The opinion of the court was delivered by: BAUMAN
This case presents a difficult question of interpreting the reach of § 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b) and Rule 10b-5, 17 C.F.R. § 240.10b-5. As happens so often when such cases are presented in this court, the ingenuity of defendants' allegedly fraudulent scheme is matched only by the ingenuity of plaintiffs' attempt to bring it within the ambit of the statute. Before the court is a motion by all of the defendants pursuant to Rules 12(b) 1 and 12(b) 6 of the Federal Rules of Civil Procedure, to dismiss the complaint for lack of subject matter jurisdiction and for failure to state a claim on which relief can be granted.
The complaint, the allegations of which I shall assume to be true for the purposes of this motion, A.T. Brod & Co. v. Perlow, 375 F.2d 393 (2d Cir. 1967), may be briefly summarized as follows.
Plaintiff, Alice Heyman, is one of the two children of Oscar Heyman, who died on July 13, 1970. Prior to his death Mr. Heyman was president of Oscar Heyman and Brothers, a closely held New York corporation whose stock is owned entirely by members of the Heyman family. The corporation is engaged in the manufacture and sale of jewelry, which it markets through its New York, Texas, and California branch offices. It designs and produces what the complaint describes as "superior and elegant jewelry", which is sold primarily to superior and elegant shops such as Tiffany and Cartier.
On April 1, 1959, all of the stockholders of the corporation entered into an agreement requiring the corporation to purchase, upon the death of any stockholder, all of the stock which the decedent stockholder owned at its "fair value" and to use its "best efforts" to determine such fair value. (This agreement was amended as to matters not material to this action on December 1, 1959 and again on November 10, 1964).
Oscar Heyman's will explicitly affirmed this agreement. Paragraph Ninth directed the Executors to "perform and carry into effect each and all of the terms and conditions affecting [the] Estate in such Stockholders' Agreement . . ." and cautioned the Executors not "to change or vary the price or any formula to determine the price for the purchase or redemption of any of . . . [decedent's] shareholdings . . . ."
The will, dated September 10, 1969 with a codicil dated June 11, 1970, divides the residuary estate into two equal portions to be held in separate trusts for plaintiff and her brother, defendant Michael Lee Heyman. Under the terms of the trusts, they are to receive the income for life plus, at their election, annual payments from "principal equal to $5,000 or 5% of the aggregate value of the principal, whichever is greater." Each beneficiary is given a testamentary power of appointment over the principal of his or her trust. The will names Michael Heyman, George Heyman (Oscar's brother and now president of the corporation), and Sylvan Oestreicher as Executors and Michael Heyman and the Chase Manhattan Bank as trustees of the two residuary trusts.
Shortly after Oscar Heyman's death, a sale agreement was drawn up between the Executors and the corporation providing for the sale of his stock. The price was computed, it is alleged, not on the basis of the "fair value" of the corporation's stock, but rather on the "book value" of the corporation for the period ending December 31, 1969. This book value was computed at $4,600,000, and the value of Oscar Heyman's holdings, representing approximately 38% of the outstanding common stock, was fixed at $1,587,348.18.
The sale agreement was executed on August 6, 1970. Early that morning plaintiff was awakened by her brother Michael and escorted to a meeting at the corporate offices. She was there shown the agreement for the first time, admonished "as to the urgency of the matter" and told to sign it immediately. She was assured that the amount to be paid by the corporation for her father's stock was fair, and was promised that the corporate records would ultimately be made available to her. She signed then and there.
The plaintiff subsequently sought financial information from the corporation. She was refused permission to see its books and records and was only furnished with unaudited financial statements for the years 1965 through 1970. From examining them and from conversations with the Executors, plaintiff learned that the sale price for her father's stock was calculated on the basis of par value ($25 per share) for the preferred stock and book value less 10% for the common stock.
The complaint alleges four causes of action. In the first it is alleged that the purchase of stock for book value less 10% rather than its "fair value" determined by the "best efforts" of the corporation and Executors constitutes a breach of the stockholders' agreement. The second cause alleges that the sale by the Executors of the stock constituted a failure to marshal the assets of the estate and a breach of fiduciary duty. The third charges that the defendants, by undervaluing the true worth of the corporation and concealing this worth from plaintiff, were engaged in a scheme to defraud her in violation of §§ 10(b) and 20(a) of the Securities Exchange Act and its Rule 10b-5. In the fourth cause it is claimed that this course of conduct constituted a fraud and deceit upon plaintiff and a breach of fiduciary duty.
The defendants have moved to dismiss the complaint, arguing that the third count fails to state a cause of action under § 10(b). If they are correct this court lacks subject matter jurisdiction over the common law causes of action set out in the first, second, and fourth counts. Where the Federal cause of action is insufficient, the State causes of action cannot be sustained under the doctrine of pendent jurisdiction. United Mine Workers v. Gibbs, 383 U.S. 715, 86 S. Ct. 1130, 16 L. Ed. 2d 218 (1966); Iroquois Industries v. Syracuse China Corporation, 417 F.2d 963 (2d Cir. 1969), cert. denied, 399 U.S. 909, 90 S. Ct. 2199, 26 L. Ed. 2d 561 (1970); Cohen v. Colvin, 266 F. Supp. 677 (S.D.N.Y. 1967); Barnett v. Anaconda Co., 238 F. Supp. 766 (S.D.N.Y. 1965).
Defendants argue that the complaint is insufficient under § 10(b) in three respects: (a) plaintiff was not a purchaser or seller of securities within the meaning of Birnbaum v. Newport Steel Corp., 193 F.2d 461 (2d Cir. 1952), cert. denied, 343 U.S. 956, 72 S. Ct. 1051, 96 L. Ed. 1356 (1952); (b) plaintiff's injury did not arise from her reliance on defendants' fraudulent conduct; and (c) the complaint fails to allege that a "means or instrumentality ...