Byrnes v. Faulkner, Dawkins & Sullivan

• Decision Date: 08 April 1976
• Docket Number: No. 73 Civ. 670 (HFW).,73 Civ. 670 (HFW).
• Citation: 413 F. Supp. 453
• Parties: Thomas J. BYRNES and Francis R. Santangelo, Plaintiffs, v. FAULKNER, DAWKINS & SULLIVAN and Singer & Mackie, Inc., Defendants. FAULKNER, DAWKINS & SULLIVAN, Counterclaim-Plaintiff, v. Thomas J. BYRNES et al., Counterclaim-Defendants.
• Court: U.S. District Court — Southern District of New York

413 F. Supp. 453

Thomas J. BYRNES and Francis R. Santangelo, Plaintiffs, v. FAULKNER, DAWKINS & SULLIVAN and Singer & Mackie, Inc., Defendants.

FAULKNER, DAWKINS & SULLIVAN, Counterclaim-Plaintiff, v. Thomas J. BYRNES et al., Counterclaim-Defendants.

No. 73 Civ. 670 (HFW).

United States District Court, S. D. New York.

February 26, 1976.

Amended April 8, 1976.

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Carro, Spanbock, Londin, Rodman & Fass, New York City, for Byrnes and Santangelo, plaintiffs and counterclaim defendants; Reginald Leo Duff, New York City, of counsel.

Jacobs, Persinger & Parker, New York City, for Faulkner, Dawkins & Sullivan, defendant and counterclaim plaintiff; I. Michael Bayda and Norman Trabulus, New York City, of counsel.

Hall, Dickler, Lawler, Kent & Howley, New York City, for Tobey & Kirk, counterclaim defendant; Gerald A. Kaufman, New York City, of counsel.

Securities and Exchange Commission, Washington, D. C., as amicus curiae; Lawrence E. Nerheim, Paul Gonson, Charles E. H. Luedde, Susan P. Starling, Washington, D. C., of counsel.

OPINION

WERKER, District Judge.

The original complaint in this case was filed by Thomas J. Byrnes and Francis R. Santangelo ("Byrnes") against Faulkner, Dawkins & Sullivan ("Faulkner") and Singer & Mackey, Inc. ("Singer") in Supreme Court, New York County alleging breach of contract. The complaint alleged that on June 7, 1971, Byrnes made a contract to sell, pursuant to a registration statement, 44,000 shares of the common stock of White Shield Corporation ("White Shield") to Faulkner and Singer but that Faulkner and Singer repudiated the contract without just cause. A more complete statement of the underlying facts and the prior history of the case are contained in an earlier opinion written by the Honorable Judge Murray Gurfein, now Circuit Court Judge, reported at 362 F.Supp. 864 (S.D.N.Y.1973).

In that opinion, Judge Gurfein dismissed for lack of subject matter jurisdiction an action brought by Byrnes for a judgment declaring that the affirmative defenses asserted by Faulkner in the state court action were insufficient as a matter of law. However, Judge Gurfein did find that federal jurisdiction existed over the counterclaims which Faulkner asserted in its answer to Byrnes' action under § 17 of the Securities Act of 1933 ("1933 Act") and § 10 of the Securities Exchange Act of 1934 ("1934 Act").¹ Judge Gurfein granted Byrnes leave to answer the counterclaim of Faulkner and to assert his own counterclaim, suggesting that the breach of contract claims which formed the basis of the original suit would be cognizable in federal court as compulsory counterclaims under the Federal Rules of Civil Procedure, Rule 13(a).

Following this decision Faulkner did not submit additional papers but relied on its original answer as filed. Byrnes answered Faulkner's counterclaims and filed its own counterclaims. Faulkner's original answer had also stated two counterclaims against Tobey & Kirk, Byrnes' broker, which Tobey & Kirk answered without asserting any counterclaims. Although technically the designation of the parties as plaintiff and defendant should be changed to indicate their current posture, each of the parties has continued to use the original designation. To avoid confusion, the court has also adopted this nomenclature. Thus, Byrnes and Santangelo are hereinafter referred to as plaintiffs and counterclaim-defendants; Faulkner is the defendant and counterclaim-plaintiff; Tobey & Kirk is also a counterclaim-defendant.

The parties have made cross motions. Byrnes moved to dismiss all of Faulkner's affirmative defenses and counterclaims and for summary judgment on Byrnes' prayer for a declaratory judgment. Faulkner moved for summary judgment on all of its affirmative defenses except the first and sixth, on its first counterclaim, and on Byrnes' counterclaim. Tobey & Kirk moved for summary judgment dismissing Faulkner's counterclaims against it. Since Tobey & Kirk's motion incorporated by reference the memorandum submitted by the plaintiffs in support of their motion and provided no additional independent authority each of the motions with respect to dismissal of Faulkner's Second and Third Counterclaims will be treated as one motion made by all counterclaim-defendants.²

FAULKNER'S FIRST AFFIRMATIVE DEFENSE AND THIRD COUNTERCLAIM

Faulkner's First Affirmative Defense and Third Counterclaim assert that Tobey & Kirk represented to it that the shares of White Shield which Faulkner agreed to buy were not part of a registered distribution. Faulkner asserts further that in agreeing to buy the shares, it relied on that representation which was false and fraudulent when made and in violation of § 17 of the 1933 Act³ and § 10(b) of the 1934 Act.⁴ Faulkner raises this as a defense to plaintiffs' claim and also seeks to recover damages for the expenses incurred and profit lost on the cancelled resale to Singer & Mackey.

The plaintiffs seek summary judgment on this defense and counterclaim on the ground that there are no material issues of fact to be tried. They assert that the testimony of all of the parties to this transaction negates any thought that fraudulent representations were made as to the status of the stock offered to Faulkner. Faulkner, on the other hand, contends that there were fraudulent and material misrepresentations made, that the facts are in sharp dispute, and that summary judgment with respect to this defense is inappropriate.

Section 17 of the 1933 Act makes it unlawful for any person selling securities to engage in any practice which operates as a fraud upon the purchaser. Section 10(b) of the 1934 Act makes the use of a deceptive device in connection with the purchase or sale of securities unlawful. These sections cover transactions in the over-the-counter market. American Bank & Trust Co. v. Barad Shaff Securities Corp., 335 F.Supp. 1276 (S.D.N.Y.1972).

The parties seem to agree, as does the court, that failure to disclose the fact that stock is, in fact, registered stock is a material omission. Cf. Vohs v. Dickson, 495 F.2d 607 (5th Cir. 1974). This is particularly true in light of In the Matters of Jaffee & Co. 1969-1970 Transfer Binder CCH Fed.Sec.L.Rep. ¶ 77,805 (1970), discussed later in this opinion, in which the SEC required a market maker to cease all open-market purchases of a security if it purchased any shares which were being sold as part of a distribution. The issue is whether in fact there was such an omission.

The parties have each cited several sections of the testimony taken at depositions and assert that such testimony confirms or refutes the allegations on disclosure. The evidence before the court clearly is inconclusive. The issue is largely a question of credibility, a matter which cannot be determined on the pleadings in a motion for summary judgment. Cross v. United States, 336 F.2d 431 (2d Cir. 1964); Hirsch v. Archer-Daniels-Midland Co., 258 F.2d 44 (2d Cir. 1958).

In addition, the plaintiffs argue that Faulkner, which believed it would be dangerous for a market maker to buy stock which was being sold as part of a distribution, was under an obligation to inquire as to the status of the stock being sold. The plaintiffs cite In the Matters of Jaffee & Co., supra, in support of their position. In that case, where the trader employed by a market maker had received a copy of a prospectus of the stock being sold, the SEC held that the market maker "should have inquired into the status of the offering." Id. at 83,858. That case is not dispositive of this one, however, since there is direct evidence that Faulkner did not receive a copy of the White Shield prospectus prior to the sale.

Because the facts are in sharp dispute as to both the fact of omission and extent of Faulkner's inquiry as to the status of the stock, plaintiffs' motion for summary judgment on Faulkner's First Affirmative Defense is denied.

SECOND AFFIRMATIVE DEFENSE

All parties have sought summary judgment with respect to Faulkner's Second Affirmative Defense. That defense asserts that the sale of White Shield stock was illegal because the written comparison⁵ sent to Faulkner by Tobey & Kirk constituted a prospectus as defined in § 2(10) of the 1933 Act which did not conform to the requirements of § 10 of that Act and because that comparison was not accompanied or preceded by a statutory prospectus as required in § 5(b) of that Act. The plaintiffs acknowledge that no prospectus was sent to the defendant but assert that the requirements of Section 5(b) do not apply to transactions between broker dealers and that in any event, the comparison Tobey & Kirk sent does not constitute a prospectus for the purposes of the 1933 Act.

Section 5(b)(1) of the 1933 Act⁶ makes it unlawful for any person, directly or indirectly —(1) to make use of any means . . . of . . . communication in interstate commerce . . . to carry or transmit any prospectus relating to any security with respect to which a registration statement has been filed . . unless such prospectus meets the requirements of section 77j of this title.

There is no question that the comparison sent by Tobey & Kirk does not meet the requirements of section 77j⁷ which requires a prospectus to contain the information contained in the registration statement.

The real issue is whether the comparison is a prospectus at all such that the requirement in section 5(b) is even applicable. Section 77b(10) of 15 U.S.C.⁸ defines the term prospectus as "any . . . communication, written . . . which . . . confirms the sale of any security." Taken literally, the statute which is broad and inclusive, would seem to include a comparison sent by one broker to another, confirming the sale of a security.

The plaintiffs, however, have raised several objections to this reading. First, they argue that the 1933 Act in which the above-quoted language is contained was intended to regulate transactions between broker...