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December 9, 1981

Henry J. MORGAN, Plaintiff,
PRUDENTIAL GROUP, INC.; Prudential Ventures Corp.; Nathan M. Shippee; John T. Becker, Richard N. Funkhouser; Frederick M. Glass; Charles J. Kushell, Jr.; Adolph Magidson; Winston S. McAdoo; Price Waterhouse & Co.; Palmer, Serles& Baar; and Caplin & Drysdale, Defendants

The opinion of the court was delivered by: LASKER

This case arises from plaintiff, Henry Morgan's, ("Morgan") investment in a limited partnership interest in the Plaza One Development Fund ("Plaza One") in May, 1972. The background facts are fully set out in our previous published opinions, 446 F. Supp. 628 (D.C.1978) and 81 F.R.D. 418 (D.C.1978), and are merely summarized here.

In September, 1980, we held that Morgan's third amended complaint stated a cause of action under the Securities Exchange Act of 1934 (15 U.S.C. § 78a et seq.) in particular §§ 10(b), 15(c)(1) and 27, (15 U.S.C. §§ 78j(b), 78o(c)(1), and 78aa), and Securities Exchange Commission Rules 10b-5 and 15c1-2, 17 C.F.R. §§ 204.10b-5 and 240.15c1-2. The complaint alleges that the Plaza One prospectus offered a possibility of obtaining maximum tax benefits through the use of back end leveraging and that, because the defendants knew or should have known before issuing the prospectus that such results would be "impossible" to achieve, the prospectus was fraudulent.

 Defendant Prudential Group, Inc. ("Prudential") established and became the general partner in Plaza One. Defendant Palmer, Serles & Baar ("Palmer, Serles"), Prudential's general counsel, is alleged to have aided and abetted Prudential by drafting the registration statement with knowledge of or in reckless disregard of the fact that it was false and misleading. (Third Amended Complaint P 30). Defendant Caplin & Drysdale, Prudential's tax advisor, is alleged to have aided and abetted Prudential through preparation of the tax opinion included in the prospectus. (Id. PP 31, 32).

 Palmer, Serles and Caplin & Drysdale now move for summary judgment pursuant to Fed.R.Civ.Pr. 56 on the ground that they did not act with requisite scienter, an essential element of a cause of action under section 10(b). Ernst & Ernst v. Hochfelder, 425 U.S. 185, 96 S. Ct. 1375, 47 L. Ed. 2d 668 (1976).

 I. Actual Knowledge

 Both moving parties have submitted affidavits asserting their lack of actual knowledge of the critical facts.

 Morgan argues that summary judgment is improper where the issue is subjective knowledge-a question of state of mind. While it may normally be true that in cases involving states of mind summary judgment is inappropriate because fact questions remain, it is an overstatement to contend that summary judgment may never be justified in such cases. Moreover, the question here is not truly one of "state of mind"-i.e., not one of intent, attitude, motive, point of view-but rather whether defendants actually had knowledge regarding a particular prospectus at a particular time. And even where the question of defendants' belief (as opposed to knowledge) is at issue, there are circumstances in which summary judgment is appropriate.

 For example, in Donnelly v. Guion, 467 F.2d 290 (2d Cir. 1972), the Court of Appeals found summary judgment to have been properly granted although the question of what the defendant had believed was at issue. The court stated that summary judgment would not have been proper if plaintiff had set forth facts in support of her allegations as to defendant's mental state and the district court had resolved the motion by drawing inferences from those facts. However, summary judgment was proper because plaintiff had rested on "vague and conclusory allegations" such that, if the case had proceeded to trial supported only by those allegations, "a directed verdict would have been appropriate." Id. at 293. *fn1"

 Thus, the question presented is whether Morgan has set forth facts sufficient to withstand a motion for a directed verdict.

 Morgan places primary reliance on certain internal Caplin & Drysdale memoranda, written in November, 1972 and June, 1973. *fn2" The memoranda, which record meetings at Caplin & Drysdale's offices at which Caplin & Drysdale and Palmer, Serles members were present, indicate that circumstances had arisen which created concerns on the part of the attorneys as to whether the Prudential prospectuses were defective. For example, in the June, 1973 memorandum, a Caplin & Drysdale partner, Mr. Vincent, records his concern that the prospectus "could be read as not disclosing the possibility of front-end leveraging or the tax consequences of such transactions." (p. 4)

 Morgan argues that, from the fact that defendants appear to have been aware in November, 1972 of certain problems with Prudential's prospectuses, it can be inferred that defendants knew in May, 1972 (the time at which Morgan made his investment) of the particular defect complained of by Morgan, and that Morgan should be allowed to prove the proposition. The argument is unpersuasive.

 It is true that Morgan, as the party opposing the motion for summary judgment, is entitled to those favorable inferences which "may reasonably be drawn" from the facts presented, Empire Electronics Co. v. United States, 311 F.2d 175 (2d Cir. 1962) (emphasis added). Nevertheless, evidence of knowledge in November, without more, will not support a reasonable inference of knowledge in May. Second, these memoranda do not contain a scintilla of evidence to support Morgan's assertion that defendants knew of the specific defect to which, after three amended complaints, Morgan has been limited; that is, that maximum tax benefits through back end leveraging were impossible to achieve.

 Nothing which has been said above should be taken to imply any deviation from the particularly heavy burden imposed on one who moves for summary judgment with respect to a state of mind. A party's mental state is the clearest example of an issue on which the evidence tends to be within the exclusive control of the party whose mental state is at issue, and, in some circumstances, with respect to certain states of mind, e.g., good faith, no evidence may exist other than the sworn testimony of the party himself. However, in this case, where Morgan has been on notice since our 1978 opinion that the defendants' actions in December, 1972 were deemed irrelevant to any injury to Morgan sustained as a result of his purchase in May, 1972, 446 F. Supp. at 633, his failure to use the discovery process, either before the motion or in connection with the motion, to elicit any evidence of knowledge by defendants in or prior to May, 1972 supports the assertions of defendants that there is nothing to discover.

 Morgan's other argument on the issue of actual knowledge, that defendants must have had the requisite knowledge because they were experts in the area and any expert would have known, is refuted by Morgan's own expert, Martin J. Whitman. Whitman states that tax attorneys "knew or should have known" of the relevant facts. (Affidavit of Martin J. Whitman, in opposition to Prudential's motion for summary judgment, P 1 p. 2-3) ("Whitman Affidavit") (emphasis added). If Morgan's own expert is unwilling to conclude ...

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