Petition — Texas International Airlines, Inc. v. National Airlines, Inc.

83-932 Tro

a

No. 83 0 6 1985

ALEXANDER L. STEVAS.,

CLERK

IN THE

Supreme Court of the United States

OCTOBER TERM, 1983

>

TEXAS INTERNATIONAL AIRLINES, INC.,

Petitioner,

Vv.

NATIONAL AIRLINES, INC.,

Respondent.

PETITION FOR A WRIT OF CERTIORARI

TO THE UNITED STATES COURT OF APPEALS

FOR THE FIFTH CIRCUIT

GEORGE A. DAVIDSON

Hughes Hubbard & Reed

One Wall Street

New York, New York 10005

(212) 709-7585

Attorney for Petitioner

Of Counsel:

DAVID W. WILTENBURG

Hughes Hubbard & Reed

One Wall Street

New York, New York 10005

QUESTIONS PRESENTED

May the defeated contestant in a takeover battle be held

liable under Section 16(b) of the Securities Exchange Act of

1934, which, in order to prevent “the unfair use” of inside

information, requires ten per cent shareholders to pay over to

the corporation any short swing profits they make in the

corporation’s stock, when

(a) the defeated contestant never had any access to inside

information; and

(b) the sole effect of the judgment would be to give the

winning contestant a windfall discount on the purchase price

the winning contestant agreed to pay the defeated contestant

for its shares.

THE PARTIES

The parties’ names are stated in the caption.* Although

respondent, National Airlines, Inc. (“National”), was ab-

sorbed by merger into Pan American World Airways, Inc.

(“Pan Am”) and ceased to exist in January, 1980, Pan Am has

continued the case in National’s name. See Fed. R. Civ. P.

25(c).

. Pursuant to Rule 28.1 of this Court, Petitioner, Texas International

Airlines, Inc., provides the following information: Jet Capital Corporation,

Texas Air Corporation, and Continental Airlines Corporation are corporate

parents of Petitioner; Texas International Airlines Finance N.V. and Texas

International Airlines Capital N.V. are subsidiaries of Petitioner; and New

York Airlines, Inc., Continental Air Lines, Inc., United Micronesia Develop-

ment Association, and Air Micronesia, Inc. are affiliates of Petitioner. This

list excludes wholly-owned subsidiaries of Petitioner which do not have any

publicly held securities and those wholly-owned subsidiaries of Petitioner’s

affiliates which do not have any publicly held securities.

ili

TABLE OF CONTENTS

SUS NGS NTIS cn vcs caccevecsuencsesweenes

DE GN rind wes seh Saat ae renee atwahenestl

SE I STE i'n o bo'c 0s dcendka 60s 60s cnaneewus

eR ID 6 odd pe enh bc 000.0 cikieeeees

SN RIN 5d 55 k'ss'e's ce andiegs hase sale eas conta

PUREEC UNE iwckccadscne cco LN aes a GEN EO

STATUTORY PROVISIONS INVOLVED ..........00000005

ITE GP TRE COE oni in een sede Beene ce

REASONS FOR GRANTING THE WRIT........00000e005

1. Section 16(b) Cannot Properly Be Applied To

Texas International, Which Failed In Its Hostile

Takeover Bid And Never Achieved Access To

SRG CECI. 5s: n nddiatiw as é580k bande we

II. Pan Am, The Successful Takeover Contestant, Is

Estopped From Using Section 16(b) To Obtain A

Windfall Discount On The Price Pan Am Agreed

To Pay Texas International For Its Shares.......

COI 6 voi kos cieccetonk Etre cece seeeeeees

APPENDIX A Opinions of the Court of Appeals.....

12

17

iv

APPENDIX B- Opinion of the District Court

APPENDIX C Order of the District Court

APPENDIX D = Judgment Issued by the District Court

Id

TABLE OF AUTHORITIES

Cases PAGE

Abrams vy. Occidental Petroleum Corp., 450 F.2d 157

(2d Cir. 1971), aff’d sub nom. Kern County Land Co.

v. Occidental Petroleum Corp., 411 U.S. 582 (1973) 11-12

American Standard, Inc. v. Crane Co., 510 F.2d 1043

(2d Cir. 1974), cert. denied, 421 U.S. 1000 (1975)....13, 14

Bangor Punta Operations, Inc. v. Bangor & Aroostook

‘

Railroad, 417 U.S. 703 (1974). ..........0e0ee 6, 13-14, 16

Church of the Holy Trinity v. United States, 143 U.S.

SIN. 03 ite 4s bane cde eRe ean ROGN ae iameneeee 9

Cutler-Hammer, Inc. v. Leeds & Northrup Co., 469 F.

ee; See GE Wiss SOTED o vc sc cckewstcudcnacvous 15

Duparquet Huot & Moneuse Co. v. Evans, 297 U.S. 216

Se ee Pere Corr rr aS 9

Foremost-McKesson, Inc. v. Provident Securities Co.,

et es OED incecs's aknnvadsadaenekueeinen 8, 10

Gold v. Sloan, 486 F.2d 340 (4th Cir. 1973), cert. denied,

: CEE 0 in e.nbicduhetenbeveseuaemeters 9

Gratz v. Claughton, 187 F.2d 46 (2d Cir.), cert. denied,

a REED vicccckoscavcedennsoseeneeetes 13

Hecht Co. v. Bowles, 321 U.S. 321 (1944)............ 13

Kern County Land Co. v. Occidental Petroleum Corp.,

Re EET Ecoc 0c ticccensaduanwane 4, 6, 7, 8, 10-11

Lane Bryant, Inc. v. Hatleigh Corp., 517 F. Supp. 1196

se EDS os chccssdccdcasebecesuomeneeenne 7n

Masgida v. Continental Can Co., 231 F.2d 843 (2d Cir.),

cert. denied, 351 U.S. 972 (1956). ........0cceeeees 15

ss

"

vi

Marquette Cement Manufacturing Co. v. Andreas, 239

PAGE

i, Sr Cie, C SOON acces cvlbescrbavuentea 15

Merrill Lynch, Pierce, Fenner & Smith, Inc. v. Living-

ston, 566 F.2d 1119 (9th Cir. 1978) ........... cee 9

Mitchell v. Robert DeMario Jewelry, Inc., 361 U.S. 288

PTE Soca Sa ka acd aches teeds 6400 maa beenkees 13

Perry v. Commerce Loan Co., 383 U.S. 392 (1966).... 9

Pier 1 Imports of Georgia, Inc. v. Wilson, 529 F. Supp.

SPE, Ss BOOED cccvccheos cabenbesctedep ests i)

Porier v. Warner Holding Co., 328 U.S. 395 (1946).... 13

Reece Corp. v. Walco National Corp., 565 F. Supp. 158

MEER ivc vvdsccsetmeioankakeaseentnee ean 7n

Reliance Electric Co. v. Emerson Electric Co., 404 U.S.

PEGs puto cacesebnacedudeesacusceueuepenn 8

Schur v. Salzman, 365 F. Supp. 725 (S.D.N.Y. 1973)... 15

Tyco Laboratories, Inc. v. Cutler-Hammer, Inc., 490 F.

es EPs a, ESOOD oc ccekecevcdecnncashiuaas 7n

United Housing Foundation, Inc. v. Forman, 421 U.S.

PEEL dccnpacss ce0as Reb thew encunseseeves 9

United States v. American Trucking Associations, 210

EE MEE «bo cand cdcnsa dene nies hawenmen eel abs 9

Statutes

Securities Exchange Act of 1934, Section 16(a), 15

Ses EE CEOUED ccc cccsccunsusccspenoueuens 2

Securities Exchange Act of 1934, Section 16(b), 15

Ses SE PIU GENEID. so cccécnndsneveehackieass passim

Securities Exchange Act of 1934, Section 27, 15 U.S.C.

PE esc gceseny cb ene cosebeukwresaieenne 3

Vii

PAGE

The Williams Act, 15 U.S.C. §§ 78/-n (1982) ........ 5, 6, 6n

Mr Shen BS LAP) CEPT «cc cicdschucsenweesaces an 2

28 U.S.C. § 1331 (1976 & Supp. V 1982)............. 3

a ae: SEM IOTO a 6 60kc Candee cbendpas bec’ eun 3

28 U.S.C. § 1337 (1976 & Supp. V 1982)............. 3

Del. Code Ann. tit. 8, § 259 (1975)... .ccccccccvccecs 4

Rules

i Cs oe «'cdccs neve s0seeewoawene ss swatel ii

Legislative History

S. Rep. No. 550, 90th Cong., Ist Sess. (1967)......... 6n

Stock Exchange Regulation, Hearing Before the Com-

mittee on Interstate and Foreign Commerce of the

House of Representatives on H.R. 7852 and H.R.

8720, 73d Cong., 2d Sess. (Feb. 21, 1934) .......... 13

Treatises

E. Aronow, H. Einhorn & G. Berlstein, Developments

in Tender Offers for Corporate Control (1978) ...... 6n

G. Palmer, The Law of Restitution (1978) ............ 13

IN THE

Supreme Court of the United States

OCTOBER TERM, 1983

No. 83

>

TEXAS INTERNATIONAL AIRLINES, INC.,

Petitioner,

Ve

NATIONAL AIRLINES, INC.,

Respondent.

>

PETITION FOR A WRIT OF CERTIORARI

TO THE UNITED STATES COURT OF APPEALS

FOR THE FIFTH CIRCUIT

Texas International Airlines, Inc. (“Texas International”)

respectfully petitions for a writ of certiorari to review the

judgment of the United States Court of Appeals for the Fifth

Circuit entered in this case on September 15, 1983.

OPINIONS BELOW

The majority and dissenting opinions of the Court of Ap-

peals are officially reported at 714 F.2d 533, 542 (Sth Cir. 1983)

and unofficially reported at [Current] Fed. Sec. L. Rep. (CCH)

{ 99,488 (Sth Cir. Sept. 15, 1983). The opinion of the district

court on liability is unreported. Each of these opinions is

reprinted in the Appendix.

JURISDICTION

The judgment of the Court of Appeals was entered on

September 15, 1983. This Court has jurisdiction to review the

judgment of the Court of Appeals by writ of certiorari pur-

suant to 28 U.S.C. § 1254(1) (1976).

STATUTORY PROVISIONS INVOLVED

Section 16(b) of the Securities Exchange Act of 1934, 15

U.S.C. § 78p(b) (1982), provides, in pertinent part:

“For the purpose of preventing the unfair use of infor-

mation which may have been obtained by such beneficial

owner, director, or officer by reason of his relationship to

the issuer, any profit realized by him from any purchase

and sale, or any sale and purchase, of any equity security

of such issuer (other than an exempted security) within

any period of less than six months, unless such security

was acquired in good faith in connection with a debt

previously contracted, shall inure to and be recoverable

by the issuer, irrespective of any intention on the part of

such beneficial owner, director, or officer in entering into

such transaction of holding the security purchased or of

not repurchasing the security sold for a period exceeding

six months.”

The phrase “such beneficial owner, director or officer” in

Section 16(b) is a reference to language in Section 16(a) of the

Act, 15 U.S.C. § 78p(a) (1982), which imposes certain filing

and reporting requirements on:

“Every person who is directly or indirectly the beneficial

owner of more than 10 per centum of any class of any

equity security (other than an exempted security) which is

registered pursuant to Section 12 of this title, or who is a

director or an officer of the issuer of such secur-

AIR

STATEMENT OF THE CASE

In July, 1978, Texas International announced that it would

attempt a takeover of National. National reacted with extreme

hostility, filing lawsuits, encouraging government investiga-

tions and attacking Texas International in the press. In a

further effort to thwart Texas International’s bid, National

signed a merger agreement with Pan Am, a “friendly” suitor,

under which Pan Am would buy out National’s shareholders

for cash. While Texas International did manage to acquire in

excess Of 10 per cent of National’s stock, Texas International

lost the battle when Pan Am obtained 51 per cent of National’s

stock and consequent power to force shareholder approval of

the merger agre2ment.

In the interval between Pan Am’s acquisition of majority

ownership and the formal merger of Pan Am and National,

Pan Am got an agreement from Texas Internationai to sell to

Pan Am in advance several hundred thousand shares of

National stock at the same $50 per share price that all share-

holders were to receive on the merger and, for additional

consideration, to give Pan Am an option to purchase Texas

International’s remaining National holdings at a later time.

Although at the time of this agreement Texas International had

held the great majority of its National shares for more than six

months, it had owned 121,000 shares for 48 days short of six

months.

On August 2, 1979, Texas International filed suit in the

district court for the Southern District of Texas for a declara-

tory judgment that it had no liability under Section 16(b) on

the sale to Pan Am. The district court had jurisdiction of the

suit under 28 U.S.C. §§ 1331, 1332 and 1337 (1976 & Supp. V

1982), and Section 27 of the Securities Exchange Act of 1934,

15 U.S.C. § 78aa (1982).

On September 26, 1979, National filed its answer and a

counterclaim seeking recovery under Section 16(b). By early

4

January, 1980, the merger of Pan Am and National had been

effectuated; Pan Am became the surviving corporation, and

National ceased to exist as a corporate entity. Thus, the actual

respondent in this case is Pan Am, see Del. Code Ann. tit. 8,

§ 259 (1975), and it is Pan Am which would receive any

recovery on the counterclaim. To reflect this actual state of

affairs, we will hereafter refer to respondent as “Pan Am.”

The district court granted summary judgment on Pan Am’s

counterclaim, holding that Texas International was liable for

the difference between the purchase price of the 121,000 shares

bought within six months and the sale price of $50 per share,

less brokerage commissions and transfer tax. On May 10,

1982, judgment was entered awarding Pan Am $1,149,195 plus

prejudgment interest.

On appeal, a panel of the Fifth Circuit affirmed by a vote of

2-1, dividing over the meaning of this Court’s decision in Kern

County Land Co. v. Occidental Petroleum Corp., 411 U.S.

582 (1973). Despite Texas International’s arguments that there

were absolutely no policy reasons for construing the statute to

cover the Texas International-Pan Am transaction and that

there were strong policy reasons against allowing Pan Am to

obtain a windfall discount on its contract price by obtaining

Texas International’s profit for itself, the panel majority ruled

for Pan Am. The majority held that Texas International’s

argument that the statute did not apply to it was foreclosed by

language in this Court’s opinion in Kern County, even though

this Court had found Section 16(b) not applicable to the

disposition of target company shares by the failed takeover

bidder in Kern County. (App. A at lla.) As to the argument

that Pan Am was estopped from obtaining a windfall discount

on its contract price, the panel majority noted that equitable

estoppel had never been recognized in a Section 16(b) case.

(App. A at Sa-6a.)

Judge Garza dissented. Disagreeing with the majority’s in-

terpretation of Kern County, he stated that the spirit of Kern

County required that Section 16(b) be read as not applying to

this case: “The reason for the existence of § 16(b) is in no way

5

promoted by its application to the present transaction.” (App.

A at 17a-18a.) “The statute itself states that it was enacted for

the ‘purpose of preventing the unfair use of information which

may have been obtained’ by a statutory insider,” and Texas

International, which was attempting a hostile takeover, “had

no ‘inside information.’ ” (App. A at 17a.) Texas International

received from Pan Am the same $50 per share price received by

all National shareholders; application of Section 16(b) to

require Texas International to make a refund “serves only to

permit Pan Am to avoid that portion of its contract with TI in

which it agreed to pay $50 per share.” (App. A at 18a.) There

was no Section 16(b) policy which would justify conferring this

windfall on Pan Am.

REASONS FOR GRANTING THE WRIT

The panel majority below held that when Texas International

bowed to the inevitable and sold its National shares to Pan

Am, Section 16(b) forces were set in motion that compel the

courts to return a portion of the agreed consideration to Pan

Am. This resolution is contrary to the teachings of the Court,

to the intent of Congress, and to all considerations of policy:

(i) the money paid as consideration for the shares cannot

fairly be taken away from Texas International, which

was not an “insider” in any sense;

(ii) Pan Am cannot fairly be permiited to obtain a wind-

fall discount on the consideration Pan Am agreed to

pay Texas International for its shares; and

(iii) the result permits Section i6(b) to interfere with the

climate of investor opportunity that Congress has

sought to create by the Williams Act, 15 U.S.C.

§§ 78/-n (1982).

There was no compulsion under Section 16(b) for the Court

of Appeals majority to decide as it did, and there is no Section

16(b) policy that would either be served by this unjust result or

6

disserved by a fair resolution of this case. Rather, the court

below misunderstood this Court’s decision in Kern County

Land Co. v. Occidental Petroleum Corp., 411 U.S. 582 (1973),

failed to recognize the applicability to Section 16(b) cases of

this Court’s decision in Bangor Punta Operations, Inc. v.

Bangor & Aroostook Railroad, 417 U.S. 703 (1974), and failed

to .ccognize the impact of its decision on the climate of

investor opportunity sought by the Williams Act.

I. SECTION 16(b) CANNOT PROPERLY BE APPLIED

TO TEXAS INTERNATIONAL, WHICH FAILED IN

ITS HOSTILE TAKEOVER BID AND NEVER

ACHIEVED ACCESS TO INSIDE INFORMATION

The most significant potential liability under Section 16(b)

today is in connection with transactions which were virtually

unknown at the time Section 16(b) was drafted—hostile take-

over attempts.’ Large blocks of stock are often bought and

sold within short periods. Yet the purchase and later disposi-

tion of shares by a stockholder who has failed in a hostile

takeover attempt does not present the potential for misuse of

inside information which is Section 16(b)’s express justifica-

tion; the very reason for the disposition of the shares is the

failure to become an insider.

Having no appropriate role to play in the takeover context,

Section 16(b) has become a kind of “wild card”: it hurts the

climate of maximum shareholder opportunity that Congress

has sought to create with the Williams Act, discouraging some

transactions, and irrationally recasting the terms of the bargain

1 Tender offers began to become popular during the 1960's. E.

Aronow, H. Einhorn & G. Berlstein, Developments in Tender Offers for

Corporate Control at p. v (1978). The legislative history of the Williams Act,

15 U.S.C. §§ 78/-n (1982), enacted in 1968 to deal with this form of securities

trading, recites that the number of tender offers in a year had increased from

8 in 1960 to 100 in 1966. S. Rep. No. 550, 90th Cong., Ist Sess., at 2 (1967).

-

in others. This Court has noted that the scheme of federal

takeover and tender offer regulation does not include Section

16(b) and that Section 16(b) was “not designed for this task.”

Kern County Land Co. v. Occidental Petroleum Corp., 411

U.S. 582, 597-98 (1973).

One result of tender offers has been the creation of a new

class of ten per cent stockholders who, precisely because of

their stock ownership, are the most outside of outsiders. It is

the fate of this class under Section 16(b) that is the subject of

this petition. As this Court observed in Kern County, it is

“totally unrealistic to assume or infer” that a shareholder who

had acquired stock in a hostile takeover attempt had access to

inside information. 411 U.S. at 596.

While this Court found in favor of the defeated takeover

contestant in Kern County, the statutory analysis for reaching

that result applied 0: =. a narrow category of “unorthodox”

transactions rather tian to the general problem of purchases

and subsequent sales by unsuccessful hostile takeover candi-

dates. Indeed, the lower courts in this and other cases’ have

misread Kern County as prohibiting a purpose-oriented con-

struction of the statute to deal with this general problem and

have imposed liability on defeated takeover candidates without

any policy justification. These incorrect results have impact far

beyond the cases themselves. The threat of liability posed by

the results of these cases has the effect of preventing many

other transactions from taking place at all.

These results are contrary to this Court’s purpose-oriented

approach to construing Section 16(b) in Kern County and

other cases, contrary to purpose-oriented principles of statu-

tory construction announced many times by this Court, and

2 See Reece Corp. v. Walco National Corp., 565 F. Supp. 158

(S.D.N.Y. 1981); Lane Bryant, Inc. v. Hatleigh Corp., 517 F. Supp. 1196

(S.D.N.Y. 1981); Tyco Laboratories, Inc. v. CutlerHammer, Inc., 490 F.

Supp. 1 (S.D.N.Y. 1980).

8

contrary to the purpose-oriented constructions employed by

lower courts in cases involving the other two categories of

Section 16(b) insiders: officers and directors.

On each of the ihree occasions on which this Court has

addressed the reach of Section 16(b), this Court expressly has

sought a construction of the statute which would reflect the

statutory purpose. See Reliance Electric Co. v. Emerson Elec-

tric Co., 404 U.S. 418, 424-25 (1972) (seller not liable for

profits on second step of two step sale transaction where first

step brought holdings below 10 per cent); Kern County Land

Co. v. Occidental Petroleum Corp., 411 U.S. 582, 594 (1973)

(defeated tender offer contestant not liable where shares sold

to successful rival in “unorthodox” transaction); Foremost-

McKesson, Inc. v. Provident Securities Co., 423 U.S. 232, 244

(1976) (despite statutory language which might have been read

to include the transaction, statutory coverage of purchase by

which defendant became 10 per cent stockholder “not consis-

tent with the premises on which Congress enacted the sec-

tion”).

As this Court recognized in Foremost-McKesson, the critical

question in a Section 16(b) case is whether the statute applies in

the first instance, since the statute “imposes liability without

fault within its narrowly drawn limits.” 423 U.S. at 251

(footnote omitted). In dealing with those who in fact had

access to inside information, Congress deliberately chose not

to require proof that they misused it, for that would involve

chasing the “will-o’-the-wisp of an investor’s ‘intent.’” Re-

liance Electric Co. v. Emerson Electric Co., 404 U.S. 418, 425

(1972). Insiders always have some inside information, and it

would be next to impossible to determine whether they used

inside information in trading decisions.

The critical issue here thus is one of statutory coverage:

whether a defeated takeover contestant who never had access

to inside information at all should be regarded as a ten per cent

shareholder within the meaning of Section 16(b) and thereby

be conclusively presumed to have misused inside information

9

that it never had in the first place. There is no reason to read

Section 16(b) to apply to the defeated takeover contestant.

This Court has said that to carry out the purpose of the

Securities Exchange Act of 1934, it may be necessary to

construe the statute as not applying to a situation which

appears to fall within the letter of the statute. See United

Housing Foundation, Inc. v. Forman, 421 U.S. 837, 849

(1975), where this Court quoted with approval the “traditional

canon of statutory construction” set forth in Church of the

Holy Trinity v. United States, 143 U.S. 457, 459 (1892):

“a thing may be within the letter of the statute and yet not

within the statute, because not within its spirit, nor within

the intention of its makers.”

Indeed, in the course of construing statutes, “even when the

plain meaning did not produce absurd results but merely an

unreasonable one ‘plainly at variance with the policy of the

legislation as a whole,’” this Court frequently “has followed

that purpose, rather than the literal words.” Perry v. Com-

merce Loan Co., 383 U.S. 392, 400 (1966) (quoting United

States v. American Trucking Associations, 310 U.S. 534, 543

(1940)). As Justice Cardozo put it, the words chosen by

Congress “came into the statute. . . freighted with the mean-

ing imparted to them by the mischief to be remedied.” Dupar-

quet Huot & Moneuse Co. v. Evans, 297 U.S. 216, 220-21

(1936).

The express statutory purpose has guided the lower courts in

construing Section 16(b) with regard to coverage of officers

and directors, the two categories of insiders other than ten per

cent shareholders. When confronted with a defendant who

appeared to fall within the literal language of the statute

because he was a “director,” or an “officer,” but who was not

in fact an insider, courts have been unwilling to find coverage.

(Director not liable: see Gold v. Sloan, 486 F.2d 340 (4th Cir.

1973), cert. denied, 419 U.S. 873 (1974). Officer not liable: see,

e.g., Merrill Lynch, Pierce, Fenner & Smith, Inc. v. Living-

ston, 566 F.2d 1119 (9th Cir. 1978); Pier 1 Imports of Georgia,

Inc. v. Wilson, 529 F. Supp. 239 (N.D. Tex. 1981)).

10

The statutory purpose likewise should be considered when

determining whether those who sell off shares after failing in a

hostile takeover attempt are within the coverage of the statute.

When the purpose of the section is considered, it is clear that

no statutory goal would be accomplished by finding coverage

over unsuccessful hostile takeover contestants.

The Congressional purpose behind Section 16(b) could not

be plainer. Section 16(b) begins by stating its purpose expressly;

it was enacted “[flor the purpose of preventing the unfair use

of information” which an insider may have obtained “by

reason of his relationship to the issuer.” As this Court stated in

Foremost-McKesson, 423 U.S. at 244, this purpose does not

require that doubts be resolved in favor of Section 16(b)

coverage.

In Kern County this Court described the climate of hostility

which makes it wholly unrealistic to presume, let alone conclu-

sively presume, that an unfriendly takeover contestant misused

inside information. The hostility that existed between the

target company and the putative “insider” in Kern County

finds its parallel in the facts of the present case. Like the

management of National, Kern County management wanted to

avoid its own displacement to the greatest extent possible, and

took immediate and vigorous steps to frustrate the efforts of

Occidental to gain control. Like the management of National,

Kern County repeatedly communicated with its stockholders to

vilify Occidental and to compare its merger offers unfavorably

with those of management’s favorite. Like the management of

National, Kern County management refused to enter into

discussions with Occidental and concluded an agreement to

effect a defensive merger with another company.

In language equally applicable to Texas International, this

Court found it “totally unrealistic,” 411 U.S. at 596, to

presume that Occidental had access to inside information:

“There is, therefore, nothing in connection with Occiden-

tal’s acquisition of Old Kern stock pursuant to its tender

offer to indicate either the possibility of inside informa-

1]

tion being available to Occidental by virtue of its stock

ownership or the potential for speculative abuse of such

inside information by Occidental.” Jd. at 599.

This Court accordingly found that the transaction did not pose

a threat of “the evil Congress sought to prevent—the realiza-

tion of short-swing profits based upon access to inside infor-

mation.” Jd. at 594.

While this Court in Kern County acted in accordance with

the statutory purpose and found no liability, it did so on a

statutory analysis which may lead to a finding of no liability

only in a narrow range of ‘‘unorthodox’’ stock-for-stock

transactions. As this case demonstrates, the policy considera-

tions supporting non-liability in Kern County are present in a

broader class of cases involving defeated contestants in hostile

takeover battles who never had access to inside information.

Sound policy and accepted principles of statutory construction

require that Section 16(b) be read as not applying to such

cases.

Indeed, as Judge Friendly observed in his opinion for the

Second Circuit in Kern County, it is not only unfair but also

perverse to apply Section 16(b) to take profits from the

defeated takeover contestant, for it was responsible for creat-

ing the profits which all shareholders enjoyed:

**Indeed, if we considered the question here under

discussion to be closer than we do, we would be seriously

concerned over the policy implications of ruling in appel-

lees’ favor. Such a holding would mean that the target of

a tender offer not only may solicit a better offer, which is

admirable, but also may deliver as bait to the offeree a

substantial § 16(b) liability on the part of the very offeror

whose initiative aroused the target from its seeming tor-

por and created a large profit for all stockholders, if the

parties can force the transaction through within six

months from the latter’s purchases. The idea that the

person who pointed the company down the road to good

fortune should be excluded from the profits realized by all

12

other stockholders is repugnant to our sense of equity.”’

Abrams v. Occidental Petroleum Corp., 450 F.2d 157,

163-64 (2d Cir. 1971), aff’d sub nom. Kern County Land

Co. v. Occidental Petroleum Corp., 411 U.S. 582 (1973)

(footnotes omitted).

Section 16(b) was never intended to accomplish any such result

and there is no reason to construe it to do so.

The question presented by this petition is whether treatment

of defeated takeover contestants under Section 16(b) may be

placed on a sound policy basis consistent with the usual norms

of judicial interpretation of statutes and without harm to the

benefits of ‘‘automatic’’ enforcement. We respectfully submit

that this question is worthy of consideration by this Court.

Il. PAN AM, THE SUCCESSFUL TAKEOVER CON-

TESTANT, IS ESTOPPED FROM USING SECTION

16(b) TO OBTAIN A WINDFALL DISCOUNT ON

THE PRICE PAN AM AGREED TO PAY TEXAS

INTERNATIONAL FOR ITS SHARES

Pan Am agreed to buy 797 700 shares from Texas Interna-

tional for $50 per share. The effect of applying Section 16(b) to

this transaction would be retroactively to reduce the price on

121,000 of these shares to approximately $40.50 per share, or a

total reduction of nearly $1,150,000. There is absolutely no

policy justification under Section 16(b) for giving this money

back to Pan Am. Nevertheless, the panel majority below

believed that this result was compelled by cases refusing to

permit estoppel or other equitable defenses in Section 16(b)

actions.

While equitable defenses properly have been rejected in cases

where there were innocent minority shareholders who would

benefit from recovery, consideration of equitable defenses is

entirely appropriate where, as here, the interests of innocent

minority shareholders are not implicated.

Section 16(b), which treats certain insiders as fiduciaries and

requires them to account to their corporations for profits on

e

13

specified transactions, is a statutory codification of the equita-

ble doctrine of restitution. See, e.g., American Standard, Inc.

v. Crane Co., 510 F.2d 1043, 1060 (2d Cir. 1974), cert. denied,

421 U.S. 1000 (1975); Gratz v. Claughton, 187 F.2d 46, 49 (2d

Cir.), cert. denied, 341 U.S. 920 (1951) (Learned Hand, C.J.).

Compare | G. Palmer, The Law of Restitution § 2.11, at 141

(1978) with Stock Exchange Regulation, Hearing Before the

Committee on Interstate and Foreign Commerce of the House

of Representatives on H.R. 7852 and H.R. 8720, 73d Cong.,

2d Sess., at 133 (Feb. 21, 1934) (statement of Thomas G.

Corcoran). This Court has stated repeatedly that absent unmis-

takable Congressional intent to eliminate equitable discretion,

a federal court given statutory authority to impose an equitable

remedy retains the full discretion of a court of equity and may

grant or withhold relief as equity demands. E.g., Hecht Co. v.

Bowles, 321 U.S. 321, 329-30 (1944) (Court had equitable

discretion to refuse injunction even though statute provided

that injunction ‘‘shall be granted’’ upon specified showing);

Mitchell v. Robert DeMario Jewelry, Inc., 361 U.S. 288,

291-92 (1960); Porter v. Warner Holding Co., 328 U.S. 395,

398 (1946).

Indeed, in a case involving another section of the Securities

Exchange Act of 1934 (the ‘'1934 Act’’), this Court has

recognized equitable estoppel to bar recovery under circum-

stances strikingly similar to these. In Bangor Punta Opera-

tions, Inc. v. Bangor & Aroostook Railroad, 417 U.S. 703

(1974), the purchaser of a corporation sought to get a discount

on the price it had paid to the old owners by causing the

corporation to bring suit against the old owners under Section

10(b) of the 1934 Act and the antitrust laws for damages

allegedly suffered by the corporation prior to the purchase.

This Court found that the purchaser was barred by equitable

estoppel. This Court began by noting that ‘‘although the suit

purported to be a primary action brought in the name of the

corporation, the real party in interest and hence the actual

beneficiary of any recovery’’ was the entity that owned more

than 99 per cent of the stock. Jd. at 707 (emphasis added). This

controlling entity, like Pan Am, had bought shares from the

14

defendant at an agreed price, and was seeking ‘‘to recover

indirectly’’ money it had paid in the purchase price. Jd. at 712.

This Court held that such attempts are barred by estoppel:

‘*In such cases, courts of equity, piercing all fictions and

disguises, will deal with the substance of the action and

not blindly adhere to the corporate form. Thus, where

equity would preclude the shareholders from maintaining

an action in their own right, the corporation would also

be precluded. It follows that [the 99 + % stockholder], the

principal beneficiary of any recovery and itself estopped

from complaining of petitioners’ alleged wrongs, cannot

avoid the command of equity through the guise of pro-

ceeding in the name of respondent corporations which it

owns and controls.’’ /d. at 713 (citations omitted).

The inequity of permitting Section 16(b) to be used as a

device to obtain a windfall discount on a contract price

likewise has been recognized. In American Standard, Inc. v.

Crane Co., 510 F.2d 1043, 1061 (2d Cir. 1974), cert. denied,

421 U.S. 1000 (1975), having ruled for the defendant on other

grounds, the Second Circuit went on to note the unfairness of

permitting a successful takeover contestant to use Section 16(b)

to obtain a windfall discount on shares he acquires from the

defeated adversary:

‘*While every § 16(b) recovery may be deemed to par-

take of windfall there is ample justification in legislative

purpose for restoring the recaptured profit to the issuer

itself. There is nothing but sheer windfall, however, in

handing it to the successor corporation. That corporation

was not in any relationship with [the putative insider]

before the merger except that of competitor for con-

trol. ...’’ (emphasis added; citations omitted; footnote

omitted).

In spite of this, the court below held that it was without

power to consider equitable defenses. On the basis of a number

of Section 16(b) cases in which equitable defenses were re-

15

jected, the panel majority concluded that equitable defenses in

Section 16(b) cases were insufficient as a matter of law.

The cases do not support this broad rule. In all of the cases

relied on below, there were minority shareholders who would

have enjoyed the benefit of a Section 16(b) recovery. It is these

minority shareholders for whose protection Section 16(b) was

enacted. The statute seeks to prevent insiders, who control and

manage the corporation, from using their knowledge of the

issuer for personal profit. In a case where there are outside

minority shareholders who would benefit from a Section 1!6(b)

recovery, it would clearly be inappropriate to permit an ‘‘in-

sider’’ Section 16(b) defendant to establish an estoppel based

on the conduct of insider management, with whom the Section

16(b) defendant presumptively is closely identified. All the

cases relied on by the courts below for the proposition that

equitable defenses could not be recognized involved innocent

outside minority shareholders; to the extent that the opinions

in the cases explain their holdings, they uniformly point to the

minority shareholders for whose benefit the statute was in-

tended and who were innocent of any conduct giving rise to an

estoppel. Magida v. Continental Can Co., 231 F.2d 843, 846

(2d Cir.), cert. denied, 351 U.S. 972 (1956) (‘‘the policy of the

Statute is to protect minority stockholders’’); Cutler-Hammer,

Inc. v. Leeds & Northrup Co., 469 F. Supp. 1021, 1023 (E.D.

Wis. 1979) (statute’s objective is to prevent ‘‘questionable

transactions on the part of insiders to the detriment of minor-

ity or outside shareholders’’); Schur v. Salzman, 365 F. Supp.

725, 733 (S.D.N.Y. 1973) (acts of issuer management could not

create estoppel, citing interests of ‘‘minority or outside stock-

holders’’); Marquette Cement Manufacturing Co. v. Andreas,

239 F. Supp. 962, 966 (S.D.N.Y. 1965) (‘‘the policy of the

Statute is to protect minority stockholders and the public’’).

Here there is no innocent stockholder who would be deprived

of statutory benefit and there is no reason not to consider

equitable defenses.

It is clear that the defense of equitable estoppel has been

made out. To permit Pan Am to recover would be to allow it

16

to do just what this Court said would be inequitable in Bangor

Punta: to ‘‘recoup a large part of the price they agreed to pay

for their shares,’’ and to gain a ‘‘windfall by enhancing the

value of its bargain.’’ 417 U.S. at 711, 716. The principles of

Bangor Punta estop Pan Am from seeking to escape the

obligations of its bargain.’

Indeed, allowing Pan Am to recover would be, to use Judge

Friend!y’s words, ‘‘repugnant’’ to one’s ‘‘sense of equity’’:

— No intended beneficiary of the statute would reap the

slightest benefit from recovery. Pan Am has ‘‘cashed

out’’ all the minority shareholders in National at a

price set long before any possible Section 16(b) claim

arose;

— The only beneficiary of any recovery would be Pan

Am, which would thereby avoid its contractual obliga-

tion to pay $50 per share to Texas International and

receive a windfall refund of more than one million

dollars;

— The recovery would flow from Texas International,

which was kept as an outsider, to Pan Am, which at all

relevant times was an insider with at least majority

stock ownership of National.

To allow this kind of result in the name of a statute intended to

avoid abuses by insiders is to stand Section 16(b) on its head.

We respectfully submit that the question of the proper role

of equitable defenses in Section 16(b) cases involving takeover

attempts is worthy of review by this Court.

3 The estoppel does not arise by reason of Pan Am’s merger with

National during the pendency of this litigation. Rather, it arises because at

the time of the sale, Pan Am was already the only shareholder of National

with a beneficial interest in a Section 16(b) recovery; all the other share-

holders were to be ‘‘cashed out’’ at $50 per share on the merger and would

enjoy no benefit from the recovery.

17

CONCLUSION

For the foregoing reasons, this petition for a writ of

certiorari should be granted.

December 6, 1983

Respectfully submitted,

GEORGE A. DAVIDSON

Hughes Hubbard & Reed

One Wall Street

New York, New York 10005

(212) 709-7585

Attorney for Petitioner

Of Counsel:

DAVID W. WILTENBURG

Hughes Hubbard & Reed

One Wall Street

New York, New York 10005

~o)

Appendix A

UNITED STATES COURT OF APPEALS

FIFTH CIRCUIT

No. 82-2215

Sept. 15, 1983

+

TEXAS INTERNATIONAL AIRLINES,

Plaintiff-Appellant,

a

NATIONAL AIRLINES, INC.,

Defendant-Appellee.

++—

Appeal from the United States District Court for the

Southern District of Texas.

Before:

GARZA, POLITZ and JOHNSON,

Circuit Judges.

JOHNSON, Circuit Judge:

Texas International (TI) appeals the grant of summary judg-

ment for National Airlines (National) holding TI liable to

National under section 16(b) of the Securities Exchange Act of

2a

1934 (the Exchange Act) for the “short swing profits” made on

the sale of 121,000 shares of National common stock. Section

16(b), 15 U.S.C.A. § 78p(b) provides, in pertinent part:

For the purpose of preventing the unfair use of infor-

mation which may have been obtained by such beneficial

owner, director, or officer by reason of his relationship to

the issuer, any profit realized by him from any purchase

and sale, or any sale and purchase, of any equity security

of such issuer (other than an exempted security) within

any period of less than six months, unless such security

was acquired in good faith in connection with a debt

previously contracted, shall inure to and be recoverable

by the issuer, irrespective of any intention on the part of

such beneficial owner, director, or officer in entering into

such transaction of holding the security purchased or of

not repurchasing the security sold for a period exceeding

six months.

The three factors which trigger section 16(b) liability were all

present—TI was a ten percent beneficial owner of National

that purchased and sold National stock within a six-month

period. The district court, therefore, found TI subject to

automatic section 16(b) liability to National for the short swing

profits TI made on the sale.' On appeal, TI argues that equity

bars any recovery by National and, in the alternative, that

proof of “nonaccess” to inside information should be decisive

in a section 16(b) inquiry. This court affirms the grant of

summary judgment for National.

Facts

On March 14, 1979, during an attempt by TI to gain control

of Nationa!, TI purchased 121,000 shares of National common

] The district court recognized the narrow “unorthodox” transaction

exception to § 16(b) but held that TI’s purchase and sale did not fit within

this exception.

3a

stock in open market brokerage transactions.? On March 14,

the date of the purchase, TI was a beneficial owner of more

than ten percent of National’s common stock. On July 28,

1979, within six months of the March 14 purchase, TI and Pan

American World Airways, Inc. (Pan Am) entered into a stock

purchase agreement whereby TI agreed to sell 790,700 shares

of National common stock to Pan Am at $50 per share.’ The

closing was held on July 30, 1979. Under the matching rules of

section 16(b) the 790,700 shares sold by TI on July 28, 1979 are

deemed to include the 121,000 shares purchased by TI in

March.

On September 6, 1978, National and Pan Am‘ had entered

into a merger agreement which provided for the merger of

National into Pan Am contingent upon certain conditions and,

in connection with the merger, for the exchange by Pan Am of

not less than $50 in cash for each share of National common

stock, other than the shares held by Pan Am. On May 16,

1979, National stockholders approved the merger agreement

dated September 6, 1978, as amended. TI, as a National

stockholder, stood to receive $50 per share for its National

stock if and when the merger closed. For whatever reason, TI

decided not to wait until the merger went through to negotiate

for the disposition of its holdings to Pan Am. It was not until

2 These transactions were as follows: 11,000 shares at $40 per share;

10,000 shares at $40% per share; 4,500 share at $40% per share; 95,500

shares at $40% per share. The aggregate purchase price for the 121,000

shares was $4,890,687.50, including brokerage commissions of $9,680.00. At

all relevant times, National’s common stock was listed on the New York and

Pacific Stock Exchanges and registered with the Securities and Exchange

Commission pursuant to § 12(b) of the Exchange Act.

3 Pursuant to the agreement, Pan Am also agreed to pay TI the sum

of $3,000,000 for an option to purchase the remaining 1,309,300 shares

owned by TI. In November 1979, Pan Am exercised the option, which is not

an issue on appeal.

4 Pan Am Florida, Inc., a subsidiary of Pan Am, was also a party to

the agreement.

4a

after the July 28, 1979 sale by TI of its Nationai stock to Pan

Am that the National-Pan Am merger was effectuated.

On August 2, 1979, only five days after TI sold its National

stock to Pan Am, TI sought declaratory relief* that it was not

liable to National under section 16(b) for profits realized on

the purchase and sale of National common stock. In the

alternative, TI sought to reduce its short swing profits by

deducting expenses it allegedly incurfed in connection with the

purchase and sale of its National stock. On September 26,

1979, National counterclaimed, seeking recovery of TI’s short

swing profits under section 16(b). National moved for sum-

mary judgment on November 24, 1980.°

On May 11, 1981, the district court granted National’s

motion in part, finding that TI’s purchase and sale of the

121,000 shares of National stock constituted a violation of

section 16(b). The district court squarely rejected TI’s conten-

tion that the control contest situation rendered the transaction

at issue “unorthodox” within the meaning of Kern County

Land Co. v. Occidental Petroleum Corp., 411 U.S. 582, 93

S.Ct. 1736, 36 L.Ed.2d 503 (1973). In reaching its conclusion

that TI was liable under section 16(b), the district court stated

that no court has exempted the type of transaction at issue

here—a cash-for-stock transaction—from the automatic appli-

cation of section 16(b). The court also determined that TI

could deduct from the short swing profits for which it was

liable, brokerage commissions, transfer taxes, and other inci-

dental expenses incurred in the purchase and sale of the

121,000 shares of National common stock. However, the court

ordered TI to submit a breakdown of its claimed expenses

incident to the purchase and sale. Following further submis-

sions by both parties, the district court entered an order on

March 31, 1982, allowing TI to deduct brokerage commissions

and transfer taxes in the amount of $10,117.50 from the short

5 TI sought declaratory relief pursuant to the Declaratory Judgment

Act, 28 U.S.C. §§ 2201 & 2202.

6 By early January 1980, the merger of Pan Am and National had

been effectuated. Pan Am became the surviving corporation.

Sa

swing profits for which it was liable. The court disallowed,

however, all of TI’s other requested expense deductions as not

incidental to the purchase and sale of the 121,000 shares of

National stock. On May 10, 1982, the district court issued its

final judgment, dismissing TI’s complaint for declaratory

judgment and awarding National the sum of $1,149,195 on its

counterclaim, together with prejudgment interest and costs.

at

Equitable Estoppel

In making its argument that equitable estoppel should be

allowed as a defense in a section 16(b) action, TI first states the

purpose of section 16(b): the evil Congress sought to curb was

market speculation by corporate insiders based on abuse of

their positions of trust and access to confidential information.

TI urges that section 16(b) embodies the equitable remedy of

restitution traditionally imposed on fiduciaries. If a fiduciary

profits by inside information concerning the affairs of his

principal, the fiduciary’s profits go to the principal. Given that

the section is merely an application of an equitable doctrine,

equitable defenses must be allowed, according to TI. TI es-

chews the section 16(b) cases disallowing equitable defenses as

a matter of law by claiming that the instant case is factually

distinguishable from those cases. Here, TI urges, there are no

innocent outside stockholders of the issuer who need protec-

tion. Rather, Pan Am, the only party that would benefit from

a recovery, is the very party that has engaged in conduct giving

rise to an estoppel. This conduct, according to TI, consisted of

Pan Am’s involvement in the transaction that created section

16(b) liability at a time when Pan Am was the controlling

stockholder of National and had an agreement in place re-

quiring the shareholders to accept $50 for their shares.

The case law uniformly rejects equitable defenses in seciion

16(b) cases. See, e.g., Roth v. Fund of Funds, Ltd., 405 F.2d

421, 422-23 (2d Cir. 1968), cert. denied, 394 U.S. 975, 89 S.Ct.

1469, 22 L.Ed.2d 754 (1969); Magida v. Continental Can Co.,

231 F.2d 843, 846 (2d Cir.), cert. denied, 351 U.S. 972, 76 S.Ct.

1031, 100 L.Ed. 1490 (i956); Tyco Laboratories, Inc. v.

6a

Cutler-Hammer, Inc., 49C: F.Supp. 1, 8 (S.D.N.Y.1980); Cutler-

Hammer, Inc. v. Leeds & Northrup Co., 469 F.Supp. 1021,

1023 (E.D. Wis. 1979). ihe facts of this case do not warrant an

aberration from the principle that holds equitable defenses in

section 16(b) cases insufficient as a matter of law. Indeed, the

courts have not accepted equitable defenses even in cases where

the issuer participated in the transaction or where the trans-

action giving rise to the profit occurred at the incentive of the

issuer itself. See, e.g., Roth, 405 F.2d at 422-23; Magida, 231

F.2d at 846. Although disgorgement of profits benefits the

shareholders of the issuer, the courts do not entertain equitable

defenses which could operate to bar recovery by these share-

holders. This Court is not disposed to create an exception to

the disallowance of equitable defenses in section 16(b) cases

based on the mere difference that in this instance Pan Am,

who participated in the section 16(b) transaction, was a share-

holder of the issuer (National) who subsequ€ntly merged into

its shareholder (Pan Am). Allowance of equitable defenses in

section 14(b) cases would only serve to thwart the remedial

purpose of the statute.

TI places great reliance in a recent case of this Circuit,

Regional Properties v. Financial & Real Estate Consulting Co.,

678 F.2d 552 (Sth Cir. 1982) for the proposition that equitable

remedies created by the federal securities laws may be barred

by equitable defenses. Regional Properties held that a defen-

dant in a suit brought under section 29(b) of the Exchange Act

may invoke traditional equitable defenses. Regional Proper-

ties, however, is of no avail to TI in this section 16(b) case. The

question this Court faced in Regional Properties was whether

real estate developers were entitled to rescind their agreements

with the broker under the contract-voiding provisions of sec-

tion 29(b) of the Exchange Act. An action for rescission of a

contract is by its very definition equitable in nature. In the

instant case, the question before this Court is not whether the

contract between TI and National was void, but whether the

profits which were obtained by TI were precluded by § 16(b)

and were recoverable by National under the provisions of the

statute. Indeed, the reasons this Court gave for allowing

7a

equitable defenses in section 29(b) actions are inapposite to the

section 16(b) action before the Court. The first rationale used

in Regional Properties was that, historically, a suit to void a

contract sounds in equity and that actions to void a securities

broker’s contract are therefore equitable in nature. The case

before this Court is not an action to rescind a contract—it is an

action to disgorge precluded profits. The second rationale used

in Regional Properties was that Supreme Court statements

favored allowing equitable defenses in section 29(b) actions. In

Mills v. Electric Auto-Lite Co., 396 U.S. 375, 90 S.Ct. 616,

623, 24 L.Ed.2d 593 (1970), the Supreme Court in dictum

acknowledged the availability of one equitable defense, in pari

delicto, in a section 29(b) action. Additionally, in Transmerica

Mortgage Advisors, Inc. v. Lewis, 444 U.S. 11, 100 S.Ct. 242,

246-47, 62 L.Ed.2d 146 (1979), the Supreme Court in dictum

noted with approval the general reading of section 29(b)-type

provisions by the lower federal courts as “implying an equit-

able cause of action for rescission. . . .” But not even in dicta

has the Supreme Court made statements favoring the allow-

ance of equitable defenses in section 16(b) actions. Moreover,

this Court in Regional Properties opted to allow all the

traditional equitable defenses in section 29(b) actions because

“virtually all other courts that have decided this issue” have

held that equitable defenses are available. On the other hand,

the only courts that have addressed the issue in the context of

section 16(b) have rejected the allowance of equitable defenses.

In sum, none of the reasons justifying this Court’s decision in

Regional Properties to allow equitable defenses in section 29(b)

actions is present in the instant case.

Finally, this Court’s decision to allow equitable defenses in

Regional Properties was consistent with the facts of that case.

There, the broker had represented to the plaintiff-developers

that he was a knowledgeable financial consultant and expert in

the tax and legal aspects of limited partnerships and in federal

and state securities laws. In fact, however, he was a disbarred

attorney who was not registered as a broker, who was inexpe-

rienced in limited partnerships, and who was ignorant of

federal securities law requirements for either private place-

8a

ments or public offerings of limited partnership interests.

Significantly, TI makes no claim of misrepresentations or

nondisclosures on the part of Pan Am in this case. Indeed,

even were this Court to allow equitable defenses, this Court is

unconvinced that the equities favor TI. Fully anticipating both

the merger and the possible—if not probable—applicability of

section 16(b),’ TI voluntarily entered into the transaction with

Pan Am. TI appears to have made a considered and calculated

business judgment in its purchase and sale of its National

shares, and to have derived therefrom a substantial profit.

Indeed, were this Court to allow TI to escape section 16(b)

liability, the result would be a pure windfall to TI. TI, which

voluntarily decided to sell its shares to Pan Am before the

merger closed, benefited from the use of the sales proceeds

during the remaining portion of the statutory period. The facts

of the instant case, hardly akin to the facts in Regional

Properties, supply no motivation for the allowance of equit-

able defenses in a section 16(b) action.

A Standard of Nonaccess to Inside Information

TI urges this Court to create an exception to automatic

section 16(b) liability in cases where a defendant can prove

that, notwithstanding its ownership of over ten percent of the

stock of the issuer, the defendant had no access to inside

information concerning the issuer. According to TI, the classic

example of such a case is a sale of stock in the hostile takeover

context. Application of section 16(b) in this type of case,

argues TI, does not serve congressional goals—Congress in-

tended short-swing profits to be disgorged only when the

particular transaction serves as a vehicle for the realization of

these profits based upon access to inside information.

7 TI states that its negotiations with Pan Am began only after Pan Am

became a 51% shareholder of National and could thereby force shareholder

approval of the 1978 merger agreement. Furthermore, TI filed its complaint

for declaratory relief on August 2, 1979, five days after its sale of the 121,000

National shares.

9a

TI’s argument is unsupported by the legislative history of

section 16(b). Although the abuse Congress sought to curb was

speculation by stockholders with inside information, “the only

method Congress deemed effective to curb the evils of insider

trading was a flat rule taking the profits out of a class of

transactions in which the possibility of abuse was believed to

be intolerably great.” Kern County, 93 S.Ct. at 1473 (emphasis

added). In expiaining the necessity for a “crude rule of thumb”

to Congress, Thomas Corcoran, a principal draftsman of the

Act, stated: “You have to have a general rule. In particular

transactions it might work a hardship, but those transactions

that are a hardship represent the sacrifice to the necessity of

having a general rule.” Hearings on Stock Exchange Practices

before the Senate Committee on Banking and Currency, 73d

Cong., 2d Sess., 6557 and 6558 (1934). The Supreme Court

explained the necessity for the flat rule or “objective ap-

proach” of the statute in Reliance Electric Company v. Emer-

son Electric Company, 404 U.S. 418, 92 S.Ct. 596, 599, 30

L.Ed.2d 575 (1972) quoting Bershad v. McDonough, 428 F.2d

693, 696 (7th Cir. 1970):

In order to achieve its goals, Congress chose a relatively

arbitrary rule capable of easy administration. The objec-

tive standard of Section 16(b) imposes strict liability upon

substantially all transactions occurring within the statu-

tory time period, regardless of the intent of the insider or

the existence of actual speculation. This approach max-

imized the ability of the rule to eradicate speculative

abuses by reducing difficulties in proof. Such arbitrary

and sweeping coverage was deemed necessary to insure

the optimum prophylatic effect.

On the basis of legislative history, the court in Tyco, 490

F.Supp. at 5-6, rejected the very argument advanced by TI

here—that the necessary predicate to section 16(b) liability is

access to inside information.

A review of the legislative history indicates, . . . that

Congress specifically envisioned a statutory scheme which

imposes automatic liability on any and all ten percent

10a

shareholders who buy and sell an issuer’s securities within

a six-month period, irrespective of whether they had

access to or misused inside information . . . Moreover,

the argument that the preamble to section 16(b), which

states that the statute was enacted “[flor the purpose of

preventing the unfair use of information which may have

been obtained by [a] beneficial owner, director, or officer

by reason of his relationship to the issuer”, indicates that

Congress did not intend section 16(b) to apply in absolute

fashion to transactions where there was no access to

inside information, has long been rejected by courts called

upon to interpret the Act. . . . [I]f Congress intended

that only profits derived by those who had access to inside

information were to be recoverable under the Act, it

would have been simple enough to say so. !t is apparent

that Congress selected such a broad, harsh mechanism

because it recognized that in no other way could the

purpose of the statute be fully implemented and the

potential abuses of insider trading effectively controlled.

This Court is in agreement with the statements of legislative

purpose as expressed by the Tyco court and by the Supreme

Court in Emerson Electric and Kern County—the mechanical

application of section 16(b) to the specified class of trans-

actions is necessary in order to guarantee that the abuse at

which the statute is aimed will be effectively curbed.

In Kern County the Supreme Court approved an extremely

narrow exception to the objective standard of section 16(b).

The Court held that when a transaction is “unorthodox” or

“borderline,” the courts should adopt a pragmatic approach in

imposing section 16(b) liability which considers the opportu-

nity for speculative abuse, i.e., whether the statutory “insider”

had or was likely to have access to inside information.

TI engages in an analogy between the hostile and adversary

situation that existed between the target company and the

putative insider in Kern County and the adversary relationship

between TI and National in the instant case.* Even assuming

8 In its brief, TI constructs this analogy as follows:

lla

the alleged parallelism between the adversary situations in the

two cases and assuming that TI could prove that it neither had

nor was likely to have access to inside information by virtue of

its statutory “insider” status, no valid basis for an exception to

section 16(b) liability on these facts is perceived. The Supreme

Court in Kern County inquired into whether the transaction

had the potential for abuse of inside information only because

the transaction feil under the rubric of “unorthodox” or

“borderline.”’ In Kern County, Occidental, a shareholder in

Kern County Land Company (Old Kern) converted its shares

in Old Kern into shares of the acquiring corporation pursuant

to a merger. The Supreme Court clearly distinguished the

unorthodox transaction—a conversion of securities—before it

from the traditional cash-for-stock transaction in the instant

case: “traditional cash-for-stock transactions . . . are clearly

within the purview of § 16(b).”'® Kern County, 93 S.Ct. at

1744.

The hostile and adversary situation that existed between the target

company and the putative “insider” in Kern County is paralleled to a

remarkable degree in the facts of the present case. Like the manage-

ment of Old Kern, National management wanted to avoid its own

displacement to the greatest extent possible, and took immediate and

vigorous steps to frustrate the efforts of Texas International to gain

control. Like the management of Old Kern, National management

repeatedly communicated with its stockholders to vilify Texas Interna-

tional and to compare its merger offers unfavorably with those of

management's favorite, Pan Am. Like the management of Old Kern,

National management refused to enter into discussions with Texas

International and concluded an agreement to effect a defensive merger

with another company. As in Kern County and in accordance with the

recognized pattern in unfriendly takeover situations, Texas Interna-

tional, as the disfavored and ultimately losing bidder for control, far

from being treated as an insider, was treated as an enemy.

9 The Court, in a nonexhaustive list, enumerated certain transactions

which are unorthodox: stock conversions, exchanges pursuant to mergers

and other corporate reorganizations, stock reclassifications, and dealings in

options, rights, and warrants. Kern County, 93 S.Ct. at 1744 n. 24.

10 The court in Tyco Laboratories, 490 F.Supp. at 6-7, stated:

Nowhere in Kern County, however, did the Supreme Court state or

suggest that a “control contest type of situation” makes a securities

12a

TI lays frontal attack on the unorthodox transaci.on test as

fundamentally flawed, principally because the form of consid-

eration received—cash or stock—has nothing to do with

whether inside information was or might have been used. What

this attack fails to consider, however, is the significance of the

factor of voluntariness in the Supreme Court’s decision. The

Court’s sole concern was not that cash-for-stock sales present a

greater opportunity for abuse of inside information than do

stock-for-stock sales. Rather, language in the Supreme Court’s

opinion indicates that traditional cash-for-stock sales were

excluded from the concept of unorthodox transactions because

of their voluntary nature:

The critical fact is that the exchange took place and was

required pursuant to a merger. . . .

Occidental could, of course, have disposed of its shares

of Old Kern for cash before the merger was closed. Such

an act would have been a section 16(b) sale and would

have left Occidenta! with a prima facie section 16(b)

liability. ...

But the involuntary nature of Occidental’s exchange,

when coupled with the absence of the possibility of

speculative abuse of inside information, convinces us that

section 16(b) should not apply to transactions such as this

one.

Id. at 1747 (emphasis added). In the instant case, TI voluntar-

ily entered into the stock purchase agreement with Pan Am

before the National-Pan Am merger was effectuated. Despite

the alleged lack of access to inside information and therefore

the possibility of speculative abuse, the volitional character of

the exchange is sufficient reason to trigger applicability of the

transaction “unorthodox.” On the contrary, what the Supreme Court

actually stated is that a “cash-for-stock” transaction is orthodox and

results in automatic section 16(b) liability.

Moreover, . . ., no case either before or after Kern County has

exempted cash-for-stock transactions from the automatic application

of section 16(b). . . .

l3a

language of section 16(b).'' For whatever reason, after the

National-Pan Am merger had been approved, TI decided to

take the initiative for the course of subsequent events into its

own hands rather than wait for the merger to become accom-

plished. These circumstances do not warrant the creation of an

exception to automatic section 16(b) liability.

Calculation of Short Swing Profits

In calculating the short swing profits for which TI was held

liable, the district court allowed TI to deduct brokerage com-

missions and transfer taxes’? incurred in the purchase and sale

of TI’s 121,000 shares of National common stock. On appeal,

TI complains of the district court’s disallowance of the various

other expenses by which it sought to reduce the amount of its

profit. TI sought deductions for borrowing and interest costs

connected with its purchase and holding of the shares. These

expenses consisted of costs related to the margin loan in

connection with the original purchase of the 121,000 shares”

and an allocated portion of the public offering used by TI to

refinance the initial borrowing.'* TI also sought deductions for

various legal, investment banking, and other consulting fees.'*

11 In finding an exchange of stock pursuant to a merger not to have

been a “sale” for purposes of § 16(b), the Court in American Standard, Inc.

v. Crane Co., 510 F.2d 1043, 1056 (2d Cir.1974), cert. denied, 421 U.S. 1000,

95 S.Ct. 2397, 44 L.Ed.2d 667 (1975), considered the nonvolitional character

of the exchange.

12 These expenses amounted to $10,117.50. TI was therefore allowed to

deduct this amount from the $1,159,312.50 in short swing profits.

13 These costs are enumerated as follows: (1) $40,723 intcrest paid on

the money borrowed to purchase the 121,000 shares (the margin loan); (2) a

commitment fee of $1,771 paid to the entity from which plaintiff obtained a

portion of the margin loan; (3) $10,822 in fees paid to the banks’ attorneys

in connection with the margin loan.

14 __—‘ The allocated portion, $238,698, represented the portion of the

proceeds of the public offering that was used to refinance the 121,000 shares.

15 These costs are enumerated by the district court in its order of

March 31, 1982, as follows:

l4a

This Court agrees with the district court that these costs

represented nontransactional expenses which were not inciden-

tal to the purchase and sale of the 121,000 shares of National

common stock.

In considering the calculation of profit under section 16(b)

the need has been recognized to “squeeze every possible penny

of profit out of such transactions” in order to effectuate the

remedial purpose of the statute. Blau v. Lehman, 286 F.2d 786,

791 (2d Cir. 1960), aff’d, 368 U.S. 403, 82 S.Ct. 451, 7

L.Ed.2d 403 (1962) citing Smolowe v. Delendo Corp., 136 F.2d

231, 239 (2d Cir.), cert. denied, 320 U.S. 751, 64 S.Ct. 56, 88

L.Ed. 446 (1943). The Court in Blau, 286 F.2d at 791, reaf-

firmed this principle even though in the case before it, no

confidential information had been improperly used. The Court

specifically noted that the stock acquisition in that case was

voluntary. Jd. at 792.

This Court is not persuaded by the argument that accounting

principles, or any other approach designed to portray profit in

a realistic way, would allow a deduction of the claimed ex-

penses in computing the profit made on the transaction. The

Court is obliged to construe the term “profit” in a federal

statute designed to impose strict liability on particular parties

(1) voting trust administration fees of $374 which were incurred with

respect to the National shares owned by plaintiff;

(2) investment banking fees totalling $43,214;

(3) the sum of $3,666, constituting the cost of public relations,

management and transportation consultants, consultation and testi-

mony relating to the Civil Aeronautic Board proceeding to acquire

National, and accounting;

(4) legal fees of $91,223;

(5) commitment fees totalling $18,343;

(6) miscellaneous disbursements of $1,925 which include the cost of

printing and supplies, the u.identified expenses of certain individuals

employed by plaintiff, computer services cost, transcripts costs, news

clipping costs, newswire services cost, courier services, the cost of a

“Texas Delegation breakfast”; and,

(7) the sum of $23,000 which constitutes estimated management and

clerical time spent in support of the margin loan, floating rate note

offering and the effort to acquire National from March 14 through

July 30, 1979.

lSa

who make short swing profits within the proscribed period. As

the Court in Blau stated: “We are not . . . computing profits

in accordance with what might be the custom of traders and

speculators in the stock market. We are construing a federal

statute . . . .” Jd. Indeed, the method of computing profit

within section 16(b) can result in a “profit,” albeit a theoretical

one, even though the short swing trader has suffered a net loss

from his trading during the period.”®

In Lane Bryant, inc. v. Hatleigh Corp., 517 F.Supp. 1196,

1202 (S.D.N.Y. 1981), the defendant sought to reduce the

amount of profit made by (1) administrative overhead ex-

penses, (2) interest on the loans secured to enable defendant to

finance the stock purchases, (3) office overhead, and (4)

lawyers’ fees and costs of litigation. The Court rejected all of

these proposed deductions:

None of these attempted deductions is appropriate in

calculating the short-swing profits. The profits on the

purchases and sales are not to be equated with the costs to

the defendant of doing business, nor conducting litigation

seeking the control of the enterprise. It would be inappro-

priate to permit the bank’s administrative charges for

handling the defendant’s account or its interest charges on

loans which the defendant secured to enable it to finance

the purchases to reduce the profit on the trades.

16 The “lowest-in-highest-out” rule used to calculate § 16(b) profit by

the matching of particular purchases and sales within the six-month period

can result in a theoretical profit. Professor Loss gives the following example:

In one case the defendant suffered a judgment of some $300,000 as a

result of the application of the rule to various six-month periods from

December 10, 1944, the date when he had first become a 10 percent

owner, to December 3, 1947, when he had ceased to be such a holder,

although his trading during those three years had resulted in an actual

loss to him of over $400,000. Judge Learned Hand observed that this

“crushing” liability “should certainly serve as a warning, and may

prove a deterrent.”

II L. Loss, Securities Regulation ch. 6C(f), 1063-64 (2d ed. 1961) (footnotes

omitted).

16a

The profits contemplated by the statute are profits

from the purchase and sale of the securities and not any

costs such as bank charges, office overhead or collateral

litigation which a party seeking control incurs. To permit

the deductions claimed would be to encourage the type of

transactions from which the statute squeezes all profit to

be made on the basis of third party financing of the

transactions which by itself would merely multiply the

problems sought to be reached by Section 16(b).

Id.

In the instant case, the district court disallowed what has

been characterized as “takeover expense deductions” and per-

mitted TI to deduct only those expenses truly incidental to the

transaction—brokerage commissions and transfer taxes.

Conclusion ~~

This Court finds no valid justification for deviation from the

express terms of section 16(b) or the case law interpreting it.

The judgment of the district court is affirmed.

AFFIRMED.

+

GARZA, Circuit Judge, dissenting:

I respectfully dissent. The majority opinion is highly per-

suasive and its interpretation of Kern County Land Co. v.

Occidental Petroleum Corp., 411 U.S. 582, 93 S.Ct. 1736, 36

L.Ed.2d 503 (1973) is certainly consistent with the “weight” of

the law as it exists.

However, due to the particular facts of this case I would

extend the rationale of Kern County, supra.

Section 16(b) provides that a statutory insider must surren-

der to the issuing corporation any profit realized from the

purchase and sale of an equity security of the issuer within a

period less than six months.

17a

The statute itself states that it was enacted “for the purpose

of preventing the unfair use of information which may have

been obtained by [a statutory insider] . . . by reason of his

relationship to the issuer.” The statute itself is a strict liability

statute designed to deter insiders from exploiting information

not generally available to others in order to secure quick

profits.

In Kern County, supra, the Supreme Court recognized that

the nature of certain “unorthodox” transactions were such that

a narrow exception to the otherwise strict liability rule was

permissible. The facts of this case, I believe, would bring it

within that narrow exception to the otherwise strict liability

rule.

Texas International (TI) correctly argues that there are many

similarities between the present case and that presented to the

Supreme Court in Kern County. The putative “insider” in both

cases was a party seeking to institute a “hostile” takeover of

the issuer. It is evident fron the record in this case that in both

cases the party seeking takeover had no “inside information”

upon which it could obtain short swing profits. In both cases

the statutory stockholder failed in its attempt to take over the

target company. The Supreme Court recognized in Kern

County that after the merger agreement was approved, Occi-

dental had no choice but to take action to protect its own

interest.

In this case TI moved to protect its own interest when it

agreed to sell its stock to the takeover company, Pan American

World Airways, Inc. (Pan Am), after it became apparent that

TI had lost the takeover battle. Unfortunately for TI, the sale

took place forty-eight days before the statutory period had

run.

Admittedly, the forced merger present in Kern County distin-

guishes that case from the present one. However, the facts of

this case present a scenario which favors extension of the

“unorthodox” exception.

Like Occidental, no one can argue that TI actually made use

of inside information to obtain any short swing profits. The

reason for the existence of § 16(b) is in no way promoted by its

18a

application to the present transaction. Furthermore, TI’s sale

of stock was to the parent corporation for the purpose of

protecting its own interests and cooperating in the merger

transaction which Pan Am was attempting to effectuate.

The record clearly evidences that at the time of the sale by TI

to Pan Am, no present or past shareholders of National

Airlines had in any way been monetarily damaged by TI’s

purchase and sale of stock. In fact, it can be argued that the

attempted takeover of National by TI helped to increase the

value of National Airlines’ stock. TI did not receive a higher

price for the stock than any other shareholder. ALL share-

holders of National Airlines received $50 per share.

Application of § 16(b) in this case serves only to permit Pan

Am to avoid that portion of its contract with TI in which it

agreed to pay $50 per share. The award in this case is nothing

more than a “windfall” to Pan Am as the successor of

National Airlines.

There is language in Kern County which, at first glance, as

held by the majority opinion, appears to foreclose TI’s present

argument. At one point in that opinion the court stated:

Although traditional cash-for-stock transactions that re-

sult in a purchase and sale or a sale and purchase within

the six-month statutory period are clearly within the

purview of § 16(b), the courts have wrestled with the

question of inclusion or exclusion of certain “unortho-

dox” transactions.

TI’s sale was clearly a “cash-for-stock” transaction; however,

the situation before us, like Kern County, involved a hostile

takeover which failed. The “hostile” takeover situation is

hardly the “traditional cash-for-stock sale” which § 16(b) was

designed to encompass. Rather, it is more of a “borderline” or

“unorthodox” transaction and the above language can ar-

guably be used to support such a finding.

The majority opinion cites the following language in Kern

County:

Occidental could, of course, have disposed of its shares of

Old Kern for cash before the merger was closed. Such an

19a

act would have been a § 16(b) sale and would have left

Occidental with a prima facie § 16(b) liability. It was not,

therefore, a realistic alternative for Occidental .

in holding that this language forecloses TI’s argument; how-

ever, it is unclear whether it would have made a difference to

the Supreme Court if the disposition of shares had been to the

takeover company or a third party.

I agree that if Occidental in Kern County or TI in this case

had sold its shares after the merger agreement to a third party,

§ 16(b) would have been clearly implicated. On the other hand,

such is not the case if the sale was to the takeover company

itself and the statutory insider, TI, received no more than any

other shareholder of the issuer. In the case before us, no

potential for abuse would have arisen or could arise and it is

unclear from the court’s statement quoted above, if it was

referring to a disposition of shares to a third party or to any

party including the takeover company. My view is that the

above language need not foreclose TI’s argument. TI did what

every other shareholder of National Airlines had to do and the

fact that it did it forty-eight days before the six-month period

expired should not work to the detriment of TI and as a

windfall to Pan Am who bought the shares for the price stated

in the merger agreement.

In summary then, I would hold that the “spirit” of Kern

County suggests that in an “unorthodox” transaction as the

one before us, where the policies of § 16(b) are in no way

implemented (and in fact, where such rule permits a party to

void an otherwise legal contract) liability against the statutory

“insider” should not be enforced.

Under the facts of the case before us, the hostile takeover

scenario is more closely analogous to the “unorthodox” trans-

action rather than the “traditional” cash-for-stock sale.

Under similar situations | would not make any distinction

between a cash-for-stock and a stock-for-stock sale.

Accordingly, | would hold that § 16(b) was not applicable to

Ti and I wouid reverse the court below.

Ib

Appendix B

IN THE UNITED STATES DISTRICT COURT

FOR THE SOUTHERN DISTRICT OF TEXAS

HOUSTON DIVISION

Civil Action No. H-79-1609

+

TEXAS INTERNATIONAL AIRLINES, INC.,

Vv.

NATIONAL AIRLINES, INC.

+

Alvin M. Owsley, Jr., Baker & Botts, 3000 One Sheil Plaza,

Houston, Texas 77002, attorney for plaintiff.

David T. Harvin, Vinson & Elkins, 2100 First City National

Bank Building, Houston, Texas 77002, attorney for defendant.

+

MEMORANDUM AND ORDER

Pending before the Court is defendant’s motion for sum-

mary judgment pursuant to Rule 56,' Fed. R. Civ. P. Plaintiff

1 Pursuant to Rule 56, Fed. R. Civ. P, summary judgment can only

be granted “if the pleadings, depositions, answers to interrogatories, and

admissions on file, together with the affidavits, if any, show that there is no

genuine issue as to any material fact and that the moving party is entitled to a

judgment as a matter of law.” Fed. R. Civ. P. 56(c). See Kenneth-Murray

Corp. v. Boone, 622 F.2d 887 (Sth Cir. 1980). Conversely, summary judgment

is inappropriate where there exists a genuine issue as to any material fact. See

Keiser v. Coliseum Properties, Inc., 614 F.2d 406, 410 (Sth Cir. 1980); Munoz

v. International Alliance of Theatrical Stage Employees and Moving Picture

2b

has filed a memorandum in opposition to the motion to which

defendant has replied. After careful consideration of defen-

dant’s motion and the memoranda filed by both parties, the

Court grants defendant’s motion for summary judgment in

part and denies it in part, but refrains from ruling on the

amount of damages to which defendant is entitled until such

time that a more definite determination of damages can be

made.

Introduction

There is no dispute as to the following essential facts. On

March 14, 1979, during an attempt by Texas International

Airlines, Inc., (hereinafter Texas Inie¢rnational) to gain control

of National Airlines (hereinafter National), Texas International

purchased 121,000 shares of the common stock of National in

open market brokerage transactions for the following prices:

11,000 shares at $40 per shrre, 10 [sic] shares at $40 1/8 per

share, 4,500 shares at $40 3/8 per share, and 95,500 shares at

$40 1/2 per share, for an aggregate price of $4,890,687.50

including brokerage commissions of $9,680.’ At the time of the

purchase, Texas International was a beneficial owner of more

than ten percent of National’s common stock.’

Machine Operators, 563 F.2d 205, 207 n.1 (Sth Cir. 1977). The party seeking

summary judgment has the burden of proving the absence of a genuine issue

of material fact. Adickes v. S. H. Kress and Co., 398 U.S. 144 (1970); United

States v. An Article of Food Consisting of 345/50-Pound Bags, 622 F.2d 768

(Sth Cir. 1980). In reviewing the pleadings, depositions, answers to interroga-

tories, admissions, and affidavits to determine whether a genuine issue of

material fact exists, a court must resolve all reasonable doubt in favor of the

party opposing the motion for summary judgment. United States v. An

Article of Food Consisting of 345/50-Pound Bags, supra.

2 At all relevant times, National’s common stock was a class of equity

securities listed on the New York and Pacific Stock Exchanges and registered

with the Securities and Exchange Commission pursuant to § 12(b) of the Act,

15 U.S.C. § 77 et seq. (1933).

3 At the time of the Texas International’s purchase of National

common stock on March 14, 1979, all shares of National common stock

3b

On June 29, 1979, Texas International received from Na-

tional a cash dividend of $15,125 with respect to the 121,000

shares of National common stock.

On July 28, 1979, Texas International and Pan American

World Airways, Inc. (hereinafter Pan Am) entered into an

agreement pursuant to which Pan Am agreed to purchase from

Texas International, 790,700 shares of National common stock

at $50 per share. Pan Am agreed further to pay Texas Interna-

tional the sum of $3,000,000 for an option to purchase the

remaining 1,309,300 shares owned by Texas International. In

November, 1979, Pan Am exercised its option and purchased

the remaining National common stock owned by Texas In-

ternational for $65,465,000.00.

On August 2, 1979, Texas International commenced the

instant action seeking declaratory relief pursuant to the De-

claratory Judgment Act, 28 U.S.C. § 2201 (1978) and § 2202

(1942). In its complaint, Texas International requests that the

Court declare “that [Texas International] is not liable to

National for profits realized on the purchase and sale of

National common stock during the six month period [ending]

July 30, 1979.” Complaint For Declaratory Judgment, Texas

International Airlines, Inc. v. National Airlines, Inc., No.

H-79-1609 (S.D. Tex. Aug. 2, 1979). Alternatively, Texas In-

ternational requests the Court to declare that if it is liable to

National for the profits realized on the purchase and sale of

the National stock during the six month period, then the Court

should deduct from the profit the expenses incurred by Texas

International in connection with the purchase, holding and sale

owned by Texas International were held by United States Trust Company of

New York as voting trustee under a voting trust agreement between Texas

International and the voting trustee. The voting trust was established in order

to comply with Section 408 of the Federal Aviation Act of 1958, 49 U.S.C.

§ 1378 (1978), which required that the voting trustee vote the shares of

National common stock held in trust proportionally in accordance with all

other votes cast, except as the Civil Aeronautics Board might otherwise

permit or direct. The voting trust, however, was not irrevocable and Texas

International retained the economic incidents of ownership and the power to

dispose of its stock.

4b

of the shares. National has filed a counterclaim requesting the

Court award it'the value of plaintiff's alleged section 16(b)

short swing profits. In addition to the difference between the

sales price and the purchase price of the 121,000 shares,

National seeks the cash dividends Texas International received

for such shares during the relevant six month period. Finally,

contending that a sale of the 2,100,000 shares of National

common stock owned by Texas International occurred on July

28, 1979, defendant seeks a pro rata portion of the option fee

of $3,000,000 found by the Court to be attributable to the

121,000 shares.

Liability

Section 16(b) was designed to discourage the use of inside

information by corporate insiders who trade in the stock of the

corporation. Kern County Land Co. v. Occidental Petroleum

Corp., 411 U.S. 582, 591-92 (1973). It was recognized, how-

ever, that proof that trading was based on inside information

and was purely for speculative, rather than investment pur-

poses, would be hard to come by. But it was realized also that

“since the speculative advantage to be gained from inside

information is usually short lived”, Provident Securities Co. v.

Foremost-McKesson, Inc., 423 U.S. 232 (1976), a short turn-

over in stock was far more likely to be a speculative adventure

to capitalize on inside information than a pair of widely spaced

transactions. Congress thus overcame this serious obstacle to

effective remediation by engaging in the conclusive presump-

tion that two trades by an insider within six months of each

other were speculative and based on inside information.’ As

the Supreme Court stated:

4 The legislative history of the section reveals that this is the proper

interpretation of the purpose and rationale of the six month rule in section

16(b). The original version of what was to become section 16(b) of the

Securities Exchange Act of 1934 provided, in pertinent part, as follows:

It shall be unlawful for any [insider] (1) to purchase any. . . security

with the intention or expectation of selling the same security within six

months; and any profit made by such person on any transaction in

Sb

In order to achieve its goals, Congress chose a relatively

arbitrary rule capable of easy administration. The objec-

tive standard of Section 16(b) imposes strict liability upon

substantially all transactions occurring within the statu-

tory time period [six months]; regardless of the intent of

the insider or the existence of actual speculation. This

approach maximized the ability of the rule to eradicate

speculative abuses by reducing difficulties in proof. Such

arbitrary and sweeping coverage was deemed necessary to

insure the optimum prophylactic effect.

Reliance Electric Co. v. Emerson Electric Co., 404 U.S. 418,

422 (1972), quoting Bershad v. McDonough, 428 F.2d 693, 696

(7th Cir. 1970), cert. denied, 400 U.S. 992 (1971).

In response to a series of cases requiring the application of

section 16(b) to transactions which were not classic purchases

and sales for cash, e.g., stock mergers, stock options, stock

conversions, the Supreme Court applied a more pragmatic and

subjective approach. The Court held that when a transaction is

“unorthodox” and not clearly within the reach of the statute,

an inquiry into whether the transaction presents an opportu-

.a.. . Security extending over a period of less than six months

shall inure to and be recoverable by the issuer, irrespective of any

intention or expectation on his part in entering into such transaction of

holding the security purchased for a period exceeding six months.

Hearings on S. 56 and §S. 97 Before the Senate Comm. on Banking and

Currency, 73d Cong., Ist Sess., Pt. 15, at 6430 (1934) (emphasis added).

Thomas Corcoran, a spokesman for the draftsmen and proponent of the bill,

explained to the Senate Committee on Banking and Currency the rationale

behind the section’s rule:

You hold the director, irrespective of any intention or expectation to

sell the security within six months after, because it will be absolutely

impossible to prove the existence of such intention or expectation, and

you have to have this crude rule of thumb, because you cannot

undertake the burden of having to prove that the director intended at

the time he bought, to get out on a short swing.

Hearings on S. 56 and S. 97 Before the Senate Comm. on Banking and

Currency, 73d Cong., Ist Sess., Pt. 15, at 6556-57. See, e.g., Kern County

Land Co. v. Occidental Petroleum Corp., supra, at $92; Bershad v. McDo-

nough, supra; Blau v. Lamb, supra; Smolowe v. Delendo Corp., 136 F.2d

231 (2d Cir. 1943), cert. denied, 320 U.S. 741 (1943).

6b

nity for speculative abuse should be made before section 16(b)

liability is imposed:

The statutory definitions of “purchase” and “sale” are

broad and, at least arguably, reach many transactions not

ordinarily deemed a sale or purchase. In deciding whether

borderline transactions are within the reach of the statute,

the court has come to inquire whether the transaction may

serve as a vehicle for the evil which Congress sought to

prevent . . . thereby endeavoring to implement congres-

sional objectives without extending the reach of the stat-

ute beyond its intended limits. . . . [Because of the

liability without fault nature of section 16(b)] the prevail-

ing view is to apply the statute only when its application

would serve its goals.°

Kern County Land Co. v. Occidental Petroleum Corp., supra,

at 593-95. This “subjective” or “pragmatic” approach was

designed to mitigate the harshness of the application of section

16(b) absolute liability to situations in which insider specula-

tion on non-public information was impossible.

Plaintiff contends that as its purchase and sale of 121,000

shares of National common stock occurred during a contest

for the control of a hostile corporation, the transaction was an

“unorthodox” transaction within the Supreme Court’s narrow

exception to section 16(b) liability. Plaintiff premises its con-

tention upon the following contested allegations:

In the days after Texas International’s announcement that

it owned 9.2% of National common stock, National

initiated several actions for the purpose of hindering and

5 Under section 3(a) (14) of the Act, 15 U.S.C. § 78c(a)(14)(1933), the

sales covered by section 16(b) are defined broadly to include “any contract to

sell or otherwise dispose of” any security. The construction of the terms

“sale”, as well as “purchase” is a matter of federal law, and not contract

law, Icherepnin vy. Knight, 389 U.S. 332, 337-338 (1967), and should be

construed in a manner which will effectuate section 16(b)’s prophylactic

purpose of preventing speculation. SEC v. National Securities, Inc., 393 U.S.

453, 467 (1969); Bershad v. McDonough, supra.

7b

delaying the efforts of Texas International in acquiring

control of National:

(A) Induced the Secretary of State of Florida to com-

mence a lawsuit (which was soon dismissed) against Texas

International;

(B) encouraged the Enforcement Division of the Securi-

ties and Exchange Commission to investigate Texas In-

ternational;

(C) asked the Civil Aeronautics Board (“CAB”) to refuse

to consider Texas International’s request for permission

to seek a merger with National and sought to persuade the

CAB to take enforcement action against Texas Interna-

tional;

(D) negotiated and signed an agreement, subject to CAB

and stockholder approval, to effect a defensive merger

with Pan Am.

Brief for Plaintiff at 3, 7exas International Airlines, Inc. v.

National Airlines, Inc., No. H-79-1609 (S.D. Tex. Dec. 22,

1980). Consistent with this asserted pattern of overt hostility,

plaintiff alleges further that National’s management refused to

have any contact with Texas International. Accordingly, plain-

tiff contends that insofar as the sale transaction of the 121,000

shares of National common stock was unorthodox with no

possibility of speculative abuse, Texas International is not

liable under section 16(b).

Plaintiff’s contention that the existence of a control contest

type of situation renders the transaction at issue here “un-

orthodox” within the meaning of Kern County Land Co. v.

Occidental Petroleum, supra, and, accordingly, warrants an

inquiry into whether Texas International had access to inside

information on July 28 when Texas International sold 790,700

shares of National Common stock is without merit. The issue

involved in Kern County Land Co. v. Occidental Petroleum,

Inc., supra, was whether a section 16(b) “sale” occurs “when

the target of the tender offer defends itself by merging into a

third company and the tender offeror then exchanges its stock

8b

for the stock of the surviving company and also grants an

option to purchase the latter stock that is not exercisable within

the statutory six-month period.” /d., at 584. In reviewing the

purposes of section 16(b), the Court stated: “[t]raditional

cash-for-stock transactions that result in a purchase and sale or

a sale and purchase within the six month statutory period are

clearly within the purview of § 16(b). . . .” /d. at 593. The

Supreme Court stated then that in interpreting the terms

“purchase” or “sale” in unorthodox or “borderline” trans-

actions, a “pragmatic approach” to section 16(b) was appro-

priate. /d. at 594 n. 26. The Court went on to define

“unorthodox” as encompassing “those transactions not or-

dinarily deemed a sale or purchase,” and in a footnote listed

those transactions to which the term had been applied: “stock

conversions, exchanges pursuant to mergers and other cor-

porate reorganizations, stock classifications, and dealings in

options, rights, and warrants.” /d. at 593 n.24. Nowhere in the

Court’s decision, however, does the Court indicate that a

“control contest type of situation” would render a stock

transaction “unorthodox”. On the contrary, the court stated

that a cash-for-stock transaction is “orthodox” and results in

section 16(b) liability.® Jd. at 593.

Furthermore, as correctly pointed out by defendant, there

are no cases which have exempted cash-for-stock transactions

from the automatic application of section 16(b). Thus, the

Court is left unpersuaded that deviation from the express terms

of the statute or case law is warranted in the present cause.

Accordingly, the Court concludes that as the purchase of

121,000 shares of National common stock on March 14, 1979

and the subsequent sale of 790,700 shares on July 28, 1979

occurred within the statutory six month period, Texas Interna-

6 In discussing the limited exception to automatic liability under

section 16(b), the Supreme Court in Kern County Land Co. v. Occidental

Petroleum, Inc., supra, stated that had Occidental disposed of its shares of

Old Kern for cash before the merger was closed, “|sjuch an act would have

left Occidental with a prima facie § 16(b) liability.” /d., at 600.

9b

tional is subject to automatic section 16(b) liability and is liable

to National for the “short swing profits” made on the sale of

the 121,000 shares of National common stock.’

Contending that a “sale” of the 2,100,000 shares of National

common stock owned by Texas International occurred on July

28, 1979, defendant asserts that it is entitled to a pro rata

portion of the three million dollars that Pan Am paid Texas

International for an option to purchase 1,309,300 shares of

National common stock at a later date. As indicated earlier,

Texas International and Pan Am entered into an agreement

whereby Texas International agreed to sell to Pan Am 790,700

shares of National common stock at $50 per share. The

agreement between the parties further granted Pan Am an

option to purchase an additional 1,309,300 shares at $50 per

share. Although Pan Am was not obligated to purchase the

shares if certain specified conditions were not satisfied, Texas

International was bound to transfer the shares upon exercise of

7 In an effort to avoid section 16(b) liability, Texas International

advances several novel arguments based on principles of equity to support its

contention that National is barred from recovering “short swing profits”

under section 16(b). As the arguments of counsel are contained adequately in

their briefs, the Court will refrain from repeating those arguments in this

Order. The Court, however, has carefully considered these arguments in light

of the relevant case law, and concludes that plaintiff's arguments are without

merit, Those cases cited in support of the contentions advanced by plaintiff

are inapposite to the present case. Further, there are many cases which have

held that equitable principles as defenses are insufficient as a matter of law in

section 16(b) actions. Roth v. Fund of Funds, Ltd., 405 F.2d 421, 422-23 (2d

Cir, 1968); Magida v. Continental Can Co., Inc., 231 F.2d 843, 846 (2d Cir.

1956), cert. denied, 351 U.S. 972 (1956); Tyco Laboratories, Inc. v. Cutler-

Hammer, Inc., 490 F. Supp. | (S.D.N.Y. 1980); Cutler-Hammer, Inc. v. Leeds

Northrup Co., 469 F. Supp. 1021, 1023 (E.D. Wis. 1979); Schur v. Salzman,

365 F. Supp. 725, 733 (S.D.N.Y. 1973); Allied Artists Pictures Corp. v.

Giroux, 312 F. Supp. 450, 451 (S.D.N.Y. 1970); Newmark v. RKO General,

Inc., 294 F. Supp. 358, 367 (S.D.N.Y. 1968), aff'd, 425 F. Supp. 348 (2d Cir.

1970), cert. denied, 400 U.S. 854 (1970); Wolk v. Ziotoff, 285 F. Supp. 650,

655-56 (S.D.N.Y. 1968); Marquette Cement Manufacturing Co. v. Andreas,

239 F. Supp. 962, 966 (S.D.N.Y. 1965); Jefferson Lake Sulphur Co. v. Walet,

104 F. Supp. 20, 23-24 (E.D. La. 1952), aff'd, 202 F.2d 433 (Sth Cir. 1933),

cert. denied, 346 U.S. 820 (1953).

10b

the option and tender of the specified purchase price. As

compensation for assuming the risk that Pan Am might never

exercise the option, Texas International received three million

dollars. It is a pro rata portion of this three million dollars that

defendant now seeks.

In support of its contention that the option granted to Pan

Am on July 28, 1979 was not a sale, plaintiff asserts that the

case of Kern County Land Co. v. Occidental Petroleum,

supra, is again controlling. As stated previously, the Supreme

Court in Kern County was confronted with the task of deter-

mining “whether a ‘sale’ within the ambit of the statute took

place either when Occidental became irrevocably bound to

exchange its shares of Old Kern for shares of Tenneco pursuant

to the terms of the merger agreement between Old Kern and

Tenneco, or when Occidental gave an option to Tenneco to

purchase from Occidental the Tenneco shares so acquired.” /d.

at 595. Recognizing that the courts have struggled with the

question of whether “unorthodox” transactions such as op-

tions to purchase are within the purview of section 16(b), the

Court stated that “[t]he statutory definitions of ‘purchase’ and

‘sale’ are broad and, at least arguably, reach many transactions

not ordinarily deemed a sale or purchase.” /d. at 594. In

determining whether these borderline transactions are within

the reach of section 16(b), an inquiry must be made as to

whether the transaction may serve as a vehicle for the evil

which Congress sought to prevent—short swing speculation by

insiders with inside information. /d. This inquiry, however,

must be reserved for a later date, since the facts upon which

plaintiff relies in contending that the execution of the option to

purchase was not one in which the possibility for speculative

abuse existed are material and contested by the parties. Ac-

cordingly, defendant’s request that it be awarded as “short

swing profits” a pro rata portion of the three million dollars

paid by Pan Am for the option-to-purchase must be denied at

the present time.

1lb

Dividends

Courts often have recognized the recovery of dividends as

part of the “short swing profits” recoverable from a corporate

insider, Blau v. Lamb, 363 F.2d 507, 528 (2d Cir. 1966), cert.

denied, 384 U.S. 1002 (1967); Alder v. Klawans, 267 F.2d 840,

848 (2d Cir. 1959); Allis-Chalmers Mfg. Co. v. Gulf & Western

Industries, Inc., 372 *. Supp. 570 (N.D. Ill. 1974), modified on

other grounds, 527 F.2d 335 (7th Cir. 1975), cert. denied, 423

U.S. 1078 (1976); Marquette Cement v. Andreas, 239 F. Supp.

962, 968 (S.D.N.Y. 1965); however, such dividends are only

recoverable as profits under section 16(b) “when they are

inextricably connected to the decision to purchase and sell the

shares in question that to allow the insider to retain such

dividends would frustrate the purpose of Section 16(b).”

Cutler-Hammer, Inc. v. Leeds & Northrup Co., 469 F. Supp.

1021, 1024 (E.D. Wis. 1979), citing, Blau v. Lamb, supra at

528; Adler v. Klawans, supra at 849. As stated in Allis

Chalmers Mfg. Co. v. Gulf Western Industries, Inc., supra:

Experts in the field look upon anticipated dividends as

part of the package for which the consideration is paid

when the stock is purchased. In addition, dividends are

not an element of profit in the sense that they do not

result from the purchase and sale of stock, but rather

come from the holding of stock. See 45 Va.L.Rev. 1057,

1069 (1959). In the language of the statute dividends

logically are not profit. The statute reaches ‘profit real-

ized from the purchase and sale’. Dividends thus are

treated by the statute like an operational earning or

income. This statutory interpretation reads upon the or-

dinary thinking about dividends in the market place.

Except where they are a matter of special concern, the

market price generally is presumed to cover dividends

reasonably anticipated. At least to the extent that they

regularly are paid, they are considered absorbed in the

price paid for the stock.

Id. at 588-89 (emphasis in original).

12b

In addition to the difference between the purchase and sale

price of the 121,000 shares of National common stock, Na-

tional seeks to recover as “short swing profits” the dividends

received by Texas International between March 14, 1979 and

July 28, 1979. It is uncontested by the parties that on June 29,

1979 National received dividends in the amount of $15,125 in

regard to the 121,000 shares.

In the present case, National has neither claimed that Texas

International engaged in short-term speculation for the pur-

pose of capturing dividends nor demonstrated that the price

per share in the July 28 transaction did not reflect reasonably

anticipated profits. Nor do the circumstances surrounding the

payment of the dividend or sale of National common stock on

July 28 support either of the above. Accordingly, as the Court

concludes that the dividends were nothing more than a distri-

bution of earnings, Nationa!’s request that the June 29 divi-

dends be awarded as “short swing profits” under section 16(b)

is denied.

Expenses Incident to the Purchase,

Holding and Sale of Securities

After a thorough examination of the case law addressing the

issue, the Court concludes that the expenses of a corporate

insider in performing a purchase or sale may be deducted from

“short swing profits” in section 16(b) cases. Blau v. Mission

Corp., 212 F.2d 77, 81 (2d Cir. 1954), cert. denied, 347 U.S.

1016 (1954); Sprague Electric Co. v. Mostek Corp., 488 F.

Supp. 842 (N.D. Tex. 1980); Allis-Chalmers Manufacturing

Company, supra at 588; Arkansas Louisiana Gas Co. v. W. R.

Stephens Investment Co., 141 F. Supp. 841, 845, 847 (W.D.

Ark. 1956). Accordingly, the Court concludes that Texas In-

ternational may deduct from the “short swing profits” for

which it is liable, the brokerage commissions, transfer taxes

and other incidental expenses incurred in the purchase and sale

of the 121,000 shares of National common stock. See Sprague

Electric Co. v. Mostek Corp., supra at 846, see also 2 Loss,

Securities Regulation, 1064 (1961).

13b

Prejudgment Interest

It is well established in cases involving violations of section

16(b), that an award of prejudgment interest lies within the

discretion of the trial court and such interest is not awarded as

a matter of course. Blau v. Lehman, 368 U.S. 403 (1962); Gold

v. Sloan, 486 F.2d 340 (4th Cir. 1973), cert. denied, 419 U.S.

873 (1974); Blau v. Lamb, supra at 507; Western Auto Supply

Co. v. Gamble-Skogmo, Inc., 348 F.2d 736 (8th Cir. 1965),

cert. denied, 382 U.S. 987 (1966); Oliff v. Exchange Intern.

Corp., 449 F. Supp. 1277 (N.D. Ill. 1978); Morales v. Gould

Investors Trust, 445 F. Supp. 1144 (N.Y. 1977), aff'd, 478 F.2d

1369 (2d Cir. 1978). “ ‘[I]nterest is not recovered according to a

rigid theory of compensation for money withheld, but is given

in response to considerations of fairness. It is denied when its

exaction would be inequitable.’” Blau v. Lehman, supra at

414, citing, Board of County Commissioners of the County of

Jackson vy. United States, 308 U.S. 343, 352 (1939).

In following the aforementioned rule, several courts have

declined to award interest upon a showing of good faith on the

part of the section 16(b) “insider”. See, e.g., Gold v. Sloan,

supra; Sprague Electric Co. v. Mostek Corp., supra; Lewis v.

Realty Equities Corporation of New York, 396 F. Supp. 1026

(S.D.N.Y. 1975); Volk v. Zlotoff, 318 F. Supp. 864, 867

(S.D.N.Y. 1970). Other courts have denied interest where there

has been an unexcused inordinate delay between the section

16(b) violation and the request for relief. Lewis v. Realty

Equities Corporation of New York, supra; Blau v. Lamb,

supra. Yet there are still other cases in which courts have

disregarded both factors and awarded interest utilizing the

policy behind section 16(b), i.e., “short swing profits” should

be awarded regardless of the innocence of the corporate

insider. See Champion Home Builders Co. v. Jeffress, supra;

Schur v. Salzman, 365 F. Supp. 725 (S.D.N.Y. 1973).

The Court has reviewed fully each of the factors or ra-

tionales utilized by courts in awarding interest. The Court

concludes, however, that the preferable approach in the instant

cause is to employ common sense and pay due respect to

14h

fairness, equity, and the public policy behind the promulgation

of section 16(b). After careful consideration of all the circum-

stances, the Court concludes that to deny the defendant pre-

judgment interest in the present cause would be inequitable.

Accordingly, the Court awards prejudgment interest at the rate

normally awarded by the courts in the State of Texas.* See

generally Tex. Rev. Civ. Stat. Ann. art. 5069-1.03 (Vernon

1971).

Conclusion

In summary, the Court concludes that as the purchase and

sale of 121,000 shares of National common stock occurred

within the statutory six month period, Texas International is

subject to automatic section 16(b) liability and is liable to

National for the “short swing profits” made on the purchase

and sale of the 121,000 shares of National common stock,

together with prejudgment interest at the rate of 6%. In

determining the amount of “short swing profits” for which

Texas International is liable, Texas International is entitled to

deduct the amount of expenses incurred in the purchase and

sale of 121,000 shares. The Court concludes further that

National may not recover as “short swing profits”, the divi-

dends received by Texas International on June 29. Finally, the

Court concludes that as a genuine issue of material fact exists

as to whether the option to purchase agreement presented an

opportunity for speculative abuse, the Court must deny Na-

tional’s request for a pro rata portion of the three million

dollars attributable to the 121,000 shares of National common

stock. Accordingly, the Court grants defendant’s motion for

summary judgment in part and denies it in part.

Before the Court can determine the amount of “short swing

profits” to which National is entitled, the Court must ascertain

8 In awarding the defendant prejudgment interest, the Court is unper-

suaded that the rate of prejudgment interest should be the average prevailing

rate for short term commercial paper during the period subsequent to July

28, 1979. The usual rate of prejudgment interest of 6 per cent is fair and

reasonable, and the Court sees no reason to award a higher rate.

15b

the amount of incidental expenses incurred by Texas Interna-

tional in the purchase and sale of the 121,000 shares of

National common stock. As that amount has not been docu-

mented sufficiently in the memorandum filed by the plaintiff,

the plaintiff is hereby ordered to submit within twenty (20)

days an affidavit containing a breakdown of those expenses.

National is given an additional ten (10) days to respond to the

affidavit submitted by plaintiff.

DONE at Houston, Texas, on this the 11 day of May, 1981.

/s/CARL O. BUE, JR.

Carl O. Bue, Jr.

United States District Judge

Ic

Appendix C

IN THE UNITED STATES DISTRICT COURT

FOR THE SOUTHERN DISTRICT OF TEXAS

HOUSTON DIVISION

Civil Action No. H-79-1609

aoe

TEXAS INTERNATIONAL AIRLINES, INC.

—Y .—

NATIONAL AIRLINES, INC.

++—

ORDER

On May 11, 1981 the Court entered an Order granting, in

part, defendant’s motion for summary judgment as the Court

had concluded that plaintiff, a corporate insider, had pur-

chased and sold !21,000 shares of National Airlines (herein-

after National) common stock within a six month period in

violation of § 16(b). The Court deferred its determination of

the amount of “short swing profits” for which plaintiff was

liable, however, until plaintiff submitted an affidavit contain-

ing a breakdown of the incidental expenses incurred by plain-

tiff in the purchase and sale of the 121,000 shares of National

common stock. Pursuant to the Court’s Order, the plaintiff has

submitted such an affidavit setting forth those items of ex-

penses which it claims.

In addition to the amount of brokerage commissions which

were incurred in the purchase and sale of 121,000 shares of

National common stock, plaintiff seeks to offset the amount

of short swing profits for it is liable by the following incidental

2c

expenses: (1) the amount of $40,723.00 which constitutes the

interest plaintiff paid on the money borrowed to purchase the

121,000 shares (such loan hereinafter referred to as margin

loan); (2) a commitment fee of $1,771.00 paid to Manufac-

turers Hanover Trust Company, the entity from which plaintiff

obtained a portion of the margin loan; (3) the sum of

$10,822.00 which constitutes the fees paid to the banks’ attor-

neys in connection with the margin loan; (4) $238,698 in

expenses incurred in the issuance to the public of thiry-five

million dollars worth of Guaranteed Floating Rate Notes, one

of the purposes of the proceeds from the notes included

repayment of the margin loan; (5) voting trust administration

fees of $374.00 which were incurred with respect to the Na-

tional shares owned by plaintiff; (6) investment banking fees

paid by plaintiff to Smith Barney, Harris Upham & Company

totalling $43,214.00; (7) the sum of $3,666.00, such sum

constituting the cost of public relations, management and

transportation consultants, consultation and testimony relating

to the Civil Aeronautic Board proceeding to acquire National,

and accounting; (8) legal fees of $91,223.00; (9) commitment

fees totalling $18,343.00; (10) miscellaneous disbursements of

$1,926.00 which include the cost of printing and supplies, the

unidentified expenses of certain individuals employed by plain-

tiff, computer services cost, transcripts costs, news clipping

costs, newswire services cost, courier services, the cost of a

“Texas Delegation breakfast”; and, (11) the sum of $23,000.00

which constitutes estimated management and clerical time

spent in support of the margin loan, floating rate note offering

and the effort to acquire National from March 14 through July

30, 1979.

Not surprisingly, defendant is opposed to the amount of

incidental expenses claimed by plaintiff. Although defendant

concedes that plaintiff is entitled to offset its section 16(b)

liability by the amount of brokerage commissions and transfer

taxes incurred in the purchase and sale of 121,000 shares of

National common stock, $9,680.00 and $437.50 respectively,

defendant asserts that permitting plaintiff to include the addi-

tional amounts sought as incidental expenses is unsupported by

3c

the case law and would circumvent the purpose of section

16(b). This court is inclined to agree.

After careful consideration of the briefs filed by the parties

in light of the relevant law, the Court concludes that plaintiff is

entitled to deduct from the “short swing profits” for which it is

liable the sum of $10,117.50, such amount consisting of the

brokerage commissions and transfer taxes incurred by plaintiff

in the purchase and sale of 121,000 shares of National common

stock. To permit plaintiff to deduct any further expenses would

circumvent the purpose of section 16(b) “ ‘of preventing the

unfair use of information which may have been obtained by [a

statutory insider] . . . by reason of this relationship to the

issuer.’ ” Aern County Land Co. v. Occidental Petroleum

Corp., 411 U.S. 582, 591 (1973), citing from the introductory

clause of section 16(b), 15 U.S.C. 78 p (b) (1934). It has been

stated that this purpose is best achieved by squeezing “every

possible profit out of such transactions.” Blau v. Lehman, 286

F.2d 786, 791 (2d Cir. 1960), aff’d, 368 U.S. 403 (1962).

Accordingly, the Court concludes that plaintiff is entitled to

deduct only the sum of $10,117.50 from the short swing profits

for which it is liable. In accord see Lane Bryant, Inc. v.

Hatleigh Corp., No. 81 Civ. 941 (S.D.N.Y. Jul. 10, 1981),

where the district court declined to permit a deduction of

incidental expenses similar to those claimed by plaintiff in the

case sub judice:

Defendant seeks to reduce the amount of profits sought

to be recouped from the $649,687.50 alleged by the

plaintiff, to $486,567.53 on the grounds that there should

be deducted from the profits administrative overhead

expenses of $9,200 and interest on the loans secured with

which to make the purchases of the stock amounting to

$135,919.97.

The defendant also suggests further deductions for

office overhead in the sum of $5,500 for the six-month

period involved and its lawyers’ fees and costs of litiga-

tion referred to above, totalling $383,000.

None of these attempted deductions is appropriate in

calculating the short-swing profits. The profits on the

4c

purchases and sales are not to be equated with the costs to

the defendant of doing business, nor conducting litigation

seeking the control of the enterprise. It would be inappro-

priate to permit the bank’s administrative charges for

handling the defendant’s account or its interest charges on

loans which the defendant secured to enable it to finance

the purchases to reduce the profit on the trades.

The profits contemplated by the statute are profits

from the purchase and sale of the securities and not any

costs such as bank charges, office overhead or collateral

litigation which a party seeking control incurs. To permit

the deductions claimed would be to encourage the type of

transactions from which the statute squeezes all profit to

be made on the basis of third party financing of the

transactions which by itself would merely multiply the

problems sought to be reached by Section 16(b).

Id. at 17-19.

Although the Court has determined now the amount of

incidental expenses which plaintiff may deduct from the “short

swing” profits tor which it is liable, a review of the briefs on

file has revealed an apparent conflict between the parties with

regards to the amount of money plaintiff paid for the 121,000

shares of National Common Stock, and the amount plaintiff

received when those same shares were subsequently sold. Ac-

cordingly, in order to assist the Court in determining the “short

swing profits” for which plaintiff is liable, the Court directs

the plaintiff to submit within ten (10) days an affidavit setting

forth the amount of money plaintiff paid for the 121,000

shares and the amount plaintiff received when such shares were

subsequently sold. National is given an additional five (5) days

to respond to the affidavit submitted by plaintiff.

DONE at Houston, Texas, on this the 31 day of March, 1982.

/s/ CARL O. BUE, JR.

Carl O. Bue, Jr.

United States District Judge

ld

Appendix D

IN THE UNITED STATES DISTRICT COURT

FOR THE SOUTHERN DISTRICT OF TEXAS

HOUSTON DIVISION

Civil Action No. H-79-1609

aoe

TEXAS INTERNATIONAL AIRLINES, INC.,

Plaintiff,

—_Vi—

NATIONAL AIRLINES, INC.,

Defendant.

+

FINAL JUDGMENT

This cause came on to be heard on the motion for summary

judgment filed herein by defendant and counter-plaintiff Na-

tional Airlines, Inc. (herinafter called “National”). In its May

11, 1981 Memorandum and Order, which is incorporated by

reference herein, the Court granted in part and denied in part

National’s motion. In its March 31, 1982, and April 23, 1982

Orders, which are also incorporated by reference herein, the

Court ruled on the only remaining issue raised by National’s

motion, dismissed at National’s request its remaining claim on

which summary judgment had been denied, and directed the

entry of a final judgment in accordance with these three

Orders.

Therefore, in accordance with the Court’s May 11, 1981,

March 31, 1982, and April 23, 1982 Orders herein, to which

reference is here made, it is now ORDERED, ADJUDGED, and

DECREED that:

2d

1. Plaintiff Texas International Airlines, Inc. (hereinafter

called “TIA”), take nothing by its suit and that its Complaint

for Declaratory Judgment be, and the same is hereby, dis-

missed with prejudice;

2. That, on its Counterclaim against TIA, National do have

and recover of and from TIA the sum of $1,149,195.00,

together with interest thereon at the rate of 6 percent per

annum from July 28, 1979, to July 10, 1981; at the rate of 12

percent per annum from July 10, 1981, to the date of this Final

Judgment; and at the rate of 9 percent per annum from the

date of this Final Judgment until paid;

3. That National do have and recover of and from TIA its

costs of court; and

4. That all other relief prayed for by either TIA or National

that is not expressly granted herein, be, and the same is hereby,

denied.

DONE at Houston, Texas, this 10th day of May, 1982.

/s/ CARL O. BUE, JR.

Carl O. Bue, Jr.

United States District Judge