Trimble v. American Sav. Life Ins. Co.

• Citation: 152 Ariz. 548,733 P.2d 1131
• Decision Date: 23 October 1986
• Docket Number: I-,CA-CIV,D,No. 1,1
• Parties: , Blue Sky L. Rep. P 72,454 J.N. TRIMBLE, Director of Insurance, the Arizona Corporation Commission, body politic, and Matthew J. Zale, Director of Securities, Plaintiffs-Appellees, Cross-Appellants, v. AMERICAN SAVINGS LIFE INSURANCE COMPANY, an Arizona corporation, Frihoff N. Allen, Joseph L. Allen, Evan C. Porter, Gerald M. Allen, Taft L. Allen, Elijah C. Allen, Orrin C. Fuller, Clark E. Allen, Richard B. Young and John Doesefendants-Appellants, Cross-Appellees. 8003.
• Court: Court of Appeals of Arizona

Page 1131

733 P.2d 1131

152 Ariz. 548, Blue Sky L. Rep. P 72,454

J.N. TRIMBLE, Director of Insurance, the Arizona Corporation Commission, body politic, and Matthew J. Zale, Director of Securities, Plaintiffs-Appellees, Cross-Appellants, v. AMERICAN SAVINGS LIFE INSURANCE COMPANY, an Arizona corporation, Frihoff N. Allen, Joseph L. Allen, Evan C. Porter, Gerald M. Allen, Taft L. Allen, Elijah C. Allen, Orrin C. Fuller, Clark E. Allen, Richard B. Young and John Does I-L, Defendants-Appellants, Cross-Appellees.

No. 1 CA-CIV 8003.

Court of Appeals of Arizona,

Division 1, Department D.

Oct. 23, 1986.

Reconsideration Denied Dec. 10, 1986.

Review Denied March 11, 1987.

[152 Ariz. 550] Robert K. Corbin, Atty. Gen. by Patrick M. Murphy, Chief Counsel Financial Fraud Div., Phoenix, for plaintiffs-appellees, cross-appellants.

Beus, Gilbert, Wake & Morrill by Neil Vincent Wake, Phoenix, and Wentworth & Lundin by Robert Ong Hing, Scottsdale, and Gove L. Allen, Mesa, for defendants-appellants, cross-appellees.

Warner Angle Roper & Hallam, P.C. by Jerry L. Angle, Phoenix, Deputy Receiver.

OPINION

GRANT, Presiding Judge.

This is an appeal by American Savings Life Insurance Company and its officers, directors, and executives (American Savings) from the trial court's adoption of a plan of reorganization. The state has cross-appealed.

FACTS

On March 2, 1977, the State of Arizona (State) filed a lawsuit, through the directors of insurance and securities, against American Savings. The suit alleged a securities and insurance fraud involving the sale of an investment package called the Inflation Beater. ¹ The complaint asked for injunctive relief and an order appointing an agent of the court to supervise the orders prayed for, and relief for the purchasers of the Inflation Beater.

The Inflation Beater comprised two basic parts, life insurance and stock. A typical investor purchased a $20,000 face amount life insurance policy for an annual premium of $600. Simultaneously, he signed a promissory note for $10,000. In exchange he received 2,000 shares of American Savings stock at $5 per share. The company told the investors it would repurchase the shares for one dollar per share. An investor did not have to make payments on the note as long as he paid the insurance premium. The note was secured by the company's possession of the stock certificates, the investor's assignment of the cash value and death benefits of the insurance policy to American Savings, up to the amount of the note, and stock and cash dividends. The investor had no right to sell or assign his stock until the stock note was paid in full.

The net result of the Inflation Beater was that the face amount of the life insurance policy did not reflect the actual benefits payable under the policy. Actual payments to a beneficiary would be the face amount minus the note (and interest as required in some contracts), presumably plus a promised repurchase of stock by American Savings at $1.00 per share for each released share.

At trial, the State proved that the Inflation Beater was a pyramid scheme. American Savings's impressive financial statements were found to be the result of accounting practices constituting "a device, scheme, or artifice to defraud and an omission to state material facts necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading," a violation of A.R.S. § 44-1991. The court noted that:

the prospectus and other related financial reports were of such a nature that only a person well trained in accounting or a very sophisticated investor could have ascertained the stock pyramid that was occurring. In the beginning, it is doubtful that even an accountant or a sophisticated investor would have foreseen the ultimate results.

The trial court set out the accounting principles violations committed by American Savings ² and found that:

treatment of the stock notes as an asset at full face value, particularly without a full, complete and adequate disclosure, is not consistent with generally accepted accounting principles and likewise constitutes a violation of A.R.S. [s] 44-1991, as well as A.R.S. [s] 44-1992.

As a result of the violation of A.R.S. §§ 44-1991 and 44-1992, the trial court issued its order on September 26, 1977 permanently enjoining American Savings from selling the Inflation Beater and appointing Phoenix attorney Jerry Angle as an "agent of the court." The order also directed the parties to prepare a plan of reorganization. On July 11, 1978, the court found that "the insurer has wilfully violated the laws of the State of Arizona." It appointed J.N. Trimble, the Director of Insurance, as the statutory receiver for American Savings, and designated Jerry Angle as a deputy receiver, pursuant to A.R.S. § 20-631.

American Savings appealed. This court affirmed the injunction and appointment of a receiver. Trimble v. American Savings Life Insurance Company, 1 CA-CIV 4488 and 1 CA-CIV 4489 (consolidated) (Memorandum Decision filed September 24, 1981) (two judges concurring). No program for rescission was before the court in the Trimble memorandum decision. The case was remanded to the trial court for further necessary proceedings.

The trial court undertook to adopt a plan of reorganization. It received evidence on the issues relevant to rescinding the Inflation Beater packages. On June 15, 1984, the court entered its judgment approving a plan of reorganization. American Savings appealed and the State cross-appealed. Specifics of the plan will be set forth as needed for resolution of the issues raised in the appeal and cross-appeal.

The issues raised by American Savings may be divided into three broad categories: whether American Savings is entitled to a hearing on the merits of each investor's claim; whether the award of prejudgment interest was proper; and, whether the trial court correctly applied the securities violation statute of limitation. The State's cross-appeal also questions the correctness of the trial court's application of the statute of limitation.

LITIGATION OF INDIVIDUAL CLAIMS

American Savings seeks a remand to have each investor's claim litigated on the issues of reliance, causation, materiality and due diligence. It claims this right on two theories: these are elements of the securities statutes which must be proven by a plaintiff, or they are affirmative defenses, which the defendant must have an opportunity to present as a matter of due process; and, the insurance rescission statute, A.R.S. § 20-628, requires a hearing on the validity of each individual claim. However, we note that if the investors' reliance, causation, materiality and due diligence are not elements of or valid defenses to the state's claim, no hearing is required under either theory; the issues are simply irrelevant.

Arizona Revised Statutes, § 44-1991 states:

It is a fraudulent practice and unlawful for a person, in connection with a transaction or transactions within or from this state involving an offer to sell or buy securities, or a sale or purchase of securities ... directly or indirectly to do any of the following:

1. Employ any device, scheme or artifice to defraud.

2. Make any untrue statement of material fact, or omit to state any material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading.

3. Engage in any transaction, practice or course of business which operates or would operate as a fraud or deceit.

Arizona Revised Statutes, § 44-1992 states:

It is a fraudulent practice and unlawful:

1. For a person to subscribe to or make or cause to be made an untrue statement of a material fact in an application, registration statement, prospectus, financial statement or document required to be filed under any provision of this chapter or any rule, regulation or order of the commission thereunder.

2. To omit or cause to be omitted from any such application, registration statement, prospectus, financial statement, or other statement or document, a material fact or statement necessary in order to make the statements made therein, in the light of the circumstances under which they were made, not misleading.

The trial court found that American Savings implemented a sophisticated scheme to defraud purchasers of the Inflation Beater through, among other things, improper accounting practices, financial statements which greatly inflated the company's assets, and the use of stock dividends to project the illusion of growth. These, according to the trial court, were omissions of material fact and violations of both sections, A.R.S. §§ 44-1991 and 44-1992.

The defendant argues that the trial court failed to accord it an opportunity to disprove reliance, due diligence and causation as to each investor. The Arizona Court of Appeals has held that reliance upon a misrepresentation is not an element of § 44-1991, the antifraud provision of our securities law. Rose v. Dobras, 128 Ariz. 209, 214, 624 P.2d 887, 892 (App.1981); cf. Washington Nat'l Corp. v. Thomas, 117 Ariz. 95, 570 P.2d 1268 (App.1977).

To the contrary, federal courts have interpreted § 44-1991 to require a plaintiff in a nonpublic action to prove he reasonably relied on defendant's misstatements and was unaware of the untruth or omission of fact. McDaniel v. Compania Minera Mar de Cortes, 528 F.Supp. 152, 166 (D.C.Ariz.1981). However, the instant case is a public, not a private, action. In addition, if the plaintiffs are so numerous as to make it infeasible to determine individual reliance, Mills v. Electric Light Co., 396 U.S. 375, 382 n. 5, 90 S.Ct. 616, 620 n. 5, 24 L.Ed.2d 593, 601 n. 5 (1970), or where the claim is based on an omitted material fact, Affiliated Ute Citizens v. United States, 406 U.S. 128, 152-53, 92 S.Ct. 1456, 1471-72, 31 L.Ed.2d 741, 761 (1972), federal courts will find constructive reliance. 5 A.S. Jacobs, Litigation and Practice...