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Matthew P. Amos v. Franklin Financial Services Corporation

May 26, 2011


The opinion of the court was delivered by: William W. Caldwell United States District Judge


I. Introduction

Matthew P. Amos and the other twenty-four plaintiffs are former shareholders in Community Financial, Inc. (CFI). Defendant, Franklin Financial Services Corp. (Franklin Financial) acquired CFI in a merger whereby CFI ceased to exist and its shareholders were paid cash for their shares. Plaintiffs filed this suit against Franklin Financial and seven individual defendants, mostly shareholders and officers of CFI, alleging that in the years leading up to the merger, the individual defendants operated CFI in a way that diluted the value of the payment to the plaintiff shareholders upon the merger relative to the payments received by the defendant shareholders.

Plaintiffs have made claims under the Racketeer Influenced and Corrupt Organizations Act (RICO), 18 U.S.C. §§ 1961-1968, and under state law for conversion, unjust enrichment, breach of fiduciary duty, fraud and waste of corporate assets, conspiracy, and a violation of the Pennsylvania Uniform Commercial Code.

We are considering two motions to dismiss under Fed. R. Civ. P. 12(b)(6), one filed by Franklin Financial and the other by the individual defendants. Both motions argue that the RICO claims lack merit because Plaintiffs are basing them on fraud in the sale of securities and RICO excludes such claims from the reach of the statute. Since these are the only federal claims, they also argue we should decline to exercise supplemental jurisdiction over the state-law claims and dismiss the entire action.*fn1

For the reasons set forth below, we agree with the defendants that the plaintiffs fail to state RICO claims because of the statutory exception for fraud in the sale of securities. We will also decline to exercise supplemental jurisdiction over the state-law claims. Hence this action will be dismissed.

II. Standard of Review

In considering a motion to dismiss, "[w]e 'accept all factual allegations as true, construe the complaint in the light most favorable to the plaintiff, and determine whether, under any reasonable reading of the complaint, the plaintiff may be entitled to relief.'" Byers v. Intuit, Inc., 600 F.3d 286, 291 (3d Cir. 2010)(quoted case omitted). The court is not limited to evaluating the complaint alone. It may consider documents that form the basis of a claim. Lum v. Bank of Am., 361 F.3d 217, 221 n.3 (3d Cir. 2004). It may also consider "documents whose contents are alleged in the complaint and whose authenticity no party questions," even though they "are not physically attached to the pleading . . . ." Pryor v. Nat'l Collegiate Athletic Ass'n, 288 F.3d 548, 560 (3d Cir. 2002).

With this standard in mind, we set forth the background to this case, as the plaintiffs allege it.

III. Background

The plaintiffs allege the following, in pertinent part. In October 1998, out of a predecessor entity, defendant, Lowell Gates, created Community Trust Company (CTC), a corporation providing trust services regulated by the Pennsylvania Department of Banking. (Am. Compl. ¶¶ 27, 29). The Department of Banking required at least $1 million in capitalization for CTC to maintain its charter. In 2000, at Lowell Gates's direction, CFI was created as a holding company for CTC. (Id. ¶ 30). "CTC became a wholly-owned subsidiary of CFI, which held all of CTC's common stock." (Id. ¶ 31). CFI began "to grow in value as investors placed large sums of money in trust with CTC," its subsidiary. (Id. ¶ 33). In 2002, a second private securities offering was made to recapitalize CFI. This offering indicated that CFI's management, including Gates, would maintain capitalization at the $1 million amount. (Id. ¶ 34).

At some point, "[w]ithout informing plaintiffs, Defendant Lowell Gates plotted a cynical method of enriching himself and the other defendants . . . ." (Id. ¶ 35). He and the other individual defendants, including CFI board members and management, "began to deceive CFI non-defendant shareholders like plaintiffs into believing that . . . Gates and the other defendants were fulfilling their corporate fiduciary responsibilities while actually overseeing the destruction of CFI using a sophisticated scheme." (Id.). The defendants' scheme involved gaining control of the CFI board of directors, in part by ousting plaintiff, Matthew P. Amos, as a board member, (id. ¶ 36), and then engineering "a sure and steady decline in the fortunes of CFI, while falsely representing to non-defendant shareholders, including the plaintiffs, that every effort was being made to make CFI profitable." (Id.).

Among the deceptive practices was the improper use of "intercompany receivables" between CTC and CFI "to artificially inflate stated shareholder equity to misrepresent CTC as complying with the [Banking Department's] capitalization requirements" for the Department's quarterly call reports. (Id. ¶ 40). When plaintiff, Matthew P. Amos, tried to obtain information on the call reports, defendant Russell refused, using the "shell game" that he was not entitled to the reports because he was not a shareholder in CTC, which had filed the reports. (Id. ¶ 41). In another instance, plaintiff Helm was refused the addresses of other CFI shareholders in 2007, which she wanted to use to investigate CFI's management. (Id. ¶ 96).

As part of the scheme, "Series A Capital Notes" were issued in 2005. By way of these notes, the "individual defendants loaned $200,000 to CFI . . . in exchange for repayment with interest or the ability to convert shares of stock based on the 'book value per share . . . on the closing date of the change in control.'" (Id. ΒΆ ...

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