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IN RE CENCO INC. SECURITIES LITIGATION

January 5, 1982

IN RE CENCO INCORPORATED SECURITIES LITIGATION, ROBERT HELFAND, ET AL., PLAINTIFFS,
v.
CENCO, INC., ET AL., DEFENDANTS.



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

MEMORANDUM OPINION AND ORDER

Plaintiffs, security holders of Cenco, Inc. ("Cenco"), brought this consolidated class action*fn1 to enforce rights created under the federal securities laws, regulations promulgated thereunder, and the common law charging that between 1970 and 1975 Cenco and several of its officers, directors and employees along with its outside auditors and certain other persons manipulated inventory and altered sales figures as part of a common scheme to falsify Cenco's financial position. Most of this case has been resolved through settlement agreements between the plaintiff class and all but two of the defendants, and between many of the defendants on their various cross-claims against each other. Those cross-claims that were not settled were resolved by Judge Crowley, who previously presided over this matter, either by trial or by motion for summary judgment.*fn2 Judge Crowley also determined the matter of fees and costs to be awarded to attorneys for the plaintiff class before he left the bench in June, 1981.*fn3

This matter is presently before the Court on the plaintiff class' motion for partial summary judgment against the two non-settling defendants, David Marose ("Marose") and Rose Packaging Co. ("Rose"), for fraud under the federal securities laws and the common law. Marose and Rose have also filed a cross-motion for summary judgment in their favor on the class' claims. For the reasons set forth below, both motions will be denied. Consistent with this Court's opinion, however, defendants will be precluded from relitigating any issues actually litigated in this or related matters under the doctrine of collateral estoppel to the extent that such issues bear on defendants' ultimate alleged liability to the class.

Invoking the doctrine of collateral estoppel offensively, the class maintains that the liability of Rose and Marose for securities fraud and common law fraud has been established by three prior judgments entered against them in connection with the Cenco fraud litigation. Specifically, the class contends that Marose and Rose are estopped to deny their liability herein because: (1) in 1979, Marose pled guilty to a two-count criminal indictment for mail fraud arising out of his participation in the fraud at Cenco, United States v. Marose, No. 79 CR 305; (2) both Marose and Rose consented to the entry of a permanent injunction restraining them from engaging in future securities fraud, Securities and Exchange Commission v. Cenco, Inc., No. 76 C 3258 (N.D.Ill., March 28, 1980); and (3) both Marose and Rose were found liable to Cenco for fraud, aiding and abetting breaches of fiduciary duty by Cenco employees, and contribution, In re Cenco Incorporated Securities Litigation, No. 75 C 2227 (N.D.Ill., June 10, 1981). Rose and Marose deny that any of these prior judgments should be accorded preclusive effect and, in support of their cross-motion for summary judgment, contend that their alleged involvement in the conspiracy to defraud Cenco and the class of investors did not result in any injury or damage to the plaintiff class. They contend that they cannot be held liable for damages attributable to the actions of other members of the conspiracy because they joined the conspiracy at a late stage in the overall scheme.

I.

Under the doctrine of collateral estoppel, once an issue is actually and necessarily determined by a court of competent jurisdiction, that determination is conclusive in subsequent suits based on the same or a different cause of action involving a party to the prior litigation. Montana v. United States, 440 U.S. 147, 153, 99 S.Ct. 970, 973, 59 L.Ed.2d 210 (1979); Parklane Hosiery Co. v. Shore, 439 U.S. 322, 326 n. 5, 99 S.Ct. 645, 649, 58 L.Ed.2d 552 (1979); Restatement (Second) of Judgments § 68 (Tent. Draft No. 4, April 15, 1977). Offensive use of collateral estoppel — when a plaintiff seeks to estop a defendant to relitigate an issue that the defendant previously litigated and lost against another plaintiff — was approved by the Supreme Court in Parklane Hosiery Co. v. Shore, supra. Collateral estoppel is appropriate in such a situation, however, only if the issue to be concluded is identical to that involved in the prior action, the issue was fully litigated in the prior action, and determination of the issue was necessary and essential to the judgment in the prior action. Rufenacht v. Iowa Beef Processors, Inc., 656 F.2d 198, 202 (5th Cir. 1981); Lektro-Vend Corp. v. Vendo Corp., 500 F. Supp. 332, 347 (N.D.Ill. 1980), affirmed, 660 F.2d 255 (7th Cir. 1981). The Court should also consider whether controlling facts or legal principles have changed significantly since the prior action and whether other special circumstances warrant an exception to the normal rules of preclusion.*fn4 Montana v. United States, supra, 440 U.S. at 155, 99 S.Ct. at 974. The Supreme Court has acknowledged that district courts have broad discretion to determine whether collateral estoppel should be applied in the circumstances of an individual case. Parklane Hosiery Co. v. Shore, supra, 439 U.S. at 331, 99 S.Ct. at 651.

Applying these standards to the case at bar, the Court concludes that the class has failed to establish that the defendants should be completely estopped to deny their alleged liability for securities fraud or common law fraud on the basis of the three prior judgments in this and related cases. Of course, as set forth below, to the extent that individual issues relevant to the fraud alleged herein were fully litigated and determined in a prior action, Rose and Marose will be precluded from litigating those issues again. But we cannot conclude that all the elements of the fraud with which these defendants are charged have been necessarily determined adversely to them in any earlier adjudication so as to invoke the principles of offensive collateral estoppel as a complete conclusion to the instant litigation.

A.

In 1979, Marose pled guilty to a two-count indictment for mail fraud in violation of 18 U.S.C. § 1341. The two necessary elements for a violation of the mail fraud statute are: (1) formation of a scheme with intent to defraud; and (2) the use of the mails in furtherance of that scheme. United States v. Keane, 522 F.2d 534, 544 (7th Cir. 1975), cert. denied, 424 U.S. 976, 96 S.Ct. 1481, 47 L.Ed.2d 746 (1976); United States v. Climatemp, Inc., 482 F. Supp. 376, 383 (N.D.Ill. 1979). While a plea of guilty is a confession to the essential elements of the crime charged, as the class suggests, a plea to a mail fraud charge does not necessarily include an admission that anyone was, in fact, defrauded. United States v. Buchanan, 633 F.2d 423, 427 (5th Cir.), cert. denied, 451 U.S. 912, 101 S.Ct. 1984, 68 L.Ed.2d 301 (1981); United States v. White, 355 F.2d 909, 910 (7th Cir. 1966), cert. denied, 389 U.S. 1052, 88 S.Ct. 796, 19 L.Ed.2d 846 (1967); United States v. Wolfson, 322 F. Supp. 798, 829, affirmed, 454 F.2d 60 (3d Cir.), cert. denied, 406 U.S. 924, 92 S.Ct. 1792, 32 L.Ed.2d 124 (1971). Moreover, the indictment charges that Marose "devised and intended to devise a scheme and artifice to defraud and to obtain money from Cenco by means of false and fraudulent pretenses, representations and promises." Marose Indictment at ¶ 3. There is no allegation in the indictment that Marose intended to defraud investors in the position of the plaintiff class or that he joined a conspiracy with that purpose, that any representations were made to purchasers of securities, or that such purchasers relied on such representations in buying Cenco stock and were damaged thereby. Accordingly, Marose's plea to the mail fraud charge does not include an admission with regard to these crucial elements of the class' claims.

Furthermore, with respect to both Marose's plea of guilty to the mail fraud charge and both defendants' consent to decrees entered in March, 1980, in litigation with the Securities and Exchange Commission, we share the concern of the drafters of the Second Restatement of Judgments that it would be unwise to attribute collateral estoppel effect to a judgment entered upon confession or consent. The most recent draft of the Restatement states:

  In the case of a judgment entered without contest
  by confession, consent, or default, none of the
  issues is actually litigated. Therefore, the rule
  of this Section [issue preclusion] does not apply
  with respect to any issue in a subsequent action.
  The judgment may be conclusive, however, with
  respect to one or more issues, if the parties
  have entered an agreement manifesting such
  intention.

Restatement (Second) of Judgments § 68 comment e at 9 (Tent.Draft No. 4, April 15, 1977). The purpose of a consent decree is typically to avoid the litigation of any issue and the decree usually states, as do the decrees entered against Marose and Rose, that the parties neither admit nor deny the allegations in the complaint. The persuasive weight of authority declines to ascribe preclusive effect to consent decrees when there has been no admission of liability and in the absence of clear evidence concerning the parties' intention to be bound collaterally. Studiengesellschaft v. Eastman Kodak Company, 616 F.2d 1315, 1332 (5th Cir.), cert. denied, 449 U.S. 1014, 101 S.Ct. 573, 66 L.Ed.2d 473 (1980); Kaspar Wire Works, Inc. v. Leco Engineering & Machine, Inc., 575 F.2d 530, 539-40 (5th Cir. 1978) and cases cited therein. The consent decree is an important weapon in the arsenal of the Securities and Exchange Commission in policing securities fraud and a holding that consent to the entry of a decree in one case automatically precludes a defendant from defending himself in subsequent litigation would diminish its use and effectiveness.

B.

By contrast, the issue of these defendants' liability to Cenco for fraud, aiding and abetting breaches of fiduciary duty, and contribution was actually and fully litigated before Judge Crowley in the context of Cenco's motion for partial summary judgment decided on June 10, 1981. In re Cenco Incorporated Securities Litigation, No. 75 C 2227 (N.D.Ill., June 10, 1981).*fn5 In that context, Judge Crowley found that Marose and Rose joined two Cenco employees, Russell Rabjohns and Jack Coulson, in a conspiracy to defraud Cenco by falsely inflating the inventory of its wholly-owned subsidiary, Cenco Medical/Health Supply Corp. ("CMH"), and then concealing the inventory inflation by falsely manufacturing and destroying CMH inventory. Judge Crowley found that Rose and Marose knowingly joined the conspiracy at the false manufacturing stage. In furtherance of this scheme, Cenco paid Marose and Rose several hundred thousand dollars for falsely labeled packages containing virtually worthless material. Rose and Marose then kicked back part of the money to Rabjohns, Coulson and others. The phony inventory destruction aspect of the scheme contemplated the supposed destruction of over $16 million worth of medical supplies. In reality, very little valuable merchandise was destroyed since the purpose of the scheme was to remove from Cenco's books the false inventory earlier recorded and the fraud was discovered before the destruction of much merchandise. Judge ...


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