Carras v. Burns

• Decision Date: 06 May 1975
• Docket Number: No. 74-1224,74-1224
• Citation: 516 F.2d 251
• Parties: Helen C. CARRAS and Bill G. Carras, Co-Executors of the Estate of Gus N. Carras, Deceased, Appellants, v. James S. BURNS, Jr., et al., Appellees.
• Court: U.S. Court of Appeals — Fourth Circuit

Page 251

516 F.2d 251

Helen C. CARRAS and Bill G. Carras, Co-Executors of the Estate of Gus N. Carras, Deceased, Appellants, v. James S. BURNS, Jr., et al., Appellees.

No. 74-1224.

United States Court of Appeals Fourth Circuit.

Argued Dec. 3, 1974.

Decided May 6, 1975.

W. Faison Barnes, Charlotte, N. C. (Anne King and Barnes, Junker & King, Charlotte, N. C., on brief), for appellants.

A. Ward McKeithen, Charlotte, N. C. (William T. Graves, Fleming, Robinson & Bradshaw, Charlotte, N. C., on brief), for appellees.

Before BOREMAN, Senior Circuit Judge, BUTZNER, Circuit Judge, and THOMSEN, Senior District Judge.

BUTZNER, Circuit Judge:

Bill and Helen Carras, executors of their father's estate, appeal from a judgment in their favor for $56,000 in a suit they brought against Merrill Lynch, Pierce, Fenner & Smith and two of its employees to recover compensatory and punitive damages for losses to a margined securities account. Their claim has five elements: (1) violation of § 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5; (2) churning; (3) pendant charges of fraud and breach of fiduciary duty under state law; (4) violations of margin maintenance and "know your customer" rules of the New York and American Stock Exchanges and Merrill Lynch's house rules; and (5) usury. The district court denied a motion to amend the usury claim, dismissed the claim based on state law and margin maintenance rules, and submitted the other issues to the jury on a special verdict. The jury, however, returned what the district court considered to be a general verdict awarding the executors $56,000, on which the court entered judgment.

Neither the brokerage firm nor its employees appealed, but the executors have assigned numerous errors to the court's charge and the interrogatories of the special verdict. We find many of these assignments to be without merit; nevertheless, the few errors that did occur will require a new trial. In accordance with the recommendation of the district judge, who perceived some of the problems as he attempted to reconcile the jury's verdict, retrial should be on all the submissible issues.

I

Gus Carras died on August 4, 1969, leaving half of his estate to his wife and dividing the remainder equally among his six children. The estate's principal asset was a margin account with Merrill Lynch. Mr. Carras had been an active investor who preferred to take substantial positions in a small number of growth stocks and hold them for long term gain. He minimized the use of his own capital by leveraging ¹ heavily and always meeting margin calls by sales. Reflecting this policy, the account held positions at his death in eight securities, half of which were in electronics and computer companies. It owed Merrill Lynch $553,362, borrowed under the firm's standard margin agreement. Since the market value of its holdings was $1,083,282, the account showed a net equity of $529,920.

Bill and Helen Carras, two of the children, were appointed executors with complete discretionary power to manage the assets of the estate, including the power to "invest and reinvest in stocks . . . as (they) shall deem advisable, though such investments are not of the character approved by statutory law for the investment of such funds and without the duty to diversify investments." They were also authorized to employ attorneys and agents. Bill Carras, whose experience had been chiefly in the restaurant and real estate businesses, had kept a margin account with Merrill Lynch in his own name for ten years. Although he claimed that his father controlled the account, he followed stock prices in general and the state of his own account in particular. After his father's death, Bill continued trading, sometimes buying stocks that were later bought by the estate. Helen Carras also held a margin account, but her father had controlled it. Her knowledge of the stock market was very limited, and she never bought or sold shares on her own.

Two weeks after their father's death, the Carras children met with James S. Burns, the Merrill Lynch account executive who had dealt with Gus Carras since 1956. The meeting proved in retrospect to be the most important event of the case, and what took place is sharply disputed. The executors maintain that Burns told them that a lawyer was unnecessary; that a fee which a lawyer had quoted to them was excessive; that if they needed legal assistance they could call on Merrill Lynch's attorneys in New York; that he had talked with the assistant clerk of court before the meeting and she had outlined for him the steps they must follow to administer the estate; that he showed them a paper listing the account and the various steps necessary to administer the estate; that he himself had settled his father's estate with a certified public accountant's assistance that he had already talked to the accountant about the Carras estate and had made an appointment with him for the executors to discuss the tax aspects of the estate; that he would advise the executors about the stock account; and that he hoped they would place the same confidence in him as their father had.

Burns denied the statements attributed to him by the executors. He testified that Helen Carras initiated the meeting; that he told the children their father had accumulated the stocks in his account by exercising his independent judgment without relying on any broker's advice; that he advised them to get an attorney and an accountant; that the list of steps he had outlined was for transferring the account from the decedent to the executors, not for administering the estate; that the executors decided to maintain the margin account without a recommendation from him; and that several times after the meeting he urged them to reduce the margin debt.

In any event, the family decided to keep the account and not to hire a lawyer. The executors submitted proof of their qualification to Merrill Lynch, the account was transferred to their names, and trading was resumed. Bill, who regularly conferred with Burns, approved all transactions. The executors received confirmation slips for every trade and monthly statements of the account. They consulted one another and other members of the family before making major decisions, but most transactions were handled by Bill and Burns. The executors claim Burns recommended speculative stocks. Burns, though, denied making any recommendations and testified that Bill selected the stocks, often against his advice.

Between August 1969 and April 1970, the account was nearly inactive, but it declined with the general market, its net asset value dropping below $200,000. On April 21, 1970, the estate sold its largest holding, 10,600 shares of Magnavox which had declined more than 25 percent since September. None of the proceeds were applied to the margin debt of approximately $572,000. Instead, the estate bought 10,500 shares of American Broadcasting and smaller holdings in two electronics companies.

By late April, the continuing decline of the market reduced the account's margin below the 30 percent equity required by Merrill Lynch and the 25 percent required by the New York Stock Exchange. Merrill Lynch, however, did not issue a maintenance call until May 5, when it requested $65,000. As the market continued to decline, further calls were made on May 11, 20, and 26 for an additional $40,000. Since the estate had neither cash nor unpledged stock, the calls were met by selling from the account. Most of the account was liquidated, and the excess proceeds from the sales were invested in utility stocks, leaving the account with a net asset value of $70,000. All of the trading in May, aggregating 54 transactions, was to meet margin calls or purchase utility shares.

Trading in the account changed drastically in June and early July. The utility stocks were replaced by more volatile, speculative shares which were sometimes held only two or three days. In the middle of June, William A. Hart, supervisor of the Charlotte office, wrote the executors, observing that they might be overtrading and suggesting that a less active and more cautious approach to the market might ultimately be in their best interest. During June and the only two days the account was traded in July, there were 108 transactions, many involving in and out trades of the same stocks. The turnover of the account from May 29 to June 26, based on total investment, was 1.13 and on net equity, 3.96. ² From June 26 to July 8, it was 1.37 based on total investment and 5.02 based on net equity. In June alone, the commissions and service charges for Merrill Lynch were in excess of $9,000, approximately one-third of the fees earned during the fourteen-month life of the estate account.

Trading abated in the latter part of July, and the account was closed in October 1970 with a net credit balance of approximately $14,000. During the fourteen months following Mr. Carras' death, there were 194 trades involving 104,443 shares having a volume of $2,888,480.03 and generating brokerage commissions and service charges of $27,183.57. The estate claimed a net loss of $547,214.22.

II

The district court submitted to the jury the question of the brokers' liability for employing fraudulent devices, misrepresentations, and concealment, in violation of § 10(b) and Rule 10b-5. The jury found that Burns had engaged in these unlawful practices, but the court conditioned liability on proof of the brokers' intention to defraud or damage the estate and on the executors' reliance on the brokers' conduct. The jury found no fraudulent intent and, following the court's instructions, it did not reach the issue of reliance.

Although there has been much discussion of the mental state required for liability, the courts agree that § 10(b) ³ and Rule 10b-5 ⁴ have eliminated the need to prove common law intent to defraud. It is sufficient if the defendant "knew the statement was misleading or knew of...