Merrill Lynch, Pierce, Fenner & Smith v. Cheng

• Decision Date: 02 August 1988
• Docket Number: Civ. No. 86-2545 (RCL).
• Citation: 697 F. Supp. 1224
• Court: U.S. District Court — District of Columbia
• Parties: MERRILL LYNCH, PIERCE, FENNER & SMITH, INC., Plaintiff, v. Rolando CHENG and Anita Ong Cheng, Defendants and Third-Party Plaintiffs, v. William J. GRACE, Jr., Third-Party Defendant.

697 F. Supp. 1224

MERRILL LYNCH, PIERCE, FENNER & SMITH, INC., Plaintiff, v. Rolando CHENG and Anita Ong Cheng, Defendants and Third-Party Plaintiffs, v. William J. GRACE, Jr., Third-Party Defendant.

Civ. No. 86-2545 (RCL).

United States District Court, District of Columbia.

August 2, 1988.

Jeffrey P. Bloom (argued), Scott J. Bomson and Stuart J. Gordon with him on brief, Baskin, Flaherty, Elliott, Mannino & Gordon, Washington, D.C., for plaintiff and third-party defendant Grace.

Joel M. Finkelstein (argued), Margolius, Davis, Finkelstein & Rider, Washington, D.C., for defendants Cheng and third-party plaintiffs.

MEMORANDUM OPINION AND ORDER

LAMBERTH, District Judge.

Plaintiff Merrill Lynch, Pierce, Fenner & Smith, Inc. brings this action against Rolando and Anita Ong Cheng to recover a debt they allegedly owe as a result of securities transactions. The Chengs have counterclaimed against Merrill Lynch, and brought a third party complaint against broker William J. Grace, Jr., for breach of fiduciary duty, negligence, fraud, and violations of federal securities laws. Grace has responded with a motion to dismiss and for summary judgment on all counts.

FACTS

In their amended third party complaint, the Chengs allege that Rolando Cheng contacted broker Grace in April, 1985, to discuss investment opportunities. It was agreed that Grace, an employee of Merrill Lynch, would act as the Chengs' broker in the purchase and sale of options for their account, under an agreement in which every transaction was to be subject to the Chengs' prior approval. In addition, Grace was evidently instructed to monitor the Chengs' Joint Standard Option Account against their trading activity, making sure that their potential liability on the put and call options they owned did not exceed their balance in the Joint Account.

Grace acted as broker for the Chengs for approximately one year. They allege that he engaged in transactions on May 5, 1986 which they did not authorize, contrary to agreement, and which exceeded the balance in their Joint Standard Operating Account by over $119,000, contrary to their previous instruction to him. This forms the basis for count I of the Chengs' amended third party complaint (breach of fiduciary duty), as well as count III (fraud). In addition they allege that Grace failed to properly apprise himself of their financial situation, and based thereon, to advise and direct them on a financially prudent course. This forms the basis for count II (negligence) and count IV (violation of federal securities law).

In an affidavit submitted with his motion, Grace states that Dr. Cheng represented himself as a sophisticated investor, that Dr. Cheng rarely followed Grace's recommendations, and that Dr. Cheng followed them not at all in his options trading, with Grace merely serving as a "sounding board" for Dr. Cheng's questions. The Chengs substantially dispute this in their response to interrogatories, stating that all transactions on their account, and especially their options trades, were the result of recommendations by Grace.

DISCUSSION

Summary judgment is properly granted only when there is no genuine issue of material fact and the moving party is entitled to judgment as a matter of law. Federal Rule of Civil Procedure 56(c). In his motion for dismissal and for summary judgment, Grace's fact showing consists of a short affidavit. In it, he addresses only one of the fact issues raised by the Chengs in their third party complaint, to the effect that Grace advised and directed them along a financially imprudent course, by claiming that Grace's role was primarily a passive one and that the Chengs rarely followed his advice. This in turn is flatly contradicted by the Chengs in their response to interrogatories. Defendant's Answers to Plaintiff's Interrogatories, no. 7.

Other than this, Grace's affidavit either sets forth facts that the Chengs have already pleaded (that the Chengs initiated the first contact with Grace in 1985, and that Grace had no discretionary power over their account at Merrill Lynch); or it asserts facts that are either immaterial or at most only tangential to the Chengs' claims (Dr. Cheng's original call to Grace was unsolicited, and during their relationship Dr. Cheng was using other brokerage firms including a discount brokerage house). There is nothing else. Grace addresses no other material fact pled by the Chengs. Nowhere does he challenge that he engaged in the alleged unauthorized transactions of May 5, 1986, or that such transactions exceeded the balance in the Chengs' Joint Standard Option Account. Further, there is no mention of the alleged terms of their working agreement, or that the alleged unauthorized transactions violated it, or any claim by Grace as to what other possible terms were contained in his agreement with the Chengs. Neither does Grace address the allegation that the recommendations even he implicitly acknowledges the Chengs followed were ill suited to their financial situation.

Thus Grace has done nothing to materially alter the factual setting pled by the Chengs: he either fails to challenge, or agrees, with each of their averments except for the one he directly contradicts. He presents nothing that pierces their allegations, nor does he introduce facts that go beyond those pled by the Chengs which might present an alternate ground for disposition. In terms of Rule 56(c), it is not that there is no genuine issue of material fact: every fact issue before the court is either left exactly as the Chengs have pled it, or is in dispute. Therefore Grace's motion for summary judgment must be denied.

Since Grace has also sought dismissal under FRCP 12, and since he has filed no pleading as yet, his motion will be regarded as brought under FRCP 12(b)(6) for failure to state a claim upon which relief can be granted. The Court therefore will consider only Grace's attacks on the legal sufficiency of the Chengs' third party complaint, under the facts as they have pled them.

Count I: Breach of Fiduciary Duty

Although not made explicit, it is apparent that the Chengs base the existence of a fiduciary relationship between themselves and Grace on the trust and confidence they placed in Grace's agreement that he would obtain their prior approval on all transactions, and that he would not allow their options purchases to exceed the balance in their Joint Standard Option Account. Thus they claim that the unauthorized transactions of May 5, 1986, which exceeded such balance, amounted to a breach of fiduciary duty.

The existence, as well as the scope of a fiduciary relationship depends on the factual nature of the relationship. It is certainly true that the enhanced duties of a fiduciary may be imposed on a broker in his dealings with a client. Moholt v. Dean Witter Reynolds, Inc., 478 F.Supp. 451, 453 (D.D. C.1979) (defendant stock brokers were regarded by the court as quasifiduciaries, and held to a high degree of trustworthiness and fair dealing), Avern Trust v. Clarke, 415 F.2d 1238, 1239-1240 (7th Cir. 1969), cert. denied, 397 U.S. 963, 90 S.Ct. 997, 25 L.Ed.2d 255 (1970) (existence of fiduciary relationship is a question of fact, the court asking whether a relationship of trust and confidence existed between the client and broker and whether the client depended thereon and acted accordingly); Mansbach v. Prescott, Ball & Turben, 598 F.2d 1017, 1026 (6th Cir.1979); see also Vicki Bagley Realty, Inc. v. Laufer, 482 A.2d 359, 364 (D.C.1984) (real estate broker, like any other agent, owes a fiduciary duty to his principal).

Grace counters that a fiduciary relationship can not exist where the client's account is non-discretionary (that is, where the broker may execute transactions only with the customer's prior approval) as it was in the present case. But this misses the mark. To the contrary, the Chengs assert they trusted and relied on Grace's agreement that the account would be non-discretionary, and that Grace would get prior approval on all transactions.

Further, the case cited by Grace at oral argument for his non-discretionary account proposition, Caravan Mobile Home Sales, Inc. v. Lehman Bros. Kuhn Loeb, Inc., 769 F.2d 561 (9th Cir.1985), is inapposite. Caravan dealt with a broker's duty to continue furnishing information regarding a customer's stock after the customer purchased it. The court found there was no such duty under the facts of the case, since the plaintiffs failed to offer proof that the broker exercised continuing control over their accounts or that he had acted as their investment advisor. In that situation, the fact that the account was non-discretionary was clearly relevant to a finding that the broker was under no duty to continue furnishing plaintiffs information on their stocks after they had made their decision to purchase. The court did not hold that a non-discretionary account forecloses a fiduciary relationship between broker and client; it simply might limit its scope under facts such as those present in that case to the time between placement of an order by a customer and subsequent purchase. Id. at 567.

Finally the Court notes that Moholt, supra, and Mansbach, supra, imposed fiduciary duties on brokers handling non-discretionary accounts. Therefore, the Court finds the Chengs' allegation of a relationship of trust and confidence surrounding the obligations allegedly breached by Grace sufficient to state a cause of action for breach of fiduciary duty.

The Court also finds that Grace can be held individually liable for breach of fiduciary duty despite the fact that he was acting throughout as an agent for Merrill Lynch. Moholt, supra (plaintiff could recover against brokerage firm and customer's man), Avern Trust, supra (plaintiff sued brokerage firm for fraud, and its president who allegedly committed the fraud).

Count II: Negligence

The Chengs' negligence count is based on the so called "suitability rule" promulgated by the...