Appendix — MacKethan v. Virginia

EXHIBIT A

In The

UNITED STATES DISTRICT COURT

For The Eastern District Of Virginia

; Richmond Division

Civil Action

No. 74-0013-R

Edwin R. MacKethan, Receiver

Norfolk Savings & Loan Corp.

Vv.

Commonwealth Of Virginia, et al

MEMORANDUM

Filed July 24 1974

This matter is before the Court on the motion of the

defendant, the Commonwealth of Virginia [hereinafter re-

ferred to as the State], to dismiss the complaint filed herein

as to it. Similar motions by other of the defendants which are

now pending, and some of which are still awaiting plaintiff's

response, will not be considered herein.

Plaintiff, Edwin R. MacKethan, is the Receiver of the

Norfolk Savings and Loan Corporation, having been so

appointed by the Law and Chancery Court of the City of

Norfolk, Virginia, in a suit there pending between the

Commonwealth of Virginia at the relation of the State

Corporation Commission of that State and the Norfolk

App. 2

Savings and Loan Corporation. As Receiver, plaintiff is the

possessor of all claims of that corporation, its depositors,

creditors and owners, and seeks here a judgment for damages

against the various defendants in the amount of eleven

million dollars.

As relates to its claim against the State, the piaintiff

alleges generally that the State, through agents of its State

Corporation Commission, negligently and/oz fraudulently:

one, breached its regulatory duties with respect to the

activities of the now closed Norfolk Savings and Loan

Corporation; and two, participated in the dissemination of

false or misleading information to investors in said corpora-

tion by failing to disclose relevant information in its posses-

sion.

Jurisdiction is sought to be invoked pursuant to 15 U.S.C.

§ 78aa.

Prior to the filing of this action, the instant plaintiff had

filed a related action in this Court naming the State as the

sole defendant. MacK ethan v. Commonwealth of Virginia,

Civil Action No. 73-547-R. Subsequent to the filing of the

present action, wherein additional defendants were joined,

the Court dismissed the previous action on jurisdictional

grounds. The Court there held that jurisdiction was lacking

by reason of the State’s sovereign immunity, inherent in the

State and preserved to it by the Eleventh Amendment to the

Constitution of the United States. See MacK ethan v. Com-

monwealth of Virginia, C.A. No. 73-547-R, mem. decis.

Jan. 16, 1974 (E.D.Va.)

The defendant’s motion in this action likewise raises the

bar of sovereign immunity as grounds for dismissal.

As to the first count in plaintiff's present complaint, it is

obvious to the Court that said count must be dismissed for

the reasons stated in the memorandum accompanying the

ee

App. 3

order dismissing the plaintiff's previous related action against

the State. MacKethan v. Commonwealth of Virginia, C.A.

No. 73-547-R, mem. decis., Jan. 16, 1974 (E.D.Va.). That

is because the first count in the present complaint simply

incorporates by reference all of the allegations contained in

the complaint filed in the previous action referred to.

The additional allegations in Counts II and IV of the

present complaint relate essentially to claims brought against

defendants other than the State in this action, and are there-

fore irrelevant to the motion presently before the Court.

As to the third count in the present complaint, which does

attempt to raise a claim against the State, the plaintiff con-

tends that same is a “new claim” and that the reasoning

behind the decision in the previous action does not apply

with respect to this “new claim.” The plaintiff asserts that

the “new claim” in Count III, unlike the claim previously

asserted, fails within an exception to the bar of sovereign

immunity.

1.

: RES JUDICATA

To be more specific, the plaintiff contends that the claim

raised in the previous action and incorporated into Count I

of this action, was premised on a theory that the State had

breached its state statutory duty of supervising the afore-

mentioned savings and loan corporation’s securities trans-

actions and was therefore liable for the resultant damages to

depositors, creditors and owners. The plaintiff argues, how-

ever, that the claim raised in Count III of the instant com-

plaint is based on the state’s alleged complicity in the dis-

semination of false or misleading information to investors in

the aforementioned savings and loan corporation, in clear

violation of federal securities laws.

~

App. 4

The Court would begin by pointing out that it did not

construe the plaintiff's previous action as having been so

narrowly drawn as plaintiff now suggests.’ In its memoran-

dum dismissing the complaint therein the Court stated at

one point:

... Indeed plaintiff alleges that “the Commonwealth

and the Board of Directors conspired to prevent the

public from realizing the insolvent condition” of the

corporation.

It is these alleged acts of the defendant upon which

plaintiff premises his claim under the Securities Act of

1933 and...the Securities Exchange Act of 1934...

C.A. No. 73-547-R, mem. decis., jan. 16, 1974, at p. 2 (E.D.

Va.).

Indeed, had the Court viewed the previous claim as

having been based solely on the defendant’s alleged breach

of its state statutory duties, it would never have reached

the issue of sovereign immunity. Absent the element of

an alleged federal securities violation, the plaintiff's claim

would simply have amounted to a state claim. Under that

circumstance, regardless of the state’s alleged waiver of

sovereign immunity, the Court would have been totally

lacking subject matter jurisdiction, which is the first prere-

1 Courts, of course, decide cases on the basis of facts presented. While

it is hoped that the litigants will aid the Court by drawing attention to

the relevant principles of law, courts do not limit their inquiry, with

BE ee dees adios cal ec

the litigants

coctaiellly accuse Wiens setueaitay ua cer uabeaee ok given

in short, one does the best he can with what he has. ox

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App. 5

quisite to maintaining an action in federal court. See Mans-

field, Coldwater @ Lake Ry. v. Swan, 111 U.S. 379 (1884) ;

Minnesota v. Northern Securities Co., 194 U.S. 48, 62-63

(1904).

Beyond that, the Court would further note that the only

apparent difference between the plaintiff's “old claim” and

his “new claim” is in the theories on which they are

premised. The factual allegations do not appear to differ

materially. While a new hair-do may create a new woman,

as certain advertisements suggest, a new legal theory does

not make a new cause of action. Moreno v. Marbil Produc-

tions, Inc., 296 F.2d 362 (5th Cir. 1961) ; Norman Tobacco

& Candy Co. v. Gillette Safety Razor Co., 295 F. 2d 362

(5th Cir. 1961). The doctrine of res judicata applies to

jurisdictional issues, as well as to substantive matters. See

Stoll v. Gottlieb, 305 U.S. 165, 172 (1938); Baldwin v.

Iowa State Traveling Men’s Ass’n., 283 U.S. 522 (1931).

Therefore, even assuming the Court had not given the

previous complaint the full breadth of consideration justi-

fied by the allegations set forth therein, the present action

would still be barred by the doctrine of res judicata. See, id.

The plaintiffs only relief would be by way of appeal.

Finally, there is no doubt that the present action arises

out of the same series of occurrences that was subject to con-

troversy in the previous action. Assuming further that the

plaintiff had come forward in the present complaint with

new factual allegations bearing on the sovereign immunity

question, the new action wouid still be barred under the

doctrine of res judicata. This is because a plaintiff may not

litigate his claim piecemeal. See Heiser v. Woodruff, 327

U.S. 726, 735 (1946), and cases cited therein. Repetition,

whether in presenting new theory or pleading additional

facts, is not to be tolerated. See Lester v. National Broad-

App. 6

casting Co., 217 F. 2d 399 (9th Cir. 1955), cert. denied, 348

U.S. 954 (1955), rehearing denied, 349 U.S. 917 (1955).

See also, Kriesel v. Berkshire Associates, Inc., 452 F.2d 491

(4th Cir. 1971) (deciding the issue under Virginia law).

Il.

SOVEREIGN IMMUNITY

The essence: of plaintiffs contention in this regard,

throughout this: and the previous litigation, has been that the

state had expressly or impliedly waived its sovereign im-

munity.

In the memorandum dismissing the previous complaint,

the Court concluded that it could find no Congressional

intent to pre-condition the State’s entry into the field of

securities regulation on the State’s consent to be sued for

claims arising out of that activity. MacKethan v. Common-

wealth of Virginia, C.A. No. 73-547-R mem. decis. Jan. 16,

1974 (E.D. Va.). Cf., Parden v. Terminal R. Co. of Ala-

bama, 377 U.S. 184, 187-191 (1964) with Employees v.

Missouri Public Health Dept., 411 U.S. 279, 287 (1973).

Accordingly, no implied waiver was found.

The only theory not previously addressed is plaintiff's ap-

parent contention that, by participating in the dissemination

of false or mislleading information, incidental to its regula-

tory action, the State agency involved left the sphere of

legitimate governmental activities, and thereby became a

mere “lawbreaker.” The plaintiff argues that the State

thereby “waived” iis immunity for actions arising under the

federal securities legislation.

This contention, in the Court’s view, misconceives the

doctrine of sowereign immunity. There is no issue but that

action which violates superior federal law is outside the scope

a ee a ae

_ App. 7

of legitimate state activity, regardless of the state authority

relied upon. Ex parte Young, 209 U.S. 123, 159-160, 163,

166-68 (1908). The state functionary involved is, in a sense,

a law breaker. The theory is that although the state func-

tionary may be acting under color of state law, his actions

are not the official actions of the state. Id. It is basic that the

simple act of violating superior federal law does not establish

a waiver of sovereign immunity merely because the state,

through its functionaries, has thereby left its legitimate

sphere of activities.? See Hans v. Louisiana, 134 U.S. 1, 10

(1889) ; Smith v. Reeves, 178 U.S. 436, 446-49 (1900).

Moreover, the plaintiff's argument fails to distinguish this

case from Employees, supra, 411 U.S. 279. There was no

question in Employees that the state employer was covered

by the substantive provisions of the Act there in question.

411 U.S. 282. On a motion to dismiss, the state employer in

Employees was presumed to have been in violation of the ©

standards set forth in that legislation. Employees, therefore,

also involved a clear violation of superior federal law ; but no

waiver of sovereign immunity was found. —

As to the question of Congressional intent, upon which the

issue of an implied waiver of sovereign immunity ultimately

turns, the Court recognizes that Section 2 of the Securities

Act of 1933, 15 U.S.C. § 77(b) (2), defines a “person” to

include “a government or political subdivision thereof ;” and

that Section 17 of the Act, 15 U.S.C. §77(q), makes it

unlawful for any “person” to fraudulently participate in the

dissemination of false or misleading information with regard

to the sale of securities. Even assuming arguendo that this

2 Assuming, however, that the state functionaries involved had not

been acting in good faith, it may be that they would be liable, in their

individual capacities, for their participa the alleged federal

tion in

securities violation. Cf. Pierson v. Ray, 386 U.S. 547, at 555-557

(1967) ; Montoe v. Pape, 365 U.S. 167 (1961).

App. 8 |

statutory scheme might properly be interpreted as estab-

lishing a Congressional intent to precondition direct parti-

. cipation by the various states in the marketing of securities

on a waiver of sovereign immunity as to any violations of the

Act that might occur in the process, see Parden v. Terminal

R. Co., supra, 377 U.S. 184, 187-191 ;* plaintiff must still fail,

for he has not alleged facts sufficient to establish direct state

involvement, either as principal or agent, in the marketing of

securities. The relevant state legislation provides for the

regulation of: savings and loan company activities, which

may include supervision over the marketing of securities by

such organizations. See Va. Code § 6.1-237, et seq., Code of

Virginia 1950. That legislation does not, however, contem-

plate active participation by the state in the process of

marketing the securities. Any indirect involvement by the

state in such activities would be merely incidental to the

state’s performance of its regulatory function. Under any

interpretation of the federal securities legislation in question,

the Court cannot conceive that Congress intended to pre-

condition the state’s engaging in a regulatory function, such

as that here present, on a waiver of sovereign immunity as to

any securities violations that might occur with regard to the

activities of the regulated organizations:

To reiterate, the state’s function here was regulatory,

which is a purely governmental function. The implications of

Congressional intent with regard to the coverage of the

Securities Act of 1933 might be quite the opposite had the

state here been a principal or participant in a proprietary

® The Court does not, however, here determine that such i

Amendment to exclude private damages actions. See Employers v.

Missouri Public Health Dept., supra, 411 U.S. 279, 285-86.

a eee) eee RED EEE ae a

App. 9

function which necessitated also its active participation in

the public sale of securities to finance the venture.‘ Cf.

Parden v. Terminal R. Co., supra, 2/7 U.S. 184, with

Employees v. Public Health Dept., supra, 411 U.S. 279.

It may be, as alleged, that certain state functionaries

participated directly with others in the dissemination of

information which ultimately proved to be false or mislead-

ing. Were that participation in the public information

activities of the savings and loan company officially sanc-

tioned by the regulatory legislation under which the state

functionaries had been acting, the argument for an implied

waiver would unquestionably be stronger. In such a situation

the official state involvement in the securities marketing

activities would have to be viewed as more direct. However,

the legislation here in question does not, on its face, contem-

plate even good faith participation by state functionaries

in the dissemination of corporate financial information to

the investing public. See Va. Code, § 6.1-237, et seq. There-

fore, any such participation which may in fact have occurred

would have been ultra vires in its inception, and cannot be

viewed as a waiver, by the state, of its sovereign immunity.

Finally, the Court takes note of the plaintiff's objection

that the issue of sovereign immunity is not ripe for deter-

mination on a motion to dismiss. Suffice it to point out that,

regardless of what the evidence may show as to the unofficial

activities of the state functionaries involved in this matter, no

proof of facts can change the purely regulatory nature of the

legislation under which they were acting. In the absence of

more, no implied waiver of sovereign immunity can be

found ; and no express waiver is apparent.

* It is not uncommon for municipal corporations and other govern-

mental subdivisions to join with private enterprise in the marketing of

securities to finance, for example, industrial parks.

App. 10

For the reasons stated, the state’s motion to dismiss will be

granted, and the action will be dismissed as to the state.

An appropriate order shall issue.

/s/ Rost. R. Meruice, Jr.

United States District Judge

Date: JUL 24 1974