Answers Filed To SEC’s Fraud Complaint Against Victorville

(December 10)  LOS ANGELES—Slightly less than a month after a U.S. District Court judge rejected motions by the city of Victorville, its airport authority and assistant city manager Keith Metzler to dismiss the Securities and Exchange Commission’s complaint against them, lawyers for those entities on December 9 filed an answer to the entirety of the SEC complaint, denying any wrongdoing on the defendants’ part in connection with a 2008 municipal bond offering.
On April 29, the Securities and Exchange Commission (SEC) alleged that fraud was committed by the city, the airport authority and Metzler, who fills the dual roles of assistant city manager and executive director of the airport authority, when misrepresentations were made to the purchasers of bonds, the proceeds from which were intended to assist in the development of Southern California Logistics Airport. Those misstatements were made, the SEC alleges, specifically with regard to bonds issued in April 2008.
The airport authority was formed by the city of Victorville to facilitate the conversion of the former George Air Force Base, which was shuttered by the Department of Defense in 1992, into a civilian airport. The Southern California Logistics Airport Authority, which has as its board of directors all five members of the Victorville City Council, issued bonds which were sold to investors to generate revenue to be used in making the base’s civilian use conversion.
Also charged in the SEC’s April complaint were  Kinsell, Newcomb & DeDios Inc., the underwriter for the bond offerings; that company’s owner, Jeffrey Kinsell; and Kinsell, Newcomb and DeDios Inc.’s investment banker Janees Williams.
Lawyers for  Kinsell, Newcomb & DeDios and Jeffrey Kinsell and Williams filed answers to the SEC complaint in June.
Coordinating their filings on August 30, the law firm of Arent Fox, on behalf of the  city and the airport authority,  and the law firm of  Orrick, Herrington & Sutcliffe, on behalf of Metzler, sought to have the complaint dismissed before  filing their answers.
The gist of that argument was that even if the hangar valuations were overstated, they were not material misrepresentations by which the financing of the bonds in terms of the city’s and airport authority’s ability to continue to make payments to the bondholders was threatened. At no time did the actual debt service ratio between the bonds and the assets securing them fall below the SEC’s own standard of 1.25, Arent Fox maintains, exonerating the city and the airport authority.
Orrick, Herrington & Sutcliffe asserted that Metzler provided the correct hangar valuation information, twice, to KND before the bond issuance.
U.S. District Judge John A. Kronstadt on November 14 ruled that the combined defenses’ overall rationale for dismissing the case against the three defendants was “unpersuasive,” and that the bulk of the matter should go forward. The judge did, however, make a determination that the SEC has not yet presented any convincing evidence to show the defendants improperly gained from their alleged misconduct, which is the basis of the SEC’s prayer for disgorgement, a form of relief seeking restitution of ill-gotten profits from security law violators.
Fundamental to the SEC complaint is the allegation that the defendants made misrepresentations with regard to the value of four airport hangars that Victorville referenced in its official statement for an April 2008 bond offering. The value of all four hangars was listed at $65 million. The county assessor later valued the hangars at $27.7 million. The SEC alleges that the authority used the inflated estimated values to mislead bond investors.
Arent Fox maintains that even if the hangar valuations were overstated, they were not material misrepresentations by which the financing of the bonds in terms of the city’s and airport authority’s ability to continue to make payments to the bondholders was threatened.
The SEC complaint consists of nine claims for relief and one prayer for disgorgement. The authority is named in the first two claims for relief. Kinsell, Newcomb and DeDios [KND] is named in the third, fourth and eighth claims for relief. KND and Jeffrey Kinsell are named in the fifth and sixth claims for relief. Victorville, Jeffrey Kinsell, Williams and Metzler are named in the seventh claim for relief.  Jeffrey Kinsell and Williams are named in the ninth claim for relief.
In the prayer for disgorgement, all the parties are named.
“Given that the SEC has engaged in a three year investigation into this matter, its decision to present no allegations support[ing] of the request for disgorgement is significant and telling,” Kronstadt found in dismissing that portion of the case against Victorville, the authority and Metzler.
The SEC has now appealed Kronstadt’s dismissal of the prayer for disgorgement. On December 10, Terree Bowers of Arent Fox told the Sentinel that he intended to file a response to the SEC’s appeal “within the next two or three days.”
In its answer to the complaint, filed on December 9, Arent Fox lodges a first affirmative defense which maintains, “The complaint, and each of its causes of action, fails to state facts sufficient to constitute a cause of action.”
The city, the Southern California Logistics Airport Authority and Metzler are further demanding a jury trial.
In earlier filings with the court, Arent Fox maintained that the SEC complaint lacks materiality in that the city and the airport authority did not overvalue the hangars beyond a point that threatened the integrity of the investor’s bonds and that the SEC was delaying an examination of that issue. “[T]he SEC’s opposition attempts to shift the battleground, arguing that the court ‘need not’ consider it now, or that the basic arithmetic supporting it requires a ‘complicated calculus’ of ‘19 pages of complex math,’ as if to suggest that it is too hard to understand,” the defense brief filed this summer states. “Both of these premises are false. The court should—indeed, it must—decide whether the facts alleged by the SEC satisfy its burden to demonstrate materiality in the complaint. And it must consider the calculations, because that is the only way to determine whether the SEC’s allegations indeed state a claim. In short, the court is both legally and intellectually capable of determining whether the SEC’s complaint adequately alleges materiality. The determination is possible and proper at this stage in the case.”
The material misrepresentations which the SEC alleges are the linchpin of the case, defense attorneys maintain. Thus, the SEC’s inability to demonstrate material misrepresentations were made to the bond buyers undermines the entire case against the city and the authority, those attorneys argue.
According to the SEC’s complaint, by April 2008, the airport authority was forced to refinance part of the debt incurred to construct the hangars and other projects by issuing additional bonds. “The principal amount of the new bond issue was partly based on Metzler, Williams, and Kinsell using a $65 million valuation for the airplane hangars even though they knew the county assessor valued the hangars at less than half that amount,” according to Elaine C. Greenberg, chief of the SEC’s Municipal Securities and Public Pensions Unit. “The inflated figure allowed the airport authority to issue substantially more bonds and raise more money than it otherwise would have. It also meant that investors were given false information about the value of the security available to repay them.”
SEC investigators say that Jeffrey Kinsell, KND, and another of his companies misappropriated more than $2.7 million in bond proceeds that were supposed to be used to build airplane hangars for the airport authority.
Orrick, Herrington & Sutcliffe’s James Kramer told Kronstadt that responsibility for any misrepresentations with regard to the value of the assets securing the bonds fell to the bond underwriters. “Metzler provided the correct information to KND in March and April 2008,” Kramer said in presenting a timeline of the bond offering.
Kramer took issue with Metzler having been included in the case at all. According to Orrick, Herrington & Sutcliffe, “the SEC itself alleges that Mr.  Metzler provided the correct hangar valuation information, twice, to KND. In light of this admitted fact, the SEC’s theory of recklessness boils down to the notion that Mr. Metzler engaged in ‘an extreme departure from the standards of ordinary care’ by, in essence, not assuming that KND ignored the updated valuation and failed to pass it along to the [bond marketing] consultant and by not taking it upon himself to check KND’s, and the consultant’s, math. This is not a plausible theory of recklessness, and the SEC points to no case on such facts that says it is. The SEC now tries to distance itself from its own allegations by claiming that it is ‘meaningless’ that Mr. Metzler, on two separate occasions before the April 2008 bond issuance, provided accurate updated hangar values to KND.
According to the SEC, Metzler “did not provide this information to the consultant, which he knew needed that information to calculate the important tax increment.”

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