Holloway v. Howerdd

• Decision Date: 26 July 1976
• Docket Number: Nos. 74-2125,74-2126,s. 74-2125
• Citation: 536 F.2d 690
• Parties: Fed. Sec. L. Rep. P 95,629 C. L. HOLLOWAY et ux., Plaintiffs-Appellants, v. Eugene HOWERDD et al., Defendants-Appellees.
• Court: U.S. Court of Appeals — Sixth Circuit

Page 690

536 F.2d 690

Fed. Sec. L. Rep. P 95,629

C. L. HOLLOWAY et ux., Plaintiffs-Appellants, v. Eugene HOWERDD et al., Defendants-Appellees.

Nos. 74-2125, 74-2126.

United States Court of Appeals,

Sixth Circuit.

Argued Dec. 3, 1975.

Decided June 16, 1976.

Rehearing and Rehearing En Banc Denied July 26, 1976.

C. Allen High, John B. Wilkes, Nashville, Tenn., Francis I. Breazeale, Duncan, Breazeale & Secor, Chattanooga, Tenn., Oliver P. Dickens, Jr., Atlanta, Ga., for plaintiffs-appellants.

Stewart S. Kresge, Stanly T. Snodgrass, Nashville, Tenn., George M. Derryberry, Chattanooga, Tenn., for defendants-appellees.

Before WEICK, EDWARDS and McCREE, Circuit Judges.

WEICK, Circuit Judge.

This suit was instituted in the United States District Court for the Middle District of Tennessee as a class action, by Tennessee investors in the shares of stock of Modular Properties, Inc. (Modular), a Georgia corporation, against seven defendants, alleging violations of sections 5, 12 and 17 of the Securities Act of 1933 (15 U.S.C. §§ 77e, 77l, and 77q ), Section 10b of the Securities Exchange Act of 1934, and Rule 10b-5 of the Securities and Exchange Commission. Six of the defendants were individuals residing in North Carolina, Georgia and Florida. The seventh defendant was Tennessee Securities, Inc. (TSI), a Tennessee corporation engaged in the brokerage business. Jurisdiction was invoked pursuant to 15 U.S.C. §§ 77v and 78aa.

The case was tried by the District Judge, without a jury. One defendant was nonsuited; no evidence as to liability was offered as to three other defendants; and the case proceeded against only three of the defendants, namely, Eugene Howerdd, Marion S. Lagerquist and TSI. In a Memorandum Opinion reported at 377 F.Supp. 754 the District Judge ruled in favor of the defendants Howerdd and Lagerquist and dismissed the complaint as to them. The District Judge decided against TSI but only in favor of those of the plaintiff's class who knew that the person who sold the shares to them was a registered agent of TSI and were not informed that the agent was operating on his own, separate and apart from his firm.

The Court assessed $10,000 in attorneys' fees for plaintiffs' attorneys, against TSI. The plaintiffs appealed from the judgment of the District Court except as to that part dismissing defendant Lagerquist. TSI has cross-appealed.

We affirm the judgment of the District Court except as to the assessment of attorneys' fees, and as to such assessment the judgment of the District Court is reversed.

I FACTS

The facts of the case are detailed at length in the Memorandum Opinion of the District Judge, and need be repeated here only so far as they pertain to the issues relating to the two remaining defendants. Neither of these two defendants was directly involved in the sale of Modular stock to the plaintiffs.

Howerdd had invested $2,500 in Modular, but he had never received a certificate of stock for his investment. There were discussions of a merger of a company which Howerdd owned, Yetter Homes, Inc., with Modular, but the merger was later abandoned. Howerdd acted as a director of Modular for only a few weeks after the principal officers of the company were killed in an airplane accident. Howerdd never participated in any of the sales of stock to the public, and indeed had no knowledge of the sales.

Liability was imposed upon TSI by the District Court solely because of the activities of its registered agent, Wilburn Tucker, who was acting on his own in violation of TSI rules, and, as it claims, without its knowledge or consent.

On May 28, 1971 the principal officers of Modular, including its president, Crosby, and Attorney Prater, were killed in a crash of a small private airplane in Virginia, and some records of Modular were destroyed in the crash. Secretary and Treasurer Baumstark then became president of Modular, and he committed suicide two weeks later.

Although plaintiffs in their complaint had charged a conspiracy, they did not even sue Tucker, whose activities were the only source of liability imposed upon TSI.

II TSI

Modular was an undercapitalized company. It had two plants, one of which was located in Georgia, but it never operated either plant. It had never registered its shares of stock with the Securities and Exchange Commission as required by law. 15 U.S.C. § 77e.

Wilburn Tucker was first contacted with regard to making a personal investment in Modular, by his friend Raymond Prater, a Chattanooga attorney. After explaining his opportunity to his banker Tucker obtained a $5,000 loan to make his investment. The banker made an investment, and also the banker's brother made an investment, at no solicitation by Tucker. Tucker then received inquiries from various acquaintances and people in the Cookeville, Tennessee area about the possibility of investing in Modular. Word of this investment opportunity spread rapidly throughout Tennessee, with a minimum of assistance from Tucker.

At the time this litigation was instituted more than 140 people had paid to Tucker funds in varying amounts aggregating in excess of $100,000, for investment in the shares of Modular. Because the securities were unregistered, they were to be held for the investors by Tucker under a "piggyback" arrangement, so-called, until a registration statement could be filed with the SEC. The shares of stock were issued in the name of Prater and assigned to Tucker, and held by him for the benefit of the purchasers; the purchasers received letters from Tucker, written on his own stationery, stating that he was holding their shares in their account until they could be released for transfer. Prater had assured Tucker that a registration with SEC would be forthcoming. However, there never was a registration. After Modular became bankrupt the present suit against TSI and others was instituted to recover the amounts invested in Modular by those who purchased shares of stock from Tucker.

At the trial Tucker testified that he had advised all the persons with whom he dealt personally that he was not representing TSI in his sale of Modular shares of stock, that he was not charging a commission, and that he was allowing them to invest in Modular as a personal favor. He deposited the funds received from investors in a separate bank account. He then wrote checks to The letters written by Tucker to the investors did not disclose the fact that he was sending their money to Modular through Attorney Prater. They could well have assumed that he was holding their money, as well as the stock, in their account until the transfer could be made. It constituted a fraud on the investors as well as a violation of law by selling unregistered shares of stock. In order not to violate the statute Tucker should have held both the investors' money and the stock in escrow until the transfer could have been made after the shares were registered.

Prater, who later mailed to Tucker the assigned stock certificates. Tucker never used TSI stationery to communicate with the investors. However, he also testified that there were some persons who invested in Modular who were not informed that he was not acting for TSI in the sale of the shares of stock.

The District Judge limited the scope of his findings as to the liability of defendant TSI. He held that the liability of TSI under § 12(2) was predicated upon the doctrine of respondeat superior; therefore, only those plaintiffs could recover who knew Tucker was a registered security dealer for TSI and who were not informed that he was acting on his own and not in his capacity as a representative of TSI in selling the Modular shares of stock. The Judge concluded that it was inappropriate to premise the liability of TSI on § 15 of the Securities Act of 1933 which imposes liability on controlling persons. ¹ He reasoned that because § 15 provides the brokerage firm with a special defense not available to it at common law, and because Congress did not intend to restrict the common law rights of action available to the investor, the brokerage firm could be held liable under § 12(2) based upon the doctrine of respondeat superior.

The District Judge added that TSI had met the burden of establishing the special defense available to one in control of a person under § 15, i. e., that "it (TSI) had no knowledge of nor reasonable grounds to believe in the existence of Tucker's activity in publicly selling unregistered stock."

It appears to us that there is substantially no difference between the exculpatory provisions contained in Sections 12(2) and 15.

In our opinion the plaintiffs are not limited to the remedy provided by either of these sections, but may proceed under the doctrine of respondeat superior.

We indicated as much in a somewhat analogous situation in Armstrong, Jones & Co. v. SEC, 421 F.2d 359 (6th Cir.), cert. denied, 398 U.S. 958, 90 S.Ct. 2172, 26 L.Ed.2d 543 (1970).

In SEC v. Management Dynamics, Inc., 515 F.2d 801 (2d Cir. 1975), the Court held that § 20(a) of the Securities Exchange Act To the same effect see: Fey v. Walston & Co., 493 F.2d 1036, 1051-52 (7th Cir. 1974); Lewis v. Walston & Co., 487 F.2d 617, 623-24 (5th Cir. 1973); Johns Hopkins Univ. v. Hutton, 422 F.2d 1124, 1130 (4th Cir. 1970).

of 1934, ² which also imposes liability on controlling persons, was not the sole measure of employer liability; that the controlling provisions of the Act were intended to expand, rather than to restrict, the scope of liability under the securities laws and were not intended to provide an avenue of escape from liability for those who otherwise would be responsible for the acts of their employees.

TSI relies on a decision of the Ninth Circuit which is not in accord with this position. Kamen & Co. v. Aschkar & Co., 382 F.2d 689 (9th Cir. 1967), appeal dismissed per stipulation, 393 U.S. 801, 89 S.Ct. 40, 21 L.Ed.2d 85 (1968). See also Zweig v. Hearst Corp., 521 F.2d 1129 (9th Cir. 1975); Hecht v....