Verrecchia v. Paine, Webber, Jackson & Curtis

• Citation: 563 F. Supp. 360
• Decision Date: 30 November 1982
• Docket Number: Civ. No. 80-1221.
• Parties: Franco VERRECCHIA, Plaintiff, v. PAINE, WEBBER, JACKSON & CURTIS, Higinio Leal and Pedro Tirado, Defendants.
• Court: U.S. District Court — District of Puerto Rico

563 F. Supp. 360

Franco VERRECCHIA, Plaintiff, v. PAINE, WEBBER, JACKSON & CURTIS, Higinio Leal and Pedro Tirado, Defendants.

Civ. No. 80-1221.

United States District Court, D. Puerto Rico.

November 30, 1982.

COPYRIGHT MATERIAL OMITTED

Walter Muñiz, San Juan, P.R., for plaintiff.

Carlos Bobonis, Bobonis & Besosa, Santurce, P.R., for all defendants.

ORDER

ACOSTA, District Judge.

This is an action for restitution of losses and other damages allegedly caused by defendants' fraudulent misrepresentations and omissions in the management of plaintiff's security account contract. The facts are in essence as follows:

On March 26, 1975 Franco Verrecchia opened a general margin account for the purchase and sale of securities with Blyth, Eastman, Dillon & Co., the predecessor in interest of defendant Paine, Webber, Jackson & Curtis (hereinafter jointly referred to as Paine). Codefendants Pedro Tirado and Higinio Leal were employees and registered representatives of Paine, jointly or individually in charge of Verrecchia's account.

It is alleged¹ that the parties verbally agreed to invest plaintiff's funds in a low risk pyramid type investment portfolio consisting of approximately sixty percent in bonds, thirty percent in blue-chip stocks and ten percent in options. They also agreed not to place any security on margin for his account. Defendants, notwithstanding, entered into a series of discretionary margin transactions in "high-risk" securities for the sole purpose of producing brokerage fees. Although defendants informed plaintiff of each transaction through periodic flyers and monthly statements, such notices failed to inform Verrecchia of the exposure to financial risk that such venture entailed and the earnings result of the investment activity.

During this time Verrecchia questioned Leal and Tirado as to their handling of his account, to which they responded: "Why does it concern you; if you are making money, you must trust your broker". Not satisfied with their response, on July 3, 1975 plaintiff requested that defendants prepare a statement indicating the value of his investment portfolio. Despite their knowledge that Verrecchia had suffered a net loss in the trading activity, defendants submitted a document purporting to show that plaintiff's account had increased in value by approximately $6,000.

In December of that year Verrecchia requested a second valuation of his account. This time defendants reported a loss of $17,000 on plaintiff's original investment of $75,000. Later that month plaintiff demanded a reevaluation. Defendants then prepared another statement showing a loss of $30,000. It is averred that defendants knew that Verrecchia's account had lost $36,000 as of the date of the first December report. It is further alleged that upon receipt of these statements Verrecchia learned for the first time that he had suffered a loss on his investment.

Plaintiff closed his account in August of 1976. One year later, on August 25, 1977 attorney Jorge L. Izquierdo mailed, on behalf of plaintiff, a letter to Mr. Miguel Ferrer, Vice-president of Paine, requesting restitution of actual losses in the amount of $36,000 and loss of income caused by defendants' wrongful conduct. On September 14, 1977 Ferrer acknowledged receipt of said letter and informed plaintiff that the matter was referred to Paine's legal department. Plaintiff and defendant engaged in no further negotiations or communications until May 8, 1980 when attorney Gerardo A. Carlo demanded Paine redress for Verrecchia's losses.² Ferrer answered on May 13, 1980, again informing plaintiff that his claim for compensation would be referred to their in house counsel.

Sometime before August of 1976 Verrecchia informed Leal that he was planning to take legal action and requested the reimbursement of all commissions paid. At various times after this date plaintiff met with Tirado to discuss the events leading to the $36,000 loss on his investment. At no time was Tirado threatened with suit, nor does it appear from the record that a demand for restitution of damages was ever made to him.

On June 5, 1980 the original complaint was filed alleging violation of contract and fraud pursuant to the Securities Act of 1933, the Securities Exchange Act of 1934, and the Investment Advisers Act of 1940. Jurisdiction was invoked under the provisions of said acts, 15 U.S.C. §§ 77v, 78aa and 80a-43 respectively, and under the diversity of citizenship statute, 28 U.S.C. § 1332. On September 16, 1981, upon defendants' motion for summary judgment, we dismissed the action without prejudice (of filing an amended complaint) on the grounds of failure to state a cause of action and running of the period of limitations.³ Verrecchia filed an amended complaint within the time allowed by the Court, reasserting his claims under the Securities Act of 1933 and the Security Exchange Act of 1934. Independent federal jurisdictional statutes were solely invoked this time. Defendants have renewed their prior motion for summary judgment praying for the dismissal of the complaint. We now turn to the issues at bar.

A. Failure to state a claim upon which relief can be granted

For an action to lie under Section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j, and Rule 10b-5 of the Securities and Exchange Commission, it is necessary for plaintiff to allege and show defendant's intent to deceive, manipulate or defraud plaintiff in connection with the purchase or sale of securities. Ernst & Ernst v. Hochfelder, 425 U.S. 185, 96 S.Ct. 1375, 47 L.Ed.2d 668 (1976). As with all claims of fraud, mere conclusory averments unsupported by factual allegations are insufficient as a matter of law to state a claim under Section 10(b). Rule 9(b) of the Federal Rules of Civil Procedure; Shemtob v. Shearson, Hammill & Co., 448 F.2d 442, 445-446 (2 Cir.1971); Schaefer v. First National Bank of Lincolnwood, 509 F.2d 1287 (7 Cir.1975), Cert. Den., 425 U.S. 943, 96 S.Ct. 1682, 48 L.Ed.2d 186 (1976); Tomera v. Galt, 511 F.2d 504, 508 (7 Cir.1975); Valles Salgado v. Piedmont Capital Corp., 452 F.Supp. 853, 856-857 (DCPR 1978). It is insufficient to allege negligence, breach of contract or of a stock exchange rule. Plaintiff must plead those facts amounting to scienter, intent to defraud, reckless disregard for the truth or knowing use of a device, scheme or artifice to defraud in order to comply with Rule 9(b) of the F.R. C.P. Shemtob v. Shearson, Hammill & Co., 448 F.2d at 445; Segal v. Gordon, 467 F.2d 602, 607 (2 Cir.1972).

On the other hand, claimant is not required to allege detailed evidentiary matters. Schlick v. Penn-Dixie Cement Corp., 507 F.2d 374, 379 (2 Cir.1974). The pleadings should be sufficiently detailed however, to inform defendant of the nature of the claim on fraud and allow the preparation of a responsive averment. 5 C. Wright & A. Miller, Federal Practice and Procedure, Sec. 1298 (1969). Plaintiff is thus required to allege facts identifying the context of the fraudulent scheme within the purview of the securities acts, the time period during which it was executed, and the damages caused to plaintiff, who relied on the misrepresentations. Cf. Southern Dev. Co. v. Silva, 125 U.S. 247, 250, 8 S.Ct. 881, 882, 31 L.Ed. 678 (1888).

The instant complaint contains more than conclusory averments. Plaintiff not only pleaded facts sufficient to show that defendants took advantage of his lack of knowledge on matters dealing with securities and the exchange market during the greater part of their contractual relationship, but that in July of 1975 they knowingly deceived him into believing that his investment increased in value for the implied purpose of earning commissions on the continued trading of securities to his account. Not content with that, in December of 1976 defendants purposefully underestimated the net loss in value of Verrecchia's investment. As a consequence of defendants' misrepresentations, the complaint alleges, plaintiff was unable to timely demand the discontinuance of margin transactions on high risk securities thereby preventing or at least reducing the eventual loss and the related commissions and interest expenses. We hold that Rule 9(f) requires nothing more.

The elements necessary to maintain a private cause of action pursuant to Section 17(a) of the Securities Act of 1933, 15 U.S.C. § 77q(a), are almost identical to the exigencies required under Section 10(b) of the 1934 Act. Valles Salgado v. Piedmont Capital Corp., 452 F.Supp. at 858 n. 8; Lanza v. Drexel & Co., 479 F.2d 1277, 1280 n. 2 (2 Cir.1973); United States v. Naftalin, 441 U.S. 768, 773 n. 4, 99 S.Ct. 2077, 2081 n. 4, 60 L.Ed.2d 624 (1979). Having held that plaintiff has adequately stated a cause of action under Section 10(b), we need not dwell on this issue any longer.

Section 7(c) of the Securities Exchange Act, 15 U.S.C. § 78g(c) prohibits the extension or maintenance of credit to or for any customer in excess of the loan to value ratios prescribed by the Board of Governors of the Federal Reserve System, or in contravention of the collateral requirements established by regulations promulgated thereunder. In order to state a claim under Section 7(c) and Regulation T, 12 CFR 220.1 et seq., plaintiff herein must allege that he suffered a loss on a transaction effected by his broker on the basis of an illegal extension of credit. Cf. Landry v. Hemphill, Noyes & Co., 473 F.2d 365, 370 (1 Cir.1973). No such averment is made in the complaint, nor is it supported by the affidavits or documents in the record. By itself, the issuance of margin calls against the express wishes of the account holder is not a violation of Regulation T. Berry v. Souza, 564 F.2d 1347, 1350 (9 Cir.1977).

Section 20 of the Securities Exchange Act, 15 U.S.C. § 78t imposes liability on every person who directly or indirectly controls a person who violates the act unless the controlling person acted in good faith and did not...