Herpich v. Wallace, 27729.

CourtUnited States Courts of Appeals. United States Court of Appeals (5th Circuit)
Writing for the CourtAINSWORTH, DYER and SIMPSON, Circuit
Citation430 F.2d 792
PartiesEdwin J. HERPICH, et al., Plaintiffs-Appellants, v. Robert H. WALLACE, Jack E. Love, et al., Defendants-Appellees.
Docket NumberNo. 27729.,27729.
Decision Date14 July 1970




J. Vernon Patrick, Jr., F. Don Siegal, Birmingham, Ala., Robert Kleinpeter, Baton Rouge, La., for plaintiffs-appellants.

R. Gordon Kean, Jr., Frank J. Polozola, Baton Rouge, La., John P. Frank, Phoenex, Ariz., A. G. Seale, Baton Rouge, La., for defendants-appellees.

Before AINSWORTH, DYER and SIMPSON, Circuit Judges.

AINSWORTH, Circuit Judge:

In this case we must determine whether minority shareholders of a Louisiana corporation have stated a claim for relief under various sections of the federal securities laws which entitles them to challenge in federal court, absent diversity, the way in which control of their corporation was sold to an Arizona-based complex of insurance companies. The District Court dismissed their complaint on the pleadings, thus relegating them to the state courts. This appeal requires us to consider basic aspects of the implied right of action for violation of section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), and, more particularly, SEC Rule 10b-5, 17 C.F.R. § 240.10b-5, promulgated thereunder, which right was recognized by this Court in Reed v. Riddle Airlines, 5 Cir., 1959, 266 F.2d 314. The principal issues with which we deal are (1) the standing of plaintiffs to bring this suit under Rule 10b-5 and (2) the extent to which the conduct about which plaintiffs complain is actionable under the rule. In addition, we are asked to recognize various implied rights of action under the Investment Company Act of 1940, 15 U.S.C. § 80a-1 et seq.

Plaintiffs are shareholders of National American Life Insurance Company, a Louisiana corporation. Plaintiffs brought this suit on behalf of themselves and similarly situated National American shareholders, and derivatively on behalf of National American. It is a companion to Herpich v. Wilder, 5 Cir., 1970, 430 F.2d 818 No. 27385, also decided today by this Court. The principal defendants, referred to as the "Arizona Group," control the present management of National American. Some two or more years ago, the Arizona Group ventured South in search of acquisitions. Following their purchases of control of various insurance companies, among which was National American, they were met with numerous lawsuits challenging their means of acquiring these companies. This action is directed primarily against the purchasers of control of National American. Herpich v. Wilder, on the other hand, is directed against the seller of control.

The Arizona Group is comprised of National Securities, Inc. (NSI), Old National Life Insurance Company, Robert H. Wallace, and Jack E. Love. NSI, a Colorado corporation, has its headquarters in Arizona and carries on business through several wholly or partially owned subsidiary or affiliated corporations, including insurance companies. A majority of NSI's stock is owned by Old National, an Alabama corporation. Old National is said by plaintiffs to be wholly owned by a voting trust of which Wallace and Love are equal beneficiaries. The non-Group defendants here are Luther D. Harris, a director and "controlling person" of National American since 1963, and Raymond A. Latta, who from time to time has served as a consulting actuary to National American.

Plaintiffs' four-count complaint, as amended, alleges violations of section 10 (b) of the Exchange Act, Rule 10b-5, section 17(a) of the Securities Act of 1933, 15 U.S.C. § 77q(a), various sections of the Investment Company Act, and applicable state law. Plaintiffs seek damages and injunctive relief where appropriate for themselves and the class of National American shareholders they seek to represent, and also on behalf of National American itself. Federal jurisdiction is predicated upon section 27 of the Exchange Act, 15 U.S.C. § 78aa, section 22 of the Securities Act, 15 U.S.C. § 77v, and section 44 of the Investment Company Act, 15 U.S.C. § 80a-43.1 In the court below, defendants filed motions to dismiss for want of subject-matter jurisdiction and for failure to state a claim upon which relief can be granted. The District Judge granted these motions, and plaintiffs appeal.


From the amended complaint, sworn affidavits, and attached documents,2 the following allegedly occurred: Until January 24, 1968, Robert E. Wilder, who is not a defendant in this case,3 was the majority shareholder of First Colonial Corporation of America. First Colonial is an "investment company" within the meaning of the Investment Company Act of 1940,4 but has never complied with the registration and qualifications imposed upon such companies by that act. Wilder owned 55.39 per cent of First Colonial's outstanding common stock. This stock was worthless except for the value of First Colonial's controlling interest in National American. Wilder, as a result of his stockholdings in First Colonial (which owned 26.81 per cent of National American's outstanding common stock), and in National American itself (6.32 per cent of the outstanding common), was in working control of National American. He exercised his power of control over the two corporations as president, director, and chairman of the board of National American and as president and director of First Colonial. This power of control was for sale.

A. The Sale of Control

In late November 1967, Wilder allegedly conspired and agreed with the Arizona Group to defraud National American and the other National American shareholders and to cause National American to transact business with the unregistered investment company that controlled it. Wilder would transfer control of National American to the Arizona Group at a premium price payable to him in part by National American itself. This would be done by causing National American to acquire by indirection some of Wilder's shares of National American and First Colonial stock at a price in excess of the market value of these shares. This result was to be accomplished by means of the following device: NSI would be caused to purchase all of Wilder's shares of National American and First Colonial stock at a price, payable in NSI notes, at least $3,000,000 in excess of the then market value of these shares; the Arizona Group would then cause Alabama National Life Insurance Company, an Alabama corporation they controlled,5 to replace the notes issued by NSI to Wilder with premium debentures of its own; finally, the Arizona Group would cause a merger into one company of Alabama National, National American, and another Arizona Group corporation. As a further inducement to Wilder, the Arizona Group would cause to be issued to him an option to purchase 54 per cent of the outstanding common stock of Capitol National Bank of Montgomery, Alabama. In return, Wilder would resign his positions at National American and facilitate the election of Wallace and Love and their associates to management positions there.

To carry out their plans, defendants, either as principals or as aiders and abettors, are alleged to have caused the following to be done: NSI and Wilder executed an agreement under which Wilder sold his First Colonial and National American stock to NSI for $5,000,000. This price was $3,000,000 in excess of the then market value of the stock. The Arizona Group paid this premium to acquire control of National American. Control was sought to enable the Arizona Group to loot the corporation and otherwise to waste the corporation's assets to the detriment of the corporation and its shareholders. The Group did not offer to purchase National American stock from plaintiffs or other members of plaintiffs' class on the same terms given Wilder. Defendants next caused National American and First Colonial to execute an agreement with Federated Investments, Inc. Under this agreement, First Colonial, then insolvent, was to purchase from Federated Investments 43,200 shares of Capitol National Bank of Montgomery stock for $1,188,000. Purchase of these shares, which constituted 54 per cent of the outstanding common stock of the bank, was guaranteed by National American. On or about January 24, 1968, defendants caused NSI to grant Wilder an option to purchase these same shares of bank stock. This option was given as partial payment of the price due Wilder for his First Colonial and National American stock. Because defendants cast the transfer of control of National American as a sale of stock from Wilder to NSI, Wilder realized a premium for passing control of National American's assets which was not made available to or enjoyed by the other shareholders of National American.

B. The Harris Transaction

The facts alleged by plaintiffs are as follows: When the Arizona Group acquired control of National American in January 1968, they caused the corporation to continue to honor its obligations under an agreement it made with Harris on February 24, 1967. Under this agreement, National American was to purchase 12,947 shares of First Colonial common stock from Harris, then a National American director, for the excessive price of $100,000. This stock was then worthless. Documents were drawn to indicate that the transaction was a loan by National American to Harris which was secured by a pledge of Harris' stock. The principal amount of the purported loan was to be paid to Harris at the rate of $2,500 a month. In the event Harris defaulted, National American agreed that it would not assert a deficiency against the director regardless of the value of the pledged stock at the time of the default. The Arizona Group continues to cause the corporation to disburse $2,500 to Harris each month, thereby causing the corporation to purchase worthless stock. It does not appear that Harris is in default on the purported loan.

C. The Latta...

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