Smith Intern., Inc. v. Texas Commerce Bank

Citation844 F.2d 1193
Decision Date18 May 1988
Docket NumberNo. 86-2841,86-2841
PartiesFed. Sec. L. Rep. P 93,770, 11 Fed.R.Serv.3d 85, RICO Bus.Disp.Guide 6947 SMITH INTERNATIONAL, INC., Etc., Plaintiff, Ajax Magnethermic Corp., Baird Corp., Motion Industries, Inc., John R. Peterson, Inc., Marvin Howard Peck, Newage Industries, Inc., and Production Tool Sales, Inc., Plaintiffs-Appellants, v. TEXAS COMMERCE BANK, National Association, et al., Defendants-Appellees.
CourtUnited States Courts of Appeals. United States Court of Appeals (5th Circuit)

Stephen D. Susman, Barbara Lowe, Susman, Godfrey & McGowan, Houston, Tex., for Baird Corp., Ajax Magnathermic Corp., et al.

Joe M. Kirkham, Wendy Siceloff, Kirkham & Siceloff, Carole R. Riggs, Campbell & Riggs, Houston, Tex., for Marvin Howard Peck.

Douglas S. Johnston, Houston, Tex., for John R. Peterson, Inc.

Van E. McFarland, Houston, Tex., for Production Tool Sales, Inc.

Christopher B. Allen, Liddell, Sapp, Zively, Brown & LaBoon, Houston, Tex., for Texas Commerce Bank.

Michael P. Graham, David P. King, Houston, Tex., for John F. Carter, II, et al.

Appeals from the United States District Court for the Southern District of Texas.

Before THORNBERRY, GARWOOD, and HIGGINBOTHAM, Circuit Judges.

GARWOOD, Circuit Judge:

Plaintiffs-appellants and their attorney appeal the district court's grant of defendants-appellees' motions for sanctions pursuant to Fed.R.Civ.P. 11 and 28 U.S.C. Sec. 1927. We vacate and remand.

Facts and Proceedings Below

The underlying action consists of consolidated suits by plaintiffs-appellants, who are some of the trade creditors of Tubulars Unlimited (Tubulars), against Tubulars and its president, Tublars' attorneys, Texas Commerce Bank (TCB), which had made Tubulars a construction loan, a TCB officer and certain others, under the Securities Act of 1933, the Securities Exchange Act of 1934, and the Racketeer Influenced and Corrupt Organizations Act (RICO). The district court granted defendants' motion for summary judgment and dismissed the suits. No appeal has been taken from that ruling. Subsequently, the court granted defendants' motion for sanctions, and it is this action which the present appeal challenges.

In July 1981, Tubulars began construction on a pipe threading and heat treating facility in Brookshire, Texas. To finance this construction, Tubulars borrowed over $13,000,000 from defendant-appellee TCB. As part of this transaction, TCB acquired a first lien on all of Tubulars' real and personal property. Defendant-appellee John McGee, one of TCB's vice presidents, was given the task of overseeing this loan.

While the facility was still under construction, plaintiffs sold certain equipment to Tubulars on open account. However, because of the general downturn in the oil industry in early 1982 and the consequent reduction in demand for Tubulars' services, Tubulars was unable to pay these accounts as they became due. In response to Tubulars' rapidly deteriorating financial situation, Tubulars' management developed a four-point financial plan pursuant to which the company's smaller trade creditors (those with claims below $10,000) would be paid in full and its larger trade creditors (those with claims above $10,000) would be offered Tubulars one-year promissory notes. Before attempting to implement this plan, defendant-appellee Robert Donaldson, Tubulars' president, called defendant-appellee John F. Carter, II, an attorney at defendant-appellee Hutcheson & Grundy, to discuss the legal aspects of the plan. Subsequent to this discussion, Donaldson sent Hutcheson & Grundy the draft of a letter that he proposed to send to Tubulars' larger creditors, which another Hutcheson & Grundy attorney reviewed. Donaldson also requested that Hutcheson & Grundy prepare a draft of the promissory note that Tubulars planned to submit to its larger creditors, which a third Hutcheson & Grundy attorney did.

Between July and October 1982, Tubulars offered its one-year, unsecured promissory notes to each of its larger trade creditors in the amount of each creditor's trade debt plus interest at one point above the prevailing prime rate. Hoping that they would help Tubulars regain financial health and thereby recover the amounts they were owed, plaintiffs accepted these notes. Throughout this period, McGee was monitoring Tubulars' financial situation fairly closely, at one point holding weekly breakfast meetings with Tubulars' management. Despite the efforts of Tubulars' management, Tubulars' four-point financial plan did not prove to be a success. As a result, on April 5, 1983, TCB foreclosed on Tubulars' realty and fixtures. Two months later, TCB foreclosed on Tubulars' machinery, equipment, and other personal property.

Because Tubulars had failed to pay its promissory notes, in July 1983, plaintiff-appellant Smith International asked attorney Gerald Burleson to take action to recover on Smith International's $166,000 promissory note. Appellant Burleson talked with someone at Smith International who had knowledge of the transaction involving the promissory note; he also talked with Tubulars' president, Donaldson. On the basis of the information thus acquired, Burleson filed suit on August 9, 1983, on behalf of Smith International against Tubulars, Donaldson, and TCB.

In the spring of 1984, Burleson attended a meeting of Tubulars' creditors at which he met other trade creditors who had not been paid on their one-year Tubulars notes. Following this meeting, some of these creditors (but not including any who were or became parties to this suit) decided to file an involuntary petition against Tubulars under Chapter Seven of the Bankruptcy Code, 11 U.S.C. Secs. 701-766, which they did on April 4, 1984. Others of these one-year-note creditors, however, decided to retain Burleson as counsel and to pursue the course of action being taken by Smith International. Thus, on July 16, 1984, Burleson filed a second suit on behalf of Ajax Magnethermic and the remaining plaintiffs-appellants. This second suit named additional defendants, including Carter, Hutcheson & Grundy, and McGee. Subsequently, these two suits were consolidated, and the complaint was amended to permit Smith International to proceed against the additional defendants.

Between October 1984 and May 1985, Burleson deposed defendants and conducted other discovery. On June 12, 1985, after discovery had ended, the complaint was amended to add a claim against TCB under RICO, 18 U.S.C. Secs. 1961-1968. On September 23, 1985, the complaint was amended for the final time. At that point, the claims stood as follows. In Count One, all plaintiffs except appellant Marvin Howard Peck (Peck) 1 sued all defendants under section 12(2) of the Securities Act of 1933, 15 U.S.C. Sec. 77l (2). In Count Two, all plaintiffs except Peck 2 sued all defendants except MEI Energy, Inc. under section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. Sec. 78j(b), and Rule 10b-5 thereunder, 17 C.F.R. Sec. 240.10b-5. In Count Three, Smith International sued Tubulars, Donaldson, and TCB under section 12(1) of the Securities Act of 1933, 15 U.S.C. Sec. 77l (1). And in Count Four, all plaintiffs sued TCB under RICO. The securities counts were based on the one-year notes being securities. The RICO count relied on the asserted securities laws violations for some, but not all, of the predicate acts charged.

On October 30, 1985, defendants filed a motion for summary judgment. On May 14, 1986, the district court granted defendants' motion for summary judgment on the grounds that the promissory notes were not securities as a matter of law and the evidence did not support a showing of a pattern of racketeering activity. On June 18, 1986, TCB and McGee filed a motion for sanctions against plaintiffs and Burleson pursuant to Fed.R.Civ.P. 11 and 28 U.S.C. Sec. 1927. On the following day, Carter and Hutcheson & Grundy filed a motion for sanctions pursuant to Fed.R.Civ.P. 11. On September 12, 1986, the district court granted these motions for sanctions and ordered appellants to pay $180,000 to TCB and $50,000 to Hutcheson & Grundy. For all these amounts, all plaintiffs and attorney Burleson were made jointly and severally liable. This appeal followed.

Discussion

We recently gave thorough consideration to Rule 11 in Thomas v. Capital Security Services, Inc., 836 F.2d 866 (5th Cir.1988) (en banc), which was handed down well after the district court's action in this case. Under Thomas, it is clear that appellate review of orders granting or denying sanctions is on an abuse of discretion basis. Id. at 872-73. This is also the basis on which we review determinations under 28 U.S.C. Sec. 1927. See Jackson Marine Corp. v. Harvey Barge Repair, Inc., 794 F.2d 989, 992 (5th Cir.1986); In re Hunt, 754 F.2d 1290, 1294 (5th Cir.1985). However, in this connection, as we recognized in Thomas: "[L]egal issues may be subsumed within a group of issues generated by a district court's decision on sanctions." 836 F.2d at 873. This is likewise true of section 1927 review. While Thomas adopted "a rule ... that does not require specific findings and conclusions by a district court in all Rule 11 cases," nevertheless we there held that where "the basis and justification for the trial judge's Rule 11 decision is not readily discernible" some explanation is ordinarily required, though "the degree and extent to which specific explanation must be contained in the record will vary according with the particular circumstances of the case, including the severity of the violation, the significance of the sanctions, and the effect of the award." Id. at 883. "If the sanctions imposed are substantial in amount"--as they clearly are here--then "appellate review of such awards will be inherently more rigorous" and "such sanctions must be quantifiable with some precision." Id. We believe all these comments are equally applicable to section 1927.

Thomas also teaches that in fixing the character and extent of sanctions district courts are...

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