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GOLDBERG v. HANKIN

September 29, 1993

RICHARD GOLDBERG, et al.
v.
MARK HANKIN, et al. BYRON BLUM, et al. v. MARK HANKIN, et al.



The opinion of the court was delivered by: BY THE COURT; JAMES T. GILES

 GILES, J.

 Plaintiffs seek to sue the defendants as members of a class of stock owners of Old York Road Bancorp, Inc. ("Bancorp") and derivatively on behalf of Bancorp. *fn1" Bancorp is the holding company for the Bank and Trust Company of Old York Road ("Bank"), a commercial bank organized and existing under the Banking Code of Pennsylvania. The Bank is the sole operating subsidiary of Bancorp. Bancorp's securities are registered with the Securities and Exchange Commission and are traded in the over-the-counter market.

 Plaintiffs claim that defendants knowingly understated non-performing loans, failed to provide adequate loan loss reserves for problem loans and, instead, granted extensions and further credits to its problem loans customers in order to postpone the recognition of said problem loans in the publicly disseminated financial statements of Bancorp and the Bank from 1990-1992. Plaintiffs allege that by making these statements, defendants intended to, and did, create a false and misleading impression which inflated the market prices of Bancorp securities throughout the Class Period.

 Plaintiffs assert four claims against the defendants in their amended complaint: *fn2" violations of Section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78(b) (1988), Securities and Exchange Commission Rule 10b-5 promulgated thereunder, 17 C.F.R. § 240.10b-5 (1991) and Section 20(a) of the Securities Exchange Act, 15 U.S.C. § 78t (1988) (count I); violations of Section 14(a) of the Securities Exchange Act, 15 U.S.C. § 78n(a) and Rule 14a-9 promulgated thereunder, 17 C.F.R. 240.14a-9 (count II); a pendent state claim on behalf of Bancorp for breach of fiduciary duty and waste of corporate assets (count III); and a state claim for negligent misrepresentation (count IV).

 Defendants move for dismissal of plaintiffs' claims arguing, essentially, that plaintiffs have failed to state federal claims upon which relief can be granted and that their state law claims must be dismissed for lack of federal diversity jurisdiction.

 After notice and oral argument held on August 10, 1993, the court hereby grants defendants' motions in part and denies them in part. For the reasons which follow, plaintiffs' federal securities claims are DISMISSED with prejudice, and their state law claims are DISMISSED without prejudice.

 LEGAL STANDARD

 In deciding a motion to dismiss for failure to state a cognizable claim, the court must accept as true all of plaintiff's factual allegations and draw from them all reasonable inferences favorable to the plaintiff. D.P. Enterprises, Inc. v. Bucks County Community College, 725 F.2d 943, 944 (3d Cir. 1984). However, the court need not accept as true legal conclusions or unwarranted factual inferences. Gomez v. Toledo, 446 U.S. 635, 636 n.3, 64 L. Ed. 2d 572, 100 S. Ct. 1920 (1980). A case should not be dismissed for failure to state a claim unless it appears certain that no relief can be granted under any set of facts that could be proved consistent with plaintiff's allegations. Hishon v. King & Spalding, 467 U.S. 69, 73, 81 L. Ed. 2d 59, 104 S. Ct. 2229 (1984).

 ANALYSIS

 I. Section 10(b) Claim

 To plead a Section 10(b) action, plaintiffs must show that the defendants misrepresented or omitted material information in connection with the purchase or sale of securities. See Securities and Exchange Commission Rule 10b-5, 17 C.F.R. § 240.10b-5. Both plaintiffs obtained their shares in Bancorp, the holding company for the Bank, in a merger in which all of their shares in the Bank were exchanged on a share-for-share basis for Bancorp shares.

 Generally, when a share exchange accompanies the merger of two separate and distinct corporate entities, such exchange constitutes a "purchase or sale" for purposes of bringing a Rule 10b-5 action. See SEC v. Nat'l Secs., Inc., 393 U.S. 453, 467, 21 L. Ed. 2d 668, 89 S. Ct. 564 (1969) (shareholders "purchased" shares in another company by exchanging shares in a merger where resulting company had different assets and future prospects). However, if the merger or share exchange involves clearly no more than internal corporate reorganization, then the transaction does not fall within the scope of Rule 10b-5. See, e.g., In re Penn Central Securities Litigation, 494 F.2d 528, 538 (3d Cir. 1974); Gelles v. TDA Industries, Inc., 1993 U.S. Dist. LEXIS 9779, 1993 WL 275216 (S.D.N.Y.) citing Int'l Controls Corp. v. Vesco, 490 F.2d 1334, 1343 (2d Cir.), cert. denied, 417 U.S. 932, 41 L. Ed. 2d 236, 94 S. Ct. 2644 (1974).

 The court finds, as a matter of law, that plaintiffs were not "purchasers" of Bancorp shares and, therefore, they may not assert a Rule 10b-5 action against the defendants. The merger between Bancorp and the Bank was not one in which two separate and distinct corporations were combining to form an entirely new entity. Here, the Bank's merger was nothing more than a corporation deciding to reorganize and diversify its line of business. In such a merger, "the elements entering into [plaintiffs'] decision were the same as those typically ...


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