Rolf v. Blyth Eastman Dillon & Co., Inc.

• Citation: 424 F. Supp. 1021
• Decision Date: 17 January 1977
• Docket Number: No. 73 Civ. 2967.,73 Civ. 2967.
• Parties: David E. ROLF, Plaintiff, v. BLYTH EASTMAN DILLON & CO., INC., et al., Defendants.
• Court: United States District Courts. 2nd Circuit. United States District Courts. 2nd Circuit. Southern District of New York

424 F. Supp. 1021

David E. ROLF, Plaintiff, v. BLYTH EASTMAN DILLON & CO., INC., et al., Defendants.

No. 73 Civ. 2967.

United States District Court, S. D. New York.

January 17, 1977.

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Sidney B. Silverman, Silverman & Harnes, New York City, for plaintiff.

Thomas W. Kelly, Richard W. Lyon, Breed, Abbott & Morgan, New York City, for defendants Blyth Eastman Dillon Co. and Michael Stott.

Barry A. Tessler, New York City, for defendant Akiyoshi Yamada.

PIERCE, District Judge.

OPINION AND ORDER

This securities action brought by plaintiff David E. Rolf presents important questions concerning the duties and responsibilities of a broker dealer and its registered representative under circumstances in which their customer is being defrauded by his investment adviser. Unlike the usual case brought under the federal securities laws, here it is clear that fraud and breach of fiduciary duty are present. The key questions in this case are whether the broker aided or participated in the fraud, and whether the broker and his employer took adequate steps to protect their customer against the investment adviser who traded plaintiff's account pursuant to a power of attorney.

The matter was tried before the Court without a jury for nine days in June and July 1976. The allegations of the complaint are as follows.

Plaintiff David Rolf's complaint seeks to hold defendants liable in damages for alleged violations of Section 10(b) of the Securities Exchange Act of 1934, and Rule 10b-5 promulgated thereunder, which prohibits securities fraud by any person through the instrumentalities of interstate commerce or of any facility of any national securities exchange. Also claimed are violations of Section 15(c)(1) of the Exchange Act, and Rule 15cl-2, which similarly prohibit securities fraud by broker dealers in the over-the-counter markets. Plaintiff also alleges violations of Section 15A of the Exchange Act, dealing with registration and regulation of broker dealer associations, and of Article III, Section 2 of the Rules of Fair Practice adopted by the National Association of Securities Dealers, Inc. ("NASD") promulgated thereunder, the latter requiring suitability of securities recommended by brokers for investors. Finally, plaintiff asserts violations of Rule 405(1) and (2) of the New York Stock Exchange ("NYSE"), which require due diligence and diligent supervision in the management of securities accounts handled by registered representatives.

This Court has jurisdiction over this action brought to enforce liabilities and duties created under the Exchange Act and by the rules and regulations promulgated thereunder pursuant to 15 U.S.C. § 78aa.

In brief, plaintiff claims that the defendants churned his account, that they severely altered the nature of his securities portfolio by placing unsuitable securities therein, that they failed to properly supervise his account, and that they aided and abetted each other in these alleged violations. In sum, plaintiff claims that the defendants took an account worth $1,423,000 in May of 1969 and returned to him in January of 1971 an account worth only $225,000 as a result of their fraud. For damages, plaintiff seeks, inter alia, a return of commissions and interest; an award equal to the net trading losses claimed; and, although the complaint states no cause of action under state law, punitive damages of one million dollars.

At the trial of this action, plaintiff abandoned all claims made against his investment adviser, defendant Akiyoshi Yamada, in exchange for Yamada's testimony against the remaining defendants (see PX-19). Defendants Blyth Eastman Dillon & Co. ("BEDCO") and its registered representative Michael Stott assert that they are not liable because plaintiff has not proved his claims, because Yamada and not the other defendants controlled plaintiff's account, and because they breached no duty owed to the plaintiff. In their answer defendants BEDCO and Stott assert cross-claims against Yamada for indemnity.

Having heard all the evidence and having considered the matter, the Court dismisses plaintiff's churning claim, but finds defendants BEDCO and Stott liable for violations of the NYSE and NASD rules, which violations involved breach of defendants' fiduciary duties tantamount to fraud. The Court also finds defendant Stott liable for aiding and abetting Yamada in the fraud which the investment adviser perpetrated upon plaintiff in violation of Rule 10b-5 and through breach of his own fiduciary duties. The following shall constitute the Court's findings of fact and conclusions of law pursuant to Rule 52(a) Fed.R.Civ.P.

The Parties

Plaintiff David E. Rolf is a physician, surgeon and ophthalmologist residing in Shaker Heights, Ohio. Dr. Rolf has practiced medicine since 1936, and at the time of trial he was sixty-eight years old. Rolf began investing his earnings in the stock market in 1950, and by 1962 his portfolio was worth approximately $400,000. Plaintiff testified that he works long hours at the hospital, and that he is on twenty-four hour call. During the period 1950 through 1962, plaintiff retained several different Cleveland brokers, switching firms often because he felt that the brokers were not sufficiently knowledgeable and that they did not have his interests at heart. During this period plaintiff maintained non-discretionary accounts, making his own decisions with respect to transactions in securities. Rolf was an active follower of the stock market, primarily through the Wall Street Journal. Prior to his first contact with BEDCO in 1963, plaintiff had maintained accounts at Merrill Lynch, Pierce, Fenner & Smith, Inc., Paine Webber & Co., Hartzmark & Co., Prescott & Co., Bache & Co., and finally, at Walston & Co. where Rolf first engaged an investment adviser with discretionary authority over his securities. Rolf stated that during this period his investment objective was capital growth first and security second. Plaintiff testified that he switched to discretionary accounts in 1962 because he was too busy with medicine to be in constant consultation with brokers, and because he felt his portfolio was too large for him to handle.

In 1963, plaintiff took his securities to Eastman Dillon Union Securities & Co., and entrusted their management to S. Logan Stirling, a partner and a prominent investment adviser associated with that firm and with defendant BEDCO, the successor corporation to Eastman Dillon Union Securities & Co. BEDCO was at all relevant times a registered broker dealer and a member of the New York Stock Exchange and the National Association of Securities Dealers. During the relevant period, BEDCO engaged in corporate and municipal underwritings, maintained a large research department, and employed a substantial retail sales force. BEDCO dealt in listed and over-the-counter securities for individual clients and as a market-maker (Tr. 1005).

While Dr. Rolf did not come into contact with BEDCO's Michael Stott until 1969, Stott had been a registered representative with that firm since 1958, and in 1963 Stott was branch manager of BEDCO's Paterson, New Jersey, office. Later Stott became branch manager of BEDCO's Newark office; at each branch office one of his primary responsibilities was supervision of the registered representatives (Tr. 757). In the fall of 1967 Stott returned to BEDCO's New York office as a registered representative. By 1969, Stott was handling approximately 150 individual and institutional accounts at BEDCO, earning one-third of all commissions on the securities he traded (Tr. 914-15). That year Stott first met a young and ambitious investment adviser Akiyoshi Yamada.

Yamada, the son of a wealthy Japanese industrialist, had attended Harvard Business School for one year prior to 1965 when he joined the investment banking firm of Kuhn Loeb & Co. (Tr. 557). Yamada described Kuhn Loeb as a conservative and prestigious firm which generally handled "triple-A" clients (Tr. 509). At Kuhn Loeb, Yamada eventually became an officer of the firm purportedly with expertise in research and "special situations". In 1969, at the age of 26, Yamada left Kuhn Loeb to form an investment partnership; during the period of the complaint he was not associated with any research firm or brokerage house (Tr. 558).

Yamada was described at trial by John P. Cione, BEDCO's chief compliance officer, as one of a "new breed" of young money-managers who emerged as highly successful in the stock market during 1969 and 1970. Yamada was committed to "special situations" and was one of a number of young advisers who were making mutual funds, hedge funds, and assorted speculative ventures very profitable (Tr. 1111). During the period of the complaint Yamada was handling six sizeable portfolios, three institutional and three individual, of which Dr. Rolf's was the largest individual account. Yamada traded plaintiff's stocks on a discretionary basis from April 1969 through January 1971 (Tr. 1041-42).

In 1972, defendant Yamada was enjoined by the Securities and Exchange Commission from engaging in fraudulent and manipulative practices in connection with the purchase and sale of securities. On December 21, 1972, at the age of thirty, Yamada pleaded guilty before Judge Irving Ben Cooper of this Court to a criminal conspiracy to violate the federal securities laws as set forth in Count One of Indictment 72 Cr. 363, in connection with the sale of Lady Goldie Bracelet Co. securities. On May 18, 1973, Yamada pleaded guilty to two further violations of 18 U.S.C. § 371 set forth in criminal informations 73 Cr. 426 and 73 Cr. 427, in connection with a securities fraud involving Microthermal Applications, Inc., and a manipulation of Health Evaluation Systems, Inc., the stock of the latter being one involved in this action. On June 26, 1973, Judge Cooper sentenced Yamada to two years in prison, five years on probation, and fined...