Holmes v. Grubman

• Decision Date: 15 March 2010
• Docket Number: No. S09Q1585.,S09Q1585.
• Citation: 691 S.E.2d 196
• Parties: HOLMES et al. v. GRUBMAN et al.
• Court: Georgia Supreme Court

691 S.E.2d 196

HOLMES et al. v. GRUBMAN et al.

No. S09Q1585.

Supreme Court of Georgia.

February 8, 2010.

Reconsideration Denied March 15, 2010.

Burton & Armstrong, Joseph J. Burton, Jr., Rosemary S. Armstrong, Atlanta, for appellant.

Rogers & Hardin, C.B. Rogers, Brett A. Rogers, Richard H. Sinkfield, Atlanta, for appellee.

Cohen, Goldstein, Port & Gottlieb, Robert C. Port, Parker, Hudson, Rainer & Dobbs, David G. Russell, Atlanta, amici curiae.

CARLEY, Presiding Justice.

As of June 1999, Appellants William K. Holmes and four entities controlled by him owned 2.1 million shares in WorldCom, Inc., the major telecommunications company which went bankrupt after the revelation of massive accounting fraud in 2002. In this suit against Appellees Citigroup Global Markets, Inc., f/k/a Salomon Smith Barney & Co., Inc. (SSB), and its financial analyst, Jack Grubman, Appellants allege that, on June 25, 1999, Holmes verbally ordered his broker at SSB to sell all of Appellants' WorldCom stock, which was then being traded at approximately $92 per share. Appellants further allege that the SSB broker convinced Holmes not to sell, based on recent research reports by Grubman and on his reputation, and that Appellees were operating under a conflict of interest, knowing that WorldCom stock was grossly overvalued, but nevertheless promoting it in order to retain WorldCom's lucrative investment banking business. Instead of selling, Holmes purchased additional shares as the stock price declined. In October 2000, Appellants were forced to sell all of their WorldCom shares in order to meet margin calls, resulting in alleged losses of nearly $200 million.

Appellants filed for bankruptcy and, in 2003, brought this action for damages under Georgia law in the United States Bankruptcy Court for the Middle District of Georgia. The case was transferred to the United States District Court for the Southern District of New York and consolidated for pre-trial purposes with the multi-district WorldCom Securities Litigation. Appellants' third amended complaint includes claims of fraud, negligent misrepresentation, negligence in making disclosures, and breach of fiduciary duty. The district court dismissed that complaint for failure to state a claim upon which relief can be granted. Holmes v. Grubman (In re WorldCom, Inc. Securities Litigation), 456 F.Supp.2d 508 (S.D.N.Y.2006). On appeal, the United States Court of Appeals for the Second Circuit certified the following three questions to this court:

I. Does Georgia common law recognize fraud claims based on forbearance in the sale of publicly traded securities?

II. With respect to a tort claim based on misrepresentations or omissions concerning publicly traded securities, is proximate cause adequately pleaded under Georgia law when a plaintiff alleges that his injury was a reasonably foreseeable result of defendant's false or misleading statements but does not allege that the truth concealed by the defendant entered the market place, thereby precipitating a drop in the price of the security?

III. Under Georgia law, does a brokerage firm owe a fiduciary duty to the holder of a non-discretionary account?

Holmes v. Grubman, 568 F.3d 329, 340-341(D) (2nd Cir.2009).

1. The claims to which the first question refers are often called "holder" claims. Although this Court has never specifically addressed such claims, it is well settled that one of the elements of the tort of fraud in Georgia is an "`intention to induce the plaintiff to act or refrain from acting....' Cit." (Emphasis supplied.) Stiefel v. Schick, 260 Ga. 638, 639(1), 398 S.E.2d 194 (1990). See also Charles R. Adams III, Ga. Law of Torts § 32-1, p. 659 (2008-2009 ed.). This language is consistent with the Restatement (Second) of Torts § 525 (1977) and the general rule that "induced forbearance can be the basis for tort liability. (Cits.)" Small v. Fritz Cos., 30 Cal.4th 167, 132 Cal. Rptr.2d 490, 65 P.3d 1255, 1259(II) (2003). See also Rogers v. Cisco Systems, 268 F.Supp.2d 1305, 1313(II)(B)(2) (N.D.Fla. 2003); Gutman v. Howard Savings Bank, 748 F.Supp. 254, 262(II)(B)(1), 264(II)(B)(2) (D.N.J.1990).

The public policy underlying the actionability of fraud exists regardless of whether plaintiff is induced to act or refrain from action. Lies which deceive and injure do not become innocent merely because the deceived continue to do something rather than begin to do something else. Inducement is the substance of reliance; the form of reliance — action or inaction — is not critical to the actionability of fraud.

Gutman v. Howard Savings Bank, supra at 264(II)(B)(2).

The Supreme Court of the United States has held that only actual purchasers or sellers of securities can make a claim pursuant to Rule 10b-5, promulgated by the Securities and Exchange Commission under § 10(b) of the Securities Exchange Act of 1934. Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 730-731(II), 749(III), 95 S.Ct. 1917, 44 L.Ed.2d 539 (1975). However, that Court also noted that one disadvantage of its holding "is attenuated to the extent that remedies are available to nonpurchasers and nonsellers under state law. Cits." Blue Chip Stamps v. Manor Drug Stores, supra at 738(III) fn. 9, 95 S.Ct. 1917. Indeed, the Supreme Court recognized that it has "long been established in the ordinary case of deceit that a misrepresentation which leads to a refusal to purchase or to sell is actionable in just the same way as a misrepresentation which leads to the consummation of a purchase or sale. Cit." Blue Chip Stamps v. Manor Drug Stores, supra at 744(III), 95 S.Ct. 1917. Compare Merrill Lynch, Pierce, Fenner & Smith v. Dabit, 547 U.S. 71, 87(IV), 126 S.Ct. 1503, 164 L.Ed.2d 179 (2006) (Securities Litigation Uniform Standards Act preempts state-law holder class-action claims).

Furthermore, although Appellees "are immune from 10b-5 liability, they should not be immunized from common law liability merely because their alleged fraud occurred in the securities market rather than the real estate or used car market." Gutman v. Howard Savings Bank, supra at 266(II)(B)(2). The Georgia Court of Appeals has acknowledged that "evidence of fraud... includes evidence which supported the conclusion that the plaintiffs were fraudulently induced into making and keeping their investments." (Emphasis supplied.) Argentum Intl. v. Woods, 280 Ga.App. 440, 445(2)(b), 634 S.E.2d 195 (2006). Compare Mack v. Smith, 178 Ga.App. 652, 653(4), 344 S.E.2d 474 (1986) (where plaintiff's lack of purchase of the securities or investments contracts offered to him by defendants deprived him of standing under federal and state securities statutes, but was not the basis for affirmance of the dismissal of his common-law fraud claim). "Most other states that have confronted this issue have concluded that forbearance from selling stock is sufficient reliance to support a cause of action. (Cits.)" Small v. Fritz Cos., supra. "Fraud, accompanied by damage to the party defrauded, always gives a right of action to the injured party." OCGA § 51-6-1. Exceptions to this principle of liability "`are not to be lightly created. ...'" Small v. Fritz Cos., supra at 1265(II)(C).

Appellees offer several policy grounds for barring holder claims, including, as the Second Circuit noted, "(1) incoherent theories of proximate cause and damages, (2) speculative damages, and (3) unprovable claims of a subjective intent to sell." Holmes v. Grubman, supra at 337(C)(1). After reviewing all such policy considerations, we conclude that, although they

may justify placing limitations on a holder's cause of action, they do not justify a categorical denial of that cause of action.... The high court's decision in Blue Chip Stamps, while recognizing policy considerations similar to those defendants advance here, did not view those considerations as justification for a total denial of relief to defrauded holders; it reasoned only that the federal courts could deny a forum to wronged stockholders who are not sellers or buyers without unjust consequences because these stockholders retained a remedy in state courts. (Emphasis in original.)

Small v. Fritz Cos., supra at 1260(II), 1261(II)(A). "Persons claiming that, for reasons of policy, they should be immune from liability for intentional fraud bear a very heavy burden of persuasion, one that defendants here have not sustained." Small v. Fritz Cos., supra at 1265(II)(C).

In many of the decisions on which Appellees rely, holder claims were not categorically rejected, but the plaintiffs failed to allege or prove that they specifically desired to sell their stock at a certain time, or causation was not sufficiently alleged or proved. See Arent v. Distribution Sciences, 975 F.2d 1370, 1374(3) (8th Cir.1992); Kagan v. Edison Bros. Stores, 907 F.2d 690, 692 (7th Cir.1990); Crocker v. Fed. Deposit Ins. Corp., 826 F.2d 347, 350(II)(B) (5th Cir.1987); Arnlund v. Deloitte & Touche, 199 F.Supp.2d 461, 489-490(C)(1) (E.D.Va.2002). Similarly, although we have determined that holder claims should be recognized under Georgia law, we further conclude that the limitations imposed in other jurisdictions are appropriate. When acknowledging in Blue Chip Stamps the continuing viability of common-law holder claims, "the Supreme Court considered the typical fraud context to be one in which the parties knew each other and the alleged misrepresentations occurred through direct communication." Gutman v. Howard Savings Bank, supra at 265(II)(B)(2). Indeed, the Supreme Court distinguished the "universe of transactions governed by the 1934 Act, where privity of dealing or even personal contact between potential defendant and potential plaintiff is the exception and not the rule." Blue Chip Stamps v. Manor Drug Stores, supra at 745(III), 95 S.Ct. 1917. Accordingly, we conclude that Georgia law permits holder claims

where, as here, plaintiffs allege that misrepresentations were directed at them to their injury.

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