Petition for Writ of Certiorari — Clark v. Merrill Lynch, Pierce, Fenner & Smith, Inc.

: No.

| JUN 10 199%

OFFICE OF THE CLERK

|

IN THE

Supreme Couwt of the United States

Ortober Germ, 19590

DONALD E. CLARK

Petitioner,

v.

MERRILL LYNCH, PIERCE, FENNER &

SMITH, INC., and WENDELL C. HOOVER

Respondents.

Petition for Writ of Certiorari to

the Hnited States Court of Appeals

for the Hourth Circuit

Petition for Writ of Certiorari

DAVID KENT HIGGINS

ROBINSON & MCELWEE

P.O. Box 1791

Charleston, WV 25326

(304) 344-5800

Counsel of Record for Petitioner

‘—_—,

(1)

(2)

(i)

QUESTIONS PRESENTED

DOES RESCISSION OF RULE 15C2-2 BY THE SEC

INVALIDATE AN AGREEMENT BETWEEN A

STOCKBROKER AND HIS CUSTOMER WHICH ExX-

PRESSLY PROVIDES THAT THE CUSTOMER’S

FEDERAL SECURITIES LAW CLAIMS MAY BE LIT-

IGATED RATHER THAN ARBITRATED?

FIVE CIRCUITS HAVE HELD THAT THE

CUSTOMER’S CONTRACT RIGHT TO LITIGATE

SECURITIES CLAIMS IS NOT AFFECTED BY RE-

SCISSION OF THE RULE. SHOULD A FOURTH

CIRCUIT DECISION TO THE CONTRARY NULLI-

FYING THE CUSTOMER’S CONTRACT RIGHT TO

LITIGATE BE PERMITTED TO STAND?

(ii)

LIST OF PARTIES BELOW

The Appellee in the Fourth Circuit Court of Appeals

(Petitioner herein) was Donald E. Clark. Appellants in that

Court (Respondents herein) were Merrill Lynch, Pierce,

Fenner & Smith, Inc. and Wendell C. Hoover. There were no

other parties before the Fourth Circuit Court of Appeals in this

matter.

(iii)

TABLE OF CONTENTS

Statutes and Regulations Involved ..................

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10

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(iv)

TABLE OF AUTHORITIES

Cases Page

Ballay v. Legg Mason Wood Walker, Inc., 878 F.2d

Fee es I aa ccnlekbicdeesecctescnatsances 4,5,7

Bird v. Shearson Lehman/American Express, Inc.,

871 F.2d 292 (2d Cir. 1989), vacated, US.

—__., 110 S.Ct. 225, 107 L.Ed.2d 177 (1989) ...... 5

Blue Gray Corps. I & I] v. Merri!l Lynch, Pierce,

Fenner & Smith, Inc., 921 F.2d 267 (11th

Se ede dura, Cod orer site e las cn ciéensees 5

Catholic Diocese of Brownsville, Texas v. A. G.

Edwards & Sons, Inc., 919 F.2d 1054 (Sth Cir.

PUL ReeuUNeL MUL CLL cenaakneiwebeabbusensc< 5,7,8

Giles yv. Blunt, Ellis & Loewi, Inc., 845 F.2d 131

CS nas wanGabekseucheecascesédnsss 5

Gooding v. Shearson Lehman Bros., Inc., 878 F.2d

en ct cic dGhediswisbennsesens

Jeske v. Brooks, 875 F.2d 71 (4th Cir. 1989) ........ 8,9

Shearson/American Express, Inc. v. McMahon,

482 U.S. 220, 107 S.Ct. 2332, 96 L.Ed.2d 185

Neen Te ee sd ui seescee 6

Regulations and Releases

17 C.F.R. Part 240, 240.15c2-2 (rescinded

Ne cbedseneses 1,6,9

Securities Exchange Act Release No. 25034

RR ae an ae 1,6

OPINION BELOW

The opinion of the United States Court of Appeals for the

Fourth Circuit (Record No. 90-2039) whose judgment is

herein sought to be reviewed, was decided and filed on

January 31, 1991. Said opinion has been published at 924

F.2d 550 (4th Cir. 1991). A copy of the opinion is reprinted in

the Appendix hereto, infra, page la. A Petition for Rehearing

was denied on March 22, 1991. A copy of the order denying

the Petition is reprinted in the Appendix hereto, injra,

page 13a. The Memorandum Opinion and Order of the trial

court entered February 9, 1988 and the Memorandum

Opinion and Order of the trial court entered May 27, 1988

(both of which rulings relate to the decision of the trial court

that the federal securities law claims may be litigated and need

not be arbitrated) are reprinted in the Appendix hereto, infra,

pages 14a and 24a.

STATEMENT OF JURISDICTION

The judgment of the Fourth Circuit Court of Appeals was

entered on January 31, 1991. A timely Petition for Rehearing

was denied on March 22, 1991. The jurisdiction of this Court

is invoked under 28 U.S.C. § 1254(1).

STATUTES AND REGULATIONS INVOLVED

No statutes are directly involved in this case. A Securities

Exchange Commission regulation is involved. That regulation

is Chapter Il, Title 17 of the Code of Federal Regulations, Part

240—General Rules and Regulations, Securities Exchange Act

of 1934, § 240.15c2-2 commonly referred to as Rule 15c2-2.

(Appendix, infra, page 30a). In addition, Exchange Act

Release No. 25034 dated October 15, 1987, which rescinded

Rule 15c2-2 (Appendix, infra, page 31a), is involved in this

case.

STATEMENT OF THE CASE

On August 7, 1986, Donald E. Clark (“Clark’’) instituted a

civil action in the United States District Court for the Southern

District of West Virginia against Merrill Lynch, Pierce,

Fenner & Smith, Inc. (“Merrill Lynch”) and Wendell C.

Hoover (“Hoover”) seeking to recover monetary damages

resulting from the mishandling of Clark’s brokerage accounts

by the defendants during 1985. The Complaint alleged that

the defendants had violated Rule 10b-5 promulgated under

Section 10b of the Securities Exchange Act of 1934 (Count J), i

the Racketeer Influenced and Corrupt Practices Act (Count II),

West Virginia securities laws (Count III), and a broker’s

common law duty of ordinary care and fiduciary duty to its

customer (Count IV). The Complaint also alleged a cause of

action for breach of contract (Count V) and a cause of action

for money due and owing (Count VI). Based upon the

applicable 1985 customer agreements between the parties, the

defendants moved for an order staying all further litigation and

requesting that all of Clark’s claims be sent to arbitration.

The District Court granted the defendants’ motion to

compel arbitration with regard to five of the six counts

contained in the Complaint. At the same time, the District

Court held that the federal securities law claims (Count I

should be litigated since the customer agreements expressly

contained language which excluded federal securities law

claims from the requirement that all other types of disputes

were to be arbitrated. Those claims were tried before a jury.

On September 1, 1989 the jury returned a verdict in favor of

Clark and against both Hoover and Merrill Lynch in the

amount of $1,683,170.00 plus interest.'

Respondents herein appealed to the United States Court of

Appeals for the Fourth Circuit alleging, among other things,

that the trial court had committed error in refusing to compel

arbitration of the federal securities law claims. In its decision

a -

‘By agreement of the parties, the arbitration proceedings are being

stayed pending resolution of this litigation.

of January 31, 1991, the Fourth Circuit held that the federal

securities law claims should have been sent to arbitration by

the District Court for reasous stated in the opinion.

Accordingly, the Fourth Circuit vacated the jury award and

remanded the case to the trial court.

Clark filed a timely Petition for Rehearing with Suggestion

for Rehearing In Banc. In the Petition for Rehearing he

argued that the decision of the Fourth Circuit was in direct

conflict with the decisions of five other circuit courts that had

considered the issue, a point which the Fourth Circuit failed to

note in its January 31 opinion.

After a poll of the Court where three judges voted to rehear

the case in banc, the Fourth Circuit by majority vote denied

the rehearing in banc. The panel thereupon denied the

Petition for Rehearing without further comment.

JURISDICTION OF THE DISTRICT COURT

Subject matter jurisdiction in this case was conferred upun

the United States District Court by 28 U.S.C. § 1332, 28

U.S.C. § 1331, the principle of pendent jurisdiction and 18

U.S.C. § 1964(c).

REASONS FOR GRANTING WRIT

I. THE DECISION OF THE COURT OF APPEALS FOR

THE FOURTH CIRCUIT IS IN DIRECT CONFLICT

WITH THE DECISIONS OF THE FIVE OTHER

CIRCUIT COURTS OF APPEALS THAT HAVE

RULED ON THE SERIOUS ISSUE RAISED IN THIS

CASE. THE ANOMALOUS RULING OF THE

FOURTH CIRCUIT IS MISTAKEN AND SHOULD BE

REVERSED.

The applicable customer agreements between Clark and

Merrill Lynch were drafted by Merrill Lynch and state

expressly that Clark is not required to arbitrate claims and

disputes arising under the federal securities laws. Three of the

four customer agreements executed between Clark and Merrill

Lynch in 1985 contain the following language:

Except to the extent that controversies involving claims

arising under the Federal Securities laws may be

litigated ... any controversy between us ... shall be

settled by arbitration.

The fourth agreement also signed in 1985 contains this

language:

Although you have signed a customer agreement form

with MERRILL LYNCH that states you are required to

arbitrate any future dispute or controversy that may

arise between us, you are not required to arbitrate any

dispute or controversy that arises under the Federal

Securities laws but instead can resolve any such dispute

or controversy through litigation in the courts.

This language plainly excludes claims arising under federal

securities law from the scope of the arbitration agreement

between the parties. Such language is generally referred to as

“litigation language” or “exclusionary language.”

The Fourth Circuit refused to enforce the “litigation

language” contained in the customer agreements between

Clark and Merrill Lynch. It held that the ianguage constituted

““mere notice” of a right to litigate established by a Securities

and Exchange Commission (“SEC”) rule that was in effect at

the time the agreements were executed. The court apparently

took the view that the language did not mean what it says.

Thus, the court concluded that Clark’s contractual right to

litigate lapsed when the SEC unilaterally rescinded its rule in

1987.

The Fourth Circuit must have reviewed the decisions of five

other circuit courts that have considered this issue.

Inexplicably, however, its opinion failed to mention that those

courts have uniformly held that “litigation language” is nof

““mere notice” of a right to litigate but rather constitutes a

substantive and fully enforceable term of the contract between

the parties. See Ballay v. Legg Mason Wood Walker, Inc., 878

> --———

F.2d 729 (3d Cir. 1989); Catholic Diocese of Brownsville,

Texas v. A. G. Edwards & Sons, Inc., 919 F.2d 1054 (Sth Cir.

1990); Giles v. Blunt, Ellis & Loewi, Inc., 845 F.2d 131 (7th

Cir. 1988); Gooding v. Shearson Lehman Bros., Inc., 878 F.2d

281 (9th Cir. 1989); Blue Gray Corps. I & II v. Merrill Lynch,

Pierce, Fenner & Smith, Inc., 921 F.2d 267 (11th Cir. 1991).

In a decision that was reviewed by this Court on grounds

unrelated to the issue at hand, the Second Circuit did state in a

footnote its view that “litigation language” constituted only a

notice unenforceable as a contract provision between the

parties. Bird v. Shearson Lehman/American Express, Inc.,

871 F.2d 292, 295 N.5 (2d Cir. 1989), vacated US.

—__—. 110 S.Ct. 225, 107 L.Ed.2d 177 (1989). However, the

Second Circuit did not state its reasons for the footnoted

comment. Its decision was subsequently vacated by this Court

on other grounds.

In the Petition for Rehearing, Clark brought to the attention

of the Fourth Circuit that its decision was in direct conflict

with the rulings of the five other circuits that have resolved the

question. Nevertheless, without explanation the Fourth

Circuit refused to rehear the case. Clark is compelled therefore

to seek relief from this Court.

In its decision upholding the customer’s right to litigate, the

Third Circuit correctly observed that the matter at hand

“presents a question of considerable current interest in the

marketplace.” Ballay, 878 F.2d at 730. The integrity of

federal law with respect to brokerage and other financial

services agreements makes it imperative that this Court resolve

the serious conflict between the Fourth Circuit and five other

circuits. The Fourth Circuit should not be permitted to

maintain a rule that directly contradicts the law as

unanimously interpreted by the other circuits. Customers of

brokerage houses should not have materially different rights

depending only upon the circuit in which they reside.

Il. THE REASONING OF THE FIVE CIRCUITS THAT

HAVE HELD THAT THE “LITIGATION

LANGUAGE” CONSTITUTES AN ENFORCEABLE

CONTRACT TERM IS VASTLY SUPERIOR TO THE

REASONING OF THE FOURTH CIRCUIT.

Five circuits uphold the customer’s right to litigate federal

securities law claims under “litigation language” clauses

inserted in customer agreements prior to the rescission of Rule

15c2-2. The Fourth Circuit, however, adopts a contrary

rationale which has been specifically rejected by every other

circuit which has analyzed the issue.

In its decision, the Fourth Circuit began by observing that

the “litigation language” used by Merrill Lynch in its 1985

customer agreements with Clark was inserted as a response to

adoption by the SEC of Rule 15c2-2 in 1983. Under that rule,

the SEC announced that it would be a fraudulent,

manipulative or deceptive act or practice for a broker to enter

into an agreement with a public customer which purported to

bind the customer to the arbitration of future disputes between

the brokerage house and the customer which arose under the

federal securities laws. After this Court’s decision in

Shearson/American Express, Inc. v. McMahon, 482 U.S. 220,

107 S.Ct. 2332, 96 L.Ed.2d 185 (1987), the SEC decided to

rescind its Rule. Exchange Act Release No. 25034

(October 15, 1987). (Appendix, infra, page 31a).

Unlike all other circuits which have fully addressed this

issue, the Fourth Circuit somehow has erroneously concluded

that recission of Rule 15c2-2 by the SEC also served to repeal

and void a contract right to litigate securities claims agreed to

by the parties. It translates the “‘litigation language” expressly

agreed upon into nothing more than “mere notice” of a right

which will continue only if the SEC does not decide to rescind

its rule.

The other circuits, however, have repeatedly refused to void

or re-write the contract between the parties mercly because the

SEC rescinded Rule 15c2-2. Those circuits have all held that

—————————wowowrer’

rescission of the rule had no effect whatsoever on the plain

language of the customer agreement. They have taken the

view that a broker’s rationale for including the “litigation

language”’ in the contract is irrelevant to the status of that

language as a substantive, enforceable contractual provision.

Several circuits have taken note of the fact that, as here,

“‘[t]here is no indication on the surface of the contract that the

parties intended this language to serve merely a notice

function. Indeed, the context in which the language is found

suggests the opposite.” Catholic Diocese, 919 F.2d at 1057.

The rationale of the five other circuits is expressed well in

the following lang-age of the Third Circuit:

... [W]e conclude that the unequivocal exclusionary

language in the plaintiffs’ arbitration agreements creates

a contractual right to litigate plaintiffs’ Securities Act

claims. The language admits of no justification for

looking beyond it to the regulatory history surrounding

its conclusion. In any event, even if we were to look at

the regulatory background we see no reason in it for

rejecting customers’ reasonable expectations. A

customer reading the exclusionary language would not

be expected to be aware of the regulatory background or

to understand that the language may become

meaningless with the winds of change in the law. Legg

Mason, [the defendant brokerage firm] if it truly did not

mean to be bound by the contractual language it drafted,

should have challenged Rule 15c2-2 or re-executed the

arbitration agreements in accordance with its intent after

recission of the Rule. It cannot now win relief from the

specific language of its own contract simply because it

claims not to have meant what it said.

Ballay, 878 F.2d at 734.

Nothing in the agreement between Clark and Merrill Lynch

indicates that Merrill Lynch did not intend to be bound by its

own language. No indication is given, though it easily could

have been, that this language was not to be interpreted as an

enforceable term of the contract. No hint is given that the

parties intended this language—which seems plainly to be an

enforceable contractual provision—to be interpreted as ““mere

notice” of a right derived solely from an SEC rule. Speaking of

the virtually identical agreement between the parties in

Catholic Riocese, the Fifth Circuit observed that the broker

“might have drafted an explicit notice provision, or it might

have drafted the exclusion so that it expired along with rule

15c2-2 and Wilko v. Swan, as other brokers did.” 919 F.2d at

1057. Thus, in the words of the Fifth Circuit, the language in

question “‘did more than give notice of the existing law: it

incorporated that law, without exception or qualification, into

the contract.”” Id.

Il. ONLY ONE RULE OF LAW SHOULD APPLY ON

THIS SUBJECT.

The Fourth Circuit stands in isolation against five other

circuits on a matter of significant procedural importance. The

issue of the enforceability of “litigation language”’ has arisen in

at least six circuits and affects the rights of public customers of

brokerage firms throughout America. It is likely to arise

elsewhere. Without action by this Court, customers of Merrill

Lynch and other brokerage houses having “litigation

language” in their contracts will be allowed to litigate federal

securities law claims in most jurisdictions but will be

compelled to arbitrate those claims in the states comprising

the Fourth Circuit and in other states if circuit courts that have

not ruled on the issue decide to follow the Fourth Circuit.

Such an imbalance can only be rectified by this Court. It is

submitted that only one rule of law should prevail.

IV. THE FOURTH CIRCUIT MISAPPLIES ITS OWN

PRECEDENTIAL AUTHORITY.

The Fourth Circuit relies upon its decision in Jeske v.

Brooks, 875 F.2d 71 (4th Cir. 1989). In Jeske, the court held

that the mere existence of Rule 15c2-2 as an administrative

regulation promulgated by the SEC did not confer upon a

public customer the substantive right to litigate federal

securities law claims when the customer agreement with the

brokerage firm clearly provided that all disputes would be

subject to binding arbitration. In other words, the contract

provision which required arbitration of all disputes should

prevail over the rule which required litigation of securities

claims. In Jeske Rule 15c2-2 was held to be totally ineffective

to modify the express agreement between the customer and his

broker.

In the case at hand, however, the Fourth Circuit failed to-

consider the following question: If the presence of the rule did

not affect the contract between the parties in Jeske, how can

the recission of the rule modify the contract in this case? If the

rule is ineffective for one purpose, it must be ruled ineffective

for the other.

Vv. THE FOURTH CIRCUIT DECISION IS AN

UNJUSTIFIED INTRUSION INTO THE RIGHT OF

PRIVATE CONTRACT.

The Fourth Circuit decision, if permitted to stand, will

invite citation as authority for the proposition that language in

a contract should be ignored by the courts whenever the

language in question was inserted in the contract in response to

an administrative rule which was subsequently withdrawn. In

this case, Merrill Lynch could have drafted its customer

agreements with Clark in such a manner that Merrill Lynch’s

willingness to litigate federal securities law claims would be

clearly conditioned upon the continued existence of the

regulation. The agreements in this case contain no such

condition. Nevertheless, the Fourth Circuit’s decision permits

Merrill Lynch to avoid its own contract language merely

because Rule 15c2-2 was rescinded. Such a result is wholly

inconsistent with a due regard for the integrity of private

contracts.

10

CONCLUSION

The Fourth Circuit has rendered a decision which is in

conflict with at least five other circuits. The decision by the

Fourth Circuit should be reviewed by this Court. Without

review by this Court, there will be a “split” in the circuits on

an important issue of federal law.

Respectfully submitted, |

DAVID KENT HIGGINS

Counsel of Record for Petitioner

E. GLENN ROBINSON

Robinson & McElwee

P.O. Box 1791

Charleston, WV 25326

Telephone: (304) 344-5800

la

UNITED STATES COURT OF APPEALS

FOR THE FOURTH CIRCUIT

No. 90-2039

DONALD E. CLARK,

Plaintiff—Appellee,

versus

MERRILL LYNCH, PIERCE, FENNER & SMITH,

INCORPORATED, a New Jersey corporation;

WENDELL C. HOOVER

Defendants— Appellants.

Appeal from the United States District Court for the

Southern District of West Virginia, at Huntington.

Robert J. Staker, District Judge. (CA-86-879-3)

Argued: October 31, 1990 Decided: January 31, 1991

Before MURNAGHAN and NIEMEYER, Circuit

Judges, and YOUNG, Senior United States District

Judge for the District of Maryland, sitting by designation.

Vacated and remanded by published opinion. Judge

Murnaghan wrote the opinion, in which Judge Niemeyer

and Senior Judge Young joined.

ARGUED: Richard H. Sinkfield, ROGERS & HARDIN,

Atlanta, Georgia, for Appellants. E. Glenn Robinson,

ROBINSON & MCELWEE, Charleston, West Virginia,

for Appellee. ON BRIEF: Paul W. Stivers, James W.

Beverage, ROGERS & HARDIN, Atlanta, Georgia, for

Appellants. David K. Higgins, ROBINSON &

MCELWEE, Charleston, West Virginia, for Appellee.

2a

MURNAGHAN, Circuit Judge:

Appellee Donald Clark is a successful businessman who,

since 1981, had traded in securities markets through appellant

Merrill Lynch, Pierce, Fenner & Smith and its employee-

broker, appellant Wendell Hoover. In January of 1985, Clark

decided he needed a new investment strategy to meet cash flow

requirements and told Hoover that he was thinking of invest-

ing in municipal bonds. Hoover and Merrill Lynch options

specialist Richard Gordon convinced Clark instead to produce

income through a combination of premiums from covered op-

tions, dividends, interest, and gains from sales of stock,

assuring Clark that such a strategy would meet Clark’s

monthly cash flow requirements.

The strategy did not perform as expected. By December of

1985, despite repeated assurances by Hoover and Gordon that

his monthly income requirements were being met, Clark liqui-

dated his positions and invested in municipal and corporate

bonds.

Clark then brought suit in the United States District Court

for the Southern District of West Virginia, Charleston Divi-

sion, alleging state and federal securities fraud claims. The dis-

trict court (Staker, J.) referred all of the claims to arbitration

except the claim brought under Section 10(b) of the Securities

Exchange Act of 1934, 15 U.S.C. § 78j(b), and Rule 10b-5,

17 C.F.R. § 240.10b-5, thereunder. Merrill Lynch filed a mo-

tion to compel arbitration of that claim, and the motion was

denied.

After a trial on the Section 10(b) claim, the jury returned a

verdict in favor of Clark, awarding $1,683,170 in lost income,

the increased cost of purchasing the bond portfolio, and pre-

judgment interest. Merrill Lynch and Hoover appeal, claim-

ing that (1) the district court erred in refusing to compel arbi-

tration of Clark’s Section 10(b) claim; (2) Clark fa*!ed to prove

actionable fraud or fraud in connection with the purchase or

sale of a security under Section 10(b); (3) Clark failed to prove

damages; (4) the damages awarded constituted a double recov-

ery and were speculative; (5) the district court submitted erro-

neous jury instructions on scienter, damages, reliance, and de-

fenses to fraud; and (6) the district court abused its discretion

in denying Merrill Lynch’s and Hoover’s motion for a new

3a

trial. The paramount question confronting us is whether the

motion to compel arbitration of the Section 10(b) claim was

improperly denied.

I.

Donald Clark lived in Buckhannon, West Virginia, from

1963 until 1983; he started his own company there in 1963.

The company provided services to the oil and gas industry,

and Clark sold it to NL Industries, Inc. (“NL”) in April 1979.

Clark received over $9 million on the sale, including 300,000

shares of NL stock valued at $20 per share.

In 1981, Clark opened a brokerage account with Smith Bar-

ney, Harris, Upham & Company. Hoover was his broker

there, and when Hoover moved to Merrill Lynch shortly there-

after, Clark transferred his account. The account became

known as the “‘02” account.

Hoover also introduced Clark to Richard Gordon, manager

of Merrill Lynch’s Managed Options Service in New York.

Gordon specialized in options, specifically covered call writing.

Clark opened a second account with Merrill Lynch in New

York in February 1982 which Gordon managed and which be-

came known as the “01” account.

The covered call writing continued through 1981, 1982, and

1983. During that time and into 1984, Clark’s income fell by

roughly $500,000, and he became pressed for income to pay

his expenses. After examining his accounts’ performance and

concluding that the 02 account was not providing him with a

sufficient return, Clark told Hoover in September 1984 to stop

trading in options.

On January 16, 1985, Clark, Hoover, and Clark’s account-

ant, Don Nestor, met in Buckhannon. Clark was considering

investing in tax-free municipal bonds to produce the income

that he felt he needed and told Hoover so. Hoover told Clark

that he should consider another course, and recommended in-

come production through a combination of premiums from

covered options, dividends, interest, and gains from sales of

stock. Hoover emphasized that he believed such a program

could exceed the return on municipal bonds. After discussions

with Hoover, and after a subsequent telephone conference call

4a

with Hoover <4 Gordon in which Gordon said that he be-

lieved that Clark’s needs could be met through the recom-

mended strategy, Clark decided not to invest in municipal

bonds and to follow Hoover’s recommendation to restructure

the portfolio.

Clark kept the 01 account in New York with Gordon and

the 02 account in Huntington with Hoover and opened a new

“03” account in Huntington with proceeds from the sale of his

NL stock. Clark’s income goals or objectives were $5,500 per

month from the 01 account, $15,000 per month from the 02

account, and $25,000 per month from the 03 account, repre-

senting an annual return of approximately 12.7%.

As early as February or March 1985, the accounts were fail-

ing to meet their objectives. In April or May 1985, Clark

spoke with Hoover several times about Clark’s inability to

conclude from his account statements that his investment

objectives were being met. According to Hoover, Clark’s

objectives were being met and he so informed Clark although

that fact was not reflected in the monthly account statements.

To address Clark’s concerns, Hoover recommended transfer-

ring the 02 and 03 accounts from Huntington to New York.

The accounts wer¢ transferred in June 1985. Hoover contin-

ued to be in contact with Clark about his accounts, although

investment decisions thereafter were made through Gordon in

New York.

Clark, Nestor, Hoover and Gordon met on August 15,

1985, to review the accounts. At the meeting, Hoover again

assured Clark that his accounts were performing as they

should. By late October, however, Clark was again pointing

out to Hoover and Gordon that he was unable to see where his

accounts had earned more in income than he could see in his

monthly statements, and arranged a meeting in New York

with Gordon and with Nestor, accountant for Clark. Clark

and Gordon compared summaries of the accounts at the Octo-

ber 31, 1985, meeting, and Clark, not satisfied with the

amounts he had been receiving, stopped any new trading in the

accounts. On November 21, 1985, he directed Gordon to

close the accounts and liquidate the investments. By Decem-

ber 3, 1985, the liquidation was complete.

5a

Clark brought the present action in August 1986, alleging

that Merrill Lynch and Hoover had violated Section 10(b) of

the Securities Exchange Act of 1934 and Rule 10b-5 thereun-

der. He also alleged that Merrill Lynch and Hoover had vio-

lated the Racketeer Influenced and Corrupt Organizations Act

(“RICO”), 18 U.S.C. §§ 1962 and 1964, and were liable under

a number of state law claims. The district court referred all of

the state law claims to arbitration! but did not act to refer with

respect to the Section 10(b) and RICO claims.

Merrill Lynch and Hoover moved to compel arbitration of

the federal claims; the motion was granted as to the RICO

claim and denied as to the Section 10(b) claim. After trial, the

jury returned a verdict in favor of Clark, awarding $1,683,170

in lost income, the increased cost of purchasing the bond port-

folio, and prejudgment interest. Merrili Lynch and Hoover

filed a timely notice of appeal.

Il.

At the threshold we are confronted with two issues arising

from a dispute between the parties as to whether they contrac-

tually agreed to submit any claim, including a Section 10(b)

claim, to arbitration.

By memorandum opinion and order dated February 9,

1988, the district court ruled that Clark’s federal securities law

claim could be litigated and denied Merrill Lynch’s motion to

compel arbitration and to stay further court proceedings relat-

ing to that claim. A subsequent motion by Merrill Lynch for

reconsideration was denied on May 27, 1988. Merrill Lynch

now appeals the denial of the motion for reconsideration.

A. Effect of Waiving Interlocutory Appeal on Availability of

Appeal from Final Judgment

While conceding that the denial of Merrill Lynch’s motion

was subject to interlocutory appeal under 28 U-S.C.

§ 1292(a)(1), Clark contends that this court now lacks jurisdic-

tion to review the district court’s ruling on the issue, simply be-

cause the time within which to bring the interlocutory appeal

'! The arbitration proceedings have been suspended pending the out-

come of this appeal.

6a

has long since expired and that, in failing to bring an interlocu-

tory appeal, Merrill Lynch somehow waived its right to raise

the issue on appeal after final judgment. To rule otherwise,

continues Clark, would afford Merrill Lynch “‘a second bite at

the apple.”’ In support of his novel argument, Clark cites

Browder v. Director, Dept. of Corrections, 434 U.S. 257 (1978);

Washington v. Bumgarner, 882 F.2d 899 (4th Cir. 1989); and

Shah v. Hutto, 722 F.2d 1167 (4th Cir. 1983) (en banc).

The argument is utterly without merit. Shah and the other

cases Clark cites have nothing to do with the instant case; they

involve tardy appeals from final orders and final judgments.

Rather, 16 Wright, Miller, Cooper & Gressman, Federal Prac-

tice and Procedure § 3921 (1977) at 11, provides the proper

authority:

[A]lthough appeals are available under § 1292(a)(1) as a

matter of right, failure to take an available appeal does

not of itself waive the right to secure review, on appeal

from final judgment, of matters that could have been ap-

pealed but were not.

See, e.g., Drayer v. Krasner, 572 F.2d 348, 353 (2d Cir.), cert.

denied, 436 U.S. 948 (1978) (“failure to take an authorized

appeal from an interlocutory order [staying the action pending

arbitration] does not preclude raising the question on appeal

from the final judgment”). Hence, we clearly have jurisdiction

to consider an appeal from the final judgment of the district

court’s denial of Merrill Lynch’s motion to compel arbitration.

B. Agreement to Litigate Federal Securities Law Claims

Turning to the question of an agreement to litigate federal

securities claims, Merrill Lynch asserts that the language of the

arbitration clauses in all of the brokerage agreements entered

into with Clark require arbitration of all of Clark’s claims.

Thus, it continues, the district court erred in concluding that

the contradictory language of one particular agreement was

controlling and thus gave Clark the option of litigating his Sec-

tion 10(b) claim.

Between 1981 and 1985, Clark signed numerous brokerage

agreements containing three types of arbitration clauses. The

first of those three clauses appears in all of the agreements exe-

cuted prior to 1985—eight agreements in all—and provides

Ta

that “‘any controversy” between Clark and Merrill Lynch aris-

ing out of Clark’s transactions with Merrill Lynch or out of the

particular agreement itself shall be settled by arbitration.

The second arbitration clause, which appears in three other

agreements signed in the first half of 1985, provides:

Except to the extent that controversies involving

claims arising under the Federal securities laws may be

litigated .... any controversy between us... shall be set-

tled by arbitration.

The third type of arbitration clause, and the one to which

the district court ultimately looked in finding a contractual

agreement to litigate federal securities claims, appeared in a

single Managed Options Agreement signed by the parties on

June 24, 1985, and read as follows:

Although you have signed a customer agreement form

with MERRILL LYNCH that states that you are re-

quired to arbitrate any future dispute or controversy that

may arise between us, you are not required to arbitrate

any dispute or controversy that arises under the federal

securities laws but instead can resolve any such dispute

or controversy through litigation in the courts.

At the same time the Managed Options Agreement was exe-

cuted, the parties executed two Standard Options Agreements

containing the second type of arbitration clause discussed

above.? The two Standard Options Agreements also contained

a clause which purported to resolve conflicting language in

other brokerage agreements. The clause reads:

Any agreement by me with you, whether previously or

hereafter made applicable to any account of mine with

you, shall also apply to such option transactions except

to the extent which it conflicts with this agreement. In

the event of a conflict, this agreement shall control, and

where there is no conflict, each provision of each agree-

ment shall apply.

Merrill Lynch offers two arguments as to why the district court

erred in concluding that the language of the Managed Options

Agreement clause clearly and unambiguously shows that the

parties intended and agreed that Clark did not have to submit

2 Thus constituting two of the three agreements signed in the first half of

1985 which contained the second type of clause at issue.

8a

to arbitration—but rather could litigate—any claim arising out

of alleged violations of federal securities laws.

First, Merrill Lynch contends that, because of the conflict

resolution clauses in the Standard Options Agreements signed

the same day as the Managed Options Agreement, the arbitra-

tion clauses in the Standard Options Agreements—the second

type of clause discussed above—control and must be read in

connection with the arbitration clause in the Managed Options

Agreement. Thus, the argument continues, because the dis-

trict court concluded that the language of the second type of

clause requires arbitration of all claims, it erred in finding

otherwise under the Managed Options Agreement clause.

Second, Merrill Lynch urges that the language of the arbitra-

tion clause contained in the Managed Options Agreement is

simply a notice provision mandated by a now-rescinded SEC

rule, Rule 15c2-2, 17 C.F.R. § 240.15c2-2 (1987), and that as

such does not create any substantive right to litigate rather

than arbitrate a federal securities law claim. Therefore, claims

Merrill Lynch, the inclusion of the Rule’s language by Merrill

Lynch in any agreement with Clark should not be held to have

superseded and rendered void previous agreements to arbitrate

all disputes-—

As a preliminary proposition, we note that, in construing the

arbitration clauses of contracts, there exists a presumption in

favor of arbitrability. Moses H. Cone Memorial Hosp. v. Mer-

cury Constr. Corp., 460 U.S. 1 (1983); see also Mitsubishi Mo-

tors Corp. v. Soler Chrysler-Plymouth, Inc., 473 U.S. 614

(1985) (as with any other contract, parties’ intentions control,

but those intentions are generously construed as to issues of

arbitrability). The question, so reframed, is whether the lan-

guage of the agreements between Clark and Merrill Lynch is

sufficient to overcome the presumption of arbitrability in favor

of litigating the Section 10(b) claim.

We quickly dispose of Merrill Lynch’s first contention by

noting that the language of the arbitration clauses in the Stan-

dard Options Agreements was also added in response to the

3 Rule 15c2-2, entitled “Disclosure regarding recourse to the courts not-

withstanding arbitration clauses in broker-dealer customer agreements,”

provided, in pertinent part:

9a

notice provisions mandated by SEC Rule 15c2-2, an observa-

tion with which both the district court and Merrill Lynch

agree. See Clark v. Merrill Lynch, Pierce, Fenner & Smith,

CA-86-879-3 (S.D.W. Va. Feb. 9, 1988) (order granting in

part and denying in part the defendant’s motion to compel ar-

bitration and stay proceedings) at 6; Brief of Appellants at 24,

n.9. Thus, the arbitration clauses in the Standard Options

Agreements and the Managed Options Agreement, all execut-

ed together on June 24, 1985, are not in conflict at all, render-

ing immaterial the question of which arbitration clause con-

trols.

As noted earlier, however, the district court interpreted the

language of the arbitration clauses in the Managed Options

Agreement (the result of voluntary action) and the Standard

Options Agreement (included only because of Securities and

Exchange Commission mandate) differently. The court found

that the language of the arbitration clauses in the Standard Op-

tions Agreements “‘to be advice or notice to the customer that

the courts have held that claims involving the securities laws

are not subject to binding arbitration agreements (not an ex-

pression by Merrill Lynch of willingness to litigate),” an obvi-

ous reference to Rule 15c2-2. But in construing the arbitra-

tion clause contained in the Managed Options Agreement, the

(a) It shall be a fraudulent, manipulative or deceptive act or

practice for a broker or dealer to enter into an agreement with

any public customer which purports to bind the customer to

the arbitration of future disputes between them arising under

the Federal securities laws, or to have in effect such an agree-

ment, pursuant to which it effects transactions with or for a

customer.

(b) Notwithstanding paragraph (a) of this section, until De-

cember 31, 1984 a broker or dealer may use existing supplies

of customer agreement forms if all such agreements entered in-

to with public customers after December 28, 1983 are accom-

panied by the separate written disclosure:

Although you have signed a customer agreement

form with FIRM NAME that states that you are

required to arbitrate any future dispute or contro-

versy that may arise between us, you are not re-

quired to arbitrate any dispute or controversy that

arises under the Federal securities laws but instead

can resolve any such dispute or controversy

through litigation in the courts.

10a

court found that, because Rule 15c2-2 required the specific

notice provision contained in the Rule be included in broker-

age agreements only until December 31, 1984, the language of

the clause in the Managed Options Agreement, entered into by

Clark and Merrill Lynch on June 24, 1985 (i.e., well after De-

cember 31, 1984), had to be construed to have become, cha-

meleon-like, a voluntary agreement not to require arbitration.

In so construing the clause language, the court concluded that

the parties had agreed to litigate the Section 10(b) claim and

denied Merrill Lynch’s motion to compel arbitration. The

only remaining question, then, is which of the district court’s

interpretations of two similar clauses contained in three docu-

ments executed on the same day—June 24, 1985—is correct.

To answer that question, we need look no further than Judge

Murray’s well-reasoned opinion in Tauber v. Prudential-Bache

Securities, Inc. [Current Transfer Binder] Fed. Sec. L. Rep.

(CCH) 195,226 (D. Md. 1990). In Tauber, the district court

was confronted with facts virtually indistinguishable from the

instant case in ruling on the defendant broker’s motion to

compel arbitration. There the plaintiff had entered into a se-

ries of brokerage agreements from 1984 through 1986. The

agreements entered into in 1984, like all of agreements for

Clark’s 01 account and most of the agreements for his 02 ac-

count, contained arbitration clauses whereby the parties agreed

to submit a// claims to arbitration. The agreements entered in-

to in 1985 and 1986 contained arbitration clauses containing

language very similar to that contained in Clark’s Standard

Options Agreements signed on June 24, 1985. The Tauber

court also noted that it had been the defendant’s practice dur-

ing 1984 to provide clients with the same notice contained in

Clark’s Managed Options Agreement.

Like Clark, the plaintiff in Tauber argued that the litigation

language in the 1985 and 1986 agreements should be con-

strued not as mere notice but as creating a substantive right to

litigate federal securities law claims. The Tauber court began

its analysis by carefully examining (a) the Supreme Court case

law shaping Rule 15c2-2 from cradle to grave; see Wilko v.

Swan, 346 U.S. 427 (1953); Shearson/American Express Inc.

v. McMahon, 482 U.S. 220 (1987); Rodriguez de Quijas v.

Shearson/American Express, Inc., 490 U.S. 477 (1989);

lla

(b) other circuits’ construction of the Rule’s language as a sub-

stantive term of the contract or as mere notice; see, e.g., Ballay

v. Legg Mason Wood Walker, Inc., 878 F.2d 729 (3d Cir.

1989); Gooding v. Shearson Lehman Bros. Inc., 878 F.2d 281

(9th Cir. 1989); and (c) various courts’ attempts to draw dis-

tinctions between substantive and notice provisions by exam-

ining the precise language involved; see, e.g., Stander v. Finan-

cial Clearing & Services Corp., 718 F. Supp. 1204 (S.D.N.Y.

1989). The court then turned to a line of cases from this cir-

cuit which have consistently held that the Rule does not create

any substantive rights nor does “‘a party’s preference for litiga-

tion over arbitration ‘. . . rise to the level of a substantive

right.’ ”’ Jeske v. Brooks, 875 F.2d 71, 75 (4th Cir. 1989); see

also Ottenritter v. Shearson Lehman Hutton, Inc., 727 F. Supp.

980 (D. Md. 1989); Fisher v. Prudential-Bache Securities Inc.,

635 F. Supp. 234 (D. Md. 1986); Shotto v. Laub, 632 F. Supp.

516 (D. Md. 1986). We are disinclined to depart from that

line of reasoning now.

Admittedly, Judge Murray’s opinion in Tauber did not ad-

dress the fact, present in Tauber, that the precise language set

forth in Rule 15c2-2(b), see n.3, supra, was only required to

appear in brokerage agreements until December 31, 1984.

But we think that here the district court below construed sub-

section (b) too broadly in concluding that Rule 15c2-2 must

not have required any type of notice after that date and so

must be deemed to have served a contractual purpose thereaf-

ter. Subsection (b) merely provided a grace period within

which brokers were permitted to use preexisting brokerage

forms. The obvious implication of such a provision is that af-

ter December 31, 1984, brokers should print new forms con-

forming to the requirements of the Rule if they meant to stay

up to date, not that notice language was no longer required,

and so the language had to become contractual in nature.

Had the parties entered into brokerage agreements contain-

ing the Rule’s notice provisions after the Rule had been re-

scinded in 1987, see Sec. Exch. Act Rel. No. 25034, [1987

Transfer Binder], Fed. Sec. L. Rep. (CCH) 9 84,163, 52 Fed.

Reg. 39, 271 (Oct. 15, 1987), the district court’s reasoning

would have far more force. Here, however, the agreements

were entered into while the Rule was still in effect, rendering

12a

Jeske, Ottenritter, and Fischer fully applicable. Obviously, the

Tauber court reached the same conclusion.

We thus hold that the litigation language contained in the

arbitration clauses of the Standard Options Agreements and

the Managed Options Agreement entered into by Clark and

Merrill Lynch on June 24, 1985, were notice provisions only

and did not create a substantive right to litigate federal securi-

ties law claims. Like the court in Tauber, we find additional

support for that conclusion by noting the parties’ prior course

of conduct in agreeing, in at least eight brokerage agreements

entered into between 1981 and 1985, to submit all claims to

arbitration, including-federal securities law claims.4 There is

nothing in the record to indicate that Clark at any time bar-

gained for an agreement to the contrary.‘

The district court erred, therefore, in construing the arbitra-

tion clause of the Managed Options Agreement as an agree-

ment between the parties to litigate federal securities law

claims and in denying Merrill Lynch’s motion to compel arbi-

tration of Clark’s Section 10(b) claim. Accordingly, we vacate

the judgment of the district court and remand the case to the

district court with instructions to compel arbitration of the

Section 10(b) claim.

VACATED AND REMANDED

4 Of course, those agreements entered into while Rule 15c2-2 was in

effect were nonetheless enforceable. Fisher, 635 F. Supp. at 236.

5 Indeed, Clark testified at trial that he did not read his brokerage agree-

ments with Merrill Lynch.

13a

UNITED STATES COURT OF APPEALS

FOR THE FOURTH CIRCUIT

No. 90-2039

DONALD E. CLARK

Plaintiff— Appellee

v.

MERRILL LYNCH, PIERCE, FENNER & SMITH,

INCORPORATED, a New Jersey corporation;

WENDELL C. HOOVER

Defendants — Appellants

On Petition for Rehearing with Suggestion for Rehearing

In Banc

The appellee’s petition for rehearing and suggestion for re-

hearing in banc were submitted to the Court. In a requested

poll of the Court, Judges Widener, Hall and Sprouse voted to

rehear the case in banc; and Judges Ervin, Russell, Phillips,

Murnaghan, Chapman, Wilkinson, Wilkins, and Niemeyer

voted against rehearing the case in banc. As a majority of the

judges voted to deny rehearing in banc, and

As the panel considered the petition for rehearing and is of

the opinion that it should be denied,

IT IS ADJUDGED AND ORDERED that the petition for

rehearing and suggestion for rehearing in banc is denied.

Judge Widener would favor granting rehearing.

Entered at the direction of Judge Murnaghan.

For the Court,

CLERK

l4a

IN THE UNITED STATES DISTRICT COURT FOR

THE SOUTHERN DISTRICT OF WEST VIRGINIA

AT HUNTINGTON

CIVIL ACTION

NO. 3:86-0879

DONALD E. CLARK,

Plaintiff,

v.

MERRILL LYNCH, PIERCE, FENNER & SMITH,

INC.; and WENDELL C. HOOVER,

Defendants.

MEMORANDUM OPINION AND ORDER

Before the court is the defendants’ motion to compel arbi-

tration of plaintiff's claims alleging violations of § 10b of the

Securities Exchange Act of 1934, 15 U.S.C.A. § 78j(b) (West

1981), and Rule 10b-5 of the Securities and Exchange Com-

mission, 17 C.F.R. § 240.10b-5 (1986), (hereinafter “securities

law claim”’) and of the Racketeer Influenced and Corrupt Or-

ganizations Act, 18 U.S.C.A. §§ 1962 and 1964 (West 1984),

(hereinafter ““RICO”’) and to stay the proceedings in this court.

This court, by memorandum opinion and order entered

March 18, 1987, previously had ordered arbitration of the

other claims asserted by the plaintiff against the defendants.

However, we stayed ruling on the motion to arbitrate the

securities law and RICO claims pending the Supreme Court’s

decision in Shearson/American Express, Inc. v. McMahon,

No. 86-44, cert. granted, __._ U.S. : ar

15a

L.Ed.2d 20 (1986). Inasmuch as the Supreme Court has ren-

dered its decision, Shearson/American Express, Inc. vy.

McMahon, 482 U.S. , 107 S.Ct. 2332, 96 L.Ed.2d 185

(1987), and the parties have fully briefed its effect on the case

sub judice, the motion is now ripe for decision.

When ruling on a motion to compel arbitration, this court

must first determine whether the parties agreed to abritrate the

dispute in question. Mitsubishi Motors Corp. vy. Soler

Chrysler-Plymouth, Inc., 473 U.S. 614, 626 (1985). Second,

we must determine whether the dispute is in fact one that may

be submitted to arbitration. Mayaja, Inc. v. Bodkin, 803 F.2d

157. 160 (Sth Cir. 1986), vacated ___. U.S. ___., 107 S.Ct.

3205, 96 L.Ed.2d 692 (1987); Creative Securities Corp. v. Bear

Stearns & Co., 671 F.Supp. 961, 965 (S.D.N.Y. 1987); Hail v.

Prudential-Bache Securities, Inc., 662 F.Supp. 468, 470

(C.D.Cal. 1987). The Supreme Court in the McMahon case

supra, has determined that claims alleging violations of the

securities laws and of RICO, such as those set forth in the com-

plaint in this present action, are arbitrable. Therefore the only

issue that this court must decide is whether the parties agreed

to submit such claims to arbitration.'!

1 The defendants, in their supplemental memorandum of law of

June 29, 1987, at 3, state that the court has already ruled in our memoran-

dum opinion and order of March 18, 1987, that the parties have agreed to

arbitrate these claims. While we perceive that the language in the first full

paragraph on page 3 of that opinion might be interpreted as so holding,

that was not the court’s intention. Furthermore, inasmuch as the court did

not have before it at that time all the documents relating to the agreements

between the parties, see Stipulations of Fact of Counsel, Court Document

19, the court would not consider any such ruling, if one had been made,

binding on us so as to be the law of the case.

16a

The resolution of this issue is complicated by the fact that

apparently the plaintiff had more than one account with the

defendant Merrill, Lynch, Pierce, Fenner & Smith, Inc.? (here-

inafter ‘Merrill Lynch”) and that he signed numerous docu-

ments or agreements related to these accounts.? Furthermore,

many of these documents contained provisions regarding arbi-

tration of disputes between the parties thereto. The last such

agreement, a Managed Options Client Agreement, was

executed in June, 1985, and contained the following clause:

8. Arbitration Clause. Although you have signed a cus-

tomer agreement form with MERRILL LYNCH

that states that you are required to arbitrate any fu-

ture dispute or controversy that may arise between

us, you are not required to arbitrate any dispute or

controversy that arises under the federal securities

laws but instead can resolve any such dispute or

controversy through litigation in the courts.

2 The plaintiff alleges in his complaint that he had three separate ac-

counts with Merrill Lynch, the first one, Account Number 301-67101, sub-

sequently renumbered 301-96101, (hereinafter “the 01 Account”), estab-

lished on September 1, 1981; the second one, Account Number 671-

96169, subsequently renumbered 301-96002 (hereinafter “the 02 Ac-

count”), established sometime thereafter; the third one, Account Number

671-16280, subsequently renumbered 671-96172 and then 301-96003

(hereinafter “the 03 Account”), established on January 21, 1985. The de-

fendants admit in their answer the existence of the first two accounts but

deny the existence of the third.

The court, in an order entered on September 3, 1987, Court Document

18, acting on the assumption that there were in fact three separate ac-

counts, asked the parties to stipulate as to the complete contract applicable

to each account. Counsel for the parties submitted a stipulation in re-

sponse to the order. Court Document 19. However, in an oblique effort to

avoid conceding exactly how many accounts did exist, counsel merely stip-

ulated that the documents submitted were those executed by the plaintiff

and Merrill Lynch without specifying which documents applied to which

account. Because the documents submitted establish the existence of at

least account numbers 301-67101, 671-96169, 301-96002, and 301-96003,

the court will assume for purposes of deciding this motion that the plaintiff

had three separate accounts with Merrill Lynch.

3 See n.2 supra. The court notes in passing that certain documents pre-

viously submitted to the court as being copies of agreements entered into

by the parties were not included in the stipulation.

17a

Exhibit A to Stipulation of Counsel, Court Document 19.

Plaintiff contends that this agreement is the contract control-

ling the entire relationship between himself and Merrill Lynch

and therefore applies to a dispute involving any account he has

with Merrill Lynch. In the alternative, he argues that if that

client agreement does not in and of itself govern all the ac-

counts it was made applicable thereto by a clause in an option

agreement executed contemporaneously with the Customer

Agreement. Exhibit B to Stipulation of Counsel. That clause

states:

11. Any agreement by me with you, whether previ-

ously or hereafter made applicable to any account

of mine with you, shall also apply to such option

transactions except to the extent which it conflicts

with this agreement. In the event of a conflict,

this agreement shall control, and where there is

no conflict, each provision of each agreement

shall apply.

Id. He contends that by reading these two documents together

paragraph 8 of Exhibit B makes paragraph 11 of Exhibit A

controlling as to any other contract between the parties if there

should be a conflict between the arbitration clauses of the two

contracts. It appears that the defendants also assume that the

arbitration clause cited supra is applicable to all accounts in-

volved although they contest the effect of the conflicts clause of

Exiibit B. Their disagreement with the plaintiff is about the

interp*tation of the arbitration clause.

Although the court has some question as to the applicability

of the Managed Options Client Agreement to the three ac-

counts, given the fact that it contains only the account number

of the 03 Account and has no statement of general application,

as do the Customer Agreements, Exhibit P, para. 12 & Exhibit

Q, para. 17, we will assume for the sake of deciding this mo-

tion that it does apply to all three accounts. However, Exhib-

it A is not the only document that we must review in order to

determine whether the parties did or did not agree to arbitrate

the securities law and RICO claims. In determining the extent

of the parties’ agreement to arbitrate, any doubts must be re-

solved in favor of arbitration. Mitsubishi Motors Corp. v. Soler

Chrysler-Plymouth, Inc., 473 U.S. 614, 626 (1985); S. A.

Mineracao Da Trindade—Samitri v. Utah International, Inc.,

18a

745 F.2d 190, 194 (2d Cir. 1984); Hall v. Prudential-Bache

Securities, Inc., 662 F.Supp. 468, 470 (C.D.Cal. 1987).

We will start with the documents, other than Exhibit A, that

have general application to all the accounts—the Customer

Agreements. In Exhibit P, which was executed on Septem-

ber 1, 1981, the plaintiff and Merrill Lynch‘ “agreed that any

controversy between us arising out of your business or this

agreement shall be submitted to arbitration... .” This is a

broad statement without any reservations or exclusions and we

believe that it is unnecessary to cite any case law to support the

finding that the securities law and RICO claims would be en-

compassed thereunder.

The arbitration clause in the other Customer Agreement,

Exhibit Q,5 states that “‘[e]xcept to the extent that controver-

sies involving claims arising under the Federal securities laws

may be litigated, it is agreed that any controversy between us

arising out of your business or this agreement shall be submit-

ted to arbitration. ...”’ Jd., para. 13. Plaintiff has argued that,

irrespective of the meaning and effect of Exhibit A, the open-

ing clause of that quoted sentence excludes any claim it has as-

serted in Count I from arbitration because such claim involves

controversies arising under the federal securities laws.

However, we interpret that language to be advice or notice to

the customer that the courts have held that claims involving

the securities laws are not subject to binding arbitration agree-

ments. Therefore, if the customer’s dispute with his broker in-

volves such a claim, he does not have to submit the claim to

arbitration but may litigate it in court instead. See Girard vy.

Drexel Burnham Lambert, Inc., 805 F.2d 607, 609-10 (Sth

Cir. 1986); Austad v. Drexel Burnham Lambert, Inc., 638

F.Supp. 480, 483-84 (N.D.ILL. 1986); Chandler v. Drexel

Burnham Lambert, Inc., 633 F.Supp. 760, 762-63 (N.D.Ga.

1985); Shotto v. Laub, 632 F.Supp. 516, 523 (D.Md. 1986);

West v. Drexel Burnham Lambert, Inc., 623 F.Supp. 26, 26-27

4 Although the defendant Hoover was not a signatory to any of the doc-

uments involved he is covered by any arbitration agreement, Creative Se-

curities Corp. v. Bear Stearn & Co., 671 F.Supp. 961, 968 n. 11 (S.D.N.Y

1987); therefore, we will refer to the signatories hereafter as “the parties”.

5 Although this agreement is undated, we will assume for the sake of de-

ciding this motion that it was executed after and would modify Exhibit P.

19a

(W.D.Wash. 1985); Finkle & Ross v. A. G. Becker Paribas,

Inc., 622 F.Supp. 1505, 1509-10 (S.D.N.Y. 1985). Contra

Scharp v. Cralin & Co., 617 F.Supp. 476, 479-80 (S.D.Fla.

1985). However, it does not exclude from the agreement

securities law claims which may be subject to arbitration. In-

asmuch as the Supreme Court has held that securities law

claims such as alleged herein may be arbitrated and are subject

to an agreement to arbitrate, Shearson/American Express, Inc.

v. McMahon, supra, that advice in the opening clause has no

bearing here. That clause does not exclude Count I from

arbitration.

We will now look at the documents related to the individual

accounts, beginning with the 01 Account. Exhibits G, H, K, L

and M all have broad arbitration clauses calling for arbitration

of “‘any controversy”’ arising out of the agreement. These are

similar to the arbitration clause in Exhibit P and likewise

would include plaintiff's securities law claim. The documents

submitted related specifically to the 02 Account are Exhibits C

and O; both are what plaintiff refers to as Standard Option

Agreements. The arbitration clause in Exhibit O, the older of

the two in time of signing, calls for arbitration of “‘[a]Jny con-

troversy between us arising out of such option transaction or

this agreement. ...” Again this language is to the same effect

as that in Exhibit P and our previous ruling as to its scope ap-

plies to Exhibit O. Exhibit C’s arbitration clause is very simi-

lar to Exhibit Q’s and the court’s ruling as to its effect applies

equally to Exhibit C.

With regard to the 03 Account, besides Exhibit Q—the Cus-

tomer Agreement—which we have interpreted previously, the

only documents applicable are Exhibits A and B. Since

Exhibit A is the Managed Options Client Agreement, which is

keystone of plaintiff's argument, we will leave it for separate

treatment. Exhibit B is another Standard Option Agreement

with an arbitration agreement identical to Exhibit C. The

opening clause thereof is identical to the beginning clause in

the arbitration agreement in Exhibit Q. Consequently, the rea-

soning applied and ruling made regarding Exhibit Q are also

applicable to Exhibit B as though repeated verbatim.

The parties have not advised us as to which account

Exhibit F applies and the plaintiff denies the authenticity of

20a

Exhibit D. However, their arbitration provisions are no differ-

ent than those previously discussed. They therefore do not

alter the court’s determination that, without considering

Exhibit A, under the other contracts or agreements entered in-

to by the parties the plaintiff has agreed to submit all disputes,

including his securities law claims, to arbitration.

This brings us to Exhibit A, the Managed Options Client

Agreement, which contains the heart of plaintiff's argument

against arbitration. Paragraph 11, the arbitration clause,

states:

Although you have signed a customer agreement form

with MERRILL LYNCH that states that you are re-

quired to arbitrate any future dispute or controversy that

may arise between us, you are not required to arbitrate

any dispute or controversy that arises under the federal

securities laws but instead can resolve any such dispute

or controversy through litigation in the courts.

Plaintiff contends that this language clearly and unambigu-

ously shows that the parties intended and agreed that he did

not have to submit to arbitration any claim arising out of al-

leged violations of securities laws. Instead, they agreed that he

could litigate such claim in court. Defendants, on the other

hand, contend that this provision was included only because it

was required by the Securities and Exchange Commission

(hereinafter “‘SEC’’). 17 C.F.R. § 240.15c-2-2 (1987). It is

their position that the SEC required brokers to send the notice

in paragraph 11 in order to notify customers that courts had

held that securities law disputes were not subject to arbitration

and that consequently agreements between brokers and cus-

tomers binding them to arbitrate such disputes were not en-

forceable. However, since the Supreme Court has now held in

Shearson/American Express, Inc. v. McMahon, supra, that

such disputes are arbitrable and that agreements to arbitrate

them are enforceable, the notice required by the SEC was erro-

neous; therefore, its inclusion by Merrill Lynch in any agree-

ment with plaintiff should not be held to have superseded and

rendered void previous agreements to arbitrate all disputes.

The court notes that the arbitration clause in Exhibit A is

verbatim the language of the notice the SEC required brokers

to send to customers who had established accounts before

2la

December 28, 1983. 17 C.F.R. § 240.15c2-2(b)(1987). How-

ever, the use of this specific language was mandated only as ac-

companiment to customer agreement forms preexisting the

regulation and then only until December 31, 1984. The Man-

aged Options Client Agreement between the parties evidenced

by Exhibit A was entered into in June, 1985. This court finds

therefore that the arbitration clause in Exhibit A was not in-

cluded because of the SEC regulation set out in 17 C.F.R.

§ 240.15c2-2. Consequently, that clause should be interpreted

on its own merits according to the usual rules of construction

of contracts.

Paragraph 11 clearly states that the customer is “not re-

quired to arbitrate any dispute or controversy that arises under

the federal securities laws but instead can resolve any such dis-

pute or controversy through litigation in the courts.”

Exhibit A. This court finds this language clear and unambigu-

ous. The parties expressly agreed that the customer—plaintiff

herein—had the right to litigate disputes between them involv-

ing federal securities law issues. See Hammerman y. Peacock,

No. 84-2724 (D.D.C. Juiy 31, 1985) (available on

WESTLAW, DCTU database). Since the parties to this action

have represented to the court that this arbitration clause ap-

plies to and governs ail the accounts that the plaintiff had with

Merrill Lynch, see supra at 4-5, this court finds that the claim

asserted in Count I of the complaint is not required to be sub-

mitted to arbitration but may be litigated in this court.

Plaintiff contends that this same result should also apply to

RICO claim alleged in Count II of his complaint. It is his posi-

tion that since the predicate acts, 18 U.S.C.A. § 1961(a)(West

Supp. 1986), for this claim involve violations of federal securi-

ties laws the RICO claim itself “‘arises under the federal securi-

ties laws”, Exhibit A para. 11, and consequently is also

excluded from arbitration by the parties’ agreement.

Prior to the Supreme Court’s decision in Shearson/

American Express, Inc. vy. McMahon, supra, several courts

held that RICO claims founded on predicate acts involving

violations of securities laws were excluded from arbitration.

Tashea v. Bache, Halsey, Stuart, Shields, Inc., 802 F.2d 1337

(11th Cir. 1986) (per curiam); Jacobson v. Merrill Lynch,

Pierce, Fenner & Smith, Inc., 797 F.2d 1197, 1202-03 (3rd

22a

Cir. 1986). vacated __. U.S. —___, 107 S.Ct. 3204, 96

L.Ed.2d 691 (1987); Romyn v. Shearson Lehman Brothers,

Inc., 648 F.Supp. 626, 630-32 (D.Utah 1986). This was done

in order to avoid an inconsistency between the handling of

securities law claims and RICO claims which involved allega-

tions of violations of the same laws. Jd. This is analogous to

plaintiff's argument that nis RICO claim “arises under” the se-

curities laws because the predicate acts therefor involve such

laws.

However, some of the ground for this analogy has been cut

from under plaintiff by the Supreme Court’s holdings in

Shearson/American Express, Inc. that securities law and RICO

claims such as those asserted herein are in fact arbitrable.

More importantly for our purposes, we agree with the dissent

in Jacobson that a RICO claim is separate and distinct from

the violations which constitute the predicate acts. 797 F.2d

1197, 1209; accord, Mayaja, Inc. v. Bodkin, 803 F.2d 157,

162 n.6 (Sth Cir. 1986), vacated » CE cnt, SOT GX.

3205, 96 L.Ed. 2d 692 (1987); Hall v. Prudentiail-Bache

Securities, Inc., 662 F.Supp. 468, 472-74 (C.D.Cal. 1987).

Therefore, the question of the arbitrability of the RICO claim

and of the predicate acts must be considered separately. Jd.

This court believes the same reasoning should be used in deter-

mining whether an arbitration agreement covers RICO claims.

Inasmuch as the RICO claim is separate from the security law

claim and inasmuch as we are to resolve doubts as to the scope

of arbitration agreements in favor of arbitration, see Moses H.

Cone Memorial Hospital v. Mercury Construction Corp., 460

U.S. 1, 24-25 (1983), we find that the RICO claim involved

herein does not “arise under the federal securities laws’’.

Therefore, it is not encompassed by the arbitration clause of

Exhibit A; instead it is covered by the earlier agreements be-

tween the parties and must be submitted to arbitration. Al-

though this may result in piecemeal litigation of plaintiffs

claims, that is not a reason to deny enforcement of the parties’

agreement to arbitrate. See Dean Witter Reynolds Inc. v. Byrd,

470 U.S. 213, 216-21 (1985).

The defendants have also asked that the proceedings regard-

ing any claims which are not ordered to arbitration be stayed

pending resolution of the arbitration of the other claims. We

23a

do not believe that such a stay is necessary. Dean Witter

Reynolds Inc. v. Byrd, 470 U.S. at 221-24.

The court’s rulings in this opinion also apply to plaintiff's

claims against the defendant Hoover. Letizia v. Prudential

Bache Securities, 802 F.2d 1185, 1187-88 (9th Cir. 1986).

For the feasons stated in this memorandum opinion, it is

ORDERED that:

The defendants’ motion to compel arbitration of Count I of

the complaint be, and the same hereby is, OVERRULED and

DENIED;

The defendants’ motion to stay all proceedings in this court

concerning Count I of the complaint be, and the same hereby

is, OVERRULED and DENIED:

The defendants’ motion to compel arbitration of Count II of

the complaint and to stay all proceedings in this court concern-

ing Count II be, and the same hereby is, SUSTAINED and

GRANTED.

The clerk of the court is directed to mail a certified copy of

this order to all counsel of record.

ENTER:

ROBERT J. STAKER

United States District Judge

24a

IN THE UNITED STATES DISTRICT COURT FOR

THE SOUTHERN DISTRICT OF WEST VIRGINIA

AT HUNTINGTON

CIVIL ACTION

NO. 3:86-0879

DONALD E. CLARK,

Plaintiff,

v.

MERRILL LYNCH, PIERCE, FENNER &

SMITH, INC. and WENDELL C. HOOVER,

Defendants.

MEMORANDUM OPINION AND ORDER

The parties have filed motions requesting the court to recon-

sider our order of February 9, 1988. The defendants ask the

court to reverse our ruling denying their motion to compel ar-

bitration of and to stay all proceedings in this court with regard

to Count I of the complaint. The plaintiff takes issue with our

ruling granting the motion to compel arbitration of and a stay

with regard to Count II of the complaint. Inasmuch as the

plaintiff has not presented any argument or law in addition to

that already presented to and considered by the court in our

previous ruling, the plaintiffs motion for reconsideration will

be denied without further discussion.

In the defendants’ motion, they object to the court’s ruling

that none of plaintiff's securities law claims that he had raised

regarding any of the accounts he had established with the de-

fendant Merrill Lynch had to be submitted to arbitration. The

court had based this ruling on the arbitration clause contained

in a Managed Options Client Agreement entered into by the

parties on June 25, 1988. Exhibit A to Stipulations of Fact,

Court Document Number 19. We found that the parties had

clearly agreed therein to exclude from arbitration any dispute

the plaintiff had which involved the federal securities law.

25a

Memorandum Opinion and Order of February 9, 1988, Court

Document Number 20, at 8-10. We held that that arbitration

clause applied to all the accounts plaintiff had with Merrill

Lynch based upon our understanding that all the parties had

represented to the court, at least implicitly, that the arbitration

clause was so applicable. Jd. at 4-5, 10.

The defendants now emphatically deny that they agree, or

have ever agreed, that the arbitration clause found in the Man-

aged Options Client Agreement, Exhibit A, is applicable to

any account plaintiff had with Merrill Lynch other than the

option account which was established when that agreement

was signed. Defendants’ Motion for Reconsideration, Court

Document Number 21, at 3-4. They dispute plaintiff's con-

tention that the aforesaid arbitration clause was made applica-

ble to previous agreements between the parties and thus to

other accounts by a conflicts clause contained in paragraph 8

of Exhibit B to the Stipulation. Jd. at 4. Instead, it is their

position that the other accounts are governed by contracts in

which the parties agreed to arbitrate all disputes. Jd. at 4-5.

Consequently, the defendants ask the court to amend our pre-

vious ruling and to order to arbitration all of the accounts the

plaintiff had with Merrill Lynch except for the option account

established in June, 1985.

Upon rereading the prior memorandum of law referred to in

the defendants’ motion for reconsideration, it now appears to

the court that our understanding that the defendants agreed

that the arbitration clause set forth in Exhibit A was applicable

to all accounts involved in this litigation was erroneous. In de-

fense of our reaching this mistaken impression we would point

out that the positions taken by the parties, and some of their

representations to the court, see Memorandum Opinion of

February 9, at 3 n.3, have shifted as these proceedings have

progressed. Furthermore, the parties have been less than

forthright with the court in our attempts to determine how

many accounts the plaintiff had with Merrill Lynch and the

documents or contracts applicable to each accourt. Jd. at 3

n.2; see Stipulations of Fact, Court Document Number 19;

26a

Court’s Order of September 3, 1987, Court Document Num-

ber 18. Be that as it may, we will reconsider our previous rul-

ing regarding the arbitrability of Count I of the complaint in

light of the defendants’ present position on the issue.

In our Memorandum Opinion of February 9, the court as-

sumed, based on what it could determine from the parties’ rep-

resentations, that the plaintiff had three separate accounts with

Merrill Lynch. Jd. at 3 n.2. This assumption is not now called

into question by any of the parties. We also held that two

agreements executed by the plaintiff and Merrill Lynch, the

Customer Agreements, Exhibits P and Q, were applicable to

all three accounts. Memorandum Opinion at 5-6. No party

contests that. However, in order to forestall any dispute on

this point we wish to make clear that that particular ruling was

not based upon any assumption on our part or any perceived

representation by the parties. Instead, each Customer Agree-

ment clearly states that “[t]his agreement. . . shall cover indi-

vidually and collectively all accounts which the undersigned

[customer] may open or reopen with [Merrill Lynch]... .”

Stipulations of Fact, Exhibit P para. 12; Exhibit Q para. 17.

We further held that the other relevant documents submitted

as exhibits to the stipulation, other than Exhibit A, were appli-

cable only to individual accounts. Memorandum Opinion at

5, 7-8. (This finding did not include Exhibits F and D for

which we could not make a determination of applicability.)

We then determined that the arbitration clauses found in Ex-

hibits P and Q would require submission to arbitration of all

disputes, including claims of securities law violations. Further-

more, the arbitration clauses contained in the documents ap-

plicable to individual accounts were to the same effect; conse-

quently they did not alter the scope of the arbitration clauses

in the Customer Agreements. Memorandum Opinion at 5-8.

No one has taken issue with these determinations insofar as

they are concerned with the securities law claims.

The court then determined that the arbitration clause in Ex-

hibit A allowed a customer to litigate, rather than arbitrate, a

dispute with Merrill Lynch which involved federal securities

law. Id. at 8-10. The defendants do not challenge that ruling

in their present motion. What they take issue with is the

27a

court’s decision that that clause applied to all plaintiff's ac-

counts with Merrill Lynch. It is their position that this clause

did not alter or amend previous arbitration agreements entered

into by the parties. Instead they contend that the arbitration

provision of Exhibit A applies only to the account established

by that agreement. It is also possible to interpret their memo-

randum of law of June 29, 1987, as asserting the argument

that arbitration agreements cannot be amended.

“[T]he first task of a court asked to compel arbitration of a

dispute is to determine whether the parties agreed to arbitrate

that dispute.” Mitsubishi Motors Corp. v. Soler Chrysler-

Plymouth, Inc., 473 U.S. 614, 626 (1985). That is a question

of what the parties contracted. Davis v. Chevy Chase Finan-

cial Lid., 667 F.2d 160, 165 (D.C. Cir. 1981); see eg,

Janmort Leasing, Inc. v. Econo-Car International, Inc., 475

F.Supp. 1282, 1288 (E.D.N.Y. 1979); Midland Tar Distillers,

Inc. v. M/T Lotos, 362 F.Supp. 1311, 1312-13 (S.D.N.Y.

1973). A party cannot be compelled to arbitrate an issue he

did not agree to submit to arbitration. Davis, supra. A court

is to make the determination of arbitrability by applying

federal substantive law. Mitsubishi Motors Corp., supra. Fed-

eral law counsels that “‘any doubts concerning the scope of ar-

bitrable issues should be resolved in favor of arbitration... .”

Moses H. Cone Memorial Hospital v. Mercury Construction

Corp., 460 U.S. 1, 24-25 (1983) (footnote with citations omit-

ted). State law is applicable only insofar as it concerns general

contract law. Perry v. Thomas, 482 U.S. : , 107

S.Ct. 2 , 96 L.Ed.2d 426, 437 n.9 (1987).

Agreements to submit disputes to arbitration may be

amended or modified the same as any other contract.

5 Am.Jur.2d Arbitration and Award § 35 (1962); see S.A.

Mineracao Da Trindade-Samitri v. Utah International, Inc.,

745 F.2d 190, 195-96 (2d Cir. 1984); Employees Protective

Ass'n v. Norfolk & Western Railway, 571 F.2d 185, 192 (4th

Cir. 1977); Creative Securities Corp. v. Bear Stearns & Co.,

671 F.Supp. 961, 967 (S.D.N.Y. 1987). Modification of a

contract requires the assent of the parties, 17 Am.Jur.2d Con-

tracts § 465 (1964); it must be supported by consideration, id.

§ 469; and ordinarily it must be in writing if the contract being

modified is in writing. Id. § 466.

28a

Exhibit A, which contains the arbitration clause in question,

is a contract between the parties entered into when the plaintiff

opened a new account with Merrill Lynch. This is according

to the defendants’ own representations to the court. It seems

clear, therefore, that the defendants assented to the arbitration

clause and that it was supported by consideration—the open-

ing of the new account. The question is did the arbitration

clause amend earlier arbitration agreements entered into by

the parties. The court in the Memorandum Opinion of Febru-

ary 9 stated that we had reservations about the applicability of

Exhibit A to all the accounts involved herein. We now recog-

nize that our reasoning behind that expression of doubt was er-

roneous insofar as it applied to the arbitration clause therein

and consequently retract that statement.

The arbitration clause in Exhibit A expressly refers to the

Customer Agreement between the parties and the scope of the

arbitration agreement contained in the Agreement. It also

clearly amends the scope of the parties’ agreement to arbitrate

contained in the Customer Agreement by excluding therefrom

“‘any dispute or controversy that arises under the federal secur-

ities laws....”’ Stipulations of Fact, Court Document Num-

ber 19, Exhibit A para. 11. Parties to a contract may modify a

part thereof in a later contract. 17 Am.Jur.2d Contracts § 459

(1964). “‘The original contract generally remains in force ex-

cept as modified or superseded by the new agreement.” Jd. at

925 (footnote with citations omitted). Where a contract refers

to an earlier contract between the parties the two agreements

should be read together. See S. A. Mineracao Da Trindade-

Samitri, 745 F.2d at 196. This court finds that the parties

clearly intended to, and did, amend the arbitration clauses

contained in the Customer Agreements by the arbitration

clause set out in Exhibit A. (The effect of the latter clause has

already been determined and does not need to be repeated

here.) We have already shown how the Customer Agreements,

by their own terms, applied to all the accounts plaintiff had

with Merrill Lynch. Therefore, the arbitration clauses of the

Customer Agreements as amended by the arbitration clause of

Exhibit A applied to all such accounts. Because the amended

arbitration clauses excluded disputes involving federal securi-

ties laws, the plaintiff, by contract, is not required to submit to

arbitration any of his claims of federal securities law violations

29a

involving any of his accounts with Merrill Lynch. This deter-

mination is not affected by the arbitration clauses in other doc-

uments because of our previous determination that such

clauses do not alter the arbitration clauses contained in the

Customer Agreements.

For the reasons set forth above, it is ORDERED that the

motions for reconsideration filed by the plaintiff and by the de-

fendants be, and the same hereby are, OVERRULED and

DENIED.

The clerk of the court is directed to mail a certified copy of

this order to all counsel of record.

ENTER:

ROBERT J. STAKER

United States District Judge

30a

Title 17—Commodity and Securities Exchanges;

Revised as of April 1, 1987

CHAPTER II—SECURITIES AND EXCHANGE

COMMISSION

PART 240—GENERAL RULES AND REGULATIONS,

SECURITIES EXCHANGE ACT OF 1934

Subpart A—Rules and Regulations Under the

Securities Exchange Act of 1934

RULES RELATING TO OVER-THE-COUNTER

MARKETS

§ 240.15c2-2 Disclosure regarding recourse to the courts not-

withstanding arbitration clauses in broker-dealer customer

agreements.

17 CFR 240.15c2-2

(a) It shall be a fraudulent, manipulative or deceptive

act or practice for a broker or dealer to enter into an

agreement with any public customer which purports to

bind the customer to the arbitration of future disputes

between them arising under the Federal securities laws,

or to have in effect such an agreement, pursuant to which

it effects transactions with or for a customer.

(b) Notwithstanding paragraph (a) of this section, un-

til December 31, 1984 a broker or dealer may use ex-

isting supplies of customer agreement forms if all such

agreements entered into with public customers after De-

cember 28, 1983 are accompanied by the separate writ-

ten disclosure:

Although you have signed a customer

agreement form with FIRM NAME that

states that you are required to arbitrate any

future dispute or controversy that may arise

between us, you are not required to arbitrate

any dispute or controversy that arises under

the Federal securities laws but instead can re-

solve any such dispute or controversy through

litigation in the courts.

(c) A broker or dealer shall not be in violation of para-

graph (a) of this section with respect to any agreement

a" rere Came

3la

entered into with a public customer prior to Decem-

ber 28, 1983 if:

(1) Any such public customer for whom

the broker or dealer has after July 1, 1983

(i) carried a free credit balance, or (ii) held

securities for safekeeping or as collateral, or

(iii) effected a securities transaction is sent, no

later than December 31, 1984, the disclosure

prescribed in paragraph (b) of this section; or

(2) Any other public customer is sent upon

the completion of his next transaction pursu-

ant to such agreement, the disclosure pre-

scribed in paragarph (b) of this section.

SOURCE: 48 FR 53406, Nov. 28, 1983

AUTHORITY: Secs. 2, 10, 15, 23 and 29 thereof (15

U.S.C. 78b, 78j, 780, 78w and 78cc)

Rescission of Rule Governing Use of Predispute Arbitration

Clauses in Broker-Dealer Customer Agreements.

Exchange Act Release No. 25034. October 15, 1987. Re-

lease in full text.

Arbitration—Broker-Dealers—Customer Agreements.—In

light of a recent U.S. Supreme Court ruling, the SEC has re-

scinded a rule requiring brokers to disclose that clauses in cus-

tomer agreements mandating arbitration of disputes are inap-

plicable to federal securities law claims. The rescission of Rule

15c2-2 is effective upon Federal Register Publication.

ACTION: Final rule.

SUMMARY: The Securities and Exchange Commission is

announcing the rescission of Rule 15c2-2 [17 CFR 240.15c2-

2] concerning the use of predispute arbitration clauses since, in

light of the development of case law, the rule is no longer

appropriate.

DATE: (Effective upon publication in the Federal Register).

FOR FURTHER INFORMATION CONTACT: Robert

Love, (202) 272-3064, Division of Market Regulation, Securi-

ties and Exchange Commission, 450 Fifth Street, N.W., Wash-

ington, D.C. 20549.

32a

SUPPLEMENTARY INFORMATION:

I. DISCUSSION

The Commission is rescinding § 240.15c2-2 of the Code of

Federal Regulations (17 CFR 240.15c2-2). Rule 15c2-2 was

adopted by the Commission in 1983! in order to address regu-

latory concerns arising from the inclusion in standard form

customer agreements of predispute arbitration clauses (i.e.,

agreements requiring customers to submit to arbitration all fu-

ture disputes.) In light of the fact that then existing case law

generally held that predispute agreements to arbitrate claims

arising under the Securities Act of 1933 and the Securities Ex-

change Act of 1934 (“Exchange Act’) were void and unen-

forceable,? the Commission determined that their inclusion in

customer contracts without disclosure of their inapplicability

to federal securities law claims was misleading, thus constitut-

ing a “fraudulent, manipulative or deceptive act or practice”

within the meaning of the Exchange Act.?

On June 8, 1987, the Supreme Court held in Shear-

son/American Express v. McMahon‘ that predispute agree-

ments to arbitrate claims arising under the Securities Exchange

Act of 1934 are enforceable. In addition, although the Court

! Securities Exchange Act of 1934 Release No. 20397, November 18,

1983, 48 FR 53404.

2 See Wilko v. Swan, 346 U.S. 427 (1953); Moran v. Paine Webber Jack-

son & Curtis, 389 F.2d 242 (3d Cir. 1968); Greater Continental Corp. v.

Schecter, 422 F.2d 1100 (2d Cir. 1970); Colonial Realty Corp. v. Bache &

Co., 358 F.2d 178 (2d Cir.), cert. denied, 385 U.S. 817 (1966); Ayres v.

Merrill Lynch, Pierce, Fenner & Smith, Inc., 538 F.2d 532 (3d Cir.), cert.

denied, 429 U.S. 1010 (1976); Sibley v. Tandy Corp., 543 F.2d 540 (5th

Cir. 1976), cert. denied, 434 U.S. 824 (1977); Allegaert v. Perot, 548 F.2d

432 (2d Cir.), cert. denied, 432 U.S. 910 (1977); Weissbuch v. Merrill

Lynch, Pierce, Fenner & Smith, Inc., 558 F.2d 831 (7th Cir. 1977); Mans-

bach v. Prescott, Ball & Turben, 598 F.2d 1017 (6th Cir. 1979); DeLancie v.

Birr, Wilson & Co., 648 F.2d 1255 (9th Cir. 1981) (dictum); Jngbar v.

Drexel Burnham Lambert, Inc., 683 F.2d 603 (ist Cir. 1982) (same); and

First Heritage Corp. v. Prescott, Ball & Turben, Fed. Sec. L. Rep. (CCH)

§ 99,404 (6th Cir. 1983). But cf., Scherk v. Alberto-Culver Co., 417 U.S.

506 (1974).

3 Securities Exchange Act Release No. 20397 (November 18, 1983).

4 482 U.S. (1987).

33a

did not expressly overrule Wilko v. Swan,’ which held that

predispute agreements to arbitrate claims arising under Section

12(2) of the Securities Act of 1933 were not enforceable, the

Court’s reasoning raised questions regarding the continuing vi-

tality of that decision. In light of these developments, the

commission believes that Rule 1 5c2-2 is no longer appropriate

or accurate and, accordingly, should be rescinded.

The Commission finds that notice and public procedures are

unnecessary in the public interest because Rule 15c2-2 is no

longer appropriate in light of case law developments.* More-

over, rescission of the rule may become effective upon publica-

tion in the Federal Register since it relieves a restriction.’? The

Commission further finds that this action will not impose a

burden on competition not necessary or appropriate in fur-

therance of the purposes of the Exchange Act.®

List of Subjects in 17 CFR Part 240

Reporting and recordkeeping requirements, Securities.

In accordance with the foregoing, Title 17 Chapter II of the

Code of Federal Regulations is amended as follows:

PART 240—GENERAL RULES AND REGULATIONS,

SECURITIES EXCHANGE ACT of 1934

1. The authority citation for Part 240 continues to read, in

part, as follows:

Authority: Sec. 23, 48 Stat. 901, as amended; 15 U.S.C.

78w, unless otherwise noted.

2. Section 240.15c2-2 is removed.

By the Commission.

> 346 U.S. 427 (1953).

© See 5 U.S.C. § 553(b)(3)(B).

7 See 5 U.S.C. § 553(d)(1) and (d)(3).

8 See 15 U.S.C. § 78w(a)(2).