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Bradford-White Corp. v. Ernst & Whinney

argued: March 14, 1989.


On Appeal from the United States District Court for the Eastern District of Pennsylvania (District Court No. 83-3371).

Author: Greenberg


GREENBERG, Circuit Judge

This is a securities law case under section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b) and Rule 10b-5 promulgated thereunder by the Securities and Exchange Commission, 17 C.F.R. § 240.10b-5, in which Bradford-White Corporation, the buyer of the stock of W.L. Jackson Manufacturing Co., is suing Ernst & Whinney, the accounting firm that prepared the financial statements for Jackson on which Bradford-White relied in purchasing the stock. Following a jury trial on the federal securities law claim and pendent Tennessee state law claims for common law fraud, malpractice and negligent misrepresentation, the district court sent the case to the jury on a set of special interrogatories. The court then molded a verdict in accordance with the jury's answers and entered judgment in favor of Bradford-White for $1,242,151 on July 25, 1986. The judgment does not indicate whether the recovery was predicated on a federal or state cause of action, or both.

In post-trial motions to amend the judgment or for a judgment notwithstanding the verdict, or, in the alternative, for a new trial, Ernst & Whinney contended that the jury's answers to the special interrogatories were irreconcilable. It also urged, relying on the decision in Friedlander v. Troutman, Sanders, Lockerman & Ashmore, 788 F.2d 1500 (11th Cir. 1986), decided May 9, 1986, that the securities law claim was barred by the statute of limitations. The court agreed that the answers were irreconcilable and, by order of August 25, 1987, amended the judgment on the state law claims for no cause of action in favor of Ernst & Whinney. Further, the court vacated the judgment on the federal securities law claim and ordered a new trial limited to that claim. However, it denied Ernst & Whinney's motion to amend the judgment on the securities law claim or to grant it a judgment notwithstanding the verdict in its favor on that claim.

The court in its opinion of August 25, 1987, rejected Ernst & Whinney's statute of limitations argument, observing that "[Ernst & Whinney] now argues for the first time that [Bradford-White's] 10b-5 claim is barred by the applicable statute of limitations." It noted that the Friedlander decision was not controlling law and that it had been reported more than a month prior to the trial. Consequently, it found that "[Ernst & Whinney] presents a new issue, not raised at trial, premised on a noncontrolling decision which was reported prior to trial." Thus, the court concluded that "the statute of limitations issue is not preserved and is deemed to have been waived." Bradford-White moved for partial reconsideration of the order of August 25, 1987, but its motion was denied by order of November 24, 1987.

Following the disposition of these motions we delivered our in banc opinion in In re: Data Access Systems Securities Litigation, 843 F.2d 1537 (3d Cir.), cert. denied 488 U.S. 849, 109 S. Ct. 131, 102 L. Ed. 2d 103 (1988), and a panel decision in Hill v. Equitable Trust Co., 851 F.2d 691 (3d Cir. 1988), cert. denied, 488 U.S. 1008, 109 S. Ct. 791, 102 L. Ed. 2d 782 (1989). Data Access made clear that the statute of limitations in section 10(b) and Rule 10b-5 cases is the shorter of one year after the plaintiff discovers the facts constituting the violation or three years after the violation. In Hill we held that this limitations period, though shorter than that previously applied by this court, could be applied retroactively, at least in some circumstances. Thereafter, Ernst & Whinney moved for summary judgment on the securities law claim, contending that the statute of limitations barred the action. The district court granted this motion by order of September 12, 1988, thus terminating all proceedings in that court.*fn1 699 F. Supp. 1085 (E.D. Pa. 1988). Bradford-White then appealed from the orders of August 25, 1987, November 24, 1987, and September 12, 1988. Ernst & Whinney filed a protective cross-appeal from the order of August 25, 1987, insofar as that order denied its motions for amendment of the judgment on the securities law claim or for entry of a judgment notwithstanding the verdict on that claim in its favor.

We have appellate jurisdiction under 28 U.S.C. § 1291. The district court had jurisdiction under both 28 U.S.C. § 1331 and 15 U.S.C. § 78aa.

Inasmuch as we find that the jury's answers to the special interrogatories are reconcilable, we hold that the court erred in ordering a new trial on the securities law claim. Moreover, we find that Ernst & Whinney waived its affirmative defense under the statute of limitations by failing to raise it at the trial. Consequently, we will reverse and remand this case so that the judgment of July 25, 1986, may be reinstated as to the securities law claim. We thus do not review the judgment in favor of Ernst & Whinney on the state law claims as Bradford-White concedes that a judgment in its favor under the securities law claim gives it all the relief to which it is entitled. Accordingly, the balance of Bradford-White's appeal is moot. Finally, we will affirm the district court on the matters raised in Ernst & Whinney's cross-appeal.


At the time of the events leading to this action, the W.L. Jackson Manufacturing Co., was in the business of manufacturing home water heaters. In the early 1970's Jackson engaged Ernst & Whinney, a national accounting firm, to act as its independent auditor. Ernst & Whinney continued to serve in this capacity through a period including the transactions forming the basis of this action. In April 1981, Ernst & Whinney issued its opinion on Jackson's consolidated financial statements predicated on records through December 31, 1980. The April 1981, opinion stated that:

our examinations were made in accordance with generally accepted auditing standards and, accordingly, included such tests of the accounting records and such other auditing procedures as we considered necessary in the circumstances.

Ernst & Whinney's formal opinion also stated that, subject to certain exceptions and qualifications, the consolidated financial statements fairly presented Jackson's financial position "in conformity with generally accepted accounting principles applied on a consistent basis." On the basis of Jackson's December 1980, financial statements, as audited and certified by Ernst & Whinney, its net worth was $1,793,203.00.

In mid-June 1981, Bradford-White, which also manufactured home water heaters, began negotiating for the purchase of Jackson and at that time first saw Jackson's December 31, 1980, financial statements. The financial statements disclosed that Jackson was financially troubled; indeed, Bradford-White acknowledges in its brief that it knew "it was purchasing a troubled company." Bradford-White maintains that the information indicated that these problems were attributable to "a working capital problem due to inefficiency and improper management." As the district court explained in its August 25, 1987, opinion, Citicorp, Jackson's chief lender, imposed time restrictions such that the acquisition had to be completed by June 22, 1981.

On June 21, 1981, Bradford-White concluded a Stock Purchase Agreement dated June 20, 1981, with Jackson's individual stockholders for the purchase of substantially all of its stock. The Agreement provided that the purchase price was to be determined on the basis of Jackson's June 30, 1981, net worth with a minimum purchase price and that Ernst & Whinney would again serve as the auditor of Jackson's financial statements.

Following the consummation of this Agreement, Ernst & Whinney conducted an audit of Jackson during which the extent of its financial problems became known. Bradford-White asserts that it became aware that Jackson had deeper and more significant financial problems than Bradford-White could reasonably have anticipated and that these problems had existed for some time but had been concealed in the certified financial statements. Ernst & Whinney's June 1981, audit concluded that Jackson's net worth was negative $3,606,647.00. Based on this decrease in net worth of over $5,300,000 in less than six months, Bradford-White contends that "it found itself in possession of an asset- depleted, liability-ridden company on the verge of bankruptcy." Bradford-White in its brief blames Ernst & Whinney for this situation contending that "the false and misleading financial statements for the year-end December 1980 had masked the true state of the Jackson Co.'s financial condition." Ultimately, Jackson went through bankruptcy proceedings. In view of Jackson's negative net worth, Bradford-White became liable under the Stock Purchase Agreement only for the floor price of the stock.*fn2

As a result of the Ernst & Whinney reports, on July 14, 1983, Bradford-White filed the complaint in this action against Ernst & Whinney in the United States District Court for the Eastern District of Pennsylvania. On September 7, 1983, Ernst & Whinney filed its answer which included an affirmative defense that "plaintiff's claim is barred in whole or in part by the applicable statute or statutes of limitations and by the doctrine of laches."*fn3 Ernst & Whinney did not, however, indicate what it conceived was the "applicable" statute of limitations.

Following a thirteen day trial in July 1986, the district court submitted the case to the jury on eleven special interrogatories. Due to the importance of the exact wording of the special interrogatories and the jury's answers, we quote them in full:

1. Do you find by a preponderance of the evidence that Defendant Ernst & Whinney, in connection with its audit or opinion concerning the December 31, 1980 consolidated financial statements of the W.L. Jackson Manufacturing Company, made a material misrepresentation or a material omission with respect to any of the following:

(a) Inventory [Yes]

(b) Accounts Receivable [No]

(c) Product Warranty ...

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