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November 15, 1988


The opinion of the court was delivered by: EISELE



 Savings and loans such as First Federal are insured and regulated by the Federal Savings and Loan Insurance Corporation (the "Corporation"), which is in turn under the direction of the Federal Home Loan Bank Board (the "Board"). 12 U.S.C. 1725. The issues raised in this case must be resolved in the context of the regulatory regime applicable to savings and loans. One cannot understand what is alleged to have happened in this lawsuit without an understanding of certain basic aspects of that regime.

 A savings and loan may have either of two forms of organization. Under the mutual form, the account holders (i.e., depositors) are the "owners," with each account holder's share of the institution proportional to the size of his or her account. Under the stock form, ownership is divided into shares of stock and the shares are sold to stockholders, who may or may not also be depositors in the savings and loan.

 From time to time, mutual form savings and loan associations decide to convert to the stock form. Generally, "no insured institution may convert from the mutual to the stock form except in accordance with the rules and regulations of the Corporation." 12 U.S.C. 1725(j)(1). See 12 C.F.R. 563b.1(a) ("the provisions of this part shall exclusively govern the conversion of mutual insured institutions . . . to capital stock insured institutions"). Of particular concern to the Board in promulgating the conversion regulations was avoiding the undesireable economic effects of "'windfall' distributions to the account holders of a converting mutual insured institution." 12 C.F.R. 563b.3(a) (1980) ("Findings of Federal Home Loan Bank Board"). Consequently, "the regulations contained in this part, while providing the account holder with rights to a share in the equity of the converting mutual insured institution in the event of a subsequent complete liquidation, are designed virtually to eliminate the 'windfall' aspect of conversion and the resulting disruptive effect on the economy." Id.

 The regulations attempt to eliminate windfall distributions through two means. First, the price of the shares offered to the account holders is to be objectively set, based upon the market value of the savings and loan. Second, the ability of the account holders to buy shares other than on the open market is restricted.

 As to objective pricing, "the converting insured institution shall issue and sell its capital stock at a total price equal to the estimated pro forma market value of such stock in the converted insured institution, based on an independent valuation, as provided in 563b.7." 563b.3(c)(1). The 563b.7 valuation is to be done by "persons independent of the applicant, experienced and expert in the area of corporate appraisal, and acceptable to the Corporation." 563b.7(f)(1)(i). "The sales price of the shares of capital stock to be sold in the conversion shall be a uniform price determined in accordance with 563.b.7 . . ." 563b.3(10).

 Account holder ability to acquire newly issued shares is subject to a fairly complex system of restrictions intended to give account holders an opportunity to acquire an equity interest, without allowing them to obtain a windfall. These restrictions may be summarized as follows. Account holders are given "without payment, nontransferable subscription rights to purchase capital stock" up to an amount calculated according to the regulation. 563b.3(c)(2). Special limits are placed on the subscription rights of officers, directors and their associates, and supplemental subscription rights and other subscription rights are created for certain categories of persons. 563b.3(c)(3)-(5). "Any shares of the converting insured institution not sold in the subscription offering shall either be sold in a public offering through an Underwriter or directly by the converting institution in a direct community marketing," subject to Corporation approval and regulation. 563b.3(c)(6).

 The Corporation exercises supervision over the conversion process similar to that exercised by the Securities Exchange Commission ("SEC") over the issuance of new stock. Pertinently here, 563b.3(h) provides that

Manipulative and deceptive devices. In the offer, sale or purchase of securities issued incident to its conversion, no insured institution, or any director, officer, attorney agent or employee thereof, shall: (1) Employ any device, scheme, or artifice to defraud, or (2) obtain money or property by means of any untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or (3) engage in any act, transaction, practice, or course of business which operates or would operate as a fraud or deceit upon a purchaser or seller.

 This section tracks exactly the substantive language of SEC rule 10b-5, 17 C.F.R. 240.10b-5.

 Once the savings and loan's board of directors has voted to convert, specified steps must be taken to complete an appropriate application and to inform members of the proposed plan of conversion. 563b.4. The decision to convert must be approved by the institution's members. The Corporation regulates proxy solicitation and the voting process pursuant to 563b.5 and 6.

 The actual sale of securities must be "by means of a final offering circular which has been declared effective by the Corporation." 563b.7(a)(3). Each order form through which stock is purchased "shall be accompanied or preceded by the final offering circular for the subscription offering or the public offering, as the case may be, and a set of detailed instructions explaining how to properly complete such order forms." 563b.7(g)(2).

 While the Corporation reviews the price information in the offering circular before declaring the circular effective, it does not inquire into the accuracy of that information: "No representations may be made in any manner that such price information has been approved by the Corporation or that the shares of capital stock sold pursuant to the plan of conversion have been approved or disapproved by the [Board] or the Corporation or that the Board or Corporation has passed upon the accuracy or adequacy of any offering circular covering such shares." 563b.7(d).

 For the purposes of this decision, there are three key facts to be kept in mind concerning this regulatory scheme. (1) The offering price is set by an independent appraiser based on the market value of the institution. (2) Sales are (a) to account holders through the subscription offering, (b) to members of the community through a community offering, or (c) to members of the public through an underwriter and public offering. (3) In each case, the sale must be by means of a final offering circular which states the price at which the stock may be ordered. Having laid that groundwork, we may now turn to plaintiffs' allegations.


 Plaintiffs *fn1" allege that First Federal was converted from a mutual to a stock savings and loan in March of 1986. Plaintiffs have sued First Federal and various named officers and directors (the "Individual Defendants") for fraud in connection with that conversion. *fn2"

 Taken together, the various named plaintiffs bought stock pursuant to the offering methods discussed above: subscription and community offering, and public offering. Proxy materials were used in connection with obtaining depositor approval of the conversion plan. A Subscription and Community Offering Circular and a Public Offering Circular were issued and utilized in connection with the offerings. Some of the plaintiffs also purchased stock on the open market.

 The gravamen of these actions is that the proxy statements and offering circulars failed to disclose material facts concerning problem real estate loans and other difficulties. It is asserted that such failure to disclose permitted First Federal to offer and sell stock which otherwise could not have been issued to the public or which would have been issued to the public at a dramatically lower price. First Federal's financial problems have now become known, and those who bought the stock have taken a bath. The stock sold during the offerings at $ 10 per share is now worth much less, and may actually be essentially worthless.

 Plaintiffs assert a panoply of security law claims: section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. 78j(b); Rule 10b-5 promulgated thereunder, 17 C.F.R. 240.10b-5; section 20 of the Exchange Act, 15 U.S.C. 78(t); the Home Owner's Loan Act of 1933, 12 U.S.C. 1461, et seq., and the rules and regulations promulgated thereunder, and the Arkansas Securities Act, Ark. Code Ann. 23-42-101, et seq. By means of an Amended Complaint, one of the named plaintiffs also asserts a claim under section 12(2) of the Securities Act of 1933, 15 U.S.C. 77l(2).


 For purposes of these dismissal motions, all the well-pled averments in plaintiffs' Complaints are taken as true. Plaintiffs' Complaints should not be dismissed for failure to state a claim unless it appears beyond a doubt that the plaintiffs can prove no set of facts in support of their claims which would entitle them to relief. Conley v. Gibson, 355 U.S. 41, 45-6, 2 L. Ed. 2d 80, 78 S. Ct. 99 (1957).


 Defendants urge five grounds for dismissal of various of plaintiffs claims; all the claims are covered by at least one of these. Those grounds are: (1) Plaintiffs do not allege reliance on any misrepresentations or omissions supposedly made by defendants, nor have they properly alleged any of the surrogates which may take the place of reliance in a securities fraud action. (2) Plaintiffs do not plead fraud with the particularity required by Fed.R.Civ.P. 9(b). (3) The attempt of certain plaintiffs to plead a claim based on alleged misrepresentations contained in the proxy materials is outside this Court's jurisdiction because it involves matters related to the Board's approval of the conversion. As to the 12(2) claim, (4) plaintiffs do not allege the required privity between plaintiffs and defendants and (5) by exempting federally chartered banks from its strictures and not affording the same exemption to federally chartered savings and loans, section 12(2) violates the equal protection component of the Fifth Amendment's Due Process Clause.


 In a securities fraud case, as in fraud cases generally, it is ordinarily essential for a plaintiff to show reliance on the fraudulent statements or omissions of the defendant. A securities fraud cause of action includes as an element causation, which is usually demonstrated by showing the materiality of the statement and the reliance of the plaintiff upon it. See, e.g., Harris v. Union Electric Co., 787 F.2d 355, 362 (8th Cir. 1986) cert. denied, 479 U.S. 823, 93 L. Ed. 2d 45, 107 S. Ct. 94 (1986) (elements of a 10b-5 claim include "causation, often analyzed in terms of materiality and reliance"). The reason for the reliance requirement is obvious: the plaintiff seeks to recover for the injury defendant's statements have done to that plaintiff. If the plaintiff has taken no action in reliance on a particular statement, then the truth or completeness of that statement is of no consequence to the plaintiff.

 Plaintiffs in these actions do not allege that they directly relied on any statement by any of the defendants (including any statements or omissions in the proxy materials or the offering circulars) in purchasing First Federal stock. Instead, plaintiffs contend that they are entitled to a presumption of reliance under either of two theories: (1) this is a case involving primarily defendants' failure to state material facts and (2) the "fraud on the market" theory is applicable in this case. These contentions will be taken in that order.

 1. Omissions

 The courts have recognized an exception to the reliance requirement in cases where the plaintiff alleges that the defendant omitted to disclose material facts, rather than that the defendant affirmatively misrepresented material facts. This exception is justified on the grounds that it will ordinarily be impossible for a plaintiff to prove that he relied on the absence of disclosure. It was adopted by the Supreme Court in Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128, 153-4, 31 L. Ed. 2d 741, 92 S. Ct. 1456 (1972):

Under the circumstances of this case, involving primarily a failure to disclose, positive proof of reliance is not a prerequisite to recovery. All that is necessary is that the facts withheld be material in the sense that a reasonable investor might have considered them important in the making of this decision.

 The Court has explained that in Affiliated Ute, "we . . . dispensed with a requirement of positive proof of reliance, where a duty to disclose material information had been breached, concluding that the necessary nexus between the plaintiffs' injury and the defendant's wrongful conduct had been established." Basic, Inc. v. Levinson, 485 U.S. 224, 108 S. Ct. 978, 989, 99 L. Ed. 2d 194 (1988).

 The plaintiff need only prove materiality of the omitted fact to receive the benefit of the presumption. "An omitted fact is material if there is a substantial likelihood that a reasonable shareholder would consider it important in deciding" whether to purchase stock. TSC Industries v. Northway, Inc., 426 U.S. 438, 449, 48 L. Ed. 2d 757, 96 S. Ct. 2126 (1976). "Put another way, there must be a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the 'total mix' of information available." Id. (TSC was a proxy solicitation case, but the definition of materiality there adopted has been applied equally to stock purchases. Basic Inc., 108 S. Ct. at 983 (10(b) and 10b-5); Austin v. Loftsgaarden, 675 F.2d 168, 176 n. 17 (8th Cir. 1982) (all securities laws).)

 Defendants do not now deny that the omissions plaintiffs allege are material. Instead, they claim that plaintiffs primarily allege misrepresentations rather than omissions. This distinction is made crucial by the applicable Eight Circuit precedent. Of the several Eighth Circuit cases discussing the Affiliated Ute presumption, two frame the issue in this case and also form the foundations for the parties' respective claims. These are Vervaecke v. Chiles, Heider & Co., 578 F.2d 713 (8th Cir. 1978) and Harris v. Union Electric Co., 787 F.2d 355 (8th Cir. 1986).

 Defendants' argument rests almost entirely on their reading of Vervaecke, in which the Court refused to give the plaintiff the benefit of the Affiliated Ute presumption because it found that plaintiff's "chief complaint concerned alleged material misrepresentations, and omissions in the nature of misrepresentations, in two specific documents, the 1973 and 1976 offering statements which accompanied the respective bond offerings." 578 F.2d at 717. "Omissions in the nature of misrepresentations," the Court explained, include "misleading statements" and "half-truths." 578 F.2d at 717 n. 2.

13. The Defendants, singularly and in concert, by act and omission, prepared, reviewed, tolerated and distributed Offering Statements to Plaintiff and to those individuals who originally purchased such Bonds, which contained untrue statements of material facts and omitted to state material facts necessary in order to make the statements made, in the light of the circumstances under which they were made not misleading, which operated as a fraud and deceit on each purchaser in the manner and form set forth below:
(a) The untrue statements of material facts contained in the Offering Statement included the following:
* * * *
(b) The material facts which the Defendant omitted to state which were necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, included the following:
* * * *

 Based on the italicized language, the Court concluded that "though other theories of this case might have been devised, we find that the thrust of what [plaintiff] actually pleaded was the use of fraudulent misstatement and omission within the four corners of an offering prospectus which mislead him and the other bond purchasers." 578 F.2d at 718 (emphasis in original). "We conclude that this is not a nondisclosure case, and will not compare the facts here with the facts in Affiliated Ute or with that case's frame of reference." 578 F.2d at 718 n. 4.

 Defendants would read Vervaecke so as to prevent application of Affiliated Ute whenever the alleged omissions were from a written document, or to mean that whenever something has been said about a subject, any omissions to state other facts about the subject would be deemed misrepresentations. These readings find little support in logic, and not much in Vervaecke itself. Rather, what the Court in Vervaecke appears to have said is that the plaintiff there was mainly complaining about affirmative misrepresentations, and that whatever omissions were included in his complaint were omissions to make statements which would have exposed the affirmative misrepresentations as being untrue. Thus, if we add a clarifying word, the key language from the complaint was construed by the Court to mean that the Offering Statement included "untrue statements of material facts" and that the Offering Statement omitted to state facts which were "necessary in order to make the [untrue] statements made . . . not misleading."

 Defendants themselves provide the key to the Vervaecke puzzle when they observe that "certainly, every misrepresentation contains an omission in failing to state those facts which would have prevented the statement from being considered a misrepresentation." What the decision means is that if the only omissions alleged are failures to state facts which would have prevented the affirmative misrepresentation from being considered a misrepresentation, then the omissions are in the nature of, or are part and parcel of, the misrepresentation.

 The opinion itself may not be crystal clear on this point, but cases from other courts have so read it. That reading is also the only one consistent with Harris, 787 F.2d 355.

 The few opinions from outside the Circuit which have explained Vervaecke have all construed it thus. In Lipton v. Documation, Inc., 734 F.2d 740, 743 (11th Cir. 1984), cert. denied 469 U.S. 1132, 105 S. Ct. 814, 83 L. Ed. 2d 807 (1985), the Court understood Vervaecke to stand for the proposition that there is "no presumption of reliance where new issues are involved and claims are based on affirmative misrepresentations." (Emphasis added.) Similarly, the Court in Grossman v. Waste Management, Inc., 589 F. Supp. 395, 409 (N.D. Ill. 1984) summarized Vervaecke as holding that "since the Affiliated Ute presumption of reliance exists primarily because of the practical impossibility of proving reliance where no statements are made, its underlying rationale does not logically apply in a case in which the "omissions" are the type that can be said to exist only because of other, positive statements the company has made." (Emphasis added.) Accord, Rowe v. Maremont Corp., 650 F. Supp. 1091, 1105 (N.D. Ill. 1986), aff'd 850 F.2d 1226 (7th Cir. 1988).

 Courts within the Eighth Circuit are generally in accord. The allegations and circumstances in In re McDonnell Douglas Corp. Securities Litigation, 587 F. Supp. 625, 626-7 (E.D. Mo. 1983) were closely analogous to those in this case. The Court concluded that "plaintiff's allegations and deposition testimony, as well as the relevant documents, indicate that the claims primarily focus on defendants' alleged failure to disclose material information. Thus, the Ute exception of reliance applies here." 587 F. Supp. at 628.

 In Dekro v. Stern Brothers, 540 F. Supp. 406 (W.D. Mo. 1982), the Court rejected defendant's claim that "the presence in the offering circulars of some references" to a problem project made the case one of misrepresentation. "It would defeat the flexible, remedial purposes of the federal securities laws to deny the plaintiffs the use of the Affiliated Ute presumption when they allege wholly inadequate disclosure of information concerning" the project. 540 F. Supp. at 411 n. 3. Vervaecke was distinguished, among other grounds, on the basis that "Vervaecke had pleaded a typical 10b-5 case of misrepresentation, even though other theories of the case might have been devised; . . . Plaintiff here has pleaded an omissions theory, and this court will not convert it into a case of misrepresentation, just as the Vervaecke court would not convert a misrepresentation theory into one of omission." 540 F. Supp. at 412. (Emphasis in original.) But see Gilbert v. Woods Marketing, Inc., 454 F. Supp. 745, 749 (D. Minn. 1978) ("Each of them charges defendants with making implications contrary to fact or statements conveying deceptive half-truths. None of ...

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