Owens v. Miller

• Citation: 276 F.3d 424
• Decision Date: 18 May 2001
• Docket Number: No. 00-3720,00-3720
• Parties: (8th Cir. 2002) IN RE: KENT MILLER, IN RE: TERRY J. MCGAVERN, DEBTORS, RONALD OWENS, MARGARET OWENS, NICOLA ANGELICOLA, PASQUALINA ANGELICOLA, ERNEST WATERMAN, APPELLEES, v. KENT MILLER, TERRY J. MCGAVERN, APPELLANTS. Submitted:
• Court: United States Courts of Appeals. United States Court of Appeals (8th Circuit)

Page 424

276 F.3d 424 (8th Cir. 2002)

IN RE: KENT MILLER, IN RE: TERRY J. MCGAVERN, DEBTORS,

RONALD OWENS, MARGARET OWENS, NICOLA ANGELICOLA, PASQUALINA ANGELICOLA, ERNEST WATERMAN, APPELLEES, v. KENT MILLER, TERRY J. MCGAVERN, APPELLANTS.

No. 00-3720

UNITED STATES COURT OF APPEALS FOR THE EIGHTH CIRCUIT

Submitted: May 18, 2001

January 10, 2002

Appeal from the United States District Court for the Western District of Missouri.

Scott J. Goldstein, Kansas City, MO, for appellant.

Jon D. Cohen, Chicago, IL, for appellee.

Before Wollman, Chief Judge, Beam, Circuit Judge, and Barnes,¹ District Judge.

Wollman, Chief Judge.

Kent W. Miller and Terry J. McGavern appeal from the district court's² order affirming the finding of the bankruptcy court³ that certain debts were non-dischargeable in Chapter 7 bankruptcy proceedings. We reverse and remand.

The appellees in this case are retirees from a steel mill in Utica, New York, and their spouses. They had never engaged in any complex investing, and none has more than a high school education. Upon their retirements in the late 1980s and early 1990s, the appellees received large lump-sum distributions from the steel mill's retirement plan, and all of them desired secure, income-producing investments to supplement their retirement income. The appellees took their money to Gary Bohling, at the time a vice president and registered representative of Andover Securities, Inc. (Andover), a securities brokerage firm incorporated in Missouri and licensed by the National Association of Securities Dealers (NASD). Ignoring the appellees' stated desires, Bohling invested their funds in several speculative, high risk investments, including limited partnerships, investment trusts, and private placement offerings of debt instruments in such businesses as a catfish farm, a medical office complex, and a highly leveraged credit company. Appellants do not dispute that these investments were inappropriate for these investors. The investments ultimately failed, resulting in the loss of most of the appellees' retirement savings.

To obtain appellees' consent to these investments, Bohling was required to engage in fraudulent conduct. First, he told them that the investments were safe, even better than social security. Also, since the investments were complicated and relatively risky, Bohling had to manipulate his way around various restrictions. At least one of the investments required investors to be "accredited," that is, they must have had a net worth of more than $1 million or two years of income of more than $200,000. Because none of the appellees met these requirements, Bohling falsified their subscription documents by inflating the value of their homes and possessions and by capitalizing their potential social security income as a current asset. Further, Bohling identified the appellees' investment objectives on their investment subscription forms as "speculation." The documents prepared by Bohling contained various other internal inconsistencies.

During the time Bohling managed the appellees' investments, Miller was Chairman of the Board of Andover Securities and McGavern was President and CEO. Neither Miller nor McGavern made any fraudulent statements directly to the appellees. Miller, however, was responsible for reviewing all documents Bohling submitted for the appellees' investments. Bohling testified that McGavern first suggested that he inflate investors' assets in order to make them appear accredited. Bohling also testified that he discussed capitalizing social security with Miller and McGavern. Miller and McGavern also suggested that Bohling indicate that all his clients' goals were speculation, thus purporting to limit the company's liability if the investments failed. Over the years, Bohling's practices in these areas became more blatant. Miller testified that he "missed some inconsistencies and red flags in the documents," and McGavern admitted that "he may have conveyed the impression to his brokers that it was permissible to sell unaccredited investors 'a little bit' of the higher risk investments, regardless of the client's stated investment objectives." In January 1992, after a client filed a claim against Andover Securities based on Bohling's management of her account, Miller and McGavern sent Bohling a letter requiring him to limit his sales to lower-risk investments or ones that were preapproved by Andover. This letter also specifically identified the investment in which the appellees lost the most money as one that did not fit most clients' risk tolerances. Nevertheless, Bohling continued to sell the risky investments, and the documents he submitted to Andover plainly showed those sales. In February 1993, the Wall Street Journal published an article reporting that the SEC was alleging that 26 of Bohling's customers had used incorrect statements of their assets and had capitalized social security benefits on their investment subscription forms. Despite the various indications that Bohling was engaged in fraud, Miller and McGavern allowed him to continue in the same practices until his voluntary termination of employment in March of 1993.

In summary, the evidence before the bankruptcy court established that Bohling engaged in clear violations of the securities laws throughout the entire period in which he managed the appellees' investments and that Miller and McGavern knew or should have known about those violations but did nothing to stop him, with the result that the appellees' lost nearly all of their savings.

When Bohling subsequently filed for bankruptcy protection under Chapter 11, the appellees accepted $12,000 as an administrative priority claim and agreed not to sue Bohling for the balance of their loss in exchange for his cooperation in proceedings against Andover. The appellees then filed a statement of claim with the NASD, asserting violations of the Securities Exchange Act, breach of fiduciary duty, and common law fraud against Andover, Miller, and McGavern.

On June 20, 1997, NASD-appointed arbitrators entered an award against Andover, Miller, and McGavern, finding them jointly and severally liable to the appellees for $226,000, plus 9% interest. The arbitrators did not specify the grounds for the award, however, nor did they make explicit factual findings. The arbitration award was later confirmed by the United States District Court for the Northern District of New York. Owens v. Andover Sec., Inc., No. 97-CV-1244, 1998 WL 52058 (N.D.N.Y. Jan. 30, 1998).

Miller and McGavern filed voluntary petitions for bankruptcy relief pursuant to Chapter 7 of the Bankruptcy Code on May 8, 1998, and December 14, 1998, respectively. Both listed as dischargeable debts the amounts awarded to the appellees in the NASD arbitration. In response, the appellees filed an adversary action, contending that the debts in question were non-dischargeable under 11 U.S.C. § 523(a)(2)(A).⁴

Because the precise grounds for the NASD award were uncertain, the bankruptcy court determined that nondischargeability under the Bankruptcy Code could not necessarily be implied from the nature of the debt. The court further concluded, however, (1) that Bohling's conduct constituted fraud within the meaning of § 523(a)(2)(A); (2) that Bohling's conduct violated § 10b of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), and Rule 10b-5 promulgated thereunder;⁵ (3) that pursuant to § 20 of the Act, 15 U.S.C. § 78t(a),⁶ Miller and McGavern, as controlling persons, were jointly and severally liable for Bohling's fraud to the same extent that Bohling was liable, and (4) that Miller and McGavern were ineligible for the "good faith" exception of § 20(a) because they were negligent in their supervision of Bohling. In short, the bankruptcy court concluded that § 20(a) created an "agency-like relationship" sufficient to impute Bohling's fraud to Miller and McGavern and therefore concluded that the debt in question was non-dischargeable under § 523(a)(2)(A). Owens v. Miller, 240 B.R. 566 (Bankr. W.D. Mo. 1999).

Following the district court's affirmance of the bankruptcy court's decision, Miller and McGavern filed this appeal. Our jurisdiction is based on 28 U.S.C. § 158(a), and we sit as a second court of review in this matter, applying the same standard as the district court. Cedar Shore Resort, Inc. v. Mueller, 235 F.3d 375, 379 (8th Cir. 2000). That is, we review the bankruptcy court's factual findings for clear error and its conclusions of law de novo. Id.

We conclude that the bankruptcy court erred by imputing Bohling's fraud to Miller and McGavern by way of § 20(a).

The United States Court of Appeals for the Eleventh Circuit recently addressed the same question confronting us in this case. Hoffend v. Villa, 261 F.3d 1148 (11th Cir. 2001). The Hoffend court considered the bankruptcy court's reasoning in this case, and rejected it. Id. at 1154. Although we are not bound by the Hoffend court's decision, "we adhere to the policy that a sister circuit's reasoned decision deserves great weight and precedential value. As an appellate court, we strive to maintain uniformity in the law among the circuits, wherever reasoned analysis will allow, thus avoiding unnecessary burdens on the Supreme Court docket." United States v. Auginash, 266 F.3d 781, 784 (8th Cir. 2001) (quoting Aldens, Inc. v. Miller, 610 F.2d 538, 541 (8th Cir. 1979).

The United States Supreme Court has recognized that a debt may be non-dischargeable when the debtor personally commits fraud or when actual fraud is imputed to the debtor under agency principles. Strang v. Bradner, 114 U.S. 555, 561 (1885). Strang specifically relied on the common law of agency and partnership to impute the fraud of an innocent debtor's business partner to that debtor and so render his debt non-dischargeable. Id. The bankruptcy court determined that, like common law agency principles, § 20(a) of the Securities Exchange Act of 1934 renders an...