Occidental Life Ins. Co. v. Pat Ryan & Assoc.

• Decision Date: 08 May 1974
• Docket Number: No. 73-2227,73-2228.,73-2227
• Citation: 496 F.2d 1255
• Parties: OCCIDENTAL LIFE INSURANCE COMPANY OF NORTH CAROLINA, Appellee, v. PAT RYAN & ASSOCIATES, INC., Appellant. OCCIDENTAL LIFE INSURANCE COMPANY OF NORTH CAROLINA, Appellant, v. PAT RYAN & ASSOCIATES, INC., Appellee.
• Court: U.S. Court of Appeals — Fourth Circuit

496 F.2d 1255 (1974)

OCCIDENTAL LIFE INSURANCE COMPANY OF NORTH CAROLINA, Appellee, v. PAT RYAN & ASSOCIATES, INC., Appellant.

OCCIDENTAL LIFE INSURANCE COMPANY OF NORTH CAROLINA, Appellant, v. PAT RYAN & ASSOCIATES, INC., Appellee.

Nos. 73-2227, 73-2228.

United States Court of Appeals, Fourth Circuit.

Argued March 5, 1974.

Decided May 8, 1974.

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Richard M. Phillips, Alan J. Berkeley, Gilbert C. Miller, and Gregory T. Diaz, Washington, D.C. (Hill, Christopher & Phillips, P. C., Washington, D.C., George R. Ragsdale, Ragsdale & Liggett, Raleigh, N.C., on briefs), for Occidental Life Ins. Co. of North Carolina.

Reuben L. Hedlund, Garrett B. Johnson, Thomas J. O'Brien, Chicago, Ill., J. Melville Broughton, Jr., and Charles P. Wilkins, Raleigh, N.C. (Kirkland & Ellis, O'Brien & Ruken, Chicago, Ill., Broughton, Broughton, McConnell & Boxley, P. A., Raleigh, N.C., on briefs), for Pat Ryan & Associates, Inc.

Before CRAVEN and WIDENER, Circuit Judges, and WARD^*, District Judge.

HIRAM H. WARD, District Judge.

This is a timely appeal by Occidental Life Insurance Company of North Carolina (Occidental) and cross appeal by Pat Ryan Associates, Inc. (Associates) from judgment of the district court rendered after the second trial to a jury of this matter.

The particular controversy here concerns the sale of stock to Associates by Occidental. The sale involved all of the outstanding shares of Virginia Surety Company, Inc. (Virginia Surety). Until right before the sale to Associates, Virginia Surety was owned by Occidental Fire and Casualty Company (Occidental Fire). Occidental Fire is a wholly-owned subsidiary of Occidental. Both Occidental Fire and Virginia Surety were primarily engaged in insuring long-haul trucking liability. Virginia Surety held licenses to write this insurance in forty-nine states and the District of Columbia. In the early part of 1969, it was decided to sell Virginia Surety without its agency plant and portfolio of insurance business. Virginia Surety was to be prepared so that it would have no liabilities and only have assets consisting of its charter, state licenses, and bonds on deposit with the insurance commissioners in the various states. The decision to sell was ostensibly made because Occidental Fire had by then acquired licenses in most of the states where Virginia Surety also had licenses.

Associates' interest in Virginia Surety arose because it wanted to move into other states. Since Associates was primarily engaged in writing credit life, health, accident and disability insurance in a limited number of states, it would have to amend Virginia Surety's licenses in order to use that company's licenses to expand its business to other states. Nevertheless, Associates evidently felt that it could more readily move into other states if it only needed to amend the existing licenses of Virginia Surety, than if it had to secure approval of the insurance commissioners by making an initial application.

On September 18, 1969, Virginia Surety was sold to Occidental, and in turn, on October 22, 1969, Occidental and Associates agreed to sales terms. Associates was to pay Occidental $1,527,000 in cash and three annual payments of $250,000 in the form of reinsurance premiums which Associates would place with Occidental, and which Occidental would immediately reinsure with other companies designated by Associates. The sale price was actually higher than Occidental was asking. The reason for this was because Associates proposed to use the reinsurance plan in order to reduce the amount of cash it would have to pay. "Since Ryan Associates was already producing this business for others in states where it was not licensed, it would cost Associates nothing more to produce this business for Occidental instead, since its expenses would remain the same." (Associates Brief, p. 16). If the reinsurance provisions were not performed, Associates was to make the payments in cash. Later, Associates also agreed to make an additional payment of $20,000 in premium income to cover finders' fees incurred by Occidental. The closing took place on October 30, 1969.

Associates failed to provide Occidental with the reinsurance payments, and Occidental filed a breach of contract action in state court. The action was removed to federal court, where Associates answered and counterclaimed for breach of warranty and fraud. Nearly two years thereafter, and only ten days before the date set for the first trial, Associates moved to amend its counterclaim in order to assert violations of federal securities laws, and included a request for rescission.¹ The district court granted the motion at the conclusion of the evidence, but denied the request for rescission.

In regard to its counterclaim, Associates alleged that before it purchased Virginia Surety the National Association of Insurance Commissioners made an examination of Virginia Surety which showed that the capital of the company was substantially impaired. In September and early October of 1969, Occidental Fire made a contribution to make up the deficit. On October 27, 1969, Virginia Surety accepted the report of the examiners which showed that as of December 31, 1968, Virginia Surety's capital was impaired to the extent of $2,942.04 and that Occidental Fire had made a voluntary contribution to the surplus of the company. Associates claims that misrepresentations and nondisclosure of these facts caused it damage in that after the sale, the State of Connecticut revoked Virginia Surety's license based, at least in part, on the triannual examination report. In February, 1970, the State of Maryland followed Connecticut's lead and also revoked Virginia Surety's license, although it later converted the action to a suspension.

Associates also presented evidence of other misrepresentations or nondisclosures which purportedly affected the value and usefulness of Virginia Surety. In June of 1969 the Insurance Commissioner of North Carolina learned that Virginia Surety might be sold. He renewed the license with the understanding that if the company were sold, the new owner would have to requalify. In December 1969, Associates also learned that Virginia Surety had agreed, in October 1969, not to write any new or old renewal insurance in California or Michigan. The two states procured this consent as a condition in order that Occidental Fire could qualify in those states. Thereafter, Associates had to borrow $500,000 to be used to increase the capitalization of Virginia Surety before the two states let that company write insurance.

In both the first and second trials the district court granted Occidental's motion for a directed verdict on its breach of contract claim in the amount of $770,000. It also denied Associates' claim of rescission. In both trials, the jury found that Occidental had violated the securities laws and in the first trial awarded damages in the amount of $797,000. The district court set that verdict aside as being grossly contrary to the weight of the evidence and shocking to the conscience of the court. It directed a new trial on all issues. At the second trial, the jury returned a verdict for Associates in the amount of $370,000.

Occidental challenges the district court's refusal to direct a verdict in its favor in regard to Associates' counterclaim, and the admission of evidence on the damage issue. Associates asks us to reinstate the first jury verdict and contests the instructions on damages in the second trial. Associates also attacks the directed verdict in favor of Occidental on its breach of contract claim, the district court's denial of rescission, and the award of interest.

I. THE SALE OF VIRGINIA SURETY CONSTITUTED A SALE OF A "SECURITY" WITHIN THE PROVISIONS OF THE SECURITIES EXCHANGE ACT OF 1934

Occidental contends that the district court erred in holding that the sale of the stock of Virginia Surety constituted a sale of a "security" as that word is used in Section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b),² and defined in Section 3(a)(10) of the Exchange Act, 15 U.S.C. § 78c(a) (10). It does concede that the sale included an instrument literally covered in Section 3(a) (10), which states: "The term `security' means any note, stock, treasury stock, bond, ...." It claims that Section 10(b) has the purpose of protecting investors, and thus it is not sufficient to merely show a sale of an instrument literally covered by Section 3(a) (10). Instead, it is said that the transaction must contain some investment element before a sale falls within the purview of Section 10(b). With respect to the sale of Virginia Surety, Occidental contends that it sold a corporate shell including the corporate charter and licenses and deposits in the various states. It says that this alleged sale of business assets does not and should not be the subject of federal securities regulation.

The fact that the instruments used in this transaction involve stock and thus come within the literal definition of a "security" creates a strong presumption that the transaction is covered by Section 10(b). It is not necessary for purposes of Section 10(b) that every instrument used in a sale transaction meet the definition of an "investment contract" as Occidental seems to contend. As stated in Tcherepnin v. Knight, 389 U.S. 332, 339, 88 S.Ct. 548, 554, 19 L.Ed.2d 564, 571 (1967):

Clearly, then, the petitioners\' withdrawable capital shares have the essential attributes of investment contracts as that term is used in § 3(a) (10) and as it was defined in Howey. But we need not rest our decision on that conclusion alone. "Instruments may be included within any of the Act\'s definitions, as matter of law, if on their face they answer to the name or description." S.E. C. v. C. M. Joiner Corp., supra, 320 U.S. 344, at 351 64 S.Ct. 120, at 123, 88 L.Ed. 88 at 93. The petitioners\' shares fit

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