The opinion of the court was delivered by: Cannella, District Judge:
Defendants' motion for partial summary judgment is granted
in part and denied in part. Fed.R.Civ.P. 56. Plaintiff's
motion for leave to file a third amended complaint is granted.
Fed.R.Civ.P. 15(a). Plaintiff's motion for reversal or
modification of Magistrate Gershon's denial of its motion to
compel the deposition testimony of Levine is denied.
28 U.S.C. § 636(b)(1)(A) (1982). Plaintiff's motion to set aside
Magistrate Gershon's ruling granting defendants' motion to
strike plaintiff's reservation of right to supplement its Rule
26(b)(4) statement is denied. 28 U.S.C. § 636(b)(1)(A) (1982).
This action has been before the Court on prior motions and,
therefore, complete familiarity with the underlying facts is
assumed. Only those facts relevant to the instant motions will
be set forth below.
In November 1982, plaintiff, Litton Industries, Inc.
["Litton"], retained defendant Lehman Brothers Kuhn Loeb, Inc.
(now known as Shearson Lehman Brothers) ["Lehman Brothers"] to
provide services in connection with Litton's tender offer
acquisition for all the outstanding securities of Itek
Corporation ["Itek"]. Defendant Dennis Levine, an employee in
Lehman Brothers' mergers and acquisitions department,
allegedly learned of Litton's proposed tender offer from
defendant Ira B. Sokolow, another employee of Lehman Brothers.
In its second amended complaint [the "Complaint"], Litton
alleges that Levine purchased 50,000 shares of Itek in advance
of the public disclosure of Litton's tender offer through
defendant Bank Leu International Limited (now known as Leu
Trust and Banking (Bahamas) Limited) ["BLI"]. The Complaint
further alleges that another 10,000 shares were purchased in
open market transactions by defendants Jean-Pierre Fraysse
(BLI's managing director), Bernhard Meier and Christian
Schlatter (BLI employees), and BLI itself. Other defendants
who allegedly assisted Levine in his massive trading based on
nonpublic information include Bank Leu, A.G. ["BLZ"], John R.
Lademann (BLI board member), Bruno Pletscher (BLI general
manager), and Robert Wilkis (investment banker with Lazard
Freres & Company). The gravamen of Litton's Complaint is that
these illegal insider purchasers artificially inflated the
market price of Itek stock, causing Litton to pay more than it
otherwise would have had to pay in both its open market
purchases of Itek stock and in its tender offer for the
outstanding Itek securities.
Prior to the commencement of this action, certain defendants
disgorged all or part of their profits from trading in Itek
securities to the Securities and Exchange Commission [the
"SEC"]. Pursuant to paragraph eight of an agreement between
defendant BLI and the SEC executed on March 19, 1986, BLI
agreed to disgorge on behalf of itself and its employees
(other than Meier) all profits realized from the purchase and
sale of Itek securities. BLI disgorged a total of $53,747.07
to the SEC as profit realized by BLI and two of its employees
(Schlatter and Fraysse) from transactions in Itek securities
through accounts maintained at BLI. This disgorgement
represents BLI's profit of $14,879.15, Schlatter's profit of
$24,038.77, and Fraysse's profit of $14,829.15. See Declaration
of Henry A. Hubschman in Support of Motion for Partial Summary
Judgment, at ¶¶ 3-5, 86 Civ. 6447 (JMC) (S.D.N.Y. Oct. 26,
1989) ["Hubschman Declaration"]. The other remaining moving
defendants — BLZ, Lademann, and Pletscher — did not trade in
Itek securities and, therefore, did not disgorge any profits to
Levine realized a profit of $12,651,753.99 from the purchase
and sale of securities, including a profit of $805,035.00 from
the purchase and sale of 50,000 shares of Itek securities
transacted through an account maintained on his behalf at BLI.
See Hubschman Declaration, at ¶¶ 6, 8. In connection with a
prior insider trading action filed against Levine by the SEC,
Levine executed a Consent and Undertaking on June 4, 1986,
whereby he agreed to the entry of a "Final Judgment of
Permanent Injunction and Other Equitable Relief." See SEC v.
Levine, 881 F.2d 1165, 1169 (2d Cir. 1989). Pursuant to the
Consent and Undertaking, Levine disgorged assets valued at
$11.5 million to a receiver for satisfaction of any claims
against Levine "`arising out of the purchase and sale of
securities by [Levine and his companies] as alleged in the
Complaint'" filed by the SEC. Id. (quoting Consent and
Undertaking, at ¶ 8 (July 4, 1986)). The SEC complaint included
transactions in securities of Itek.
Among the various types of relief sought in the instant
action, Litton seeks disgorgement of all profit, fees, and
commissions earned from the sale and purchase of Itek
securities by defendants Levine, Sokolow, Wilkis, Fraysse,
Schlatter, Meier, BLI, and any third party acting on
information supplied by any of the defendants. See Complaint,
Relief ¶ 2.
There are four motions presently before the Court. First,
defendants BLZ, BLI, Lademann, Pletscher, Schlatter, Fraysse,
and Levine [collectively the "Bank Leu defendants"] seek
partial summary judgment on Litton's claim for disgorgement of
all profit, fees, and commissions earned on the purchase and
sale of Itek securities. Second, Litton moves for leave to
file a third amended complaint. Third, Litton moves for
reversal or modification of Magistrate Gershon's denial of its
motion to compel the deposition testimony of Levine. Lastly,
Litton moves to set aside Magistrate Gershon's ruling granting
defendants' motion to strike plaintiff's reservation of right
to supplement its Rule 26(b)(4) statement.
A. Disgorgement of Profits
The traditional measure of damages for a violation of
Section 10(b) and Rule 10b-5 is the out-of-pocket rule as
developed in the tort action of deceit. See, e.g., Huddleston.
v. Herman & MacLean, 640 F.2d 534, 555 (5th Cir. 1981), aff'd
in part, rev'd in part on other grounds, 459 U.S. 375, 103
S.Ct. 683, 74 L.Ed.2d 548 (1983); Blackie v. Barrack,
524 F.2d 891, 909 (9th Cir. 1975), cert. denied, 429 U.S. 816, 97 S.Ct.
57, 50 L.Ed.2d 75 (1976); Levine v. Seilson, Inc.,
439 F.2d 328, 334 (2d Cir. 1971). With respect to defrauded sellers
under Rule 10b-5, the Supreme Court has recognized that the
proper measure of out-of-pocket loss is the difference between
the value of what the seller received and the value of what the
seller would have received had there been no fraudulent
conduct. Affiliated Ute Citizens v. United States,
406 U.S. 128, 155, 92 S.Ct. 1456, 1473, 31 L.Ed.2d 741 (1972); see also
Alley v. Miramon, 614 F.2d 1372, 1387 (5th Cir. 1980) ("As a
general rule, the correct measure of a seller's damages in a
10b-5 action is the difference between the price received and
the value of the securities at the time of the fraudulent
transaction."). However, the Supreme Court recognized one major
exception to this customary measure of damages. Where the
defrauding purchaser receives more than the seller's actual
loss, the proper measure of damages shall be the amount of the
purchaser's profits. Affiliated Ute Citizens, 406 U.S. at 155,
92 S.Ct. at 1473.
The origin of the disgorgement measure of damages for
defrauded sellers of securities endorsed by the Supreme Court
in Affiliated Ute Citizens is Janigan v. Taylor, 344 F.2d 781
(1st Cir.), cert. denied, 382 U.S. 879, 86 S.Ct. 163, 15
L.Ed.2d 120 (1965). In Janigan, the First Circuit recognized
that the profit made by a purchaser who acquired property by
fraud should be deemed the proximate consequence of the fraud
since the profit would not have accrued absent the fraudulently
induced sale. 344 F.2d at 786. Although the Janigan
disgorgement measure of damages has been applied primarily in
the context of a defrauded seller, the Second Circuit has
expressly rejected any such limitation. See Zeller v. Bogue
Elec. Mfg. Corp., 476 F.2d 795, 802 (2d Cir. 1973). Other
circuits have similarly recognized that disgorgement principles
apply equally to an innocent party induced to purchase
securities. See, e.g., Pidcock v. Sunnyland America, Inc.,
854 F.2d 443, 447 n. 7 (11th Cir. 1988); Hackbart v. Holmes,
675 F.2d 1114, 1122 (10th Cir. 1982); Ohio Drill & Tool Co. v.
Johnson, 498 F.2d 186, 191 (6th Cir. 1974); Occidental Life
Ins. Co. v. Pat Ryan & Assocs., Inc., 496 F.2d 1255, 1265 (4th
Cir.), cert. denied, 419 U.S. 1023, 95 S.Ct. 499, 42 L.Ed.2d
In the instant action, plaintiff seeks a damage award from
the Bank Leu defendants measured by the value of their illegal
profits. While disgorgement is clearly permitted as a proper
measure of damages in a 10b-5 action, it is essential to bear
in mind that disgorgement is a mechanism by which the
equitable remedy of restitution is effectuated. See Tull v.
United States, 481 U.S. 412, 424, 107 S.Ct. 1831, 1839, 95
L.Ed.2d 365 (1987); 5 J. Moore, J. Lucas & J. Wicker, Moore's
Federal Practice ¶ 38.24, at 38-206 (2d ed. 1988). In fact,
the Janigan court — which pioneered the disgorgement measure
of damages — concluded that disgorgement is a proper
alternative measure of damages because "it is simple equity
that a wrongdoer should disgorge his fraudulent enrichment."
Janigan, 344 F.2d at 786. The Supreme Court has recently
recognized that the disgorgement measure of damages in a 10b-5
action is a remedy designed to prevent unjust enrichment.
Randall v. Loftsgaarden, 478 U.S. 647, 663, 106 S.Ct. 3143,
3152, 92 L.Ed.2d 525 (1986) (quoting Janigan, 344 F.2d at 786).
It is clear that the underlying purpose of allowing
disgorgement as an exception to the traditional out-of-pocket
measure of damages is to prevent unjust enrichment. Thus, the
Court finds that once ill-gotten gains have been disgorged to
the SEC, there remains no unjust enrichment and, therefore, no
basis for further disgorgement in a private action. Any other
result would conflict with the well settled principle in the
Second Circuit that a private party may not recover punitive
damages for a violation of Section 10(b) and Rule 10b-5.
See, e.g., Manufacturers Hanover Trust Co. v. Drysdale Sec.
Corp., 801 F.2d 13, 29 (2d Cir. 1986), cert. denied sub nom.,
Arthur Anderson & Co. v. Manufacturers Hanover Trust Co.,
479 U.S. 1066, 107 S.Ct. 952, 93 L.Ed.2d 1001 (1987); Globus v. Law
Research Serv., Inc., 418 F.2d 1276, 1283 (2d Cir. 1969), cert.
denied, 397 U.S. 913, 90 S.Ct. 913, 25 L.Ed.2d 93 (1970); Green
v. Wolf Corp., 406 F.2d 291, 302-03 (2d Cir. 1968), cert.
denied, 395 U.S. 977, 89 S.Ct. 2131, 23 L.Ed.2d 766 (1969).
Once ill-gotten profits have been disgorged to the SEC, further
disgorgement as damages in a private action is clearly punitive
in its effect and would constitute an impermissible penalty
Decisional law touching on related issues supports this
limitation on the availability of the disgorgement measure of
damages in a private action under Section 10(b) and Rule
10b-5. For example, in National Westminster Bancorp NJ v.
Leone, 702 F. Supp. 1132 (D.N.J. 1988), the court considered
whether a corporation could recover its statutory remedy under
Section 16(b) of the 1934 Act for disgorgement of profits
realized in short-swing trading by insiders when the SEC had
already settled a separate suit for disgorgement under Rule
10b-5. Plaintiff asserted that the profits disgorged to the SEC
in the 10b-5 action were substantially lower than the proper
calculation of profits under Section 16(b). Id. at 1134.
Defendants, on the other hand, argued that no profits remained
to be disgorged since it paid all profits to the SEC pursuant
to its settlement. Id. at 1135. The court held that "plaintiff
may not recover from defendants any profits already disgorged
to SEC in the prior action, but plaintiff may attempt to prove
the insufficiency of the SEC settlement and recover any
difference between actual profits and the amount disgorged to
the SEC." Id. at 1140. The Court finds no meaningful legal
distinction between Leone, which involved a private action
under Section 16(b), and the instant action, which involves a
private action under Section 10(b). Under both sections,
disgorgement is a proper measure ...