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KAPLAN v. LEHMAN BROTHERS

February 25, 1966

HAROLD Z. KAPLAN ET AL., PLAINTIFFS,
v.
LEHMAN BROTHERS ET AL., DEFENDANTS.



The opinion of the court was delivered by: Julius J. Hoffman, District Judge.

A seeming conflict between the federal antitrust laws and the Securities Exchange Act of 1934 is the source of this controversy. The reconciliation of these apparently opposing policies is a matter of considerable moment to the financial community and to the investing public. The point at issue is the legality of the practices of stock exchanges in fixing minimum rates for the commissions charged by stock exchange members for the purchase and sale of securities on the exchange.

The action was brought by the plaintiff Kaplan and by the plaintiff Dunn (on behalf of her minor children) as a shareholder's derivative suit and at the same time as a representative class action. The plaintiffs thus purport to sue on behalf of, and in the right of, some five corporations which are qualified as investment companies and which are generally known in the financial world as mutual funds, and to sue on behalf of their shareholders as a class. These five mutual funds are joined as nominal defendants, and include the One William Street Fund, Inc., The Lehman Corporation, Energy Fund, Inc., The Dominick Fund, Inc., and The Chemical Fund.

The actual defendants are the New York Stock Exchange (hereafter referred to as the Exchange) and four member firms of that exchange: Lehman Brothers, Goodbody & Co., Dominick & Dominick, Incorporated, and Paine, Webber, Jackson & Curtis. These firms, with others, it is alleged, act as brokers and agents for the mutual funds in the purchase and sale of stocks listed on the Exchange. Jurisdiction is based upon the antitrust laws, the Securities Exchange Act of 1934, and Sections 1331 and 1337 of the Judicial Code, 28 U.S.C. § 1331, 1337.

The gist of the complaint is the allegation that "Since the year 1792 and up to the present time, an avowed purpose of the defendant (Exchange) has been to set and fix minimum rates of commission to be charged to the public by its members * * * on all brokerage transactions executed on the" Exchange. The constitution of the Exchange thus specifies the exact schedule of minimum commissions to be charged, and pledges all members to obedience. The Exchange polices these rates, and members who violate them are subject to expulsion. Claiming that this arrangement amounts to a combination and conspiracy in restraint of trade in violation of Section 1 of the Sherman Anti-trust Act, 15 U.S.C. § 1 et seq., and that the mutual funds have been damaged thereby in an amount equal to the difference between commission rates which have been charged under the Exchange rules and the rates that would have been available to the mutual funds "by the operation of free and open competition had no such contract, combination and conspiracy existed," a demand for judgment for three times those damages is made under the antitrust laws, and, in the same count and upon the same factual allegations, a demand for judgment for the actual damages, unmultiplied, is presented on the theory that the alleged misconduct also offends against the Securities Exchange Act of 1934. Still in the same count, the complaint prays for a declaratory judgment holding the rules of the Exchange to be null and void insofar as they prescribe minimum rates of commission, and declaring that all Exchange members are individually free to determine and set their own rates of commission.

The defendant Exchange and its member firms named as defendants have joined in a motion for summary judgment or, alternatively, to dismiss the complaint for failure to state a claim upon which relief can be granted. The parties have presented voluminous affidavits and exhibits outside the pleadings, and the Court is thereby constrained to treat the motion solely as a motion for summary judgment. Rule 12(c), Fed.R.Civ.Pro.

The opposing briefs disclose no significant disagreements between the opposing sides on the factual basis of the controversy. The affidavits present no genuine issue of material fact to be tried.

The sole question is a matter of law, appropriate for disposition on a motion for summary judgment.

I.

It is undisputed that the Exchange, by vote of its membership, has fixed the rates of commission to be charged by its members, and that those members have agreed to, and do, abide by those rates. Whether the antitrust laws forbid such price-fixing turns upon the interpretation of the Securities Exchange Act of 1934. The parties are agreed on the authoritative source of the principles which control the reconciliation of the Sherman Act and the Securities Exchange Act: the pronouncements of the Supreme Court in Silver v. New York Stock Exchange, 373 U.S. 341, 83 S.Ct. 1246, 10 L.Ed.2d 389 (1963). They part company on the application of those principles to the case at hand.

In Silver, the plaintiff was a broker and dealer in securities but not a member of the Exchange. He made arrangements with certain Exchange members for direct-wire connections with their offices, to provide him with quotations and other information essential to his business. Under the rules of the Exchange, such direct-wire connections between members and non-members require approval by the Exchange. After tentative and temporary approval, the Exchange denied permission and the connections were severed without giving notice or reasons and without affording plaintiff an opportunity to be heard. His suit for treble damages under the antitrust laws was sustained by the Supreme Court.

At the outset, the Court concluded that the Exchange was empowered to make rules on the subject of its members' connections with non-members, in order to exclude "bucket shops", "boiler shops", and similar operations. Under the statutory scheme of the Securities Exchange Act of 1934, the various exchanges are obliged to regulate themselves, subject to the surveillance of the SEC, in the interests of stability in the securities market. The exchange, in this process of self-regulation, is obliged to have rules which are "just and adequate to insure fair dealing and to protect investors." Section 6(d), 15 U.S.C. § 78f (d). Registration may be granted to the exchange only if its rules provide "for the expulsion, suspension, or disciplining of a member for conduct or proceeding inconsistent with just and equitable principles of trade." Section 6(b). These broad declarations sufficed to validate exchange rules requiring approval of direct-wire connections, the court concluded.

This conclusion led to the collision of policy. "It is plain, to begin with," wrote Mr. Justice Goldberg for the majority, "that removal of the wires by collective action of the Exchange and its members would, had it occurred in a context free from other federal regulation, constitute a per se violation of § 1 of the Sherman Act." 373 U.S., at 347, 83 S. Ct., at 1252. In this circumstance, the Court unanimously concluded that such conduct could not constitute a violation, in and of itself, of the antitrust laws. In other words, the decision makes it plain that action taken by the Exchange and its members, pursuant to its statutory authority to make rules, is not illegal per se under the Sherman Act.

This basic conclusion served only as a beginning in the Silver case, in view of the remaining questions raised by its facts. It is the final conclusion here. The plaintiffs have cast their lot entirely upon their proposition that the fixing of minimum rates of commission through the collective action of the Exchange is illegal per se under the Sherman Act. If such action is within the authority conferred upon the Exchange by the Act of 1934, however, the direct precedent of the Silver decision stands squarely against them.

Since 1792, when the Exchange was founded with the so-called Buttonwood Tree Agreement, the rules of the Exchange have set minimum rates for the commissions to be charged by its members for buying or selling stocks upon the Exchange. These rules were not called into question after the adoption of the Sherman Act. In the legislative deliberations which preceded the enactment of the Securities Exchange Act of 1934, the existence of such rules was plainly in evidence and duly noted. No action was taken to outlaw the long-established practice. The securities exchange, although not a free and open market, served a public purpose by assuring investors of ready liquidation of their holdings and by affording a ready source of capital for ...


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