Ross v. Bolton

• Decision Date: 10 June 1986
• Docket Number: No. 83 Civ. 8244 (WK).,83 Civ. 8244 (WK).
• Parties: Donald ROSS and Victoria J. Ross, Plaintiffs, v. Richard E. BOLTON, R.E. Bolton & Company, Inc., Forbes, Walsh, Kelly & Co., Inc., and Bear, Stearns & Co., Defendants.
• Court: U.S. District Court — Southern District of New York

639 F. Supp. 323

Donald ROSS and Victoria J. Ross, Plaintiffs, v. Richard E. BOLTON, R.E. Bolton & Company, Inc., Forbes, Walsh, Kelly & Co., Inc., and Bear, Stearns & Co., Defendants.

No. 83 Civ. 8244 (WK).

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

June 10, 1986.

Lawrence Iason, Obermaier Morvillo & Abramowitz, New York City, for plaintiffs.

John P. Hale, Thomas A. Rigilano, Gusrae Kaplan & Bruno, Jerome Kowalski, Clifford R. Saffron, Finley Kumble Wagner Heine Underberg Manley & Casey, New York City, for defendants.

MEMORANDUM & ORDER

WHITMAN KNAPP, District Judge.

All defendants move to dismiss the amended complaint. The Bolton defendants and Bear, Stearns & Co. move as well to dismiss the cross-claims of defendant Forbes, Walsh, Kelly & Co., Inc. For the reasons stated below, we direct that the complaint against Bear Stearns and Forbes Walsh Kelly's third counter-claim against the Bolton defendants be dismissed.

This is the second time we have considered motions to dismiss in this action. We failed the first time to perceive a cognizable claim against Bear Stearns and by order dated April 20, 1984 dismissed the complaint and cross-claims against it while granting plaintiffs leave to replead. The parties have moved against the amended complaint.

Plaintiff Donald Ross is a Canadian. Plaintiff Virginia Ross is his daughter. They allege that all defendants participated in an illegal manipulation of the securities of the Resort Urban Timesharing Corporation ("RUTI"). Richard E. Bolton and the company in which he was the principal, R.E. Bolton & Company, Inc. (the "Bolton defendants"), were the alleged masterminds and Bear Stearns & Co. an alleged aider and abettor in this fraudulent scheme.

The amended complaint claims that the Bolton defendants initiated a series of purchases and sales in which they were positioned as both seller and buyer. That is, they successively sold RUTI securities to various investors, and within a few days bought the stock back at a higher price than that at which they sold it. At times the stock passed through the hands of one or two intervening parties prior to returning to them; however, at each stage of the transaction, the price of the securities was raised. Plaintiffs claim that, through this device, the Bolton defendants managed to drive up the price of the stock artificially, from $6 per unit at the time it was issued in August 1981, to 17 7/8 bid — 18 1/8 ask on December 20, 1982. Through this period, the corporation had no earnings.

To illustrate the way in which the manipulation occurred, plaintiffs have pled 41 factual instances of Bolton's sale and repurchase transactions over the period between September 13, 1981 and December 16, 1982 which involved entities not party to this lawsuit. Each transaction shows the trade date, seller, number of units sold, customer, and price of purchase or sale. These examples reveal that over this 16 month period, the price per unit of RUTI securities rose from 14 to 18, and that Bolton positioned itself as the seller and buyer with between one to three intervening parties. The amount of time between each sale and repurchase ranged from four to twenty days.

Bear Stearns was the clearing agent for these transactions. It had loaned money to Bolton which was collateralized by securities owned by Bolton. At various times during the period between August 1981 and December 1982, the value of these securities was substantially less than the amount of collateral required for the loans. Bolton's account with Bear Stearns was therefore under margin. Because it was under margin, plaintiffs claim that Bear Stearns must have scrutinized the account more closely than it otherwise would have.

During December, 1982, Bear Stearns cancelled a number of trades in which Bolton was purchasing securities but continued to execute transactions in which Bolton was the seller. By this means, Bear Stearns allegedly reduced the amount of money Bolton & Co. owed to it. The amended complaint charges that, in light of the dramatic rise in RUTI securities, as well as Bear Stearns' greater scrutiny of the Bolton defendants' account, it knew or should have known of the alleged fraud and aided and abetted the manipulation by clearing transactions, often after the market had closed.

Plaintiffs' specific injury arose out of their uncompleted participation in one of the Bolton defendants' alleged manipulations.

Donald Ross was an employee of a securities firm. On December 14, 1982, Bolton told him by telephone that he needed to sell 26,900 units of RUTI securities immediately, and that another purchaser wanted them but could not complete the transaction on time. He suggested that, if Ross bought them, the other purchaser would buy them from Ross.

On December 15, Ross spoke with John Walsh, a principal at Forbes Walsh Kelly. Walsh told him that Forbes Walsh would purchase the 26,900 RUTI units from him for $18.00 per unit.

Ross consequently purchased the units. He bought them in his daughter's name at $17.50 per unit. Bear Stearns cleared the transaction.

Forbes Walsh had agreed to purchase the securities from Ross on December 22. On that day, however, Forbes Walsh refused to perform. When Ross asked why, Walsh told him that Bolton had agreed to purchase the stock from Forbes Walsh for $18½ per unit but had cancelled the transaction. Because Forbes Walsh could not resell to Bolton, it refused to purchase from Ross.

Until this conversation, Ross had not known that Bolton was on both sides of the transaction. Until this time, Forbes Walsh had not known that fact either.

On December 20, RUTI's price per unit was 17 7/8 bid — 18 1/8 ask. On December 24, or two days after Forbes Walsh refused performance, the price was 5¼ bid — 5¾ ask.

Plaintiffs charge the Bolton defendants and Bear Stearns with violating section 10 of the Securities and Exchange Act of 1934, 15 U.S.C. § 78j, and Rule 10b-5 promulgated thereunder, 17 C.F.R. § 240.10b-5; with violating the provisions of the Racketeer Influenced and Corrupt Organizations Act ("RICO"), 18 U.S.C. § 1961 et seq., for common law fraud, and with violating section 352-c of the New York General Business Law. They sue Forbes Walsh for breach of contract. Forbes Walsh crossclaims against the Bolton defendants and Bear Stearns for stock fraud and breach of contract, as well as for indemnity in the event it is found liable to plaintiffs for breach of contract.

DISCUSSION

Motion to Dismiss under FRCP 9(b)

The Bolton defendants and Bear Stearns move to dismiss the securities law claims on the ground that the amended complaint fails to plead fraud with particularity in accordance with the requirements of Rule 9(b).

The purpose of Rule 9(b) is threefold. It is meant to assure a defendant of fair notice of what the plaintiff's claim is and the ground upon which it rests. It seeks to protect a defendant from the harm that would befall its goodwill when it is charged with serious wrongdoing. Finally, and especially in the securities context, it is meant to diminish the possibility that a plaintiff with a largely groundless claim will be able to use the threat of extensive discovery to impose an in terrorem increment on a settlement value. Ross v. A.H. Robins, (2d Cir.1979) 607 F.2d 545, 557, cert. denied, (1980) 446 U.S. 946, 100 S.Ct. 2175, 64 L.Ed.2d 802.

Section 10(b) makes it "unlawful for any person ... to use or employ ... any manipulative or deceptive device or contrivance in contravention of" Securities and Exchange Commission rules. The proscribed manipulation "refers generally to practices ... that are intended to mislead investors by artificially affecting market activity." Santa Fe Industries, Inc. v. Green, (1977) 430 U.S. 462, 476, 97 S.Ct. 1292, 1302, 51 L.Ed.2d 480. Rule 10b-5 prohibits any "artifice to defraud" or any act "which operates or would operate as a fraud or deceit," as well as the nondisclosure or misrepresentation of material facts in connection with the purchase or sale of a security.

Plaintiffs complain that defendants acted fraudulently by positioning themselves on both sides of the sale of RUTI securities to them, and by failing to reveal this fact. They claim that they were only one victim in an ongoing scheme to produce an artificial increase in the price of RUTI securities and cite specific examples of the scheme.

These allegations clearly charge the Bolton defendants with an attempt at "artificially affecting market activity in order to mislead investors," Santa Fe Industries, supra, 430 U.S. at 477, 97 S.Ct. at 1302; see Crane Company v. Westinghouse Air Brake Company, (2d Cir.1969) 419 F.2d 787, cert. denied, (1970) 400 U.S. 822, 91 S.Ct. 41, 27 L.Ed.2d 50; Landy v. Federal Deposit Insurance Corp., (3d Cir.1973) 486 F.2d 139, 161, cert. denied 416 U.S. 960, 94 S.Ct. 1979, 40 L.Ed.2d 312 (1974) (a scheme deliberately calculated to manipulate market value of stock violates the securities laws), and with enough specificity to meet the requirements of Rule 9(b).

As to the materiality and reliance aspects of the Bolton defendants' alleged failure to inform plaintiffs that they were both the seller and contemplated purchaser of the securities, we could not say as a matter of law that such information could not have been material to the plaintiffs and that with it they would nevertheless have proceeded with the transaction. We therefore decline to dismiss the securities law claims against the Bolton defendants.

It follows that we must also deny the Bolton defendants' motions to dismiss the common law and New York General Business Law fraud claims which raise the same questions.

Bear Stearns argues that the allegations are insufficient to charge it with aiding and abetting the Bolton defendants' fraud.

There are three requirements for imposition of aider and abettor liability in this Circuit. Plaintiff must prove 1) a securities law violation by a primary wrongdoer; 2) knowledge of...