SW Legal studies in Business

Broker May Be Sued for Misleading Client Due to Underlying Conflict of Interest

Georgia high court held that there is a separate common law action, distinct from federal securities action, by a client against a broker, for fraud, negligent misrepresentation, and breach of fiduciary duty when a client alleges that a broker knowingly misled the client due to a conflict of interest.


Securities Law

Key Words

Negligent Misrepresentation; Fraud; Fiduciary Duty

C A S E   S U M M A R Y

Holmes owned 2.1 million shares in WorldCom, a firm that collapsed after the revelation of accounting fraud. He sued Citigroup and its financial analyst, Grubman, for fraudulent misrepresentation. He claimed that he ordered his stock to be sold when it was worth $92 a share, but Grubman told him not to sell because research reports showed the company would continue to do well. Grubman, in fact, knew that WorldCom was grossly overvalued but promoted it so as to retain WorldCom's lucrative investment banking business. Holmes contended this was an unrevealed conflict of interest. When WorldCom collapsed, Holmes lost $200 million and filed for bankruptcy. Holmes' suit regarding the WorldCom collapse was consolidated as part of the WorldCom Securities Litigation suit in New York. Holmes contended he had a separate cause of action against Grubman and Citigroup for negligent misrepresentation, fraud, and breach of fiduciary duty. The district court dismissed the suit; Holmes appealed. The appeals court in New York asked the Georgia high court if Georgia common law recognized Holmes' claims against Grubman.


Questions answered. Georgia common law recognized fraud and negligent misrepresentation claims based on the forbearance in the sale of publicly traded securities. The same principles apply to fraud and negligent misrepresentation cases. The only real distinction is the absence in the latter of the element that the defendant had knowledge of the falsity of the information. The plaintiff asserting a tort claim based on misrepresentations or omissions concerning a publicly-traded security has the burden at trial of proving that the truth concealed by the defendant entered into the marketplace and caused a drop in the price of the security. The fiduciary duties owed by a stockbroker to a customer are not restricted to actual execution of transactions. The broker generally has a heightened duty when recommending an investment that the customer has previously rejected or as to which a broker has a conflict of interest.


Holmes v. Grubman, ---S.E.2d--- (2010 WL 424225, Sup. Ct., Ga., 2010)

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