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IN RE GAS RECLAMATION

March 27, 1990

IN RE GAS RECLAMATION, INC. SECURITIES LITIGATION.


The opinion of the court was delivered by: Sand, District Judge.

  OPINION

In this multidistrict case consolidated before this Court for pretrial matters, investors in Gas Reclamation, Inc. ("GRI") bring suit for violations of federal securities laws, the Racketeer Influenced and Corrupt Organizations Act ("RICO") and various state statutory and common laws. We consider now the motion for summary judgment brought by Northwestern National Insurance Company of Milwaukee, Wisconsin ("Northwestern")*fn1 and the cross-motions for summary judgment brought by two separate groups of plaintiffs, (1) the Breese Investors and (2) the Abish Investors, the Bard Investors, Herbert W. Katz and Manuel L. Katz (collectively, the "Abish Investors"). The Court has also received papers in opposition to Northwestern's motion from Robert A. Hudson and Alan S. Cummings, two other investors in GRI.

  In our Opinion of April 9, 1987 (published at 659 F. Supp. 493
 (S.D.N.Y. 1987)), familiarity with which is assumed, this
Court described in detail the factual background of these
cases. Each of the plaintiff-investors purchased one or more
Gas Reclamation Units ("Units") from defendant GRI pursuant to
a Private Placement Memorandum ("PPM") dated April 12, 1984.
The Units included an agreement to purchase from GRI a gas
recovery and refrigeration plant and an agreement that GRI
would install and maintain the plant on behalf of each
investor. The gas plants were designed to condense natural gas
through refrigeration into liquid natural gas. Each investor
borrowed 95 percent of the purchase price from either The
Connecticut National Bank, Ensign Bank FSB, Morris Savings
Bank or Privatbanken A/S (collectively, the "Banks").
Northwestern issued surety bonds guarantying the investors'
payments on their notes to the Banks, and each investor also
executed an indemnification agreement promising to reimburse
Northwestern for any payments or other damages Northwestern
might incur under the surety bonds.

The investors' first payments on their notes were due in January or February, 1985. When the investors did not receive any income from the operation of their gas recovery plants, virtually all of them defaulted on their notes. In February, 1985, GRI filed for bankruptcy under Chapter 11. The Banks thereafter demanded payment from Northwestern pursuant to the surety bonds. Northwestern continued to make payments as they became due on the investors' notes until October, 1987. The investors filed suit against GRI, its principals, the brokers who sold the Units, and Northwestern. Northwestern seeks in its counterclaims to recover from the investors the payments it has made or will make to the Banks.

The Abish Investors and the Breese Investors argue in their cross-motion for summary judgment that the surety bonds and indemnification agreements are void under section 29 of the Securities Exchange Act of 1934. Northwestern argues in support of its motion for summary judgment that there is no factual basis for the claims asserted in the Consolidated Complaint against Northwestern for violations of section 10(b) of the Securities Exchange Act of 1934, section 12 of the Securities Act of 1933, civil RICO, and various state statutory and common laws. We consider each of these claims in turn.

Rule 56(c) of the Federal Rules of Civil Procedure provides that a motion for summary judgment shall be granted if "there is no genuine issue as to any material fact and . . . the moving party is entitled to a judgment as a matter of law." "[T]he substantive law will identify which facts are material," and a genuine dispute exists if a reasonable jury viewing the evidence could decide in favor of the non-moving party. Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 248, 106 S.Ct. 2505, 2510, 91 L.Ed.2d 202 (1986). The Court must "resolve all ambiguities and draw all reasonable inferences in favor of the party defending against the motion." Eastway Constr. Corp. v. City of New York, 762 F.2d 243, 249 (2d Cir. 1985), cert. denied, 484 U.S. 918, 108 S.Ct. 269, 98 L.Ed.2d 226 (1987).

This Court also finds that genuine issues of fact exist concerning the extent of Esrine's activities. A reasonable jury could find that Esrine helped structure the financing of the GRI offering, reviewed drafts of the PPM and proposed revisions to them. See Affidavit of Richard L. Gold in Opposition to Northwestern's Motion for Summary Judgment and in Support of the Abish Investors' Cross-Motion for Summary Judgment ¶¶ 63, 80ff [hereinafter Gold Affidavit]. A jury could also conclude that Esrine knew about and distributed the Jordan Program Checks, an allegedly misleading summary of historical production and financial data for several units. See Gold Affidavit ¶ 115. Additional testimony supports a finding that Esrine drafted a letter sent from Bob Jordan to several investors in October, 1984 which falsely stated that Northwestern had "thoroughly examined" the GRI offering, see Jordan dep., pp. 541-42, and that Esrine attended various closings of Northwestern transactions where he delivered Northwestern bonds and collected the bond premiums for Northwestern, see Recard dep., p. 891. From the evidence compiled in the deposition extracts and exhibits submitted with these motions, a reasonable jury could conclude that Esrine knew that GRI was severely undercapitalized and that Makris, a convicted felon, played an important role in the day-to-day operations of GRI.

Section 29

In their cross-motions for summary judgment, the Abish Investors and the Breese Investors seek a declaration that the "Waiver of Defenses" provisions in the surety bonds are void under section 29(a) of the Securities Exchange Act of 1934, 15 U.S.C.A. § 78cc(a) (1981), and rescission of their indemnity agreements with Northwestern under section 29(b) of the Securities Exchange Act of 1934, 15 U.S.C.A. § 78cc(b) (1981).*fn2

The financial structure of the GRI private placement centered on agreements between three groups of parties: the investors, the Banks and Northwestern. The investors borrowed 95 percent of the units' purchase price from the Banks as evidenced by the promissory notes. Northwestern simultaneously issued surety bonds to the Banks guarantying the investors' payments on their notes, and the investors signed indemnification agreements with Northwestern promising to reimburse Northwestern for any payments or other damages Northwestern might incur under the surety bonds.

The parties agree that the surety bonds issued by Northwestern to the Banks included the following waiver, first as a rider to the surety bonds and then as a provision in the surety bonds themselves:

9A. Waiver of Defenses

  . . . The following shall not relieve the Surety
  [Northwestern] of its obligations to the
  Permitted Assignee [Bank] under this Bond:
  a. Any misinformation, breach of warranty, fraud,
  misrepresentation or failure to provide any
  information by any Principal [investor] or the
  Obligee [Bank or GRI] or any other person (except
  the Permitted Assignee).
  b. Any violation of the securities laws of the
  United States or of any state of the Obligee, the
  Permitted Assignee or any other person in
  connection with the transaction in which the
  Notes were issued.
  c. Any defect in any Note that renders such Note
  void, voidable, unenforceable or uncollectible,
  in whole or in part, or subject to any set-off,
  claim or defense, real or personal, including,
  without limitation, fraud, forgery or usury.
  d. The failure of the Permitted Assignee or any
  payee or endorsee of any Note to be a
  holder-in-due-course or the non-negotiability of
  any Note.

See Gold Affidavit at ¶¶ 71-72; Aff.Ex. 64; Northwestern's Deposition Exhibits Cited in Memorandum of Law, Ex. 10. Paragraph 3 of the surety bonds also provides for a similar waiver of defenses:

  Defenses available to the Surety [Northwestern]
  or any Principal [investor] against the Obligee
  [Bank or GRI] or Permitted Assignee [Bank] to
  deny payment of the Notes or of a claim under
  this Bond due to acts or omissions of the Obligee
  or Permitted Assignee, or other entity or person
  (except for changes in the Notes made without the
  written consent of the Surety or for acts of
  gross negligence or willful misconduct by the
  Permitted Assignee) shall not be valid against
  the Permitted Assignee. Such defenses include but
  shall not be limited to:

a) the invalidity of any Note;

b) the illegality of any Note;

c) the unenforceability of any Note;

  d) the bankruptcy of the Obligee or any
  Principal;
  e) Any defense that the Principal is under no
  obligation to discharge all or any part of its
  obligations to the Obligee, Permitted Assignee,
  or any other person under the Note, including any
  defense relating to the assignment of the Notes
  or any Principal(s) interest in the Obligee to
  the Permitted Assignee; and
  f) any defense based upon the failure of any
  Principal to execute this Bond or the failure of
  the Obligee to perform its obligations under this
 ...

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