Bank of Lexington & Trust Co. v. Vining-Sparks Securities, Inc.

Decision Date23 March 1992
Docket NumberVINING-SPARKS,No. 91-5179,91-5179
PartiesFed. Sec. L. Rep. P 96,569, RICO Bus.Disp.Guide 7978, 35 Fed. R. Evid. Serv. 271 BANK OF LEXINGTON & TRUST COMPANY, a Kentucky banking corporation, Plaintiff-Appellant, v.SECURITIES, INC., a Delaware corporation, and James L. Vining, individually, Defendants-Appellees.
CourtU.S. Court of Appeals — Sixth Circuit

David Tachau (argued and briefed), Maureen Taylor, Brown, Todd & Heyburn, Louisville, Ky. and Paul E. Sullivan, Brown, Todd & Heyburn, Lexington, Ky., for plaintiff-appellant.

Karen J. Greenwell, William H. McCann, Wyatt, Tarrant & Combs, Lexington, Ky., Earle J. Schwarz (argued and briefed), Frank L. Watson, Saul C. Belz, and Waring Cox, Memphis, Tenn., for defendants-appellees.

Before: GUY and BOGGS, Circuit Judges; and HARVEY, Senior District Judge. *

JAMES HARVEY, Senior District Judge.

This case arises out of the Bank of Lexington & Trust Company's (the Bank's) purchase of municipal bonds from Vining-Sparks Securities, Inc. (Vining-Sparks), a brokerage firm. When the Bank began to suffer losses on the bonds, it brought suit against Vining-Sparks and James Vining, the president and CEO of Vining-Sparks, alleging violations of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), the Racketeer Influenced and Corrupt Organizations Act (RICO), 18 U.S.C. § 1962, Kentucky's "Blue Sky" law, Ky.Rev.Stat. § 292.320, and Kentucky common law. The Bank sought rescission of the sales contract and damages, contending that Vining and Vining-Sparks made material misrepresentations, failed to disclose material information, excessively marked-up the bonds' prices, and breached both contractual and fiduciary duties.

After a six-week bench trial, the district court ruled in favor of Vining and Vining-Sparks, finding, in short, that the Bank understood the nature of the bonds before buying them, yet bought them because of certain anticipated tax advantages. The Bank appeals. Rejecting each of the Bank's grounds for appeal, we AFFIRM.

I. BACKGROUND

Between July and December 1985, the Bank bought from Vining-Sparks in fourteen separate transactions zero-coupon bonds from ten different bond issues. Zero-coupon bonds are debt securities on which no interest is paid. When the bonds mature, the holder collects a single payment. Accordingly, investors buy the bonds at a deep discount from face value.

William Lane, a Vining-Sparks account executive, had encouraged the Bank's investment officer, Ann Hall, to buy the bonds because of their tax benefits. On July 9, 1985, several months after Lane began discussing with Hall the merits of zero-coupon bonds, Lane and Vining met with Hall, James Rose, the Bank's principal owner, Clyde Mauldin, the Bank's president, and John Sullivan, an accountant employed by Rose, to talk about the Bank's possible purchase of zero-coupon bonds. Vining presented Vining-Sparks's research into zero-coupon bonds, detailing the tax benefits Vining-Sparks believed were available, and distributing written materials which included projected yields for various bond issues. He explained that Vining-Sparks had discovered that investors could treat zero-coupon municipal bonds issued before September 3, 1982 differently for tax purposes than for accounting purposes. He asserted that by accreting the bonds on a straight-line basis for tax purposes, while accreting them on a constant-yield basis for accounting purposes, an investor could later sell the bonds at a tax loss, yet not necessarily at an accounting loss. The investor could then use the tax loss to shelter ordinary income.

Following the meeting, Sullivan sent Vining-Sparks's research report to the Bank's outside auditors, Peat, Marwick, Mitchell & Company (Peat Marwick) for review. Sullivan asked Peat Marwick to confirm "that if a bank were involved in a 'rolling' type of investment in these bonds, then by virtue of the artificial tax losses (in comparison to book losses) significant yields may be sustained on these type of investments." Peat Marwick responded by telephone call that Vining-Sparks had correctly analyzed the tax and accounting treatment of zero-coupon municipal bonds. A later written response concluded that, where interest rates remain constant, an investor could buy and sell such bonds with little impact on book income, but with substantial tax losses.

Soon after receiving Peat Marwick's verbal confirmation, Hall told Lane that the Bank had decided to spend approximately $3 million on zero-coupon bonds. By December 1985, the Bank had spent almost $3.3 million on zero-coupon bonds. Following each sale, Vining-Sparks sent to the Bank a transaction confirmation statement, documenting the sale and describing the bonds sold. Further, for many of the bonds sold, Vining-Sparks sent accretion tables showing projected monthly increases in the value of the bonds.

In 1986, interest rates began to fall. The sudden drop in interest rates quickly impacted the market value of the Bank's zero-coupon bonds. Three of the bond issues from which the Bank had bought zero-coupon bonds were single-family mortgage revenue bonds (SFMRBs). Because of the drop in interest rates, the mortgages financed with revenue generated by the sale of SFMRBs began to be prepaid earlier than expected. Of the remaining bond issues from which the Bank had purchased zero-coupon bonds, five were multi-family mortgage revenue bonds (MFRBs), and two were non-housing revenue bonds. Although a number of factors apparently contributed to the decline in market value of the Bank's MFRBs, it is certain that, as interest rates fell, the aggregate market value of the Bank's zero-coupon bonds began to drop sharply, plunging almost 41 percent by the end of June 1986.

On July 1, 1987, the issuer of one lot of the Bank's SFMRBs, the Olathe, Kansas SFMRBs, recalled $2 million of bonds, resulting in a substantial loss to the Bank. No other issuer of bonds prematurely redeemed zero coupon bonds held by the Bank before the Bank filed suit against Vining and Vining-Sparks on February 5, 1988.

II. DISCUSSION
A. Sufficiency of the Evidence

The Bank's principal argument on appeal is that several of the district court's crucial findings of fact are clearly erroneous. Under Rule 52(a) of the Federal Rules of Civil Procedure, "[f]indings of fact, whether based on oral or documentary evidence, shall not be set aside unless clearly erroneous, and due regard shall be given to the opportunity of the trial court to judge of the credibility of the witnesses." As the Supreme Court has stated, " '[a] finding of fact is "clearly erroneous" when although there is evidence to support it, the reviewing court on the entire evidence is left with the definite and firm conviction that a mistake has been committed.' " Anderson v. Bessemer City, 470 U.S. 564, 573, 105 S.Ct. 1504, 1511, 84 L.Ed.2d 518 (1985) (quoting United States v. United States Gypsum Co., 333 U.S. 364, 395, 68 S.Ct. 525, 542, 92 L.Ed. 746 (1948)). Where the district court's view of the evidence is plausible, we may not reverse its findings of fact even if we would have weighed the evidence differently. Id. at 573-74, 105 S.Ct. at 1511.

Further, although the Bank vigorously attacks the district court for relying heavily in its findings of fact and conclusions of law on memoranda drafted by counsel for Vining and Vining-Sparks, the Court notes that "even when the trial judge adopts proposed findings verbatim, the findings are those of the court and may be reversed only if clearly erroneous." Id. at 572, 105 S.Ct. at 1511.

1. Vining-Sparks's Research

The Bank sought redress under many theories of liability, but central to several of its theories under the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), Kentucky's "Blue Sky" law, Ky.Rev.Stat. § 292.320, and Kentucky common law was the assertion that Vining and Vining-Sparks had misrepresented the quality and extent of the firm's research into the bonds. But the district court found no merit to the Bank's assertion, finding instead that Vining-Sparks conducted "deliberate and studied" research.

Both federal and Kentucky securities laws make it unlawful for any person to make any untrue statement of a material fact in connection with an offer for the sale of securities. 17 C.F.R. § 240.10b-5 (Rule 10b-5) (promulgated under 15 U.S.C. § 78j); Ky.Rev.Stat. § 292.320(1)(b). The Bank alleged that Vining-Sparks lied when it said that it would only sell the Bank securities with particular protections against premature redemptions.

The Bank asserted that Vining orally promised that zero-coupon bonds would represent only between 3 and 5 percent of each issue of SFMRBs recommended for purchase, and that the issuer would call those bonds last if the mortgages financed with revenue generated by the sale of SFMRBs began to be prepaid earlier than expected. Yet, the zero-coupon bonds bought by the Bank from each issue of SFMRBs represented considerably more than 3 to 5 percent of the issue. Hence, the Bank argues that Vining misrepresented the research his firm had conducted, or would conduct, before recommending bonds for purchase.

In response to the Bank's allegation, however, Vining testified that he had not promised that the zero-coupon bonds would represent only 3 to 5 percent of each issue of SFMRBs. Rather, he claimed that he had merely said during his presentation to the Bank that zero-coupon bonds could represent as low as 3 to 5 percent of each issue of SFMRBs. Because the district court had the opportunity to view Vining's demeanor when he explained why the Bank might have believed that he had made such a promise, and the demeanor of the witnesses testifying to the contrary, we see no reason to set aside the district court's finding. See Anderson, 470 U.S. at 575, 105 S.Ct. at 1512 ("When findings are based on determinations regarding the credibility of witnesses, Rule 52(a)...

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