Opposition Brief — UBS PaineWebber Inc. v. Cohen

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No. 02-247. scx of THE CLERE

In the

Supreme Court of the GAnited States

UBS PAINEWEBBER INC. AND RICHARD WILHELM,

Petitioners,

Vv.

ALFRED M. CoHEN,

EXECUTOR OF THE ESTATE OF SAMUEL GINSBURG,

Respondents.

On PETITION For Writ OF CERTIORARI

To Tue UNITED STATES Court Or APPEALS

For THe S1ixtTH Circuit

RESPONDENT'S BRIEF IN OPPOSITION

STANLEY M. CHESLEY

Counsel of Record

TERRENCE L. GOODMAN

1513 CENTRAL TRUST TOWER

5 WEsT FourTH STREET

CINCINNATI, OH 45202

(513) 621-0267

(513) 381-2375 FACSIMILE

Counsel for Respondent

Alfred M. Cohen, Executor of

the Estate of Samuel Ginsburg

BECKER GALLAGHER LEGAL PUBLISHING, INC.,

CINCINNATI, OHIO 800-890-5001

QUESTION PRESENTED

Whether the Federal Arbitration Act, 9 U.S.C.

§ 1 et seq., requires the enforcement of an arbitration

clause that does not cover theft?

TABLE OF CONTENTS

Page

Parties to the Proceedings ...............02008: i

‘Sees OF CORO ios veeden deo eecnse eee ool

Tattle of Amtinorihies «oo 505 ce kuckevccusseuneoes iii

AURORE oo cass vcenedan eee eee 1

L. The Hamilton County Court of

Appeals decision interprets

established and routine principles

OF ComtretS BAW ove ks cvcawnesscenes 3

II. The Petitioners fail to cite a single

case establishing a conflict exists

among the circuits, federal courts,

ee er err or Tee 8

CONN on 60 Sew 11

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ii

TABLE OF AUTHORITIES

Page

Aspero v. Shearson American Express, Inc.,

768 F.2d 106 (6th Cir. 1985) ............... 8

Coudert v. PaineWebber Jackson & Curtis,

eg |) 8

Ex Parte Discount Foods Inc.,

711 So. 2d 992 (Ala.), cert. Denied sub nom.

Supervalu Inc. v. Discount Foods, Inc.,

929 U.S. 825 (1998), reconsidered in part

We We OS COE) no cece vnesen 9,10

Fazio v. Lehman Brothers,

2002 U.S. LEXIS 15174

GN.D. Ohio July 19, 20902) .........ccccc. 10

First Options of Chicago, Inc v. Kaplan,

014 U.S. 938, 115 S. Ct. 1920 (1995) ....... 3, 4

Gregory v. Electro-Mechanical Corp.,

Se wae eee (li Cir. 1996) ................ 9

Hirschfeld Prods v. Mirvish,

aw wees BO (N.S, LOUD) o.oo ec ccc c ewes 9

Kerr-McGee Ref. Corp. v. M/T Triumph,

og ah ee) ) rn 9

Leadertex, Inc. v. Morganton Dyeing &

Fishing Corp., 67 F.3d 20 (2d Cir. 1995) ..... 4

ili

Long v. Silver,

248 F.3d 309 (4th Cir., cert. denied,

Be ic Se I) os KG haa oben h caves hues 8

Marchese v. Shearson Hayden Stone, Inc., ;

734 F.2d 414 (9 Cir. 1984) ..........0c000. 9

Mastrobuono v. Shearson Lehman Hutton, Inc.,

514 US. 52, 115 S. Ct. 1212 (1995) .......... 3

Mitsubishi Motors Corp. v.

Soler Chrysler-Plymouth, Inc.,

LGD DAA Ee chia ssc cb ate ansevase ce 4

Roney & Co. v. Kassab,

961 F 2a G4 (6th Cir. 1982) on... ic ccwesscns 4

Sandvik AB v. Advent International Corp.,

Sad F a BO (SG Cir, DOGO) oon ccc cc cseesss 4

Seifert v. U.S. Home Corp.,

750 So. 2d GSS (Pim. 19GB) ow. cc cccevcsssss 9

Stout v. J.D. Byrider,

228 F.3d 709 (6th Cir. 2000),

cert denied, 121 S.Ct. 1088 (2001) .......... 4

Three Valleys Municipal Water District v.

E.F. Hutton & Company, Inc.,

O25 F.2d LEG th Cir. 1GBL) .. ne ccccssess 4

Rosenblum v. Travelbyus.com Ltd.,

200 F.3d GST C7" Cie: BO0B) ow... eevee cess 4

iV

Volt Information Sciences, Inc. v.

Board of Trustees of Leland Stanford Junior

University, 109 S. Ct. 1248 (1989) .......... 3

Wood v. Prudential Ins. Co. of America,

PSG G74 Gd Cir. 2000) 2. cece cccccnccuss 8

Statutes

Federal Arbitration Act, 9 U.S.C. § 4 et seq... passim

STATEMENT

The Respondent, Alfred Cohen is the executor

of the estate of Samuel Ginsburg. Petitioner, UBS

PaineWebber, Inc ("PaineWebber") provides

investment planning. The investment planning

includes recommendations regarding the purchase

and sale of stock and portfolio management.

Petitioner Richard Wilhelm ("Wilhelm") is the manager

of PaineWebber’s Cincinnati, Ohio office. As the

manager of the Cincinnati office, Wilhelm accepted the

responsibility to supervise each broker in his Office

and each account in the Cincinnati office.

In August of 1992, PaineWebber broker Richard

Zenni encouraged Samuel Ginsburg to open a

PaineWebber account. When he opened his account,

Samuel Ginsburg was 78 years old. As a condition of

opening his account, Samuel Ginsburg executed

several complex and standard documents. Some of

the executed documents include generic language

regarding arbitration. The generic arbitration

language does not, however, mention or refer to claims

involving theft.

Richard Zenni, as an employee of PaineWebber

and under the direct supervision of Richard Wilhelm,

admits to stealing millions of dollars from elderly

investors including Samuel Ginsburg. The Respondent

alleges that PaineWebber and Richard Wilhelm

participated in the theft by encouraging Zenni to

befriend elderly investors, by recklessly failing to

monitor Zenni’s criminal conduct, and by failing to

monitor Mr. Ginsburg's accounts.

After learning of the theft, the executor of

Samuel Ginsburg's estate, Alfred Cohen initiated this

action by filing a complaint against PaineWebber Inc.

and Richard Wilhelm in the Hamilton County Ohio

Court of Common Pleas. In the complaint, the

Petitioner alleged that PaineWebber and Richard

Wilhelm participated in the admitted theft from

Samuel Ginsburg and are liable under theories of

conversion and fraudulent concealment.

On January 12, 2001, PaineWebber and Wilhelm

sought an order from the Hamilton County Court of

Common Pleas to compel the Estate to arbitrate its

claims against the Petitioners. The trial court, after

briefing and oral argument denied the motion.

The Petitioners appealed the ruling to Ohio's

First District Court of Appeals. On January 18, 2002,

the First District issued its Decision denying the

Petitioners’ motions to compel arbitration and stay of

state court proceedings. In its Opinion, the First

District Court of Appeals conducted a de novo review

and held that as a matter of contract law the parties

did not contemplate arbitrating the claims arising from

theft.

The Petitioners, after the Ohio First District

Court of Appeals affirmed the trial court, filed a

motion to certify an alleged conflict and stay state

court proceedings to the First District Court of

Appeals. The First District Court of Appeals denied

the motion to certify a conflict on February 22, 2002.

The Petitioners subsequently filed an appeal to the

Supreme Court of Ohio. On May 15, 2002, the Ohio

Supreme Court refused to hear the appeal.

LP Dey tae eahiapeiien

REASONS FOR DENYING THE WRIT

This matter does not involve novel or

unresolved issues regarding how the courts should

apply and interpret the Federal Arbitration Act, 9

U.S.C. § 1 et seq. Nor, does this matter involve a split

“among the various courts regarding the application of

the Federal Arbitration Act. To the contrary, this

matter merely involves traditional and accepted

principles of contact interpretation. As to an alleged

split among the courts whether the Federal

Arbitration Act requires the arbitration of theft claims,

the Petitioners fail to cite a single authority that holds

that theft must be arbitrated under the FAA. The lack

of division of authority in itself is a reason to deny the

petition.

I. The Hamilton County Court of

Appeals decision interprets

established and _ routine

principles of contract law.

Despite the pleas of the Petitioner to the

contrary, the mere incantation of "arbitration

agreement" does not mean that the parties are

required to arbitrate all disputes. When deciding

whether the parties agreed to arbitrate, the Federal

Arbitration Act requires both state and federal courts

to apply traditional principles that govern the

formation of contracts. First Options of Chicago, Inc v.

Kaplan, , 514 U.S. 938, 943, 115 S. Ct. 1920, 1924 (1995);

Mastrobuono v. Shearson Lehman Hutton, Inc., 514 U.S.

92, 60-61, 115 S. Ct. 1212, 1218-1219 (1995); Volt

Information Sciences, Inc. v. Board of Trustees of

Leland Stanford Junior University, 489 U.S. 468, 474-

475, 109 S. Ct. 1248, 1253-1254 (1989). Federal courts

must use state law principles of contract formation.

First Options of Chicago, Inc v. Kaplan, 514 U.S. 938,

944, 115 S. Ct. 1920, 1924 (1995); Rosenblum v.

Travelbyus.com Ltd., 299 F.3d 657, 662 (7 Cir. 2002).

These established principles require a court to

determine whether the dispute falls within the

arbitration clause before issuing an order compelling

arbitration. See Mitsubishi Motors Corp. v. Soler

Chrysler-Plymouth, Inc., 473 U.S. 614, 105 S.Ct. 3346,

3387 (1985); Stout v. J.D. Byrider, 228 F.3d 709, 714 (6th

Cir. 2000), cert denied, 121 S.Ct. 1088 (2001). This

approach is consistent with the requirements of the

Federal Arbitration Act.

The court shall hear the parties, and

upon being satisfied that the making of

the agreement for arbitration or the

failure to comply therewith is not in

issue, the court shall make an order

directing the parties to proceed to

arbitration in accordance with the terms

of the agreement.

9 U.S.C. § 4.

Furthermore, traditional principles of contract

law along with the Federal Arbitration Act clearly

establish that a court can not compel arbitration if the

parties to the arbitration agreement did not

contemplate arbitrating the particular claim. See

Sandvik AB v. Advent International Corp., 220 F.3d 99,

105 (3d Cir. 2000); Roney & Co. v. Kassab, 981 F.2d 894,

897 (6th Cir. 1992); Three Valleys Municipal Water

District v. E.F. Hutton & Company, Inc., 925 F.2d 1136

(9th Cir. 1991); Leadertex, Inc. v. Morganton Dyeing &

Fishing Corp., 67 F.3d 20, 27 (2d Cir. 1995). Thus, the

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Petitioners are wrong to rely primarily on the favored

status of arbitration as the basis to secure this Court's

review of an Ohio Appellate Court decision.

Although the First Appellate District recognized

that the law favors arbitration, the First Appellate

District also considered the need to apply contract law.

Accordingly, Ohio's First Appellate District carefully

examined the unique circumstances involved in this

case and applied traditional notions of contract law.

After performing its analysis the court held that the

arbitration provision did not apply to the theft claims

alleged in the Respondent's complaint.

In the complaint, Cohen alleged that

Wilhelm and PaineWebber had had

direct notice of, and thus knowledge of,

Zenni’s conduct because of the obvious

pattern of risky and questionable trades

made by Zenni on behalf of Ginsburg,

and because of the numerous accounts

opened in Ginsburg’s name when only

one account would have sufficed. Cohen

also alleged that PaineWebber and

Wilhelm had encouraged Zenni_ to

befriend elderly investors, and that

Wilhelm and PaineWebber had chosen to

disregard their knowledge of Zenni’s

conduct and had failed to notify their

elderly investors, including Ginsburg, of

the theft. These facts essentially alleged

a form of theft, i.e., that PaineWebber

and Wilhelm had “aided and abetted”

Zenni in stealing Ginsburg’s money.

Alfred Cohen, Executor of the Estate of Samuel

Ginsburg v. PaineWebber, Incorporated, APPEAL NO.

C-010312, TRIAL NO. A-0004567, (Hamilton County,

January 18, 2002) at 5.

The First District, in reaching its decision,

appropriately applied contract law to the allegations in

the complaint to determine that the parties had failed

to reach a meeting of the minds to arbitrate claims

involving theft.

Although the arbitration provision is

broad, stating that it covers “any and all

controversies” pertaining to the

brokerage account, we cannot say, as a

matter of law, that a claim alleging such

tortious conduct as the “aiding and

abetting” of a theft is subject to the

arbitration provision here. An

arbitration clause itself is a contract. A

contract requires a “meeting of the

minds” as to the terms contained within.

At the time that the parties entered into

the contract, there was no meeting of the

minds that the arbitration provision

Id lai llegi i

forms of theft.

Id at 5-6.

The First District's reasoning, based on the

record before it, reflects the appropriate approach that

a court should pursue when determining whether a

claim is subject to arbitration. The First District's

decision does not establish disrespect for the Federal

Arbitration Act. The First District's decision

demonstrates, based on the record, that the Petitioner

6

——————K

failed to establish that the parties agreed to arbitrate

theft claims. Nilavar v. Osborn, (1998), 127 Ohio App.3d

1,11, 711 N.E.2d 726, 732-733. “In order to declare the

existence of a contract, both parties to the contract

must consent to its terms; there must be a meeting of

the minds of both parties; and the contract must be

definite and certain.” Episcopal Retirement Homes,

Inc. v. Ohio Department of Industrial Relations, (1991),

61 Ohio St.3d 366, 369, 575 N.E.2d 134, 137. Here, the

Petitioners failed to meet their burden.

In light of the record, the First Appellate

District appropriately held, the arbitration agreement

did not apply because a “meeting of the minds” did not

exist and because of the specific and unique

circumstance of this case. The First Appellant District

did not hold as a matter of public policy that

arbitration can not apply to claims involving the

trading of securities. ;

The Petitioners ignore the clear wording of the

decision and criticize the First Appellate District. The

purpose of this criticism is to secure a change in the

manner that courts use to determine whether a claim

is subject to arbitration. The Petitioners, through this

Petition, seek to enlarge any arbitration arrangement

so that that the agreement encompasses any and all

claims even if the parties did not intend to include the

claims within the net of arbitration. The Petitioners

hope to prevent courts from inquiring whether the

parties reached a meeting of the minds to include the

subject claims within the net of arbitration. The

Petitioners' approach ignores the traditional

requirement of contract formation and interpretation

and would result in a fundamental change in the

application of the Federal Arbitration Act.

7

II. The Petitioners fail to cite a

single case establishing a conflict

exists among the circuits, federal

courts, or state courts.

The Petitioner suggests that this Court should

review this matter because an alleged judicial conflict

exists regarding how Courts interpret and apply the

Federal Arbitration Act. In their quest to create a

conflict, the Petitioners cite to numerous cases from

various jurisdictions. Interestingly, however, none of

the cited cases involve the issue presented by this case:

whether the parties had a meeting of the minds to

arbitrate claims involving theft.

A review of the federal cases cited by the

Petitioners reflects that these cases involve a variety of

issues including defamation and claims for emotional

distress. None of the cases, however, involve the issue

in this case regarding the intent of the parties to

arbitrate claims involving theft. See Long v. Silver, 248

F.3d 309 (4th Cir.) cert. denied, 122 S. Ct. 213 (2001)

(Arbitration involving defamation), Coudert v.

PaineWebber Jackson & Curtis, 705 F.2d 78, 81-82 (2d

Cir. 1983) (Arbitration involving intentional infliction

of emotional distress), Aspero v. Shearson American

Express, Inc., 768 F.2d 106, 107 (6th Cir. 1985)

(Arbitration involving defamation, invasion of privacy,

and intentional infliction of emotional distress), Wood

v. Prudential Ins: Co. of America, F.3d 674, 681 (3d Cir.

2000) (Arbitration involving defamation and

intentional infliction of emotional distress). These

cases hardly demonstrate a split among the federal

courts regarding the unique arbitration issue

presented in this case.

The closest the Petitioners come to establishing

a “conflict” is their citations of cases involving fraud

and conversion. See Gregory v. Electro-Mechanical

Corp., 83 F.3d 382 (11" Cir. 1996); Kerr-McGee Ref.

Corp. v. M/T Triumph, 924 F.2d 467, 468, 469 (2d Cir.

1991); Marchese v. Shearson Hayden Stone, Inc., 734

F.2d 414, 419 (9" Cir. 1984). These cases, however: are

not relevant because they failed to examine whether

the parties had a meeting of the minds to arbitrate

theft claims. In fact, the Eleventh Circuit Court of

Appeals, in Gregory, recognized that certain disputes

may not be subject to arbitration. Gregory v. Electro-

Mechanical Corp., 83 F.3d 382, 385.

The Petitioners also seek to create a conflict by

referring to selected state cases. The Petitioner, for

example, cites Hirschfeld Prods v. Mirvish, 673 N.E.2d

1232, 1233 (N.Y. 1996) (Arbitration involving tortious

interference and breach of fiduciary duty). This case,

similar to the federal cases, does not involve theft and

the parties intent to arbitrate theft claims.

Finally, the Petitioners attempt to create the

appearance of a conflict by citing two state cases that

allegedly disfavor arbitration. However, neither of

these cases examines contract formation and theft.

Seifert v. U.S. Home Corp. 750 So. 2d 633 (Fla. 1999)

(Arbitration involving wrongful death); Ex Parte

Discount Foods Inc., 711 So. 2d 992 (Ala.), cert. Denied

sub nom. Supervalu Inc. v. Discount Foods, Inc., 525

U.S. 825 (1998), reconsidered in part 789 So. 2d 842

(2001) (Arbitration involving tortious interference with

contract, unfair competition, and violation of trade

secret laws.). When the Alabama Supreme Court

reconsidered its plurality opinion in Discount Foods,

moreover, the Alabama Supreme Court essentially

9

reversed itself regarding any unfavor that it may have

toward arbitration. Ex Parte Discount Foods Inc., 789

So. 2d 842 (2001). Accordingly, the cases cited by the

Petitioner fail to establish any meaningful conflict

among the courts regarding how to apply and interpret

the Federal Arbitration Act.

The lack of a conflict is highlighted by the fact

that a United States District Court has recognized that

the First District decision is unique and novel. Thus, a

conflict can not exist. In a recent federal court

decision, the United States District Court for the

Northern District of Ohio found the First District

opinion was the only reported decision that has

examined whether a party entered into an arbitration

agreement intending to arbitrate theft claims. In Fazio

v. Lehman Brothers, 2002 U.S. Dist. LEXIS 15174(N.D.

Ohio July 19, 2002)[Respondent’s Exhibit 1 at la] the

district court determined:

Cohen (the First District's decision) is the

only case cited by the parties in which

tort claims were brought based upon

broker theft. In other contexts, however,

Courts have considered the broader issue

of whether tortious conduct is within the

scope of broad, contractual arbitration

clauses. Thus, Cohen, is not aberration,

but merely constitutes one example of

the broader issue of applying contractual

arbitration clauses to tort claims.

Fazio v. Lehman Brothers, 2002 U.S. Dist. LEXIS 15174

(N.D. Ohio July 19, 2002)[Respondent’s Exhibit 1 at

la].

10

As the United States District Court for the

Northern District of Ohio found, the First District's

decision involves a unique and novel analysis of

contract formation and theft. Thus, a conflict can not

exist among the United States Circuit Courts of

Appeal, or among the various state judiciaries. If this

Court chooses to review this issue, this Court should

permit decisions from other circuits, federal courts, or

state courts to surface regarding this issue.

Conclusion

For the foregoing reasons, the petition for a

writ of certiorari should be denied.

Respectfully submitted,

Stanley M. Chesley (No. 0000852)

Counsel of Record

Terrence L. Goodman (No. 0009148)

WAITE, SCHNEIDER, BAYLESS

& CHESLEY CoO., L.P.A.

1513 Central Trust Tower

> West Fourth Street

Cincinnati, Ohio 45202

(513) 621-0267

11

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RESPONDENTS APPENDIX 1

UNITED STATES DISTRICT COURT

FOR THE NORTHERN DISTRICT OF OHIO,

EASTERN DIVISION

CASE NO. 1:02CV157, CASE NO. 1: :02CV370,

CASE NO. 1:02CV382, CASE NO. 1: 02CV761,

CASE NO. 1:02CV764, CASE NO. 1 :02CV968,

CASE NO. 1:02CV1018

July 19, 2002, Decided

ROBERT FAZIO, et al.,

Plaintiffs,

Vs.

LEHMAN BROTHERS, INC., et al.,

Defendants.

SAMUEL GLAZER,

Plaintiff,

Vs.

LEHMAN BROTHERS, INC., et al.,

Defendants.

DOMINIC A. VISCONSI, et al.,

Plaintiff,

VS.

LEHMAN BROTHERS, INC., et al.,

Defendants.

NNO a aa aa ase SS GS Ss

la

PETER A. SPITALIERI, et al.,

Plaintiff,

VS.

LEHMAN BROTHERS, INC., et al.,

Defendants.

RICHARD LOPARDO, et al.,

Plaintiff,

VS.

LEHMAN BROTHERS, INC., et al.,

Defendants.

THOMAS J. SAVOCA, et al.,

Plaintiff,

Vs.

LEHMAN BROTHERS, INC., et al.,

Defendants.

PETER M. BONUTTI,

Plaintiff,

VS.

LEHMAN BROTHERS, INC., et al.,

Defendants.

me eee eee ee”

DISPOSITION

Defendants’ motions to compel arbitration and stay

proceedings denied.

MEMORANDUM OF OPINION

In each of these cases, the Defendants have filed

motions to compel arbitration and stay proceedings.'

(See Fazio Docket Nos. 38, 48 and 54; Glazer Docket

Nos. 26 and 36; Visconsi Docket Nos. 23 and 35;

Spitalieri Docket Nos. 11 and 12; Lopardo Docket Nos.

13 and 17; Savoca Docket Nos. 12 and 16; Bonutti

Docket No. 13.) The parties have briefed these issues

extensively. The arbitration issues overlap sufficiently

to permit the Court to issue a single opinion applicable

to all these cases.

For the following reasons, the motions to compel

arbitration and stay proceedings are DENIED.”

I. FACTS

These actions arise out of the conduct of Frank

Gruttadauria, who formerly acted as an investment

broker for each of the Plaintiffs. He is charged with

stealing from the investment accounts he was

servicing over a period of approximately fifteen years,

and covering up his activity by providing false account

statements to the Plaintiffs.

The Plaintiffs have sued the brokerage firms for

which Gruttadauria worked over the period of the

alleged theft. Generally, the Plaintiffs assert that the

brokerages are liable for his conduct. They have

: For convenience, the Court will refer to each

case by the last name of the first Plaintiff.

. Some of these motions also seek dismissal of

certain claims pursuant to Fed. it. Civ. P. 12(b)(6). These

issues will be addressed in separate opinions.

3a

brought fraud claims under the federal securities laws,

including Section 10(b) of the Securities and Exchange

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

as well as related claims under state law.

Viewing the cases collectively, the brokerage

defendants include Lehman Brothers, Inc. and certain

affiliated companies (collectively “Lehman”); SG

Cowen Securities Corp., its predecessor Cowen &

Company, and its parent Societe Generale (collectively

“SG Cowen”); and Hambrecht & Quist, Inc., now

known as J.P. Morgan Securities, Inc., and its parent

J.P. Morgan Chase & Co. (collectively “J.P. Morgan”).

The Defendants allege that the Plaintiffs executed

various agreements governing their brokerage

accounts. These agreements were presented to the

Plaintiffs in connection with the accounts to be

serviced by Gruttadauria, and allegedly require that all

disputes arising out of account activity be resolved

through arbitration. The agreement allegedly executed

between Plaintiff Robert Fazio and S.G. Cowen’s

predecessor is representative:

Any controversy arising out of or relating

to any of [Fazio’s] accounts, to

transactions with [Cowen] for [Fazio’s],

or to this or any other agreement or the

construction, performance or breach

thereof, shall be settled by arbitration

before an arbitration panel appointed by

the NASD or the New York Stock

Exchange, Inc. or the American Stock

Exchange, Inc. as [Fazio] may elect.

(See Motion of SG Cowen, Fazio Docket No. 38, at 3.)

4a

Although there may be minor differences among the

agreements signed by the various Plaintiffs, they all

contain an arbitration provision comparable to that

quoted above.

The Defendants assert that the arbitration

provisions govern all issues raised in these cases.

They, therefore, seek a stay of all court proceedings

and an order compelling the Plaintiffs to submit to

arbitration. The Plaintiffs essentially argue that the

arbitration provisions should not be enforced because

Gruttadauria’s conduct was far outside the

contemplation and foreseeability of the parties at the

time the account agreements were executed.

II. LAW AND ANALYSIS

The Federal Arbitration Act (“FAA”) provides in

relevant part:

A written provision in any ... contract

evidencing a_ transaction involving

commerce to settle by arbitration a

controversy thereafter arising out of such

contract or transaction, or the refusal to

perform the whole or any part thereof, or

an agreement in writing to submit to

arbitration an existing controversy

arising out of such a contract,

transaction, or refusal, shall be valid,

irrevocable, and enforceable, save upon

such grounds as exist at law or in equity

for the revocation of any contract.

9 U.S.C. § 2. Once a court determines that issues in

litigation are subject to arbitration, the court

5a

proceedings must be stayed until the arbitration

process is complete. 9 U.S.C. § 3.

Courts have characterized the FAA as expressing

a congressional policy favoring enforcement of

arbitration provisions. Doubts regarding such

provisions should be resolved in favor of arbitration.

Southland Corp. v. Keating, 465 U.S. 1, 10-13, 79 L. Ed.

2d 1, 104 S. Ct. 852 (1984); Moses H. Cone Memorial

Hospital v. Mercury Construction Corp., 460 U.S. 1, 24-

25, 74 L. Ed. 2d 765, 103 S. Ct. 927 (1983) These

principles apply to arbitration provisions contained in

agreements governing brokerage accounts. Rodriguez

de Quijas v. Shearson/American Express, Inc., 490 U.S.

477, 480-83, 104 L. Ed. 2d 526, 109 S. Ct. 1917 (1989);

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

220, 226, 96 L. Ed. 2d 185, 107 S. Ct. 2332 (1987); Dean

Witter Reynolds, Inc. v. Byrd, 470 U.S. 213, 219-21, 84 L.

Ed. 2d 158, 105 S. Ct. 1238 (1985); Stout v. J.D. Byrider,

228 F.3d 709, 714 (6th Cir. 2000), cert. denied, 531 U.S.

1148, 121 S. Ct. 1088, 148 L. Ed. 2d 963 (2001); Ferro

Corp. v. Garrison Industries, Inc., 142 F.3d 926, 932 (6th

Cir. 1998).

Enforcement of an arbitration clause, however, has

limits. First, the dispute at issue must be within the

scope of the arbitration provision. Stout, 228 F.3d at

714. A party cannot be forced to arbitrate issues for

which there was not an agreement to do so, and the

parties intentions control. Sandvik AB v. Advent

International Corp., 220 F.3d 99, 105 (3d Cir. 2000);

Leadertex, Inc. v. Morganton Dyeing & Fishing Corp.,

67 F.3d 20, 27 (2d Cir. 1995); Three Valleys Municipal

Water District v. E.F. Hutton & Company, Inc., 925 F.2d

1136 (9th Cir. 1991); Roney & Co. v. Kassab, 981 F.2d

894, 897 (6th Cir. 1992). In addition, an arbitration

6a

A, ee Te ee a ee ee ee eee ee a ee ee

provision will not be enforced if it resulted from

conduct that would provide for revocation of the

contract. McMahon, 482 U.S. at 226; Ferro, 142 F.3d at

932.

In support of arbitration, the Defendants rely ona

body of cases beginning with Prima Paint Corp. v.

Flood & Conklin Manufacturing Co., 388 U.S. 395,18 L.

Ed. 2d 1270, 87 S. Ct. 1801 (1967). Prima Paint dealt

with a situation in which the party opposing

arbitration alleged fraudulent inducement to enter the

contract. The Supreme Court held that if the alleged

fraud pertains to the contract as a whole, then the issue

of fraudulent inducement must be decided as part of

the arbitration process. On the other hand, a fraud

claim should be decided by the court if the alleged

fraudulent inducement is directed at the agreement to

arbitrate specifically. In essence, the alleged

agreement to arbitrate is effectively considered a

separate agreement which may be valid despite being

contained in an otherwise fraudulently induced

contract. Prima Paint Corp. v. Flood & Conklin

Manufacturing Co., 388 U.S. 395, 403-04, 18 L. Ed. 2d

1270, 87 S. Ct. 1801 (1967); see also Burden v. Check

Into Cash of Kentucky, LLC, 267 F.3d 483, 488 (6th Cir.

2001), cert. denied, 152 L. Ed. 2d 380, 122 S. Ct. 1436

(2002); Ferro, 142 F.3d at 931, 933.

As shown in the cases cited by the parties, Prima

Paint has been applied generally to challenges based

upon the making of the contract. The analysis

proceeds upon the following principles. First, there

must be a valid and enforceable contract which

includes an obligation to arbitrate disputes. Second,

the scope of the arbitration obligation must include the

dispute at issue. Third, if the claim is for fraudulent

Ta

inducement to enter the agreement as a whole, then

the disputed issues must be decided by arbitration. If,

however, the claim is for fraudulent inducement of the

agreement to arbitrate, then the disputed issues are for

the Court to decide because the alleged fraud goes to

the very legitimacy of the arbitration procedure.

The Court concludes that the Defendants have

misapplied Prima Paint and its progeny. Those cases

apply only to situations in which a party seeks to avoid

or rescind an existing contract. It does not apply to

challenges to the very existence of the contract on the

ground that there was never an agreement at all.

Three Valleys, 925 F.2d at 1140-41 (whether a contract’s

signatory had authority to bind a party is a question for

the court); Sandvik, 220 F.3d at 106 (court must decide

whether the underlying agreement containing the

arbitration clause exists). An arbitration obligation

cannot arise out of a broader contract if the broader

contract never existed. Burden, 267 F.3d at 488. To

avoid arbitration based on the ground that a contract

never actually existed, the substance of any alleged

misrepresentation must go to its character or essential

terms. Id. at 490, citing, Restatement (Second) of

Contracts § 163 cmt. a (1979).

Here, assuming the Plaintiffs executed the account

agreements, they did so with the understanding and

expectation that Gruttadauria would act as their

broker. He allegedly, however, never had any intention

to do so, but rather only intended to steal their money.

Because the intentions of the parties differed

drastically, there was never any meeting of the minds,

both as to the contract as a whole, and as to the

arbitration clause specifically. Thus, an enforceable

contract never existed. In Prima Paint, the alleged

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fraud centered around the circumstances under which

the contract was executed. In contrast, in the current

cases the alleged fraud goes beyond just the execution

of the account agreements, but goes to the very nature

of the relationship. Under the Plaintiffs’ allegations,

there never really was a broker/investor relationship,

so the account agreements are entirely void ab initio,

including the arbitration provisions.

In this vein, several of the Plaintiffs note that the

arbitration provisions relate only to “accounts”. They

argue that those provisions do not apply because there

never were any “accounts” as that term is understood

in the brokerage industry. The Court agrees. The plain

meaning of “account” in this context is essentially a

pool of assets either invested or maintained by the

brokerage in cash accounts. Here, the Plaintiffs’ assets

for the most part were neither invested nor maintained

as cash, but stolen. Accordingly, there effectively were

no accounts, and the alleged agreements are therefore

unenforceable against the Plaintiffs.

4 The Court recognizes that many of the

Plaintiffs make additional arguments as to why particular

account agreements are invalid. Such arguments include,

for example, that certain account agreements were never

signed, that signatures were actually forged, and/or that the

agreements pertain to accounts or transaction categories

not at issue. If demonstrated, these arguments would

provide additional bases for concluding that the arbitration

provisions are invalid and unenforceable. Because the

general principles governing contracts and arbitration

clauses render the provisions at issue ineffective, the Court

need not address each and every specific argument raised

by the Plaintiffs.

9a

Even assuming the existence of valid account

agreements, Prima Paint and its progeny still do not

apply because such cases only apply upon the

threshold finding that the disputes at issue fall within

the scope of the arbitration provisions. Even absent

any contractual defects, parties cannot be compelled to

arbitrate disputes outside the scope of an arbitration

provision. If the Court concludes that claims based

upon outright theft are not encompassed by the

arbitration provisions here, then the analysis set forth

in Prima Paint never arises as an issue.

Generally, the underlying basis for the Plaintiffs’

claims is Gruttadauria’s alleged theft of their assets.

They argue that despite the breadth of the arbitration

provisions, claims based upon the outright theft of

assets are outside the scope. They rely heavily on an

unreported Ohio appellate decision, Cohen v.

Painewebber, Inc., 2002 Ohio App. LEXIS 161, 2002 WL

63578 (Hamilton Cty. App. January 18, 2002). Like

here, the plaintiff in Cohen sued a brokerage firm

based upon allegations that a broker had stolen assets

from a brokerage account. The account agreement

required arbitration of “any and all controversies”

relating to the account. The court held that claims

based on theft were not within the scope of the

arbitration clause:

Although the arbitration provision is

broad, stating that it covers any and all

controversies pertaining to the brokerage

account, we cannot say, as a matter of

law, that a claim alleging such tortious

conduct as the aiding and abetting of a

theft is subject to the arbitration

10a

PRUE TPE Oe TS

provision here. An arbitration clause

itself is a contract. A contract requires a

meeting of the minds as to the terms

contained within. At the time that the

parties entered into the contract, there

was no meeting of the minds that the

arbitration provision would cover claims

alleging tortious forms of theft. If the

parties had contemplated, at the time

that they entered into the arbitration

agreement, that PaineWebber would

possibly steal from Ginsburg, that would

surely be against public policy. Matters

more likely to have been contemplated by

both parties would have involved

questions of whether a_ particular

transaction was authorized or whether

there was any miscalculation in the sum

of money contained in the account. Here,

the claims filed by Cohen alleged that

PaineWebber and Wilhelm had engaged

in conduct beyond the scope of the

brokerage agreement. Zenni, allegedly

with the knowledge of PaineWebber and

Wilhelm, had sent altered and false

monthly account statements to Ginsburg.

Accordingly, under the stated

circumstances in this case, we hold that,

as a matter of law, the claims of unlawful

conversion and fraudulent concealment,

were not subject to the arbitration

provision.

Id. at *3. Although Cohen, an unreported Ohio

appellate decision, is not binding, this Court concurs

lla

with its reasoning. Conduct amounting to theft is so

beyond what is expected from a broker that such

conduct could not have been within the reasonable

contemplation of the Plaintiffs when they signed the

alleged account agreements.

Recognizing that Cohen is not binding, the

Defendants argue that the decision should be

disregarded because it goes against the weight of long-

standing case law favoring arbitration. The Court

disagrees with the Defendants’ characterization of

Cohen as an aberration. The Plaintiffs assert tort

claims such as fraud, conversion, theft, and breach of

fiduciary duty. Cohen is the only case cited by the

parties in which tort claims were brought based upon

broker theft. In other contexts, however, Courts have

considered the broader issue of whether tortious

conduct is within the scope of broad, contractual

arbitration clauses. Thus, Cohen is not an aberration,

but merely constitutes one example of the broader

issue of applying contractual arbitration clauses to tort

claims.

Tort claims are subject to a contractual arbitration

provision if based on factual allegations that fall within

the scope of the provision. Fyrnetics (Hong Kong)

Limited v. Quantum Group, Inc., 2002 U.S. App. LEXIS

11923, 2002 WL 1312989 at *6 (7th Cir. June 18, 2002)

(designated for publication); Gregory v. Electro-

Mechanical Corp., 83 F.3d 382, 384 (11th Cir. 1996);

Carib Aviation and Marine Consultants, Ltd. v.

Mitsubishi Aircraft International, Inc., 640 F. Supp. 582,

588 (S.D. Fla. 1986). Tort claims are outside the scope

of the arbitration provision if they can be asserted

independently without reference to the contract. Ford

v. Nylcare Health Plans of Gulf Coast, Inc., 141 F.3d 243,

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290 (Sth Cir. 1998) (applying comparable Texas law).

Applying these principles, courts in many cases have

determined that tort claims are outside the scope of

arbitration clauses of breadth comparable to that at

issue here.

For example, in Telecom Italia, SPA v. Whole

Telecom Corp., 248 F.3d 1109 (11th Cir. 2001), the

defendant brought a third party complaint against an

entity from which it leased telecommunications

circuits. The lease agreement called for arbitration of

“any dispute arising out of or relating to this service

agreement”. The defendant alleged that the third party

tortiously interfered and conspired to undermine its

relationship with the plaintiff. The court (quoting a

commentator) stated that “parties to an arbitration

agreement should be compelled to arbitrate only those

torts contemplated by the arbitration agreement.” Id.

at 1114. In determining whether the tort claims were

subject to arbitration, the court considered whether

the claims were the “immediate, foreseeable result of

the performance of contractual duties”. There, the tort

claims were not arbitratable because the third party’s

conduct extended far beyond the reasonable

expectations of the contracting parties. Id. at 1116-17

(emphasis added).

In Ford, supra, a physician entered into a medical

services contract with an HMO. The contract had a

provision requiring arbitration of all disputes “arising

out of or relating to” the agreement. Dissatisfied with

the way the HMO was advertising medical services, the

physician brought suit for false advertising under the

Lanham Act. The court concluded that, although the

terms and polices set forth in the medical services

contract were relevant, the competitive injuries alleged

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under the false advertising claims rendered such

claims outside the scope of arbitration. The false

advertising claims were wholly independent from the

existence of the contract. Ford, 141 F.3d at 252.

Similarly, in Leadertezx, Inc. v. Morganton Dyeing &

Fishing Corp., 67 F.3d 20 (2d Cir. 1995), the parties

executed a contract for the purchase of goods. In

addition to claims arising from allegations of non-

payment, the plaintiff brought a defamation claim

asserting that the defendant made defamatory

comments about the quality of the plaintiff's products

to one of its customers. The underlying contract

contained a broad arbitration provision applicable to

“any controversy or claim arising under or in relation

to this order or contract”. The issue was whether the

defamation claim was within the scope of the

arbitration clause. The court recognized that

resolution of the defamation claim would necessitate

examining evidence relevant to the contract claims.

The court concluded, however, that the defamation

claim was not subject to arbitration because such a

claim was beyond the parties reasonable expectations,

and never contemplated, at the time the contract was

executed. Id. at 28-29.

In Sutton v. Hollywood Entertainment Corp., 181 F.

Supp. 2d 504 (D. Md. 2002), the parties executed an

agreement by which the plaintiff could rent movie

videos from the defendant’s store. There was an

arbitration clause applicable to “any dispute arising

out of or relating in any way to Applicant’s relationship

with HOLLYWOOD VIDEO”. On March 1, 2001, an

employee of the defendant incorrectly identified the

plaintiff as the man who robbed the store the previous

evening. The plaintiff was arrested and detained, but

14a

later was exonerated after a review of the store

surveillance video revealed that he was not the

perpetrator. He brought suit for false imprisonment,

malicious prosecution, and negligence. The court

reasoned that the “relationship” referenced in the

agreement meant the “relationship as a video renter”.

The court concluded that it was “logically untenable”

that the video membership agreement was

contemplated to cover claims arising out of accusations

of theft. The claims, therefore, were not subject to

arbitration. Id. at 510-12.

Finally, in Hersman, Inc. v. Fleming Companies, Inc.,

19 F. Supp. 2d 1282 (M.D. Ala. 1998), aff-d, 180 F.3d 271

(11th Cir. 1999), the plaintiff hired the defendant to

oversee the development of a shopping center. As part

of the project, they selected an architect and the

parties executed an architectural agreement. It

required that all “claims, disputes, or other matters in

question ... arising out of or relating to this Agreement”

be submitted to arbitration. Ultimately, the plaintiff

brought suit asserting negligence and fraud in

connection with the defendant’s oversight of the

project. The court concluded that the tort claims were

not subject to arbitration because the plaintiff's

allegations were independent of the obligations

imposed by the architectural agreement. 19 F. Supp.

2d at 1286-87.

These cases stand for the general proposition that

tort claims are not subject even to a broad arbitration

clause if the conduct at issue was beyond any

reasonable foreseeability or contemplation at the time

the contract was executed. Under these principles,

Cohen was decided correctly and applies to this case.

15a

Except for Cohen, the cases cited by the Defendants

demonstrate the types of improper conduct that are

reasonably foreseeable in a brokerage relationship.

The cases involve such conduct as unauthorized

trades, executing risky or poor investments

inconsistent with an investor’s stated investment

objectives, generally failing to follow instructions, and

“churning” (excessive trading for the purpose of

artificially increasing commissions). What these

activities have in common is that they stem from

trading activity generally within the scope of

employment of a broker. When an investor opens an

account, it is at least reasonably foreseeable that

disputes may arise concerning the propriety of certain

trading activity. Such conduct can be subjected to

arbitration regardless of how the claims are legally

fashioned, be they, for example, framed as common

law fraud, breach of fiduciary duty, statutory securities

fraud, or even R.I.C.O.

On the other hand, an investor does not open a

brokerage account contemplating the possibility that

the assets might be stolen outright. The Plaintiffs’

claims are outside the scope of the arbitration

provisions because they arise out of alleged activity far

beyond any conduct reasonably foreseeable or

contemplated from a brokerage relationship. In

addition, such claims are independent of any account

agreements because they could be asserted even if

there had never been any written account agreements.

III. CONCLUSION

Stated plainly, when the Plaintiffs signed the

alleged account agreements, they had no reasonable

concern or contemplation that their assets would be

16a

Ohi dtr (ints

ide ~ eno -

stolen. There was, therefore, never any meeting of the

minds with respect to any portion of the alleged

account agreements, including the arbitration

provisions. In addition, claims arising from allegations

of outright theft are beyond the scope of such

arbitration provisions. Accordingly, the Defendants’

motions to compel arbitration and stay proceedings

are DENIED.

IT IS SO ORDERED.

Issued: July 19, 2002

s/ John M. Manos

UNITED STATES DISTRICT JUDGE

ORDER

Pursuant to the Memorandum of Opinion issued in

the above-captioned cases this date, the Plaintiffs’

claims are not subject to the arbitration provisions

contained in the account agreements at’ issue.

Accordingly, the Defendants’ motions to compel

arbitration and stay proceedings are DENIED. (See

Fazio Docket Nos. 38, 48 and 54; Glazer Docket Nos. 26

and 36; Visconsi Docket Nos. 23 and 35; Spitalieri

Docket Nos. 11 and 12; Lopardo Docket Nos. 13 and 17;

Savoca Docket Nos. 12 and 16; Bonutti Docket No. 13.)

IT IS SO ORDERED.

Issued: July 19, 2002

s/ John M. Manos

UNITED STATES DISTRICT JUDGE

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