479 F.2d 1277 (2nd Cir. 1973), 382, Lanza v. Drexel & Co.
|Docket Nº:||382, 35794.|
|Citation:||479 F.2d 1277|
|Party Name:||Frank LANZA, Jr., et al., Plaintiffs-Appellants, v. DREXEL & CO. et al., Defendants-Appellees, Theodore J. Kircher and Christie F. Vitolo, Defendants-Appellants.|
|Case Date:||April 26, 1973|
|Court:||United States Courts of Appeals, Court of Appeals for the Second Circuit|
Original Argument Sept. 16, 1971.
Argument before the Court en banc Nov. 1, 1972.
[Copyrighted Material Omitted]
Franklin S. Bonem, New York City (Bonnie P. Winawer and London, Buttenwieser & Chalif, New York City, of counsel), for plaintiffs-appellants Frank Lanza, Jr., Vincent Sharbo, Marie Lanza Sharbo and Clara Lanza Stefano.
James J. Higginson, New York City (Appleton, Rice & Perrin, New York City, of counsel), for defendant-appellant Theodore J. Kircher.
Ralph M. Carson, New York City (Wallace Gossett, Richard M. Berman and Davis, Polk & Wardwell, New York City, of counsel), for defendants-appellees Drexel & Co., John Ames Ballard and Bertram D. Coleman.
Krause, Hirsch & Gross, New York City, for defendant-appellant Christie F. Vitolo and defendant-appellee Leborio Pugliese.
The Securities and Exchange Commission, Washington, D. C. (Walter P. North, Acting Gen. Counsel, Theodore Sonde, Asst. Gen. Counsel, and Frederic T. Spindel, Atty., Washington, D. C.), as amicus curiae.
Before FRIENDLY, Chief Judge, and MOORE, SMITH, KAUFMAN, HAYS, FEINBERG, MANSFIELD, MULLIGAN, OAKES and TIMBERS, Circuit Judges.
MOORE, Circuit Judge:
We sit en banc to decide a question important to the course of evolution of the law relating to corporate directors' liabilities largely spawned by Securities and Exchange Commission (SEC) Rule 10b-5: To what extent does a director of corporation A, (1) who does not know that officers or directors of the corporation on whose board he sits have made false representations to, or have failed to disclose the inaccuracy of material information given to, or have omitted to give material information to owners of all the shares of corporation B who are exchanging their stock for that of corporation A, and (2) who has not been a participant in the negotiation of the sale or made any representation with respect thereto or had any knowledge thereof, owe a duty to such purchaser to inquire into all statements, oral and documentary, made to the stockholders of B in connection with the transaction before voting to authorize the contract formalizing the sale?
On September 16, 1971, a panel comprised of Judges Moore, Smith, and Hays heard oral argument on two appeals, both arising from a judgment entered by Judge Frankel on October 13, 1970. 1 Before any opinion was filed disposing of the appeals, this Court, sua sponte, filed an order on July 5, 1972, that set plaintiffs' appeal down for reargument before all judges in active service and Judges Moore and Smith on the issue of "the effect of SEC Rule 10b-5 upon the duty of an independent director of a corporation which is about to issue securities, in connection with an acquisition."
At our invitation the SEC has submitted an amicus brief.
On December 14, 1961, Frank Lanza, Jr., Marie Lanza Sharbo, and Clara Lanza Stefano (then unmarried), son and daughters of Frank Lanza, Sr., exchanged 20,000 shares ( i. e., all the stock) of Victor Billiard Company (Victor) owned by them for 20,428 shares of BarChris Construction Company (BarChris). Less than one year later BarChris filed a petition in bankruptcy. After an unsuccessful effort to recover their shares in a rescission action against the trustee in bankruptcy, plaintiffs borrowed $100,000 to pay the trustee for the return of their Victor shares.
Plaintiffs then commenced this action for compensatory and punitive damages against former officers and directors of BarChris. They based their suit on Section 10(b) of the Securities Exchange Act of 1934 (1934 Act) (15 U.S.C. § 78j(b) (1970)), SEC Rule 10b-5 promulgated thereunder (17 C.F.R. § 240.10b-5), Section 17(a) of the Securities Act of 1933 (1933 Act) (15 U.S.C. § 77q(a) (1970)), common law fraud, and a theory of prima facie tort. 2
After a five-week non-jury trial, Judge Frankel in a fifty-three page opinion painstakingly analyzed the facts as they related to each of the defendants and their liability or non-liability. The testimony of defendant-appellee Coleman covered 511 pages of the record. From Coleman's extended examination and cross-examination the trial judge had ample opportunity to appraise the quality of the man and his testimony. On this voluminous record Judge Frankel found: (1) that plaintiffs, through their accountant and representative Sidney Shulman, had been led by material misstatements and omissions on the part of certain officers and directors of BarChris to exchange their Victor shares for BarChris shares; (2) that plaintiffs had sustained compensable damages as a result thereof in the amount of $100,000 plus interest; (3) that defendants Christie Vitolo, president, Leonard Russo, director and vice president, and Theodore Kircher, director and treasurer, were liable to the plaintiffs under Rule 10b-5, under common law fraud, and, in the cases of Vitolo and Russo, under Section 20(a) of the 1934 Act (15 U.S.C. § 78t(a)); (4) that Leborio Pugliese, vice president, was not liable under Rule 10b-5 and, assuming him to be a control person, he had established his good faith defense; (5) that defendant John Ames Ballard, director subsequent to December 14, 1961, was not liable to the plaintiffs for allegedly conspiring with Coleman, Pugliese, and one Friedman to delay plaintiffs' appreciation of their right of rescission sometime during 1962 because in fact there had been no such conspiracy; (6) that defendant Bertram D. Coleman, director, was not liable to plaintiffs under either Rule 10b-5 or Section 20(a); and (7) that the firm of which Coleman was a partner, Drexel & Company, a Philadelphia investment and brokerage firm, was not liable on a theory of respondeat superior for Coleman's alleged unlawful conduct. 3
Plaintiffs appeal Judge Frankel's decision exonerating Coleman and Drexel & Co. Defendant Kircher appeals Judge Frankel's earlier denial of Kircher's demand for a trial by jury. 4 Our appellate
task, therefore, is to review the record in order to ascertain whether there is proof sufficient to support Judge Frankel's fact-findings and conclusions. Conversely, our task is not to re-evaluate the proof but only to determine whether the fact-findings are "clearly erroneous."
Having done so, we affirm the lower court judgment in both appeals.
Mindful that in construing Rule 10b-5 we deal with an area of the law "where glib generalizations and unthinking abstractions are major occupational hazards," 5 we set out in detail the evidence as to Coleman's knowledge of, and participation in, the negotiations leading to the December 14, 1961, Victor-Bar-Chris exchange. We note at the outset that no one disputes the finding that Kircher, aided and abetted by Vitolo, Russo, Warren Trilling, controller, and Robert Birnbaum, secretary and house counsel, violated Rule 10b-5 in making to plaintiffs untrue statements of material facts and in omitting to state material facts necessary to render the statements made, in the light of the circumstances under which they were made, not misleading. Our concern is with Coleman's responsibility (if any) for the fraud perpetrated by these other officers and directors, and not with whether fraud was perpetrated by such officers and directors.
As will be developed infra, neither the language nor intent of Section 10(b) or Rule 10b-5 would justify a holding (1) that a director is an insurer of the honesty of individual officers of the corporation in their negotiations which involve the purchase or sale of the corporation's stock or (2) that, although he does not conduct the negotiations, participate therein, or have knowledge thereof, he is under a duty to investigate each such transaction and to inquire as to what representations had been made, by whom and to whom, and then independently check on the truth or falsity of every statement made and document presented.
Were a contrary result to be reached it would, in effect, place an affirmative duty on Coleman (and on all other directors) to intervene personally in every transaction involving the sale or exchange of his corporation's stock and would amount to a holding that a director's vote of approval for any such transaction negotiated and concluded by others, without his knowledge or participation, would be a representation to such purchasers that the director personally had inquired as to the facts upon which the negotiations were based and that he was satisfied that all representations were correct.
In Escott v. BarChris Construction Corp., 283 F.Supp. 643 (S.D.N.Y.1968), purchasers of debentures issued by BarChris sued the defendants herein and others pursuant to Section 11 of the 1933 Act (15 U.S.C. § 77k (1970)). As did Judge Frankel, we adopt portions of the late Judge McLean's statement of the history of BarChris up to May 16, 1961, the date the debenture registration statement became effective:
BarChris was an outgrowth of a business started as a partnership by Vitolo and Pugliese in 1946. The business was incorporated in New York in 1955 under the name of B & C Bowling Alley Builders, Inc. Its name was subsequently changed to BarChris Construction Corporation.
The introduction of automatic pin setting machines in 1952 gave a marked stimulus to bowling. It rapidly became a popular sport, with the result that "bowling centers" began to appear throughout the country in rapidly increasing numbers. BarChris benefited from this...
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