Greenfield v. Cheek

• Decision Date: 19 September 1978
• Docket Number: No. 1,CA-CIV,1
• Citation: 122 Ariz. 70,593 P.2d 293
• Parties: , Blue Sky L. Rep. P 71,440, Fed. Sec. L. Rep. P 96,560 Steven H. GREENFIELD, Burton J. Greenfield and Helen P. Greenfield, his wife, Appellants and Cross-Appellees, v. Douglas Ellis CHEEK, Appellee and Cross-Appellant. 3785.
• Court: Arizona Court of Appeals

Page 293

593 P.2d 293

122 Ariz. 70, Blue Sky L. Rep. P 71,440,

Fed. Sec. L. Rep. P 96,560

Steven H. GREENFIELD, Burton J. Greenfield and Helen P. Greenfield, his wife, Appellants and Cross-Appellees, v. Douglas Ellis CHEEK, Appellee and Cross-Appellant.

No. 1 CA-CIV 3785.

Court of Appeals of Arizona, Division 1, Department A.

Sept. 19, 1978.

Rehearing Denied Nov. 13, 1978.

Review Granted Dec. 12, 1978.

Dushoff & Sacks by David C. Tierney, Phoenix, for appellants and cross-appellees.

Filipe K. Johannson, Phoenix, and Richard A. Nulle, Scottsdale, for appellee and cross-appellant.

OPINION

FROEB, Chief Judge.

Appellee, Douglas Ellis Cheek, brought an action for violation of state and federal securities law and common-law fraud. The defendants were Steven H. Greenfield and his parents, Burton J. Greenfield and Helen P. Greenfield. The complaint contained seven counts. Counts I through III alleged stock registration violations: Count I was under Arizona law (A.R.S. § 44-1841); Count II was under California and Illinois law; and Count III was under federal law (§ 5 and § 12 of the Securities Act of 1933). Counts IV through VI alleged fraud; Count IV was under § 17(a) of the 1933 Act; Count V was under § 10 of the Securities Exchange Act of 1934; and Count VI alleged fraud under Arizona law. Count VII alleged breach of warranty and sought indemnification for costs and attorneys' fees. The Greenfields counterclaimed for the amount due on a promissory note.

After a trial without a jury, the court entered judgment against Steven Greenfield on Counts IV and VII and the claim under A.R.S. § 44-1991 alleged in Count VI for $31,248 compensatory damages and $10,000 attorneys' fees plus costs. The trial court ruled that the transaction involved was exempt from Arizona and federal registration requirements and that the California and Illinois securities laws were inapplicable to the case. It found that federal courts had exclusive jurisdiction over claims under § 10(b) of the 1934 Act and that the elements of common-law fraud had not been proven. Burton and Helen Greenfield were found not liable. The court ruled against the Greenfields' counterclaim for the balance due under the promissory note. Steven Greenfield appeals from the judgment against him and the Greenfields appeal from the denial of their counterclaim. Appellee, in his cross appeal, claims that the judgment should have been larger and that it should have been against the other Greenfields as well.

Neither party designated the trial transcript as part of the record on appeal, hence we are bound by the factual findings that the trial court made in its findings of fact and conclusions of law and judgment unless they are clearly erroneous. See R.Civ.P., Rule 52(a); McCormack v. Kirtley, 115 Ariz. 25, 563 P.2d 280 (1977); Evans v. Scottsdale Plumbing Co., 10 Ariz.App. 184, 457 P.2d 724 (1969). The findings and conclusions are set forth in the appendix.

Appellee has conceded the correctness of the trial court's rulings as to Counts II (the inapplicability of California and Illinois law), and V (the exclusiveness of federal jurisdiction over securities fraud cases under § 10(b) of the 1934 Act).

It is clear that no recovery is available under common-law fraud. Arizona case law requires proof of nine elements for actionable fraud. Nielson v. Flashberg, 101 Ariz. 335, 419 P.2d 514 (1966). According to the findings of fact, four of the elements are missing, namely: knowledge of the falsity, intent to deceive, reliance, and resulting damages.

We turn therefore to Counts I and III. ¹ The trial court ruled correctly that the stock transaction was exempt from Arizona and federal registration statutes. ² A.R.S. § 44-1844 provides:

The provisions of §§ 44-1841 and 44-1842 shall not apply to any of the following classes of transactions:

4. The sale in good faith and not for the purpose of avoiding the provisions of this chapter of securities by the bona fide owner of such securities, other than an issuer or underwriter, in an isolated transaction, in which the securities are sold either directly or through a dealer as agent for the owner but where the sales are not made in the course of repeated or successive transactions of similar character by the owner and are not made, directly or indirectly, for the benefit of the issuer or an underwriter of the securities.

15 U.S.C. § 77d (§ 4 of the 1933 Act) provides:

The provisions of section 77e of this title shall not apply to

(1) transactions by any person other than an issuer, underwriter, or dealer.

The trial court's determination that "the sale was an isolated one made by a non-issuer, non-broker and non-underwriter in good faith and not for the purpose of avoiding the registration requirement," brings the transaction within the above exemption and is supported by the findings.

Appellant's basic contention is that the trial court erred in its legal conclusion that the actions of Steven Greenfield constituted civil fraud in violation of A.R.S. § 44-1991(2) and 15 U.S.C. § 77q (§ 17(a) of the 1933 Act). We agree, since that conclusion is not supported by the findings of fact.

A.R.S. § 44-1991 provides:

It is a fraudulent practice and unlawful for a person, in connection with a transaction or transactions within or from this state involving an offer to sell or buy securities, or a sale or purchase of securities, including securities exempted under § 44-1843 and including transactions exempted under § 44-1844, directly or indirectly to do any of the following:

1. Employ any device, scheme or artifice to defraud.

2. Make any untrue statement of material fact, or omit to state any material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading.

3. Engage in any transaction, practice or course of business which operates or would operate as a fraud or deceit.

15 U.S.C. § 77q (§ 17(a) of the 1933 Act) provides:

(a) It shall be unlawful for any person in the offer or sale of any securities by the use of any means or instruments of transportation or communication in interstate commerce or by the use of the mails, directly or indirectly

(1) to employ any device, scheme, or artifice to defraud, or

(2) to obtain money or property by means of any untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or

(3) to engage in any transaction, practice, or course of business which operates or would operate as a fraud or deceit upon the purchaser.

The trial court found (finding 21) that when Steven Greenfield made the statement as to liabilities in the May 31, 1973, pro forma financial statement, he had no knowledge that it was not true and made it without any intent to deceive, "i. e., without any scienter." It also found that appellee had not relied upon its truth (finding 24) and had not been damaged by it (finding 23). As we have pointed out earlier, the absence of the elements of knowledge of falsity, intent to deceive, reliance, and resulting damages precludes recovery for common-law fraud in Arizona. The question is whether the absence of any of those elements also precludes recovery under securities fraud statutes.

Initially, we dispose of appellee's argument that this is a nondisclosure case, and that, therefore, Affiliated Ute Citizens v. United States, 406 U.S. 128, 92 S.Ct. 1456, 31 L.Ed.2d 741 (1972) applies. It is unclear whether the Supreme Court in Affiliated Ute eliminated reliance as a requirement in nondisclosure cases brought under § 10(b) of the 1934 Act or whether it merely shifted the burden of proof as to that element to the defendants. We need not decide that, however, because the case before us is not one of nondisclosure. Appellee contends that Steven Greenfield failed to disclose the insolvency of Sunliner, but the trial court made no finding of insolvency. The court found only that Steven Greenfield made no representations as to whether Sunliner was solvent or insolvent (finding 16). We cannot infer from the absence of such a finding that the corporation was insolvent. The trial court did find that the liabilities were understated (finding 18). Thus, this case is an affirmative misrepresentation case, not a nondisclosure case.

We next take up a major question in the case: that is whether an intent to deceive, often referred to as scienter, is necessary to sustain a claim of securities fraud. We hold that it is.

There is little case law in Arizona interpreting A.R.S. § 44-1991. Since the language of § 44-1991 is almost identical to its federal counterpart, 15 U.S.C. § 77q (§ 17(a) of the Securities Act of 1933), it is appropriate to look to federal case law on the subject.

The United States Supreme Court held in Ernst & Ernst v. Hochfelder, 425 U.S. 185, 96 S.Ct. 1375, 47 L.Ed.2d 668 (1976) that an intent to deceive, manipulate, or defraud (scienter) is essential to a private cause of action for damages under § 10(b) of the Securities Act of 1934 and S.E.C. Rule 10b-5.

Does § 17(a) of the 1933 Act (of which A.R.S. § 44-1991 is a counterpart) impose the same requirement? Prior to Ernst & Ernst, the Court of Appeals for the Fourth Circuit in Johns Hopkins University v. Hutton, 488 F.2d 912 (4th Cir. 1973) recognized scienter as a necessary element in actions under § 17(a) of the 1933 Act. Since Ernst & Ernst, other federal courts have come to the same conclusion. See, e. g., Sanders v. John Nuveen & Co., Inc., 554 F.2d 790 (7th Cir. 1977); S. E. C. v. American Realty Trust, 429 F.Supp. 1148 (E.D.Va.1977); Malik v. Universal Resources Corp., 425 F.Supp. 350 (S.D.Cal.1976); Vacca v. Intra Management Corp., 415 F.Supp. 248 (E.D.Pa.1976).

The primary reason given is the similarity of language between § 17(a) of the 1933 Act and Rule 10b-5 promulgated by the Securities Exchange...