Reilly Mortg. Group v. Mt. Vernon Sav. & Loan Ass'n

• Decision Date: 02 August 1983
• Docket Number: Civ. A. No. 83-0305-A.
• Court: U.S. District Court — Eastern District of Virginia
• Parties: REILLY MORTGAGE GROUP, INC., et al., Plaintiffs, v. MOUNT VERNON SAVINGS AND LOAN ASSOCIATION, et al., Defendants.

568 F. Supp. 1067

REILLY MORTGAGE GROUP, INC., et al., Plaintiffs, v. MOUNT VERNON SAVINGS AND LOAN ASSOCIATION, et al., Defendants.

Civ. A. No. 83-0305-A.

United States District Court, E.D. Virginia, Alexandria Division.

August 2, 1983.

COPYRIGHT MATERIAL OMITTED

David G. Fiske, Alexandria, Va., for plaintiffs.

Terrence Ney, Fairfax, Va., for defendants Herndon, Reed, Robertson, Badalaty, Ochsman and Van Fossan.

Michael McGettigan, Alexandria, Va., for defendant Russell.

James W. Korman, Arlington, Va., for defendant Klein.

John A.C. Keith, Fairfax, Va., for defendant Shaner.

William D. Dolan, III, Arlington, Va., for defendant Eversoll.

John J. Brennan, Washington, D.C., for defendant Mount Vernon.

MEMORANDUM OPINION

RICHARD L. WILLIAMS, District Judge.

I. FACTUAL BACKGROUND

Mount Vernon Savings and Loan Association ("Mount Vernon") is a stock savings and loan association organized pursuant to the Virginia Savings and Loan Act, Va. Code § 6.1-195.1 et seq. Its activities are regulated by the Virginia State Corporation Commission, the Federal Home Loan Bank Board, and the Federal Savings and Loan Insurance Corporation. Mount Vernon's principal place of business is Arlington, Virginia.

Reilly Mortgage Group ("Reilly") is a District of Columbia Corporation with its principal place of business in the District of Columbia. Reilly owns approximately 24% of Mount Vernon's outstanding stock. James E. and Susan H. Veccia are residents of the District of Columbia, owning about 1% of Mount Vernon's outstanding stock.

Donald M. Eversoll, a New York resident, is Chairman of Mount Vernon's Board of Directors, and owns approximately 24% of Mount Vernon's outstanding stock. Peter Klein, also a New York resident, is Vice-Chairman of the Board of Directors, and owns approximately 24% of Mount Vernon's outstanding stock. Daniel H. Shaner, a Virginia resident, is Mount Vernon's Secretary and General Counsel. James F. Russell, II, a Virginia resident, was until December 1982 Mount Vernon's President and a member of the Board of Directors. All four of these individuals were at times relevant to this lawsuit members of the Executive Committee and the Loan Committee. The Court will refer to these four individuals collectively as the "Inside Directors."

The "Outside Directors" consist of J. Earl Herndon, a Virginia resident; Helen H. Reed, a Virginia resident; Rolfe Robertson, a Virginia resident; Peter Badalaty, a Virginia resident; Robert L. Van Fossan, a Virginia resident; and Lawrence A. Ochsman, a resident of the state of Maryland. Van Fossan, Badalaty and Ochsman are no longer members of Mount Vernon's Board. On December 7, 1982, R. Daniel Lindley, James P. Evans and John C. Simpson were named to the Board of Directors. Simpson was also chosen to serve as Mount Vernon's President. Lindsey, Evans and Simpson are referred to collectively as the "Non-Defendant Directors."

On March 25, 1983, Reilly and the Veccias brought this action against Mount Vernon and the ten individuals who served on Mount Vernon's Board during 1981 and 1982. Plaintiffs assert jurisdiction on the basis of diversity of citizenship. See 28 U.S.C. § 1332.

Count I of plaintiffs' complaint is in the form of a stockholder's derivative action, brought on behalf of Mount Vernon. Count I contains several substantive allegations of wrongdoing. Count I alleges that during 1981 and 1982, Mount Vernon, acting through the Inside Directors and with the acquiescence of the Outside Directors, entered into a series of loan transactions that violated state and federal statutes and regulations. The complaint further alleges that Inside Directors knew or should have known that such loans were both illegal and imprudent, and that the Outside Directors should have known that the Inside Directors loan activity was both illegal and imprudent. The plaintiffs allege that losses due to such improper loans have cost Mount Vernon in excess of $10,000,000.00.

The plaintiffs also allege that Mount Vernon, acting through its Board, acquired 99% of the outstanding stock of the Middle Peninsula-Northern Neck Federal Savings and Loan Association. Plaintiffs contend that the acquisition was made without stockholder authorization and in direct violation of the Virginia State Corporation Commission's contingent approval, and that the acquisition cost Mount Vernon approximately $.5 million per year.

The plaintiffs further allege that defendant Russell, while President of Mount Vernon, obtained from Mount Vernon's loan portfolio certain negotiable residential mortgage notes, which he had endorsed and transferred to Partridge Associates, a Maryland limited partnership. Partridge Associates in turn gave Mortgage Investors of Washington ("MIW") a security interest in the notes, and designated Riggs National Bank of Washington as the custodian. MIW later sought to enforce its security interest. On February 24, 1983, the Superior Court of the District of Columbia declined Mount Vernon's request that Riggs be barred from transferring the notes to MIW. The plaintiffs claim that these transactions cost Mount Vernon in excess of $2,600,000.00.

In addition, the plaintiffs allege that the directors failed to establish sound lending practices; approved excessive salaries for themselves; and caused other undetermined losses. The plaintiffs contend that all of the actions alleged in Count I of the complaint were taken in violation of the directors' fiduciary duties, and seek for the corporation in excess of $30 million in compensatory and punitive damages.

Count II of the complaint represents the plaintiffs' individual action to recoup attorneys fees and other costs incurred in attempting to enforce their right to inspect Mount Vernon's books and to compel stockholders' meetings. Plaintiffs also seek a constructive dividend representing a pro rata share of the excessive salaries given Eversoll and Russell. Plaintiffs seek approximately $2 million in compensatory and punitive damages under Count II.

On May 27, 1983, Mount Vernon brought a cross-claim against defendant Russell. The cross-claim essentially duplicates the allegations in plaintiffs' complaint relating to Russell's misappropriation of negotiable instruments. Russell, in turn, brought a cross-claim against the other individual defendants, essentially seeking to pass through to them any liability on Mount Vernon's cross-claim.

Mount Vernon's cross-claim was brought on its behalf by a member of Hazel, Beckhorn & Hanes, a law partnership of which defendant Shaner is a member. However, on June 15, 1983, the Board appointed a special litigation committee to review "the appointment of counsel" in the "defense of the Reilly matter." Mount Vernon obtained new counsel to represent its interests. New counsel appeared on behalf of Mount Vernon at oral argument of the present motions before the court. In addition, counsel from Hazel, Beckhorn and Hanes has moved his withdrawal from the action, a motion the court grants.

The individual defendants present this court with several arguments for dismissal, among them the lack of sufficient diversity of citizenship between the parties to support jurisdiction and the failure of plaintiffs' complaint to satisfy the pleading requirements under Rule 23.1. In addition, defendants argue that Count II of plaintiffs' complaint should be dismissed for failure to state a claim upon which relief may be granted.

In support of their arguments on these motions, counsel have presented the court with a variety of documents and affidavits which fill out the details of the circumstances leading up to this tortured piece of litigation. Plaintiffs present a series of documents which show that beginning in October, 1981, the board of directors received repeated warnings from state and federal regulators that certain of Mount Vernon's activities constituted serious violations of federal and state regulations. These warnings advised the board of the risk of certain transactions, the directors' "responsibility for the possible grave results" (See letter from Sidney A. Bailey, Commissioner of Financial Institutions, State Corporation Commission, December 9, 1981), and of the regulators' determination that improper practices continued in violation of a permanent Federal Home Loan Bank Board Cease and Desist order (See Federal Home Loan Bank Board Report of Examination, November 26, 1982).

Plaintiffs also present affidavits that throughout this period no annual shareholders meetings were held. Plaintiffs' complaint further alleges that attempts to compel stockholders' meetings and force a stockholder's examination of corporate books were unsuccessful. Finally, plaintiffs present affidavits which show that the stockholders did not participate in the appointment of the three new, Non-Defendant Directors.

Defendants' affidavits show that the three, Non-Defendant Directors did not own stock in Mount Vernon as of July 1, 1982. Defendants affidavits also show that defendant Shaner owns 50 shares of stock in the corporation.

Both parties present the court with affidavits purporting to fill out details relating to Mount Vernon's "special litigation committee." These affidavits show that this litigation committee was not created until June 15, 1983 (See Affidavit of John C. Simpson, ¶ 4, June 30, 1983); that the initial purpose was solely to obtain counsel to "represent the association in the defense of the Reilly action and to review with the board members such additional matters as may come before it" (id.); that the committee did "not have authority to determine for the board any matter in connection with this case" (id.); and that the composition of the board has changed frequently. Compare Affidavit of John C. Simpson, ¶ 2, June 30, 1982, with Affidavit of John C. Simpson, July 14, 1983; that July 13, 1983 (after this court had heard argument on these motions, and after it had indicated its desire to hear...