Wolf v. Frank

• Decision Date: 05 June 1973
• Docket Number: No. 72-2534.,72-2534.
• Citation: 477 F.2d 467
• Parties: J. William WOLF et al., Plaintiffs-Appellants-Cross Appellees, v. Robert R. FRANK et al., Defendants-Appellees-Cross Appellants.
• Court: U.S. Court of Appeals — Fifth Circuit

477 F.2d 467 (1973)

J. William WOLF et al., Plaintiffs-Appellants-Cross Appellees, v. Robert R. FRANK et al., Defendants-Appellees-Cross Appellants.

No. 72-2534.

United States Court of Appeals, Fifth Circuit.

April 24, 1973.

Rehearing and Rehearing Denied June 5, 1973.

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Richard B. Marx, Miami Beach, Fla., Irving M. Wolff, Miami, Fla., for defendants-appellees.

Howard W. Mazloff, Eugene C. Heiman, Miami, Fla., for plaintiffs-appellants.

Before RIVES, GOLDBERG and MORGAN, Circuit Judges.

Rehearing and Rehearing En Banc Denied June 5, 1973.

GOLDBERG, Circuit Judge:

This is an appeal and cross-appeal from a judgment of the United States District Court for the Southern District of Florida awarding plaintiffs, J. William Wolf and Pearl M. Wolf, shareholders of Industrial-Guaranty Bancorp (hereinafter "IGB"), individual and derivative relief from defendants, IGB, Robert R. Frank, Jack H. Stein, and John W. Roberts, Jr., for violations of the Securities Act of 1933, 15 U.S.C. § 77a et seq., and of the Securities Exchange Act of 1934, 15 U.S.C. § 78a et seq. Although not an overly complicated securities case, its presentation sometimes gives the appearance that the geometry of the case would defy the law that a straight line is the shortest distance between two points. Both plaintiffs and defendants appeal from numerous substantive and procedural aspects of the District Court's judgment, which deviate from the essentials of the decision. The only claim we find meritorious, however, is plaintiffs' argument that Mills v. Electric Auto-Lite Co., 1970, 396 U.S. 375, 90 S.Ct. 616, 24 L. Ed.2d 593, entitles them to be reimbursed by IGB for the cost of maintaining this derivative claim. The District Court's order is therefore affirmed in all things but the denial of plaintiffs' plea for reimbursement for the costs of maintaining this action.

I. THE OPERATIVE FACTS

The District Court made numerous and detailed findings of fact and conclusions of law that have greatly aided this Court in its resolution of this complex appeal. Not all of these findings and conclusions are involved in this appeal; thus, we here summarize only those matters necessary for an understanding of our disposition of the case.

In early 1969, plaintiff J. William Wolf began discussing with defendants Robert R. Frank and Jack H. Stein the possibility of his investing in IGB, a Florida corporation with its principal place of business in Florida. Defendants Frank, Stein, and Roberts¹ organized IGB with the intention of making it a bank holding company, and they served at all relevant times as officers and directors of IGB. Plaintiff repeatedly met with defendants, in various combinations, to discuss IGB. Prior to plaintiffs' initial purchase, defendants Stein and Frank represented to plaintiff that they were going to allow not more than fifteen of their friends to purchase shares in IGB before making a proposed public offering: They represented that everyone would pay $2.00 cash per share and that there would be no free stock or fringe benefits.² In reliance upon these and other representations concerning (1) an application by IGB to the Federal Reserve Board for approval as a bank holding company, (2) the acquisition plans of IGB, and (3) the progress of registration of IGB shares with the Florida Securities Commission, plaintiffs purchased 37,500 shares of IGB stock for $75,000.00 between July 28, 1969 and October 8, 1969. No registration statement was then in effect as to those securities.

As early as July 24, 1969, prior to the initial purchase of IGB stock, plaintiff began inquiring among his friends about resales to them of the IGB stock that was to be purchased. During the six-month period beginning in late July, 1969, plaintiffs sold at least 23,000 of their 37,500 shares to approximately fourteen persons in various parts of the United States at prices ranging from $2.00 to $5.00 per share. In these transactions plaintiffs realized a total of $95,000.00, some $20,000 more than they had paid for all of their IGB stock.

In fact, an application for approval as a bank holding company was never filed on behalf of IGB. Furthermore, defendants did not pay $2.00 cash per share when they acquired their own stock interest in IGB. First, in September, 1969, defendants exchanged 19,826 shares of stock in the National Industrial Bank hereinafter NIB with IGB for 346,995 newly issued shares of IGB stock, pursuant to an exchange ratio computed by defendant Roberts. At the exchange value of $2.00 per share, the IGB stock acquired in the exchange by defendants was worth $693,910.00. The NIB stock that the corporation received from defendants in exchange was worth considerably less. It had been purchased by defendants in January, 1968 for $198,260.00, or $10.00 per share, and was selling for $10.00 per share in October, 1969. Second, on January 16, 1970, defendants received 184,935 shares of IGB stock in exchange for non-interest bearing, unsecured promissory notes in the amount of $369,870.00 due in 1973.

A voting trust agreement reflects that defendants controlled 1,336,391 voting shares of IGB and were at all material times in control of the company. Although IGB's Certificate of Incorporation requires the directors to fix the value of any property received by the corporation in exchange for stock, this was not done in conjunction with the transfer by defendants of their 19,826 shares of their NIB stock for 346,995 shares of IGB stock hereinafter the "NIB-IGB stock exchange". In that exchange, a ratio of 171/2 to 1 was the basis used, and the value of the IGB stock was calculated at its par of $1.00 per share. Under this ratio, defendants received the equivalent of $17.50 per share for their NIB stock. If the transaction had been based on payment of $2.00 per share for the IGB stock, the sum that defendants had represented would be paid and that everyone else did in fact pay, then defendants actually received what amounted to $35.00 per share for their NIB stock, which was worth no more than $10.00 per share. The required valuation was also neglected in connection with the issuance of stock to defendants in exchange for their promissory notes.

At a directors meeting held on January 16, 1970, defendants, acting as directors, elected three additional directors. The new directors, with defendants abstaining, authorized defendants to purchase the aforementioned 184,935 shares of IGB stock by executing non-interest bearing, unsecured notes in the total amount of $369,870. At the same time that these non-interest bearing and unsecured notes of defendants were outstanding, IGB borrowed greater sums from banks at interest rates varying from 7½ percent to 9½ percent per annum. Such loans were fully secured by part of the assets of IGB. The newly constituted board of directors, with defendants voting, "ratified" the NIB-IGB stock exchange and all other actions taken on previous occasions by defendants as directors. No annual or special meeting of stockholders of which plaintiffs received notice was held until January 21, 1971.

II. ACTION BELOW

Soon after the meeting of January 21, 1971, plaintiffs brought this action both individually and derivatively as stockholders of IGB against defendants. The complaint charged that: (1) misrepresentations, omissions, and acts of defendants constituted a manipulative and deceptive device and contrivance and a scheme and artifice to defraud in connection with the sale of securities of IGB to plaintiffs, all of which was in violation of Rule 10b-5;³ (2) sale by defendants to plaintiffs of the IGB stock constituted a violation of Section 5 of the Securities Act of 1933, 15 U.S.C. § 77e, because no registration covering the securities had been declared effective by the United States Securities and Exchange Commission; (3) defendants committed common-law fraud in connection with plaintiffs' purchase of IGB stock.⁴

Relying on Rekant v. Desser, 5 Cir. 1970, 425 F.2d 872, the District Court found that plaintiffs had established a derivative Rule 10b-5 violation by defendants in that defendants' activities in the NIB-IGB stock exchange constituted a fraudulent issuance of stock to insiders for grossly inadequate consideration. The District Court found that the NIB stock was worth $198,260.00 and that therefore defendants paid approximately $.57 per share of IGB stock issued to them, or $1.43 less than the $2.00 per share that defendants represented that they would pay for their IGB purchase. The Court ordered defendants to reimburse IGB $1.43 per share of IGB received in the fraudulent transaction. The District Court also found, however, that plaintiffs were not entitled to individual relief under Rule 10b-5 because they failed to show any actual individual damages in connection with the sale or purchase of IGB stock, since through their own sales of IGB stock they had made a profit of approximately $20,000.00 in addition to the value of the IGB shares they retained.

The District Court relied on Hill York Corp. v. American International Franchises, Inc., 5 Cir. 1971, 448 F.2d 680, in finding that defendants had violated Section 5 of the Securities Act of 1933 and in granting the individual plaintiffs the option of rescinding their purchase of 14,000 shares of IGB stock. The Court also held that Section 5 of the 1933 Act did not authorize derivative relief for the corporate entity.

Finally, the District Court found that defendants breached their fiduciary duty on January 16, 1970 by paying for IGB stock with non-interest bearing notes. The Court ordered defendants to pay IGB 71/2 percent back-interest on the $369,870.00 note, from January 16, 1970 to the date of the judgment.

The District Court, however, refused to find that plaintiffs were entitled to be reimbursed for the costs of maintaining a derivative action for IGB. The Court also refused to appoint a receiver...