David K. Lindemuth Co. v. Shannon Financial Corp., C-86-1007 SAW.

• Decision Date: 07 May 1987
• Docket Number: No. C-86-1007 SAW.,C-86-1007 SAW.
• Citation: 660 F. Supp. 261
• Parties: DAVID K. LINDEMUTH CO., a California corporation; Giroux Tool and Engineering, Inc., a California corporation; Research Machine Development, Inc., a California corporation, Plaintiffs, v. SHANNON FINANCIAL CORPORATION, a California corporation; SFC Leasing, Inc., a California corporation; OTI, Inc., a foreign corporation; Pengo Industries, Inc., a foreign corporation; NDT Systems, Inc., a foreign corporation; ITT Industrial Credit Company, a foreign corporation; and Michael McCune, Defendants.
• Court: U.S. District Court — Northern District of California

660 F. Supp. 261

DAVID K. LINDEMUTH CO., a California corporation; Giroux Tool and Engineering, Inc., a California corporation; Research Machine Development, Inc., a California corporation, Plaintiffs, v. SHANNON FINANCIAL CORPORATION, a California corporation; SFC Leasing, Inc., a California corporation; OTI, Inc., a foreign corporation; Pengo Industries, Inc., a foreign corporation; NDT Systems, Inc., a foreign corporation; ITT Industrial Credit Company, a foreign corporation; and Michael McCune, Defendants.

No. C-86-1007 SAW.

United States District Court, N.D. California.

May 7, 1987.

Robert A. Randick, Jr., Spinetta, Randick & O'Dea, Oakland, Cal., for plaintiffs.

Kenneth G. Hausman, Bernard A. Burk, Pauline E. Calande, Howard, Rice, Nemerovski, Canady, Robertson & Falk, San Francisco, Cal., for defendants.

ORDER

WEIGEL, District Judge.

The motion of defendants Shannon Financial Corporation, SFC Leasing, Inc., and Micael McCune for summary judgment came on for hearing May 7, 1987. The Court has considered the briefs, arguments of counsel, and the entire record.

FACTS

Plaintiffs are three unrelated corporations (David K. Lindemuth Co., Inc. ("Lindemuth Co."), Giroux Tool and Engineering, Inc. ("Giroux Tool"), and Research Machine Development, Inc. ("RMD")) that invested in a sale/leaseback scheme involving defendants in 1982. Defendant NDT Systems, Inc. ("NDT") makes equipment for inspecting oil pipelines. (McCune Decl. ¶ 4) Defendant OTI, Inc. ("OTI") provides pipeline inspection services. (Id.) When the scheme began, both NDT and OTI were wholly owned subsidiaries of defendant Pengo Industries, Inc. ("Pengo"). (Id. ¶ 3)

In early 1982, OTI wanted to lease NDT pipeline inspection equipment. (Id. ¶ 5) Defendant Shannon Financial Corp. ("Shannon") acted as a broker. (Id. ¶¶ 2, 5) OTI informed Shannon of the equipment it wished to acquire. (Id.) Shannon purchased the equipment from NDT and then leased it to OTI under a Master Lease Agreement for Petroleum Service Equipment ("Master Lease"). (Id.) Shannon (along with SFC Leasing, Inc., which was owned by Shannon, and Michael McCune, who was president of Shannon) found investors, including plaintiffs, to buy the equipment and then lease it to OTI (hence the term "sale/leaseback"). (Id.) Shannon then assigned its rights and delegated its duties under the Master Lease to the investors. (Id.)

Plaintiffs borrowed most of the purchase price from defendant ITT Industrial Credit Company ("ITT"). (Id. ¶ 14) OTI's lease payments were supposed to be sufficient to meet the investor's debt service on the loan from ITT. (Id. ¶ 15) Pengo guaranteed the lease payments on behalf of OTI. (Id. ¶ 14)

The investors expected tax benefits from the transaction. (Id. ¶ 7) According to plaintiffs, plaintiffs also expected the lease payments to exceed the debt service. (Lindemuth (President of Lindemuth Co.) Decl. ¶ 14; Camier (President of RMD) Decl. ¶ 13) Also, the plaintiffs expected profits from the sale or release of the equipment at the end of the lease term. (Lindemuth Decl. ¶¶ 3, 8, 14; Camier Decl. ¶ 7, 13; Giroux (President of Giroux Tool) Decl. ¶¶ 3, 11)

The transactions with each plaintiff were closed in late August, 1982. (McCune Decl. ¶ 14) In March, 1983, Shannon informed plaintiffs that OTI and Pengo were having financial difficulties. (Randick Decl. exh. B) OTI defaulted on its lease payments in April, 1983. (Lindemuth Decl. ¶ 11; Camier Decl. ¶ 10; Giroux Decl. ¶ 4) Pengo did not make the payment.

Plaintiffs seek to recover the losses they incurred as a result of participating in the sale/leaseback scheme. They charge defendants with federal securities law violations, common law fraud (and related claims such as intentional misrepresentation, suppression of fact, and conspiracy to defraud), negligent misrepresentation, and breach of fiduciary duty.

Defendants Shannon, SFC, and McCune move for summary judgment on the grounds that the claims are barred by the statute of limitations, that there was no fiduciary relationship between plaintiffs and defendants, and that the investment scheme did not involve a "security" within the meaning of the federal securities laws.

Defendant ITT does not oppose the motion.

ANALYSIS

The Court may grant summary judgment only if there are no genuine issues as to any material facts and if defendants are entitled to judgment as a matter of law. Bell v. Cameron Meadows Land Co., 669 F.2d 1278, 1280 (9th Cir.1982). Further, if different reasonable inferences may be drawn from undisputed facts, the Court must draw those inferences in plaintiffs' favor. Id.

I. Statute of Limitations

A. Fraud Claims

The statute of limitations for the securities fraud and common law fraud claims is three years from the time plaintiff knew or should have known of the circumstances constituting the alleged fraud. United California Bank v. Salik, 481 F.2d 1012, 1014-15 (9th Cir.), cert. denied, 414 U.S. 1004, 94 S.Ct. 361, 38 L.Ed.2d 240 (1973). A plaintiff should have known of the circumstances constituting the fraud if he knew of facts that would make a reasonable person suspicious of fraud, thus putting him on inquiry notice. Miller v. Bechtel Corp., 33 Cal.3d 868, 874-75, 191 Cal. Rptr. 619, 663 P.2d 177 (1983). If a plaintiff has inquiry notice, he must prove that he could not have reasonably discovered the facts constituting the alleged fraud. Id.

Defendants argue that plaintiffs were on inquiry notice by September, 1982, when plaintiffs received a Form 10-Q filed by Pengo in accordance with federal securities laws. The 10-Q stated that the demand for certain petroleum related products had leveled, that Pengo was having cash flow difficulties, that Pengo had suffered a loss in the quarter ending June 30, 1982, and that profit margins had declined in the pipeline inspection unit. (Burk Decl. exh. Pengo 10-Q) Thus, defendants argue that the 10-Q should have raised plaintiffs' suspicions. If they had become suspicious and had investigated the financial health of Pengo and OTI, they would have discovered the Form 10-K filed by Pengo in accordance with federal securities laws. Defendants argue that the 10-K clearly shows that the financial picture was not what plaintiffs allege defendants represented it to be. (See Burk Decl. exh. Pengo 10-K)

In response to interrogatories, plaintiffs have stated that the magnitude of Pengo's and OTI's financial difficulties was not apparent from the 10-Q. (Burk Decl. exh. Lindemuth Co. Response to Interrogatories pp. 26-27, exh. Giroux Tool Response to Interrogatories pp. 26-27, exh. RMD Response to Interrogatories pp. 26-27) Further, the 10-Q is not entirely negative. For example, it states that the petroleum equipment manufacturing segment, led by NDT, was the most profitable segment of Pengo. (Burk Decl. exh. Pengo 10-Q) Also, Pengo's management expected to meet the cash flow problems through a divestiture program. (Id.) Moreover, it was not until March, 1983, when Shannon sent plaintiffs a letter explaining the financial difficulties of OTI and Pengo, that plaintiffs had reason to believe that their investments would not be profitable despite the problems mentioned in the 10- Q. (Burk Decl. exh. Lindemuth Co. Response to Interrogatories p. 27, exh. Giroux Tool Response to Interrogatories p. 27, exh. RMD Response to Interrogatories p. 27) See McConnell v. Frank Howard Allen & Co., 574 F.Supp. 781, 789 (N.D. Cal.1983) (Patel, J.) (court can infer that plaintiffs should not have been suspicious because they had no reason to believe that their investments would not be profitable despite knowledge of financial difficulties).

The Court finds that a reasonable person may not have had his suspicions aroused by the 10-Q, and therefore defendants' motion with respect to the fraud claims will be denied.

B. Negligent Misrepresentation Claim

The statute of limitations for negligent misrepresentation is two years. Vucinich v. Paine, Webber, Jackson & Curtis, Inc., 739 F.2d 1434, 1436 (9th Cir.1984); Continental Motion Pictures v. Allstate Film Co., 590 F.Supp. 67, 68-69 (C.D.Cal. 1984). Plaintiffs admit they discovered the alleged wrong on or about March 8, 1983, almost three years before they filed the complaint. (Burk Decl. exh. Lindemuth Co. Response to Interrogatories p. 27, exh. Giroux Tool Response to Interrogatories p. 27, exh. RMD Response to Interrogatories p. 27) Therefore, the Court will grant summary judgment for defendants with respect to plaintiffs' Sixth Claim, for negligent misrepresentation.

C. Breach of Fiduciary Duty Claim

If a complaint contains claims for fraud and for breach of fiduciary duty and the facts alleged support both claims, then a three year limitations period applies to the fraud claim and a four-year limitations period applies to the breach of fiduciary duty claim. Davis & Cox v. Summa Corp., 751 F.2d 1507, 1520-21 & n. 3 (9th Cir.1985) (applying Cal.Code Civ.Pro. § 343 to breach of fiduciary duty claim); Robuck v. Dean Witter & Co., Inc., 649 F.2d 641 (9th Cir.1980). As discussed below, plaintiffs have alleged facts to support their claim for breach of fiduciary duty. Therefore, a four-year limitations period applies to that claim. Plaintiffs' complaint was filed within four years of the time they entered into the transactions in question and, therefore, the breach of fiduciary duty claim is timely.

In Vucinich v. Paine, Webber, Jackson & Curtis, Inc., 739 F.2d 1434, 1436-37 (9th Cir.1984), the Ninth Circuit stated that the two-year statute of limitations in California Code of Civil Procedure section 339(1) (for "an action upon a contract, obligation or liability not founded upon an instrument of writing....") applies to a breach of fiduciary duty claim. However, the Court will apply the Davis & Cox rule because it is subsequent to Vucinich and is better reasoned.

II. Merits of Breach of Fiduciary Duty Claim

Defendants argue that the breach of fiduciary duty claim is...