Major*fn* and Hastings, Senior Circuit Judges, and Pell, Circuit Judge.
This court once again is confronted with a problem stemming from the collapse of City Savings Association (CSA), a savings and loan institution chartered by the State of Illinois and presently under the control of federal receivers. The main contention of the appellants here, a group of depositors-shareholders, is that the district court erred in concluding that another group of depositors-shareholders (the plaintiffs in the action) has a preference in the distribution of CSA's assets. The appellants assert they, too, were defrauded in violation of the anti-fraud provisions of the Securities Exchange Act of 1934 and that, therefore, but one group or class of depositors-shareholders exists, all members of which are entitled to rescission under the Act with a resultant equal footing at the time of the distribution of remaining CSA assets.
Because other decisions concerning CSA have chronicled much of its complicated and unfortunate history,*fn1 we will discuss the factual background only to the extent necessary to explain the present appeal. Further reference herein to the plaintiffs below will usually be as the "post-July 9, 1959 depositors" and to the intervening defendants, the appellants on this appeal, as the "pre-July 9, 1959 depositors."
In April 1957, the Auditor of Public Accounts of the State of Illinois took custody of CSA and suspended payments to depositors. Pursuant to a decree entered by the Circuit Court of Cook County, Illinois, in December 1957, the State Director of Financial Institutions restored custody of CSA to its officers and directors. The association reopened to the public on December 19, 1957, but on a limited withdrawal rotation basis as to its then existing accounts.
In February 1959, the Circuit Court entered a final decree adopting the findings and conclusions of its December 1957 decree. In Mensik v. Smith, 18 Ill.2d 572, 166 N.E.2d 265 (1960), the Supreme Court of Illinois affirmed the decree returning the operation of CSA to its management. However, in June 1964, the Director of Financial Institutions of the State of Illinois seized CSA from its officers once again. He immediately closed CSA. Acting through the Director, the State retained custody of CSA until early September 1964, when three liquidators took custody under a plan of voluntary liquidation.
Unhappy with the course of the voluntary liquidation, the post-July 9, 1959 depositors moved for the appointment of a federal receiver. In September 1968, the district court below granted their motion and appointed two federal receivers. They have managed the assets of CSA since September 19, 1968.
While CSA was in the custody of the State of Illinois, post-July 9, 1959 depositors instituted a class suit which allegedly represented over 5000 investors. In their complaint, they claimed that they had purchased withdrawable capital shares in CSA after July 23, 1959,*fn2 and that the sales of these shares to them were void under § 29(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78cc (b). They asked that the sales be rescinded. The complaint alleged that the withdrawable capital shares they had purchased from CSA were securities within the meaning of § 3(a) (10) of the Act, 15 U.S.C. § 78c(a) (10), that in buying the shares they had relied upon printed solicitations that CSA had mailed to them, and that these solicitations contained false and misleading statements in violation of § 10(b) of the Act, 15 U.S.C. § 78j(b), and of Rule 10b-5 adopted thereunder, 17 C.F.R. § 240.10b-5. More specifically, the complaint alleged that the mailed solicitations erroneously portrayed CSA as a financially strong institution and its shares as desirable investments.
The class that the appellants here represent consists largely of those persons originally represented by the 100 Cents on the Dollar Shareholders Committee which was permitted in January 1966 to intervene in the Securities Exchange Act suit as a party-defendant. As such, it answered plaintiffs' complaint by denying or by claiming lack of information about the commission of the frauds alleged in the complaint. It contended that the plaintiffs' suit was a spurious class action and should be dismissed. Also, together with the named defendants (not parties to this appeal), it sought dismissal of the plaintiffs' action on the jurisdictional grounds ultimately rejected by the United States Supreme Court in Tcherepnin v. Knight, 389 U.S. 332, 88 S. Ct. 548, 19 L. Ed. 2d 564 (1967). Until the Supreme Court in Tcherepnin decided otherwise, the intervening defendants maintained that Illinois law controlled the resolution of CSA's problems.
In Tcherepnin v. Knight, supra, the United States Supreme Court held that the federal district court had jurisdiction of the action instituted by the post-July 9, 1959 depositors because a withdrawable capital share in a state chartered savings and loan association was a "security" within the meaning of the Securities Exchange Act of 1934. At the end of its opinion, the Court remarked:
"The respondents have argued that we should not declare the petitioners' withdrawable capital shares securities under § 3(a) (10) because the petitioners, if they are successful in their suit for rescission, will gain an unfair advantage over other investors in City Savings in the distribution of the limited assets of that Association, which is now in liquidation. This argument, at best, is a non sequitur. This case in its present posture involves no issue of priority of claims against City Savings. This case involves only the threshold question of whether a federal court has jurisdiction over the complaint filed by the petitioners -- a question which turns on our construction of the term 'security' as defined by § 3(a) (10) of the Securities Exchange Act of 1934. It is totally irrelevant to that narrow question of statutory construction that these petitioners, if they are successful in their federal suit, might have rights in the limited assets of City Savings superior to those of other investors in that Association." 389 U.S. at 346, 88 S. Ct. at 558.
In an order dated March 10, 1970, the district court concluded that the plaintiffs and their class were purchasers of securities within the meaning of the Securities Exchange Act. The establishment of their accounts, which were withdrawable at will, had resulted from a new section of the Illinois Savings and Loan Act that became effective on July 9, 1959. The new section provided in substance that an association could accept new and additional withdrawable capital accounts and that such new or additional accounts would not be subject to the section of the Illinois Act restricting withdrawals.
The court found that, before making their purchases, the plaintiffs had not been advised that CSA was operating under a limited withdrawal restriction as to all the pre-July 9, 1959 accounts. Further, in CSA's extensive advertising campaign subsequent to the effective date of the statutory amendment and continuing through July 26, 1964, soliciting new deposits, CSA made numerous fraudulent misrepresentations, misstatements and omissions.
The court specifically found that CSA's insolvency resulted primarily from "extensive fraudulent mortgage loans" that CSA made after July 9, 1959, particularly in the Apple Orchard and the Howie in the Hills developments. The court also stated that, without the knowledge of the plaintiffs and their class, CSA had illegally used "considerable funds" deposited by them on or after July 9, 1959, to make payments to pre-July 9, 1959 depositors.
In light of all the above, the court concluded "as a matter of law" that the plaintiffs and their class had been defrauded within the meaning of the antifraud provisions of the Securities Exchange Act. As defrauded purchasers of securities, they had a right to rescind their purchase agreements and, upon the rescission, were entitled to assert a claim against CSA as judgment creditors having priority over "other shareholders or depositors . . . [and] any other creditors."
The court found that only the plaintiffs and their class had properly pleaded a claim under the Securities Exchange Act. The pre-July 9, 1959 depositors "had repeated public notice of the prior fraud and had actual knowledge of the limited withdrawal restrictions. . . . [They] also had ...