Sargent v. Genesco, Inc.

• Decision Date: 30 May 1974
• Docket Number: No. 72-3055.,72-3055.
• Citation: 492 F.2d 750
• Parties: Richard J. SARGENT, et al., Plaintiffs-Appellants, v. GENESCO, INC., et al., Defendants-Appellees.
• Court: U.S. Court of Appeals — Fifth Circuit

492 F.2d 750 (1974)

Richard J. SARGENT, et al., Plaintiffs-Appellants, v. GENESCO, INC., et al., Defendants-Appellees.

No. 72-3055.

United States Court of Appeals, Fifth Circuit.

April 11, 1974.

Rehearing Denied May 9, 30, 1974.

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R. Alan Stotsenburg, New York City, Guy B. Bailey, Jr., John P. A. Bell, Miami, Fla., for plaintiffs-appellants.

Charles F. Clark, Ted R. Manry, III of Macfarlane, Ferguson, Allison & Kelly, Tampa,Fla., for Goodbody & Co., Merrill Lynch, Pierce, Fenner & Smith, Inc., Walston & Co., Inc., Ladd Dinkins & Co., First Alabama Securities, Inc., Kohlmeyer & Co., McCarley & Co., Inc., Powell Kistler & Co., Powell, Kistler & Crawford, Roberts Scott & Co.

Leonard W. Cooperman, St. Petersburg, Fla., for Leeds Shoes, Inc.

A. Dallas Albritton, Jr., Tampa, Fla., William A. Richter, St. Louis, Mo., for A. G. Edwards & Sons, Inc.

David A. Maney, Tampa. Fla., for Jack Chapman, Julian Lemus, Stuart S. Golding and Roy Cotarelo.

William T. Keen, Tampa, Fla., for Wachovia Bank & Trust.

John T. Allen, Jr., St. Petersburg, Fla., William V. Gruman, Tampa, Fla., for Ralph A. Buchman and Partnership of Buchman, Endsley & McCormick.

Theodore C. Taub, Tampa, Fla., for Richard Lieb.

Donovan Leisure Newton & Irvine (Sanford M. Litvack, of counsel), New York City, and Carlton, Fields, Ward, Emmanuel, Smith & Cutler, P.A. (Wm. Reece Smith and James W. Ault, of counsel), Tampa, Fla., for Genesco, Inc., Genesco Financial Corp., Ernest B. Holt, Richard E. Horch and William B. Curran.

Daniel N. Burton, Tampa, Fla., for William Burton and Earl Brown.

Douglas J. Loeffler, Fox, Burton, George & Loeffler, Clearwater, Fla., for Clayton D. Burton.

Trennam, Simmons, Kenker, Scharf & Barkin, Tampa, Fla. (Marvin E. Barkin, Tampa, Fla., of counsel), for William H Martin.

Before THORNBERRY, DYER and CLARK, Circuit Judges.

CLARK, Circuit Judge:

The right to maintain a private action for damages under sections 10(b), 14(a) and 14(e) of the Securities Exchange Act of 1934 (Exchange Act),¹ is the most important issue raised by this appeal from a final judgment dismissing on the pleadings all plaintiffs' claims for damages against all defendants save one.² The propriety of the district court's denial of preliminary injunctive relief must also be considered. We affirm in part and reverse in part.

As is normal to appeals at the pleading stage, the factual background is skeletal, and the principal source of the following recital is taken from the record developed in connection with the motion for injunctive relief. Leeds Shoes, Inc. (Leeds) is a Florida corporation engaged in the retail sale of shoes and related items, which has its principal office in Tampa. Leeds is the corporate successor to a partnership created by Frank Garcia and another individual. From Leeds' inception until December 1967, Garcia apparently was its driving force as president of the company, major common stockholder, and a member of the Board of Directors. Leeds became publicly owned in 1963, although Garcia continued to hold approximately 26% of the outstanding common stock through at least August 1967. At the fiscal year end April 30, 1967, Leeds' financial prospects on paper appeared optimistic. In August 1967, ostensibly to provide more working capital, Leeds issued and sold to the public 1.5 million dollars in convertible 6% subordinated debentures due August 1, 1987. This offering was registered under the Securities Act of 1933 and pursuant to that Act a registration statement and prospectus were filed with the Securities Exchange Commission (SEC). Later in 1967 it became apparent that the glamour of Leeds' financial reports was cosmetic. Leeds' audited financial statements for the fiscal years ended April 30, 1966 and 1967 contained overstatements of such items as cash, inventories, fixed assets, total assets, retained earnings, and earnings per common share. These overstatements were repeated in the prospectus published for the August 1967 registered sale of debentures. Additionally, Leeds' annual reports to shareholders, SEC filings and press releases apparently contained misstatements. On December 12, 1967 the SEC suspended trading in Leeds' securities pending clarification of Leeds' financial condition. Subsequently, Garcia pleaded guilty to an indictment charging him with wilful misstatements in the debenture prospectus and resigned his positions as officer and director of Leeds, and two individual members of the accounting firm serving as Leeds' auditors pleaded guilty to wilful obstruction of justice and of an SEC investigation by burning important records and ledgers relevant to the company's financial condition for the five year period ending April 30, 1967.

After it became apparent that the August 1967 debenture prospectus contained substantial material misstatements of Leeds' financial condition, Leeds' management, the underwriters who participated in the debenture offering, Genesco (Leeds' principal supplier of shoes and only preferred shareholder), and Prudential Insurance Company of America (the major creditor of Leeds³) agreed upon a "refinancing plan".⁴ In summary, this plan involved the following steps: (1) an increase in the conversion value of the debentures by Leeds;⁵ (2) an agreement to purchase more preferred shares by Genesco; (3) a two year moratorium on annual principal payments for its outstanding loan and a commitment to loan more money by Prudential; (4) a commitment by the underwriters to purchase any of the outstanding debentures which were tendered and convert them to common stock at the reduced conversion rate; (5) the release, waiver, and assignment by selling debenture holders of all claims against Leeds and its directors and officers other than Garcia; and (6) a purchase of an amount of authorized but unissued Leeds' common stock by A. G. Edwards & Sons, Inc., one of the underwriters. The plan obligations of Genesco, Prudential, A. G. Edwards and the other underwriters were contingent upon acceptance of the plan (by sale or conversion) of 80% of the debenture holders. Debenture conversion was to be into authorized but unissued Leeds' common shares at the increased rate. Conversion did not release, waive or assign any claim, but debenture holders were warned that such conversion could have adverse effects on any claims they had.

On September 18, 1968 a letter was mailed to Leeds' shareholders and debenture holders briefly explaining the catastrophic events which had befallen the company, outlining its financial condition and summarizing the terms of the refinancing plan. The letter also stated that, if full effectuation of the plan occurred, the book value of Leeds' common stock would ultimately be increased — the company would obtain needed working capital; and it would be helped in avoiding potential defaults on its existing indebtedness. The tenor of the letter is informational, and it does not expressly call for the common shareholders to vote on the plan. Although the letter mentions that certain of Leeds' SEC filings and the debenture prospectus appear to be "inaccurate," it does not specifically describe any potential liabilities incurred as a result of the debenture offering.⁶ At the date of the letter's mailing, the 1968 annual stockholders meeting, required by Leeds' bylaws to be held on September 14 of each year, had not been held, and no such meeting was held until August, 1969. The requisite number of debenture holders accepted the plan. Shortly after the September 18 letter was mailed, the SEC resumed trading in Leeds' securities, and the refinancing plan became a reality. Leeds continues to be an operating company, although the selling price of its stock is well below pre-1968 levels.

This action originally was brought in the Southern District of New York in May 1970. In April 1971 it was transferred to the Middle District of Florida⁷ and in October 1971 the plaintiffs filed their second amended complaint, an extensive document, the sufficiency of which is the major subject of this appeal. The individual named plaintiffs are nine common shareholders of Leeds. They sue for themselves and on behalf of a class consisting of the "beneficial owners of Leeds' common stock at the close of business on December 12, 1967." They seek damages both individually, and derivatively on behalf of Leeds, for alleged past Exchange Act violations and mandatory and prohibitive injunctive relief to rectify certain continuing practices of Leeds' management. Damages are alleged to be 20,000,000 dollars. The defendants are Genesco, Inc. and Genesco Financial, Inc.;⁸ the underwriters involved in the debenture offering and the refinancing plan;⁹ past and present directors and officers of Leeds;¹⁰ and members of the accounting firm of Buchman, Endsley and McCormick which "acted as Leeds' independent accountants at the time of the acts in question." The second amended complaint contains four counts. Count I alleges various misstatements as to Leeds' financial condition published in Leeds' annual report, financial statements, the debenture prospectus, SEC filings, and the financial media. It seeks direct relief in the form of damages. Count II complains generally of the 1968 "refinancing plan", but its major thrust is directed at alleged misstatements and omissions in the September 18, 1968 letter to Leeds' security holders. The relief sought in Count II is both direct and derivative in nature. Count III seeks mandatory and prohibitive injunctive relief against Leeds' present management based upon asserted continuing violations of the securities laws. Count IV is framed as a state claim based on pendent jurisdiction seeking damages for the same activities as Count I.

After hearing evidence on plaintiffs' motion for a preliminary injunction, the district court found that the requisite probability of success on the merits and...