Spectrum Financial Companies v. Marconsult, Inc.
| Decision Date | 14 November 1979 |
| Docket Number | Nos. 76-2546,76-2651,s. 76-2546 |
| Citation | 608 F.2d 377 |
| Parties | Fed. Sec. L. Rep. P 97,171 SPECTRUM FINANCIAL COMPANIES, Plaintiff-Appellant, Kenneth B. Bonilla et al., Intervenors-Appellants, v. MARCONSULT, INC., et al., Defendants-Appellees. Allen L. BARBIERI et al., Plaintiffs-Appellants, James E. Nevitt, Intervenor-Appellant, v. MARCONSULT, INC., et al., Defendants-Appellees. SPECTRUM FINANCIAL COMPANIES, Plaintiff, Kenneth B. Bonilla et al., Intervenors-Appellants, v. MARCONSULT, INC., et al., Defendants-Appellees. |
| Court | U.S. Court of Appeals — Ninth Circuit |
Michael R. Mitchell, Los Angeles, Cal., for appellant Spectrum Financial Companies.
John P. McNicholas and Ralph Jonas, Los Angeles, Cal. for appellant intervenors.
Richard P. Booth, Jr., Los Angeles, Cal., for appellee Harris Kerr Forster & Co.
Appeal from the United States District Court for the Central District of California.
Before WRIGHT, Circuit Judge; HOFFMAN, Senior District Judge; * and FERGUSON, District Judge. **
Spectrum Financial Companies, the general partner of two limited partnerships, sued under § 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j (1976), and § 17(a) of the Securities Exchange Act of 1933, 15 U.S.C. § 77q (1976), alleging that Marconsult, Inc. and its accounting firm, Harris, Kerr, Forster and Company (HKF), made false and misleading statements regarding the value of Marconsult stock which Spectrum's limited partners received in exchange for oil and gas leases. Several limited partners intervened.
The district court refused to certify as a class Spectrum and its limited partners and granted HKF's motion for summary judgment.
We affirm the denial of class certification and reverse the grant of summary judgment. The case is remanded for reconsideration in light of Nelson v. Serwold, 576 F.2d 1332 (9th Cir.), Cert. denied, 439 U.S. 970, 99 S.Ct. 464, 58 L.Ed.2d 431 (1978).
In January, 1972, Spectrum entered into an agreement with Marconsult. The limited partners agreed to exchange their interests in oil and gas wells for common stock and debentures of Marconsult. The agreement was conditioned upon qualification of the securities with the California Commissioner of Corporations and upon approval of the exchange by 75% Of the limited partners.
In March, 1972, Marconsult applied to the Commissioner for a permit to issue its common stock and convertible notes to Spectrum. Two days later, Marconsult hired HKF to audit its financial condition and render an opinion for the 1971 calendar year.
On May 8, HKF delivered to Marconsult draft copies of a financial statement for the calendar year 1971, together with its audit report dated April 24, 1972. The 12-month statement was unfavorable, disclosing that Marconsult had but $57,000 in sales and had suffered a loss of almost $250,000 during the year.
The Commissioner's hearing took place on May 16. Marconsult did not distribute the financial statement to Spectrum and the limited partners or submit it for the consideration of the Department. Following the hearing, the Deputy Commissioner indicated that the application stood submitted pending the filing of additional financial data. HKF delivered to Marconsult its opening letter, with financial statements, on May 24.
The report was furnished to no one outside Marconsult. Instead, the company requested HKF to prepare and certify new financial statements covering a 16-month period from August 31, 1970 to the end of 1971.
Meanwhile, despite the fact that no additional financial data were submitted to the Department, the permit to issue securities was granted on June 22. It contained a legend severely restricting the transfer of the securities in the limited partners' hands.
HKF delivered the 16-month financial statement to Marconsult in early July. It incorporated more than $200,000 of business conducted during the four months before the beginning of the 1971 calendar year. As a result, it was considerably more favorable than the 12-month report. HKF's new opinion letter followed on July 18.
Spectrum received the requisite 75% Approval on July 10. None of the accepting limited partners had seen any of Marconsult's financial statements, and the 16-month report had not been disseminated outside Marconsult as of that date. On August 17, nevertheless, Marconsult applied to the Commissioner for an order removing the restriction on transfer, and the 16-month statement was submitted as part of the application. The Commissioner removed the restriction.
The exchange took place in October 1972. In July 1973, it was apparent that Marconsult had fallen drastically short of its income projections and was virtually insolvent.
Spectrum filed suit, alleging that Marconsult and HKF violated federal securities laws by failing to disclose the shaky foundation of Marconsult's stock. Spectrum's limited partners moved for an order certifying them as a class. The motion was denied as was a motion for interlocutory appeal. Fifty-six of the 92 nonparty limited partners then filed a new action, and the two actions were consolidated for trial.
HKF moved unsuccessfully for summary judgment in December 1975. In March 1976, the Supreme Court decided Ernst & Ernst v. Hochfelder, 425 U.S. 185, 96 S.Ct. 1375, 47 L.Ed.2d 668 (1976). HKF renewed its motion on the basis of the scienter requirement of that case and this time summary judgment was granted.
Summary judgment is appropriate only where there is no genuine issue as to any material fact. Fed.R.Civ.Proc. 56; Lane Bryant v. Maternity Lane, 173 F.2d 559, 565 (9th Cir. 1949). All inferences that can be drawn from the depositions, admissions, and affidavits on file must be viewed in a light most favorable to the party opposing summary judgment. United States v. Diebold, Inc., 369 U.S. 654, 82 S.Ct. 993, 8 L.Ed.2d 176 (1962).
A genuine issue must be predicated on a viable legal theory. McGuire v. Columbia Broadcasting System, Inc., 399 F.2d 902, 905 (9th Cir. 1968). In this circuit, prior to Ernst & Ernst v. Hochfelder, 425 U.S. 185, 96 S.Ct. 1375, 47 L.Ed.2d 668 (1976), scienter was not a necessary predicate for liability under § 10(b) and Rule 10b-5. See, e. g., White v. Abrams, 495 F.2d 724, 734-35 (9th Cir. 1974). We applied a "flexible duty" standard incorporating many factors to determine whether the defendants had a duty to disclose information relevant to the purchase or sale of securities. Id.
The district court denied summary judgment under the applicable Ninth Circuit standard, but granted it after Hochfelder clearly established that scienter is an element of Rule 10b-5 violations. Because this change in the applicable legal standard was the only event intervening between the denial and grant of summary judgment, we must assume that the trial court believed there were genuine issues of material fact under the old standard but that appellants failed to establish a genuine issue with respect to scienter.
Appellants argue that the trial court erred in interpreting too strictly the scienter requirement. They contend that the element of scienter may be established by proof of reckless behavior, and that the pleadings and depositions on file raise a genuine issue of material fact as to whether HKF acted recklessly in supplying Marconsult with the 16-month statement.
In Hochfelder, the Court reserved the question whether "reckless behavior is sufficient for civil liability under § 10(b) and Rule 10b-5." 425 U.S. at 193-94 n.12, 96 S.Ct. 1375, 1381, 47 L.Ed.2d 668. This court answered the question affirmatively in Nelson v. Serwold, 576 F.2d 1332 (9th Cir.), Cert. denied, 439 U.S. 970, 99 S.Ct. 464, 58 L.Ed.2d 431 (1978).
Nelson contains a thorough discussion of the scienter requirement and the effect of Hochfelder. We concluded that "recklessness, or some degree of intent not sufficiently aggravated to be characterized as 'deliberate and cold-blooded' " would support liability under § 10(b) and Rule 10b-5. Nelson v. Serwold, 576 F.2d at 1338. Our holding is in accord with those of other circuits. See, e. g., Edward J. Mawod & Co. v. Securities & Exch. Com'n, 591 F.2d 588, 596 (10th Cir. 1979); Rolf v. Blyth, Eastman Dillon & Co., 570 F.2d 38, 46 (2d Cir. 1978); Sundstrand Corp. v. Sun Chemical Corp., 553 F.2d 1033, 1045 (7th Cir.), Cert. denied, 434 U.S. 875, 98 S.Ct. 224, 54 L.Ed.2d 155 (1977).
The district judge did not have the benefit of our decision in Nelson when he granted summary judgment. He did not indicate whether he examined the depositions in light of a recklessness standard or required some stricter showing of intent. We believe that he should have the opportunity to determine, in the first instance, whether appellants have raised a genuine issue of material fact with respect to whether HKF acted recklessly. We must reverse the grant of summary judgment and remand for reexamination in light of Nelson v. Serwold.
Beyond the issue of whether or not appellees were "reckless" is the question of whether they had any duty to disclose material information to appellants. In White v. Abrams, 495 F.2d 724, 735-6 (9th Cir. 1974), this court delimited the duty owed by a given defendant to a given plaintiff. Our recent decision in Zweig v. Hearst Corp., 594 F.2d 1261 (9th Cir. 1979), restated the White "flexible duty standard":
(these) factors are relevant in determining the scope of the duty to disclose material facts under Rule 10b-5: (1) the relationship of defendant to plaintiff; (2) defendant's access to the information as compared to that of plaintiff; (3) defendant's benefit derived from the relationship; (4) defendant's awareness of whether plaintiff was relying on their relationship in making his or her investment decisions; and (5) defendant's activity in initiating the transaction in question.
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