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FOGEL v. CHESTNUTT

June 19, 1980

ROSALIND FOGEL and GERALD FOGEL, Plaintiffs, against GEORGE A. CHESTNUTT, JR., JOHN CURRIER, FRANK G. FOWLER, JR., WARREN K. GREENE, RICHARD W. RADCLIFFE, STANLEY L. SABEL, FRANCIS L. VEEDER, AMERICAN INVESTORS CORPORATION, AMERICAN INVESTORS FUND, INC., CHESTNUTT CORP., Defendants.


The opinion of the court was delivered by: WYATT

This is the decision on the issue of damages to be awarded against defendants Chestnutt Corporation, Chestnutt, Jr., Sabel, Greene, and Currier in favor of American Investors Fund, Inc. (the Fund) for whose benefit this derivative action was brought by the two Fund stockholders who are plaintiffs.

The action was tried to this Court without a jury on the issue of liability alone. There was a demand for a jury trial by plaintiffs but, assuming that a jury trial would have been required, all parties waived any right to a jury trial.

 On October 29, 1974, this Court filed an opinion directing judgment for defendants, dismissing the action on the merits. 383 F. Supp. 914.

 On December 30, 1975, the judgment of dismissal was reversed by the Court of Appeals. 533 F.2d 731 (2nd Cir.) Judge Friendly wrote a careful opinion for a unanimous Court. The defendants named first above were found liable to the Fund, guidance was given on the issue of damages, and the action was remanded for determination of damages. Certiorari was denied on October 4, 1976. 429 U.S. 824, 97 S. Ct. 77, 50 L. Ed. 2d 86.

 On October 27, 1976, an order of this Court was filed which referred the determination of damages to Honorable Sol Schreiber, then a United States Magistrate, who was asked "to file his report thereon with findings of fact and conclusions of law". Fed.R.Civ.P. 53.

 Between January 18, 1977, and June 2, 1977, Magistrate Schreiber heard testimonial evidence, received other evidence, and listened to arguments.

 On November 6, 1978, the report of the Master, dated October 31, 1978, was filed. That report, after explanations, findings and conclusions, determined that the damages were $ 349,013.04 plus interest.

 On November 13, 1978, counsel for plaintiffs filed three documents:

 
a. "Objections to the Magistrate's Report";
 
b. "Memorandum in Support of Plaintiff's objections to the Magistrate's Report"; and
 
c. "Notice of Motion" for an order modifying the Master's Report and entering judgment accordingly.

 On November 16, 1978, counsel for defendants served but did not file two documents:

 
a. "Defendants' Objections to the Magistrate's Report"; and
 
b. "Memorandum in Support of Defendants' Objections to the Magistrate's Report."

 On November 20, 1978, counsel for defendants filed a document:

 
"Notice of Cross Motion and Suggestion".

 The cross motion was for an extension of time for the parties "to complete their presentation of facts and law to the Court."

 On November 22, 1978, counsel for plaintiffs filed a document:

 
"Plaintiffs' Memorandum in Connection With the Magistrate's Report and in Opposition to Defendants' Cross Motion".

 On February 6, 1979, there was a conference between Court and counsel; the conference was stenographically reported. Among other things, a time was fixed within which defendants could complete their papers dealing with the Master's Report. Oral argument on that subject was set for March 2.

 On February 20, 1979, counsel for defendants filed two documents:

 
a. "Notice of Motion" for an order modifying the Master's Report and directing entry of a judgment dismissing the Supplemental Complaint"; and
 
b. "Memorandum in Support of Motion to Modify Magistrate's Report and to Dismiss Complaint."

 On March 2, 1979, counsel were heard in oral argument.

 1.

 Plaintiffs object to one portion of the Master's Report, that contained in Section IIIB of the Report where the Master finds that damages should not be awarded for failure to recapture "reciprocal brokerage and crosses".

 Defendants object to each and every thing contained in the Master's Report, assert that no damages have been proved, and that the action should be dismissed on the merits. Defendants attempt to support their position, not by discussion of the evidence as to damages but by reargument of the matters decided by the Court of Appeals.

 It is my duty to accept the opinion and decision of the Court of Appeals and, on the basis of the record made before the Master and with the help of his Report, to direct the entry of a correct judgment for money damages.

 American Investors Fund, Inc. will be referred to herein as "the Fund". Chestnutt Corporation will be referred to herein as "the Adviser." The New York Stock Exchange will be referred to herein as "NYSE". American Stock Exchange will be referred to herein as "Amex". National Association of Securities Dealers, Inc. will be referred to herein as "NASD" (see 15 U.S.C. § 78o -3).

 2.

 The motion or suggestion or idea of the defendants that the action should be at this stage dismissed on the merits is rejected as without merit and is in all respects denied.

 3.

 This Court and the Court of Appeals were in agreement that the Adviser had a duty to recapture all excess brokerage and give-ups and all tender offer fees. This Court believed that no such recapture was possible. The Court of Appeals disagreed, holding that the Adviser or a subsidiary of the Adviser (often called an "affiliate") could and should have become a member of NASD. (For convenience, the term "Adviser" will often include a subsidiary or affiliate of the Adviser.) The Court of Appeals also held that the Adviser could and should have become a member of PBW Exchange. Had such memberships been secured, the Court of Appeals pointed to four areas in which recapture for the benefit of the Fund would have been possible:

 A. As a member of NASD, the Adviser would have been entitled to give-ups of up to 40% of commissions on transactions executed on the PBW Exchange (533 F.2d at 750; reference was also made to a similar entitlement on Pacific Coast Exchange transactions, but plaintiffs do not here press any claim for damages in respect of the Pacific Coast Exchange);

 B. As a member of PBW Exchange, the Adviser "could have received a substantial portion of commissions as an introducing broker, perhaps as much as 80%" (533 F.2d at 752);

 C. As a member of PBW Exchange, the Adviser could also have obtained "PBW Exchange business from NYSE brokers in return for placing orders with them for execution on that exchange" (533 F.2d at 762; this would be a form of reciprocal arrangement); and

 D. As a member of NASD, the Adviser would have been eligible to receive tender offer fees (533 F.2d at 750; when a tender offer is made, the maker usually advertises an agreement to pay a fee to any NASD member named by a stockholder who tenders, the fee being a specified amount per share tendered and accepted).

 It will be noted that recapture in areas A and B above could not both be obtained because this would be duplicative. If the Adviser were a member of the PBW Exchange and of NASD, recapture as a PBW Exchange member (area B) would be more advantageous for the Fund because the permitted percentage recapture would be higher.

 The Court of Appeals, in giving guidance as to damages, ruled as to the period of time involved. The period of liability begins on March 1, 1967 (533 F.2d at 755). The period of liability for failure to recapture give-ups through membership in NASD ends on December 6, 1968, when give-ups were abolished by the stock exchanges (533 F.2d at 740, 755). The period of liability for failure to recapture through membership in the PBW Exchange ends on March 29, 1973, the effective date of Rule 19b-2 which made it essential for stock exchange members to conduct a "public business" of brokerage and thus abolished institutional recapture memberships (in this Court's earlier opinion the effective date of Rule 19b-2 was stated to be March 15, 1973 (383 F. Supp. 914 at 918 (D.C.)); this was an error; the Rule as promulgated in the Federal Register (38 Fed.Reg. 3928 (1973)) was stated to be effective March 15, 1973, but because of litigation this date was later postponed by SEC order to March 29, 1973). The period of liability for failure to recapture tender offer fees ends on the day of judgment unless this Court finds reason in the record to rule otherwise.

 The Master found damages of $ 144,143.81 in area B; no damages in area C; and damages of ...


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