The opinion of the court was delivered by: GAGLIARDI
This litigation consists of two actions which, by order of the Judicial Panel on Multidistrict Litigation, have been assigned to this court for coordinated pretrial proceedings pursuant to 28 U.S.C. § 1407. In re Haven Industries, Inc., 415 F. Supp. 396 (J.P.M.L. 1976). The action captioned as Lemmelin v. Haven Industries, Inc., 76 Civ. 2626 (LPG) was commenced in the United States District Court for the District of Massachusetts in August, 1975 by forty-eight plaintiffs seeking compensatory and punitive damages against thirty-four defendants. Plaintiffs, purchasers of the stock of Haven Industries, Inc. ("Haven")
and related corporations, allege a nationwide conspiracy to create a market for Haven stock and to inflate its value artificially in violation of § 10(b) of the Securities Exchange Act of 1934 ("1934 Act"), 15 U.S.C. § 78j(b); Rule 10b-5, 17 C.F.R. § 240.10b-5; and § 17(a) of the Securities Act of 1933 ("1933 Act"), 15 U.S.C. § 77q(a). Jurisdiction is premised upon § 27 of the 1934 Act, 15 U.S.C. § 78aa, and § 22(a) of the 1933 Act, 15 U.S.C. § 77v. Various defendants have moved to dismiss the complaint pursuant to Rules 12(b) and 9(b) Fed.R.Civ.P., or, in the alternative, for summary judgment pursuant to Rule 56, Fed.R.Civ.P.
The material facts, as set forth in the amended complaint and the parties' affidavits, are as follows. Plaintiffs purchased shares in Haven and its related companies over the six-year span from 1968 to 1974 through various brokerage firms.
Defendant Donald Liederman became Haven's president, director and controlling shareholder in 1968 when Haven was a "bankrupt shell" corporation (Amended Complaint, p. 13). Count I of the amended complaint alleges that Liederman conspired with, among others, the brokerage firms from which plaintiffs purchased their Haven stock to sell large amounts of the worthless stock at artificially inflated prices. After causing Haven to issue large amounts of stock to these brokerage firms at little or no charge and selling large amounts of Haven and related company stock to the public through nominees, Liederman allegedly met with the principals and registered representatives of the defendant brokerage firms and induced them to sell Haven stock to their customers on the basis of false, "inside" information. Customers, including the plaintiffs, were told that "the broker had inside information directly from Liederman as President that a wonderful development was about to take place in Haven's business, that when this information became public knowledge the price of Haven stock would go much higher and that the buyer would, therefore, make a lot of money." (Id., p. 14). In fact, there was no real market for Haven stock and the brokerage firms maintained its price level by reporting sales at higher prices and by selling the stock back and forth between each other. (Id.). Public disclosure to the effect that the "wonderful development" in question had not taken place would eventually be made, the artificial price support would be withdrawn and Haven stock would collapse in value. After a suitable delay during which the brokerage firms assured the plaintiffs that their potential losses were due only to temporary market conditions, a new "wonderful development" would be fabricated and the cycle would be repeated. (Id.). Despite fluctuations in the rigged market price, Haven was insolvent, its stock was worthless and defendants allegedly knew this to be so. (Id.).
In inducing plaintiffs to purchase the stock of Haven and its related companies from 1968 through 1974, the following false "inside" information was disclosed to plaintiffs: 1) that National Hospital Inc. ("National Hospital"), a corporation controlled by Liederman, was about to consummate a favorable merger with American Medicare Corporation ("American Medicorp") which would make National Hospital's stock very valuable; 2) that Haven was to acquire the notes of a valuable company known as Recreational Vehicles, Inc. ("RVI") in return for the sale of Brown's Limousine Services, Inc., ("Brown's"), a Haven subsidiary; 3) that Haven and Oil Resources, Inc. ("Oil Resources"), a Liederman-controlled corporation, were to acquire the stock of Barco of California, Inc. ("Barco"); 4) that Haven was about to sell its stock in the National Sugar Refining Company ("National Sugar"), a Haven subsidiary, for a price which would increase the value of Haven stock from $ 4.00 to $ 5.00 per share; 5) that Airport Services, Inc. ("Airport"), Haven's subsidiary, had acquired worldwide marketing rights to the G.R. Valve, a gas-saving device for automobiles; and 6) that Haven was about to acquire Media Creations, Ltd. ("Media"), a profitable business engaged in the production of television commercials. (Id., pp. 15-16). Each of these tips was allegedly false or misleading as described in detail below.
The defendants made sales of National Hospital stock to some of the plaintiffs by telling them that Haven's president had informed them that National Hospital was about to sell nine hospitals to American Medicorp and that the sale would greatly increase the value of National Hospital stock. Liederman subsequently disclosed this information publicly in April 1969. In April, 1971, however, Liederman announced that only five hospitals had been sold and that the proceeds of this sale, $ 16,000,000 in American Medicorp debentures, equaled less than $ 3.00 per share of National Hospital stock. (Id. p. 16).
As to the tip concerning Haven's sale of Brown's to RVI for RVI's valuable notes, plaintiffs allege that several of the individual defendants conspired to acquire Brown's assets for themselves and for RVI. Although Haven disclosed that the sales price for Brown's assets was $ 580,000, consisting of a $ 425,000 non-interest bearing convertible note and a $ 155,000 9% Note due in September, 1972, Haven purportedly failed to disclose to plaintiffs that RVI was a "shell" created by defendant Liederman and that RVI had no assets with which to pay any portion of the principal amount and interest. Plaintiffs further contend that on March 29, 1972, RVI compelled Haven to convert the $ 425,000 note into 223,684 shares of RVI stock. Defendants Robert Green and Co., Inc. ("Green") and J. L. Schiffman and Co., Inc. ("Schiffman"), registered broker-dealers, allegedly maintained an inflated market for RVI shares and Haven incurred a $ 300,000 loss as a result of the conversion. On April 5, 1972, defendants Liederman and Alvin Schwartz, an officer and director of both RVI and Brown's, initiated an agreement between Haven and Brown's pursuant to which no inter-company transactions would be permitted for two years thereby preventing Brown's from paying to Haven any debts owned by RVI. (Id., pp. 16-18).
Plaintiffs also allege that Brown's prospectus of December 31, 1972 prepared by defendant law firm Wagner, Kaufman & DiMaio ("Wagner"), contained several misstatements and omissions. While that prospectus stated that defendant Schwartz had agreed to purchase 405,000 RVI shares from Haven and others, it allegedly failed to disclose that Schwartz had agreed simultaneously to sell those shares to nominees for defendants Schwartz and Liederman and that these persons planned to resell the shares publicly at an inflated market price of $ 1.25 per share in conjunction with a planned public offering of Brown's stock. In 1972, Haven allegedly agreed to sell 150,000 of its shares to Schwartz for $ 37,500 on condition that Schwartz resell his RVI shares to the nominees for eventual public resale. Haven did not disclose the existence of this agreement until its proxy statement of August 31, 1973, at which time it falsely disclosed that the agreement had been reached in March 1973 and omitted Schwartz's name in order to conceal his identity. Defendant Wagner, a New York law firm which acted as counsel to Brown's and RVI, knew of the scheme to resell these shares and induced defendant Paul Gerstner to act as escrow agent for Schwartz and his nominees. (Id., pp. 18-20).
Plaintiffs charge Haven and defendant Donald Bezahler, the corporation's secretary-treasurer, with falsely disclosing in Haven's August 31, 1973 Proxy Statement that Haven exchanged the $ 155,000 9% Note it had received as part of the consideration for the sale of Brown's assets for 47,500 shares of Brown's unregistered stock when, in fact, Haven's officers, Bezahler and Liederman, had been informed by the Wagner law firm that any such transfer would violate the agreement between Brown's and RVI prohibiting inter-company transactions. Bezahler and Liederman allegedly failed to disclose that the 47,500 shares were never delivered by RVI to Haven as a result of Wagner's disapproval. Nevertheless, Haven and its accountant, Ernst & Ernst, falsely listed the 47,500 shares as an asset on Haven's financials. In 1974, Wagner obtained a default judgment against RVI and thereby recovered RVI's sole asset its 350,000 shares of Brown's stock. Wagner then began to loot Brown's assets. Defendants Bezahler and Liederman were allegedly informed of this development but took no action to protect the interest of Haven or its shareholders despite RVI's outstanding indebtedness to Haven. In its Form 10-K for the period ending December 31, 1973, Haven disclosed that it was writing off its entire investment in RVI and Brown's as "worthless". (Id., pp. 20-22).
As to the tip concerning Haven's acquisition of Barco stock, plaintiffs further allege that Liederman caused Haven to purchase 10,000 shares of Barco common stock at inflated prices for the benefit of sellers including defendant Irwin Buchalter, a principal in both Haven and Barco, and others related to Liederman. Haven failed to disclose that Buchalter was an officer, director and shareholder of Barco or that Liederman had caused Oil Resources to purchase 17,500 shares of Barco at an average price of $ 14 per share just prior to Haven's purchase of Barco shares at $ 19 per share. Haven also allegedly failed to disclose that Buchalter and others were able to sell Barco shares at inflated prices because Liederman purchased over 10% Of Barco's publicly traded shares through Haven and Oil Resources. Brokers Green and Schiffman, at Liederman's direction, allegedly maintained markets in Barco's stock and thereby aided and abetted the scheme to cause its market value to rise. (Id., p. 23).
During November and December 1972, Liederman allegedly manipulated the market for Haven stock so as to cause the market value of its stock to double temporarily from $ .62 per share to $ 1.25 per share. Despite his knowledge of material adverse information relative to Haven's financial condition in October, 1972, Liederman purportedly directed defendant brokers Green, Schiffman, Lerner & Co., Inc. ("Lerner"), and Oftring & Co. Inc. ("Oftring & Co.") to purchase Haven shares based upon his false statement that Haven was about to sell its interest in National Sugar for a price that would cause Haven stock to be worth from $ 4.00 to $ 5.00 per share. Several plaintiffs were told by these brokers and their registered representatives that Liederman, as Haven's president, had given them this inside information and were thereby induced to purchase Haven shares. Haven, however, was unable to sell National Sugar at a price equal to its book value and it had not received an offer to purchase National Sugar from anyone. In April, 1973, Haven finally disclosed that over $ 15 million of its $ 25 million investment in National Sugar had to be written off as a loss, but allegedly neglected to state that National Sugar would have to be sold at any price to avoid bankruptcy. (Id., pp. 23-25).
In March, 1974, Liederman, brokerage houses Lerner, Green, Schiffman, Harris Upham & Co. ("Harris Upham") and others allegedly engaged in a scheme to inflate the price of Haven's shares. Haven had previously negotiated for the acquisition of the marketing rights to the "G.R. Valve", a gas saving device for automobiles manufactured by N.C. Industries, Inc. ("N.C."). Liederman and defendant Hartley Lord, a Haven director, disclosed the proposed acquisition to the defendant brokerage firms to induce them to buy Haven shares, and to sell them to the public prior to Haven's public disclosure of the deal. The brokerage firms first purchased such a large quantity of Haven stock that its market price tripled between March 11 and March 31, 1974. The firms then sold Haven and Airport stock to plaintiffs on the basis of inside information concerning Haven's plans to acquire the marketing rights. In furtherance of the scheme, Liederman sent several G.R. Valves to various brokers to give them to plaintiffs in order to persuade them to purchase Haven stock. The market price of Haven stock was also artificially inflated in this period due to the brokerage firms' selling stock back and forth between themselves. On April 1, 1974, Haven issued a press release announcing the acquisition of the marketing rights but failed to disclose that Haven's rights would not be exclusive. Although N.C. terminated the agreement on October 2, 1974 on the ground that Haven had misrepresented its capability and intent, Haven allegedly failed to disclose this information. Defendant Green allegedly continued to spread false information concerning N.C. marketing rights after N.C. completed plans to market its product through another corporation. (Id., pp. 25-28).
On September 10, 1974, Haven announced plans to acquire assets of defendant Media Creations Ltd. ("Media") but allegedly failed to disclose that the purpose behind the transaction was to utilize Haven's assets to rescue Media from financial disaster and to benefit Media shareholders. Haven also failed to disclose that: 1) it had loaned Media $ 150,000; 2) a long time relationship existed between the principals of Haven and Media; and 3) Media shareholders would control Haven's board of directors upon approval of the proposed acquisition. (Id., pp. 29-30).
Plaintiffs contend that the defendants "made every effort" to prevent them from selling their Haven stock once they had purchased it. Defendants allegedly employed unspecified "legal pressures" as well as false statements concerning the stock's future value to induce plaintiffs to retain their holdings. (Id., p. 31).
Counts II, III and IV of the amended complaint incorporate by reference the allegations of Count I. In Count II, plaintiffs contend that the defendants who bought or sold the stock of Haven and its related companies did so on the basis of inside information in violation of the securities laws. (Id., p. 35). Count III charges that the defendant brokerage firms failed to exercise due care in the supervision of the activities of their respective registered representatives in permitting them to use fraudulent sales methods. (Id., pp. 35-36). Similarly, in Count IV, plaintiffs allege that defendants Ernst & Ernst, Wagner and Haven directors Liederman, Bezahler, Buchalter, Nathan Bilger and Niel Rosenstein failed to exercise due care as accountants, lawyers and directors by neglecting to discover, report or prevent the fraud that was perpetrated upon plaintiffs.
Count V arises out of a transaction unrelated to the Liederman scheme. Nine plaintiffs allege that defendants Oftring & Co., its president Frank Oftring and its registered representative Nelson Carpentier sold them stock in a corporation known as Tilco on the representation that it had developed an efficient steam engine for automobiles that would be an immensely successful product. Plaintiffs contend that these three defendants knew that Tilco dealt in oil and gas leases and had not developed any such engine. Tilco subsequently went bankrupt and plaintiffs lost their entire investment. In addition, two plaintiffs allege that defendant Carpentier sold them stock in Investors Funding Corporation ("IFC") by representing that this corporation was a bank and that its stock was a safe investment. Carpentier allegedly knew, however, that IFC was ...