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OCHS v. SHEARSON LEHMAN HUTTON INC.

May 23, 1991

LAMAR H. OCHS, DAVID C. COLE, IRVING MANN, DAVID S. TAKVORIAN, DAVID B. HALTZCLAU, BEN MARINO, JR., MORRIS R. WESTLUND, DR. PHILLIP E.B. BYRD, JR., MARY B. MCCOMB, WALTER E. FOSTER, LOUIS G. CIAN, F.W. ALBERS, JAMES H. WILLIAMS, JR., EDWARD R. NORFORD, MICHAEL J. & KATHLEEN R. REIDY, DOUGLAS C. PAUL, OLLIE & G.F. MCNAMARA, RICHARD SCHNEIDER, GUY D. & IRENE F. STREVEY, JOAN M. THISTLEWOOD, GLENN SCHROBILGEN, LYNN, LISA & ANNE TORRAY, JTWROS, BETTY KISN, EBERHARD C. VON CLEMM, MARC H. GLICKMAN, M.D., SURENDRAPAL SINGH MAC, JANE A. MILLER, J.J. KASPER, THOMAS E. JONES, THOMAS H. WARE, PATRICIA ANNE MORTON, EDWIN E. MUSSER, JOHN
v.
STEVENS, BENJAMIN C. & PERPETUA B. GUERRA, GEORGE & CHRISTINE GIANNARIS, CHARLES RAILSBACK, DR. ROGELIO F. ARCUNIO, ESTHER & GEORGE G. LEE, M.D., CHARLES W. SCALING, III, GERALD C. CHICHESTER, STEPHEN E. CHIARELLO & PATRICIA F. CHIARELLO AND MICHAEL M. SHAPIRO, PLAINTIFFS, V. SHEARSON LEHMAN HUTTON INC., E.F. HUTTON & COMPANY, INC., HUTTON REAL ESTATE SERVICES II, INC., CONTINENTAL REAL EQUITIES, CR, BUTTERFIELD VENTURE CORPORATION, BERNARD W. BAKER, AND GARY L. LANGENDOEN, DEFENDANTS.



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

  MEMORANDUM OPINION AND ORDER

In this action based upon the Securities Exchange Act of 1934 and the civil RICO statute, various defendants move under Rules 9(b) and 12(b)(6), Fed.R.Civ.P., to dismiss plaintiffs' second amended complaint.

BACKGROUND

The amended complaint alleges that plaintiffs invested as limited partners in E.F. Hutton Southwest Properties II (the "Partnership" or "Southwest"), a Delaware limited partnership formed, sponsored, promoted and operated by the defendants. Plaintiffs allege at one point in the amended complaint that they made their investments in reasonable reliance on a Private Placement Memorandum (the "Memorandum"), and supplemental sales literature accompanying the Memorandum, prepared, issued and distributed by certain defendants, although the pleading also contains inconsistent allegations. There are 44 plaintiffs. They invested amounts ranging from $7,000 to $120,000, with most investments being in the amount of $60,000.

With respect to the defendants, plaintiffs allege that Shearson Lehman Hutton, Inc. ("SLH") was at the relevant times a Delaware corporation maintaining its principal place of business in New York, New York, and the successor-in-interest to defendant E.F. Hutton & Company, Inc. ("Hutton") as the result of a merger. Hutton, a Delaware corporation with its principal place of business in this district, was at the relevant times a national brokerage firm in the business of trading, underwriting and distributing securities. Hutton acted as the promoter and sponsor of the Partnership, and additionally acted as promotor and sponsor of numerous "tax advantaged" investments.

Hutton was also a controlling person of defendant Hutton Real Estate Services, II, Inc. ("HRES II") within the meaning of the federal securities laws. HRES II, a Delaware corporation with its principal place of business in this district, was the original general partner of the Partnership.

Defendant Continental Real Equities ("ConReal") was a California general partnership, and the general partner of the Partnership.

Defendant CR, formed by defendants Bernard W. Baker and Gary Langendoen, was a California general partnership, and the general partner of ConReal. CR was a controlling person of ConReal within the meaning of the federal securities laws.

Defendant Butterfield Venture Corporation ("Butterfield") was a California corporation, and one of two general partners of ConReal, CR being the other general partner. Butterfield, the complaint alleges upon information and belief, held a 50% interest in ConReal in 1983. Defendant Baker is a California citizen and at the relevant times was a general partner of CR and a controlling person of CR, ConReal and the Partnership. Defendant Langendoen, a California citizen, was a general partner of CR, and a controlling person of CR, ConReal and the Partnership. See Complaint at ¶¶ 6-13.

In ¶ 14, plaintiffs allege that "[t]he tightly interconnected partnership relationships between defendants Baker, Langendoen, CR, ConReal and Butterfield, were such that knowledge or information within the ken of any of them was necessarily within the ken of each of them."

The amended complaint alleges that in 1977 and 1978, Alltex Construction, Inc., a Texas real estate development corporation, built 19 apartment complexes, many of them in Texas. The defendants are alleged to have entered into a fraudulent scheme pursuant to which limited partnerships were formed to purchase and operate some of the Alltex properties. Hutton's role was to promote and sell limited partnership interests to investors through Hutton's network of retail brokers. During the 1980's Hutton had a special division which underwrote, sponsored or sold limited partnership investments to its customers and others. This was the Tax Shelter/Direct Investment Department, headed by Bill Turchyn, Jr., a director of HRES II. Hutton is alleged to have "placed special emphasis on its ability to satisfy the investment objectives of conservative investors who were primarily interest in income or low risk investments," and to have "lured investors into these investments by creating the false impression, through advertising and sales hype that the investments would be safe, profitable and suitable for conservative investors." ¶ 23. The Partnership involved in this action is one of the limited partnership investments "offered by Hutton and its affiliates and partners in this manner." ¶ 24.

Plaintiffs allege that ConReal and Hutton formed the Partnership on or about March 27, 1984. Baker and Langendoen were the initial limited partners. ConReal was the initial managing general partner and management agent. HRES II was the other general partner. ¶ 25, 26. Between January and June 1984, ConReal acquired a number of apartment complexes from Alltex. Thereafter the "defendants" caused the Partnership to acquire from ConReal six apartment complexes during the period from late March 1984 through June, 1984. These apartment complexes were named "Peppermill I," "Cross Creek," "Misty Woods," "Summertree," "Westcreek," and "Good Life." The Partnership acquired these six complexes from ConReal for $53,287,760, a price which plaintiffs allege "was paid without the benefit of an appraisal and in excess of the market value of the properties." ¶ 30.

While the amended complaint is far from a model of clarity, plaintiffs allege in substance that they purchased units in that partnership named E.F. Hutton Southwest Properties II ("Southwest"). Southwest was alleged to have been formed, sponsored, promoted and operated by the defendants to purchase these six apartment complexes for the purpose, in part, of generating tax advantages for the plaintiffs. The purchase price per unit of the Partnership was $60,000, $20,500 to be paid in cash at the time of purchase and the balance of $57,500 payable over five years in annual installments and subject to interest. The limited partners executed promissory notes to evidence those obligations.

¶ 4 of the complaint alleges that each of the plaintiffs invested in the Partnership "in reasonable reliance on a private placement memorandum (the "Memorandum"), and the supplemental sales literature accompanying the Memorandum . . ." ¶ 46 alleges, however, that

  Hutton's brokers started selling the offering on
  or about May 21, 1984, and the Units were placed
  in three days. The offering and placement thus
  occurred prior to the effective date of the
  Memorandum, dated May 30, 1984. Copies of the
  Memorandum were sent to the investors subsequent
  to the sale.

It is impossible to reconcile these allegations. If copies of the Memorandum were not sent to investors until after the sale, as alleged in § 46, plaintiffs could not have invested in reliance on its contents, as alleged in § 4. Given the procedural history of the case, discussed infra, I treat the allegations of ¶ 46 as controlling.

Hutton brokers are alleged to have engaged in fraudulent selling practices. ¶¶ 43-46. As for the Memorandum, it is alleged to contain a number of fraudulent misrepresentations and omissions. ¶¶ 52-68. Comparable allegations are made in respect of an inter-office memorandum and a promotional brochure which accompanied the Memorandum and were intended as supplemental sales literature. ¶ 69-82.

In addition to the particular misrepresentations and omissions alleged to be contained in the Memorandum and the sales documents, plaintiffs allege that two of the properties contained asbestos, and that defendants failed to exercise due diligence to discover its presence, which had an adverse economic impact on the sale price of the two properties involved. ¶¶ 83-85.

Plaintiffs allege fraudulent concealment by defendants of these misrepresentations and omissions, and allege that "[u]ntil shortly before the filing of the complaint, plaintiffs were unaware of the facts as described above and could not have reasonably discovered such facts until the information gathered and determinations made by plaintiffs' attorneys were first made known to plaintiffs. ¶ 87; see also ¶¶ 88-91.

SLH, Hutton, and HRES II move to dismiss the second claim on the ground that no private right of action exists under § 17(a) of the 1933 Act, and the RICO claim for insufficient pleading, failure to state a claim, and unconstitutionality of the statute. They move to dismiss the fraud claims for failure to comply with Rule 9(b), Fed.R.Civ.P. and the claim for breach of fiduciary duty for failure to state a claim. Lastly, these defendants move to dismiss the pendent common law and breach of contract claims for lack of subject matter jurisdiction.

Defendant Butterfield moves to dismiss the complaint as to it for ...


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