Fogel v. Chestnutt

• Decision Date: 17 December 1981
• Docket Number: D,Nos. 4,5,s. 4
• Citation: Fogel v. Chestnutt, 668 F.2d 100 (2nd Cir. 1981)
• Parties: Fed. Sec. L. Rep. P 98,388 Rosalind FOGEL and Gerald Fogel, Plaintiffs-Appellees, v. George A. CHESTNUTT, Jr., John Currier, Warren K. Greene, Stanley L. Sabel, American Investors Corporation, and Chestnutt Corporation, Defendants-Appellants, and Frank G. Fowler, Jr., Richard W. Radcliffe, Francis L. Veeder, and American Investors Fund, Inc., Defendants. ockets 80-7800, 80-7804.
• Court: U.S. Court of Appeals — Second Circuit

Page 100

668 F.2d 100

Fed. Sec. L. Rep. P 98,388

Rosalind FOGEL and Gerald Fogel, Plaintiffs-Appellees, v.George A. CHESTNUTT, Jr., John Currier, Warren K. GreeneStanley L. Sabel, American Investors Corporation and Chestnutt Corporation, Defendants-Appellants and Frank G. Fowler, Jr., Richard W. Radcliffe, Francis L Veeder, and American Investors Fund, Inc., Defendants.

Nos. 4, 5, Dockets 80-7800, 80-7804.

United States Court of Appeals, Second Circuit.

Argued Oct. 7, 1981.

Decided Dec. 17, 1981.

William E. Haudek, New York City(Pomerantz, Levy, Haudek & Block, New York City, Judah I. Labovitz, and Bruce G. Stumpf, New York City, of counsel), for plaintiffs-appellees, Rosalind Fogel and Gerald Fogel.

Walter L. Stratton, New York City(Donovan Leisure Newton & Irvine, Roger W. Kapp, Richard H. Sayler, Eugene S. R. Pagano, and Clendon H. Lee, New York City, of counsel), for defendants-appellants, George A. Chestnutt, Jr., Warren K. Greene, Stanley L. Sabel and American Investors Corp.

Robert J. Sisk, New York City(Hughes Hubbard & Reed, Norman C. Kleinberg and Margaret G. Sokolov, New York City, of counsel), for defendant-appellant, John Currier.

Before FEINBERG, Chief Judge, and FRIENDLY and MESKILL, Circuit Judges.

FRIENDLY, Circuit Judge:

In Fogel v. Chestnutt, 533 F.2d 731(2 Cir.1975)(Fogel I), cert. denied, 429 U.S. 824, 97 S.Ct. 77, 50 L.Ed.2d 86(1976), we reversed a judgment of Judge Wyatt in the District Court, 383 F.Supp. 914, for the Southern District of New York which dismissed on the merits a derivative action in which two stockholders of American Investors Fund, Inc.(the Fund) sought to recover brokerage commissions and like amounts which allegedly could have been recaptured for the benefit of the Fund if it or an affiliate had become a member of the National Association of Security Dealers, Inc.(NASD) and the Philadelphia-Baltimore-Washington Stock Exchange (PBW).The defendants were American Investors Corporation which had been investment adviser and manager of the Fund until July, 1966, and it successor Chestnutt Corporation, to which we shall refer collectively as the Adviser, and four of its directors.These were George A. Chestnutt, Jr., who had been the chief figure in both the Fund and the Adviser and owned 47% of the latter's stock; Stanley L. Sabel, senior vice president, secretary and a director of the Fund, and vice president, secretary, general counsel and a director of the Adviser, and owner of 16% of its stock; Warren K. Greene, vice president and a director of the Fund, and vice president of the Adviser, and owner of .4% of its stock; and John Currier, a director of the Fund and owner of 2% of the Adviser's stock.

In agreement with the result although not with all the reasoning in the well-known decision of the First Circuit in Moses v. Burgin, 445 F.2d 369, cert. denied, 404 U.S. 994, 92 S.Ct. 532; 30 L.Ed.2d 547(1971), we held the defendants liable because of their failure adequately to investigate the possibilities of recapture and make a full report to and secure informed and deliberate consideration of this by the independent directors, see533 F.2d at 749-50, in violation of the Investment Company Act (ICA), contrastTannenbaum v. Zeller, 552 F.2d 402(2 Cir.), cert. denied, 434 U.S. 934, 98 S.Ct. 421, 54 L.Ed.2d 293(1977).We remanded the case to the district court for the determination of damages, with certain instructions on that subject, 533 F.2d at 755-57, hereafter discussed.Familiarity with the opinion in Fogel I will be assumed.

The district court referred the determination of damages to Magistrate Schreiber as a special master.He received testimony from an expert witness for plaintiffs and eleven witnesses, several of them experts, for the defendants.The Magistrate largely sustained plaintiff's claims with respect to recapture of brokerage commissions on business actually transacted by the Adviser on the PBW, of tender offer fees that would have been payable if the Adviser or an affiliate had become a member of the NASD, and of underwriting discounts, commissions and allowances obtainable by having a brokerage affiliate become a member of the underwriting or selling group.However, he rejected plaintiffs' claims with respect to the recapture of commissions for reciprocal brokerage, a subject with which, as was also the case with underwriting discounts, our opinion in Fogel I did not specifically deal.After deducting added expenses to which the Adviser would have been subject, the Magistrate arrived at a total of damages for the years 1967-74 of $349,013.04 to which there was to be added interest at the legal rates in effect at the end of each year.

Exceptions were filed by both sides and were disposed of by the district court in an opinion reported in 493 F.Supp. 1192(1980).The district judge accepted, with some downward modifications, the recommendations of the Magistrate favorable to plaintiffs.However, he sustained plaintiffs' exceptions to the large item relating to reciprocal commissions.The result was a judgment in the amount of $3,919,220, consisting of $2,370,357 of principal and $1,548,863 of interest.

Despite our recognition that defendant Currier was "a special case" and our suggestion that "equity would suggest the imposition of primary liability on the Adviser, which profited from the failure to recapture", 533 F.2d at 750, the attorney, Clendon H. Lee, who had represented all the defendants in Fogel I, continued to do so in the district court after remand.After noting the relevant passage on this subject in Fogel I, the Magistrate said:

Because all defendants were represented by the same attorney during these proceedings, and no proof of individual responsibility was introduced, a finding of degrees of fault of the individual defendants is not feasible.

The district court upheld this and directed that judgment be entered holding all defendants jointly and severally liable in the full amount, 493 F.Supp. at 1204.

All defendants have appealed.The defendants other than Currier, while continuing to be represented by Mr. Lee, retained new attorneys who, in addition to challenging the amount of the award, argue that no award was permissible since in their view there is no private cause of action for damages for violations of the ICA other than that provided in § 30(f) which admittedly is not applicable here, ¹ and the one created by the addition of § 36(b) in 1970.²We shall sometimes refer to the defendants so represented as "defendants" or "appellants".Currier at long last has retained independent counsel who, while joining in the arguments made on behalf of the other defendants, place particular emphasis on the unfairness of subjecting Currier, who was not a part of the management group, to exposure to so large a judgment.³In Part I of this opinion we shall discuss defendants' attempt to raise at this stage of the case the issue of the existence of a private cause of action for damages under the ICA.Part II will deal with the issues raised in respect of damages.In Part IIIwe shall discuss Currier's arguments for treatment as a "special case".

I.Liability

Our opinion in Fogel I necessarily assumed that an adviser's and a director's breach of fiduciary duty under the ICA gave rise to a private cause of action for damages.Congress had sought to deal with the problem that the relationship between a mutual fund and its investment adviser and underwriters was rife with opportunities for self-dealing, seeMoses v. Burgin, supra, 445 F.2d at 376, by requiring a minimum proportion of disinterested directors, § 10(a), and by vesting them with special responsibilities with respect to contracts between the fund and advisers and underwriters, § 15(c).In Fogel I, 533 F.2d at 745, we agreed with Chief Judge Aldrich, writing for the First Circuit in Moses v. Burgin, supra, 455 F.2d at 377, that

If management does not keep these directors informed they will not be in a position to exercise the independent judgment that Congress clearly intended.

There was no occasion for us to discuss the existence of a private cause of action to enforce this duty since we had long since decided the point in Brown v. Bullock, 294 F.2d 415(2d Cir.1961), and, doubtless in view of this and the Supreme Court's decision in J. I. Case Co. v. Borak, 377 U.S. 426, 84 S.Ct. 1555, 12 L.Ed.2d 423(1964)(§ 14 of Securities Exchange Act), which seemingly confirmed it, defendants' counsel did not raise the issue in brief or argument or in his petition for reconsideration.⁴

Defendants now argue that we-and they-were mistaken in the basic assumption that plaintiffs were entitled to recover if they could show violations of the ICA by the defendants, and that decisions of the Supreme Court, particularly Transamerica Mortgage Advisors, Inc. v. Lewis, 444 U.S. 11, 100 S.Ct. 242, 62 L.Ed.2d 146(1979);see alsoCort v. Ash, 422 U.S. 66, 95 S.Ct. 2080, 45 L.Ed.2d 26(1975);Piper v. Chris-Craft Industries, Inc., 430 U.S. 1, 97 S.Ct. 926, 51 L.Ed.2d 124(1977);Touche Ross & Co. v. Redington, 442 U.S. 560, 99 S.Ct. 2479, 61 L.Ed.2d 82(1979);andKissinger v. Reporters Committee for Freedom of the Press, 445 U.S. 136, 100 S.Ct. 960, 63 L.Ed.2d 267(1980), although not dealing with the ICA, compel the conclusion that no implied private causes of action for damages exist under that statute.In addition to disputing defendants' contention, plaintiffs assert that we need not and should not reach its merits.For this they rely both on the preclusive effect of the pretrial order and on the principle of the law of the case.

Defendants' initial response is that the existence of an implied cause of action under the ICA is jurisdictional and hence may be raised at any time.This argument is simply one more instance of the fallacy, to which courts as well as counsel have not been immune, of confusing the question whether a court has jurisdiction with the...