The opinion of the court was delivered by: BRIEANT
Counsel representing (1) Harry Berg, a claimed creditor of Manhattan Casualty Company (hereinafter "Manhattan"), (2) Florence H. Brandenburg, Executrix of the Estate of Matthew H. Brandenburg, deceased, in her capacity as sole shareholder of Manhattan, and (3) Harry Berg and Florence H. Brandenburg on behalf of themselves and others as taxpayers of the State of New York, moves for an order (a) granting Berg, on behalf of himself and all creditors of Manhattan; Mrs. Brandenburg, as Executrix, as sole shareholder of Manhattan; and Berg and Mrs. Brandenburg as taxpayers; and on behalf of the other New York taxpayers, leave to intervene in this action for the purpose of protecting the rights of Manhattan, its creditors, shareholder and the taxpayers, (b) "enjoining the parties to this action from interposing . . . any defense based upon any judgment entered in the state court of this State, which approves a settlement agreement [to dispose of this and a related state court action] made as of June 8, 1972, and from using same to seek a dismissal of this case," (c) enjoining the parties from releasing the defendants on behalf of Manhattan of the claims asserted in this action, (d) granting the intervenors the right to amend the complaint to assert as a pendent claim the claim asserted in Supreme Court of the State of New York, County of New York, Index No. 11358/65, (e) determining that the Supreme Court of the State of New York had no jurisdiction to pass upon the fairness and reasonableness of the June 8, 1972 settlement agreement, and that any order or judgment of the courts of the State of New York is a nullity insofar as this action in this Court is concerned, (f) determining that in the state court Manhattan, its creditors and shareholder, and the taxpayers were "deprived of procedural and substantive due process", (g) disapproving the settlement agreement made as of June 8, 1972.
This litigation was initiated in this Court on August 19, 1963 by the then incumbent Superintendent of Insurance of New York (hereinafter "Superintendent"), a state official, acting pursuant to § 510 et seq. of the New York Insurance Law, and also an order of the Supreme Court of New York County dated May 24, 1963, which adjudged Manhattan insolvent pursuant to Article XIV of that statute and appointed the Superintendent as its Liquidator. The liquidation proceedings have continued, under the supervision of that Court, by the original plaintiff, and his successors in office since that date.
Manhattan's insolvency occurred as a result of a swindle perpetrated by one James F. Begole, acting in concert with some others, sued here, and facilitated, intentionally, innocently or negligently by the remaining defendants not actually participating in his scheme. The reader's familiarity with the unanimous opinion of the Supreme Court by Mr. Justice Douglas, delivered in this action November 8, 1971 is assumed. Supt. of Insurance of New York v. Bankers Life & Casualty Co. et al., 404 U.S. 6, 92 S. Ct. 165, 30 L. Ed. 2d 128. There, the Court unanimously upheld the complaint in this action, which had been dismissed on June 3, 1969 by Judge Herlands of this Court (D.C.N.Y., 300 F. Supp. 1083, aff'd. 2 Cir., 430 F.2d 355).
We cannot improve upon the elucidation of the facts pleaded as set forth by Mr. Justice Douglas, 404 U.S. 6, 7, 92 S. Ct. 165, 166, 30 L. Ed. 2d 128 et seq.
"It seems that Bankers Life & Casualty Co., one of the respondents, agreed to sell all of Manhattan's stock to one Begole for $5,000,000. It is alleged that Begole conspired with one Bourne and others to pay for this stock, not out of their own funds, but with Manhattan's assets. They were alleged to have arranged, through Garvin, Bantel & Co. -- a note brokerage firm -- to obtain a $5,000,000 check from respondent Irving Trust Co., although they had no funds on deposit there at the time. On the same day they purchased all the stock of Manhattan from Bankers Life for $5,000,000 and as stockholders and directors, installed one Sweeney as president of Manhattan.
Manhattan then sold its United States Treasury bonds for $4,854,552.67. [footnote omitted] That amount, plus enough cash to bring the total to $5,000,000, was credited to an account of Manhattan at Irving Trust and the $5,000,000 Irving Trust check was charged against it. As a result, Begole owned all the stock of Manhattan, having used $5,000,000 of Manhattan's assets to purchase it.
To complete the fraudulent scheme, Irving Trust issued a second $5,000,000 check to Manhattan which Sweeny, Manhattan's new president, tendered to Belgian-American Bank & Trust Co. which issued a $5,000,000 certificate of deposit in the name of Manhattan. Sweeny endorsed the certificate of deposit over to New England Note Corp., a company alleged to be controlled by Bourne. Bourne endorsed the certificate over to Belgian-American Banking Corp. [footnote omitted] as collateral for a $5,000,000 loan from Belgian-American Banking to New England. Its proceeds were paid to Irving Trust to cover the latter's second $5,000,000 check.
Though Manhattan's assets had been depleted, its books reflected only the sale of its Government bonds and the purchase of the certificate of deposit and did not show that its assets had been used by Begole to pay for his purchase of Manhattan's shares or that the certificate of deposit had been assigned to New England and then pledged to Belgian-American Banking."
The complaint here charged a violation of § 17(a) of the Securities Act of 1933 [15 U.S.C. § 77q(a)] and of § 10(b) of the Securities Exchange Act of 1934 [15 U.S.C. § 78j(b)].
Judge Herlands, in dismissing the complaint, described the activities charged against Begole and his confederates (p. 1102 of 300 F. Supp.):
"The complaint, taken as a whole, alleges no more than a common law action for misappropriation of corporate funds by a fiduciary, embezzlement or fraudulent conveyance perhaps, or the distribution of an illegal dividend. None of these actions, in the absence of diversity of citizenship, can be maintained in a federal court."
Until November 8, 1971, when the Supreme Court rendered its unanimous opinion, the views of the late Judge Herlands were widely held, and represented prevailing opinion.
Recognizing the likelihood that the fraud practiced upon Manhattan might not be actionable in this Court, this plaintiff had initiated companion litigation in the Supreme Court of the State of New York, New York County, under Index No. 11358/65. That Court had general subject matter jurisdiction of the state or common law claims asserted. No proceedings were held in the state action until after the June 8, 1972 settlement agreement was executed.
While the opinion of the Supreme Court declares broad doctrine in the construction of the federal securities laws, it has an extremely narrow application to this particular litigation. The Court's opinion continues (pp. 13, 14 of 404 U.S., p. 169 of 92 S. Ct.):
"The case was before the lower courts on a motion to dismiss.
Bankers Life urges that the complaint did not allege, and discovery failed to disclose, any connection between it and the fraud and that, therefore, the dismissal of the complaint as to it was correct and should be affirmed. We make no ruling on this point.
The case must be remanded for trial. We intimate no opinion on the merits, as we have dealt only with allegations and with the question of law whether a cause of action as respects the sale by Manhattan of its Treasury bonds has been charged under § 10(b).
All defenses except our ruling on § 10(b) will be open on remand."
As previously noted, the effect of the fraud was to decrease Manhattan's working capital by $5,000,000.00, which rendered it insolvent, and incapable of performing its executory obligations to its policyholders, protecting them against casualty losses under existing insurance policies.
Insolvency of a casualty insurer places particular burdens on the insured, claimants against them and the public generally, far greater than that in the case of insolvency of an ordinary business. Recognizing the severe disruption caused by insurance company failures, New York, by a comprehensive statutory scheme, Insurance Law §§ 1-677, has provided for strict regulation of the manner in which the affairs of an insurance company may be conducted, has limited the writing of casualty insurance to licensed insurers, and has provided the aforementioned statutory method by which a state official, the Superintendent of Insurance, may be appointed as liquidator of an insolvent company. We discuss his status and powers when so appointed in further detail below.
For more than a decade, while this litigation and the companion state case were pending, the Superintendent administered the affairs of Manhattan, marshaled its assets and invested them, paid and discharged obligations, adjusted policy claims, and ...