Canfield v. Rapp & Son, Inc., 80-2836

• Decision Date: 06 July 1981
• Docket Number: No. 80-2836,80-2836
• Citation: 654 F.2d 459
• Parties: Fed. Sec. L. Rep. P 98,227 G. L. CANFIELD, Plaintiff-Appellee, v. RAPP & SON, INC., Defendant-Appellant.
• Court: U.S. Court of Appeals — Seventh Circuit

Page 459

654 F.2d 459

Fed. Sec. L. Rep. P 98,227

G. L. CANFIELD, Plaintiff-Appellee, v. RAPP & SON, INC., Defendant-Appellant.

No. 80-2836.

United States Court of Appeals, Seventh Circuit.

Argued May 26, 1981.

Decided July 6, 1981.

Michael R. Fruehwald, Barnes, Hickam, Pantzer & Boyd, Indianapolis, Ind., for plaintiff-appellee.

Donald S. Young, Dykema, Gossett, Sprencer, Goodnow & Trigg, Detroit, Mich., for defendant-appellant.

Before SWYGERT, Senior Circuit Judge, SPRECHER, Circuit Judge, and THOMAS, Senior District Judge. ^*

SPRECHER, Circuit Judge.

This case arises out of the sale of the business, through the sale of all of the stock, of Twigg Corp. ("Twigg") to Rapp & Son, Inc. ("Rapp") by G. L. Canfield and two other former owners of Twigg. Rapp alleges that the sale violated federal and Indiana securities laws and constituted common law fraud. After trial, the district court found that Rapp had failed to establish any of the material elements for recovery under the federal and state securities laws or for common law fraud. Moreover, the court found that the transaction in controversy did not constitute the sale of a "security" for purposes of the federal and state securities laws.

We find that the district court correctly anticipated this court's decision in Frederiksen v. Poloway, 637 F.2d 1147 (7th Cir.), cert. denied, --- U.S. ----, 101 S.Ct. 3006, 68 L.Ed.2d ---- (1981). In Frederiksen, we held that when a purchase of stock actually involves the purchase and assumption of control of an entire business, the transaction does not properly come within the scope of the federal securities laws. We find that the federal and state securities law claims here are governed by Frederiksen. Furthermore, we find that the district court's findings regarding Indiana common law fraud are amply supported. Therefore, we affirm.

I

Twigg is an Indiana corporation engaged in the business of manufacturing machine parts, primarily for use in military aircraft and other defense contracting. Until December 31, 1976, Twigg's stock was owned 75% by Canfield, 20% by Andrew Neary, and 5% by Hobart T. Weber. In 1976, Canfield and the other owners of Twigg decided to sell the business. They employed a finder, Homer Cochran, to assist in locating a buyer. In October, 1976, Rapp placed an advertisement in the Wall Street Journal seeking "acquisition of a healthy company by principal, $500,000.00 to $2,000,000.00." Cochran put the parties in contact with each other, and serious negotiations began in early December, 1976. ¹ On December 31, 1976, an "Agreement for Sale of Stock of Twigg Corporation" ("Agreement") was signed by Canfield, Neary, and Weber as sellers and Rapp as purchaser. The purchase price for all the Twigg stock was $2 million.

Rapp alleges that during the December negotiations, Canfield made certain misrepresentations about government equipment in the possession of Twigg. The equipment at issue consists of thirty machines or tables which, at the time of the sale, were leased by Twigg from the U. S. Air Force under a facilities contract. In 1976, the facilities contract was renewed through August 31, 1978. ² In spring 1975, Twigg approached the Air Force regarding possible purchase of the equipment by Twigg. Subsequently, Twigg made a request to purchase the equipment, and Canfield began corresponding with the Air Force personnel involved in reviewing the purchase request.

In a December 6, 1976 meeting, Canfield informed Rapp's representatives of Twigg's request to purchase the government equipment and the status of the request at that time. Canfield also informed them of his understanding that if the sale was not approved or if no agreement was reached on the price, Twigg could continue to lease the equipment subject to renewals which previously always had been granted. In a later meeting, Rapp and Canfield agreed to a provision in the Agreement that Canfield would continue the negotiations with the government for the purchase of the equipment.

The testimony is conflicting with regard to other representations allegedly made by Canfield prior to execution of the December 31 Agreement. Rapp's primary claim is that Canfield represented, without any rational basis, that if Twigg chose to buy the equipment, the price probably would be $40,000 to $60,000, and the maximum price would be $100,000. In connection with Canfield's allegedly misleading price estimate, Rapp claims that Canfield made the following additional misrepresentations: (1) Canfield never disclosed that the government would require Twigg to purchase the equipment in order to maintain possession of it, but rather he represented that Twigg could continue to rent the equipment if it was not purchased; (2) Canfield falsely represented that he had prior experience in negotiating purchases of government equipment and also made representations as to how the negotiations would proceed, despite having no basis for making such statements; and (3) Canfield failed to disclose to Rapp that he was advised in May, 1975, that the government equipment had been "appraised" at a value of $356,250 and that the equipment could only be acquired at its fair market value.

Apparently, Rapp did not independently investigate the probable purchase price or value of the government equipment. There are no references to the equipment price in the Agreement. Article I, Section 6(b) of the Agreement states that "Twigg holds as lessee certain equipment owned by the United States Government Department of Air Force under leases which as last amended run until August 31, 1978." Article V, Section 1, Clause (g) provides that:

G. L. Canfield agrees to use his best efforts to complete Twigg's negotiations for the purchase of the government owned facilities now in Twigg's possession, for which he shall be entitled to reimbursement for expenses, but shall not be otherwise compensated.

Twigg finally purchased the equipment in July, 1979, for $554,000. Rapp argues that in negotiating the Agreement, it relied on Canfield's alleged misrepresentations and omissions regarding the equipment. Rapp argues that, because Rapp had to buy the equipment at a price much higher than Canfield's estimated price, the stock was worth less than the $2 million Rapp paid. Rapp alleges that Canfield violated Rule 10b-5 of the Securities and Exchange Commission, 17 C.F.R. § 240.10b-5; § 17(a) of the Securities Act of 1933, 15 U.S.C. § 77q(a); and the anti-fraud provision of the Indiana Securities Law, Ind. Code § 23-2-1-12; and that Canfield's conduct constituted common law fraud. ³

The district court found that: (1) in his oral conversations with representatives of Rapp, Canfield did not make any misleading statements regarding the government equipment; (2) any speculation by Canfield as to the future purchase price for the government equipment would not have been material to a reasonable purchaser of Twigg; (3) Rapp did not rely on statements by Canfield regarding the future purchase price of the government equipment in arriving at the purchase price of Twigg; (4) Canfield did not intend to deceive Rapp, nor was his conduct reckless with respect to misleading Rapp; (5) Rapp was not damaged, because the value of Twigg as of December 31, 1976, was $2 million with or without speculation by Canfield about the result of future negotiations for purchase of the government equipment; and (6) Twigg's purchase of the government equipment in 1979 was a business judgment by Rapp and was not caused by Canfield's representations prior to the 1976 Agreement. ⁴ The court's findings negated every element of the federal and state securities law claims, as well as the Indiana common law fraud claim.

The court additionally found that Rapp failed to state a claim under the federal and state security laws because under these circumstances the transaction did not constitute the sale of a "security" for purposes of the securities laws. ⁵ The court stated that "the transaction entered into by the parties here, albeit a 'stock' sale involving stock as that term is commonly understood, was in reality merely a mechanism whereby the commercial purchase and sale of an entire company could be effectuated with the purchased stock serving only as an indicia of ownership." Canfield v. Rapp, IP 77-196-C, slip op. at 7 (S.D.Ind. November 28, 1980). We affirm the district court's holding that neither the federal nor state securities laws applies to this transaction. We also affirm the district court's rejection of Rapp's Indiana common law fraud claim. ⁶

II

In Frederiksen v. Poloway, 637 F.2d 1147 (7th Cir.), cert. denied, --- U.S. ----, 101 S.Ct. 3006, 68 L.Ed.2d ---- (1981), this court addressed the question of whether alleged fraud regarding the sale of stock incident to sale of an entire business falls within the scope of the federal securities laws. In Frederiksen, plaintiffs purchased both the assets and stock of the defendant-sole shareholder's corporation. Plaintiffs alleged that the interests they acquired in the corporation were "securities" within the meaning of the federal securities acts and that, in connection with the sale of these interests, defendant failed to disclose or misrepresented certain facts in violation of the federal securities acts.

In holding that the transaction in Frederiksen was not covered by the federal securities laws, this court relied on the leading Supreme Court case of United Housing Foundation, Inc. v. Forman, 421 U.S. 837, 95 S.Ct. 2051, 44 L.Ed.2d 621 (1975). In Forman, the Court rejected the suggestion that because a transaction is evidenced by the sale of shares called "stock", it "must be considered a security transaction simply because the statutory definition of security includes the words 'any ... stock.' " 421 U.S. at 848, 95 S.Ct. at 2058. Instead, the Court held that the applicability of the federal securities laws turns on "the economic realities underlying a transaction, and not...