Liang v. Dean Witter & Co., Inc.
| Decision Date | 16 July 1976 |
| Citation | 540 F.2d 1107,176 U.S.App.D.C. 328 |
| Court | U.S. Court of Appeals — District of Columbia Circuit |
Rehearing Denied 15 Oct. 1976.
Before McGOWAN, ROBINSON and WILKEY, Circuit Judges.
Opinion for the Court filed by WILKEY, Circuit Judge.
Securities and Exchange Commission Rule 10b-16 1 requires, among other mandatory disclosures, a broker to provide to a customer with a margin account 2 a written statement of "the conditions under which additional collateral can be required." In connection with the margin account opened with Dean Witter & Company, Inc., (Dean Witter) by the appellants, the appellees informed the appellants in writing that Dean Witter may require "such additional collateral as, in our sole discretion, we determine is necessary as security for your obligation to us." The question presented by this case is whether such notice constitutes full compliance with the disclosure requirement of Rule 10b-16. The District Court for the District of Columbia (Corcoran, J.) dismissed the complaint "for failure to state a claim upon which relief can be granted." For reasons more fully explained below, we reverse and remand for further proceedings.
On 7 April 1972 Robert and Susan Liang (the Liangs) opened a margin account with Dean Witter. 3 Dean Witter assigned Roger Carter, the other appellee, as its customer representative for the Liangs' account. At the time of the opening, the Liangs signed a standard form "Customer's Agreement" supplied by Dean Witter; 4 soon afterwards the Liangs also received another standard form from Dean Witter entitled "Credit Charges." 5
The "Customer's Agreement" provides in pertinent part as follows:
7. You are hereby authorized, in your discretion, should the undersigned die or should you for any reason whatsoever deem it necessary for your protection, to sell any or all of the securities and commodities or other property which may be in your possession or which you may be carrying for the undersigned . . . . Such sale . . . may be made according to your judgment and may be made, at your discretion . . . without advertising the same and without notice to the undersigned. (emphasis added).
The "Credit Charges" form reads in part:
5. LIENS AND COLLATERAL As provided in our Customer's Agreement, we have a general lien upon all securities which we hold for you for the discharge of all your obligations to us, however arising and irrespective of the number of accounts you maintain. We may at any time require you to deposit cash or such additional collateral as, in our sole discretion, we determine is necessary as security for your obligation to us. (emphasis added).
On 18 July 1973 Dean Witter wrote to the Liangs that "At the present level of prices there is not sufficient margin in your account to protect it." 6 Dean Witter "therefore" requested $2600 in additional collateral, asking for "immediate attention" by 1 August 1973. In neither the letter nor in subsequent communication, despite inquiry from the Liangs, did Dean Witter explain the exact basis for the lack of "sufficient margin." As the demand for the additional collateral was not met, 7 Dean Witter conducted two sets of sales of securities from the Liangs' account, one on about 8 August and the other on about 13 August. Upon learning of the sales by appellees, 8 the Liangs demanded the replacement of the securities and, upon refusal, sued in the District Court for the difference between the amount realized by the sales in August 1973 and the amount that the securities could have been sold for "within a reasonable time thereafter." 9 The District Court had jurisdiction under 15 U.S.C. § 78aa.
Appellees moved to dismiss the complaint under Fed.R.Civ.P. Rule 12(b)(6) on the grounds that the documents received by the Liangs "satisfy the requirements of Rule 10b-16." The District Court granted the motion to dismiss, without opinion, and this appeal followed. This court has jurisdiction of the appeal pursuant to 28 U.S.C. § 1291.
Rule 10b-16 provides in part as follows:
(a) It shall be unlawful for any broker or dealer to extend credit, directly or indirectly, to any customer in connection with any securities transaction unless such broker or dealer has established procedures to assure that each customer
(1) is given or sent at the time of opening an account, a written statement or statements disclosing (i) the conditions under which an interest charge will be imposed; (ii) the annual rate or rates of interest that can be imposed; (iii) the method of computing interest; (iv) if rates of interest are subject to change without prior notice, the specific conditions under which they can be changed; (v) the method of determining the debit balance or balances on which interest is to be charged and whether credit is to be given for credit balances in cash accounts; (vi) what other charges resulting from the extension of credit, if any, will be made and under what conditions; and (vii) the nature of any interest or lien retained by the broker or dealer in the security or other property held as collateral and the conditions under which additional collateral can be required . . . .
(b) It shall be unlawful for any broker or dealer to make any change in the terms and conditions under which credit charges will be made (as described in the initial statement made under Paragraph (a) of this Rule), unless the customer shall have been given not less than thirty (30) days written notice of such changes, except that no such prior notice shall be necessary where such changes are required by law . . . . (emphasis added).
Since this case calls for one of the first judicial interpretations of Rule 10b-16, 10 it may be helpful to set out its history in some detail, particularly since this interpretation may require the revision of some of the forms that seek to comply with Rule 10b-16. When Congress passed the Truth in Lending Act in 1968, 11 it expressly exempted securities accounts from its coverage. 12 The Senate Report noted:
The Committee has been informed by the Securities and Exchange Commission that the Commission has adequate regulatory authority under the Securities Exchange Act of 1934 to require adequate disclosure of the costs of such credit. The Committee has also been informed in a letter from the SEC that "the Commission is prepared to adopt its own rules to whatever extent may be necessary."
In recommending an exemption for stockbroker margin loans in the bill, the Committee intends for the SEC to require substantially similar disclosure by regulation as soon as it is possible to issue such regulation. 13
The House Report agreed. 14
Rule 10b-16 represents the SEC implementation of the instruction from Congress. It was adopted on 1 December 1969, 15 after notice and comments, and became effective 1 April 1970. The SEC authority for the Rule is derived, of course, from the prohibition in Section 10(b) 16 of the Securities Exchange Act of 1934 against the use of "any manipulative or deceptive device" in connection with the purchase or sale of any security. Tracking the express purpose of the Truth in Lending Act, 17 the SEC announced the disclosure sought by Rule 10b-16 as follows:
The initial disclosure is designed to insure that the investor, before his account is opened, understands the terms and conditions under which credit charges will be made. This will enable him to compare the various credit terms available to him and to understand the methods used in computing the actual credit charges. 18
The goals enunciated above with regard to credit charges should also animate our review of compliance with 10b-16(a)(1)(vii). An investor may very well wish to shop around for a securities firm with the most favorable package of terms about additional collateral. Once an account is opened, an investor may also wish to understand more exactly when additional collateral will be required, especially since, as here, the failure to supply it may result in a sale of securities from the customer's account. Thus, our review of the compliance with 10b-16 attempted by Dean Witter can be measured against the purposes of disclosure set out by the SEC and by Congress.
Appellees furnished the Liangs with notice that additional collateral can be required "as, in our sole discretion, we determine is necessary as security for your obligation to us." 19 Appellees contend that such notice is adequate disclosure under 10b-16(a)(1)(vii) because it informs the customer of the "policy" of the firm, i. e., "in the final analysis," the discretion of the broker really is the basis of a decision to call for more collateral. Appellees further contend that since 10b-16 does not require the broker to develop general rules or standards it is adequate to disclose simply its "policy" of discretion. Such disclosure serves the purposes of the Rule, appellees maintain, because a customer dissatisfied with the Dean Witter "policy" could choose another broker.
On the basis of the record before this court, it is not yet possible to decide the compliance here with 10b-16(a)(1)(vii). As appellees correctly claim, Rule 10b-16 does not require a brokerage firm to formulate any certain standard as to when it calls for additional collateral, but merely to disclose fully whatever standard the brokerage house actually employs. A firm may choose to operate on an entirely individual customer basis, without any general internal guidelines whatsoever; accordingly, it would only have to disclose that discretion is its sole guide. Under such circumstances the documentation furnished by Dean Witter here would be sufficient.
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