Konstantinakos v. Federal Deposit Ins. Corp., Civ. A. No. 88-2144-T.

• Decision Date: 08 August 1989
• Docket Number: Civ. A. No. 88-2144-T.
• Citation: 719 F. Supp. 35
• Parties: William KONSTANTINAKOS, Plaintiff, v. FEDERAL DEPOSIT INSURANCE CORPORATION, C. William Wester, Robert F. Fredo, Jr., Donald J. Anderson, Thomas F. Bagley, Walter E. Bennett, Robert B. Bowen, Gerald J. Crowley, Ernest N. Daulton, Jr., Robert E. Fitzgerald, Donald G. Hicks, Thomas J. Judy, Robert C. Keogh, Ralph Lolli, Jr., Gerard R. Martel, J. Parker Rice, Jr., Lester H. Rome, Eugene L. Sorbo, Anthony F.S. Whitton, Individually and as Directors and Officers of First Service Bank for Savings, Robert P. George, Charles W. Morgan, individually and as Trustees of The 200 Woodbury Realty Trust, and as Grantors of The WHFS Realty Trust, Defendants.
• Court: U.S. District Court — District of Massachusetts

719 F. Supp. 35

William KONSTANTINAKOS, Plaintiff, v. FEDERAL DEPOSIT INSURANCE CORPORATION, C. William Wester, Robert F. Fredo, Jr., Donald J. Anderson, Thomas F. Bagley, Walter E. Bennett, Robert B. Bowen, Gerald J. Crowley, Ernest N. Daulton, Jr., Robert E. Fitzgerald, Donald G. Hicks, Thomas J. Judy, Robert C. Keogh, Ralph Lolli, Jr., Gerard R. Martel, J. Parker Rice, Jr., Lester H. Rome, Eugene L. Sorbo, Anthony F.S. Whitton, Individually and as Directors and Officers of First Service Bank for Savings, Robert P. George, Charles W. Morgan, individually and as Trustees of The 200 Woodbury Realty Trust, and as Grantors of The WHFS Realty Trust, Defendants.

Civ. A. No. 88-2144-T.

United States District Court, D. Massachusetts.

August 8, 1989.

Reginald L. Marden, P.C., Andover, Mass., for plaintiff.

William J. Patton, Robert J. Stillman, David Martland, Ropes & Gray, Boston, Mass., for Federal Deposit Ins. Corp.

John H. Henn, Brandon F. White, Foley, Hoag & Eliot, Boston, Mass., for First Service Bank for Savings.

Thomas E. Dwyer, Jr., Jody L. Newman, William Kettlewel, Dwyer & Collora, Boston, Mass., for Robert F. Fredo, Jr.

Evan Slavit, Fine & Ambrogne, Boston, Mass., for William H. Wester.

MEMORANDUM

TAURO, District Judge.

This lawsuit is the second in a series of cases filed in this court following the discovery by federal and state banking authorities of financial irregularities at the First Service Bank for Savings.¹ Plaintiff is a shareholder who purchased the bank's stock sometime during 1987. The defendants fit into five categories: 1) the Federal Deposit Insurance Corporation;² 2) C. William Wester, the bank's former President, Chief Executive Officer and Chairman of the bank's board of directors; 3) Robert F. Fredo, Jr., the bank's former Senior Vice President and Senior Lending Officer; 4) Robert P. George and Charles W. Morgan, business associates of Wester and Fredo and customers of the bank; and 5) members of the bank's board of directors.

The complaint alleges that several of the bank's public statements and periodic reports to shareholders and the FDIC contained material misrepresentations and failed to disclose numerous bad lending practices and poor quality loans. Count I charges the defendants with violation of § 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b) and Rule 10b-5, 17 C.F.R. § 240.10b-5. Count II alleges that the FDIC, Wester, Fredo and the directors violated the Racketeer Influenced and Corrupt Organizations Act ("RICO"), 18 U.S.C. § 1962(a)-(c), and that George and Morgan conspired to violate RICO, 18 U.S.C. § 1962(d). Counts III-VII allege various state law claims against several of the defendants.³ Count VIII alleges that Wester, Fredo and the board of directors violated 12 C.F.R. § 215.4(b)(1) by extending excessive credit to Wester and Fredo without prior approval by the board of directors. All the defendants have filed motions to dismiss. Plaintiff's federal claims are addressed seriatim.

I.

Defendants contend that plaintiff lacks standing to bring his securities claim. Alternatively, defendants argue that the complaint fails to plead the alleged securities fraud with particularity.

A. The "in connection with" requirement

Section 10(b) of the 1934 Securities Exchange Act makes it unlawful for "any person to use or employ, in connection with the purchase or sale of any security, ... any manipulative or deceptive device" that violates SEC rules. 15 U.S.C. § 78j(b). Rule 10b-5 gives meaning to this prohibition. It makes it illegal "for any person ... to make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made ... not misleading ... in connection with the purchase or sale of any security." 17 C.F.R. § 240.10b-5.

For a misrepresentation or omission to be actionable under § 10(b) and Rule 10b-5, the challenged statement must have been made "in connection with the purchase or sale of ... a security." 15 U.S.C. § 78j(b); 17 C.F.R. § 240.10b-6. The Supreme Court has interpreted the "in connection with" language to require an actual purchase or sale of a security that is connected with a challenged statement. See Blue Chip Stamps v. Manor Drug Store, 421 U.S. 723, 737-38, 95 S.Ct. 1917, 1926-27, 44 L.Ed.2d 539 (1975). Where a misrepresentation or omission causes a person to retain shares previously purchased, rather than purchase new shares or sell already owned ones, the shareholder does not have standing to bring a 10b-5 claim. Id.

Plaintiff alleges that he bought stock "over the course of 1987." Complaint ¶ 1. More particularly, it appears that plaintiff purchased his shares at various unspecified dates between June 1987 and December 1987. See id. at ¶¶ 1 and 50.⁴ Notwithstanding these dates, the complaint references statements issued by the bank throughout 1988. See id. at ¶¶ 54, 56 and 59-63. Clearly, none of the 1988 statements are actionable by this plaintiff. There is no way that the 1988 statements can be said to have been made "in connection with the purchase or sale of ... a security" in 1987. 17 C.F.R. § 240.10b-5. See also Blue Chip Stamps, 421 U.S. at 737-38, 95 S.Ct. at 1926.

The remaining statements that plaintiff challenges were made in September and October of 1987. See Complaint ¶¶ 57-58. The complaint's allegation that plaintiff bought shares at several unspecified dates between June and December of 1987 is insufficient to satisfy the "in connection with requirement," because neither the court nor the defendants have any way of knowing whether the purchases had ceased prior to release of the bank's statements.

B. Pleading Fraud with Particularity

The Federal Rules of Civil Procedure require "the circumstances constituting fraud ... to be stated with particularity." Fed.R.Civ.P. 9(b). To satisfy the rule, a pleading must "specify ... the time, place and content of ... each alleged false representation." McGinty v. Beranger Volkswagen, Inc., 633 F.2d 226, 229 (1st Cir. 1980). The purpose of the rule is to give notice of plaintiff's claim of fraud and to inform each individual defendant of what role he is alleged to have played in the fraud. Id. See also Margaret Hall Foundation v. Atlantic Financial Management, Inc., 572 F.Supp. 1475, 1481 (D.Mass.1983) (Tauro, J.) (fraud complaint must notify each defendant of what he is alleged to have done). The rule is especially important in securities fraud cases where the strike suit value of a complaint is high. See Wayne Investment, Inc. v. Gulf Oil Co., 739 F.2d 11, 13-14 (1st Cir. 1984). See also Blue Chip Stamps v. Manor Drug Store, 421 U.S. 723, 741, 95 S.Ct. 1917, 1928, 44 L.Ed.2d 539 (1975) (referring to the "in terrorem" effect of a securities fraud allegation on settlement).

As already noted, the complaint does not adequately identify which of the allegedly misleading statements were made "in connection with the purchase or sale of ... a security." 17 C.F.R. § 240.10b-5. The defendants, therefore, do not know which statements they must prepare to defend themselves against, and which statements were included in the complaint as background or surplusage.

Perhaps even more significantly, the complaint does not explain what was misleading about any of the challenged statements.⁵ The complaint catalogues several lending transactions, and alleges that they should have been disclosed. But Rule 10b-5 does not require disclosure of every fact of corporate existence. The rule only requires disclosure of "material facts that are necessary to make the statements made, in light of the circumstances under which they were made, not misleading." 17 C.F.R. § 240.10b-5. Nowhere does the complaint explain how the failure to disclose the requested information made the challenged statements misleading.⁶ Without including that information in the complaint, there can be no liability under Rule 10b-5.⁷

In addition to failing to particularize the details of plaintiff's securities fraud claim, the complaint provides no details to any of the individual defendants, with the exception of Wester, as to what role they are alleged to have played in the fraud. See Margaret Hall Foundation, 572 F.Supp. at 1481 (each defendants' role in the fraud must be particularized). Only the FDIC, standing in the shoes of the bank, and Wester, as the bank's president, are alleged to have participated in making the challenged statements.⁸ Accordingly, the other defendants appear to have been sued because of their status as officers, directors and customers of the bank rather than for any direct participation in making the false or misleading statements. The status of Fredo, the bank's board of directors and Morgan and George, respectively as officers, directors and customers of the bank is insufficient to support plaintiff's securities fraud claim. See Decker v. Massey-Ferguson, Ltd., 681 F.2d 111, 119-20 (2d Cir.1982).

II.

Count II alleges that all the defendants violated the Racketeer Influenced and Corrupt Organizations Act ("RICO"), 18 U.S.C. § 1962. The complaint does little more than track the statutory language. Indeed, it is difficult to determine which of the defendants is charged with a substantive RICO violation and which of the defendants are charged with conspiring to violate RICO. It appears that the FDIC, Wester, Fredo and the board of directors are charged with substantive violations of 18 U.S.C. § 1962(b)-(c)⁹ while Morgan and George are charged only with a conspiracy to violate RICO, 18 U.S.C. § 1962(d). See Complaint ¶¶ 84, 86 and 88.

All RICO violations require the existence of an enterprise that is involved in interstate or foreign commerce. 18 U.S.C. § 1962. And that enterprise must be affected in some prohibited way by a pattern of racketeering activity. Id. To constitute a pattern of racketeering activity, there must be two or more acts of racketeering within a specific period of time. 18 U.S.C. § 1961. Section 1961(1)...