solicited by Mr. Paxton deemed the alleged failure to disclose the compensation
arrangement material. See Amended Compl. ¶¶ 83, 101.
C.

Miscellaneous Prospective Investors

Finally, the Amended Complaint alleges that Mr. Paxton “solicited new acquaintances
and contacts.” Amended Compl. ¶¶ 102-04, 109-10, 114-17. The Amended Complaint provides
little, if any, detail about these people. It identifies no false statements made to them by Mr.
Paxton and it fails entirely to explain the basis for any alleged disclosure duty to them. See id.
Nor does the Amended Complaint allege that any failure to disclose the supposed compensation
arrangement was material to any of these prospective investors. See id.
The Amended Complaint reiterates the allegations from the original Complaint that on
some unidentified date Mr. Paxton told unspecified “prospective investors” that Servergy was a
“great company” and an “interesting opportunity,” id. ¶ 90—statements that this Court has
already deemed inactionable puffery, Order at 8-9. The Amended Complaint also contends that
Mr. Paxton conducted no due diligence on Servergy, Amended Compl. ¶¶ 90, 91, an allegation
that this Court previously deemed irrelevant, holding that Mr. Paxton had no due diligence
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obligation, Order at 19 (“[C]ourts have held that failure to conduct due diligence on a promoted
stock does not give rise to liability.”).
The Amended Complaint further reiterates the allegations concerning the July 23, 2011
email Mr. Paxton forwarded to a prospective investor. See Amended Compl. ¶ 103. But, as with
the initial Complaint, the Amended Complaint does “not allege Paxton was ever paid—or ever
would be paid—for sending the email.” Order at 19. The SEC adds allegations about two other
emails Mr. Paxton allegedly sent inviting prospective investors to a Servergy webinar. See
Amended Compl. ¶¶ 114, 115. But there is likewise no allegation that these recipients invested
in Servergy and thus no allegation that Mr. Paxton was ever or would ever be compensated for
sending those invitations. See id.
D.

Post-Investment Activities

In its Order conditionally granting Mr. Paxton’s Motion to Dismiss, the Court observed
that the SEC’s request for leave to amend failed to conform to the requirements of Federal Rule
of Civil Procedure 15. Order at 29. Nevertheless, the Court granted the SEC leave to “amend its
allegations against Paxton to the extent that it has additional facts.” Id. (emphasis added).
Nowhere did the Court permit the SEC to strike allegations it now finds inconvenient. See id.
Contrary to the Court’s Order, the SEC has now stricken the allegation from its original
Complaint that Mr. Paxton “did not know whether any of Servergy’s claims were true.” Compl.
¶ 79. At the same time, the SEC does not allege that Mr. Paxton actually knew that any of Mr.
Mapp’s claims were untrue. Instead, the Commission alleges that Mr. Paxton coordinated with
Mr. Mapp to “lull investors,” despite Mr. Paxton’s unawareness of any falsehoods by Mr. Mapp.
See Amended Compl. ¶¶ 119-23.

But the supposed “lulling” activity that the Amended

Complaint describes amounts to nothing more than Mr. Paxton’s arranging meetings between

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Mr. Mapp and Servergy investors so that Mr. Mapp could address concerns and questions those
investors had. See id.
Finally, in an effort to discredit Mr. Paxton, the SEC recites supposed inconsistencies in
the manner in which he reported his receipt of Servergy shares years after the relevant events at
issue. See id. ¶¶ 124-33. These inconsistencies are more apparent than real, and will be easily
explained if further litigation is necessary. Mr. Paxton’s tax returns and disclosure forms were
and are accurate, and the Amended Complaint distorts his investigative testimony. In any event,
even accepting the allegations as true at this stage, none of them has any bearing on the only
question before the Court—namely, whether the SEC has alleged a plausible duty to disclose.
See Order at 10 (“[T]he issue in this case is determining whether a duty existed.”).
ARGUMENT
I.

The Federal Rules of Civil Procedure Require the Court to Screen Out Legally
Meritless Claims—Especially Fraud Claims—at the Pleading Stage
As this Court previously observed, in order “[t]o survive a motion to dismiss, a complaint

must contain sufficient factual matter, accepted as true, to ‘state a claim to relief that is plausible
on its face.’” Order at 4 (quoting Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009)). In deciding a
motion to dismiss under Federal Rule of Civil Procedure 12(b)(6), “[f]actual allegations must be
enough to raise a right to relief above the speculative level.” Id. (quoting Bell Atl. Corp. v.
Twombly, 550 U.S. 544, 555 (2007)). “[W]hen the allegations in a complaint . . . [can]not raise a
claim of entitlement to relief, this basic deficiency should . . . be exposed at the point of
minimum expenditure of time and money by the parties and the court.” Twombly, 550 U.S. at
558 (internal quotation marks omitted).
In addition, “Federal Rule of Civil Procedure 9(b) . . . requires the plaintiffs in securities
fraud causes to plead with particularity the circumstances constituting the alleged fraud.”
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Southland Sec. Corp. v. INSpire Ins. Solutions, Inc., 365 F.3d 353, 362 (5th Cir. 2004). In order
to satisfy Rule 9(b)’s pleading requirements, a plaintiff “must ‘specify the statements contended
to be fraudulent, identify the speaker, state when and where the statements were made, and
explain why the statements were fraudulent.’” Order at 6 (quoting Herrmann Holdings Ltd. v.
Lucent Techs. Inc., 302 F.3d 552, 564-65 (5th Cir. 2002)). Put simply, “Rule 9(b)’s particularity
requirement generally means the pleader must set forth the ‘who, what, when, where, and how’
of the fraud alleged.” Id. (quoting United States ex rel. Williams v. Bell Helicopter Textron, Inc.,
417 F.3d 450, 453 (5th Cir. 2005)).
II.

The SEC’s Fraud Claims Are Still Legally Insufficient
As this Court observed, the “central issue” in this case is whether, under the federal

securities laws, Mr. Paxton had a duty to disclose his alleged compensation arrangement. Order
at 7. Although the Amended Complaint repeats the puffery statements that this Court has
already deemed legally insufficient to state a fraud claim, the crux of the SEC’s case against Mr.
Paxton is the claim that he did not disclose his alleged compensation arrangement to prospective
Servergy investors. But neither Section 10(b) nor Section 17(a) “create an affirmative duty to
disclose any and all material information.” Id. at 11. “Even if the information is material, there
is no liability . . . unless there was a duty to disclose.” Id.
Thus, “to survive this motion to dismiss, the Commission must have pleaded with
particularity facts sufficient to show that [Mr.] Paxton had a duty to speak.” Order at 11; see
also Carroll v. Fort James Corp., 470 F.3d 1171, 1174 (5th Cir. 2006) (affirming dismissal of
fraudulent omissions case that only “offered conclusory allegations that such a duty [of
disclosure] existed”). In particular, the SEC must plead “facts sufficient to support a fiduciary
relationship” as well as a “specific duty under the alleged relationship.” Order at 13. The
Amended Complaint does neither.
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A.

The SEC Again Has Not Pled Any Misstatements By Mr. Paxton

In its ruling on Mr. Paxton’s first Motion to Dismiss, the Court held that the alleged
statements by Mr. Paxton referring to Servergy as a “great company,” a “great investment,” and
an “interesting investment opportunity” were “puffing statements [that] are immaterial as a
matter of law and cannot support a securities fraud action.”

Order at 9.

The Amended

Complaint simply repeats those allegations4 and then adds argument that these puffery
statements “implied that [Mr. Paxton] had undertaken some level of diligence.” Amended
Compl. ¶ 90. As an initial matter, the Amended Complaint still fails to plead with particularity
the prospective investors to whom these statements were allegedly made, when the statements
were made, and where (in oral or written form) they were made. For this reason alone, these
alleged statements cannot sustain a fraud claim. See Order at 6 (holding that Rule 9(b) requires
the complaint to set forth the “who, what, when, where, and how” of the alleged fraud); SEC v.
Spinosa, 31 F. Supp. 3d 1371, 1375-76 (S.D. Fla. 2014) (dismissing fraud claim for lack of
particularity because “the SEC has not identified the recipients of the statements”).
In any event, immaterial puffery cannot, as a matter of law, create the implication for
which the Amended Complaint argues. See In re Sanofi-Aventis Sec. Litig., 774 F. Supp. 2d 549,
565 (S.D.N.Y. 2011) (“No reasonable investor could have been led by this [puffing] statement to
believe that [the defendant] had disclosed all available information.”). Indeed, it is noteworthy
that the Amended Complaint fails to allege that a single investor drew from the puffing
statements the implication for which the SEC argues. See Amended Compl. ¶ 90. And it is
factual matter, not the Commission’s arguments and conclusory allegations, that a complaint

4

The Amended Complaint alleges one additional statement by Mr. Paxton, Amended
Compl. ¶ 114 (“[T]his is the company I told you I found very interesting.”), but it too is nothing
more than puffery, see Carlucci v. Han, 886 F. Supp. 2d 497, 524 (E.D. Va. 2012); Marini v.
Adamo, 995 F. Supp. 2d 155, 190 n.23 (E.D.N.Y. 2014).
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must allege. See Iqbal, 556 U.S. at 678; see also Fernandez-Montes v. Allied Pilots Ass’n, 987
F.2d 278, 284 (5th Cir. 1993) (holding that “conclusory allegations . . . masquerading as factual
conclusions will not suffice to prevent a motion to dismiss”). Consistent with this Court’s
previous Order, these puffery statements remain inactionable.
Further, the Amended Complaint alleges that, consistent with the supposed implication to
be drawn from the alleged puffing statements, Mr. Paxton had undertaken “some” level of
diligence. Amended Compl. ¶ 90. According to the Amended Complaint, Mr. Paxton (a) met
with Mr. Mapp “to discuss Servergy,” id. ¶ 84; (b) received an email from Servergy with
information about the company, id.; and (c) attended a meeting at Servergy’s offices concerning
the company, id. ¶ 89. To the extent the SEC takes issue with whether Mr. Paxton “verif[ied]”
Servergy’s technological claims, id. ¶ 91, this Court has already observed that established case
law makes clear that he had no such duty, see Order at 19 (citing SEC v. Tambone, 597 F.3d 436,
488 (1st Cir. 2010) (en banc)).5
Finally, the Amended Complaint repeats the same alleged misstatements (that Mr. Paxton
told potential investors that he had met with Servergy’s management, and that Mr. Paxton told an
investor that the offering price would double before the individual returned from vacation,
Amended Complaint ¶¶ 90, 96) that the Court previously deemed insufficient to state a claim
5

To the extent the SEC’s theory is that Mr. Paxton failed to perform due diligence on false
statements made by Mr. Mapp—which is a legally flawed theory, see Order at 19—there is no
mention of false statements to Investor 1 by Mr. Mapp before the investment by Investor 1, and
false statements by Mr. Mapp after the investment (i.e., “lulling” statements, see Amended
Compl. ¶¶ 119-23) cannot have been made “in connection with the purchase or sale” of
securities. See Arst v. Stifel, Nicolaus & Co., Inc., 86 F.3d 973, 977 (10th Cir. 1996) (holding
that an “allegedly deceptive practice [that] occurred after the sale” could not “have had an
impact on [Plaintiff’s] decision to sell his shares” and thus “was not ‘in connection with’ the
purchase or sale of a security [under] § 10(b)” (emphasis in original)); Town North Bank, N.A. v.
Shay Fin. Servs., Inc., No. 3:11-CV-3125-L, 2014 WL 4851558, at *25 (N.D. Tex. Sept. 30,
2014) (dismissing securities fraud claim based on post-sale misstatements or omissions).
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against Mr. Paxton because the SEC had not alleged that these statements were false or
misleading. Order at 9. The Amended Complaint still does not allege that these statements were
false or misleading, and, if anything, the SEC now concedes that the second statement—that the
“offering price would double if Investor 2 did not invest by July 30, 2011” was true. See
Amended Compl. ¶ 96; see id. ¶ 97 (“The investment price was about to increase.” (emphasis
added)). Accordingly, the Amended Complaint, like the original Complaint, fails to allege that
Mr. Paxton made any material misstatements.
B.

The SEC Still Has Not Pled Facts Giving Rise to a Duty to Disclose

The SEC’s fraud-by-omission theory is likewise as deficient now as in the original
Complaint. To reiterate, a defendant “does not commit securities fraud merely by failing to
disclose all nonpublic material information in [his] possession.” Ind. Elec. Workers’ Pension
Trust Fund IBEW v. Shaw Grp., Inc., 537 F.3d 527, 541 (5th Cir. 2008) (internal quotation marks
omitted).

Thus, as this Court observed, “[w]hen an allegation of fraud is based upon

nondisclosure, there can be no fraud absent a duty to speak.” Order at 10 (quoting Cent. Bank of
Denver, N.A. v. First Interstate Bank of Denver, N.A., 511 U.S. 164, 174 (1994) (internal
quotation marks omitted)). This has been the law for more than thirty-five years. See Matrixx
Initiatives, Inc. v. Siracusano, 563 U.S. 27, 44 (2011) (“[I]t bears emphasis that § 10(b) and Rule
10b-5(b) do not create an affirmative duty to disclose any and all material information.”); Basic
Inc. v. Levinson, 485 U.S. 224, 239 n.17 (1988) (“Silence, absent a duty to disclose, is not
misleading under Rule 10b-5.”); Chiarella v. United States, 445 U.S. 222, 228 (1980) (“[O]ne
who fails to disclose material information prior to the consummation of a transaction commits
fraud only when he is under a duty to do so.”).6
6

See also Regents of the Univ. of Cal. v. Credit Suisse First Bos. (USA) Inc., 482 F.3d 372,
384 (5th Cir. 2007) (“‘[D]eception’ within the meaning of § 10(b) requires that a defendant fail
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As a result, if the SEC is to make out a fraud claim based on supposed omissions, its
allegations must fall into some recognized exception to the general rule that an omission is not
fraudulent. The text of the relevant statutes and regulations identifies only one exception: Rule
10b-5(b) and Section 17(a)(2) provide that a duty to disclose can arise when one makes a
statement that is rendered misleading by omission (i.e., a “half-truth”). See 17 C.F.R. § 240.10b5(b); 15 U.S.C. § 77q(a)(2). Courts have also recognized that a duty to speak can be imposed by
law, such as under Section 17(b)’s anti-touting provision. See 15 U.S.C. § 77q(b). And the
Supreme Court has held that, at least in the insider trading context, “[s]uch a duty arises . . . from
the existence of a fiduciary relationship.” Dirks v. SEC, 463 U.S. 646, 654 (1983); see also
Chiarella, 445 U.S. at 228 (“[T]he duty to disclose arises when one party has information ‘that
the other [party] is entitled to know because of a fiduciary or other similar relation of trust and
confidence between them.’” (internal quotation marks omitted)).
In dismissing the SEC’s original Complaint, this Court concluded that the SEC had failed
to allege facts sufficient to state a duty to disclose under any of these three theories. The
Amended Complaint, though prolix, does nothing to cure that failure.
1.

The SEC Still Has Not Identified a Statement Mr. Paxton Made About His
Compensation That Was a Half-Truth

In dismissing the SEC’s original Complaint, the Court held that any fraud-by-omission
claim based on a half-truth theory requires that the Commission allege a statement by Mr. Paxton
on the topic of compensation that was rendered materially misleading by a failure to disclose the
supposed commission arrangement with Mr. Mapp. Order at 16 (“To survive a motion to
dismiss under this theory, the Commission would have to identify a statement by Paxton

to satisfy a duty to disclose material information.”); McNamara v. Bre-X Minerals Ltd., 57 F.
Supp. 2d 396, 416 (E.D. Tex. 1999) (“Silence is actionable under federal securities laws only if
the defendant had a duty to speak.”).
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regarding his compensation that was materially misleading.” (emphasis in original)).

The

Amended Complaint alleges nothing of the sort here, as it still does not identify a single
statement made by Mr. Paxton concerning his compensation.7
2.

Because the SEC Still Has Not Adequately Pled a Section 17(b) Violation,
That Statute Does Not Create a Duty to Disclose

A defendant also has a duty to speak when there is a “statute or regulation requiring
disclosure.” Stratte-McClure v. Morgan Stanley, 776 F.3d 94, 101 (2d Cir. 2015). In this case,
the SEC has argued that Section 17(b) of the Securities Act required disclosure of Mr. Paxton’s
alleged compensation arrangement. But the Court held that the SEC’s original Complaint “d[id]
not allege facts to support a plausible claim under Section 17(b).” Order at 25. As discussed
below, the SEC has done nothing to cure its deficient Section 17(b) claim. Accordingly, that
provision cannot give rise to a duty to disclose for purposes of the fraud claims.
3.

No New Allegation in the Amended Complaint Gives Rise to a Fiduciary
Duty to Disclose

In ruling on Mr. Paxton’s Motion to Dismiss, the Court held that “the Complaint [had]
neither pleaded facts sufficient to support a fiduciary relationship, nor a specific duty [to
disclose] under the alleged relationship.” Order at 13. The Court distinguished one of the cases
cited by the SEC—SEC v. Kirch, 263 F. Supp. 2d 1144 (N.D. Ill. 2003)—by observing that,
unlike in that case, “the Complaint [did] not allege any express policy in Paxton’s investment
club regarding disclosing compensation when promoting stocks.” Order at 12. Likely inspired
by the Court’s observation, the SEC now has alleged that Investor 1 “expressly told Paxton that
7

The Amended Complaint repeats the allegation that Mr. Paxton told Investor 2 that the
“offering price would double if Investor 2 did not invest by July 30, 2011.” Amended Compl.
¶ 96; see id. ¶ 97 (alleging that the “investment price was about to increase” (emphasis added)).
To the extent the SEC is attempting to allege that this statement was a misleading “half-truth”
because Mr. Paxton did not disclose his alleged compensation arrangement, the Amended
Complaint still fails to survive a motion to dismiss because the alleged affirmative statement was
not on the topic he allegedly omitted (i.e., his compensation).
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members participating in an investment deal take the same risk and receive the same benefit; that
the member who introduces an investment opportunity typically acts as a point person for that
opportunity going forward; and that no one member makes money or otherwise benefits off of
the investment of another member.” Amended Compl. ¶ 78. The Commission argues that,
“because of the investment group’s express policies, which Paxton knew, as well as their shared
understanding and expectations,” the members of the investment group “formed a formal
fiduciary relationship, by agreement or otherwise, and an informal fiduciary relationship of trust
and confidence.” Id. ¶ 82.
While the Amended Complaint now parrots the words “express policy” and refers to
various supposed “policies” of the investment group, it still does not allege “any express policy
. . . regarding disclosing compensation when promoting stocks.” Order at 12 (emphasis added).
More importantly, this Court did not hold that an “express policy” would alone be enough to
state a breach of fiduciary duty omissions claim, only that it was a basis upon which Kirch was
distinguishable. See id. The Amended Complaint still fails to allege the other elements required
to make out the requisite breach of fiduciary duty.
a.

A Fiduciary Duty Requires the Elements of Reliance, De Facto
Control, and Dominance

The Supreme Court first recognized the fiduciary duty-based fraud-by-omission theory in
Chiarella v. United States. In Chiarella, which was an insider trading case, the Supreme Court
held that “the duty to disclose arises when one party has information that the other [party] is
entitled to know because of a fiduciary or other similar relation of trust and confidence between
them.” 445 U.S. at 228 (internal quotation marks omitted). The lower courts have since been
left to grapple with what constitutes “a fiduciary or other similar relation of trust or confidence.”

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Outside the insider trading context, cases in which the SEC has premised an enforcement
action on a fiduciary duty to disclose are rare. The Supreme Court itself has never extended the
fiduciary duty theory of fraud-by-omission beyond the insider trading context, and one circuit
court has held that the fiduciary duty to disclose theory does not apply outside that realm. See
United States v. Schiff, 602 F.3d 152, 162 (3d Cir. 2010).8 The sparse case law interpreting the
scope of the fiduciary duty to speak has construed that duty narrowly, lest the exception swallow
the general rule that silence is not actionable fraud. See United States v. Skelly, 442 F.3d 94, 98
(2d Cir. 2006) (“[A] fiduciary obligation is not to be lightly implied, lest it undercut the basic
principles of commercial law discussed above. To label someone a fiduciary is to impose on that
person obligations additional, and often contrary, to the ordinary allocations of responsibility that
govern commercial transactions.”). In Chestman, the seminal case concerning the scope of the
fiduciary duty to disclose, the court recognized the dangers of a liberal construction of that duty
and elected to “tread cautiously” for fear that “efforts to construe Rule 10b-5 lose method and
predictability.”9 947 F.2d at 567. That said, several principles have emerged from the limited
case law.

8

In ruling on the Motion to Dismiss the original Complaint, this Court concluded that “a
fiduciary relationship triggers a duty to speak” outside the insider trading context. See Order at
11 (citing Kadlec Med. Ctr. v. Lakeview Anesthesia Assocs., No. CIV.A. 04-0997, 2005 WL
1309153, at *4 (E.D. La. May 19, 2005)). For the reasons set out in Schiff, Mr. Paxton
respectfully disagrees. The Kadlec decision was not interpreting the anti-fraud provisions of the
federal securities laws, but rather Louisiana state law fraud claims, see 2005 WL 1309153, at *4.
However, since the Court has spoken on this point, the only question remaining is whether the
Amended Complaint alleges sufficient factual matter suggesting the existence of a duty to
disclose arising from a fiduciary relationship, and it does not.
9

Further, any ambiguity as to the legal elements of a fiduciary duty to disclose must, under
the rule of lenity, be resolved in favor of the defendant. See United States v. Bustillos-Pena, 612
F.3d 863, 868-69 (5th Cir. 2010) (applying rule of lenity to ambiguous provision). The fraud
provisions of the federal securities laws at issue here can be prosecuted criminally, see 15 U.S.C.
§§ 77x, 78ff, and the rule of lenity applies in the civil context when interpreting statutes that also
have criminal applications, see Kasten v. Saint-Gobain Performance Plastics Corp., 563 U.S. 1,
16 (2011) (“[W]e have said that the rule of lenity can apply when a statute with criminal
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In order for a duty to be a fiduciary one, it must involve (i) reliance, (ii) de facto control,
and (iii) dominance by one party over another. As courts have explained, “[a]t the heart of the
fiduciary relationship lies reliance, and de facto control and dominance,” and a “similar
relationship of trust and confidence consequently must share these qualities.” Chestman, 947
F.2d at 568-69 (internal quotation marks omitted); see also SEC v. Kornman, 391 F. Supp. 2d
477, 487 (N.D. Tex. 2005) (same). Stated another way, a fiduciary or similar relationship of
trust and confidence requires “influence of a superior or dominating nature—not the ‘influence’
one peer might exert on another.” United States v. Kim, 184 F. Supp. 2d 1006, 1011 (N.D. Cal.
2002); see also Chestman, 947 F.2d at 568; Kornman, 391 F. Supp. 2d at 488. The “reliance”
present in a “fiduciary relationship involves discretionary authority and dependency.”
Chestman, 947 F. 2d at 569 (emphasis added); Kornman, 391 F. Supp. 2d at 487.
“[M]ere subjective trust alone is not enough to transform arms-length dealing into a
fiduciary relationship” because “[b]usinessmen generally do trust one another.”

Welk v.

Simpkins, 402 F. App’x 15, 20 (5th Cir. 2010); see also 37 Am. Jur. 2d Fraud & Deceit § 37
(noting that the mere fact “that one party trusts another does not transform a business
arrangement into a fiduciary relationship” because “subjective trust is insufficient to create a
fiduciary relationship”). “[T]hat the parties are friends or prior business associates, or have trust
and confidence in each other’s integrity, does not automatically establish a confidential
relationship, as required for a fiduciary relationship to arise under the law.” Id.; see also Town

sanctions is applied in a noncriminal context.”); Leocal v. Ashcroft, 543 U.S. 1, 11-12 n.8 (2004)
(“Because we must interpret the statute consistently, whether we encounter its application in a
criminal or noncriminal context, the rule of lenity applies.”). The rule of lenity rests on the
notion that this Court expressed during oral argument, namely that “it’s not fair to force someone
to a summary judgment or later a trial just because the law is murky.” MTD Tr. at 42; see also
United States v. Orellana, 405 F.3d 360, 371 (5th Cir. 2007) (“The policy underlying the rule of
lenity is fairness to the accused.”).
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North Bank, N.A. v. Shay Fin. Servs., Inc., No. 3:11-CV-3125-L, 2014 WL 4851558, at *18, *27
(N.D. Tex. Sept. 30, 2014) (dismissing securities fraud claim, holding that allegations of
“subjective trust” and “personal relationships” were insufficient to establish fiduciary duty
needed to create a duty to disclose). In other words, it is not merely trust that marks out a
fiduciary duty, but rather the entrusting of money, property, or control of one’s affairs to another
such that that party exercises dominance or control over the money, property, or affairs.10 See
Chestman, 947 F.2d at 569 (holding that a fiduciary relationship exists when “the beneficiary of
the relation . . . entrust[s] the fiduciary with custody over property of one sort or another”);
Kornman, 391 F. Supp. 2d at 487 (“One acts in a fiduciary capacity when the business which he
transacts, or the money or property which he handles, is not his own or for his own benefit, but
for the benefit of another person.” (internal quotation marks omitted)); .
In addition, “a fiduciary duty cannot be imposed unilaterally.” Chestman, 947 F.2d at
567; see also Kornman, 391 F. Supp. 2d at 490 (same); In re Enron Corp., 610 F. Supp. 2d at
649 (holding that “unilateral expectations . . . do not give rise to . . . a duty to disclose”). Thus,
as the Chestman court “bluntly” observed, absent an agreement, the fact that one party places its
confidence in another party does not create in that party a duty to observe that confidence. 947
F.2d at 567.
Applying these principles here, the SEC has once again failed to allege any fiduciary or
similar relationship of trust and confidence that would require disclosure of the alleged
compensation arrangement. The SEC’s theory now seems to be that Mr. Paxton was in a
fiduciary relationship with three different groups: the so-called investment group, Investor 1
individually, and the “S3 Group.” As discussed below, the Amended Complaint nowhere alleges
10

“Confidential business information has long been recognized as property.” Carpenter v.
United States, 484 U.S. 19, 26 (1987).
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that Mr. Paxton exercised or assumed a position of de facto control or dominance over the
money, property, or affairs of any of these groups or individuals.

Further, and perhaps

underscoring the lack of existence of such a relationship, there is no allegation that Mr. Paxton
agreed to be anyone’s fiduciary or to abide by the so-called “express policy.”
b.

Mr. Paxton Was Not In a Fiduciary Relationship With the
Investment Group

The Amended Complaint alleges none of the elements of a fiduciary relationship between
Mr. Paxton and the investment group, much less a fiduciary duty on the part of Mr. Paxton to
disclose compensation pursuant to such a relationship. The Amended Complaint does not allege
that Mr. Paxton was in a position of de facto control or dominance vis-a-vis the other group
members. It does not allege that he agreed to be in a position of de facto control or dominance
over the other members. And it does not allege that he agreed to abide by the so-called express
policy. For each of these reasons, the fiduciary duty theory fails.
Most critically, the Amended Complaint fails to allege any relationship between Mr.
Paxton and the investment group that involved de facto control or dominance on his part. As
noted above, the dominance or control needed to give rise to a fiduciary duty arises where a party
is entrusted with the money, property, or affairs of another for the benefit of the entrusting party.
See, e.g., Chestman, 947 F.2d at 569 (holding that a fiduciary relationship exists when “the
beneficiary of the relation . . . entrust[s] the fiduciary with custody over property of one sort or
another”); Kornman, 391 F. Supp. 2d at 487. Here, by contrast, there is no allegation that the
investment club entrusted Mr. Paxton with money, property, or discretion over their investment
decisions such that Mr. Paxton could be deemed to exercise de facto control or dominance of
some type. To the contrary, it was Mr. Paxton who allegedly provided the investment group
with information about an investment opportunity in which the group members determined, on
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an individual basis, on their own terms, and for their own accounts, whether or not to invest. See
Amended Compl. ¶ 93. Accordingly, the Amended Complaint fails to allege that Mr. Paxton
exercised any dominance or control such that a fiduciary duty ran from him to the group.
Further, while the Amended Complaint alleges that Investor 1 “told” Mr. Paxton that
members of the investment group do not “mak[e] money or otherwise benefit[] off of the
investment of another member,” id. ¶ 78, the SEC nowhere alleges that Mr. Paxton agreed to
abide by what Investor 1 told him. Such one-sided dictates from Investor 1 cannot establish a
fiduciary duty because “a fiduciary duty cannot be imposed unilaterally.” Chestman, 947 F.2d at
567; Kornman, 391 F. Supp. 2d at 490 (same); see also In re Enron Corp., 610 F. Supp. 2d at
649 (holding that “unilateral expectations . . . do not give rise to . . . a duty to disclose”). And
even had the SEC alleged some agreement between Mr. Paxton and Investor 1, the Amended
Complaint nowhere alleges an agreement to disclose anything, much less to disclose
compensation arrangements. See Order at 12 (noting that “the Complaint does not allege any
express policy in Paxton’s investment club regarding disclosing compensation when promoting
stocks” (emphasis added)); United States v. Whitman, 904 F. Supp. 2d 363, 368 (S.D.N.Y. 2012)
(holding that, to make out a claim under Rule 10b-5, “the duty must be of the kind that requires
the [defendant], if he breaches the duty, to disclose the breach—the failure to do so thereby
constituting the misrepresentation that is an essential element of fraud”). Thus, the Amended
Complaint fails to allege a specific disclosure duty pursuant to any plausible or existing fiduciary
or other special relationship, as is required to make out an omissions-based fraud claim. See
Order at 13 (noting that the original Complaint failed to plead “facts sufficient to support . . . a
specific duty under the alleged relationship”).

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c.

Mr. Paxton Was Not Investor 1’s Fiduciary

The Amended Complaint alleges that Investor 1 and Mr. Paxton had a “personal”
relationship during which they shared a residence years earlier. Amended Compl. ¶ 78. To the
extent the SEC is suggesting that being someone’s roommate transforms one into a fiduciary, the
law is clear that a mere personal friendship does not give rise to a fiduciary duty, much less a
disclosure duty. See 37 Am. Jur. 2d Fraud & Deceit § 37 (“[T]hat the parties are friends or prior
business associates, or have trust and confidence in each other’s integrity, does not automatically
establish a confidential relationship, as required for a fiduciary relationship to arise under the
law.”); Town North Bank, 2014 WL 4851558, at *18, *27 (dismissing securities fraud claim,
holding that “personal relationships” were insufficient to establish fiduciary duty needed to
create a duty to disclose). It would be extreme, to say the least, to hold that friendship or cohabitation alone create a fiduciary or other legal duty to disclose information.
The Amended Complaint also alleges that Mr. Paxton provided legal services to Investor
1 at some unspecified time years before the Servergy investment. Amended Compl. ¶ 78. That
Mr. Paxton, at some prior date, provided legal services to Investor 1 does not create a fiduciary
duty, in a wholly different context, at a later date. Although the lawyer-client relationship is a
classic fiduciary relationship, “a lawyer’s fiduciary duties to a client . . . extend only to dealings
within the scope of the underlying relationship of the parties.” Covarrubias v. Dukes, No. 1:14CV-379-LY, 2015 WL 2151835, at *8 (W.D. Tex. May 7, 2015) (internal quotation marks
omitted). Nor, more importantly, has the SEC alleged that any legal representation Mr. Paxton
provided to Investor 1 had any relationship to the Servergy investment. Amended Compl. ¶ 78.
As this Court previously observed, the original Complaint did not allege that Mr. Paxton was
“recruiting current law firm clients in his capacity as their attorney.” Order at 2 n.1 (emphasis
added). The Amended Complaint has not cured that flaw.
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d.

Mr. Paxton Was Not a Fiduciary of the S3 Group With Regard to
the Servergy Investment

The Amended Complaint also alleges that Mr. Paxton “solicited S3 Group members for
whom he was at the time also performing legal services and with whom he was co-investing.”
Amended Compl. ¶ 101. But, again, the Amended Complaint does not allege that Mr. Paxton
recruited S3 Group members in his capacity as their attorney. Order at 2 n.1; Covarrubias, 2015
WL 2151835, at *8. There is no allegation that the legal services by Mr. Paxton had any
connection to the Servergy investment. Accordingly, Mr. Paxton is not alleged to have, in his
capacity as their attorney, solicited law firm clients as potential Servergy investors, and thus any
fiduciary relationship with those individuals did not extend to the alleged solicitation activities.
More fundamentally, the Amended Complaint fails to allege that the omitted compensation
arrangement information was material to any of the members of the S3 Group. See Amended
Compl. ¶¶ 83, 101. For each of these reasons, the fraud claims against Mr. Paxton should be
dismissed to the extent they are based on any alleged omissions with regard to S3 Group
investors.
e.

Mr. Paxton Was Not in a Fiduciary Relationship With Any of the
Other Miscellaneous Prospective Investors

Lastly, the Amended Complaint features a few stray allegations about other
miscellaneous prospective investors.

See Amended Compl. ¶¶ 102-04, 109-10, 114-17.

However, the Amended Complaint provides little, if any, detail about these people and fails
entirely to explain the basis for any disclosure duty that Mr. Paxton purportedly had to them. As
this Court explained, in order to survive a motion to dismiss, the SEC must “plead with
particularity the nature of the fiduciary-like duty as required by the Fifth Circuit.” Order at 13.
Given the absence of such allegations with regard to these miscellaneous investors, the SEC has
not alleged a fiduciary duty to disclose that would support a fraudulent omissions claim as to
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those investors. Accordingly, the fraud claims should be dismissed as to these miscellaneous
investors.
C.

The SEC Has Still Not Pled a Duty to Disclose Under a Scheme Liability Theory

The SEC has added to its Amended Complaint more boilerplate language to the effect
that Mr. Paxton’s “conduct, practice, and course of business in concealing his compensation
arrangement operated as a fraud and deceit,” in an apparent effort to allege scheme liability
under Rule 10b-5(a) and (c) and Section 17(a)(1) and (3). See Amended Compl. ¶¶ 94, 98, 99;
17 C.F.R. § 240.10b-5(c) (prohibiting “any act, practice, or course of business which operates or
would operate as a fraud or deceit”); 15 U.S.C. § 77q(a)(3) (prohibiting “any transaction,
practice, or course of business which operates or would operate as a fraud or deceit”). But as
the Court held, “under a scheme liability omissions case, there still must be a duty to disclose.”
Order at 17 n.4; see also Regents of the Univ. of Cal., 482 F.3d at 384 (“‘[D]eception’ within the
meaning of § 10(b) requires that a defendant fail to satisfy a duty to disclose material
information.”); In re Enron Corp., 586 F. Supp. 2d 732, 793 (rejecting plaintiffs’ scheme liability
claim because the Fifth Circuit “limited the reach of § 10(b) and Rule 10b-5 to a material
representation or omission where there is a recognized duty to disclose”). Indeed, the Chiarella
case (in which the Supreme Court recognized the fraudulent omission theory) involved a scheme
liability claim, see 445 U.S. at 225 n.5, and it was in that context that the Supreme Court first
held that “one who fails to disclose material information prior to the consummation of a
transaction commits fraud only when he is under a duty to do so,” id. at 228. Thus, framing this
case as a scheme or course of business that operated as a fraud or deceit does nothing to absolve
the SEC of the need to allege a duty to disclose, which it has not done here.11
11

While a duty to disclose is necessary to make out a scheme liability claim based on a
supposed fraudulent omission, it is not alone sufficient. Every court of appeals to consider the
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III.

The Amended Complaint Does Not Allege That Mr. Paxton Was Compensated for
Publishing or Circulating Any Communication, As Required by Section 17(b) and
This Court’s Order
In ruling on Mr. Paxton’s original Motion to Dismiss, the Court held that the Commission

“failed to allege that Paxton published, gave publicity, or circulated any recorded communication
describing a security.” Order at 24. The Court based its ruling on the fact that the “promotional
email allegation is deficient because the Complaint did not allege that Paxton was paid or would
be paid for his unsuccessful recruiting effort.” Id. The Court held that because the Commission
“only alleges that Paxton was paid for his successful recruiting efforts,” there is no “quid pro
quo” for a communication if the recipient “never invested with Servergy.” Id. at 18.
In its Amended Complaint, the SEC reiterates that Mr. Paxton was paid only for
successful recruiting efforts. Amended Compl. ¶ 107 (“As payment for his successful efforts
inducing investment in Servergy, Servergy paid Paxton transaction-based compensation.”); id.
¶ 125 (“Paxton received 100,000 shares of Servergy stock in exchange for successfully soliciting
investors.”). It also reiterates its allegations concerning the July 23, 2011 email to a prospective
investor. See id. ¶ 103. But, as was the case with its earlier Complaint, the “July 23, 2011, email
cannot serve as a basis for a fraud claim because the Commission [has] not allege[d] Paxton was
ever paid—or ever would be paid—for sending the email.”

Order at 19.

The Amended

Complaint includes descriptions of two other emails Paxton allegedly sent inviting prospective
investors to a Servergy webinar. See Amended Compl. ¶¶ 114, 115. But again, neither recipient
is alleged to have invested in Servergy, and the Amended Complaint does not allege that any
compensation was paid for sending webinar invites. See id. These emails, thus, “cannot serve as

issue has held that a scheme liability claim also requires some deceptive conduct beyond a mere
fraudulent omission. See SEC v. St. Anselm Exploration Co., 936 F. Supp. 2d 1281, 1298-99 (D.
Colo. 2013) (collecting cases). The SEC alleges no such additional deceptive conduct here.
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a basis for a fraud claim because the Commission did not allege Paxton was ever paid—or ever
would be paid—for sending” them. Order at 19.
The Court also held that the alleged phone call to Investor 2 “was not a recorded
communication as required under the federal securities laws” such that “the Commission has
failed to allege facts that could plausibly support a violation of Section 17(b) based on the phone
call” to Investor 2. Order at 22. The SEC reiterates its allegations about that phone call,
Amended Compl. ¶ 96, but makes no effort to cure the legal deficiencies with the Section 17(b)
claim based on that call.
IV.

The Amended Complaint Does Nothing to Remedy Its Deficient Unregistered
Broker Allegations
The allegations in the Amended Complaint do nothing to cure the Commission’s flawed

unregistered broker claim. In ruling on Mr. Paxton’s first Motion to Dismiss, the Court held that
“the language of [Section 15(a)] indicates that more activity is required than simply
recommending a stock or introducing a potential investor to [a] company’s fundraiser.” Order at
26. Although the SEC added fourteen pages of allegations to its Amended Complaint, none of
what it added is relevant to the question of whether Mr. Paxton was engaged in the business of
effecting securities transactions for the account of others.
This Court previously held that the text of Section 15(a) dictates that “control over the
account of others is an element [of the definition of a broker] rather than a factor” and that the
SEC’s allegations concerning Mr. Paxton’s conduct amounted to “merely facilitating securities
transactions rather than performing the functions of a broker.” Order at 27, 28. The Amended
Complaint adds nothing of substance to the Commission’s unregistered broker allegations. Mr.
Paxton is not alleged to have engaged in any conduct that would amount to “effecting
transactions in securities,” nor is he alleged to have had any authority over the accounts of
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others. He is not alleged to have analyzed the financial needs of an issuer, to have recommended
or designed financing methods, to have discussed the details of any securities transactions, to
have been involved in negotiating the price or terms of any transactions, or to have bought or
sold securities on anyone’s behalf other than his own.
The only attempt the SEC makes at curing its failed broker registration claim is to add an
expanded description of Mr. Paxton’s work as an investment adviser representative for Mowery
Capital Management (an allegation that previously appeared in the original Complaint, see
Compl. ¶ 7). Amended Compl. ¶ 75. But an investment adviser and a broker are distinct roles
under the federal securities laws. An investment adviser is “any person who, for compensation,
engages in the business of advising others, either directly or through publications or writings, as
to the value of securities or as to the advisability of investing in, purchasing, or selling securities,
or who, for compensation and as part of a regular business, issues or promulgates analyses or
reports concerning securities.” 15 U.S.C. § 80b-2(a)(11). A broker, on the other hand, is a
person “engaged in the business of effecting transactions in securities for the account of others.”
15 U.S.C. § 78c(a)(4).

Investment advisers, then, by definition advise clients, not effect

securities transactions. Brokers effect securities transactions. Thus, any work Mr. Paxton may
have done as an investment adviser (or an investment adviser representative12) is irrelevant to
whether he was, in this case, in the business of effecting transactions in securities for the account
of others.

12

An investment adviser representative is defined as “a supervised person of the investment
adviser who has more than five clients who are natural persons . . . and more than ten percent of
whose clients are natural persons.” 17 C.F.R. § 275.203A-3(a)(1). Such a supervised person is
not an investment adviser representative if he does not “on a regular basis solicit, meet with, or
otherwise communicate with clients of the investment adviser” or provides “only impersonal
investment advice.” Id. § 275.203A-3(a)(2).
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Because the SEC has not cured any of the deficiencies the Court found in its original
Complaint, its unregistered broker claim should again be dismissed.
CONCLUSION
For the foregoing reasons,13 Mr. Paxton respectfully requests that this Court dismiss with
prejudice the SEC’s First Amended Complaint against him for failure to state a claim and to
plead fraud with particularity.

13

Mr. Paxton also incorporates herein any arguments made in his first Motion to Dismiss.
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 Case 4:16-cv-00246-ALM Document 44 Filed 11/04/16 Page 34 of 35 PageID #: 575

Dated: November 4, 2016
Respectfully submitted,
/s/ Matthew T. Martens
Matthew T. Martens (pro hac vice)
(Lead Counsel)
D.C. Bar No. 1019099
Jaclyn N. Moyer (pro hac vice)
D.C. Bar No. 492284
Alyssa DaCunha (pro hac vice)
D.C. Bar No. 1003687
Kevin Gallagher (pro hac vice)
D.C. Bar No. 1031415
Wilmer Cutler Pickering Hale and Dorr LLP
1875 Pennsylvania Ave. NW
Washington, DC 20006
Tel: (202) 663-6000
Fax: (202) 663-6363
Matthew.Martens@wilmerhale.com
William B. Mateja
Texas Bar No. 13185350
Polsinelli LLP
2950 N. Harwood
Suite 2100
Dallas, TX 75201
Tel: (214) 754-5751
Fax: (214) 397-0033
Mateja@polsinelli.com
J. Mitchell Little
Texas Bar No. 24043788
Scheef & Stone, LLP
2600 Network Blvd., Ste. 400
Frisco, TX 75034
Tel: (214) 472-2140
Fax: (214) 472-2150
Mitch.Little@solidcounsel.com
Attorneys for Defendant Warren K. Paxton, Jr.

 Case 4:16-cv-00246-ALM Document 44 Filed 11/04/16 Page 35 of 35 PageID #: 576

CERTIFICATE OF SERVICE
I hereby certify that on November 4, 2016, I electronically filed the foregoing with the
Clerk of the Court through the CM/ECF system, which will send notices of electronic filing to all
counsel of record.

/s/ Matthew T. Martens
Attorney