Clute v. Davenport Co.

• Decision Date: 07 June 1984
• Docket Number: Civ. No. H-83-817.
• Parties: George E. CLUTE, et al. v. The DAVENPORT COMPANY, et al.
• Court: U.S. District Court — District of Connecticut

584 F. Supp. 1562

George E. CLUTE, et al. v. The DAVENPORT COMPANY, et al.

Civ. No. H-83-817.

United States District Court, D. Connecticut.

June 7, 1984.

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William J. Kupinse, Jr., Goldstein & Peck, Bridgeport, Conn., Mark A. Harmon, Gerald L. Sobol, Bondy & Schloss, New York City, for plaintiffs.

Michael C. Daly, William J. Tracy, Jr., Furey, Donovan & Heiman, Bristol, Conn., Joseph F. Skelley, Jr., Carl F. Yeich, Skelley, Clifford, Vinkels, Williams & Rottner, Hartford, Conn., Joel M. Grafstein, Lublin, Lublin, Wolfe, Kantor & Silver, East Hartford, Conn., Charles Gersten, Eliot Gersten, Hartford, Conn., Howard Wood, III, Glastonbury, Conn., Michael E. Grossman, Gersten & Gersten, Hartford, Conn., Frederick Krug, Waterbury, Conn., Warren B. Silberkleit, White Plains, N.Y., Louis B. Blumenfeld, Cooney, Scully & Dowling, Hartford, Conn., for defendants.

Nathan Weissberg, pro se.

RULING ON MOTIONS TO DISMISS

BLUMENFELD, Senior District Judge.

I. Facts

This action arises out of the formation of a series of limited partnerships formed to invest in Florida real estate, condominiums and foreign film rights. A major inducement for investing in this exotic group of properties was the beneficial tax treatment that could be expected by a limited partner. Plaintiffs, investors in the partnerships, claim that defendants engaged in a plan and scheme to defraud which violated federal and state securities laws, RICO, and breached duties owed to the plaintiffs. The alleged fraud occurred in two stages. First, plaintiffs claim fraud in the sale and promotion of group partnerships; second they claim fraud in the operation of the partnerships.

A. Sale of the Partnership Interests

Defendant Davenport Company ("Davenport"), a Connecticut corporation, is the sole general partner in numerous limited partnerships. In 1979, Davenport formed a series of limited partnerships including those at issue in this case: Group 17, 18 and 22 Associates (the group partnerships). The sale of partnership interests to individual investors was undertaken by employees of P & I Equities, Inc. ("P & I") including defendants Weissberg, Adorno, Poirot, Powell, Raucci, and Kennedy. These salesmen acted at the direction of defendant Robert W. Johnson, a major shareholder and vice president of Davenport, vice president of P & I, and manager of P & I's Glastonbury office. As part of its business, P & I sells annuities to school teachers. It obtained the names of many of the plaintiffs from its records of school teachers who had previously purchased annuities.

Davenport prepared a separate prospectus for each group partnership. Each prospectus was virtually identical to the rest. Most plaintiffs did not see the prospectus until they executed documents in connection with their purchase of securities; three plaintiffs were not shown a copy until after the purchase, and one never received a prospectus.

Many of the plaintiffs were shown a copy of An Assumption and Examples Memorandum ("Memorandum") despite the fact that said document clearly stated on its face that it was not to be shown to anyone but attorneys, accountants and investment advisors. The Memorandum stated that the securities represented sound investment strategy since, in addition to immediate tax benefits, income derived from the partnership would be deferred until later years.

It is alleged that the Memorandum also contained, or plaintiffs were shown, certain misleading figures and tables. For example, the discussion of investors' liability on certain recourse promissory notes was so phrased as to convince investors that they would not actually be liable on such notes. In addition, certain tables indicating potential profits and tax savings to investors showed the value of the securities to limited partners in a 30% tax bracket, despite the fact that all potential investors were required to have a portion of their income in a 50% tax bracket.

All plaintiffs were induced to execute a Note Assumption Agreement in connection with their purchase of the securities, according to which they became personally liable for a portion of certain recourse promissory notes (the "notes") executed by each of the group partnerships and payable to defendants Huntington Promotions, Inc. ("HPI"), Merit Management Corporation ("Merit"), and Chase, Morgan & Worth, Inc. ("Chase"). All three of these entities were under the control of James Johnson. Most of the plaintiffs were orally assured by their offeree representatives or other defendants that the Note Assumption Agreement was a formality for tax purposes and that they would never be liable therefor.

Each subscriber was required to execute subscription agreements acknowledging that he had a net worth of a given amount and that at least some portion of his annual gross income was subject to a federal income tax at a rate of 50% or higher. Despite such acknowledgements, many plaintiffs did not meet the above-mentioned financial requirements. Davenport required Group 17 investors to complete and submit an offeree questionnaire prior to Davenport's acceptance of their respective investments. Some plaintiffs who did not meet the financial requirements failed to execute the offeree questionnaire, while others supplied information which showed that they did not meet the said financial requirements. The sale of the securities was conducted, at least in part, in interstate commerce in that some individual defendants mailed documents to plaintiffs requesting the plaintiffs' signatures in order to complete the transaction.

B. The Operation of the Group Partnerships

It was intended by Davenport that the group partnerships, among others, would purchase (i) certain undeveloped land in Florida and (ii) the United States and Canadian television rights to foreign language motion pictures (the "films"). Davenport represented to prospective purchasers of the securities that, because it was inexperienced in exploiting undeveloped land and television rights, the undeveloped land would be sold to experienced developers for construction of condominiums. Davenport also represented that third parties would be hired to dub the films into English and lease them to various television stations, in exchange for advertising time to be used in connection with the sale of the condominiums.

In 1979, Davenport purchased, either through or with the assistance of HPI, an option to buy a 60-acre tract of land in the State of Florida (the "land") and arranged to purchase the films directly from HPI. Davenport structured the purchase of the land as independently exercisable options to purchase separate parcels thereof and structured the purchase of the films in separate and distinct groups. It was understood by the parties to that transaction that Davenport would employ Merit and Chase to operate the properties. It was further understood by the parties to that transaction that Merit would delegate much of its authority to defendant Management Consultants, Inc. ("Consultants"), a corporation under the control of Howard Levy, president of Davenport, and his wife, Eileen Levy.

Davenport represented that Group 17 and Group 18 would each purchase 20 acres of the land and three of the films. Group 22 would purchase ten acres and one film. Interests in each partnership were divided into 32 units, at a cost of $30,000 per unit. Each limited partner would also be liable to pay his or her pro rata share of the notes, all of which are to become due ten years after the date of closing, together with interest at 9½% per annum. For Groups 17 and 18 these included a note in the sum of $1,005,000 payable to HPI, issued in connection with the purchase of the films, and notes in the sum of $709,000, payable to Merit, and in the sum of $1,140,000 payable to Chase as prepayment for services to be rendered by them. The notes executed on behalf of Group 22 were identical in purpose and were equal in dollar amount to one-half of those executed on behalf of Groups 17 and 18. Plaintiffs claim that the price paid for the films was grossly in excess of the fair and reasonable value thereof.

In addition to the notes, each of Group 17 and Group 18 paid $195,000 to HPI, $31,000 to Merit and $30,000 to Chase. Further, each of Groups 17 and 18 paid selling and brokerage commissions and finders fees in the amount of $192,000. Group 22 made identical payments except that the amount thereof was one-half the amount so paid by each of Groups 17 and 18.

Plaintiffs allege that although the land and the films were the subject of one single transaction, the properties were divided among the group partnerships and other Davenport partnerships in order to make it appear that the sale of the securities was a small private offering which would be exempt from federal and state registration and informational requirements.

The prospectus and the Memorandum state that each of the group partnerships would retain Internecine Productions, Inc., an alleged expert in the field, to sell the films; this company, however, was never retained for any purpose. Instead, Davenport retained defendants Merit and Chase, allegedly to manage the business of the group partnerships. Davenport did not disclose that Merit and Chase were operated and controlled by James Johnson, the same person who was originally involved in the transfer of the properties to the group partnerships. In addition, Davenport, Howard Levy, Robert Johnson and James Johnson failed to disclose that each of the group partnerships, among other Davenport partnerships, had agreed to pay Merit and Chase a separate fee for performing what were virtually identical services. They also failed to disclose that Davenport would receive $40,000 from Groups 17 and 18 and $20,000 from Group 22 as "compensation" for what were identical organizational services.

On December 8, 1980, Merit delegated all of its responsibilities and...