Stewart v. Ragland, 89-16114

• Decision Date: 30 August 1991
• Docket Number: No. 89-16114,89-16114
• Citation: 934 F.2d 1033
• Parties: , Fed. Sec. L. Rep. P 95,918 Ronald E. STEWART; John A. Gromala; John E. Donohue; Gerald R. Harland; Keith S. Humphreys; John D. Drake; Tom DuFour; Roger Sohnrey; Oklahoma Energy Investors; S & H Diversified; Sohnrey Bros., Plaintiffs-Appellees, v. James A. RAGLAND, Defendant-Appellant.
• Court: U.S. Court of Appeals — Ninth Circuit

Page 1033

934 F.2d 1033

59 USLW 2728, Fed. Sec. L. Rep. P 95,918

Ronald E. STEWART; John A. Gromala; John E. Donohue;

Gerald R. Harland; Keith S. Humphreys; John D. Drake; Tom

DuFour; Roger Sohnrey; Oklahoma Energy Investors; S & H

Diversified; Sohnrey Bros., Plaintiffs-Appellees, v. James A. RAGLAND, Defendant-Appellant.

No. 89-16114.

United States Court of Appeals, Ninth Circuit.

Argued and Submitted Dec. 13, 1990.

Decided May 9, 1991.

As Amended June 13, 1991.

As Amended on Denial of Rehearing

and Rehearing En Banc

Aug. 30, 1991.

Jack R. Durland, Jr., Berry & Durland, Oklahoma City, Okl., for defendant-appellant.

John D. Barr, Marc C. Barulich, Barr, Newlan & Sinclair, Redding, Cal., for plaintiffs-appellees.

Appeal from the United States District Court for the Eastern District of California.

Before SNEED, SCHROEDER and CANBY, Circuit Judges.

SNEED, Circuit Judge:

This purports to be a securities fraud case based on a failed oil and gas venture. Defendant James Ragland, president of an Oklahoma oil and gas company, sold working interests in wells to the plaintiffs. Plaintiffs are all friends and associates of each other, many of whom have invested extensively in energy production. ¹

Each well was managed by an independent oil and gas operator, with plaintiffs retaining certain rights. ² During the sales negotiations, one of the plaintiffs' law partners assured defendant over the phone and in writing that the interests would be exempt from classification as a security under the California Corporations Code. ³

Plaintiffs asserted four causes of action: 1) selling unregistered securities in violation of the California Corporations Code; 2) fraudulent sale of securities in violation of the California Corporations Code; 3) fraudulent sale of securities in violation of the federal securities acts; and 4) common law fraud. The jury ruled in favor of each plaintiff on each of the counts and granted the same monetary award under each count. The district court increased the judgment to include prejudgment interest. Defendant appeals. ⁴ We reverse and remand for a new trial.

I. SUBJECT MATTER JURISDICTION

The district court had subject matter jurisdiction over the federal securities act claims and pendent state law claims pursuant to 28 U.S.C. Sec. 1331 (1988); 15 U.S.C. Sec. 78aa (1988); and United Mine Workers of Am. v. Gibbs, 383 U.S. 715, 725, 86 S.Ct. 1130, 1138, 16 L.Ed.2d 218 (1966) (describing pendent claim jurisdiction). This court has subject matter jurisdiction pursuant to 28 U.S.C. Sec. 1291 (1988). If the federal claims were dismissed, we would still have subject matter jurisdiction through diversity of the parties. See 28 U.S.C. Sec. 1332 (1988); Order of July 27, 1988, Stewart v. American Int'l Oil & Gas Co., No. S-83-688 EJG, at 2-4 (E.D.Cal.) (final pretrial order) (defendants are Oklahoma residents; plaintiffs are California residents).

II. IN PERSONAM JURISDICTION

Defendant claims that the district court lacked jurisdiction in personam. ⁵ He claims that under California law, when an out-of-state resident is served by publication, the court has jurisdiction only in rem--that is, only over defendant's property located in California.

Defendant cites California Civil Procedure Code sections 414.50 and 417, and several cases based on these sections, which provide that California courts may exercise only in rem jurisdiction when an out-of-state defendant is served by publication. These statutes, however, were repealed in 1969 as part of a major revision of the California rules of jurisdiction. The new statute allows service by publication on an out-of-state resident if a court is satisfied that the party to be served cannot be served in another manner with reasonable diligence. See Cal.Civ.Proc.Code Sec. 415.50(a) (West Supp.1991) (service by publication permitted with court order); Id. Sec. 415.50(d) (service on person outside state may be had in any manner provided by this article). The statute is broadly worded and specifically omits any reference to jurisdictional limitations based on the type of service. ⁶ Thus, the California legislature clearly has provided for in personam jurisdiction for an out-of-state plaintiff served by publication. See Donel, Inc. v. Badalian, 87 Cal.App.3d 327, 332-33, 150 Cal.Rptr. 855, 858 (1978); 2 B. Witkin, California Procedure, Jurisdiction Secs. 91, 93 (1985) (under modern California rules, service by publication on an out-of-state plaintiff meets due process requirements and provides in personam jurisdiction).

Plaintiffs in this case complied with the statute's requirements for service by publication on an out-of-state defendant. The district court had in personam jurisdiction.

III. VIOLATION OF THE FEDERAL SECURITIES LAW

The threshold issue is whether the trial court acted properly in deciding as a matter of law that the plaintiffs' interests in Oklahoma ventures were securities under the federal securities laws. ⁷ We hold that the trial court erred.

To fall within those laws the interests acquired by the plaintiffs must be "investment contracts" as defined by SEC v. W.J. Howey Co., 328 U.S. 293, 297, 66 S.Ct. 1100, 1102, 90 L.Ed. 1244 (1946). That case defined an investment contract as "a contract, transaction or scheme whereby a person invests his money in a common enterprise and is led to expect profits solely from the efforts of the promoter or a third party." Id. at 298-99, 66 S.Ct. at 1103. As in most cases, this case turns on the third element of that definition, the expectation of profits solely from the efforts of the promoter or a third party. Were "solely" to be given its literal meaning, it would be clear that the plaintiffs should not prevail on their federal securities claim. We have not defined "solely" in that fashion, however. In S.E.C. v. Glenn W. Turner Enters., Inc., 474 F.2d 476 (9th Cir.), cert. denied, 414 U.S. 821, 94 S.Ct. 117, 38 The refinement this court fashioned in Glenn W. Turner Enters., Inc. is itself subject to qualification. To illustrate, one who induces several others to enter into an ordinary partnership to engage in a certain commercial enterprise, in which the inducing partner is also to be the managing partner, has not sold an "investment contract" because all partners have ample powers to control and direct the activities of the one who organized the venture. Each partner is equally involved and equally at risk. To stretch "solely" to embrace the efforts of the managing partner in this example would be to mock the ordinary meaning of language.

                L.Ed.2d 53 (1973), we only required that the efforts of the promoter or third party be "undeniably significant ones, those essential managerial efforts which affect the failure or success of the enterprise."    Id. at 482
                

This court has recognized this qualification in Deutsch Energy Co. v. Mazur, 813 F.2d 1567 (9th Cir.1987). It found the third element of Howey absent in a situation it described as follows:

The undisputed facts in the present case are as follows: the Deutsches, who are California residents, own and operate a convalescent hospital as their primary business. Jaime Deutsch, the father, also owns and operates retirement hotels adjacent to the convalescent hospital. Mark Deutsch, the son, inspected the oil well sites before the agreements were executed. The Deutsches' previous investments include a limited partnership organized to drill and operate gas wells in Ohio. Furthermore, they retained legal counsel who was present for the latter stages of the negotiations with NCEC regarding the purchase agreements.

While one may surmise from these facts that neither of the Deutsches possesses the expertise to drill and complete the oil wells personally, it does not follow that they are "inexperienced and unknowledgeable members of the general public." Their general business expertise arises from other sophisticated business transactions. They clearly know how to read financial statements and are familiar with the use of experts such as accountants, attorneys, and geologists. Although it appears to be an open question whether sophistication in one field of business will always transfer to another field, we find that the Deutsches' claim of unsophistication is unsupported and raises no genuine issues of material fact given their level of general business expertise.

. . . . .

Based on undisputed facts, the transaction entered into by DEC and NCEC did not constitute an investment contract because, as possessors of significant managerial powers and a high degree of business acumen, the partners of DEC could not rightfully expect their profits to be derived solely from the efforts of individuals other than themselves. The district court, therefore, correctly granted summary judgment to NCEC because no genuine issues of material fact exist as to whether the third element of Howey is absent.

Id. at 1570 (emphasis added) (citation omitted). ⁸

There is no question in this case about the level of sophistication of each of the plaintiffs. Plaintiffs Stewart, Donohue, DuFour, Harland, and Humphreys acknowledged it in the preamble to their partnership agreement establishing Oklahoma Energy Investors in which they stated: "The parties, all of whom are knowledgeable in investment in oil and gas wells, have for some time, been partners and now wish to formalize the details of their partnership agreement." ⁹ There is in the record no contradiction of this representation. Plaintiff Gromala prior to this transaction had purchased ten oil and gas wells and served as a director of the Bank of The determinative issue, therefore, is whether the managerial powers held by the plaintiffs are sufficient to preclude a finding of the third Howey requirement. Plaintiffs contend they are not and attempt to limit the lesson of Deutsch to instances in which the investor-speculator owns one hundred percent of the oil and gas interest being developed under an operating agreement. We...