The opinion of the court was delivered by: SHADUR
MILTON I. SHADUR, UNITED STATES DISTRICT JUDGE
This action arises out of the sale by plaintiff Steven Rayman ("Rayman") of all the shares of stock (the "Shares") of Crest Savings ("Crest") to defendant Peoples Savings Corporation ("PSC"), immediately followed by PSC's transfer of the Shares to its wholly-owned subsidiary (and present codefendant) Peoples Bank for Savings ("PBS"). Two other codefendants, James Flanagan and his wife Bridget,
have moved for leave
(1) to file a counterclaim against Rayman, (2) to join as an added defendant to that counterclaim former Crest President Thomas Mulcahy ("Mulcahy") and (3) to file a third-party complaint against Flanagans' former attorney John D. Purdy, Jr. ("Purdy") and Purdy's law firm Siemon, Larsen & Purdy (the "Partnership").
For the reasons stated in this memorandum opinion and order:
2. Leave to file Counterclaim Counts I and III against Rayman and Mulcahy is denied.
3. Leave to file the third-party complaint contained in Count IV is also denied.
In March and April 1988 Rayman and PBS entered into an agreement (the "Agreement") that provided in substance for the former's sale and the latter's purchase of the Shares for $ 9 million in cash. Purdy conducted the deal negotiations on behalf of PSC, PBS, John B. Schnure ("Schnure," president of both PSC and PBS and a principal shareholder in PSC)
and Flanagan (another principal shareholder in PSC).
As required by law where control of a savings association is being acquired by any savings and loan holding company (12 U.S.C. § 1730a(e)(1)(A)(i)
), the Agreement specifically conditioned the closing of the purchase on approval by Federal Savings and Loan Insurance Corporation ("FSLIC") as well as any other required governmental approval (it appears that though the application for approval was directed to FSLIC, formal approval had to emanate from Federal Home Loan Bank Board ("Board")). By June 14 Board had conditionally approved the transaction and change of control as described in the purchaser's application.
Unfortunately, things looked to be going south when PSC found itself unable to arrange the financing that the parties had agreed to and had described to the regulatory authorities. That unexpected hurdle was cleared as far as the parties were concerned when they agreed to (and memorialized in their September 8 "Closing Agreement") a restructuring of the transaction so that:
1. PSC rather than PBS would be the purchaser of the Shares.
2. Rayman would receive $ 5.5 million in cash and PSC's note for $ 3.5 million (the "PSC Note") instead of the previously-agreed $ 9 million in cash.
3. Each of Flanagans and Schnures would execute an unconditional personal guaranty of the PSC Note.
Although those changes in the transaction necessitated further Board approval, that approval was apparently never secured. PSC then defaulted on the PSC Note, and the parties are now pointing the fingers of asserted blame (and liability).
With Flanagans' tendering of the current Counterclaim and Third Party Complaint, the roving finger points back at Rayman and also at present nonparties Mulcahy, Purdy and Partnership. Counterclaim Counts I and II respond in kind to Rayman's Section 10(b) and common law fraud claims. Rather than targeting the failure to obtain Board approval, in those claims Flanagans blame PSC's default on problems endemic to Crest's banking business that Rayman and Mulcahy failed to disclose before the closing. Flanagans specifically say that Rayman and Mulcahy intentionally misstated the financial condition of Crest and overstated the value of the Shares "by as much as 18 times [their] actual value" in violation of Section 10(b) and of common law principles of fraud. Counterclaim Count III then attempts to use the failure to obtain Board approval against Rayman as an offensive weapon, seeking a declaratory judgment that the entire transaction was illegal and therefore the guaranties are unenforceable. Finally, in Count IV Flanagans present a third-party complaint against Purdy and Partnership for legal malpractice, asserting their alleged failure to obtain the necessary Board approval. This Court must decide whether to allow Flanagans to pursue any or all of those claims as part of this action.
Standing To Assert Counterclaim Count I
Rayman and Mulcahy urge this Court to deny Flanagans leave to advance their Count I claim on the ground that Flanagans lack standing to sue under Section 10(b). This Court agrees.
Neither party disputes the well-established rule for determining whether a plaintiff has standing to assert a Section 10(b) claim. Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 44 L. Ed. 2d 539, 95 S. Ct. 1917 (1975) adopted what had become known as the Birnbaum rule after the seminal case of Birnbaum v. Newport Steel Corp., 193 F.2d 461 (2d Cir. 1952): Standing under Section 10(b) is limited to plaintiffs who were purchasers or sellers of securities. Whether Flanagans may maintain their Count I counterclaim thus turns in the first instance on whether they, as significant shareholders in the purchasing company and guarantors of the purchase price, fit into one of those categories.
Flanagans recognize that their status as significant shareholders in the purchasing corporation cannot confer Section 10(b) standing (see Smith v. Ayres, 845 F.2d 1360, 1364 & n. 13 (5th Cir. 1988)). Instead they rely on their status as guarantors of the purchase price, invoking Grubb v. FDIC, 868 F.2d 1151, 1161-62 (10th Cir. 1989). Because that concept really represents their only prospect of success in establishing Blue Chip standing, a detailed look at Grubb is in order.
Grubb involved the sale by First National Bank and Trust Company of Oklahoma City ("First National") to Weatherford Holding ("Weatherford") of all the shares of the troubled Security State Bank ("Security"). When Security had begun experiencing financial difficulties, its chairman William Schulte ("Schulte") went in search of a partner willing to invest in Security's reorganization. Schulte found Ronald Grubb ("Grubb"). Together they investigated Security's financial condition and negotiated a deal with First National under which (1) Schulte and Grubb would set up Weatherford, a shell corporation, for the sole purpose of purchasing and holding all the Security stock, (2) First National would lend each of Schulte and Grubb $ 625,000 so each could purchase half the Weatherford stock (with Grubb executing a note in favor of First National to evidence that loan to him), (3) First National would then lend $ 3.75 million to Weatherford in return for Weatherford's note in that amount secured by the Security stock and unconditional guaranties by Schulte and Grubb, each in the amount of $ 1.875 million, and (4) Weatherford would inject the $ 5 million into Security, whose stock First National would transfer to Weatherford. At the end of the day, Weatherford was thus to have purchased the Security stock, having financed 75% of that purchase with notes unconditionally guaranteed by its own shareholders Schulte and Grubb.
When Grubb became dissatisfied with the deal he had made, he sued First National under Section 10(b) for misrepresenting Security's financial picture. Rather than strictly applying the Blue Chip purchaser-seller rule to bar Grubb's suit on the ground that the nominal purchaser was Weatherford and not Grubb, the Grubb court looked behind the Weatherford entity and held that Grubb was the actual purchaser where:
1. First National had made the alleged misrepresentations during direct negotiations with Grubb.
2. Those negotiations took place before Weatherford even came into existence.
3. Weatherford was a shell corporation created for the sole purpose of facilitating the already-negotiated purchase.
4. Grubb's unconditional guaranty and personal note for $ 625,000 made him appear the primary obligor.
5. Both the transaction and Grubb's interest were well-documented.
Flanagans seek to emphasize the circumstances of the current case that make it factually similar to Grubb : Flanagan's involvement in negotiating the transaction,
the guaranty provisions enabling Rayman to collect on the note directly from Flanagans without first proceeding against PSC, and the documentation of the sale and of Flanagans' interest. But Flanagans gloss over the all-important fact: Grubb found that it was the other facts already listed (and not present here), as well as those stressed by Flanagans, that warranted a conclusion that the purchasing corporation was a mere conduit for the individual investors. Grubb, 868 F.2d at 1162 therefore distinguished an earlier case ( City National Bank of Fort Smith, Ark. v. Vanderboom, 422 F.2d 221, 228 (8th Cir. 1970)) that was much more like the current one -- and in which Section 10(b) standing was rejected.
ITC had its own separate corporate structure and only subsequent to its incorporation did Gatlin propose that ITC purchase another financial institution rather than starting one of its own. Under these circumstances we feel the corporate integrity of ITC must be respected and not glibly and casually disregarded.
Rather than the investors' suing individually, the court continued (id.):
The proper course of action for these investors was for them to raise their 10b-5 claim by bringing a derivative suit on behalf of ITC.
In terms of Flanagans' allegations (which this Court must accept as true for current purposes), this case is somewhere between Vanderboom (no standing where neither conduit nor unconditional guaranty) and Grubb (standing where both conduit and unconditional guaranty). Although Flanagans have not claimed that the PSC-PBS corporate structure was a mere conduit for the Share purchase, Flanagans allege a well-documented "direct" injury as guarantor of the purchase price. Analysis of which side of the watershed this case falls upon requires a look at the Supreme Court's purpose in adopting the Birnbaum rule.
Plaintiff in Blue Chip was given an opportunity to purchase stock under the terms of a judicial consent decree, but declined to purchase in alleged reliance on defendants' intentionally over-pessimistic statements about the value and risks associated with the stock. Blue Chip held such merely potential purchasers did not have standing to pursue Section 10(b) claims because their alleged injury did not occur (in the words of Section 10(b) itself) "in connection with the purchase or sale of any security." Flanagans' principal argument is that the conclusion reached in Blue Chip rested on a case-specific analysis of whether a finding of standing would pose a threat of vexatious lawsuits by "bystanders" to the transaction -- persons whose injury (if any) would be difficult or impossible to prove, but who could use the prospect of litigation to practice extortion without having exposed ...