ON APPEAL FROM THE UNITED STATES DISTRICT COURT FOR THE WESTERN DISTRICT OF PENNSYLVANIA
Before Gibbons, Weis and Sloviter, Circuit Judges.
Samuel and Alice Weaver appeal from an order granting summary judgment in favor of Marine Bank (Bank) on their complaint seeking equitable relief against or damages from the Bank. The complaint asserts federal question jurisdiction, alleging that the Bank violated section 10(b) of the Securities Exchange Act of 1934 (1934 Act), 48 Stat. 891, 15 U.S.C. § 78j(b).*fn1 It also pleads pendent claims for violation of the Pennsylvania Securities Act, Pa.Stat.Ann. tit. 70, § 1-101 et seq. (Purdon Supp. 1980), and for common law fraud. The district court granted summary judgment on the federal law claim and declined to exercise pendent jurisdiction over the state law claims. We reverse.
Facts and Proceedings in the District Court
Many of the facts are undisputed. Marine Bank, beginning sometime in 1976, made three loans to Columbus Packing Company, an unincorporated business owned by Raymond J. and Barbara J. Piccirillo. Columbus Packing operated a wholesale slaughterhouse and a retail meat market in Corry, Pennsylvania. The loans were secured by perfected security interests in equipment, inventory and accounts receivable, liens on several motor vehicles, and second mortgages on two pieces of real estate. Early in 1978 Robert Santom, newly appointed manager of the Corry branch of Marine Bank, designated the Columbus Packing loans as concerned loans because he did not believe the proprietorship had adequate cash flow and because there was no set repayment program. Besides the outstanding loans, Columbus Packing also had a substantial overdraft position with the Bank. Santom told Mr. Piccirillo that the bank would take possession of its collateral and sell it unless Piccirillo either found a buyer, sold his business and paid the bank, closed the business and sold its assets to pay the bank, or secured additional capital.
On March 17, 1978, a new loan agreement was executed, whereby the Bank loaned Columbus Packing $65,000 on a demand note signed by the Piccirillos, secured as before, by security agreements covering equipment, inventory and accounts receivable, liens on motor vehicles, and liens on the same two pieces of real estate. Simultaneously Mr. and Mrs. Weaver, who were farmers engaged in auctioning livestock, signed an agreement of guaranty which guaranteed payment of the Piccirillos' debt to a maximum of $50,000. To secure this guaranty, the Weavers pledged to the bank a $50,000 certificate of deposit issued by the Marine Bank to them, payable in six years, and bearing interest at six percent. To purchase this certificate of deposit from Marine Bank's Corry branch, the Weavers withdrew $50,000 from another bank. Aged 79 and 71 respectively, they had no formal education beyond the eighth grade, and had spent their lives as cattle farmers.
Prior to the closing on the loan, guaranty, and pledge, the Piccirillos and the Weavers entered into a written agreement providing that the Weavers were to receive fifty percent of the "adjusted net profits" of Columbus Packing and the sum of $100 a month.
The proceeds of the $65,000 loan were forthwith disbursed to repay loans and overdraft obligations to the Bank approximating $42,800, to pay past due federal taxes, and to pay past due obligations to trade creditors. That left approximately $3800 for working capital. Four months later, Columbus Packing filed a bankruptcy petition. The Bank's security in property of Columbus Packing or of the Piccirillos is inadequate, and it intends to resort, for the deficiency, to the pledged certificate of deposit.
Turning to the disputed facts, the Bank contends that prior to the closing on the loan and guaranty it disclosed to the Weavers all the Columbus Packing debts of which it had knowledge, that at that time it believed its loans were fully collateralized by the Columbus Packing and Piccirillo properties, and that it had no knowledge whatsoever of the agreement between the Piccirillos and the Weavers. From the pleadings, affidavits, and depositions on file, however, a fact finder could find that at a time the Bank was aware of Columbus Packing's desperate financial condition, and doubtful about the adequacy of its collateral position, employees of the Bank approached the Weavers and urged them to make an investment in Columbus Packing for the purpose of providing working capital. The Weavers then had no knowledge of or interest in investing in a slaughterhouse business. Further, it could be found that the Weavers initially declined Marine Bank's suggestion that they make such an investment, but were persuaded to pledge their certificate of deposit in exchange for a $65,000 loan to Columbus Packing on the representation that substantially all of the loan would be available to that business for working capital, and on the representation that the existing collateral adequately protected both their interest and the Bank's.
The district court did not conclude that the conduct of the Bank's agents which a fact finder might find, if it occurred "in connection with" the sale or purchase of a security, would not be a violation of Rule 10(b)(5). The court appears to have assumed, without deciding, that liability might be predicated upon a conclusion that as an insider, having access to information not available to the public, the Bank had a duty to disclose material adverse information, or that even if the Bank were not treated as an insider it might be found to be an aider and abettor in a fraud committed by the Piccirillos. See, e. g., SEC v. Texas Gulf Sulphur Co., 401 F.2d 833, 848 (2d Cir. 1968), cert. denied, 404 U.S. 1005, 92 S. Ct. 561, 30 L. Ed. 2d 558 (1971) (an insider is one who has access, directly or indirectly, to information intended to be available only for a corporate purpose and not for the benefit of anyone); Monsen v. Consolidated Dressed Beef, 579 F.2d 793, 799 (3d Cir.), cert. denied sub nom. First Pennsylvania Bank N.A. v. Monsen, 439 U.S. 930, 99 S. Ct. 318, 58 L. Ed. 2d 323 (1978) (plaintiffs have the burden of establishing that there has been a wrongful act, and that the alleged aider and abettor knew of and substantially assisted in the wrongdoing); Landy v. FDIC, 486 F.2d 139, 162-63 (3d Cir. 1973), cert. denied, 416 U.S. 960, 94 S. Ct. 1979, 40 L. Ed. 2d 312 (1974) (an aider and abettor is liable if an independent wrong exists, he knew of the wrong, and substantial assistance was given in effecting it). Rather, the court concluded that if a wrong occurred, on the undisputed facts as a matter of law it did not take place "in connection with the purchase or sale of any security." 15 U.S.C. § 78j(b).
The Weavers urge that a fact finder could hold that the Bank's manipulative and deceptive conduct fell within the proscription in section 10(b) because it was in connection with the purchase of a security from the Piccirillos, and also in connection with the sale of a security to the Bank. If they are right on either contention, summary judgment should not have been granted in favor of the defendant. We address those questions separately, starting with the definition of security in the Securities and Exchange Act of 1934 quoted in the margin.*fn2
The Piccirillo Transaction
A fact finder certainly could on the record before us find that the Bank's manipulative and deceptive conduct, if it took place, was in connection with the execution and delivery of an agreement between the Piccirillos and the Weavers by which, in consideration of their pledge of a $50,000 certificate of deposit to enable Columbus Packing to obtain a working capital loan, they were given a fifty percent interest in the anticipated profits of the Piccirillos' slaughterhouse. Nor is there any question but that the transaction between the Piccirillos and the Weavers would qualify as a sale. The narrower question is whether whatever interest was sold by the Piccirillos falls within one of the categories of securities set forth in section 3(a)(10). It is a settled rule of construction of that definitional section that the categories are not mutually exclusive. "Instruments may be included within any of (the Act's) definitions, as a matter of law, if on their face they answer to the name or description." Tcherepnin v. Knight, 389 U.S. 332, 339, 88 S. Ct. 548, 555, 19 L. Ed. 2d 564 (1967), quoting SEC v. C. M. Joiner Leasing Corp., 320 U.S. 344, 351, 64 S. Ct. 120, 124-125, 88 L. Ed. 88 (1943). More specifically, an interest can be both a certificate of interest or participation in any profit-sharing agreement, and an investment contract. Tcherepnin v. Knight, 389 U.S. at 339, 88 S. Ct. at 555. We hold that the agreement whereby the Piccirillos and the Weavers each would receive fifty percent of the profits of Columbus Packing could be found by a trier of fact to be either or both.
The classic example of a certificate of interest or participation in a profit-sharing arrangement cited by Professor Loss is a contract whereby the buyer furnishes funds and the seller the skill for speculating in the stock or commodities markets under an arrangement to split any profits. 1 Loss, Securities Regulation 489 (2d ed. 1961). Aside from the brief reference to it in Tcherepnin, this clause has not often been considered by the Supreme Court. Cf. International Brotherhood of Teamsters v. Daniel, 439 U.S. 551, 558 n.11, 99 S. Ct. 790, 796, 58 L. Ed. 2d 808 (1979). There are, however, ample applications elsewhere of that clause to arrangements which are quite closely analogous to that before us. See, e. g., SEC v. Addison, 194 F. Supp. 709, 721-22 (N.D.Tex.1961) (written agreements in connection with loans to the effect that defendants would cause contracts to be executed conveying to lenders a percentage interest in profits from defendants' mining operations); William Tell Productions, Inc., Sec. Act Rel. 3852 (1957), 3-4 (fractional interest in a percentage of gross revenues to be realized from an exclusive production of a copyrighted television production). No reason occurs to us why a sale of an interest in the future profits of a slaughterhouse ought to be treated differently. In the cited interest or participation in a profit-sharing agreement cases the interest was offered to more persons than a husband and wife. The nature and size of the offering, however, bears only on whether the interest sold is exempt from registration under the Securities Act of 1933, not on whether the interest is a security. Section 10(b) of the 1934 Act covers both registered and unregistered securities. The Columbus Packing interest is evidenced by a writing calling for a participation in its future profits derived as a result of the Piccirillos' management of the slaughterhouse. A jury could find that it was a certificate of interest or a participation in a profit-sharing agreement.*fn3
In contrast with the profit-sharing agreement clause, the investment contract clause has received a fairly extensive exegesis in the Supreme Court. In the leading case of SEC v. W. J. Howey Co., 328 U.S. 293, 66 S. Ct. 1100, 90 L. Ed. 1244 (1946), contracts for the sale of units of land in a citrus grove development, coupled with contracts with the promoter for cultivating, harvesting, and marketing the crop were found to be investment contracts. The crop from the entire grove was to be sold, and the net proceeds distributed to the separate land owner in the proportion that the land of each produced the crop. If there is a difference between a profit-sharing agreement and an investment contract, probably it is in the fact that the latter includes transactions such as that in Howey, in which the purchaser did not share the profits on his investment with others, but kept the net proceeds himself. The court capsulized the test for distinguishing an investment contract from a mere commercial or consumer transaction as "whether the scheme involves an investment of money in a common enterprise with profits to come solely from the efforts of others." 328 U.S. at 301, 66 S. Ct. at 1104. In subsequent cases the Court has adhered to this test,*fn4 although recently the justices have differed as to its application to a specific set of facts. In United Housing Foundation, Inc. v. Forman, 421 U.S. 837, 95 S. Ct. 2051, 44 L. Ed. 2d 621 (1975), a majority of the Court held that an investment in a cooperative housing project was not a security. Justice Powell, writing for the Court, quoted the Howey test and further stated:
The touchstone is the presence of an investment in a common venture premised on a reasonable expectation of profits to be derived from the entrepreneurial or managerial efforts of others. By profits, the Court has meant either capital appreciation resulting from the development of the initial investment, as in Joiner, supra (sale of oil leases conditioned on promoters' agreement to drill exploratory well), or a participation in earnings resulting from the use of investors' funds, as in Tcherepnin v. Knight, supra (dividends on the investment based on savings and loan association's profits). In such cases the investor is "attracted solely by the prospects of a return" on his investment. Howey, supra, (328 U.S.) at 300 (66 S. Ct. at 1103-1104). By contrast, when a purchaser is motivated by a desire to use or consume the item purchased "to occupy the land or to develop it themselves," as the Howey Court put it, ibid. the securities laws do not apply.
421 U.S. at 852-53, 95 S. Ct. at 2060-2061 (footnote omitted). Here there is no evidence whatsoever in the record that the Weavers wanted to use or develop the Columbus Packing slaughterhouse themselves. It does not appear that they were issuing their obligations to purchase a business they intended to manage.*fn5 A fact finder could determine that the Weavers made a $50,000 investment motivated primarily by a desire to earn fifty percent of the profits earned by the use of those funds as working capital in a business run by the Piccirillos.
In rejecting the foregoing analysis the dissenting opinion relies on the fact that the Weavers were to obtain use of the Piccirillos' barn and pasture. If a fact finder were to determine that use of the barn and pasture was a primary rather than an incidental purpose of the transaction, it might well decide in favor of Marine Bank. But unlike the dissent we decline to hold that this record compelled that determination as a matter of law.
Since a fact finder could have found that the Bank engaged in manipulative or deceptive acts or practices in connection with the purchase by the Weavers of a contract for a fifty percent share in the profits of Columbus Packing, and could have found that that contract was a certificate of interest or participation in a profit-sharing agreement, or an investment contract, or both, the entry of summary judgment against the Weavers was improper. That conclusion requires a reversal. Because we are remanding for trial ...