Phillips v. Kidder, Peabody & Co.

• Decision Date: 24 July 1990
• Docket Number: No. 87 Civ. 4936 (SWK).,87 Civ. 4936 (SWK).
• Citation: 750 F. Supp. 603
• Parties: Robert D. PHILLIPS, individually and on behalf of other shareholders of Computer Depot, Inc., similarly situated, Plaintiff, v. KIDDER, PEABODY & CO., Defendant.
• Court: U.S. District Court — Southern District of New York

750 F. Supp. 603

Robert D. PHILLIPS, individually and on behalf of other shareholders of Computer Depot, Inc., similarly situated, Plaintiff, v. KIDDER, PEABODY & CO., Defendant.

No. 87 Civ. 4936 (SWK).

United States District Court, S.D. New York.

July 24, 1990.

Schoengold and Sporn, P.C. by Samuel P. Sporn, New York City, for plaintiff.

Howard, Darby and Levin by C. William Phillips, New York City, for defendant.

MEMORANDUM OPINION AND ORDER

KRAM, District Judge.

This purported class action arises out of the issuance of stock and the subsequent Chapter 11 bankruptcy petition by Computer Depot, Inc. ("CDI"). Robert D. Phillips, the named plaintiff, claims that the activities of defendant Kidder, Peabody & Co. ("Kidder") and a defendant class of underwriters for CDI stock, relating to the initial offering and subsequent sales of that stock, violated sections 11 and 12 of the Securities Act of 1933, section 10(b) of the Securities Exchange Act of 1934 and Securities Exchange Commission Rule 10b-5. Phillips further alleges common law fraud by Kidder and the defendant class in connection with the issuance and sale of CDI stock. Jurisdiction is founded on 28 U.S.C. § 1331, 15 U.S.C. § 77v, 15 U.S.C. § 78aa and principles of pendent jurisdiction. This case is now before the Court on Kidder's motion for dismissal pursuant to Fed.R. Civ.P. 12(c) or in the alternative, Fed.R. Civ.P. 56. Kidder claims that Phillips' suit is barred by res judicata, and that his Complaint, as to the common law fraud and Rule 10b-5 counts, is insufficiently specific to meet the pleading requirements of Fed. R.Civ.P. 9(b).

BACKGROUND

CDI is a now-defunct corporation which operated a chain of retail personal computer outlets. In 1984 CDI made a public offering of stock, for which defendant acted as underwriter. Plaintiff claims that the registration statement and prospectus prepared in connection with the 1984 stock offering contained material misrepresentations of fact as to the retail market in personal computers. Plaintiff alleges that the prospectus painted an overly optimistic picture of CDI's future, when in fact defendant knew or should have known of a "softening in the personal computer market" at the time the prospectus was prepared. Complaint ¶¶ 17, 18, 27. Plaintiff alleges that he purchased CDI stock in reliance on the prospectus, and suffered remediable injury when CDI went bankrupt as the result of the undisclosed "softening" of the personal computer market. Complaint ¶¶ 40, 41.

On June 20, 1986, another CDI shareholder, Ronald Kassover, filed a purported class action suit ("the Kassover litigation") in the United States District Court for the District of Minnesota against Kidder, the defendant here, CDI, its corporate officers, and Dain Bosworth, Inc. The theories of recovery against all defendants in the Kassover litigation were similar to those asserted against Kidder by plaintiff here. Kassover alleged violations of sections 11 and 12(2) of the Securities Act of 1933 (15 U.S.C. §§ 77k, 77l(2)) by all defendants. Kassover further alleged violation of section 10(b) of the Securities Exchange Act of 1934 (15 U.S.C. § 78j(b)) and common law fraud by CDI and the corporate officer defendants. Kassover v. Computer Depot, Inc., 691 F.Supp. 1205, 1209 (D.Minn.1987), aff'd, 902 F.2d 1571 (8th Cir.1990).

Phillips learned of the pendency of the Kassover litigation when he received information concerning CDI's chapter 11 reorganization plan. He then contacted Kassover, and subsequently retained Samuel Sporn, Esq. ("Sporn"), also then serving as counsel in the Kassover litigation. C. William Phillips affidavit, exhibit B, at 2. Phillips then sought to intervene as a plaintiff in the Kassover litigation pursuant to Fed. R.Civ.P. 24(b). At approximately the same time, Kidder moved for summary judgment on the allegations made against it by Kassover. Kassover moved for an order permitting Phillips' intervention in that action and continuing all pending motions for 45 days.

Chief Judge Alsop of the Minnesota District Court denied Kassover's motion for Phillips' intervention and a 45-day continuance as a "transparent attempt" to prevent the imminent success of Kidder's summary judgment motion, and to "shore up a crumbling lawsuit." Kassover, supra, 691 F.Supp. at 1210. Kidder's motion for summary judgment was granted on statute of limitations grounds. Under section 13 of the Securities Act of 1933, no suit may be maintained if the plaintiff had or through reasonable diligence should have had notice of the alleged fraud more than one year prior to instituting the lawsuit. The Minnesota court noted that ordinarily, reasonable diligence is a matter for jury determination. The court found, however, that as a matter of law Kassover had, or through reasonable diligence could have had, knowledge of the "softening" of the retail personal computer market more than one year prior to the institution of that lawsuit. Id. at 1211. The court found that CDI was under no duty to disclose the possibility of a bankruptcy resulting from its planned expansion because that potential outcome was overly speculative. Kidder's failure to include warnings to that effect in its prospectus and registration statement therefore did not give rise to an action under the Securities Act of 1933. Id. at 1212. Because the court found that Kassover had constructive notice of the "softening" in the retail computer market at least as early as June, 1985, he was barred by the statute of limitations from bringing a claim under the Securities Act of 1933 arising from misrepresentations to that effect. Since Kassover had no action under the Securities Act of 1933, the Minnesota court found that he was no longer an appropriate class representative with respect to his claims under the Securities Act of 1933. Thus, the court declined to certify the plaintiff class with respect to the claims against Kidder. Id.

Kassover appealed Judge Alsop's April 27, 1987 order to the Eighth Circuit. During the pendency of that appeal, the instant litigation was instituted by Phillips against Kidder. Judge Edelstein denied Kidder's motion for transfer to the District of Minnesota, and for an undertaking pursuant to section 11(a) of the Securities Act of 1933. After the Eighth Circuit affirmed the April 27, 1987 order, Kassover moved for dismissal without prejudice of his claims against CDI and its directors.¹

On April 3, 1990, Chief Judge Alsop ordered dismissal of Kassover's claims against Kidder with prejudice, and dismissal of his claims against the other defendants in that action without prejudice.

Defendant now moves for dismissal of this action, arguing that the order of dismissal with prejudice as to Kidder entered in the Kassover litigation should operate as a bar to the instant litigation. In the alternative, defendant argues that plaintiff has failed to plead fraud with the particularity required by Fed.R.Civ.P. 9(b).

DISCUSSION

1. Claim Preclusion

Claim preclusion bars subsequent litigation on a cause of action where a valid and final judgment as to that cause of action has been rendered in prior litigation between the same parties or their privies. Montana v. United States, 440 U.S. 147, 153, 99 S.Ct. 970, 973, 59 L.Ed.2d 210 (1979); Tucker v. Arthur Andersen & Co., 646 F.2d 721, 726-27 (2d Cir.1981). Where the elements of claim preclusion are established, subsequent litigation on any theory of recovery or defense arising from the cause of action which was the subject of the prior action is barred, whether or not it was actually litigated in that action. Tucker, supra, 646 F.2d at 721; Index Fund, Inc. v. Hagopian, 677 F.Supp. 710, 715 (S.D.N.Y.1987). The doctrine of claim preclusion conserves judicial resources and protects defendants from burdensome and vexatious litigation. Montana, supra, 440 U.S. at 153, 99 S.Ct. at 973.

In general, there must be both an identity of parties and an identity of claims between the prior and subsequent litigation before the operation of claim preclusion is triggered. Expert Electric, Inc. v. Levine, 554 F.2d 1227, 1233 (2d Cir.), cert. denied, 434 U.S. 903, 98 S.Ct. 300, 54 L.Ed.2d 190 (1977) (citations omitted). However, the first element, "identity of parties," is construed somewhat less than literally. Several Circuits have followed the lead of the Fifth Circuit in recognizing a doctrine of "virtual representation." Under this principle, if the interests of a nonparty are virtually represented in litigation, the non-party may be precluded from subsequent litigation. Aerojet-General Corp. v. Askew, 511 F.2d 710, 719 (5th Cir.) (citing Chicago, R.I. & P. Ry. Co. v. Schendel, 270 U.S. 611, 618, 46 S.Ct. 420, 70 L.Ed. 757 (1926) (other citations omitted)), cert. denied, 423 U.S. 908, 96 S.Ct. 210, 46 L.Ed.2d 137 (1975); 18 Wright, Miller & Cooper, Federal Practice and Procedure: Jurisdiction § 4457 (1981 & Supp.1990). The Due Process clause limits this doctrine, permitting a judgment to bind a non-party only if his relationship to a party is "sufficiently close." Southwestern Airlines Co. v. Texas Int'l. Airlines, 546 F.2d 84, 95 (5th Cir.1977) (quoting Vestal, Preclusion/Res Judicata Variables: Parties, 50 Iowa L.Rev. 27 (1964)).

The Second Circuit approaches the adequate representation problem through the concept of privity. Traditionally, claim preclusion has barred subsequent litigation on a cause of action both by parties and their privies. However, in this context, the Second Circuit has rejected the argument that literal privity is required in order to obtain preclusive effect. Alpert's Newspaper Delivery v. New York Times, 876 F.2d 266, 270 (2d Cir.1989); Amalgamated Sugar v. NL Industries, 825 F.2d 634, 640 (2d Cir.), cert. denied, 484 U.S. 992, 108 S.Ct. 511, 98 L.Ed.2d 511 (1987) (citation omitted). Rather, privity is to be interpreted more flexibly than at common law. Alpert's Newspaper, supra, 876 F.2d at 270.

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