G. A. Thompson & Co., Inc. v. Partridge

• Decision Date: 09 February 1981
• Docket Number: No. 78-3492,78-3492
• Parties: Fed. Sec. L. Rep. P 97,862 G. A. THOMPSON & CO., INC., Plaintiff-Appellee, v. Herbert PARTRIDGE, Robert M. Presley, Frank Andrews and C. Thomas Murphy, Defendants-Appellants.
• Court: U.S. Court of Appeals — Fifth Circuit

Page 945

636 F.2d 945

Fed. Sec. L. Rep. P 97,862

G. A. THOMPSON & CO., INC., Plaintiff-Appellee, v. Herbert PARTRIDGE, Robert M. Presley, Frank Andrews and C.

Thomas Murphy, Defendants-Appellants.

No. 78-3492.

United States Court of Appeals, Fifth Circuit.

Feb. 9, 1981.

Robert A. Elsner, Michael Weinstock, Kevin S. King, Janet L. Haynes, Robert W. Scholz, Atlanta, Ga., for Presley.

Paul W. Stivers, Richard H. Sinkfield, Atlanta, Ga., for plaintiff-appellee.

Appeals from the United States District Court for the Northern District of Georgia.

Before KRAVITCH, HENDERSON and REAVLEY, Circuit Judges.

KRAVITCH, Circuit Judge.

In this securities fraud case, a jury found in favor of plaintiff-appellee, G. A. Thompson Co. (Thompson Co.), against appellants, the shareholders, directors, and officers of Lincoln Home Mortgage Co. (Lincoln), for violations of § 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b) and SEC Rule 10b-5, 17 C.F.R. § 240.10b-5. ¹ The district judge directed a verdict against appellants based upon a separate count claiming misappropriation of corporate assets in violation of Ga.Code Ann. §§ 22-714 and 22-715. ² We affirm the judgment in the amount of $123,825.89 ³ on the 10b-5 count. We reverse the judgment on the misappropriation count because appellee failed to show that the corporation could not satisfy the debt owed appellee, a showing required before a judgment creditor can sue a director for misappropriation of assets. ⁴

I. Facts

In July of 1975, appellants Presley, Partridge, Andrews, and a fourth person, not a party here, bought 96% of the stock of Lincoln, 24% each. The four became officers and directors of Lincoln which marketed mortgage loans. To market such loans, Lincoln needed FHA approval, which in turn was conditioned upon Lincoln having net assets of at least $100,000. To maintain FHA approval, Lincoln purchased a $100,000 bank certificate of deposit, ⁵ although with borrowed funds. ⁶ Thus, Lincoln's net assets did not increase, but because it did not list the $100,000 liability on its balance sheet, Lincoln maintained FHA approval.

In September of 1975, Hitchcock of Thompson Co. began discussing with Partridge the possibility of their companies doing business together. Thompson Co. is a broker dealer trading inter alia in Government National Mortgage Association securities (GNMA's). GNMA's are government issued securities representing a pool of mortgage loans; GNMA's can be acquired by a company having a designated amount of loans and fulfilling a routine application process. Partridge and Hitchcock discussed the possibility of Thompson Co. buying GNMA's from Lincoln. In the discussion, Partridge represented to Hitchcock that Lincoln had significantly more loans, both in progress and closed, than Lincoln actually had. ⁷ Hitchcock relied on Partridge's representations without corroboration because Hitchcock previously worked with Partridge for another employer, at which job Partridge had an excellent reputation for integrity and for expertise in procuring mortgage loans. In late September, Partridge entered into a contract on behalf of Lincoln to sell one million dollars in GNMA securities to Thompson Co. to be delivered on December 15, 1975. On October 1, Partridge contracted to sell an additional one and one-half million dollars in GNMA securities to Thompson Co. to be delivered on January 15, 1976.

During October, the market turned sharply against Lincoln, which meant that Lincoln would not be able to obtain enough loans to cover its commitment to Thompson Co., loans it had represented in September that it already had. As a result, Lincoln entered into cover transactions by which it agreed to buy from Thompson Co. the exact amount of GNMA securities it had agreed to sell and on the same dates. ⁸ Only the prices differed, so that the contracts cancelled each other out and Lincoln owed Thompson Co. $123,825.89. The purpose of these covering contracts was to limit Lincoln's liability, for if the market continued in the same direction, Lincoln's liability on the delivery dates would have been much higher than the $123,825.89.

In November, Lincoln, through Partridge, authorized Thompson Co. to act as agent for Lincoln in disposing of the loans Lincoln did own. Lincoln agreed that all proceeds of the sale would go to Thompson Co. to offset the $123,825.89 debt and, in addition, to pay Thompson Co. a commission of $2,500. The proceeds of the December 15, 1975 sale, $27,305.30, however, were not given to Thompson Co.; instead they were used to pay off other creditors or as distributions to appellants. Nor was the commission paid.

In December 1975, Thompson Co. sued appellants and Lincoln alleging 10b-5 violations based on the misrepresentation of the loans Lincoln had and, since it was FHA-approved, based on the implicit misrepresentation that it owned $100,000 in assets. In the same action, Thompson Co. claimed misappropriation of corporate assets and breach of contract, the former against only the appellants, the latter against appellants and Lincoln. The total amount eventually prayed for was $126,325.89 (the same $123,825.89 under the misappropriations, contract, and fraud counts, and the same additional $2,500 under the misappropriations and contract counts). During pendency of the suit, a majority interest in Lincoln was sold several times until eventually Thompson Co. purchased it. In the same transaction, Thompson Co. entered into a settlement agreement (not of record) which, besides accomplishing the sale of the stock to Thompson Co., allegedly contained several provisions: 1) that Lincoln dismiss its counterclaims ⁹ against Thompson Co., 2) that Lincoln consent to a judgment against it in the amount of $126,325.89, ¹⁰ and 3) that Lincoln cease doing business.

After the purchase of Lincoln, the settlement agreement and consent judgment, Thompson Co. had statutory authority to bring the separate misappropriation count, previously brought under Ga.Code Ann. §§ 22-714 and 22-715 which relate to actions against directors for misappropriations of funds. Although these statutes authorize only certain parties to sue, the limited number includes shareholders, the corporation itself, and judgment creditors. Thompson Co. sued as a judgment creditor. See note 2 supra. Thompson Co. alleged that at the time of the sale of the loans Lincoln was insolvent, making the directors fiduciaries holding assets for Lincoln's creditors. Appellants allegedly violated their fiduciary duty by not paying the $27,305.30 in accord with the agreement between Lincoln and Thompson Co.; this violation gave rise to a liability under § 22-714. Appellee further alleged that certain distributions the appellants made to themselves while Lincoln was insolvent made appellants liable under § 22-715(a)(1). The distributions at issue concerned the $100,000 certificate of deposit and certain of Lincoln's real estate; the alleged violation was that the directors made the distributions while the corporation was insolvent, a violation of § 22-511(a) and thus of § 22-715(a)(1) which prohibits distributions in violation of § 22-511, among other sections. Lincoln's $100,000 debt, arising when Lincoln borrowed $100,000 to purchase the certificate of deposit, became a personal debt of the appellants. In March of 1976, appellants used the certificate of deposit to discharge the debt, effectively converting $100,000 of corporate property to their own use. ¹¹ Appellee presented evidence that Lincoln was insolvent at the time of conversion. Furthermore, Thompson Co. alleged that while Lincoln was insolvent, real estate belonging to Lincoln was transferred to appellants' wives, also in violation of § 22-715(a)(1).

As noted, based on the above claim, Thompson Co. as a judgment creditor sued appellants for the same $123,825.89 debt plus the $2,500 commission.

At trial, the state fraud claim was dismissed and the contract claim was effectively dropped. The judge directed a verdict for appellee on the misappropriations claim. The jury returned a verdict for appellee on the 10b-5 claim. Under the judgment, on both counts appellants were jointly and severally liable for $126,325.89. From this judgment, appellants appeal.

II. Issues

Primarily, appellants raise the following issues on the 10b-5 claim:

1) Whether appellee's announcement the first day of trial that it would not present evidence on the 10b-5 claim constituted a dismissal of the claim.

2) The requirements of a due diligence defense.

3) The requirements for liability under the controlling person doctrine.

4) Whether an extreme form of recklessness suffices as the required scienter under 10b-5.

5) Whether the 1933 Act requires contracts to buy and sell GNMA securities to be registered.

6) Whether the court erred in the amount of the judgment on the 10b-5 claim.

7) Whether appellee proved the debt and thus damages.

Appellants raise numerous other issues relating to the misappropriations claim. Inter alia, they challenge rulings of the court:

1) That the return of a nulla bona on appellee's judgment against Lincoln was not necessary for appellee to recover from appellants under the misappropriation count.

2) That Lincoln was insolvent at the time of the alleged misappropriations, a requirement for recovery under the misappropriation count.

III. 10b-5 Claim

1. Abandonment of the 10b-5 Claim

Appellants' first claim is that appellee dismissed its 10b-5 claim with prejudice. On the morning of the first day of trial, at an unrecorded conference to modify portions of the pretrial order, appellee announced it would pursue only the misappropriation of corporate assets claim. Later that day, at a formal discussion on the record of this "abandonment," appellants' contention that the abandonment would constitute a dismissal of the 10b-5 claim with prejudice by appellee was disputed. The judge's statement in response is unclear.

At the...