Source: https://casetext.com/case/frigitemp-corp-v-financial-dynamics-fund
Timestamp: 2019-03-19 19:36:44
Document Index: 260773162

Matched Legal Cases: ['§ 10', '§ 10', '§ 10', '§ 10', '§ 10', '§ 10', '§ 38', '§ 8']

Frigitemp Corp. v. Financial Dynamics Fund, 524 F.2d 275 | Casetext
Frigitemp Corp. v. Financial Dynamics Fund
524 F.2d 275 (2d Cir. 1975)
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Frigitemp Corp.v.Financial Dynamics Fund
United States Court of Appeals, Second CircuitOct 14, 1975
Gerald D. Fischer, New York City (Blackman, Lefrak, Feld Fischer and Lloyd D. Feld, New York City, of counsel), for plaintiffs-appellants.
Michael C. Devine, New York City (Butowsky, Schwenke Devine, New York City, of counsel), for defendants-appellees Financial Dynamics Fund, Inc., Financial Industrial Fund, Inc. and Financial Venture Fund, Inc.
Barry H. Garfinkel, New York City (Skadden, Arps, Slate, Meagher Flom, New York City, and Ireland, Stapelton, Pryor Holmes, P. C., Denver, Colo., of counsel), for defendants-appellees Financial Programs, Inc., Robert E. Anton and John M. Butler.
Of the U.S. Court of Appeals for the Third Circuit, sitting by designation.
The essential facts pleaded, which we must take to be true are as follows. Frigitemp had an initial public offering in January 1969. The individual appellants owned more than a majority of the outstanding shares of common stock after the offering. On August 29, 1969, FVF purchased from Frigitemp in a private placement $1,000,000 principal amount of a 5% convertible subordinated debenture due 1984 and warrants to purchase 50,000 shares of Frigitemp's common stock until September 12, 1972 at prices between $17 and $19 per share, for one million dollars. In negotiating for the private placement the defendants allegedly received "material, confidential and `inside' information concerning the business and affairs of Frigitemp."
In February and March 1970, FVF and FDF sold about 18,000 shares for a profit of $130,000, allegedly on the basis of the "inside" information they received before August 29, 1969. In 1971 the Funds sold the balance, about 123,000 shares, and "depressed the price of the stock to $8 per share, thereby causing substantial damages to the remaining shareholders of Frigitemp."
It is also alleged that a class action has been brought against two of the individual appellants and Frigitemp by persons who purchased Frigitemp stock and incurred losses. This complaint alleges that these losses were the direct result of the appellees' "misuse of . . . `inside' information" and their "wrongful manipulation of the market price of the common stock of Frigitemp." There is no allegation, however, setting forth any fact supporting the charge of "manipulation." See Fed.R.Civ.P. 9(b). All that is alleged is that large purchases were made. We treat the gravamen of the complaint as the alleged use of confidential information and the making of large purchases by the Funds without disclosure of this fact to appellants.
The appellees here were never officers or directors or even employees of Frigitemp. See Brophy v. Cities Service Co., 31 Del.Ch. 241, 70 A.2d 5 (1949) (sustaining a derivative suit seeking to recover from an employee of a corporation the profits he allegedly made through use of confidential information).
There is also no allegation that the defendants, or any of them, were controlling stockholders at the time they acquired the inside information.
In contending that the Oreamuno case supports recovery even against persons not in the corporate employ appellant cites Schein v. Chasen, 478 F.2d 817 (2 Cir. 1973), vacated on other grounds, 416 U.S. 386, 94 S.Ct. 1741, 40 L.Ed.2d 215 (1974). The majority of the panel there went no further than to hold, against the vigorous dissent of Judge (now Chief Judge) Irving R. Kaufman, that a co-venturer of the director who breaches his duty may be "subject to the same liabilities as those of the director himself for the misuse of corporate information." 478 F.2d at 822. The predicate for liability was the breach of a fiduciary duty to the corporation. Thus, an underwriter who manages a public distribution of a corporation's shares is a fiduciary of the corporation and may not profit from corporate information obtained in its capacity as underwriter. Shapiro v. Merrill Lynch, Pierce, Fenner Smith, Inc., 353 F.Supp. 264 (S.D.N.Y. 1972), aff'd, 495 F.2d 228 (2 Cir. 1974).
Upon certification to it of the question presented, the Florida Supreme Court adopted Judge Kaufman's dissent and refused to adopt the Second Circuit majority's expansion of Oreamuno as the law of Florida. Schein v. Chasen, 313 So.2d 739 (Fla. 1975).
In Shapiro there were tippees who received the inside information from Merrill Lynch and traded upon it. They were being sued by persons who purchased stock in the open market during the period when the tippees were selling. Shapiro was not a derivative suit on behalf of Douglas, the company whose stock was involved. In SEC v. Texas Gulf Sulphur Co., 446 F.2d 1301 (2 Cir. 1971), cert. denied, 404 U.S. 1005, 92 S.Ct. 561, 30 L.Ed.2d 558 (1972), the corporation was, to be sure, made the conditional beneficiary of the trust fund set up for restitution by the corporate employees who traded on the inside information or passed on tips to do so. But again the wrongdoers were in a fiduciary relation to the corporation, and, as was said in Oreamuno, a corporation may suffer harm "when officers and directors abuse their position to obtain personal profits" — since "the effect may be to cast a cloud on the corporation's name." See 446 F.2d at 1308.
Appellees sought dismissal of Claim # 2 upon two grounds: (1) that Frigitemp had no standing to sue since it was neither a seller nor a purchaser of securities; and (2) that appellant had failed to allege actual damage to Frigitemp. The District Court dismissed the claim on the first ground. It held that Frigitemp had no standing to sue under 10(b) and 10b-5, since Frigitemp was not a purchaser or a seller of its securities during the period from March 1969 through March 1970 when the Funds were allegedly purchasing large quantities of Frigitemp common stock on the open market. It also held inferentially that the sale by Frigitemp of its debenture did not make it a "seller of securities" despite the appellants' argument to the contrary based upon Superintendent of Insurance v. Bankers Life Cas. Co., 404 U.S. 6, 92 S.Ct. 165, 30 L.Ed.2d 128 (1971).
On the question of standing, we now have to realign our sights on the meaning of the Birnbaum rule, Birnbaum v. Newport Steel Corp., 193 F.2d 461 (2 Cir.), cert. denied, 343 U.S. 956, 72 S.Ct. 1051, 96 L.Ed. 1356 (1952), in view of the decisions of the Supreme Court in the Bankers Life case and, more recently, in Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 95 S.Ct. 1917, 44 L.Ed.2d 539 (1975).
This court has interpreted Bankers Life to mean that the Birnbaum rule remained intact, noting that Bankers Life "in no way suggested a rejection of the rule that a plaintiff under Section 10(b) must be a party to the sales transaction." Haberman v. Murchison, 468 F.2d 1305, 1311 n. 5 (2 Cir. 1972). In Blue Chip Stamps, the Supreme Court held than an offeree who failed to buy the stock offered because of an allegedly fraudulent prospectus had no standing to sue under 10(b) and 10b-5 since he was neither a purchaser nor a seller. It did not analyze the Bankers Life opinion except to approve the gloss put upon it by the Second Circuit in Haberman v. Murchison. 421 U.S. at 732, 95 S.Ct. at 1923. We are, accordingly, left with a reaffirmation of the Birnbaum doctrine but with the limitation that the phrase "in connection with the purchase or sale of any security" may apply to a security different from the security whose sale originated the fraudulent scheme. In this case, the fraud alleged is misrepresentation by the purchaser of the debenture in failing to state certain allegedly material facts to the seller, Frigitemp.
See Superintendent of Insurance v. Bankers Life Cas. Co., supra, 404 U.S. at 13 n. 10, 92 S.Ct. at 169 n. 10. There it was not the sale of the stock of Manhattan that was held to be the sale under the Birnbaum rule, but only the subsequent sale of the bonds by Manhattan.
Frigitemp needed money. One of the appellants was ready to supply it. The purchaser obviously was entitled to all relevant information. Even assuming that a million dollar loan could conceivably be only a ploy for getting information on which to speculate in the shares of a small company on the market, Frigitemp itself suffered no monetary loss. To recognize a corporate loss in image or prestige without monetary loss as a basis for liability would extend § 10(b) beyond its farthest reach. Though the sale of the debenture may have given Frigitemp technical standing as a seller, it has no actionable claim under the 1934 Act.
Speaking generally, a rise or fall in the market price of the corporate shares does not make the corporation richer or poorer, except to the extent that it may make it harder to raise fresh equity capital if its shares have been on the downslide or a merger is in the offing. See GAF Corp. v. Milstein, 453 F.2d 709, 722 n. 27 (2 Cir. 1971).
The defendants assert two main grounds for upholding the dismissal of the complaint. First, they contend that the plaintiffs have no standing to sue for a violation of § 10(b) because their contribution of shares was not a "sale" within the Birnbaum doctrine. Second, they contend that on the facts alleged there was no violation of § 10(b). Judge Tenney properly held that the plaintiffs had standing, relying on our recent decision in International Controls Corp. v. Vesco, 490 F.2d 1334, 1343-46 (2 Cir.), cert. denied, 417 U.S. 932, 94 S.Ct. 2644, 41 L.Ed.2d 236 (1974). There we held that the mere absence of consideration in a stock disposition does not necessarily prevent the transaction from being a "sale" for § 10(b) purposes. The contribution of shares without direct consideration flowing to the contributors may be deemed a "sale" for § 10(b) purposes, particularly since consideration flowed to the corporation in the form of a million dollar debenture purchase. As the Court stated in SEC v. National Securities, Inc., 393 U.S. 453, 467, 89 S.Ct. 564, 572, 21 L.Ed.2d 668 (1969), in concluding that an exchange of stock in a merger constituted a "purchase" of stock for purposes of § 10(b) and Rule 10b-5: "The broad antifraud purposes of the statute and the rule would clearly be furthered by their application to this type of situation." The case is unusual, nevertheless, in that it involves the performance of related acts both by Frigitemp and by its principal shareholders. It is also unusual because it is not the garden variety case where the insider is sued by the outsider. Here it is the insider who is suing the outsider.
A commentator has opined that "[w]hen the plaintiff is defrauded into making a gift, his injury is clear." 5 A. Jacobs, The Impact of Rule 10b-5, § 38.02[b], at 2-48 n. 3 (1974).
As Judge Tenney noted, the purchases of Frigitemp shares by the Funds in substantial amounts were not concealed. The appellants discovered from a perusal of available transfer sheets much later what they could have discovered at the time — that the Funds had purchased a large number of shares. Since the appellees had a right to assume that the volume of their purchases was known to appellants, there was no reason for them to disclose the fact. Hafner v. Forest Laboratories, Inc., 345 F.2d 167 (2 Cir. 1965); see Arber v. Essex Wire Corp., 490 F.2d 414, 420 (6 Cir.), cert. denied, 419 U.S. 830, 95 S.Ct. 53, 42 L.Ed.2d 56 (1974); Johnson v. Wiggs, 443 F.2d 803, 806 (5 Cir. 1971); Kohler v. Kohler Co., 319 F.2d 634, 640-41 (7 Cir. 1963). And see Myzel v. Fields, 386 F.2d 718, 736 (8 Cir. 1967), cert. denied, 390 U.S. 951, 88 S.Ct. 1043, 19 L.Ed.2d 1143 (1968). Bromberg states, perhaps too broadly, that "[t]here is widespread agreement among the courts that constructive knowledge of truth or omitted information will bar plaintiff from 10b-5 recovery." 2 A. Bromberg, Securities Law: Fraud — SEC Rule 10b-5, § 8.4(652), at 204.248 (1974). Even at common law, if the plaintiff has been furnished with the means of knowledge and he is not prevented from using them he cannot say that he has been deceived by the misrepresentations of the other party. See Shappirio v. Goldberg, 192 U.S. 232, 241-42, 24 S.Ct. 259, 48 L.Ed. 419 (1904).
Whether "constructive knowledge," or "ready access to the information involved," City National Bank v. Vanderboom, 422 F.2d 221, 231 (8 Cir. 1970), is always a bar to the plaintiff we need not decide. Suffice it to say that even if we lower the requirement of scienter on the part of the defendant, see discussion in Lanza v. Drexel Co., 479 F.2d 1277 (2 Cir. 1973) (en banc), his reasonable belief that the other party already has access to the facts should excuse him from new disclosures which reasonably appear to be repetitive.
Indeed, if appellees reasonably assumed that appellants already knew that the Funds had been active purchasers of Frigitemp stock, appellees were under no obligation to disclose their intention to continue the same course of conduct in the future. Though in some situations buyers are required to disclose to sellers "market information" as well as "corporate inside information," Affiliated Ute Citizens v. United States, 406 U.S. 128, 92 S.Ct. 1456, 31 L.Ed.2d 741 (1972), this is not one of those cases. The party charged with failing to disclose market information must be under a duty to disclose it to the plaintiffs. See Fleischer, Mundheim Murphy, An Initial Inquiry into the Responsibility to Disclose Market Information, 121 U.Pa. L.Rev. 798 (1973). Here there was no such duty because the appellees could reasonably assume that the appellants already had the basic information in the transfer sheets which showed sufficient market activity by appellees to require no repetition.