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Medema v. Medema Builders Inc.

decided: August 2, 1988.

ROGER E. MEDEMA, PLAINTIFF-APPELLANT,
v.
MEDEMA BUILDERS, INC., SERVICE INVESTMENT CORP. OF AMERICA, LAND OF LINCOLN SAVINGS AND LOAN ASSOCIATION, THOMAS A. KINST, FRANK J. KINST, RALPH C. GIBSON, ROBERT J. HAJEK, JOHN J. LACHAJEWSKI, WARREN H. MUCHOW, ANDREW B. NEELEY, JOHN A. STORCEL, AND GORDON L. TEACH, DEFENDANTS-APPELLEES



Appeal from the United States District Court for the Northern District of Illinois, Eastern Division. No. 87 C 6445--William T. Hart, Judge.

Cudahy, Flaum and Ripple, Circuit Judges.

Author: Cudahy

CUDAHY, Circuit Judge.

The district court stayed this action in deference to ongoing state court proceedings, under the doctrine of Colorado River Water Conservation District v. United States, 424 U.S. 800, 47 L. Ed. 2d 483, 96 S. Ct. 1236 (1976). Plaintiff appeals, arguing that the district court abused its discretion in granting a stay of this case involving claims over which Congress has mandated exclusive federal jurisdiction. We reverse and remand for further proceedings.

I.

In 1983, plaintiff Roger Medema sold half the shares of his wholly-owned corporation, defendant Medema Builders, Inc. ("MBI"), to another defendant, Service Investment Corporation of America ("SICA"). SICA is a wholly-owned subsidiary of defendant Land of Lincoln Savings and Loan Association ("Lincoln"). At bottom, the deal was a financing transaction with SICA making a $300,000 capital contribution to MBI to bail the company out of Chapter 11 reorganization.

In conjunction with the stock sale, Medema placed his remaining shares in a voting trust for SICA's benefit, giving SICA effective control of MBI. In addition, Medema extended MBI an option to redeem all of his remaining shares if he ceased to be an MBI employee before December 31, 1986. On October 31, 1986, MBI's board fired Medema. A few days later, it exercised its option on his remaining shares. Medema refused to deliver the shares.

On April 10, 1987, MBI and SICA sued Medema and REM Realty ("REM"), his new wholly-owned company, in Illinois state court. The complaint in that case alleges various contract breaches and interference with prospective economic advantage. SICA and MBI seek compensatory and punitive damages and a declaratory judgment that MBI owns the disputed stock.

On July 21, 1987, Medema and REM filed their joint answer and defense in the state action. That same day, Medema filed this action in federal district court against MBI and SICA, as well as Lincoln and nine of its directors. Four of the federal complaint's counts allege common law violations, including fraud, breach of employment contract, and breach of fiduciary duties. Jurisdiction over those counts is based on diversity of citizenship. Count II, however, raises a federal question, alleging violations of section 10(b) of the Securities Exchange Act of 1934 ("the 1934 Act"), 15 U.S.C. § 78j(b) (1982), and Rule 10b-5, 17 C.F.R. § 240.105(5) (1988).

The answer in the state case echoes the allegations made in the federal complaint, including references to Lincoln's alleged misconduct even though Lincoln is not a party to the state action. The answer includes, as a defense, the state plaintiffs' alleged 1934 Act violations. Medema did not file a counterclaim, however; indeed, he could not do so in the case of the 1934 Act claims. Although those violations can be raised defensively in state court, Congress has established exclusive federal jurisdiction over affirmative 1934 Act claims. 15 U.S.C. § 78aa (1982); see also Andrea Theatres, Inc. v. Theatre Confections, Inc., 787 F.2d 59, 63 (2d Cir. 1986).

Defendants moved to stay the federal proceedings in light of the concurrent state-court case. The district court granted the stay. It first held that while the presence of an exclusively federal claim cuts strongly against a stay, that factor is not determinative. Medema v. Medema Builders, Inc., No. 87 C 6445, mem. op. at 8 (Nov. 17, 1987). The court then applied a twelve-factor balancing test, gleaned from Colorado River and its progeny. Id. at 9-11. It found that deference to the state-court proceedings was appropriate, given the predominance of state law issues, the probability that resolution of the state case would determine all of the substantive factual issues (if not conclusively resolving the 1934 Act claim), and that the federal suit might be vexatious (an assertion made with little analysis). The court acknowledged the strong federal interest in a federal forum for 1934 Act suits, as well as the fact that the state case had not progressed very far at that time. Still, it felt the balance tipped in favor of deference.

II.

The Colorado River determination is left to the discretion of the district court, and we will therefore reverse only if the judge exceeded the bounds of that discretion. Moses H. Cone Memorial Hosp. v. Mercury Constr. Corp., 460 U.S. 1, 19, 74 L. Ed. 2d 765, 103 S. Ct. 927 (1983); Lumen Constr., Inc. v. Brant Constr. Co., 780 F.2d 691, 695 (7th Cir. 1985). We must decide whether Colorado River deference is ever appropriate where the federal action involves claims over which the federal courts have exclusive jurisdiction. We hold that, except perhaps in rare circumstances not present here, it is not.

Colorado River created an extraordinary exception to the "virtually unflagging obligation of the federal courts to exercise the jurisdiction given them." 424 U.S. at 817. The doctrine allows federal courts to stay or dismiss actions in deference to parallel and ongoing state proceedings in circumstances where abstention doctrines do not apply.*fn1 The Colorado River Court was driven by concerns of "wise judicial administration." Id. at 818. It stated firmly, however, that "the circumstances permitting the dismissal of a federal suit due to the presence of a concurrent ...


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