Demarco v. Edens

• Decision Date: 07 March 1968
• Docket Number: 31068.,22,Dockets 31067,No. 21,21
• Parties: Vincent DEMARCO, Belle Pomerantz and Mary Roth, on behalf of themselves and all others similarly situated, Plaintiffs-Appellants, v. Robert B. EDENS, Martin Lasher, Precision Metal Products, Inc., Philip Tashman, Harry Schwartz, John Doe and Richard Roe, the names John Doe and Richard Roe being fictitious, the true names of said defendants being unknown to plaintiffs, the parties intended being more fully described in the complaint, Defendants-Appellees. Anthony GRANDINETTI, Al Langer, Angela Bennetti, Celia Israel, Stanley F. Harrison, Jr., Harold K. Stearns, and Helen Stearns, Plaintiffs-Appellants, v. Robert B. EDENS, Martin Lasher, Precision Metal Products, Inc., Philip Tashman, Harry Schwartz, John Doe and Richard Roe, the names John Doe and Richard Roe being fictitious, the true names of said defendants being unknown to plaintiffs, the parties intended being more fully described in the complaint, Defendants-Appellees.
• Court: U.S. Court of Appeals — Second Circuit

390 F.2d 836 (1968)

Vincent DEMARCO, Belle Pomerantz and Mary Roth, on behalf of themselves and all others similarly situated, Plaintiffs-Appellants, v. Robert B. EDENS, Martin Lasher, Precision Metal Products, Inc., Philip Tashman, Harry Schwartz, John Doe and Richard Roe, the names John Doe and Richard Roe being fictitious, the true names of said defendants being unknown to plaintiffs, the parties intended being more fully described in the complaint, Defendants-Appellees.

Anthony GRANDINETTI, Al Langer, Angela Bennetti, Celia Israel, Stanley F. Harrison, Jr., Harold K. Stearns, and Helen Stearns, Plaintiffs-Appellants, v. Robert B. EDENS, Martin Lasher, Precision Metal Products, Inc., Philip Tashman, Harry Schwartz, John Doe and Richard Roe, the names John Doe and Richard Roe being fictitious, the true names of said defendants being unknown to plaintiffs, the parties intended being more fully described in the complaint, Defendants-Appellees.

Nos. 21, 22, Dockets 31067, 31068.

United States Court of Appeals Second Circuit.

Argued September 19, 1967.

Decided March 7, 1968.

COPYRIGHT MATERIAL OMITTED

Irving Malchman, Jerome J. Klied, Malchman & Klied, New York City, for plaintiffs-appellants.

Peter P. Smith, III, Francis J. Purcell, Shea, Gallop, Climenko & Gould, New York City, for defendants-appellees Precision Metal Products, Inc., Philip Tashman and Harry Schwartz.

Before LUMBARD, Chief Judge, and WATERMAN and FEINBERG, Circuit Judges.

WATERMAN, Circuit Judge.

In two actions, allegedly maintainable as class actions, brought by different sets of plaintiffs but later consolidated for trial, each petitioner sought to recover the purchase price of $3.00 a share paid by petitioners for blocks of Precision Metal Products, Inc. common stock which had been purchased in November and December 1961. A New York underwriter, Armstrong & Co., Inc. (Armstrong) had agreed to market the stock of Precision Metal Products, Inc. on a "best efforts" basis, but had failed to remit the proceeds from most of the sales that had been made. When, after a substantial period of time had passed, petitioners had not received stock certificates representing their investments, they instituted this action against the issuer and its officers, and the officers of the underwriter. The United States District Court for the Southern District of New York, Sugarman, Ch. J., sitting without a jury (1) found that two officers of Armstrong & Co. were liable for the purchase price under the Securities Act of 1933, 15 U.S.C. §§ 77a-77aa, but (2) dismissed the complaint against Precision Metal Products, Inc. and its officers, and (3) adjudged that the actions brought were not properly maintainable as class actions. Petitioners now appeal from parts (2) and (3) of the district court's judgment. For the reasons stated below, we agree with the disposition of these issues by the district court, and affirm the judgment below.

Early in 1961 the directors of Precision Metal Products, Inc. (Precision), a Florida corporation, decided that the company should "go public," and the search for an underwriter was commenced. The aid of a finder was enlisted and Precision eventually settled upon the underwriter recommended by him, Armstrong. However, before entering into an underwriting agreement with Armstrong, Precision's representative made an investigation of Armstrong's past history and its reputation in the industry. Evidently having been convinced that Armstrong was a reliable underwriter, Precision proceeded to execute an underwriting agreement with Armstrong on August 20, 1961. Thereafter Precision filed a Notification Form 1-A and Offering Circular with the Atlanta office of the Securities and Exchange Commission and was granted November 21, 1961 as the effective date for its offering. The issue had qualified as a Regulation A offering and thus was exempt from registration. See 15 U.S.C. § 77c(b) and 17 CFR § 230.251 et seq.

During the period prior to and immediately after the signing of the underwriting agreement Armstrong was in financial difficulty. In order to comply with the 2,000% ratio of assets to liabilities required by the SEC, Robert Edens, President of Armstrong, borrowed from Martin Lasher, who later became an officer of Armstrong, over $100,000, and also borrowed stock certificates from him which were carried by Edens in Armstrong's own account. Lasher expected to be repaid out of two issues which Armstrong had contracted to handle but which had not been approved by the SEC. This was the situation when Precision executed the underwriting agreement.

On November 21, 1961 Armstrong began the selling of Precision shares to several of its customers, including all of the petitioners. Armstrong had in the past acted as a sort of financial advisor to these purchasers and had helped them build investment portfolios, so, needless to say, they had confidence in Armstrong's advice and generally bought particular stocks solely upon Armstrong's recommendation. During the one month period to December 20, 1961, Edens represented to Precision that sales were going slowly because of the impending Christmas holidays and that he would wait until substantial proceeds were collected before he would make a remittance to Precision's transfer agent. In fact, during this time Armstrong was appropriating to its own use the proceeds of the Precision sales so as to ameliorate its own precarious financial situation. On December 19 or 20 Precision was told the issue was almost sold out. A week later Precision inquired when the proceeds of the sale could be expected and was informed that funds were coming in slowly. This shadow-boxing occurred for still another month though Armstrong forwarded three checks to Precision during this period: one for $10,000, dated January 23, 1962, which was returned to Precision because Armstrong had insufficient funds in the bank upon which the check was drawn; a second, a certified check, upon receipt of which Precision authorized its transfer agent to issue an appropriate number of stock certificates to Armstrong in its street name; and a third one, dated January 31, 1962, which could not be certified. Precision, on February 8, 1962, demanded an accounting from Armstrong and when such was not forthcoming filed a complaint with the SEC. Thereafter, the appellants timely commenced their actions in the court below.

In their complaints appellants first alleged that all of the defendants had violated either Section 12 or Section 15 of the Securities Act of 1933, 15 U.S.C. §§ 77l, 77o. Section 12(2) of the Act provides civil relief in the nature of rescission to a purchaser whenever any person has sold or offered a security to that purchaser by means of a prospectus or oral communication which contains materially misleading statements or omissions;¹ Section 15 extends the class of persons against whom relief can be taken by including every person who controls, by stock ownership, agency, or otherwise, a person liable under Section 12.² In the present cases, appellants alleged violations of these sections because it was not disclosed in the offering circular for Precision stock or otherwise that the stock would not be delivered to the purchasers thereof or that the proceeds of sale would not be remitted to Precision by Armstrong. Appellants added at trial that Section 12 was further violated in that the offering circular failed to disclose that Armstrong would not consummate the sales transactions promptly. Although Armstrong was not a defendant in these actions, it is clear that Armstrong was a "seller" of the securities within the Section 12 meaning of that term. See Schillner v. H. Vaughan Clarke & Co., 134 F.2d 875 (2 Cir. 1943); Cady v. Murphy, 113 F.2d 988 (1 Cir.), cert. denied, 311 U.S. 705, 61 S.Ct. 175, 85 L.Ed. 458 (1940); see generally 3 Loss, Securities Regulation 1717-20 (2d ed. 1961). Hence defendants Edens and Lasher, officers of Armstrong, were implicated as persons controlling Armstrong within the meaning of Section 15.

The alleged liability of Precision was rooted in two theories: (1) Precision sold its stock through Armstrong and thus was a "seller" within Section 12(2), or (2) Precision controlled Armstrong within the terms of Section 15. Defendants Tashman and Schwartz were officers, directors and principal shareholders of Precision and were alleged to be liable as controllers of Precision under Section 15. The "Armstrong defendants" were both found by the district court to be liable to the purchasers under the Securities Act of 1933, and their liability is not an issue on this appeal. However, the so-called "Precision defendants" all gained dismissals in the district court, and appellants seek reversal of the dismissal order.

Preliminarily we note our agreement with the district court that the failure to disclose in the offering circular and confirmation of sale that Armstrong would neither remit the proceeds of sales to Precision nor deliver the stock to the purchasers, and the failure to disclose that Armstrong would not consummate sales transactions promptly, were material omissions within the meaning of Section 12(2). The regulations provide that an omission is material if the undisclosed information concerns "matters as to which an average prudent investor ought reasonably to be informed before purchasing the security registered." 17 C.F.R. § 230.405(1). Any average prudent investor would surely want to know whether his payment will be remitted to the issuer, whether a stock certificate will be issued, and whether the entire purchase transaction will be completed reasonably promptly. See Guardian Investment Corp. v. Rubinstein, 192 A.2d 296 (Ct.App.D.C. 1963); cf. Rogen v. Ilikon Corp., 361 F. 2d 260, 266 (1 Cir. 1966). It follows, therefore, that the omissions involved in this case were material. Moreover, the omissions were of facts which existed at the time of sale, for it is clear from Armstrong's...