Petitioner, liquidator of Manhattan Casualty Co., alleged that
the company was defrauded, in violation of federal securities laws,
by a fraudulent sale of securities owned by it. Manhattan's sole
stockholder agreed to sell all of its Manhattan stock to one Begole
for $5 million. Begole conspired with others to use United States
Treasury bonds owned by Manhattan to pay for the shares. Through a
deceptive device, the bonds were sold and the proceeds used in the
purchase of the stock. The depletion of Manhattan's assets was
concealed by the purported transfer to it, in exchange for the
proceeds of the bond sale, of a certificate of deposit which, in
fact, had been assigned by Manhattan's new president, a
coconspirator, to another corporation, and by it used as collateral
for a loan. The District Court dismissed the complaint and the
Court of Appeals affirmed, finding that "no investor [was] injured"
and that the "purity of the security transaction and the purity of
the trading process were unsullied."
Held: Section 10(b) of the Securities Exchange Act of
1934 makes it unlawful to use "in connection with the purchase or
sale" of any security "any manipulative or deceptive device or
contrivance" in contravention of the Securities and Exchange
Commission's rules and regulations. Section 10(b) prohibits the use
of any deceptive device in the "sale" of any security by "any
person," and it is irrelevant that Manhattan was a corporation,
rather than an individual investor; that the fraud was perpetrated
by a corporate officer and his outside collaborators; that the
transaction was not conducted through a securities exchange or an
organized market; that the proceeds due the seller were
misappropriated; and that the creditors of the defrauded corporate
seller may be the ultimate victims. Pp.
404 U. S.
9-14.
430 F.2d 355, reversed.
DOUGLAS, J., delivered the opinion for a unanimous Court.
Page 404 U. S. 7
MR. JUSTICE DOUGLAS delivered the opinion of the Court.
Manhattan Casualty Co., now represented by petitioner, New
York's Superintendent of Insurance, was, it is alleged, defrauded
in the sale of certain securities in violation of § 17(a) of the
Securities Act of 1933, 48 Stat. 84, 15 U.S.C. § 77q(a), and of §
10(b) of the Securities Exchange Act of 1934, 48 Stat. 891, 15
U.S.C. § 78j(b). The District Court dismissed the complaint,
300 F.
Supp. 1083, and the Court of Appeals affirmed, by a divided
bench. 430 F.2d 355. The case is here on a petition for a writ of
certiorari which we granted, 401 U.S. 973.
It seems that Bankers Life & Casualty Co., one of the
respondents, agreed to sell all of Manhattan's stock to one Begole
for $5,000,000. It is alleged that Begole conspired with one Bourne
and others to pay for this stock not out of their own funds, but
with Manhattan's assets. They were alleged to have arranged,
through Garvin,
Page 404 U. S. 8
Bantel & Co. -- a note brokerage firm -- to obtain a
$5,000,000 check from respondent Irving Trust Co., although they
had no funds on deposit there at the time. On the same day, they
purchased all the stock of Manhattan from Bankers Life for
$5,000,000 and, as stockholders and directors, installed one Sweeny
as president of Manhattan.
Manhattan then sold its United States Treasury bonds for
$4,854,552.67. [
Footnote 1]
That amount, plus enough cash to bring the total to $5,000,000, was
credited to an account of Manhattan at Irving Trust, and the
$5,000,000 Irving Trust check was charged against it. As a result,
Begole owned all the stock of Manhattan, having used $5,000,000 of
Manhattan's assets to purchase it.
To complete the fraudulent scheme, Irving Trust issued a second
$5,000,000 check to Manhattan which Sweeny, Manhattan's new
president, tendered to Belgian-American Bank & Trust Co., which
issued a $5,000,000 certificate of deposit in the name of
Manhattan. Sweeny endorsed the certificate of deposit over to New
England Note Corp., a company alleged to be controlled by Bourne.
Bourne endorsed the certificate over to Belgian-American Banking
Corp. [
Footnote 2] as
collateral for a $5,000,000 loan from Belgian-American Banking to
New England. Its proceeds were paid to Irving Trust to cover the
latter's second $5,000,000 check.
Though Manhattan's assets had been depleted, its books reflected
only the sale of its Government bonds and the purchase of the
certificate of deposit, and did
Page 404 U. S. 9
not show that its assets had been used by Begole to pay for his
purchase of Manhattan's shares or that the certificate of deposit
had been assigned to New England and then pledged to
Belgian-American Banking.
Manhattan was the seller of Treasury bonds and, it seems to us,
clearly protected by § 10(b), 15 U.S.C. § 78j(b), of the Securities
Exchange Act, [
Footnote 3]
which makes it unlawful to use "in connection with the purchase or
sale" of any security "any manipulative or deceptive device or
contrivance" in contravention of the rules and regulations of the
Securities and Exchange Commission. [
Footnote 4]
There certainly was an "act" or "practice" within the meaning of
Rule 10b-5 [
Footnote 5] which
operated as "a fraud or deceit" on Manhattan, the seller of the
Government bonds. To be sure, the full market price was paid for
those bonds, but the seller was duped into believing that it, the
seller, would receive the proceeds. We cannot
Page 404 U. S. 10
agree with the Court of Appeals that "no investor [was] injured"
and that the "purity of the security transaction and the purity of
the trading process were unsullied." 430 F.2d at 361.
Section 10(b) outlaws the use "in connection with the purchase
or sale" of any security [
Footnote
6] of "any manipulative or deceptive device or contrivance."
The Act protects corporations, as well as individuals, who are
sellers of a security. Manhattan was injured as an investor through
a deceptive device which deprived it of any compensation for the
sale of its valuable block of securities.
The fact that the fraud was perpetrated by an officer of
Manhattan and his outside collaborators is irrelevant to our
problem. For § 10(b) bans the use of any deceptive device in the
"sale" of any security by "any person." And the fact that the
transaction is not conducted through a securities exchange or an
organized over-the-counter market is irrelevant to the coverage of
§ 10(b).
Hooper v. Mountain States Securities Corp., 282
F.2d 195, 201. Likewise irrelevant is the fact that the proceeds of
the sale that were due the seller were misappropriated. [
Footnote 7] As the Court of Appeals for
the Fifth
Page 404 U. S. 11
Circuit said in the
Hooper case,
"Considering the purpose of this legislation, it would be
unrealistic to say that a corporation having the capacity to
acquire $700,000 worth of assets for its 700,000 shares of stock
has suffered no loss if what it gave up was $700,000, but what it
got was zero."
282 F.2d at 203.
The Congress made clear that "disregard of trust relationships
by those whom the law should regard as
Page 404 U. S. 12
fiduciaries, are all a single seamless web" along with
manipulation, investor's ignorance, and the like. H.R.Rep. No.
1383, 73d Cong., 2d Sess., 6. Since practices
"constantly vary, and, where practices legitimate for some
purposes may be turned to illegitimate and fraudulent means, broad
discretionary powers"
in the regulatory agency "have been found practically
essential."
Id. at 7. Hence, we do not read § 10(b) as
narrowly as the Court of Appeals; it is not "limited to preserving
the integrity of the securities markets" (430 F.2d at 361), though
that purpose is included. Section 10(b) must be read flexibly, not
technically and restrictively. Since there was a "sale" of a
security, and since fraud was used "in connection with" it, there
is redress under § 10(b), whatever might be available as a remedy
under state law.
We agree that Congress, by § 10(b), did not seek to regulate
transactions which constitute no more than internal corporate
mismanagement. But we read § 10(b) to mean that Congress meant to
bar deceptive devices and contrivances in the purchase or sale of
securities whether conducted in the organized markets or face to
face. And the fact that creditors [
Footnote 8] of the defrauded corporate buyer or seller of
securities may be the ultimate victims does not warrant disregard
of the corporate entity. The controlling stockholder owes the
corporation a fiduciary obligation -- one "designed for the
protection of the entire community of interests in the corporation
-- creditors as well as stockholders."
Pepper v. Litton,
308 U. S. 295,
308 U. S.
307.
The crux of the present case is that Manhattan suffered an
injury as a result of deceptive practices touching
Page 404 U. S. 13
its sale of securities as an investor. As stated in
Shell v.
Hensley, 430 F.2d 819, 827:
"When a person who is dealing with a corporation in a securities
transaction denies the corporation's directors access to material
information known to him, the corporation is disabled from availing
itself of an informed judgment on the part of its board regarding
the merits of the transaction. In this situation, the private right
of action recognized under Rule 10b-5 [
Footnote 9] is available as a remedy for the corporate
disability."
The case was before the lower courts on a motion to dismiss.
Bankers Life urges that the complaint did not allege, and
discovery failed to disclose, any connection between it and the
fraud, and that, therefore, the dismissal of the complaint as to it
was correct, and should be affirmed. We make no ruling on this
point.
The case must be remanded for trial. We intimate no opinion on
the merits, as we have dealt only with allegations and with the
question of law whether a cause of action as respects the sale by
Manhattan of its Treasury bonds has been charged under § 10(b).
[
Footnote 10] We think
it
Page 404 U. S. 14
has been so charged, and accordingly we reverse and remand for
proceedings consistent with this opinion.
All defenses except our ruling on § 10(b) will be open on
remand.
Reversed.
[
Footnote 1]
Manhattan's Board of Directors was allegedly deceived into
authorizing this sale by the misrepresentation that the proceeds
would be exchanged for a certificate of deposit of equal value.
[
Footnote 2]
Belgian-American Banking at the same time made a loan to New
England Note in the amount of $250,000 which was distributed in
part as follows: Belgian-American Banking $100,000, Bourne $50,000,
Begole $50,000, and Garvin, Bantel $25,000.
[
Footnote 3]
Section 10(b) provides:
"It shall be unlawful for any person . . . [t]o use or employ,
in connection with the purchase or sale of any security registered
on a national securities exchange or any security not so
registered, any manipulative or deceptive device or contrivance in
contravention of such rules and regulations as the Commission may
prescribe as necessary or appropriate in the public interest or for
the protection of investors."
[
Footnote 4]
Rule 10b-5, 17 CFR § 240.10b-5, provides:
"It shall be unlawful for any person, directly or indirectly, by
the use of any means or instrumentality of interstate commerce, or
of the mails or of any facility of any national securities
exchange,"
"(a) To employ any device, scheme, or artifice to defraud,"
"(b) To make any untrue statement of a material fact or to omit
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"
"(c) To engage in any act, practice, or course of business which
operates or would operate as a fraud or deceit upon any person, in
connection with the purchase or sale of any security."
[
Footnote 5]
N 4,
supra.
[
Footnote 6]
Section 3(a)(10) of the 1934 Act defines "security" very broadly
(
see Tcherepnin v. Knight, 389 U.
S. 332) and clearly embraces Treasury bonds.
[
Footnote 7]
See, e.g., Allico Nat. Corp. v. Amalgamated Meat Cutters
& Butcher Workmen of North America, 397 F.2d 727 (CA7
1968), which held sufficient under § 10(b) and Rule 10b-5 a
complaint which charged that defendant union, upon discovering that
a third party would pay a higher price, breached a prior agreement
to sell 100% of the stock in a wholly owned life insurance company
to plaintiffs. The court placed primary reliance on the fact that,
in the course of the transaction, the union misappropriated some
25,000 shares of the life insurance company's stock which had
previously been sold to plaintiffs for cash, but which were being
held in escrow pending consummation of the agreement.
"Even if a breach of contract in order to make a more favorable
contract would not, in itself, be sufficient [to confer
jurisdiction under § 10(b)], we have more here. The motivation not
only is said to induce a breach of contract . . . , but also to
induce the conversion of plaintiffs' pledged 25,000 shares."
Id. at 729-730.
See also Cooper v. North Jersey
Trust Co., 226 F.
Supp. 972 (SDNY 1964), in which a conspiracy to loan plaintiff
money to buy securities, followed by the misappropriation of the
purchased securities when they were pledged to secure the loan, was
held to violate § 10(b) and Rule 10b-5.
Indeed, misappropriation is a "garden variety" type of fraud
compared to the scheme which gave rise to
A. T. Brod & Co.
v. Perlow, 375 F.2d 393 (CA2 1967). That case involved an
action by a broker against its own customers for the recovery of
losses suffered when defendant customers refused to pay for
securities previously ordered which had decreased in value by the
settlement date. The complaint charged that this refusal to honor
the purchase order was part of the customers' deceptive plan only
to pay for securities purchased for their account when those
securities had appreciated in value by the date payment was
due.
Rejecting the customers' pleas that "no fraud is alleged as to
the investment value of the securities nor any fraud
usually
associated with the sale or purchase of securities,'" id.
at 396, the Court of Appeals for the Second Circuit -- composed of
a different panel from the one sitting in the instant case --
reversed the District Court's dismissal of the complaint.
"[We do not] think it sound to dismiss a complaint merely
because the alleged scheme does not involve the type of fraud that
is 'usually associated with the sale or purchase of securities.' We
believe that § 10(b) and Rule 10b-5 prohibit all fraudulent schemes
in connection with the purchase or sale of securities, whether the
artifices employed involve a garden type variety of fraud or
present a unique form of deception. Novel or atypical methods
should not provide immunity from the securities laws."
Id. at 397.
[
Footnote 8]
The history of the Act shows that Congress was especially
concerned with the impact of frauds on creditors of corporations.
See H.R.Rep. No. 1383, 73d Cong., 2d Sess., 3.
[
Footnote 9]
It is now established that a private right of action is implied
under § 10(b).
See 6 L. Loss, Securities Regulation
3869-3873 (1969); 3 L. Loss, Securities Regulation 1763
et
seq. (2d ed.1961).
Cf. Tcherepnin v. Knight,
389 U. S. 332;
J. I. Case Co. v. Borak, 377 U. S. 426.
[
Footnote 10]
Petitioner's complaint bases his single claim for recovery
alternatively on three different transactions alleged to confer
jurisdiction under § 10(b): Manhattan's sale of the Treasury bonds;
the sale of Manhattan stock by Bankers Life to Bourne and Begole;
and the transactions involving the certificates of deposit. We only
hold that the alleged fraud is cognizable under § 10(b) and Rule
10b-5 in the bond sale, and we express no opinion as to Manhattan's
standing under § 10(b) and Rule 10b-5 on other phases of the
complaint.
See Kellogg, The Inability to Obtain Analytical
Precision Where Standing to Sue Under Rule 10b-5 is Involved, 20
Buffalo L.Rev. 93 (1970); Lowenfels, The Demise of the
Birnbaum Doctrine: A New Era For Rule 10b-5, 54 Va.L.Rev.
268 (1968).