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ALSCO-HARVARD FRAUD LITIG.

August 21, 1981

ALSCO-HARVARD FRAUD LITIGATION Consolidated Cases


The opinion of the court was delivered by: OBERDORFER

MEMORANDUM

I. INTRODUCTION

 In this civil action, plaintiff United States has moved for summary judgment against defendants Andrew L. Stone and Francis N. Rosenbaum. Both defendants have been charged with violations of the False Claims Act, 31 U.S.C. § 231 (1976); breach of warranty; liability under the doctrine of "recoupment of public funds paid by mistake"; and violations of the Anti-Kickback Act, 41 U.S.C. §§ 51 et seq. (1976). In addition, the Government seeks imposition of a constructive trust upon certain property that allegedly is traceable to defendants' wrongful acts. Plaintiff's claims are set forth in a First Amended Complaint filed with this Court, and in a First Amended Complaint filed in the United States District Court for the Eastern District of Missouri. *fn1" The actions have been consolidated here by the Judicial Panel on Multidistrict Litigation because both actions arise out of a common factual background of alleged fraud against the United States Government. *fn2" The other suits that were part of this Multidistrict Litigation have been terminated; *fn3" only the United States' actions against defendants Stone and Rosenbaum remain. In addition, the United States Tax Court has under advisement the report of Special Trial Judge Caldwell in Rosenbaum, et al. v. Commissioner, Docket Nos. 5199-72, 5200-72, 5311-72, 5312-72, and 2460-75.

 For reasons stated below, the Court grants plaintiff's motion for summary judgment in part, and denies it in part.

 II. BACKGROUND FACTS

 A. The Scientific/Bregman Stage

 During the first phase of the scheme, which occurred between March 1963 and December 31, 1965, Stone and Rosenbaum allegedly submitted or caused to be submitted inflated cost data regarding electrical assemblies through the use of two subcontractors, Scientific Electronics, Limited (hereinafter "Scientific") and Bregman Electronics, Inc. (hereinafter "Bregman"). The Government contends that Scientific and Bregman were "dummy" corporations established by Stone and Rosenbaum and subject to their control.

 According to plaintiff, defendants represented to the Navy that they had purchased completed electrical assemblies from Scientific and Bregman for prices independently set by those subcontractors. In fact, however, the Government alleges that Scientific and Bregman were sham corporations that created false invoices for Chromcraft and accumulated the resulting payments from Chromcraft for the use and benefit of Stone and Rosenbaum. Specifically, the Government contends that the electrical assemblies for the launchers were assembled not by Scientific and Bregman but instead by Robert L. Wolf and Associates (hereinafter "Wolf") with raw materials that Chromcraft purchased from other vendors and supplied directly to Wolf without charge. The purchase orders addressed to Wolf were, however, typed on Scientific and, later, on Bregman stationery. Wolf would bill the work for his assembly services on invoices addressed to Scientific and Bregman but actually delivered to Chromcraft. Scientific and Bregman would then pay the Wolf invoices out of money received from Chromcraft. Stone's secretary would, at Stone's direction, in turn type quotation letters whereby Scientific and Bregman purported to quote prices for the electrical assemblies to Chromcraft. Chromcraft would then respond to Scientific's and Bregman's quotations by preparing purchase orders, responsive invoices per the quoted prices, as well as receiving reports reflecting the receipt of the units at Chromcraft's plant. The prices set forth in these fictitious Bregman and Scientific quotation letters, invoices and corresponding Chromcraft purchase orders were included in the cost data furnished by Stone to the Government and were in fact paid by the Government under the contracts awarded Chromcraft. These prices were substantially higher than the combined amount in fact paid to Wolf for assembly charges and to other vendors for the raw materials supplied to Wolf.

 The Government also contends that defendants used fictitious invoices from foreign companies to siphon the illegal profits thus made out of Scientific and Bregman. The invoices came to Scientific and Bregman from several Swiss and Liechtenstein entities, and purported to be for raw materials shipped to the dummy corporations. Scientific and Bregman paid the invoices, allegedly upon instructions from Stone and Rosenbaum. It is undisputed that the checks were negotiated by the Swiss and Liechtenstein entities, and the proceeds were remitted to Swiss bank accounts in which, according to plaintiff, Stone and Rosenbaum purportedly held concealed interests.

 Defendants counter this characterization of the Scientific/Bregman phase by contending that both Scientific and Bregman were formed as bona-fide attempts by Chromcraft to obtain a "second supplier" (in addition to Wolf) of the electrical assemblies needed for the rocket launchers. They allege that neither entity was controlled by Stone or Rosenbaum, except insofar as both companies relied extensively on Chromcraft's business. Moreover, defendants suggest that Scientific's and Bregman's use of Wolf as a vendor of electrical assemblies was known to both Chromcraft and the Navy, and not objected to by either. Wolf was to be the supplier until Scientific and Bregman could become geared up as a second supplier, an event that in the eyes of defendants unfortunately never transpired. Instead, Wolf was the only supplier of assemblies during this period, and it utilized raw materials supplied directly by Chromcraft and on occasion "drop shipped" completed assemblies at Chromcraft's plant, despite working through Scientific and Bregman. Wolf's relationship with Chromcraft was not out of the ordinary, according to defendants, and its contact with Chromcraft did not violate its role as a bona-fide subvendor of Scientific and Bregman.

 As for the siphoning of excess profits to Swiss bank accounts, Stone and Rosenbaum do not dispute the Government's demonstration of the flow of funds but attempt instead to explain that Scientific and Bregman accumulated sizeable bank accounts not because of any excess profits, but because Chromcraft did not bill the companies for raw materials used in the electrical assemblies, materials that Chromcraft supplied to Wolf directly. Scientific and Bregman paid for the raw materials upon receiving invoices from foreign companies, and the monies found their way into Swiss accounts, accounts that defendants allege they did not control and/or use to their own use and benefit.

 B. The Republic Stage

 In late 1965 and early 1966 the "Scientific/Bregman" phase ended with Chromcraft's discontinuance of Bregman as a subcontractor. At about that time, defendants allegedly used Falrock Corporation (hereinafter "Falrock"), a corporation they allegedly controlled, to acquire 62 per cent of the outstanding common stock of Republic Electronics Industries Corporation (hereinafter "Republic"). Republic was an ongoing electronics manufacturer that was in financial difficulty and ripe for a takeover. Falrock's interest in Republic allegedly was financed by funds that had been siphoned off Scientific's and Bregman's fund of excess profits and deposited in a secret Swiss bank account. *fn5"

 Upon acquiring control of Republic, the Government contends, defendants used it in much the same way as they allegedly had used Scientific and Bregman to raise artificially the prices ultimately charged to the Navy for rocket launchers. Specifically, plaintiff alleges that Stone and Rosenbaum caused Chromcraft (and then Alsco) to represent to the Navy that Republic manufactured the launchers' electrical components in their entirety, and sold them to Chromcraft and Alsco at specified prices which were included in the total contract prices which the Navy paid. In fact, however, Chromcraft and Alsco allegedly continued the practice of directly purchasing raw materials and supplying them at no cost to Wolf who remained the undisclosed assembler for virtually all of the electrical components produced during the Republic phase. As in the Scientific/Bregman phase, Republic's prices were substantially higher than the cost of the raw materials plus Wolf's assembly charge. In addition, the Government contends that Republic fabricated invoices and quotation letters for Chromcraft and that Chromcraft in turn submitted false purchase orders to Republic, all hiding the fact that Wolf was the real supplier of the vast majority of electrical assemblies. Republic accordingly accumulated large false profits during this period.

 Defendants deny plaintiff's characterization of Republic's role in the rocket launcher controversy. They contend that after Scientific's and Bregman's failure to become the hoped-for "second supplier" of electrical assemblies, Chromcraft turned to Republic, an established electronics firm. According to defendants, after Falrock's acquisition of Republic (without the use of fraudulently-obtained funds), Chromcraft assisted the company's entrance into the business of assembling the electrical components required by 2.75-inch rocket launchers. With Chromcraft's technical assistance, and through application of the fruits of its research and development efforts, Republic was able to become a reliable, efficient producer of electrical assemblies, a producer that supplanted Wolf as the number one supplier of assemblies. Defendants admit that Wolf continued as a supplier, but that its role was never hidden from Chromcraft or the Navy. Also, defendants do not contest the fact that Chromcraft continued its practice of supplying the raw materials for the assemblies to Republic (and Wolf), a practice that they allege is not uncommon in the industry. Finally, defendants contend that Republic's increasingly stable financial position during this phase was not due to excess profits, but to Chromcraft's commitment to making them a reliable second supplier of needed electrical assemblies.

 C. The Western Molded Stage

 Western Molded Fibre Products, Inc. (hereinafter "Western Molded") was a Chromcraft subcontractor that manufactured the "fairings" (nose cone and fins) for Chromcraft's rocket launchers. According to plaintiff, Stone induced Western's president, in 1963, to increase the price of fairings by a designated amount per set and to accrue the amount on Western's books in order to pay kickbacks to himself and Rosenbaum. The fairing prices were increased, Chromcraft paid the increase, and Stone and Rosenbaum allegedly caused Chromcraft to certify to the Navy that the increased price represented a legitimate cost of the fairings. The Navy, by paying the contract price to Chromcraft, financed the kickbacks.

 Plaintiff also contends that Western accumulated a large surplus as a result of accruing the kickback payments on its books. Stone and Rosenbaum purportedly eliminated this surplus by causing a stream of fictitious invoices from five Swiss and Liechtenstein entities to be sent to Western for phenolformaldehyde or electrical parts which were not to be, and were not in fact, delivered to Western. For its part, Western paid the fictitious foreign invoices and, following negotiation of Western's checks in Switzerland, the proceeds allegedly were remitted to Stone's and Rosenbaum's Swiss bank accounts.

 Defendants again dispute plaintiff's interpretation of their conduct. They admit that Western Molded increased the prices of its fairings, but the increase was not a kickback. Instead, they suggest that the differential in price was payment for the increased cost of producing the new, grenade-type fairings, and also partial payment for Chromcraft's developmental cost in designing the new fairings and rocket launchers. Stone and Rosenbaum contend that the president of Western Molded recognized his company's responsibility to reimburse Chromcraft for its developmental costs, but the president decided to do so through the use of false invoices for nonexistent materials because his company could not "justify" the expenditures publicly in view of its own research and development budget.

 III. PRELIMINARY MOTIONS

 Defendants have moved to dismiss Claims Two, Three and Five of the First Amended Complaints because of the lack of an indispensable party under Rule 19(b) of the Federal Rules of Civil Procedure. Plaintiff does not oppose the dismissal of the Second Claim, and it accordingly is dismissed.

  The third Claim alleges the defendants are liable to plaintiff under the doctrine of recoupment of public funds paid by mistake. Under that common law theory, the Government can "recover funds which its agents have wrongfully, erroneously, or illegally paid." United States v. Wurts, 303 U.S. 414, 58 S. Ct. 637, 82 L. Ed. 932 (1938). The standard is that "if the Government made these payments under an erroneous belief which was material to the decision to pay, it is entitled to recover the payments." United States v. Mead, 426 F.2d 118, 124 (9th Cir. 1970).

 Defendants contend that, even assuming the doctrine's application in this case, the plaintiff's failure to join Chromcraft and Alsco requires the Court to dismiss the claim under Rule 19(b) because Chromcraft and Alsco are indispensable parties. According to defendants, Chromcraft and Alsco are needed "not only to show such matters as payment and the alleged mistake, but to prevent Chromcraft/Alsco, which has reserved its rights in this matter against Stone, from instituting an action to recover funds from Stone after the adjudication of this case." See Consolidated Response of Defendant Stone to Motion for Summary Judgment at 75 (March 5, 1979).

 Defendants' motion is without merit. Rule 19(b) requires the Court to determine whether "in equity and good conscience" the action should proceed despite the absence of a party, or whether the suit must be dismissed because the absent party is indispensable. In considering indispensability, the Court should consider the following factors:

 
(First), to what extent a judgment rendered in the person's absence might be prejudicial to him or those already parties; second, the extent to which, by protective provisions in the judgment, by the shaping of relief, or other measures, the prejudice can be lessened or avoided; third, whether a judgment rendered in the person's absence will be adequate; fourth, whether the plaintiff will have an adequate remedy if the action is dismissed for nonjoinder. F.R.Civ.P. 19(b).

 Applying these factors to the case at hand, the Court finds that Harvard Industries, the corporate successor to Chromcraft and Alsco, is not an indispensable party to the third Claim of the Amended Complaints. Any judgment rendered against Stone and Rosenbaum under this claim would not be prejudicial to Harvard it already has settled with defendants and with the United States and forsaken the claims it once asserted in this litigation. See Order and Judgment (November 13, 1976). Defendants contend that they will be prejudiced by Harvard's absence, but their prejudice is not a factor relevant to Rule 19(b) and, moreover, they will not be prejudiced because Harvard has abandoned any recourse it might have against them. See id. P 3. As for defendants' argument that Harvard is needed in order to prove the alleged mistake, that duty rests upon plaintiff Harvard need not participate.

 Defendants similarly contend that the Fifth Claim of the Amended Complaints should be dismissed for failure to join an indispensable party. Once again defendants fail to persuade the Court. Under the Fifth Claim, plaintiff requests that a constructive trust be put on certain assets that allegedly represent the fruits of defendants' fraudulent scheme. *fn6" Defendants argue that the Falrock Corporation must be a party to this Claim because its assets are implicated by plaintiff's charge. *fn7" They suggest that because Falrock's right of ownership of certain of its assets are at issue, it necessarily must be a party to this Fifth Claim.

 
7. Defendants herein having adopted any and all defenses, of whatever nature, which are or which could be interposed by the defendants in Alsco-Harvard, and having agreed to be bound by the terms of any final judgment entered in Alsco-Harvard, the entry of a final judgment on the Fifth Claim of plaintiff's First Amended Complaint in Alsco-Harvard shall in all respects adjudicate the rights and liabilities of defendants herein with respect to the aforesaid stock of Heath Tecna Corporation.

 Thus Falrock has abandoned any claims it might have against defendants insofar as those claims would arise from disposition of this Fifth Claim for a constructive trust. It therefore cannot be prejudiced by this litigation in any legally meaningful manner, and its absence also does not affect the enforceability of a constructive trust should one be placed upon its assets.

 In refusing to dismiss plaintiff's Fifth Claim for failure to join an indispensable party, the Court does not express, of course, any opinion about the ultimate disposition of that claim.

 Finally, on June 5, 1981 Rosenbaum filed a motion to dismiss in which he alleges inter alia that this action should be dismissed for failure to prosecute pursuant to Rule 41(b) of the Federal Rules of Civil Procedure. Rosenbaum alleges that "plaintiff has done nothing to prove the claim it has asserted against defendants, other than to take depositions which were substantially completed by 1973." Memorandum in Support of Motion to Dismiss at 3. In fact, however, plaintiff has filed a detailed motion for summary judgment and has opposed any stay in the proceedings. The facts of the case do not in any way warrant the "drastic step" of dismissal for failure to prosecute suggested by Rosenbaum. Jackson v. Washington Monthly Co., 186 U.S. App. D.C. 288, 569 F.2d 119, 123 (D.C.Cir.1977).

 IV. THE MOTION FOR SUMMARY JUDGMENT

 A. Threshold Questions

 Defendant Stone opposes plaintiff's motion for summary judgment because, inter alia, plaintiff allegedly violated his constitutional rights, because plaintiff's motion does not conform to Rule 56, and because defendant has been unable to present all the affidavits and evidence to which he is entitled. None of these contentions have merit.

 Defendant Stone's due process complaints concern alleged interference with his parole by plaintiff and alleged interference with his legal defense by the Internal Revenue Service's attachment of funds designated for his legal fees, and by the Government's decision to depose him while in jail. Defendant Rosenbaum voices similar due process complaints, contending that the harshness of his confinement deprived him of funds and prevented him from vigorously defending this case. *fn8" He complains, for example, that his lack of funds has prevented him from taking any discovery that would help him oppose the motion for summary judgment now before the Court. Rosenbaum also reminds the Court that a ...


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