Chapter 11 - § 11.7 • DISCUSSION OF COLORADO LAW

• Jurisdiction: Colorado

§ 11.7 • DISCUSSION OF COLORADO LAW

§ 11.7.1—Overview Of The Colorado Securities Act

The Colorado Securities Act (the Colorado Act)²¹ was enacted in 1990 in an effort to update Colorado's investor-protection laws. Although there are a significant number of decisions interpreting similar provisions in federal law, there is not a significant amount of Colorado law discussing the Colorado Act. Consequently, Colorado courts have traditionally found federal authorities "highly persuasive" in interpreting similar provisions of the Colorado Act.²² However, in Rosenthal v. Dean Witter Reynolds, Inc.,²³ the Colorado Supreme Court carefully placed the use of federal decisions in check, stating that in interpreting the Colorado Securities Act, "we should first look to the plain language of the controlling statutes."

The Colorado Act is remedial in nature and intended to be broadly construed to effectuate its purpose, i.e., to prevent the exploitation of investors through full and fair disclosure relative to the issuance of securities.²⁴ Among the broadest constructions in the Colorado Act, as it is in federal law, is the definition of the term "security." C.R.S. § 11-51-201(17) interprets the term "security" similarly to the provisions of the 1933 Act. Colorado courts have said that the broad scope of the definition of "security" evinces "a legislative intent to provide the flexibility needed to regulate the various schemes devised by those who seek to use the money of others with the lure of profits."²⁵ As in federal law, however, the breadth of the definition of the term "security" is not unlimited; the Colorado Securities Act provides that various terms included within the definition of "security" are securities "unless the context otherwise requires."²⁶ Thus, even though the definition includes the term "note" (meaning a promissory note), not all promissory notes are securities.²⁷

The central tenet of the Colorado Act, as in federal law, is the requirement that securities be offered and sold pursuant to a registration statement (unless exempt from registration), and that no security be offered or sold in violation of the anti-fraud prohibitions of the Colorado Act. It is important to emphasize that the registration requirements are separate and distinct from the anti-fraud prohibitions. Thus, securities can be sold in violation of the registration requirements even though there is no attendant material misstatement or omission; conversely, securities can be sold in compliance with the registration requirement or pursuant to an exemption, but if there are attendant misstatements or omissions, liability will result. Persons engaged in the business of buying or selling securities for their own account or for the account of others should be registered as broker-dealers or licensed as sales representatives associated with a broker-dealer.²⁸

It is not necessary that the defendant knew that he or she was offering or selling a security; even for a criminal conviction it is sufficient that the defendant was offering or selling an instrument that is proved to be a security.²⁹ Whether the purchasers of the securities involved suffered any actual damages or were in anyway defrauded is also not relevant, as reflected in Joseph v. Equity Edge, LLC.³⁰ In that case, the Colorado Court of Appeals found that the Colorado Securities Commissioner was entitled to injunctive relief even where the trial court determined that the investors chose to purchase unregistered and non-exempt securities "with full knowledge of the material facts," "each investor was given a good faith offer to rescind," and the investors received periodic payments of principal and interest and none suffered any damages.³¹ The court of appeals noted that under Colorado law, the Commissioner, in seeking an injunction, did not have to prove irreparable harm or even damages or fraud, but merely the requirements of C.R.S. § 11-51-602(1):³²

1) A past or threatened future violation of the Colorado Securities Act exists;
2) The injunction would not disserve the public interest; and
3) The public interest favors the injunction.

In reversing the trial court, the court of appeals said that the trial court had found that Equity Edge had sold unregistered, non-exempt securities and thus found a past violation, and therefore erred when it failed to consider the two public interest findings.

As noted in Lowery v. Lord Hill Inv. Co.,³³ "[t]he claim of misrepresentation under the Colorado Securities Act does not depend upon the exempt or non-exempt status of the security [sold]. The misrepresentation may occur in the context of the registration statement for a non-exempt security, or in the promotion or negotiations for sale of an exempt or non-exempt security."³⁴

C.R.S. § 11-51-604(4) is the Colorado analogue of the federal securities law statute, a combination of § 12(a)(2) of the 1933 Act and Rule 10b-5 under the 1934 Act:

Any person who sells a security in violation of section 11-51-501(l)(b) (the buyer not knowing of the untruth or omission) and who does not sustain the burden of proof that such person did not know, and in the exercise of reasonable care could not have known, of the untruth or omission is liable to the person buying the security from such person, who may sue to recover the consideration paid for the security, together with interest at the statutory rate from the date of payment, costs, and reasonable attorney fees, less the amount of any income received on the security, upon the tender of the security, or is liable for damages if the buyer no longer owns the security. Damages are deemed to be the amount that would be recoverable upon a tender, less the value of the security when the buyer disposed of it, and interest at the statutory rate from the date of disposition.

This statute was interpreted by the U.S. District Court for Colorado in FDIC v. Refco Group, Ltd.³⁵ In that case, the district court stated that the plaintiff must show that the defendant "made a misrepresentation, omission or misleading statement of material fact in connection with the offer or sale of securities. . . ."³⁶ The Refco court also made it clear that justifiable reliance by the plaintiff was required. The relevant factors to be considered and balanced in determining whether reliance is justifiable are:

• The sophistication and expertise of the plaintiff in financial and securities matters;
• The existence of long-standing business or personal relationships;
• Access to relevant information;
• The existence of a fiduciary relationship;
• The concealment of the fraud;
• The opportunity to detect the fraud;
• Whether the plaintiff initiated the stock transaction or sought to expedite the transactions; and
• The generality or specificity of misrepresentations.

The anti-fraud provisions of the Colorado Act are similar to the provisions under federal law. For example, as currently written, § 11-51-501 of the Colorado Securities Act is substantially the same as federal Rule 10b-5, and likely will require a showing of scienter for a plaintiff to prevail.³⁷ Prior to the 1990 amendments to the Colorado Act, C.R.S. § 11-51-125(3) (now repealed) was equivalent to 1933 Act § 12(a)(2). Prior to the 1990 amendments, Colorado courts had interpreted C.R.S. § 11-51-125(3) to require only a showing of negligence.³⁸

Many subscription agreements contain choice of law and choice of venue provisions that the promoter of the investment opportunity determines to be favorable, or at least local. Under contract law, these provisions are generally enforceable, and a Colorado Supreme Court decision found that a Texas choice of venue provision was enforceable and reversed the Colorado Court of Appeals, which had found that the choice of venue violated the anti-waiver provisions of § 11-51-604(11) of the Colorado Securities Act.³⁹

In People v. Milne,⁴⁰ the Colorado Supreme Court upheld Milne's conviction of violating the Colorado Securities Act for selling securities without a license. Milne appealed, arguing that he had no obligation to become licensed because he was dealing in exempt securities or exempt transactions. The court affirmed the conviction, holding that the statute did not expressly exempt sellers of exempted securities from the licensing requirements.

In People v. Rivera,⁴¹ the Colorado Court of Appeals held that, to be convicted of selling unregistered securities, the defendant did not even have to know that the transaction involved securities. Instead, the prosecution must prove that the instruments being offered and sold were securities; the defendant's knowledge is not relevant.

§ 11.7.2—Enforcement Of The Colorado Securities Act

The Colorado Securities Act⁴² is administered and enforced by the Colorado Division of Securities (Securities Division), a division of the Department of Regulatory Agencies. The Securities Commissioner is the head officer of the Securities Division, and is assisted by a Deputy Commissioner and a staff of 18. It also provides for criminal liability for violations, and thus is also enforced by local district attorneys and the Colorado Attorney General's office.

In 1995, the Colorado legislature established the Colorado Securities Board to oversee the operations of the Securities Division and to serve as the forum for certain appeals from decisions of the Securities Commissioner,⁴³ The Securities Board consists of five persons, at least one of whom must be from Colorado's Western Slope. The five persons must include one certified public accountant, two lawyers who are "conversant" in securities law, and two public members.

Before the enactment of HB 01-1031 in 2001, the Colorado Securities Act gave the Securities Commissioner the authority to act by issuing a "summary order" only in limited circumstances, such as the following:

1) When the target of the investigation consented to the entry of the summary order.⁴⁴
2) When it appeared to the Securities

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