author: HARDY, District Judge.

text:
    Louis POLYKOFF, IAS, Inc., Charles Stuart, Charles Clapp, Jess Emery, David Fuehring, Modernworld, Inc., Tony Dumbsky, Bill Henderson, Elise White, and Michael Kaplan, Plaintiffs, v. Thomas E. COLLINS, in his official capacity as County Attorney for Maricopa County, Arizona, Defendant.
    No. CIV 84-1101 PHX CLH.
    United States District Court, D. Arizona.
    July 10, 1984.

      John H. Weston, Beverly Hills, Cal., Richard J. Hertzberg, Phoenix, Ariz., for plaintiffs.
    Sandoe O. Shuch, Deputy County Atty., Bruce A. Taylor, Phoenix, Ariz., for defendant.
   MEMORANDUM OPINION AND ORDER

HARDY, District Judge.

Invoking the Civil Rights Act, 42 U.S.C. § 1983, plaintiffs Louis Polykoff, IAS, Inc., Charles Stuart, Charles Clapp, Jess Emery, David Fuehring, Modernworld, Inc., Tony Dumbsky, Bill Henderson, Elise White, and Michael Kaplan seek a declaratory judgment and injunction restraining defendant Thomas E. Collins, in his official capacity as the Maricopa County Attorney, from prosecuting them for violations of section 13-3502 of the Arizona Revised Statutes on the basis that this statute abridges rights secured by the First and Fourteenth Amendments of the United States Constitution. At the close of the hearing for the plaintiffs’ application for preliminary injunction, the parties stipulated that the Court’s findings of fact may be deemed conclusive and that a trial on the merits would not be necessary. The trial of this action on the merits, therefore, will be deemed consolidated with the hearings for a preliminary injunction pursuant to Federal Rule of Civil Procedure 65(a)(2). The following memorandum opinion will serve as the Court’s findings of fact and conclusions of law as required by Federal Rule of Civil Procedure 52.

I. FACTS

The plaintiffs are corporations and individuals who are either owners or employees of stores that sell materials, such as magazines or films, depicting adults engaged in various sexual activities. These stores are located in Maricopa County. The defendant, as the County Attorney, is charged with the duty of prosecuting persons who violate the state laws within Maricopa County.

Under A.R.S. § 13-3502, a person who knowingly sells or offers to sell any “obscene item” is guilty of a class 6 felony. An item is obscene as the term is used in § 13-3502 when:

(a) The average person, applying contemporary state standards would find that the item, taken as a whole, appeals to the prurient interest; and
(b) The item depicts or describes, in a patently offensive way, sexual activity as that term is described herein; and
(c) The item taken as a whole, lacks serious literary, artistic, political or scientific value.

A.R.S. § 13-3501.2. Under Arizona’s sentencing statutes, an enterprise and an individual guilty of a class 6 felony may be punished by imposition of fines of up to $1,000,000 and $150,000, respectively. A.R.S. § 13-804, 13-801.

The defendant has successfully prosecuted a number of adult book store owners for violations of § 13-3502. Fines of up to $7,500, all pursuant to plea agreements, have been imposed by the Maricopa County Superior Court. The defendant would prosecute the plaintiffs if there were probable cause to believe that they violated § 13-3502.

Plaintiffs’ complaint seeks, in addition to injunctive relief, a judgment declaring § 13-3502 unconstitutional on two grounds: first, the statute’s use of the term “prurient interest” to define obscenity, as it has been interpreted by the Arizona Supreme Court in State v. Bartanen, 121 Ariz. 454, 591 P.2d 546, cert. denied, 444 U.S. 884, 100 S.Ct. 174, 62 L.Ed.2d 113 (1979), renders § 13-3502 overbroad and, second, the classification of violations of § 13-3502 as a class 6 felony, punishable by fines of up to $1,000,000, is a prior restraint upon the plaintiffs’ freedom of speech.

II. JURISDICTION AND ABSTENTION

The jurisdiction of this Court is based upon 28 U.S.C. § 1343(a)(4), which implements the Civil Rights Act. Although the plaintiffs have not been prosecuted under § 13-3502, the fact that other owners of adult book stores have been prosecuted is a sufficient threat of prosecution to create the jurisdictional predicate of an “actual controversy.” See Steffel v. Thompson, 415 U.S. 452, 459, 94 S.Ct. 1209, 1216, 39 L.Ed.2d 505 (1974); cf Ellis v. Dyson, 421 U.S. 426, 95 S.Ct. 1691, 44 L.Ed.2d 274 (1975). Accordingly, the Court finds that it has jurisdiction over this case.

The defendant first contends that the Court should abstain from exercise of its jurisdiction in favor of pending state litigation concerning the same controversy. It is, however, a “virtually unflagging obligation of the federal courts to exercise the jurisdiction given them.” Colorado River Water Conservation District v. United States, 424 U.S. 800, 817, 96 S.Ct. 1236, 1246, 47 L.Ed.2d 483 (1976). Therefore, “[ajbstention from the exercise of federal jurisdiction is the exception, not the rule.” Id. at 813, 96 S.Ct. at 1244. There are three general categories of abstention, none of which are applicable to this case:

First, abstention is appropriate “in cases presenting a federal constitutional issue which might be mooted or presented by a state court determination of pertinent state law.” County of Allegheny v. Frank Mashuda Co., 360 U.S. 185, 189, 79 S.Ct. 1060, 1063, 3 L.Ed.2d 1163 (1959). The defendant has not suggested a construction of § 13-3502 that would obviate the plaintiffs’ constitutional challenge. Section 13-3502, moreover, has been authoritatively construed in its relevant parts by the Arizona Supreme Court in State v. Bartanen, 121 Ariz. 454, 591 P.2d 546.

Second, abstention is also appropriate when the case presents “difficult questions of state law bearing on policy problems of substantial public import whose importance transcends the result in the case then at bar.” Colorado River Conserv. Dist., 424 U.S. at 814, 96 S.Ct. at 1244. In this case, the Court is not called upon to construe state law in view of state policy. Rather, state law will be considered in the context of a federal constitutional challenge.

Finally, abstention is appropriate when “federal jurisdiction has been invoked for the purpose of restraining state criminal proceedings, ... state nuisance proceedings antecedent to a criminal prosecution, which are directed at obtaining closure of places exhibiting obscene films, ... or collection of state taxes.” Id. at 816, 96 S.Ct. at 1245 (citations omitted). At this time there is no pending state criminal prosecution or state nuisance proceeding against the plaintiffs.

In view of the above considerations, defendant’s bid for abstention appears to be based merely upon a preference for having the constitutionality of this statute determined in state court. This is not a legitimate reason for a federal court to decline to exercise jurisdiction and, therefore, the Court will deny the plaintiffs’ motion to dismiss. See, e.g., J-R Distributors, Inc. v. Eikenberry, 725 F.2d 482 (9th Cir.1984); Kit-Dal Cinema v. Village of Downers Grove, Ill., 534 P.Supp. 81 (N.D.Ill.1981).

III. THE OVERBREADTH ISSUE

The plaintiffs first contend that § 13-3502 is facially overbroad insofar as it outlaws expression protected by the First Amendment and, therefore, must be declared unconstitutional. Application of the First Amendment overbreadth doctrine to bar all enforcement of a statute is “strong medicine” and, accordingly, has been applied “with hesitation, and then only as a last resort.” New York v. Ferber, 458 U.S. 747, 769, 102 S.Ct. 3348, 3361, 73 L.Ed.2d 1113 (1982) (quoting Broadrick v. Oklahoma, 413 U.S. 601, 613, 93 S.Ct. 2908, 2916, 37 L.Ed.2d 830 (1973)). Three requirements must be met before § 13-3502 may be declared invalid on its face. First, the statute must bring within its sweep expression protected by the First Amendment. J-R Distributors, Inc. v. Eikenberry, 725 F.2d 482, 486 (9th Cir.1984); Wurtz v. Risley, 719 F.2d 1438, 1440 (9th Cir. 1983). Second, the statute must not be readily subject to a narrowing construction by the state courts which might cure the constitutional deficiency. See Ferber, 458 U.S. at 769 n. 24, 102 S.Ct. at 3361 n. 24; Erznoznik v. City of Jacksonville, 422 U.S. 205, 216, 95 S.Ct. 2268, 2276, 45 L.Ed.2d 125 (1975). Third, the deterrent effect on legitimate expression must be both real and substantial. Erznoznik, 422 U.S. at 216, 95 S.Ct. at 2276; see also Ferber, 458 U.S. at 769-70, 102 S.Ct. at 3361-62. A discussion of each of these requirements of the overbreadth doctrine will not be necessary, however, because the Court finds that § 13-3502 does not prohibit legitimate expression.

Section 13-3502 defines obscenity by adopting the tripartite test established in Miller v. California, 413 U.S. 15, 24, 93 S.Ct. 2607, 2615, 37 L.Ed.2d 419 rehearing denied, 414 U.S. 881, 94 S.Ct. 26, 38 L.Ed.2d 128 (1973). One definitional element of obscenity, thus, is that the item “appeal to the prurient interest.” A.R.S. § 13-3501.2(a). The plaintiffs’ first point of contention with respect to § 13-3502 is that the term “prurient interest,” as defined by the Arizona Supreme Court in State v. Bartanen, 121 Ariz. 454, 591 P.2d 546, is unduly broad.

In Bartanen, the Arizona Supreme Court approved the following jury instruction concerning the meaning of “prurient interest:”

The term appeal to the prurient interest means to excite lustful thoughts, a shameful or morbid interest in sex or nudity, arouse sexual desires or sexually impure thoughts, inclined to or disposed to lewdness, having lustful ideas or desires.
The term prurient interest in sex is not the same as a candid, wholesome, or healthy interest in sex. Material does not appeal to the prurient interest just because it deals with sex or shows nude bodies. Prurient interest is an unhealthy, unwholesome, morbid, degrading or shameful interest in sex, a leering or longing interest. An appeal to the prurient interest is an appeal to sexual desire, not an appeal to sexual interest. An interest in sex is normal, but if the material appeals to an abnormal interest in sex, it can appeal to the prurient interest____

121 Ariz. at 458, 591 P.2d 546. Taking inventory of the various definitions of “prurient interest” developed by courts and legal authorities, the Arizona Supreme Court concluded that there were in use essentially two definitional standards for this term: the “appeal” approach, an “appeal to a morbid, shameful, disgusting, unhealthy, unwholesome, degrading interest in sex,” and the “tendency” approach, a tendency “to excite lustful ideas or desires.” See 121 Ariz. at 459-60, 591 P.2d 546. Without expressing a preference for one over the other, the court determined that the instruction was valid because it combined the two standards:

The position taken by the trial court that an “appeal to the prurient interest” is to be judged by both the objective nature of the material and the human instincts which it tends tb arouse is correct under the facts of this case. We believe therefore that the instructions, when read as a whole, provided the jury with an adequate and sufficient direction upon which they could reach a proper verdict based on the evidence before them.

121 Ariz. at 460, 591 P.2d 546. As a result of the Bartanen decision, the instruction approved therein has become a standard jury instruction for obscenity prosecutions in the Arizona courts.

The plaintiffs contend that the Arizona Supreme Court’s interpretation of “prurient interest” must be viewed as unconstitutional in light of the recent Ninth Circuit opinion, J-R Distributors, Inc. v. Eikenberry, 725 F.2d 482. In J-R Distributors, the Ninth Circuit was called upon to determine the validity of the State of Washington’s anti-obscenity statute, which defined “prurient interest” as “that which incites lasciviousness or lust.” 725 F.2d at 490. The court concluded that “prurient interest” is “a shameful or morbid interest in nudity, sex or excretion.” Id. at 491. The court also observed that the contemporary meaning of “lust” was little more than sexual desire, “a healthy, wholesome, human reaction common to millions of well-adjusted persons in our society.” Id. at 490. As a result, lust could not properly be regarded as a connotation of “prurient interest” and, because the Washington statute defined “prurient interest” in the alternative as lust, the statute was overbroad and unconstitutional. Id. at 491.

This Court, of course, must follow all decisions of the Ninth Circuit Court of Appeals. This Court concludes, however, that the Arizona Supreme Court’s discussion of the term “prurient interest” is not inconsistent with that of the Ninth Circuit in J-R Distributors. The basis for the Ninth Circuit’s ruling was that, under the Washington statute, materials found to incite lust might be deemed to “appeal to prurient interest” regardless of whether the materials also appealed to “a shameful or morbid interest in sex, nudity or excretion.” Under this Court’s reading of Bartanen and the jury instruction approved therein, “prurient interest” under § 13-3502 is defined as appealing to a shameful, disgusting, unhealthy, unwholesome, degrading, interest in sex as well as tending to excite lustful ideas or desires. Nowhere in the Bartanen opinion are these standards stated as alternatives, such that one standard may serve as a basis for a finding of “prurient interest” independently of the other. The Bartanen Court, perhaps, assumed that “lust” was synonymous with “a shameful or morbid interest” in sex. Regardless, the Bartanen Court left no room for á jury to base a finding of prurient interest upon a finding of a tendency in the material to cause lust under the contemporary meaning of that term. The jury instruction approved by the court as a proper definition of “prurient interest” repeatedly defines “prurient interest” as something abnormal, “an unhealthy, unwholesome, morbid, degrading, or shameful interest in sex.” This is the definition approved by the Ninth Circuit in J-R Distributors and, therefore, § 13-3502 is not unconstitutionally overbroad.

IV. THE PRIOR RESTRAINT ISSUE

Under § 13-3502, the sale of obscene items is a class 6 felony. In Arizona, a class 6 felony committed by an individual is punishable by imprisonment or a fine of up to $150,000. A.R.S. § 13-801 A. The same felony committed by an enterprise may be punished by a fine of up to $1,000,000. A.R.S. § 13-804 A.l. The plaintiffs second contention is that the criminal fine provisions, as applied to violations of § 13-3502, operate as a prior restraint upon their freedom of speech and, therefore, § 13-3502 must be declared invalid.

The plaintiffs again rely on J-R Distributors, where the Ninth Circuit ruled that the civil penalty provision contained within the Washington anti-obscenity statute was unconstitutional. The statute provided that once it has been determined “that a defendant has with knowledge maintained a moral nuisance, the court shall impose a civil penalty and judgment of an amount as the court may determine to be appropriate. In imposing the civil penalty, the court shall consider the willfulness of the defendant’s conduct and the profits made by the defendant attributable to the moral nuisance.” J-R Distributors, 725 F.2d at 493. The court observed that “the civil fine, which is premised in part on profits ‘attributable to the moral nuisance,’ may be based on profits from the sale of protected materials in a place that is a moral nuisance solely because obscene materials were also sold or exhibited there.” Id. at 494. The court held “that it is impermissible, in an anti-obscenity statute, to provide that the amount of a fine shall be based, even in part, on the proceeds from constitutionally protected material.” Id.

The Ninth Circuit’s analysis employed two lines of First Amendment law. First, the civil penalty provision, which was attached only to the anti-obscenity statute, created differential treatment for First Amendment activity. The provision, thus, was presumptively unconstitutional. J-R Distributors, 725 F.2d at 495-496; see Minneapolis Star & Tribune Co. v. Minnesota Commissioner of Revenue, 460 U.S. 575, 103 S.Ct. 1365, 1375, 75 L.Ed.2d 295 (1983). Second, the civil penalty provision was perilously similar to padlocking statutes insofar as both “have the effect of preventing the dissemination of protected speech simply because obscene speech originated from the same location.” Id. at 495. In Near v. Minnesota, 283 U.S. 697, 51 S.Ct. 625, 75 L.Ed. 1357 (1931), an early decision establishing the doctrine of prior restraint, the evil of prior restraint was found in an abatement statute that provided that upon violation no further publications could be made — regardless of whether the subsequent publication was non-obscene or non-libelous — unless approval was received from a local court. In J-R Distributors, the restraint was an economic sanction, not a padlock on a door. It was designed, nevertheless, with the same purpose of abating a moral nuisance. The civil penalty provision, thus, was deemed a form of prior restraint and therefore unconstitutional. Id.

J-R Distributors does not require that § 13-3502 be declared unconstitutional. First, unlike the Washington statute, § 13-3502 does not establish differential treatment of first amendment activity with respect to the imposition of fines. Enterprises or individuals who violate § 13-3502 are penalized under the same guidelines as any other class 6 felon. Thus, this statute does not carry with it a presumption of unconstitutionality.

Second, and most importantly, the criminal fine provisions in question, §§ 13-801 and 13-804, do not authorize sentencing judges to use criminal penalties as a form of prior restraint. As the Supreme Court noted in Near v. Minnesota, 283 U.S. at 711, 51 S.Ct. at 629, one objectionable aspect to abatement statutes such as a padlocking statute is that “[t]he object is not punishment, in the ordinary sense, but suppression of the offending newspaper or periodical.” A statute authorizing criminal fines for violation of an obscenity law is distinguishable from a statute designed to abate moral nuisances on the basis that the former serves the legitimate purpose of punishing illegal conduct while the latter is clearly directed toward suppression of speech. Arizona’s sentencing provisions do not permit courts to use criminal fines for suppressive purposes. In In Re Collins, 108 Ariz. 310, 311-12, 497 P.2d 523 (1972), the Arizona Supreme Court adopted the American Bar Association’s Minimum Standards for Criminal Justice, Relating to Sentencing Alternatives and Procedures, § 2.7(b) and (c):

(b) Whether to impose a fine in a particular case, its amount up to the authorized maximum, and the method of payment should remain within the discretion of the sentencing court. The court should be explicitly authorized to permit installment payments of any imposed fine, on conditions tailored to the means of the particular offender.
(c) In determining whether to impose a fine and its amount, the court should consider:
(i) the financial resources of the defendant and the burden that payment of a fine will impose, with due regard to his other obligations;
(ii) the ability of the defendant to pay a fine on an installment basis or on other conditions to be fixed by the court;
(iii) the extent to which payment of a fine will interfere with the ability of the defendant to make any ordered restitution or reparation to the victim of the crime; and
(iv) whether there are particular reasons which make a fine appropriate as a deterrent to the offense involved or appropriate as a corrective measure for the defendant.

These guidelines are designed to insure that criminal fines are used only for deterrent purposes and are not so severe as to pose an unreasonable debt upon the defendant. The criminal fine provisions applicable to violations of § 13-3502, therefore, do not constitute a prior restraint of the likeness of the civil penalty provision in J-R Distributors.

V. THE CHILL ISSUE

The plaintiffs make the additional argument that the criminal fine provisions applicable to violations of § 13-3502 are unconstitutional because their effect is to “chill” the exercise of First Amendment rights. This contention is essentially that these provisions not only permit a prior restraint to result from the imposition of severe fines, but also force the plaintiffs to engage in self-censorship for fear of violating § 13-3502 and, thereby, becoming subject to the fines of § 13-801 and § 13-804.

The Court first of all questions the legitimacy of the plaintiffs’ complaint of a chill, given the guidelines imposed in In Re Collins. But assuming that an actual chill does exist, it would seem imprudent to require, as a matter of Constitutional law, that the chill be redressed by imposing substantive limitations on the power of a state to punish individuals lawfully convicted of obscenity law violations. The chill complained of in this case is nothing more than deterrence, a state objective the legitimacy of which is implied by the fact that obscenity may be outlawed. The Supreme Court has compensated for the ambiguities in the definition of obscenity by imposing the requirement of scienter as an element of obscenity offenses. Mishkin v. New York, 383 U.S. 502, 511, 86 S.Ct. 958, 965, 16 L.Ed.2d 56 (1966). This Court disagrees with the plaintiffs’ contention that the sentences or fines imposed for violations of obscenity laws must also be restricted to protect the exercise of First Amendment freedoms.

IT IS ORDERED denying plaintiffs’ application for injunctive relief.

IT IS FURTHER ORDERED directing entry of judgment in favor of the defendant.


source: Caselaw Access Project

author: LIMBAUGH, District Judge.

license: Public Domain

text:
    SCHEVE, Donald P., Scheve, Deanna, Plaintiffs, v. CLARK, Paul K., Dickherber, George J., Dickherber, Francis R., J.K.R. Enterprises, Diversified Business Services, Defendants.
    No. 83-567C(5).
    United States District Court, E.D. Missouri.
    July 30, 1984.

      Arthur L. Smith, Christine M. Kazanas, St. Louis, Mo., for plaintiffs.
    Michael B. Stern, Margaret Zonia Morrison, Clayton, Mo., for defendants.
   MEMORANDUM OPINION

LIMBAUGH, District Judge.

This is a suit to recover for the sale of three securities to the plaintiffs in violation of the registration, prospectus and anti-fraud provisions of the federal and state securities laws. The plaintiffs also seek to recover for common law fraud in connection with the sale of one of the securities. Judgment will be entered in favor of the plaintiffs.

The plaintiffs in this case are Donald P. and Deanna Scheve. They are husband and wife, and residents of St. Louis County, Missouri.

Donald Scheve is and was in 1981 and 1982 employed as vice president of Burgoyne Electrical Sales, Inc., a corporation that employed defendant Diversified Business Services, Inc. to do its accounting work in 1981 and 1982. In 1982 Diversified Business Services, Inc. arranged for the preparation of plaintiffs’ 1981 income tax returns.

The defendants are Paul Clark, George Dickherber, Francis Dickherber, J.K.R. Enterprises, and Diversified Business Services, Inc. Paul Clark, George Dickherber, and Francis Dickherber are residents of Missouri. J.K.R. Enterprises is a Missouri partnership in which Paul Clark, George Dickherber and Francis Dickherber are the sole equal partners. Diversified Business Services, Inc. is a Missouri corporation of which defendants Paul Clark, George Dickherber and Francis Dickherber are the principal officers, directors and stockholders. Besides their interlocking managements, defendants J.K.R. Enterprises and Diversified Business Services, Inc. share the same business office, telephone number and support staff.

In 1981 and the early part of 1982, Paul Clark, George Dickherber and Francis Dickherber were promoting the sales of working interests in Show Petroleum gas and oil wells to the accounting clients of Diversified Business Services, Inc. As a result of these marketing efforts by the defendants, including several invitations by Paul Clark to Don Scheve to attend promotional sales meetings, the plaintiffs first became aware of Show Petroleum, Inc.

In early March, 1982, Mr. Scheve had a conversation with defendant Paul Clark in the offices of Diversified Business Services, Inc. and J.K.R. Enterprises concerning Show Petroleum. During the conversation, and in other conversations in person and on the telephone during the week preceding March 9,1982, Clark offered for sale to Mr. Scheve a 2.34375 percent working interest in Show Petroleum, Inc’s R.L. Cantwell # 3 Well for a price of $9,600.00. On March 9, 1982, Donald Scheve delivered a check for $9,600.00 to Paul Clark at the offices of J.K.R. Enterprises and Diversified Business Services, Inc. in consideration for a 2.34375 percent working interest in the R.L. Cantwell # 3 Well. The check was transmitted to Show Petroleum by employees of J.K.R. Enterprises and Diversified. J.K.R. Enterprises was compensated by Show Petroleum, Inc. for services performed in connection with the sale. After delivery of the check, Paul Clark handed Mr. Scheve a promotional paperweight in which the names of Show Petroleum, Inc. and J.K.R. Enterprises, along with the address and telephone number of Diversified Business Services, Inc. and J.K.R. Enterprises, were encased.

During the week preceding April 9, 1982, Mr. Scheve had several conversations in person and on the telephone with Paul Clark. During these conversations, Clark offered for sale to Mr. Scheve a 2.34375 percent working interest in Show Petroleum’s Hames C-4 Well at a price of an additional $9,600.00. Clark also represented to Mr. Scheve during these conversations that current investors in the Hames C-4 Well were being paid $275.00 a month from their investments. In fact, investors in Hames C-4 were not being paid $275.00 a month and Clark knew that they were not when he made the representation to Mr. Scheve:

As a result of these conversations and the misrepresentation of Paul Clark, on April 9, 1982, Donald Scheve delivered a check for $9,600.00 to Paul Clark at the offices of J.K.R. Enterprises and Diversified in consideration for a 2.34375 percent working interest in the Hames C-4 Well. The check was transmitted to Show Petroleum by employees of J.K.R. Enterprises and Diversified. J.K.R. Enterprises was compensated by Show Petroleum, Inc. for services performed in connection with this sale.

On or about March 23,1982 and April 26, 1982 plaintiff received letters of agreement in the mail for the interests in R.L. Cant-well # 3 and Hames C-4, respectively, from Show Petroleum. At no time did the plaintiffs ever receive a prospectus concerning either of these interests. The letters of agreement represented plaintiffs’ only contact with Show Petroleum, Inc., other than through defendants, until sometime in May, 1982.

On about May 15, 1982, Mr. Scheve, at the invitation of Paul Clark, attended a meeting at the offices of J.K.R. Enterprises and Diversified conducted by Paul Clark, George Dickherber and Francis Dickherber. The meeting was attended by about 40 investors. At the meeting, the defendants informed the investors that Show Petroleum was in financial trouble and needed additional capital. The defendants proposed that the investors form an investment partnership for the purpose of providing Show Petroleum with the needed capital. Several days after the meeting, Clark contacted Mr. Scheve by telephone and offered him an interest in an investment partnership, to be known as The St. Louis Connection, for any increment of $1,000.00. On about May 25, 1982, Mr. Scheve delivered a check for $5,000.00 to Paul Clark at the offices of J.K.R. Enterprises and Diversified for the purchase of an interest in The St. Louis Connection, and executed an agreement evidencing the purchase. A copy of the agreement was mailed to Mr. Scheve on about June 30, 1982, by defendants. The agreement states that the specific purpose of The St. Louis Connection shall be “to make various investments by purchasing various investment interests or the making of various loans for investment purposes.” At no time did Mr. Scheve receive a prospectus concerning his interest in The St. Louis Connection.

No registration statement was ever filed with the Securities and Exchange Commission for the working interests in the Show Petroleum wells or the interest in The St. Louis Connection which the plaintiffs purchased. Nor were the investments registered with the State of Missouri. The defendants have not alleged that the working interests or the interest in The St. Louis Connection were exempt from registration with the Securities and Exchange Commission or the State of Missouri, or that the sales of the interests to plaintiffs were exempted transactions under the Securities Act of 1933 or the Missouri Uniform Securities Act.

J.K.R. Enterprises was paid $200,987.90 by Show Petroleum, $50,777.12 of which represented credit on a loan by Show Petroleum to J.K.R. Of the $200,987.90 paid to J.K.R., $1,599.94 was attributable to the plaintiffs’ investments. The $1,599.94 represented approximately 7% of the plaintiffs’ total investment of $24,200.

The plaintiffs tendered their interests in the Cantwell # 3 and Hames C-4 wells and The St. Louis Connection to defendants. The defendants rejected the tender. Show Petroleum is now bankrupt and therefore is not a party.

The working interests in the R.L. Cantwell #3 and Hames C-4 Wells were securities. 15 U.S.C. § 77b(l); § 409.401(¿), R.S.Mo.1978. The interest in The St. Louis Connection was a security for two reasons. First, the Scheves’ purchase of the interest was, in effect, a further investment in working interests in oil and gas wells, interests which are securities. Second, the Scheves’ interest in The Connection was an investment contract, which is “an investment in a common venture premised on a reasonable expectation of profits to be derived from the entrepreneurial or managerial efforts of others.” United Housing Foundation, Inc. v. Forman, 421 U.S. 837, 852, 95 S.Ct. 2051, 2060, 44 L.Ed.2d 621 (1975). See also S.E.C. v. W.J. Howey, Inc., 328 U.S. 293, 301, 66 S.Ct. 1100, 1104, 90 L.Ed. 1244 (1946). Any profits were to be derived from the efforts of others, for financial success depended on Show’s ability to develop profitable wells and management of The Connection was vested in an Executive Committee composed of Clark and the Dickherbers.

None of these securities were exempt from registration under Federal or Missouri securities laws, nor were the offers and sales of the securities exempted transactions. The securities were not registered and not accompanied by any prospectus. The offers and sales of the three securities were therefore in violation of federal and state law. 15 U.S.C. § 77e (requiring registration and prospectus); § 409.301, R.S.Mo.1978 (requiring registration).

The activities of defendant Clark were a substantial factor in and materially aided in the sale of the three securities to the plaintiffs. Clark is therefore liable to the plaintiffs. 15 U.S.C. § 77Z(1); § 409.-411(a), (b), R.S.Mo.Cum.Supp.1983; S.E.C. v. Murphy, 626 F.2d 633, 650 (9th Cir. 1980).

The activities of defendants George and Francis Dickherber were a substantial factor in and materially aided in the sale of the interest in The St. Louis Connection. The Dickherbers, along with Clark, are therefore jointly and severally liable to the plaintiffs with respect to The St. Louis Connection. Id.

Furthermore, Clark was an agent of the Dickherbers and was acting within the scope of his actual or apparent authority in connection with the sales of all three securities. The Dickherbers, along with Clark, are jointly and severally liable to the plaintiffs for all three sales under agency principles and statutory law. 15 U.S.C. § 77o; § 409.411(b), R.S.Mo.Cum.Supp.1983. Clark and the Dickherbers were agents of J.K.R. Enterprises and Diversified Business Services, Inc., and acted within the scope of their actual or apparent authority. J.K.R. and Diversified are also liable to the plaintiffs under agency principles and statutory law. Id.

The misrepresentation of Clark concerning the Hames C-4 Well was material, was made with scienter, was reasonably relied on by the plaintiffs, and induced them to purchase the Hames C-4 security to their detriment. Clark is liable to the plaintiffs under statutory law and common law for the misrepresentation. 15 U.S.C. § 77Z(2); § 409.411(a), R.S.Mo.Cum.Supp. 1983; Weaver v. Travers, 631 S.W.2d 81 (Mo.App.1982). The other four defendants are jointly and severally liable with Clark for the misrepresentation under agency principles and statutory law.

The plaintiffs may recover the consideration paid ($24,200.00), less income received ($1,715.21), which produces a figure of $22,484.79. No punitive damages will be allowed. The plaintiffs may recover reasonable attorneys’ fees and may file a motion itemizing their fees. No hearing on fees will be held unless requested by the defendants.

The plaintiffs also may recover prejudgment interest. On the federal claims, the appropriate rate is that which will adequately compensate the plaintiffs for the loss of the use of their money. The rate here will be 12%, which the plaintiffs could have obtained through their money market fund. See Western Federal Corporation v. Davis, 553 F.Supp. 818, 821 (D.Ariz. 1982); Johns Hopkins University v. Hutton, 297 F.Supp. 1165, 1229 (D.Md.1968). The rate on the state statutory claims is 8%. § 409.411(a), R.S.Mo.Cum.Supp.1983. The total interest allowable through February 9, 1984 is $5,363.68, with an additional $7.96 per day to the date of judgment.

The foregoing constitutes findings of fact and conclusions of law pursuant to F.R.Civ.P. 52. In evaluating the testimony, exhibits and other evidence, the Court has considered the parties’ objections and given the materials such weight as they deserve. Judgment will be entered in favor of the plaintiffs.


author: HATFIELD, District Judge.

text:
    Debra D. MARZOLF, individually and as Guardian Ad Litem for Deana Marzolf, a Minor, Plaintiff, v. Chad HOOVER and Farmers Insurance Exchange, Defendants.
    No. CV-84-12-GF.
    United States District Court, D. Montana, Great Falls Division.
    July 31, 1984.

      Turner Graybill, Graybill, Ostrem, Warner & Crotty, Great Falls, Mont., for plaintiff.
    Marvin J. Smith, Smith, Baillie & Walsh, Great Falls, Mont., for defendant Hoover.
    William Conklin, Dzivi, Conklin & Nybo, Great Falls, Mont., for defendant Farmers Insurance Exchange.
   MEMORANDUM AND ORDER

HATFIELD, District Judge.

Presently before the court are numerous motions filed by the defendants requesting the court to dismiss and strike certain claims advanced by the plaintiff against the defendants. Having considered the merits of the arguments advanced by the parties with respect to these various motions, the court is now prepared to rule.

Defendant Hoover’s Motion to Dismiss Count II of the Original Complaint

Hoover moved to dismiss Count II of the plaintiff’s complaint which attempted to plead a claim for the tort of bad faith against Hoover. Subsequent to the filing of that motion, the plaintiff was granted leave to file an amended complaint which deleted the bad faith claim challenged by Hoover. Accordingly, the motion to dismiss the bad faith claim advanced against Hoover in the original complaint must be DENIED as moot.

Defendant Hoover’s Motion to Dismiss Plaintiffs Claim for Negligent Infliction of Emotional Distress (Count II of Amended Complaint)

Under Montana law, a person may recover damages caused by the emotional impact of witnessing an accident, causing the death or serious injury of a closely related individual. See, Versland v. Caron Transport, Mont., 671 P.2d 583 (1983). In Versland, the court enunciated the elements which must be satisfied to establish a claim for negligent infliction of emotional distress in such circumstances, the first of which was stated as follows:

Whether the shock resulted from a direct emotional impact upon plaintiff from the sensory and contemporaneous perception of the accident, as contrasted with learning of the accident from others after its occurrence.

Id. at 587.

In recognizing the existence of a cause of action for the damages caused by the emotional trauma experienced by witnessing an accident which results in the injury or death of a close relative, the Montana Supreme Court followed the lead of the California Supreme Court in Dillon v. Legg, 68 Cal.2d 728, 69 Cal.Rptr. 72, 441 P.2d 912 (1968), and abandoned the “zone-of-physical-danger rule” for the more expansive “zone-of-psychic-danger rule”. Versland, 671 P.2d at 586. Consistent with the Dillon progeny, see, Krouse v. Graham, 19 Cal.3d 59, 137 Cal.Rptr. 863, 562 P.2d 1022 (1979); Bliss v. Allentown Public Library, 497 F.Supp. 487 (E.D.Pa. 1980), the Montana Supreme Court further held that sensory perception of an accident, rather than actual visual observation, would suffice to satisfy the first element of the cause of action. Versland, 671 P.2d at 586.

In the case sub judice, the plaintiff’s minor daughter was riding her bicycle when she was struck by a truck driven by Hoover. Immediately after the mishap, the plaintiff was summoned to the scene, where she observed her daughter’s injuries as the daughter lay sprawled on the ground waiting for the arrival of medical assistance. The issue raised by Hoover's motion is whether the facts plead by the plaintiff state a claim cognizable under the Versland decision.

It is undisputed that the plaintiff arrived at the scene after the mishap occurred. Undoubtedly, the occurrence would have been a traumatic experience for the plaintiff. The cause of action recognized in Versland, however, is designed to compensate an individual for the trauma occasioned by perceiving, through any human sensory medium, an event which causes injury to a closely related individual.

In espousing the first element necessary to establishing a claim under Versland, the Montana Supreme Court specifically stated that their formulation of that element was designed to satisfy the proximity requirement. 671 P.2d at 586. The court concluded that if the plaintiff is required to experience “actual sensory perception of the accident”, the proximity requirement would be satisfied. 671 P.2d at 586. By injecting the requirement of contemporaneous perception, the court in Versland clearly limited recovery to those situations where the plaintiff actually perceives the injury-producing event.

Based on the facts plead by the plaintiff in the present instance, it is clear that the plaintiff fails to satisfy the first element of Versland. The plaintiff was not in the proximity of the injury-producing event and did not contemporaneously perceive the same. Rather, she learned of the event after its occurrence. Accordingly, I find that the plaintiff has failed to state a claim for the negligent infliction of emotional distress. Hoover’s motion to dismiss Count II of the Amended Complaint must be GRANTED.

Defendant Farmers Insurance Exchange’s Motion to Dismiss Count III of Plaintiff’s Amended Complaint

In Count III of her amended complaint, the plaintiff alleges that Farmers Insurance Exchange (“Farmers”), defendant Hoover’s insurer, had a duty under Montana law to deal in good faith with respect to the insurance claims filed as a result of the mishap at issue. The plaintiff alleges that Farmers breached that duty by attempting to deceive the plaintiff and coerce her into settling her claims.

Farmers moves to dismiss the claim upon the ground that Montana law does not recognize a common law duty of good faith running from an insurer to a third party claimant injured by the negligence of an insured.

Under Montana law, a third party claimant may maintain an action in tort against an insurer for violating the Unfair Trade Practices section of the Montana Insurance Code, § 33-18-201 Montana Code Annotated (1979). Klaudt v. Flink, Mont. 658 P.2d 1065 (1983). The duty essential to the maintenance of a cause of action by a third-party claimant against an insurer is statutory in nature, having its genesis in the Unfair Trade Practices section of the Montana Insurance Code. The Klaudt decision recognized the right of third-party claimants to maintain a private civil cause of action against an insurer for breach of the duty to settle, an obligation created by § 33-18-201(6), M.C.A. (1979). The duty owed a third-party claimant by an insurer is akin to, yet distinct from, the fiduciary duty running from an insurer to its insured. See, Thompson v. State Farm Mutual Automobile Ins. Co., 161 Mont. 207, 505 P.2d 423 (1973). The latter duty being a common law duty attendant a contract of insurance.

In Count III of her Amended Complaint, the plaintiff asserts the existence of a common law duty running from an insurer to a third-party claimant, a duty separate and independent from the obligation imposed upon an insurer by § 33-18-201, M.C.A. (1979). No such duty, however, exists under Montana law, and Klaudt v. Flink, supra, does not alter this conclusion. Granted, a fiduciary duty runs from the insurer to its insured by virtue of the contract of insurance extant between the two, see, Thompson v. State Farm Mutual Automobile Ins. Co., supra, but the only duty running from an insurer to a third-party claimant is that imposed upon the insurer by § 33-18-201, M.C.A. (1979). Accordingly, I find that Count III of plaintiff’s Amended Complaint fails to state a claim cognizable under Montana law.

Defendant Farmers’ Motion to Dismiss Count IV of Plaintiffs Amended Complaint

In Count IV of her complaint, the plaintiff asserts a separate claim against Farmers for the intentional infliction of emotional distress. The conduct of Farmers which the plaintiff contends constitutes an intentional infliction of emotional distress is the same conduct upon which the plaintiff predicates Count V of her complaint; a claim for the bad faith breach of the obligations imposed upon an insurer by § 33-18-201, M.C.A. (1979).

The gist of plaintiffs claim is that while certain conduct of an insurer may constitute a breach of the obligation imposed by the Unfair Trade Practices section of the Montana Insurance Code, that conduct may be so egregious as to constitute the separate tort of intentional infliction of emotional distress.

Farmers moves to dismiss Count IV, contending that the intentional infliction of emotional distress is not a tort cognizable under Montana law.

Although no decision of the Montana Supreme Court expressly states that Montana recognizes the existence of the tort of intentional infliction of emotional distress, Montana law clearly recognizes that extreme or outrageous conduct causing damage to a person is compensable in tort. See, Lauman v. Lee, Mont. 626 P.2d 830, 833 (1981). Whether one wishes to denominate the tort as the tort of outrage or the tort of intentional infliction of severe emotional distress, the difference appears semantical. The gravamen of the tort is the intentional or reckless causing of severe emotional distress by extreme or outrageous conduct. See, e.g., Patton v. First Federal Savings & Loan, 118 Ariz. 473, 578 P.2d 152 (1978); Deming v. Kellogg, 41 Colo.App. 264, 583 P.2d 944 (1978); Young v. Hecht, 3 Kan.App.2d 510, 597 P.2d 682 (1979); Star v. Rabello, 97 Nev. 124, 625 P.2d 90 (1981). I am convinced, in light of Lauman, that if presented with the question at issue here, in precise terms, the Montana Supreme Court would undoubtedly hold that extreme or outrageous conduct causing severe emotional distress to a person constitutes a tort compensable under Montana law.

One need only ponder the contentions advanced by Farmers to realize the logic of the foregoing conclusion. Assume that an agent of an insurer, in an effort to force a claimant to settle a claim, engaged in an isolated incidence of outrageously offensive conduct, causing the claimant to suffer severe emotional distress. Because the incident was an isolated one, the conduct would not constitute a general business practice sufficient to establish a breach of the duty imposed by the Unfair Trade Practices section of the Montana Insurance Code. To conclude that such conduct would not serve as the basis of a tort until it became a general business practice runs contrary to the spirit of Lauman, and the case law of Montana as a whole.

Farmers further contends that the conduct of which the plaintiff complains is not outrageous. The question of what constitutes outrageous conduct is a question of fact for a jury to decide. Granted, that if the evidence presented fails to meet a threshold showing of outrageous conduct, the court may decide, as a matter of law, that the issue should not be submitted to the jury. The court, however, cannot make that determination in a vacuum, but must assess the evidence at the appropriate time. Accordingly, Farmers’ motion to dismiss Count IV of the plaintiff’s Amended Complaint must be DENIED.

Defendant Farmers’ Motion to Dismiss Count V of Plaintiffs Amended Complaint

Count V of the amended complaint clearly states a claim for breach of the duty imposed upon an insurer by § 33-18-201, M.C.A. (1979). See, Klaudt v. Flink, supra. Farmers contends, however, that the Klaudt decision should not be applied retroactively to the present situation. Farmers’ contention must be rejected as without merit and the motion to dismiss Count V DENIED.

The requirements of LaRoque v. State and Alley, 178 Mont. 315, 583 P.2d 1059 (1978), essential to the adoption of a rule of nonretroactivity, are not present. Specifically, the situation is not one in which there was “a clearly declared judicial doctrine upon which [litigant] relied and under which [litigant’s] conduct was lawful, a doctrine which was overruled in favor of a new rule according to which conduct performed in reliance upon the old rule would have been lawful.” 178 Mont. at 319, 583 P.2d 1059, citing Hanover Shoe v. United Shoe Machinery Corp., 392 U.S. 481 at 496, 88 S.Ct. 2224 at 2233, 20 L.Ed.2d 1231 (1968). Klaudt was a decision interpreting a legislative enactment which was in force prior to the incident at issue, not the establishment of a judicial doctrine which was clearly contrary to a previously clearly declared doctrine.

Defendant Farmers’ Motion to Dismiss Count VI of Plaintiffs Amended Complaint

In Count VI of her complaint, the plaintiff advances a claim for breach of promise. Plaintiff predicates her claim for breach of promise upon Farmers allegedly unconditional offer to pay the medical expenses of plaintiff’s minor daughter occasioned by the mishap at issue. Count VI simply fails to state a claim cognizable under Montana law. Plaintiff’s failure to cite any authority in support of the claim is indicative of its merit. Farmers’ motion to dismiss Count VI of plaintiff’s amended complaint must be GRANTED.

Defendant Farmers’ Motion to Strike Plaintiffs Claims for Attorney’s Fees

The plaintiff claims attorney’s fees as an element of damage in Counts IV and V of the amended complaint. Attorney’s fees are not allowed in Montana unless recovery is granted by contract or statute. Foy and Gilreath v. Anderson, 176 Mont. 507, 580 P.2d 114 (1978). Section 33-18-201, M.C.A. (1979), does not provide for an award of attorney’s fees in actions prosecuted thereunder. Accordingly, Farmers’ motion to strike plaintiff’s claims for attorney’s fees must be GRANTED.

IT IS SO ORDERED.


author: ENRIGHT, District Judge.

text:
    OAK INDUSTRIES, INC., and Oak Technology, Inc., Plaintiffs, v. The FOXBORO COMPANY, Defendant.
    Civ. No. 83-1068-E(I).
    United States District Court, S.D. California.
    Aug. 10, 1984.

      Lance B. Wickman, Latham & Watkins, San Diego, Cal., for plaintiffs.
    Sally A. VanderWeele, Goodwin, Procter & Hoar, Boston, Mass., for defendant.
   MEMORANDUM DECISION

ENRIGHT, District Judge.

BACKGROUND

This case involves a dispute between the purchasers of a corporation, plaintiffs Oak Industries, Inc. and its subsidiary, Oak Technology, Inc. (hereinafter collectively referred to as “Oak Industries”), and the seller of that corporation, defendant Foxboro Company. The corporation which changed hands is Adec, Inc., called Foxboro/Adec, Inc. prior to the sale and now known as Oak/Adec, Inc. The sale took place on June 13,1980 and was consummated via a stock purchase agreement in which Oak Industries provided as consideration for the acquisition of 100% of the Adec stock shares of Oak stock valued at $4.2 million.

Adec, both before and after the sale, has been a company engaged in the development of management programs through which various organizations can improve the efficiency of their energy consumption, primarily through the use of computer software. Both plaintiffs and defendant, purchaser and seller, are sophisticated publicly-held corporations with stock traded on the New York Stock Exchange. The purchaser, Oak Industries, was not well-versed in the type of business in which Adec was engaged prior to the sale, however, although Oak utilized the services of its employees who were highly trained electrical engineers in evaluating the purchase of Adec.

The background of the sale is as follows. In October of 1979, Foxboro Company made a determination to sell its wholly-owned Adec subsidiary and executed a “Selling Plan Agreement” with Adec’s key employees, the terms of which provided that each key employee was to devote his best efforts towards consummating the sale and easing the transition to the new owners. In return for such efforts, the participating employees were to receive a percentage of a fund containing several hundred thousand dollars. The investment firm of Paine, Webber, Jackson and Curtis was enlisted to assist in locating a buyer for the company, and Paine, Webber prepared an offering brochure describing the company which was circulated in October 1979.

After examining the offering brochure, plaintiff Oak, seeking to expand into new technologies, executed a letter of intent to purchase Adec from Foxboro on January 29, 1980. The letter of intent expressly conditioned the acquisition of Adec on Oak’s successful negotiation of an employment agreement with Foxboro/Adec employee James LaBarber, the primary member of the “key employee” group mentioned above. The letter also stated Oak’s intention to retain other Adec executives and employees. Finally, on June 5, 1980, the “Stock Purchase Agreement” was executed which set forth in detailed fashion the rights and duties of all parties to the transaction.

The crux of the present dispute is whether or not certain representations or omissions allegedly made by Foxboro to Oak in the sale of Adec constitute actionable fraud under either federal or state securities or common law. Specifically, Oak alleges that the key asset of Adec was a computer based energy management and conservation system, the “9000 System,” that was to have been designed by Adec prior to the sale with contracts for Adec to provide that system to numerous institutional purchasers already in place. Oak alleges that in order to consummate the sale, Adec fraudulently represented that this “9000 System” was functional or near-functional, and “demonstrated” this to Oak agents through a phony computer display which appeared operational but in fact was not. The key employee, LaBarber, who continued as an Adec employee after the sale, allegedly continued to perpetrate this fraud on Oak for a substantial period afterwards.

In response to this alleged fraud, Oak Industries filed the present lawsuit alleging violation of the federal and state securities laws (Counts I through IV) as well as several common law claims (Counts V through VIII). As an alternative remedy, Oak seeks to rescind the contract and receive restitutionary damages (Count IX). Defendant Foxboro has counterclaimed seeking a declaratory judgment enforcing the contractual provisions which require Oak to substitute itself in thé place of Foxboro as guarantor or obligor on a number of bonds. Defendant Foxboro presently moves this court for summary judgment in its favor as to all claims against it and as to its counterclaim against Oak.

DISCUSSION

I.

PLAINTIFFS’ FEDERAL SECURITIES CLAIMS

In Count I of their complaint, plaintiffs contend that the actions of defendant constitute a fraud in connection with the purchase of Adec stock by Oak in violation of Section 10(b) of the Securities and Exchange Act of 1934, 15 U.S.C. § 78j(b) (1982), and Rule 10b-5 promulgated thereunder. Similarly, Count II raises the same allegation as to the sale of Oak stock to Foxboro which occurred when the Oak stock was provided as consideration for the Adec stock.

Defendant is entitled to summary judgment in its favor as to these two counts. In Landreth Timber Co. v. Landreth, 731 F.2d 1348 (9th Cir.1984), the Ninth Circuit adopted the view that the “sale of business” doctrine is the law of this circuit. That doctrine, when applied to the present facts, is dispositive of the federal securities claims.

The “sale of business” doctrine recognizes that the purpose of the federal securities laws is to protect the passive investor who invests in a common enterprise with the profits to come from the efforts of others. See United Housing Foundation, Inc. v. Forman, 421 U.S. 837, 849, 95 S.Ct. 2051, 2059, 44 L.Ed.2d 621 (1975). As a result, a distinction is drawn between securities transactions in which the investor expects to profit “solely from the efforts of others” and those in which a purchaser of stock assumes control of a company and hopes to realize profits as the fruit of his own labors. SEC v. W.J. Howey Co., 328 U.S. 293, 301, 66 S.Ct. 1100, 1104, 90 L.Ed. 1244 (1946); Landreth Timber Co., 731 F.2d at 1351. The former falls within the definition of “securities” for purposes of federal law according to the sale of business doctrine, while the latter does not. Id. at 1350.

The sale of business doctrine has been accepted by the Seventh, Tenth, and Eleventh Circuit Courts of Appeal and rejected by the Second, Third, Fourth, Fifth, and Eighth Circuits. Landreth Timber Co., 731 F.2d at 1351. As noted, in Landreth, the Ninth Circuit explicitly adopts this doctrine with regard to the case there presented, and held that the “ ‘sale-of-business’ exclusion from the Securities acts [applies to] the purchase of 100 per cent of the stock of a closely-held corporation.” Id. at 1353.

Since the transaction at issue in the present case consisted of the transfer of 100% of Adec’s stock from Foxboro to Oak as a mechanism of transfer of ownership of Adec from Foxboro to Oak, this was a sale of business within Landreth. No violation of the federal securities law can be established as a matter of law because the object transferred was a business, not a group of “securities.”

Plaintiff asserts that Landreth is inapposite, however, arguing that because plaintiff retained key management personnel from Foxboro Company, this is a case where profits were expected to be obtained “from the managerial and entrepreneurial efforts of others,” SEC v. W.J. Howey Co., 328 U.S. at 301, 66 S.Ct. at 1104, and thus a passive investment within the ambit of the federal securities laws.

This contention cannot prevail. Landreth itself dealt with a case where Landreth, the seller, was retained by the purchaser under a one-year consulting agreement. As is argued in the present case, none of the members of the purchasing group in Landreth had any knowledge of the industry into which they were entering and the success of the business was overestimated in the seller’s representations to the purchaser. Nonetheless, the court held that no recovery could be had under federal securities provisions and the court gave short shrift to the contention that the consulting services of the seller or the services of a manager hired by plaintiff constituted the type of third-party management which would transform the sale into a passive investment: “Neither Landreth nor appellant’s manager can be regarded as a third-party upon whose efforts the purchaser relied for its profit within the meaning of Howey. Bitter v. Hoby’s International, Inc., 498 F.2d 183, 186 (9th Cir.1974).” Landreth, 731 F.2d at 1353.

While the present case may be somewhat stronger than Landreth in that here the agents of the former owner remained with the company as managers, rather than consultants, this court does not find that distinction persuasive. The Bitter case, cited by the Ninth Circuit in Landreth states:

For a manager to be a “third person” within the meaning of the Howey test, the manager must be outside of the direct and immediate control of the franchisee.

Bitter v. Hoby’s International, Inc., 498 F.2d 183, 186 (9th Cir.1974). On the present facts, plaintiffs cannot seriously contend that the managers they utilized were outside of their control. While it is undisputed that these managers were employees of Foxboro prior to the sale of Adec to Oak, at the time the sale was consummated they became employees of Oak. This fact is made clear by plaintiffs’ own affidavits in support of its opposition to the motion.

In the affidavit of Bissell J. Smith, Senior Vice President of Oak Industries, Inc., Smith states that “Mr. LaBarber remained in place as Adec’s general manager after Adec was acquired by Oak and was Adec’s spokesperson in reporting to Oak.” (emphasis added). Further, he states “[i]n or about November 1981, Mr. LaBarber began providing me with general reports about Adec____” And, “[a]fter overseeing Adec for a period of two or three months, it became apparent to me that the projections and generally positive results reported by Mr. LaBarber were not being confirmed by Oak Adec’s financial data____” Finally, “[i]n the spring of 1982, I [Smith] approached Oak’s senior management and reported my problems in obtaining complete reports on Adec and recommended that Mr. LaBarber be terminated. Oak management accepted this recommendation and Mr. LaBarber was terminated in or about May, 1982.”

Clearly Oak, not Foxboro nor any other third party, controlled the operation and management personnel of the company it had purchased, and this case is not one within the third party control line, but rather it falls squarely within the sale of business doctrine. As such, plaintiffs’ causes of action based on federal securities law must fail.

Plaintiffs have argued as a further theory that even if Count I, alleging fraud in the purchase of Adec stock by Oak, is within the sale of business rule, that Count II should still stand because that count alleges fraud in the sale of Oak Industries stock to Foxboro. That sale occurred when Oak stock was exchanged for 100% of the Adec shares and plaintiffs’ theory is that since there are no cases which apply the sale of business doctrine to the sale of stock, this sale of Oak shares falls within the umbrella of federal securities law notwithstanding the fact that consideration for the sale was the receipt of all extant Adec shares.

This creative logic is unpersuasive. The purchase and sale of stock in this context are but flip sides of the same coin; regardless of the characterization, the transaction is a sale of a business. The Landreth opinion makes clear that it is the “economic reality” of the transaction that controls. 731 F.2d at 1352; see also United Housing Foundation, Inc., 421 U.S. at 849, 95 S.Ct. at 2059. The probable reason for the dearth of opinions holding that the sale of securities pursuant to a sale of business falls within that doctrine is that most sales of businesses would involve the purchase of the stock by the party who is ultimately complaining of the transaction. In other words, in these situations, unless, as here, stock is exchanged as consideration on both sides, the plaintiff will be alleging fraud in the purchase by it of securities.

That this case involves an exchange of securities of two companies as the consideration for the contract does not alter the applicability of the sale of business rule. Thus, summary judgment in favor of defendant must be granted as to Count II of plaintiffs’ complaint as well.

II.

STATE SECURITIES LAW CLAIMS

Counts III and IV of plaintiffs’ complaint seek relief under provisions of state law comparable to the federal law provisions discussed above. For the reasons that the federal claims cannot prevail, neither can the state law ones.

California securities law was patterned after federal law and the federal constructions are useful in construing state law. People v. Schock, 152 Cal.App.3d 379, 387, 199 Cal.Rptr. 327 (1984). This plaintiffs concede. Memorandum in Opposition, at 19. Plaintiffs base their opposition, rather, on the already-addressed contention that the sale of business doctrine does not apply to the federal claims. But, as discussed, federal law in this circuit applies the sale of business doctrine, thus indicating, by the state court’s adoption of federal precedent as instructive, that the doctrine governs at the state level as well.

State decisional law, while it has not addressed the precise point in issue here, also indicates that the sale of business doctrine controls. The California courts reject the literalist approach to the definition of a “security” and instead look to the economic reality of the transaction as embodied in the “risk capital” test. People v. Schock, 152 Cal.App.3d at 385-86, 199 Cal.Rptr. 327. More importantly, the California courts have specifically adopted the sale of business doctrine in applying other securities laws provisions. Fox v. Ehrmantraut, 28 Cal.3d 127, 138, 167 Cal.Rptr. 595, 615 P.2d 1383 (1980). The California Supreme Court has implied that the adoption of this doctrine would extend to the entire California securities act. Id. at 138, 167 Cal.Rptr. 595, 615 P.2d 1383.

In light of the foregoing, the court concludes that summary judgment should be entered in favor of defendant as to Counts III and IV of plaintiffs’ complaint.

III.

COMMON LAW CLAIMS

Counts V through IX allege various common law claims against defendant: Count V alleges fraud and deceit; Count VI alleges negligent misrepresentation; Count VII alleges breach of contract; Count VIII alleges breach of the implied covenant of good faith and fair dealing; and Count IX seeks an alternative remedy of rescission and restitution based upon the misrepresentations alleged to have been made.

It is defendant’s contention that defendant is entitled to summary judgment as to all the listed counts. In order to resolve this issue, however, a preliminary examination must be made of the parol evidence rule.

Several provisions of the contract are relevant to this inquiry. First, in Section Two of the contract, defendant makes certain warranties. One such warranty is contained in Section 2.7 and relates to the financial data which Foxboro provided to Oak prior to the signing of the agreement. It provides:

Said financial statements have been prepared in accordance with the accounting principles, practices and methods employed by [Foxboro] in the preparation of its consolidated financial statements, and present fairly the financial condition of Adec at the dates of said statements and the results of its operations for the periods covered thereby.

Section 2.9 relates to the same financial accounting and provides in part:

There is no fact known to [Foxboro] or Adec which materially adversely affects or may in the future (so far as can now be reasonably foreseen) materially adversely affect, the business, properties, operations or condition of Adec which has not been disclosed herein or in a Schedule furnished herewith.

Section 10 of the contract contains the general provisions and Section 10.8 provides:

It is agreed by the parties that [Foxboro] has permitted [Oak] to conduct an audit of Adec’s records and operations, the scope and duration of which audit was determined by [Oak], and that the Purchase Price reflects the fair value of Adec in light of the results of such audit. Accordingly, notwithstanding any other provision of this Agreement, it is further agreed by the parties that the Purchase Price will not be reduced following the execution of this Agreement, nor will [Foxboro] or Adec have any obligation or liability to [Oak], relative to the financial statements of Adec furnished pursuant to Section 2.7 or any alleged breach of representation or warranty in connection therewith.

Finally, Section 10.4 provides:

Entire Agreement. This Agreement, including the Schedules referred to herein, is complete; and all promises, representations, understandings, warranties and agreements with reference to the subject matter hereof, and all inducements to the making of this Agreement relied upon by all the parties hereto, have been expressed herein or in said Schedules.

Based upon these contract provisions, defendant argues that plaintiffs cannot prove that there were misrepresentations made by Adec personnel or in the offering brochure. First, defendant contends that the contractual disclaimer of any representations, warranties, or inducements not stated in the contract precludes the claim based on any representations not contained in the agreement itself. Second, defendant argues that because the contract provides that all inducements are stated in the contract, any other alleged misrepresentation fails because there can be no showing of the requisite element of materiality. In addition, defendant argues that plaintiffs breach of contract claims are barred by the provision of Section 10.8 purporting to release defendant from any liability relative to the financial statements. Because any proof to the contrary would vary the terms of the integrated written agreement, defendant concludes, parol evidence is inadmissible to alter these terms as contained within the four corners of the document.

Plaintiffs’ view, not surprisingly, is quite different. Plaintiffs rely on the claim of fraud in the inducement and point out that parol evidence is always admissible to show fraud in the inducement to enter into the contract. Thus, plaintiffs conclude, despite language in the contract which would suggest that the contract is an integrated one and that all inducements to the contract are stated, these provisions fall with the rest of the contract in the face of fraud which plaintiffs are entitled to prove.

Both sides of the dispute are correct to a point. It is hornbook law that the parol evidence rule forbids introduction of evidence which would add to, contradict, or vary the terms of a written agreement. See, e.g., Pascoe v. Morrison, 219 Cal. 54, 56, 25 P.2d 9 (1933); Alameda County Title Ins. v. Panella, 218 Cal. 510, 516, 24 P.2d 163 (1933). An exception to the rule exists, however, in the case of fraud. Extrinsic evidence is generally admissible to prove fraud in the inducement of the instrument. Fleury v. Ramacciotti, 8 Cal.2d 660, 662, 67 P.2d 339 (1937); Martin v. Sugarman, 218 Cal. 17, 18-19, 21 P.2d 428 (1933); Mooney v. Cyriacks, 185 Cal. 70, 71, 195 P. 222 (1921). This holds true even where the instrument itself purports to contain the entire agreement, Partanian v. Flodine, 95 Cal.App.2d 931, 934, 213 P.2d 790 (1950), contains a provision that no representations have been made other than those stated within the agreement, Morris v. Harbor Boat Building Co., 112 Cal.App.2d 882, 887-88, 247 P.2d 589 (1952), or contains a written waiver of oral representations, Perry v. Magee, 116 Cal.App.2d 155, 159, 253 P.2d 488 (1953). See also Vai v. Bank of America, 56 Cal.2d 329, 344, 15 Cal.Rptr. 71, 364 P.2d 247 (1961). The rationale for this rule is that extrinsic evidence of fraud does not contradict or vary the terms of the written agreement; it merely shows that no binding contract was made. Wiberg v. Barnum, 99 Cal.App. 323, 325-26, 278 P. 871 (1929). In addition, it is frequently stated that the parol evidence rule should not be used to shield fraud. Stewart v. Crowley, 213 Cal. 694, 699, 3 P.2d 562 (1931); Morris v. Harbor Boat Building Co., 112 Cal.App.2d at 887-88, 247 P.2d 589.

The issue becomes confused, however, because despite this general exception for fraud, there is an exception to the exception which has been developed to prevent the use of artful pleading to circumvent the restrictions of the parol evidence rule. See generally, J. Calamari & J. Perillo, Contracts § 9-19 (2d ed. 1977). This problem arises because a promise made without the intention to perform that promise can constitute a misrepresentation of fact (in that the promissor is falsely stating his intent) as well as a breach of the contract when the agreed upon performance is not made. Id.; see also 31 Cal.Jur.3d § 346 (1976). If unrestricted, this factual situation would enable a party to avoid the parol evidence rule by pleading misrepresentation rather than breach of contract and then proving through extrinsic evidence a promise that contradicts the writing. As a result:

A limitation on the exception permitting extrinsic evidence of fraud is that in actions in which the validity of the written contract or of one or more of its terms is contested, such evidence must tend to establish some independent fact, such as fraud in the procurement of the instrument or some breach of confidence concerning its use, and not a collateral promise directly at variance with the written promise. Thus, a promise of the payee of an obligation payable on demand that he would not enforce it until a certain event cannot be shown by parol. And fraud in the inducement by a false representation or by a promise made without intention of performance may be shown by parol if the representation or promise refers to some additional act not covered by the terms of the contract, but not if it is directly at variance with the terms of the instrument.

31 Cal.Jur.3d at § 346.

Defendant takes this rule and argues that it establishes that plaintiffs, despite their allegations of fraud in the inducement, cannot be heard to prove matters that contradict the contractual provisions, for example, that there are no other representations than those contained in the contract and that defendant’s warranties are limited as set forth in the document. This court concludes that defendant misreads the nature of this exception to the fraud exception and that it must be viewed in light of its limited purpose of avoiding an undermining of the parol evidence rule by permitting every breach of contract to be pleaded as the tort of fraud.

The cases cited by defendant support this view. They deal with “promissory fraud” in which the alleged fraud is found in the giving of a promise which defendant does not intend to keep, the subsequent breach of which constitutes both breach of contract and fraud. See, e.g., Bank of America National Trust & Savings Ass'n. v. Lamb Finance Co., 179 Cal.App.2d 498, 502, 3 Cal.Rptr. 877 (1960); Dillon v. Sumner, 153 Cal.App.2d 639, 644, 315 P.2d 84 (1957); Cobbs v. Cobbs, 53 Cal.App.2d 780, 785, 128 P.2d 373 (1942).

Such is not the present case. Here, plaintiffs allege that defendant represented that the “9000 System” was fully functional or nearly so and that contracts had been made the performance of which by Adec would be possible. As it turned out, according to the allegations of the complaint and the evidence submitted in opposition of this motion, the “9000 System” was neither functional nor near-functional as represented. This is a classic statement of a claim for fraud in the inducement; it is not “promissory fraud” such as would be had if, for example, defendant represented it would sell Adec to Oak for $3 million and executed a written agreement to that effect, but did not intend to do so and in fact breached the agreement. In the latter case, parol evidence would not be admissible to contradict the terms of the written agreement, such as to show that the agreed upon price was $2 million, while in the former case, the present one, evidence is admissible to show there were fraudulent inducements to contracting.

Because parol evidence will be admissible to show fraud in the inducement, defendant’s reliance solely upon the contractual language to defeat plaintiffs’ causes of action for breach of contract, fraud, and breach of implied warranty cannot entitle defendant to summary judgment in its favor as to these counts.

Defendant does not attempt to refute the allegations of fraud in the inducement with a factual showing that no such fraud existed, therefore summary judgment as to the common law counts, V through IX, is inappropriate at this juncture. In addition, defendant’s motion for summary judgment in its favor as to the claim it has against plaintiff is premature until the underlying issue of the valid or fraudulent nature of the contract is resolved.

CONCLUSION

Upon due consideration of the parties’ memoranda and exhibits, the arguments advanced at the hearing, and for the reasons set forth herein, the court grants defendant’s motion for summary judgment as to Counts I through IV and denies defendant’s motion for summary judgment as to Counts V through IX of plaintiffs’ complaint, and as to its counterclaim against plaintiffs.

      . This court recognizes that certiorari has been granted by the United States Supreme Court to resolve the issue of whether the sale of business doctrine is a valid exception to the anti-fraud provisions of the federal securities laws. See Seagrave Corp. v. Vista Resources, Inc., 696 F.2d 227 (1982), modified 710 F.2d 95 (2d Cir.1983), cert. granted, — U.S. -, 104 S.Ct. 1412, 79 L.Ed.2d 738 (1984) (S.Ct. Docket No. 83-1084). Plaintiffs have not argued that the present uncertainty warrants a stay of resolution of the present motion, merely that it warrants denial. Regardless, this court is not inclined to stay the proceedings pending outcome of the above-cited case and is currently bound by Ninth Circuit precedent as set forth in Landreth.

      . See Munchow v. Kraszewski, 56 Cal.App.3d 831, 836, 128 Cal.Rptr. 762 (1976); but see Fisher v. Pennsylvania Life Co., 69 Cal.App.3d 506, 511, 138 Cal.Rptr. 181 (1977).


author: SIMMONS, District Judge.

text:
    FMC CORPORATION, a Delaware Corporation, Plaintiff, v. William V. SPURLIN, Syn-Energy Inc., a Pennsylvania Corporation, and Eriez Manufacturing Co., a Pennsylvania Corporation, Defendants.
    Civ. A. No. 83-906.
    United States District Court, W.D. Pennsylvania, Pittsburgh Division.
    Aug. 30, 1984.

      Gerald D. Hosier, Thomas G. Scavone, Hosier, Niro & Daleiden, Ltd., Chicago, 111., R. Dennis Osterman, Berkman, Ruslander, Pohl, Liber & Engel, Pittsburgh, Pa., for plaintiff.
    James R. Walczak, Edward W. Goebel, Jr., MacDonald, Illig, Jones & Britton, Erie, Pa., for Eriez.
    Walter J. Blenko, Jr., Buell, Blenko, Ziesenheim & Beck, Pittsburgh, Pa., for Spurlin/Syn-Energy.
   OPINION

SIMMONS, District Judge.

I. Background.

This case involves the protection of intellectual property: a trade secret. The plaintiff is FMC Corporation. Through its predecessor companies and its Material Handling Division (MHE), located in Homer City, Pennsylvania, FMC has been engaged in the business of designing, manufacturing and selling vibratory feeding equipment since the 1930s.

The defendant, William V. Spurlin, is a former employee of FMC. Hired on June 3, 1946, Spurlin worked in numerous engineering positions and was the Manager of the Engineering Department of the MHE Division when he voluntarily retired on July 1, 1976. Shortly after his retirement, Spurlin began to develop vibratory feeder equipment and to provide consultation services. In early 1977, Spurlin formed the defendant Syn-Energy, a Pennsylvania corporation with its principal place of business in Indiana, Pennsylvania. Spurlin is president and principal shareholder of Syn-Energy-

On December 29, 1977, Spurlin filed a patent application for the “Spurlin Feeder.” The application was granted by the United States Patent Office on August 26, 1980. Through Syn-Energy, Spurlin began to market the Spurling Feeder in late 1977 and early 1978. Because Syn-Energy lacked the facilities to produce the Spurlin Feeder on a commercially feasible basis, Spurlin entered into arrangements to have the Spurlin Feeder manufactured and marketed through a local company.

In 1982, Spurlin and Syn-Energy entered into a licensing agreement with the defendant Eriez Manufacturing Company, a Pennsylvania Corporation. Under the licensing agreement, Eriez agreed to manufacture and sell the Spurlin Feeder domestically and in parts of the world not covered by a licensing agreement Spurlin had previously entered in 1980 with a Japanese Company, which sells the Spurlin Feeder in Japan and other Asian countries.

The crux of FMC’s claim is that, Spurlin, after his retirement from FMC in 1976, pirated and misappropriated FMC trade secrets to build a new vibratory feeder, the so-called “Spurlin Feeder”, which was manufactured and sold by Syn-Energy and Eriez in competition with FMC’s vibratory feeders. Following a protracted discovery period, the parties filed cross-motions for summary judgment under Rule 56 of the Federal Rules of Civil Procedure. By its motion, FMC seeks partial summary judgment on the liability issue of its misappropriation claim. The defendants, Spurlin, Syn-Energy and Eriez, assert that the undisputed facts establish that FMC has no actionable trade secret and move for judgment on that ground. Assuming that the FMC trade secret claim is actionable, the defendants further contend that FMC is barred from recovery by laches and estoppel. In addition, Eriez claims that FMC is barred from relief against it because, assuming FMC’s trade secret were pirated by Spurlin, Eriez was a bona fide purchaser for value.

II. Discussion.

a. Misappropriation of Trade Secret.

At the outset, this Court rejects several theories assailing the proprietary nature of the FMC Design Manual advanced by the defendants. FMC claims that its design manual is the compilation and distillation of extensive research and development performed by it over many years. FMC stresses that the FMC Design Manual, which consists of information not generally known to the trade in its assembled form, aids FMC in the design of feeding equipment to meet the specific needs of a particular customer’s application and thus gives it a competitive edge in the feeder equipment industry.

The defendants argue that since the FMC Design Manual admittedly contains universally known equations and formulas, and because substantial portions of the manual derive from public sources, the FMC Design Manual cannot constitute a trade secret. The defendants further contend that since the claimed trade secret is the design manual “as a whole”, FMC cannot make out a misappropriation claim, as a matter of law, because the defendants have not taken or used the FMC Design Manual “as a whole”.

It is undisputed that many segments of the FMC Design Manual derived from public sources and some of its contents is in the public domain and therefore generally known within the trade. This, FMC cannot dispute. FMC contends, however, that its design manual is a “cookbook” which enables it to design products with optimum operating efficiency for specific customer application and that no other source in the industry shows how to combine the data contained in the FMC Design Manual to produce a superior product.

Under the Restatement of Torts definition of a trade secret, which Pennsylvania and other courts have adopted:

[a] trade secret may consist of any formula, pattern, device or compilation of information which is used in one’s business, and which gives him an opportunity to obtain an advantage over competitors who do not know or use it. It may be a formula for a chemical compound, a process of manufacturing, treating or preserving materials, a pattern for a machine or other device, or a list of customers ____ A trade secret is a process or device for continuous use in the operation of the business. Generally it relates to the production of goods as, for example, a machine or formula for the production of an article.

Restatement of Torts § 757 comment b (1939) (emphasis supplied). See also Rohm and Haas Co. v. ADCO Chemical Co., 689 F.2d 424, 431 (3d Cir.1982).

Applying the Restatement’s definition of a trade secret, several courts have expressly rejected the defendants’ theory that simply because many or all elements of a process or compilation of information is long and widely known in the trade, it cannot be the subject of a trade secret. In this regard, the Third Circuit noted in the Rohm and Haas Co. case that “even though each and every element of plaintiff’s Process is known to the industry, the combination of these elements may be a trade secret if ‘it produces a product superior to that of competitors.’ ” Id. at 433, citing, Sun Dial Corp. v. Rideout, 16 N.J. 252, 257-58, 108 A.2d 442, 445-46 (1954); Anaconda Co. v. Metric Tool & Die Co., 485 F.Supp. 410, 422 (E.D.Pa.1980); Belmont Laboratories v. Heist, 300 Pa. 542, 550-51, 151 A. 15, 18 (1930).

In this case, the compilation of well known formulas, equations and other useful information into the form of a design manual, is to be accorded no less protection as intellectual property than the proprietary process used to produce latex paint products in the Rohm and Haas Co. case, or the process by which profile and winding machines were engineered and built for producing telephone cord armour in the Anaconda Co. case.

While many or all of the components of the FMC Design Manual may have derived from basic engineering principals that are well known in the industry, this Court holds as a matter of law, that if the FMC Design.Manual is a unique combination of information which affords FMC a competitive advantage, it is a protectable trade secret.

This holding in no way diminishes FMC’s burden of proving by a preponderance of the credible evidence that its design manual is an advance over common knowledge and practice in the art, Greenburg v. Croydon Plastic Co., 378 F.Supp. 806 (E.D. Pa.1974), and that the design manual gave it a competitive edge in the feeder equipment industry. Imperial Chemical Industries, LTD v. National Distillers and Chemical Corp., 342 F.2d 737, 742 (2d Cir. 1965). Nor does this holding limit the defendants from demonstrating the contrary.

This Court also finds no merit in the defendants’ argument that FMC cannot make out an actionable misappropriation claim because the defendants have not taken or used the FMC Design Manual “as a whole.” In support of this theory, the defendants point out obvious differences between the Syn-Energy Design Manual and the FMC Design Manual, such as the relative number of pages of each document. The defendants also emphasize the fact that FMC can only demonstrate that sections on each page of the Syn-Energy Design Manual are identical to various sections of the FMC Design Manual, so the defendants could not have taken the FMC Design Manual “as a whole.”

The defendants’ theory misses the mark. Reduced to its simplest form, the defendants’ argument would concede, on the one hand, that to take and use the FMC Design Manual in its entirety constitutes misappropriation, but argue on the other hand, that to take beneficial information from the FMC Design Manual and compose a new design manual is something less than misappropriation. This argument has no sound basis in law or logic.

Pointedly, it is not relevant to FMC’s misappropriation claim that each formula, chart, graph or equation Spurlin took from the FMC Design Manual was widely known and in the public domain. What is relevant, is that Spurlin took and used, in whole or in part, the FMC Design Manual to create his own design manual. It is the taking and using of the “cookbook” which constitutes the piracy. That an ingredient or recipe proved useless to the pirateer, makes the claim no less actionable. The law protects the proprietary process, not the component parts, which, as a general proposition, are widely known in the industry.

FMC claims that its trade secret, a highly confidential and proprietary design manual, was pirated by Spurlin and used by Syn-Energy and Eriez to design and manufacture the Spurlin Feeder. Under well settled Pennsylvania law, to prevail on a misappropriation of trade secret claim, the complaining party must establish several basic elements: “(1) the existence of a trade secret, (2) communicated in confidence by the plaintiff to the employee, (3) disclosed by the employee in breach of that confidence, (4) acquired by the competitor with knowledge of the breach of confidence, and (5) used by the competitor to the detriment of the plaintiff.” Rohm and Haas Co. v. ADCO Chemical Co., 689 F.2d 424, 429-30 (3d Cir.1982). In addition to these basic elements, Pennsylvania courts have also required a prevailing plaintiff to show that the trade secret was of value to him and important in the conduct of his business, and that the plaintiff had a right to the trade secret by discovery or ownership. Id. See also Van Products Co. v. General Welding & Fabricating Co., 419 Pa. 248, 259, 213 A.2d 769, 775 (1965).

The threshold inquiry in every trade secret case is whether a trade secret exists. To prevail on its motion for summary judgment, the movant must demonstrate on the undisputed facts the existence of an actionable trade secret. “While the question of whether plaintiff possesses a trade secret is ultimately a question of law, there must be a factual predicate for resolving that question.” Anaconda Co. v. Metric Tool & Die Co., 485 F.Supp. 410, 414 (E.D.Pa. 1980). In a summary proceeding, there must be an undisputed factual predicate, because the movant is entitled to summary judgment only “if there is no genuine issue as to any material fact____” Fed.R.Civ.P. 56.

The Court’s function is to deny summary judgment where there is a genuine issue as to any material fact. Genuine issues of material fact are not to be resolved by the trial judge merely because both parties have moved for summary judgment. Tomalewski v. State Farm Life Insurance Co., 494 F.2d 882 (3d Cir. 1974). Although a motion for summary judgment may be made by any party in any type of action, summary judgment is ill-adapted to cases of a complex nature involving multiple fact-intensive questions, which usually require the full exploration of a trial. See 6 J. Moore, W. Taggart & J. Wicker, Moore’s Federal Practice 11 56.15 (2d ed. 1983). Yet the question of whether summary judgment is appropriate must be made on a case-by-case basis. First National Bank of Arizona v. Cities Service Co., 391 U.S. 253, 259, 88 S.Ct. 1575, 1577, 20 L.Ed.2d 569 (1968).

Without proceeding beyond the first element of the trade secret claim (i.e., whether a trade secret exists), it becomes readily apparent that this case is not susceptible to summary adjudication. According to FMC's version of the facts on this element of the claim, the FMC Design Manual was developed by FMC in the early 1970s at its Research and Development facility. The FMC Design Manual, which contains numerous formulas, charts, graphs, tables, and design parameters, is the result of extensive research and development undertaken by FMC. FMC contends that its Design Manual has been used by it for well over 10 years in the design and manufacture of its feeder lines, thereby giving it a competitive edge in the feeder equipment industry. In fact, claims FMC, until the introduction of the Eriez feeder in 1982, no other domestic competitor was able to produce a feeder with capacities equivalent to FMC’s feeders, which obtain a feed rate of 80 feet per minute.

The defendants vigorously contest FMC’s claim that the FMC Design Manual produced a new, unique or superior product. The defendants argue, and point to evidence of record, that a number of technical articles and learned treatises, written both before and after the composition of the FMC Design Manual, boast speed rates of up to 100 feet per minute. Moreover, several FMC competitors have advertised heavy duty electro-mechanical feeders with speed rates of 80 feet per minute or more.

Herein lies a genuine dispute as to a material issue of fact: whether use of the FMC Design Manual produces a new, unique or superior product? Hence, on the present record neither party can clearly demonstrate that there exists no material disputed issues of fact. Absent a more concrete factual basis, it is impossible to summarily ascertain whether in fact: 1) FMC’s competitors achieved the speed rate advertised; 2) whether the speed rate boasted in articles and treatises were commercially obtainable; 3) or whether FMC dominated the vibratory feeder market despite its competitors’ claim of equivalent or superior speed rates. The resolution of these fact questions are central to the determination of whether the FMC Design Manual aided FMC in producing a superior product and thereby giving it an advantage over its competitors.

Typically, disputed issues of fact of this nature pervade the parties cross-motions for summary judgment on the liability aspect of the trade secret claim. Hence, the cross-motions for summary judgment on the trade secret issue must be denied. Moreover, on this record, the Court cannot practically nor prudently ascertain what remaining material facts exist without substantial controversy nor what material facts are actually and in good faith controverted.

Notably, the view of the majority jurisdictions is that the existence of a trade secret is considered to be a pure question of fact. See Lear Siegler, Inc. v. Ark-Ell Springs, Inc., 569 F.2d 286 (5th Cir.1978); Kodekey Electronics, Inc. v. Mechanex Corp., 486 F.2d 449 (10th Cir.1973); Hulsenbusch v. Davidson Rubber Co., 344 F.2d 730 (8th Cir.1965), cert. denied, 382 U.S. 977, 86 S.Ct. 545, 15 L.Ed.2d 468 (1966). The several remaining elements that make out a misappropriation of trade secret claim are also considered by some courts to be fact-intensive questions. In Hulsenbusch the issue of (1) possession by plaintiff of a trade secret; (2) confidential disclosure to the defendant; (3) violation of that confidence or a breach of contract, were all held to be issues of the type normally resolved by a fact-finder after full presentation of the evidence from both sides. Id. at 734. Likewise, the degree of secrecy, K-2 Ski Co. v. Head Ski Co., 506 F.2d 471 (9th Cir.1974), and the novelty of an alleged trade secret, Hamilton National Bank v. Belt, 210 F.2d 706 (D.C.Cir. 1953), have been held to be questions for the finder of fact. Even in this jurisdiction, where the trade secret issue has been considered by one court to be a mixed question of law and fact, Anaconda Co., 485 F.Supp. at 414, this Court holds that to make a judicial determination in a summary proceeding that a trade secret exists requires a more concrete factual basis than that present in this case.

b. Is FMC’s Suit Barred by Laches?

Spurlin, Syn-Energy and Eriez have also moved for summary judgment on the ground that laches bar FMC’s claim. The same basic principles underlying summary judgment in general, govern the propriety of granting summary judgment on the basis of laches. To prevail, the defense of laches must be proven to be legally sufficient and the moving party must clearly establish that there is no genuine issue of material fact, otherwise the motion based on the laches defense must be denied. See Burke v. Gateway Clipper, Inc., 441 F.2d 946 (3d Cir.1971).

The basic elements of laches are 1) inexcusable delay in instituting suit; and 2) prejudice resulting to the defendant from such delay. See Gruca v. United States Steel Corp., 495 F.2d 1252, 1258 (3d Cir.1974); Anaconda Co. v. Metric Tool & Die Co., 485 F.Supp. 410, 427 (E.D.Pa. 1980). If laches is asserted by a defendant who is a conscious wrongdoer, he can prevail only if the plaintiff’s delay amounts to a virtual abandonment of his rights. See John Wright, Inc. v. Casper Corp., 419 F.Supp. 292, 323 (E.D.Pa.1976), affd in part and rev’d in part on other grounds sub nom., Donsco v. Casper Corp., 587 F.2d 602 (3d Cir.1978).

The defendants’ contention that laches and estoppel bars FMC’s complaint can be disposed of readily. Whether FMC is guilty of laches is a factual question which can be resolved in the defendants favor only upon a clear showing that the defendants are entitled to judgment on the undisputed facts. Here again, there in no body of concrete, undisputed facts to support the defendants’ laches defense. Contrary to the defendants’ assertion, the evidence on this point is contradictory and seriously disputed. Therefore, the defendants’ motions for summary judgment on the laches defense are denied.

c. Eriez’s Bona Fide Purchaser Defense.

Eriez further contends that, assuming Spurlin and Syn-Energy misappropriated FMC trade secrets, Eriez had no notice of FMC’s claimed trade secrets and Eriez in good faith paid value for the right to manufacture the Spurlin Feeder.

Liability for improper use of another’s trade secret, as adopted by Pennsylvania courts, is defined in Restatement of Torts §§ 757-58 (1939). See Anaconda Co. v. Metric Tool & Die Co., 485 F.Supp. 410, 422-24 (E.D.Pa.1980); Van Products Co. v. General Welding & Fabricating Co., 419 Pa. 248, 258-59, 213 A.2d 769 (1965); Computer Print Systems Inc. v. Lewis, 281 Pa.Super. 240, 253-54, 422 A.2d 148 (1980). Under section 757, liability attaches to one who discloses or uses another’s trade secret, without a privilege to do so, if:

(a) he discovered the secret by improper means, or
(b) his disclosure or use constitutes a breach of confidence reposed in him by the other in disclosing the secret to him, or
(c) he learned the secret from a third person with notice of the facts that it was a secret and that the third person discovered it by improper means or that the third person’s disclosure of it was otherwise a breach of his duty to the other, or
(d) he learned the secret with notice of the facts that it was a secret and that its disclosure was made to him by mistake

Subsections (a) and (c) are not mutually exclusive. If, for example, Eriez procured Spurlin to make a disclosure in breach of his duty to FMC, Eriez would be liable under both subsections (a) and (c): under subsection (a), because inducing one to commit a breach of his duty is an improper means of procuring a trade secret; and under subsection (c), because of Eriez’s knowledge of the breach. See Restatement of Torts § 757 comment h (1939). Section 758 governs the liability of a party who innocently learns of another’s, trade secret.

Eriez contends that, assuming FMC can make out an actionable trade secret claim, it had no notice that the Spurlin Feeder embodied FMC trade secrets. Eriez asserts that in 1982 it simply contracted with Spurlin and Syn-Energy to manufacture a product, the Spurlin Feeder, which had been on the market for several years. There were no facts, Eriez argues, which could have placed Eriez on inquiry notice to investigate whether the Spurlin Feeder contained FMC’s proprietary information.

FMC paints a different picture. Eriez started activities in 1973 to design and manufacture an electro-mechanical feeder. Eriez’s efforts were largely unsuccessful. FMC contends, and relies on evidence of record, that Eriez had a long history of attempting to gain intelligence about FMC’s electro-mechanical feeders by surreptitious means. After Spurlin’s retirement from FMC, Eriez, as early as 1979, initiated contacts and pursued efforts to enter into business arrangements with Spurlin. FMC argues that Eriez was aware of Spurlin’s former high-level employment in research and development at FMC and sought Spurlin out as a part of Eriez’s scheme to acquire competitive information about FMC’s products. In FMC’s view, Eriez studiously cultivated its relationship with Spurlin to solve Eriez’s longstanding failure in the electro-mechanical feeder industry by acquiring information regarding FMC’s feeders.

Here again, Eriez’s claim that it innocently learned of FMC’s trade secrets is based upon facts which are strenuously contested by FMC. The burden of proving the absence of all material facts rest upon the movant, Eriez. On this record, the motion for summary judgment on Eriez’s bona fide purchaser defense must also be denied because Eriez cannot demonstrate undisputed facts establishing that it innocently acquired FMC’s trade secrets.

An appropriate order follows.

ORDER

AND NOW, to wit, this 30th day of August, 1984, after consideration of the briefs and arguments in support of the parties’ cross-motions for summary judgment in the above-captioned case, and for the reasons set forth in the accompanying opinion, it is ORDERED, ADJUDGED, and DECREED that the plaintiffs, FMC Corporation, and the defendants’, William V. Spurlin, Syn-Energy Inc., and Eriez Manufacturing Co., motions for summary judgment be and the same are hereby DENIED. .

      . This controversy involves heavy vibratory feeding equipment that employs two vibratory masses, a base and a feeder trough, which are connected by springs and vibrated by an electrically actuated exciter. Vibratory feeders have widespread commercial use in the feeding and conveying of bulk materials — coal, sand, wood chips, or limestone, for examples — at controlled speed rates from large storage piles to transport vehicles, transport conveyors, or to some apparatus for processing or an end use such as a coal furnace.

      . Innocent Discovery of Secret — Effect of Subsequent Notice or Change of Position.
      One who learns of another’s trade secret from a third person without notice that it is a secret and that the third person’s disclosure is a breach of his duty to the other, or who learns the secret through a mistake without notice of the secrecy and the mistake,
      (a) is not liable to the other for a disclosure or use of the secret prior to receipt of such notice, and
      (b) is liable to the other for a disclosure or use of the secret after the receipt of such notice, unless prior thereto he has in good faith paid value for the secret or has so changed his position that to subject him to liability would be inequitable.
      Restatement of Torts § 758 (1939).