First Virginia Bankshares v. Benson
| Decision Date | 29 September 1977 |
| Docket Number | No. 75-3604,75-3604 |
| Citation | 559 F.2d 1307 |
| Parties | Fed. Sec. L. Rep. P 96,189 FIRST VIRGINIA BANKSHARES, Plaintiff-Appellee, v. Alan BENSON et al., Defendants-Appellants. |
| Court | U.S. Court of Appeals — Fifth Circuit |
Alva C. Caine, Neal C. Newell, Birmingham, Ala., for Benson.
James E. Clark, Birmingham, Ala., Albert E. Jenner, Jr., Robert L. Bombaugh, Gregory G. Wille, Leonard A. Nelson, Chicago, Ill., for Heller.
Hobart M. McWhorter, Jr., Samuel H. Franklin, Birmingham, Ala., for plaintiff-appellee.
Appeals from the United States District Court for the Northern District of Alabama.
Before THORNBERRY and GEE, Circuit Judges, and MARKEY, * Chief Judge.
First Virginia Bankshares (Bankshares), a commercial lending institution, sued another commercial lending institution, Walter E. Heller and Co. (Heller), and the former owners of a family-owned consumer finance company (the Bensons) for damages arising from alleged violations of §§ 12 and 17 of the 1933 Securities Act, 15 U.S.C. §§ 77l, 77q, § 10(b) of the 1934 Exchange Act and Rule 10b-5, 15 U.S.C. § 78j(b) and 7 Ala.Rev.Stat.Ann. §§ 109-111, which codify common law fraud. Bankshares claimed that Heller and the Bensons misrepresented material facts in connection with the merger of the Bensons' company into Bankshares. The court charged the jury only on the 10b-5 1 and fraud counts, 2 and directed a verdict in favor of one of the individual defendants. The jury returned a general verdict of $1,000,000 against all defendants except one individual defendant, the Chief Financial Officer of the Bensons' company. Heller moved for judgment n. o. v., which the court denied. Heller and the individual defendants found liable appeal on the fraud and 10b-5 counts. We affirm as to all defendants.
I.
The Bensons' consumer finance business, located in Birmingham, Alabama, was financed in large part through a rediscount agreement with Heller. This arrangement existed for a period of twelve years prior to the merger, and provided that Heller would loan funds to the Bensons to the extent of 80% of the outstanding balance of the Bensons' "eligible" notes receivable. All of the Bensons' receivables were pledged as security for the loan. The agreement required that in order to be considered by Heller as "eligible" for rediscount, a note must show some payment on it within the preceding ninety days. The rediscount agreement further authorized Heller periodically to examine the books and records of the company in order to confirm the recency of the payments on notes receivable and their eligibility for rediscount. Heller in fact conducted such examinations every three months. Under this arrangement, Heller became the principal creditor of the Bensons' company.
In September of 1971, one of these periodic checks of the Bensons' loans revealed that recent credits had been posted to several accounts, indicating payments on accident and health policies that were issued in connection with many loans. The Bensons' records did not permit verification of these payments, and there was evidence that Heller suspected falsification of the records. These questionable credits affected approximately $180,000 of the Bensons' accounts. Heller summoned some of the Bensons to its offices, complained that the Heller examiners could not verify the validity of the payments in question, and requested the Bensons to institute better accounting procedures in this matter. The Bensons sent out a letter to all of their branch offices directing them to cease posting false accident and health claims. Heller did not exclude the affected loans from the collateral pool, and subsequently loaned the Bensons an additional $310,000.
Following its January 1972 examination, Heller notified the Bensons that their financial report was erroneous. The Bensons had reported a six-month operating profit of $144,567 for the six months ending December 31, 1971. Heller found that $353,194.38 worth of receivables did not qualify as assets. Heller adjusted net worth down by 40% of the total, and reduced the reported net income to show a net loss for the six months of $186,965.
Also about that time, the Bensons and Heller decided to terminate their rediscount agreement. At trial, Heller presented evidence that this was at the Bensons' instance, since they had constantly complained about the level of interest charged by Heller. The agreement to terminate assertedly was mutual. Bankshares contends that Heller was dumping the Bensons, and introduced into evidence a letter from Alan Benson to Heller, dated October 1971, expressing a desire to continue relations with Heller.
In any event, by January 1972, Heller knew that the Bensons were going to move on. And, perhaps as early as March, Heller knew that the Bensons were seeking to sell the company. In the course of the Bensons' efforts to sell, they generated the interest of several larger companies, including American Fletcher and Guardian Finance. Finally, they began talks with Bankshares. All of these overtures, discussions, and negotiations arose through the offices of Charles Michelman of M. L. Michelman and Co., a New York broker who enjoyed a wide reputation as a "finder" for the acquisition of consumer finance companies. The Bensons provided Bankshares with several credit references, including Heller. Bankshares requested Michelman to run a credit check on the Bensons' company. This, according to Michelman's testimony, is quite unusual in a purchase or merger situation; ordinarily, the buyer will run its own credit check. Nevertheless, Michelman agreed, and called Heller on May 24, 1972, without disclosing that he was acting for a potential buyer of the Bensons' company. He spoke with Robert Abrahams, the head of Hellers' rediscount division, who had handled the Bensons account. Michelman had met and was on a first-name basis with Abrahams. Michelman's inquires elicited the following information, as recorded in his memorandum concerning the call:
Bob told me their experience with Benson has been satisfactory for many years. Heller is aware that Benson is thinking of selling, but said that if Benson were not following this course, there is no doubt in his mind that more money could be made available to Benson. Bob characterized the operation as somewhat better than average, although there are areas of sloppiness in bookkeeping as they find in almost all of their clients. Benson has always met its obligations promptly. Bob characterized Alan (Benson) as capable and hard working and said that in his opinion, the operation is better now that Alan is running the show.
At the time of this conversation, the Bensons had been in arrears by three weeks for interest for April (approximately $35,600). Though, prior to the telephone call from Michelman, the Bensons had submitted to Heller a check for the amount of the interest due, Heller had not negotiated that check. For, attached to the check were three slips signifying three recent checks against the Bensons' account that were returned for insufficient funds. Heller did not negotiate its check until May 26, after loaning enough money to the Bensons to cover the check. It is not clear from the evidence whether Heller had received the Bensons' check prior to the time of the telephone conversation.
Subsequently, in a periodic examination conducted from May 24 to June 16, Heller discovered that the Bensons had tampered extensively with their records. In his report, the Heller examiner stated:
Obvious efforts made to inflate assets and income were detected. Client has been actively seeking opportunity for merger, sale, other financing, etc. and evidently has been quite busy "doctoring" records to present a more favorable picture to prospects re the above.
R. Vol. VIII at 2296. Heller did not re-contact Michelman, and was never again directly asked about the Bensons' integrity by any other party to this lawsuit.
Independently, Bankshares engaged an auditing firm to conduct an audit of the Bensons' operation, and sent some of its own personnel to check the Bensons' records. The audit, while not involving independent verification with the Bensons' debtors, showed the books to be clean.
After all of this, Bankshares agreed to buy the Bensons' company. Bankshares' largest subsidiary bank, First Virginia Bank, entered into a rediscount agreement with the Bensons' company to provide interim financing. It also loaned the Bensons the money to pay off the debt to Heller, which had reached approximately $3,700,000. In July 1972, Bankshares contacted Heller by telephone to inform them that pay down of the debt was about to begin. It is uncontroverted that at least after this telephone call, Heller knew that Bankshares was going to acquire the Bensons' company. By the end of August 1972, the Bensons had paid off the entire Heller debt with funds loaned by First Virginia Bank.
In March 1973, Bankshares merged with the Bensons' company in a stock-for-stock transaction, and the First Virginia Bank rediscount with the company was cancelled. Several months after the merger, Bankshares learned that the Bensons had engaged in several bad accounting practices and forms of fraud. The Bensons kept only one record for each consumer loan made a ledger card. Some of the practices with respect to these cards were: (1) ledger cards were posted to reflect a payment when in fact no payment had been received, (2) payments were posted to ledger cards as accident and health insurance payments, when in fact the debtor had not made any insurance claim and no payment was made by any insurance company, (3) ledger cards of delinquent accounts were retyped and updated, giving the loan status a current appearance, (4) ledger cards were made up with reference to fictitious loans where there was no genuine borrower, and (5) payments received by the Bensons from bankruptcy court were spread around to a...
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