Chemetron Corp. v. Business Funds, Inc.

Citation682 F.2d 1149
Decision Date16 August 1982
Docket NumberNo. 80-1658,80-1658
PartiesFed. Sec. L. Rep. P 98,777, 11 Fed. R. Evid. Serv. 781 CHEMETRON CORPORATION, Plaintiff-Appellee Cross-Appellant, v. BUSINESS FUNDS, INC., et al., Defendants-Appellants Cross-Appellees.
CourtUnited States Courts of Appeals. United States Court of Appeals (5th Circuit)

Sherman & Sterling, George J. Wade, New York City, Alan R. Bromberg, Dallas, Tex., for Business Funds, Inc.

Vinson & Elkins, Harry M. Reasoner, Morris, Campbell & Seikel, Kenneth M. Morris, Houston, Tex., Charles A. Wright, Austin, Tex., for David C. Bintliff.

Wood, Campbell, Moody & Gibbs, Gary C. Miller, Debora D. Ratliff, Robin C. Gibbs, Houston, Tex., for Estate of John F. Austin, Jr.

Reynolds, Allen & Cook, Joe H. Reynolds, Lloyd R. Cunningham, Jr., P. J. Murphey Harmon, Houston, Tex., Buchanan, Ingersoll, Rodewald, Kyle & Buerger, Carl E. Rothenberger, Jr., Vincent C. Deluzio, James G. Park, Pittsburgh, Pa., for Chemetron Corp.

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

Before GEE, REAVLEY, and WILLIAMS, Circuit Judges.

GEE, Circuit Judge:


We review the latest act in the long-running drama of the Western Equities, Inc. ("Westec") stock scandal. The characters include defendants-appellants, cross-appellees Business Funds, Inc. ("BFI"), a small business investment company, John Austin ("Austin"), chairman of BFI, and David Bintliff ("Bintliff"), a businessman and investor. The final character is plaintiff-appellee, cross-appellant Chemetron Corporation ("Chemetron"). The defendants appeal from a judgment of $18,413,160 in actual and exemplary damages for violations of the federal and Texas securities laws entered against them based on jury answers to special interrogatories. 1 Despite an able job in a very complex case by the district court, we discern several errors requiring reversal and remand.


This court is quite familiar with the Westec stock scandal. 2 We sketch only those facts necessary for the disposition of this case.

BFI, a Maryland corporation, was a small business investment company formed prior to 1961 with Houston, Texas, as its principal place of business. 3 BFI loaned venture capital to companies in exchange for stock warrants, often providing management expertise and placing representatives on the boards of directors of these companies as well. In order to encourage their growth and enhance its investment, BFI also helped arrange mergers and acquisitions for these companies.

In late 1961, BFI hired James Williams ("Williams") as a vice president to supervise some of its investments. The chairman of BFI at that time was defendant Austin. While he was not a full-time chairman, spending substantial time each week with his principal business, a mortgage-banking firm, he did meet with Williams and discuss his activities several times a week.

Through a series of mergers and acquisitions orchestrated by Williams, Geo-Space, a company in which BFI had invested and for which Williams had responsibility, grew and in 1963 began considering a merger with Westec, a company listed on the American Stock Exchange. A merger with a listed company would substantially enhance the value of BFI's investment in Geo-Space. Williams, assisted by Ernest Hall ("Hall") of Geo-Space, undertook to consummate the merger. They acquired a foothold in Westec with a private nonmarket purchase of Westec stock in August 1963 and elected Williams to the Westec board shortly thereafter. Negotiations on a merger concluded successfully in September 1964. BFI exchanged its Geo-Space stock warrants for stock in Westec, leaving BFI in control of Westec. Williams became chairman of the new company, Hall became president, and Austin was made a director.

From September 1964 until August 1966, Williams and Hall engaged in massive and complex stock operations designed to increase the value of Westec stock. These operations took many forms. For example, Hall repaid a debt to a business associate on the condition that the money be used to purchase Westec stock on the open market during 1964; Williams aided in the financing of this deal, although it is not clear whether BFI was the source of the funds. In another instance, defendant Austin guaranteed a loan in December 1964 from a third party to Hall that Hall used to purchase Westec stock. BFI portfolio companies and Westec subsidiaries also bought Westec shares. In addition, stock was purchased in the name of various relatives and associates of Hall and Williams. In most of these transactions, BFI money appears to have played a role.

In April 1965, Williams resigned from BFI, although his connections with it appear to have continued for a short time thereafter. His departure may have been on unfriendly terms, but this is not altogether clear. About this time, Austin also left the Westec board and BFI distributed its Westec shares to its shareholders. Despite these actions BFI may, however, have continued to influence and control Westec until December 1965.

September 1965 marked the appearance of defendant Bintliff with the acquisition by Westec of Camerina Petroleum Company, partially owned by Bintliff. Bintliff exchanged his Camerina shares for Westec shares. This transaction appears to have been unrelated to the stock price manipulation operation.

Chemetron, a Delaware corporation with its principal place of business in Chicago, began its involvement in 1965, when Williams and Hall sought to acquire a Chemetron subsidiary, Pan Geo Atlas Corporation ("PGAC"), for Westec. Lengthy negotiations led to an October 1965 tentative deal subject to approval by both parties' boards. On January 14, 1966, Chemetron received Westec stock for its PGAC stock and notes. The transaction was nonmarket, and a Chemetron official testified at trial that the market price of Westec shares played no role in Chemetron's evaluation of the deal. Chemetron claims it was never told of the stock manipulation scheme and would not have made the deal had it known.

The manipulative activities of Hall and Williams continued after the Chemetron transaction. They ordered Westec stock in the names of third parties, seeking loans to finance the purchases. One such loan was secured by defendant Bintliff, for which he received Westec stock as a fee. Bintliff also bought Westec stock from a third party in a sale arranged by Williams.

In August 1966, as part of the scheme, Williams and Hall placed a large stock order they could not finance. Bintliff declined to finance it. Chemetron was approached to finance it but declined and informed the Securities and Exchange Commission and the American Stock Exchange, which suspended trading in Westec stock. At that time Chemetron was the largest shareholder of Westec. Shortly after the suspension of trading, Westec went into Chapter X reorganization, emerging as a reorganized company in 1969. Chemetron exchanged its Westec shares with the bankruptcy trustee in 1969, receiving shares and notes in the reorganized company.

The failure of Westec spawned an avalanche of litigation. This suit began in 1967 when Chemetron sued 57 defendants seeking recovery of its losses under many provisions of the federal and Texas securities laws. Chemetron basically alleged a plan, scheme, or conspiracy to manipulate the price of Westec stock through actual or apparent trading, thereby inducing transactions by others, leading to its injury when Westec collapsed. After lengthy discovery and settlement with or voluntary dismissal of 53 of the defendants, the case against four defendants, BFI, Austin, Bintliff, and Brazos Valley Cotton Oil Company ("Brazos Valley"), came to trial in the Southern District of Texas before a jury in 1979. The legal claims had been narrowed to violations of three statutes: (1) section 9 of the Securities Exchange Act of 1934, 15 U.S.C. § 78i (1976); (2) section 10(b) of the 1934 Act, 15 U.S.C. § 78j(b) (1976), and SEC Rule 10b-5, 17 C.F.R. § 240.10b-5 (1981), thereunder; and (3) Tex.Rev.Civ.Stat.Ann. art. 4004 (Vernon 1966), the Texas anti-fraud statute. 4

In response to 31 special interrogatories, the jury completely exonerated Brazos Valley and found no section 9 violation. However, the trial judge entered judgment for Chemetron under section 10(b), Rule 10b-5, and article 4004 based on the jury's remaining responses. The three defendants were held jointly and severally liable for actual damages of $4,726,128 under federal and state law, prejudgment interest of $4,817,276, and exemplary damages under art. 4004 of $9,452,256, less settlement of $582,500, for a total liability of $18,413,160. All defendants moved for judgment n. o. v. or a new trial, which were denied. All now appeal to this court. Chemetron lodges a cautionary cross-appeal.


A. Federal Securities Law Claims.

Chemetron alleged that appellants illegally manipulated the national securities exchange market for Westec stock and failed to disclose or made misleading statements about that scheme in violation of two federal securities laws, section 9(a) 5 of the Securities Exchange Act of 1934, 15 U.S.C. § 78i(a) (1976), and SEC Rule 10b-5, 6 17 C.F.R. § 240.10b-5 (1981), enacted pursuant to section 10(b) 7 of the 1934 Act, 15 U.S.C. § 78j(b) (1976). Section 9(e) 8 of the 1934 Act, 15 U.S.C. § 78i(e) (1976), creates an express private remedy for violations of section 9(a), and an implied private cause of action has long been recognized under section 10(b) and Rule 10b-5, see Ernst & Ernst v. Hochfelder, 425 U.S. 185, 196, 96 S.Ct. 1375, 1382, 47 L.Ed.2d 668 (1976).

While Chemetron specifically alleged violations of subsections 9(a)(1), (2), (4), and (6), the trial judge submitted to the jury only the subsection 9(a)(2) allegation, directed at the manipulative stock scheme itself. However, all three subsections of Rule 10b-5 were submitted, permitting the jury to hold appellants liable under Rule 10b-5...

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