Danner v. Himmelfarb

Citation858 F.2d 515
Decision Date28 September 1988
Docket NumberNo. 87-6021,87-6021
Parties, Fed. Sec. L. Rep. P 94,034, 13 Fed.R.Serv.3d 292 Robert E. DANNER; Charlotte Danner; Gadan, Inc., Plaintiffs, v. Henry HIMMELFARB; Charles T. Hays; Richard A. Edwards; Golden Arrow Gas Energy Corporation; Jim Kitchens; Ronald G. Miller; Thomas E. Stepp; Rutan & Tucker; Robert Pike; Empire Equities; Ronald Garrett; Andre Iseli, Defendants/Cross-defendants/Appellees, Vincent E. Davis, Defendant/Cross-claimant/Appellant.
CourtUnited States Courts of Appeals. United States Court of Appeals (9th Circuit)

Gordon T. Carey, Jr., Portland, Or., for defendant/cross-complainant/appellant.

Edmund G. Farrell, III, and B. Eric Nelson, Murchison & Cumming, Los Angeles, Cal., for defendants/cross-defendants/appellees.

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

Before BRUNETTI, KOZINSKI and THOMPSON, Circuit Judges.

DAVID R. THOMPSON, Circuit Judge:

The district court granted summary judgment against Vincent E. Davis on his federal securities law claim and dismissed his state law claims against Henry Himmelfarb, Charles T. Hays, Richard A. Edwards, Golden Arrow Gas Energy Corp. ("GAGE"), Jim Kitchens, Ronald G. Miller, Thomas E. Stepp, the law firm of Rutan & Tucker, Robert Pike, Empire Equities ("Empire") and Ronald Garrett. The district court concluded that Empire's promissory note given to Davis in exchange for $400,000 worth of pesos 1 was not a "security" within the meaning of the federal securities laws. Davis argues that summary judgment on his securities law claim was inappropriate because there are disputed issues of material fact. In the alternative, Davis would have us hold that even if Empire's promissory note is not a "security," the district court nonetheless abused its discretion by dismissing his state law claims after almost 3 years of discovery and pretrial maneuvering.

We have jurisdiction of this appeal under 28 U.S.C. Sec. 1291, and we affirm.

I Standard of Review

We review de novo a grant of summary judgment. Lamothe v. Atlantic Recording Corp., 847 F.2d 1403, 1404 (9th Cir.1988). Viewing the evidence and its inferences in the light most favorable to the nonmoving party, summary judgment is proper if the movant is clearly entitled to prevail as a matter of law. Matsushita Elec. Indus. Co. v. Zenith Radio Corp., 475 U.S. 574, 586-87, 106 S.Ct. 1348, 1356, 89 L.Ed.2d 538 (1986); Lamothe, 847 F.2d at 1404. "The moving party is entitled to judgment as a matter of law [when] the nonmoving party has failed to make a sufficient showing on an essential element of her case with respect to which she has the burden of proof." Celotex Corp. v. Catrett, 477 U.S. 317, 323, 106 S.Ct. 2548, 2553, 91 L.Ed.2d 265 (1986). That is, summary judgment is appropriate "[w]here the record taken as a whole could not lead a rational trier of fact to find for the nonmoving party." Matsushita, 475 U.S. at 587, 106 S.Ct. at 1356.

II Facts and Proceedings

The appeal before us arises out of several transactions that began in 1981. In that year, the plaintiffs (who are no longer parties to this action) conveyed two pieces of real property to Hays and Himmelfarb in exchange for a promissory note secured by a deed of trust on a parcel of Oregon real property. Hays and Himmelfarb later granted a second deed of trust on this property to an Oklahoma bank.

Hays and Himmelfarb then sold the Oregon property to Golden Arrow Gas Energy Corp. (GAGE), which in turn sold the property to Empire Equities for an 80% ownership interest in Empire. After this transaction, Empire became a GAGE-subsidiary. Hays, Himmelfarb, and cross-defendants Edwards, Iseli, Kitchens and Miller are shareholders, officers and directors of GAGE. Edwards, Hays, Miller, Kitchens and Stepp are also officers and directors of Empire.

In 1982, Empire decided to pursue some investment opportunities in Mexico. To fund a proposed real estate development, Empire placed an advertisement in the Wall Street Journal soliciting pesos. One of Empire's employees told her father, Vincent E. Davis, that Empire was interested in acquiring pesos. Davis had $400,000 worth of pesos in Mexico which he could not bring out of the country because of recently imposed currency control restrictions. Davis asked his daughter to arrange a meeting for him with Empire's officers.

In November 1982, Davis met with Stepp, Hays and Garrett, who are Empire officers. They offered Davis oil and gas mineral interests in exchange for his pesos. Davis declined this offer, as he later declined the opportunity to exchange his pesos for a share of the profits from the Mexican venture. Davis eventually negotiated to receive from Empire, in exchange for his pesos, a promissory note in the principal sum of $400,000, payable in United States currency, with quarterly interest to be paid at an annual rate of prime plus 1%, with interest payments to commence in June 1984. Davis insisted that the note be secured by a first lien deed of trust. Empire agreed and granted Davis a lien on the Oregon property. Davis did not realize that this lien was subordinate to the liens of the plaintiffs and the Oklahoma bank.

In February 1984, Hays and Himmelfarb defaulted on the note they had given to the plaintiffs (the Danners and Gadan, Inc.) in connection with the original land transaction. The plaintiffs filed a suit to foreclose their deed of trust on the Oregon property. This suit was commenced in the United States District Court for the District of Oregon and Davis was named as a defendant. Davis answered the plaintiff's complaint and cross-claimed against his co-defendants Hays, Himmelfarb, Edwards and Empire. He alleged a federal securities law claim for fraud, as well as several state law claims. The court severed Davis's cross-claims for a separate trial. Himmelfarb moved for a transfer of the cross-claims to California. Before the court granted this motion, Davis amended his cross-claim to join Stepp, Kitchens and GAGE as additional cross-defendants under Federal Rule of Civil Procedure 13(h); these cross-defendants were not parties to the original action. The court then transferred Davis's severed cross-claims to the United States District Court for the Central District of California.

After the transfer, Davis filed second and third amended pleadings in which he joined Iseli, Miller, Garrett, Rutan & Tucker and Pike, as cross-defendants. Davis's cross-claim alleges causes of action against all cross-defendants for negligent and intentional misrepresentation, violation of state and federal securities antifraud provisions, and failure to register securities under federal and state law. Davis also alleged claims for negligence against Rutan & Tucker and Pike.

In the meantime, the district court in Oregon resolved the foreclosure action in favor of the plaintiffs; the plaintiffs have no further interest or role in this action. In the proceedings on the cross-claims, Himmelfarb, Miller, GAGE and Kitchens moved for summary judgment on the ground that the Empire note is not a "security" and therefore there is no federal securities law subject matter jurisdiction. The district court granted the motion for summary judgment. It then dismissed Davis's state law claims. Davis appeals.

III Analysis
A. Empire's Note Is Not a Security

We confront one of the most vexatious questions raised by the federal securities laws: When is a "note" a "security"? Both the Securities Act of 1933 and the Securities Exchange Act of 1934 define the term "security" to include any "note," "unless the context otherwise requires." See 15 U.S.C. Sec. 77b(1) (section 2(1) of the 1933 Act); id. Sec. 78c(a)(10) (section 3(a)(10) of the 1934 Act). Notwithstanding slight differences between the definitions in the 1933 and 1934 Acts, the Supreme Court has said that "the definitions of 'security' in [the Acts] are virtually identical and will be treated as such in ... decisions dealing with the scope of the term." Landreth Timber Co. v. Landreth, 471 U.S. 681, 686 n. 1, 105 S.Ct. 2297, 2301 n. 1, 85 L.Ed.2d 692 (1985); see also Tcherepnin v. Knight, 389 U.S. 332, 336, 88 S.Ct. 548, 553, 19 L.Ed.2d 564 (1967) (same); United Cal. Bank v. THC Fin. Corp., 557 F.2d 1351, 1356 (9th Cir.1977) ("The two definitions ... are considered functional equivalents.").

In exploring the boundaries of the term "security," the Court has eschewed a literal approach, focusing instead on the economic realities of the underlying transaction. See, e.g., Tcherepnin, 389 U.S. at 336, 88 S.Ct. at 553 ("[W]e are reminded that, in searching for the meaning and scope of the word 'security' in the [1934] Act, form should be disregarded for substance and the emphasis should be on economic reality."). Moreover, the context of the transaction sought to be placed within the scope of the securities laws is relevant to deciding whether some financial instrument is a "security." Landreth, 471 U.S. at 687, 105 S.Ct. at 2302; United Sportfishers v. Buffo, 597 F.2d 658, 660 (9th Cir.1978).

In applying the "economic realities" approach, we are guided by the Supreme Court's three-pronged test for "investment contracts": "There must be (1) an investment of money, in (2) a common enterprise and (3) an expectation of profits from the managerial efforts of others." United Cal. Bank, 557 F.2d at 1358 (paraphrasing the test of SEC v. W.J. Howey Co., 328 U.S. 293, 298-99, 66 S.Ct. 1100, 1102-03, 90 L.Ed. 1244 (1946)). Focusing on the " 'economic realities' standard plus the Court's emphasis of an expectation of profits from the entrepreneurial efforts of others," id., this circuit has developed the so-called "risk capital" test to determine when a note transaction involves a "security." Id. 2

We applied the "risk capital" test to a note transaction in Great Western Bank & Trust v. Kotz, 532 F.2d 1252, 1255 (9th Cir.1976). We explained in Kotz that by emphasizing the economic...

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