Opposition Brief — Harnett v. Billman

Supreme Court, U.S.

FILED

No. 86-1221 / vA 2 1987

ESO REC, RETO PED AIRS EEE ROMS

JOSEPH F. SPANIOL, JR.

CLERK

IN THE ee —

Supreme Court of the United States

OCTOBER TERM, 1986

WILLIAM J. HARNETT,

Petitioner,

V.

Tom J. BILLMAN,

CLAYTON C. MoCUISTION,

Respondents.

On Petition for a Writ of Certiorari to the

United States Court of Appeals

for the Fourth Circuit

BRIEF FOR TOM J. BILLMAN

AND CLAYTON C. McCUISTION

IN OPPOSITION

ROBERT E.. HEBDA *

JOHN R. FORNACIARI

ROBERT M. DISCH

Steele Simmons’'& Fornaciari

2020 K Street, N.W.

Suite 850

Washington, D.C. 20006

Attorneys for Respondents

* Attorney of Record

MGR RETRO OEE

WILSON - Epes PRINTING Co., INC. - 789-0096 - WASHINGTON, D.C. 20001

é

*

QUESTIONS PRESENTED

1. Whether the federal law of res judicata should be

applied to determine the scope and effect of a prior fed-

eral court judgment in a case where the exclusive juris-

diction of the district court was invoked to adjudicate

alleged violations of the federal securities laws and the

Racketeer Influenced and Corrupt Organizations Act and

where the district court’s pendent jurisdiction was also

invoked over state tort claims, all arising out of the

same common nucleus of operative facts.

2. Whether this Court should accept certiorari in a

case where the Fourth Circuit recognized a “fraudulent

concealment” exception to the doctrine of res judicata

but determined, after reviewing the record, that such

exception did not apply to this case.

(i)

TABLE OF CONTENTS

Page

QUESTIONS PRESENTED... : i

TABLE OF CONTENTS a . iii

TABLE OF AUTHORITIES... iv

STATEMENT OF THE CASE sabe s 1

ial ca cs caritininaeqncnchinsinsonscnentenatsiasniaoneenest 2

jhe) baal i et | 5

EEE ETERS ES Pa ee ET 6

I. The Petition Should Be Denied Because The

Scope And Effect Of A Federal Court Judgment

Are Determined By Federal Law .................. 6

II. The Petition Should Be Denied Because The

Fourth Circuit Recognized The Existence Of A

Fraudulent Concealment Exception But Based

On The Record Facts, Determined That It Was

Inapplicable In This Case

ide lic heriastinsoneiciensiconaniocnamemnanpaneotnminevatmncoos 11

(iii)

iv

TABLE OF AUTHORITIES

CASES Page

AEROJET-General Corporation v. Askew, 511

F.2d 710 (5th Cir.), cert. denied, 423 U.S. 908

I ceca cn a aiianeieabniensien 9

Allstar Towing, Inc. v. City of Alexandria, 231

VA. 421, $344 S.E.2d 908 (1986) .......:..................... 10

Answering Services, Inc. v. Egan, 728 F.2d 1500

ERs II UIE sos ahireccintncsccnnbchitesedbichpebeemenicnnaneininesoen 9

Bate v. Devers, 214 VA. 667, 202 S.E.2d 917

IIIT 5-65 Gicaawhcchosdanane Auisanamndestinensedansmdtnabouaniniamenans 10

Cemer v. Marathon Oil Co., 583 F.2d 830 (6th Cir.

IE Selhsct ici inantc idiot teiedinadchighinainesSabainicsimighiensiaaaiiieent 9

Federated Department Stores, Inc. v. Moitie, 452

RR, I IIE lai. sols cscs nesoeninaticgemeinnieaiebinneamedienoeene 7

Gasbara v. Park-Ohio Industries, Inc., 655 F.2d

SR MS II oo etin acon cnc paeoanmansabiontens 9-10

Harnett v. Billman, et al., No. 83-1029-A (E.D.

PIPL: MUMIIIIEEE - dctetunsabdenaeesnslicieceeiieoniertickadeiediicheniisihinineetbughitiadenitian passim

Hayles v. Randall Motor Company, 455 F.2d 169

I eal eae 9

Hunt v. Liberty Lobby, Inc., 707 F.2d 1493 (D.C.

2 Sak, SSRN A CRS On hs a a 9

Kern v. Hettinger, 303 F.2d 333 (2d Cir. 1962)... 9

Makariw v. Rinard, 336 F.2d 333 (3d Cir. 1964).. 9

Precision Air Parts, Inc. v. Avco Corp., 736 F.2d

1499 (11th Cir.), cert. denied, 469 U.S. 1191

SU le senses 9

Semler v. Psychiatric Institute of Washington,

D.C., 676 F.2a 922 (D.C. Cir. 1978) ..................... 9

Sileox v. United Trucking Service, Inc., 687 F.2d

Se cen eenmuiebienanaan i)

Southwest Airlines Co. v. Texas Intern. Airlines,

— Ee me BR! hae | y 5 One eee eee ~

Sunshine Anthracite Coal Co. v. Adkins, 310 U.S.

SI ea ee et ne 7

United States v. California & O. Land Co., 192

U.S. 355 (1903)

Vv

TABLE OF AUTHORITIES—Continued

STATUTES AND RULES Page

Judicial Code

IS GS ADR RN Rae net ey 2

LDC mT WATT 2

Racketeer Influenced and Corrupt Organizations

Act

Fe ee eR enetttgiinassinedettcacuestnndadadiocni 2

ie I I oe aes ea 2

Securities Act of 1933

ee I oii ee ee) 2

15 U.S.C. § 77(g) ................ Pose ce SAY NEED ANSE 2

Securities and Exchange Act of 1934

De GAC PET sihecsdchieeds oo lee ee ee 2

Rule 10b-5, 17 C.F.R. § 240.10b-5

OTHER AUTHORITIES

1B Moore’s Federal Practice, § 0.406[1] (1984)... 8

Restatement (Second) of Judgments (1982)

Section 24 PRIN NRE N Wen NG APRN NS IO 10

Section 61 Tent. Draft No. 1 (1973)... 10

PROTEC RR ee rem FREY EMSIRS EIT 9

IN THE

Supreme Court of the United States

OCTOBER TERM, 1986

No. 86-1221

WILLIAM J. HARNETT,

Petitioner,

Vv.

Tom J. BILLMAN,

CLAYTON C. MCCUISTION,

Respondents.

On Petition for a Writ of Certiorari to the

United States Court of Appeals

for the Fourth Circuit

BRIEF FOR TOM J. BILLMAN

AND CLAYTON C. McCUISTION

IN OPPOSITION

STATEMENT OF THE CASE

In his Petition, plaintiff William J. Harnett (“Har-

nett”) makes numerous factual misstatements and omits

many relevant facts. Plaintiff omits the fact that in

Harnett, I,) he invoked the exclusive jurisdiction of the

federal court to seek damages for alleged violations of

1“Harnett I” refers to Harnett v. Billman, et al., No. 83-1029-A

(E.D. Va. 1983), the first case filed by plaintiff in October 1983.

2

the federal securities laws’ anti-fraud provisions and

RICO2 (Pet. App. A4-A5.)* Similarly, plaintiff omits

the fact that in Harnett II, he again invoked the exclu-

sive jurisdiction of the federal court to adjudicate his

claim of damages for alleged violations of the federal

securities laws’ anti-fraud provisions.t The federal and

state law claims in both cases were based on the same

common nucleus of operative facts. (Pet. App. at A3-

A5, All.) Plaintiff could not have maintained either

Harnett I or Harnett II in the state courts.

THE FACTS

By January 1983, respondents Tom J. Billman and

Clayton C. McCuistion owned more than 90% of the

stock of Equity Programs Investment Corporation

(“EPIC”) and also owned a majority of the stock of

Community Savings & Loan (“CSL”). (Pet. App. at

A3.) Petitioner William J. Harnett owned 1,250 shares

of EPIC stock. (Pet. App. at A3.)

EPIC was the parent corporation of EPIC Mortgage,

Inc. (“EMI”), a company engaged principally in mort-

2In Harnett I, plaintiff sought damages for alleged violations of

Section 10b of the Securities and Exchange Act of 1934 (15 U.S.C.

§ 78(j)), of Rule 10b-5 (17 C.F.R. § 240.10b-5) and of the Racketeer

Influenced and Corrupt Organizations Act (18 U.S.C. § 1964;

“RICO”). Exclusive federal jurisdiction was invoked under Section

27 of the Securities and Exchange Act of 1934, 15 U.S.C. § 78aa and

under 18 U.S.C. § 1964.

8 Citation to the Appendix to the Petition are referenced as

“Pet. App.”

4In Harnett II, plaintiff sought damages for alleged violations of

Section 10b of the Securities and Exchange Act of 1934 and Rule

10b-5 and Sections 12(2) and 17(a), Securities Act of 1933 (15

U.S.C. §§77(b) and 77(g) (1982)). Exclusive jurisdiction was

invoked under Section 27 of the Securities and Exchange Act of

1934, 15 U.S.C. § 78aa and Sections 1331 and 1337 of the Judicial

Code, 28 U.S.C. §§ 1331, 1337.

3

gage origination and mortgage servicing. (Pet. App. at

A3-A4.) On March 14, 1983, EPIC and its wholly-owned

subsidiary, EMI, were merged into a wholly-owned serv-

ice corporation of CSL. (Pet. App. at A4.)

Prior to the CSL/EPIC merger, the then existing mort-

gage servicing portfolio of EMI was spun off to a new

company, EPIC Mortgage Servicing, Inc. (“EMSI’’).

(Pet. App. at A3-A4.) Harnett received 1250 shares of

EMSI stock as a result of his ownership of EPIC stock.

(Pet. App. at A4.)

EMI and EMSI entered into a subservicing agree-

ment, dated March 1, 1988, under which EMI performed

for a fee the servicing work for the mortgages in

EMSI’s portfolio. (Pet. App. at A4.) After the EPIC

CSL merger, EMI also became the servicer of new mort-

gages originated by the new EPIC/CSL entity. (Pet.

App. at A4.) EMSI did not receive any of the new mort-

gage servicing business generated by the EPIC/CSL

group but retained only the servicing rights in the port-

folio originally spun off to it from EMI. (Pet. App.

at A5.)

In October 1983, plaintiff initiated Harnett I in the

United States District Court for the Eastern District of

Virginia. There, plaintiff’s federal and state claims were

both based on allegations that Billman and McCuistion

made fraudulent misrepresentations or omissions to Har-

nett in certain communications in late February and

early March 1983 relating to the EPIC/CSL merger and

the EMSI spin-off. (Pet. App. at A5.) Based on these

allegations, plaintiff sought damages for alleged viola-

tions of the federal securities laws and RICO and for

common law fraud and breach of fiduciary duty with

respect to EMSI. (Pet. App. at A4-A5.)

Harnett sought and received extensive discovery

throughout the Harnett J litigation of the business rec-

4

ords of EMI and EMSI as well as other companies re-

lated to EPIC and CSL. (Pet. App. at A5, A9.) In this

discovery, Harnett received information enabling him to

conclude that EMI was servicing mortgages and that

EMSI’s servicing portfolio had not expanded beyond that

which it held at the time of its spin-off from EMI in

early 1983. (Id.) Harnett also obtained a copy of the

EPIC/CSL consolidated annual report, dated March 31,

1983, which disclosed the spin-off of EMSI, stated that

EMSI received in the spin-off the “existing mortgage

servicing operations of EPIC,” and indicated that EPIC

planned to enter into sub-servicing agreements with

EMSI. (Pet. App. at AQ.)

In February 1984, after all discovery had been com-

pleted, Harnett I was dismissed with prejudice. (Pet.

App. at A5.) In February 1985, Harnett instituted the

present action, referred to as Harnett II, against Bill-

man and McCuistion in the United States District Court

for the Eastern District of Virginia. (Pet. App. at A5.)

In Harnett II, plaintiff again asserted claims under

the federal and state securities acts, for common law

fraud and for breaches of fiduciary duty. (Pet. App. at

A5.) The Harnett II complaint alleged that in the same

communications at issue in Harnett I, Billman and Mc-

Cuistion had misrepresented to Harnett that the new,

spun off EMSI company would receive not only EMI’s

existing mortgage servicing business as of the date of

the spin off but all of the future servicing business gen-

erated by the merged EPIC/CSL group, and that re-

spondents failed to tell Harnett about the EMI/EMSI

sub-servicing agreement, and, that EMI, not EMSI, was

receiving the servicing business on new mortgages orig-

inated by the EPIC/CSL group. (Pet. App. at A5).

The Fourth Circuit held that the district court im-

properly failed to enter judgment for Billman and Mc-

Cuistion on grounds of res judicata. (Pet. App. at A7.)

5

SUMMARY OF ARGUMENT

The writ should be denied for the following reasons:

1. This case does not present the issue of whether

federal or state law of res judicata should be applied to

determine the scope and effect of a prior federal court

judgment in a diversity case to bar claims alleged in a

subsequent diversity case. In Harnett I, plaintiff sought

damages for alleged violations of rights afforded him by

the federal securities laws and RICO as well as for state

common law torts. Similarly, in Harnett II, he sought

damages for alleged violations of the federal securities

laws as well as for state common law torts. All the

claims in Harnett I and Harnett II were based on the

same common nucleus of operative facts. (Pet. App. at

A3-A5, All.) Plaintiff could not have litigated his claims

in either Harnett I or Harnett IJ in the state courts.

Plaintiff invoked the exclusive jurisdiction of the federal

court in Harnett I and Harnett II to adjudicate his

federal claims as well as other pendent claims.

The district court in Harnett I adjudicated the merits

of his claims, and the rulings of the district court were

merged in one final judgment. Now, for the first time

in his Petition, Harnett argues that the scope and effect

of this federal court judgment should be determined by

applying state law.

Harnett’s argument ignores the fact that even if he

had only pled his federal claims in Harnett I, his state

claims arising from the same common nucleus of opera-

tive facts would have been barred by the judgment in

Harnett I under the federal law of res judicata. There

is no conflict among the circuits on this point. Courts

and commentators uniformly recognize that the issue of

the scope and effect of a federal court judgment must

be decided by federal law. Any other result would erode

the finality of federal court judgments. Determinations

of the scope and effect of a judgment define the finality

6

of the judgment. Finality is an essential element of a

court’s authority and is a fundamental principle of

judicial integrity and consistency.

2. The Fourth Circuit recognized the existence of a

fraudulent concealment exception to the federal law of

res judicata but determined after reviewing the record

that such exception did not apply in this case. Harnett

only disputes the Fourth Circuit’s application of the ex-

ception based on the specific facts of record, hardly an

issue worthy of review by this Court.

ARGUMENT

I. The Petition Should Be Denied Because The Scope

And Effect Of A Federal Court Judgment Are Deter-

mined By Federal Law

In Harnett I, plaintiff invoked the exclusive jurisdic-

tion of the district court to adjudicate his claim for

federal securities fraud and RICO violations as well as

for state common law torts. (Pet. App. at A4-A5; and

supra at 2 n.2.) Harnett’s federal claims in Harnett I

were adjudicated on the merits and the rulings on all

his claims were merged into one, final federal court judg-

ment on all his claims.

Harnett II was likewise not a diversity case. In Har-

nett II, plaintiff alleged claims for alleged violations of

the federal securities laws and invoked the exclusive

jurisdiction of the federal district court to adjudicate

these claims. Supra at 2, n.4.

The Petition inaccurately asserts that Harnett I and.

Harnett II were strictly diversity cases, and, therefore,

Erie requires that state law of res judicata govern the

determination of the scope and effect of the federal judg-

ment in Harnett I. Because Harnett I and Harnett II

involved federal and state claims arising from the same

common nucleus of operative facts, petitioner’s argu-

ments based on diversity jurisdiction are irrelevant.- The

7

district court had pendent jurisdiction over Harnett’s

state common law claims, and those claims would have

been barred by the judgment in Harnett I, even if not

pled. Federated Department Stores, Inc. v. Moitie, 452

U.S. 394 (1981) (Blackmun, J., concurring). The fact

that such claims were pled could not narrow or affect

the scope of the federal judgment in a case where the

district court had exclusive jurisdiction over federally

created claims arising from the same common nucleus of

operative facts as the state claims.

A contrary result would promote claim splitting, cause

uncertainty as to the finality of federal judgments and

lead to the uneven administration of justice. For ex-

ample, as petitioner has attempted to do here, federal

securities law fraud claims would be split from state com-

mon law fraud claims and litigated separately in suc-

cessive lawsuits in the hopes of having “two bites of the

apple.” This Court has continually expressed a strong

policy of protecting the “conclusive character” of federal

judgments and of requiring plaintiffs to litigate all their

claims at one time. Federated Department Stores, Inc.

v. Mottie, 452 U.S. at 398-399 and 401; United States

v. California & O. Land Co., 192 U.S. 355, 358 (1903).

The scope and effect of a judgment “define[s] finality

and hence go[es] to the essence of the judicial function.”

Restatement (Second) of Judgments, § 87, Comment b,

at p. 317 (1982). The Court has long recognized that the

policy of finality as expressed in the doctrine of res

judicata “is a rule of fundamental and substantial jus-

tice.” Federated Department Stores, supra, at p. 401.

Courts have uniformly held that federal law of res

judicata should be applied to determine the scope and

effect of federal judgments in cases involving federally

created claims within the exclusive jurisdiction of the fed-

eral courts. Federated Department Stores, Inc. v. Moitie,

supra; Sunshine Anthracite Coal Co. v. Adkins, 310 U.S.

381 (1940).

8

Courts and commentators have also uniformly stated

that the scope and effect of a federal judgment must be

determined by the federal law of res judicata, whether

in a federal claim case or a diversity case. As stated

in the Restatement (Second) of Judgments:

The principle of finality is an essential element

of a court’s authority. The rules of res judicata ex-

press the quality of a court’s authority, not only in

general doctrine but in the technical particulars of

the rules. The source of the federal courts’ authority

is in Articles I and III of the constitution. It is

therefore appropriate to hold that, at least in the

absence of some other provision by Congress, the

effects of a federal judgment are a legal implication

of those provisions. That proposition is expressed in

modern decisions.

Restatement (Second) of Judgments, § 87 Comment a at

p. 315 (1982) and § 87, Comment a, illustrations 1 and

2; 1B Moore’s Federal Practice, § 0.406[1] at p. 272

(1984); Southwest Airlines Co. v. Texas Intern. Air-

lines, 546 F.2d 84, 94 (5th Cir. 1977).

Petitioner has not cited any precedent conflicting with

the Fourth Circuit’s opinion that the federal law of res

judicata should be applied to determine the scope and

effect of a federal judgment in a case involving federally

created claims committed to the exclusive jurisdiction of

the federal courts. Instead, petitioner attempts to mis-

state Harnett I as a diversity case.

Even if this case were inaccurately characterized as a

diversity case, there is no split among the circuits.

Contrary to petitioner’s arguments, every court of ap-

peals which has considered the issue has held that the

federal law of res judicata is applicable to determine the

scope and effect of a prior federal judgment even in a

diversity case. In addition to the Fourth Circuit, the

Second, Fifth, Sixth, Eleventh, and District of Columbia

Circuits have held that the federal law of res judicata

srs 0 Ui

9

should be applied to determine the preclusive effect of a

prior federal judgment in a diversity case. Kern v. Het-

tinger, 303 F.2d 333 (2d Cir. 1962); AEROJET-General

Corporation v. Askew, 511 F.2d 710 (5th Cir.), cert.

denied, 423 U.S. 908 (1975); Cemer v. Marathon Oil

Co., 583 F.2d 830 (6th Cir. 1978); Silecox v. United

Trucking Service, Inc., 687 F.2d 848 (6th Cir. 1982) ;

Precision Air Parts, Inc. v. Avco Corp., 736 F.2d 1499

(11th Cir.), cert. denied, 469 U.S. 1191 (1985); Hunt v.

Liberty Lobby, Inc., 707 F.2d 1493 (D.C. Cir. 1983).

The holdings of these Circuit Courts of Appeals are in

accord with Section 87 of the Restatement (Second) of

Judgments that: “Federal law determines the effects un-

der the rules of res judicata of a judgment of a federal

court.”

None of the cases cited in the Petition conflict with

the Fourth Circuit’s decision in this case. None of the

cases cited by petitioner involve cases such as the present

case where plaintiff has invoked the federal court’s ex-

clusive jurisdiction to adjudicate a federally created

claim. Moreover, the cases cited by petitioner do not in-

volve the issue of the scope and effect of a prior federal

judgment. In Hayles v. Randall Motor Company, 455

F.2d 169 (10th Cir. 1971) and Markariw v. Rinard, 336

F.2d 333 (3d Cir. 1964), the courts stated, as the Fourth

Circuit indicated here (Pet. App. at A8), that state law

should be used to determine an issue of privity. Likewise,

Answering Services, Inc. v. Egan, 728 F.2d 1500, 1506

(D.C. Cir. 1984) ,°5 and Semler v. Psychiatric Institute of

Washington, D.C., 575 F.2d 922, 925 (D.C. Cir. 1978),

did not involve the scope of a prior federal judgment but

turned on a determination of the underlying substantive

elements of the substantive claim alleged in the subse-

quent suit. And, in Gasbarra v. Park-Ohio Industries,

5 The concurring opinion of then Circuit Judge A. Scalia accu-

rately indicated that the decision turned on when the claim became

actionable under state law, not on choice of law under Erie.

10

Inc., 655 F.2d 1119 (7th Cir. 1981), the court relied on

federal law and Moore’s Federal Practice to apply the

Restatement (Second) analysis used by the Fourth Cir-

cuit here. Applicable state law was the same as federal

law.®

II. The Petition Should Be Denied Because The Fourth

Circuit Recognized The Existence Of A Fraudulent

Concealment Exception But Based On The Record

Facts, Determined That It Was Inapplicable In

This Case

Contrary to the Petition, the district court stated that

petitioner did not have actual knowledge of the claim be-

fore the dismissal of Harnett J. (Pet. App. at A23.)

The Fourth Circuit did not “overlook” this statement

but specifically referenced it and held that actual knowl- |

edge of a claim is not a precondition to the application

of the rules of merger and bar, (Pet. App. at A8-A9.)

The Fourth Circuit recognized ‘an exception to the

general principle that lack of knowledge will not avoid

the application of the res judicata rules is found in cases

where fraud, concealment, or misrepresentation have

caused the plaintiff to fail to include a claim in a former

action.” (Pet. App. at A9.) After reviewing the record

in this case, the Fourth Circuit determined that given

the extensive discovery Harnett received in Harnett I,

6 The Fourth Circuit did not determine whether its decision would

have been different if it applied Virginia law. (Pet. App. at AT,

n.l.) In Bate v. Devers, 214 VA. 667, 202 S.E.2d 917, 921 n.8&

(1974), the Supreme Court of Virginia looked to the Restatement

(Second) of Judgments, § 61 Tent. Draft No. 1 to hold that “cause

of action, for purposes of res judicata may be broadly character-

ized... .” See also, Allstar Towing, Inc. v. City of Alexandria,

231 VA. 421, 344 S.E.2d 903, 905-906 (1986) (citing and relying

upon Bate v. Devers, supra.) Section 61 Tent. Draft No. 1 (1973),

relied upon by the Supreme Court of Virginia, is the precursor to

§ 24, Restatement (Second) of Judgments (1982) and is identical

to § 24,

cts

11

it was impossible to say that any concealment, even if

it existed, acted to prevent the assertion of Harnett’s

fraud claim during the pendency of Harnett J. (Pet.

App. at A9-A10.)

The Petition thus misstates the record. Petitioner is

disputing the Fourth Circuit’s record determination

based on the specific facts of this case, which has no

general import or precedential significance in other cases.

CONCLUSION

For the foregoing reasons, the Court should deny the

writ of certiorari.

Respectfully submitted,

ROBERT E..HEBDA *

JOHN R. FORNACIARI

ROBERT M. DISCH

Steele Simmons & Fornaciari

2020 K Street, N.W.

Suite 850

Washington, D.C. 20006

Attorneys for Respondents

* Attorney of Record