The opinion of the court was delivered by: LEVET
OPINION, FINDINGS OF FACT AND CONCLUSIONS OF LAW.
In this action, plaintiff, Sutro Bros. & Co. (hereinafter "Sutro"), a stockbrokerage partnership, seeks recovery from its insurer, defendant Indemnity Insurance Company of North America (hereinafter "Insurance Company") for losses said to be $1,261,343.91 allegedly sustained by plaintiff through the larceny of a customer. The contract upon which plaintiff sues is a bond, "Brokers' Blanket Bond Form No. 14," which provides that defendant is to indemnify plaintiff and hold plaintiff harmless from and against "Any loss of Property (occurring with or without negligence) through * * * common law or statutory larceny * * * while the Property is in transit anywhere."
Jurisdiction is based upon diversity of citizenship.
This action was commenced on July 9, 1962 in the Supreme Court of the State of New York, County of New York, by service of the summons and complaint. On July 27, 1962 defendant removed the action to this court by filing a Petition for Removal in the New York County Supreme Court.
The losses which plaintiff sustained occurred under circumstances, more fully described herein, when checks given by plaintiff's customer Arlee Associates, Inc. (hereinafter "Arlee") to settle balances due on orders for purchases of securities proved to be uncollectible. Plaintiff contends that these losses are covered by Insuring Clause C of defendant's bond, entitled, "In Transit," on the theory that the stock certificates which plaintiff delivered to Arlee to fill said purchase orders were removed from plaintiff's "possession, custody and control" by reason of "larceny, theft, fraud and wrongful abstraction" while the certificates were "in transit."
On the other hand, defendant contends that said loss is not covered by the bond because, as a matter of fact (1) no loss of property occurred by statutory or common-law larceny while the property was "in transit" and (2) because plaintiff's loss resulted from risks expressly excluded from coverage, to wit, "trading" and extensions of credit.
The case was tried by the court without a jury.
After taking the evidence submitted by the parties, examining the exhibits, the pleadings, the briefs and Proposed Findings of Fact and Conclusions of Law submitted by counsel, and after hearing oral argument, this court makes the following Findings of Fact and Conclusions of Law:
1. Plaintiff is a co-partnership dealing in stocks, bonds and other securities, as broker and otherwise, with its principal office at 80 Pine Street, New York, New York. All of the partners of plaintiff are citizens of the State of New York or of states other than the Commonwealth of Pennsylvania.
2. Defendant, Insurance Company, is a citizen and resident of the Commonwealth of Pennsylvania.
3. On or about October 28, 1958, defendant, for valuable consideration, duly executed and delivered to plaintiff an agreement of insurance entitled, "Brokers' Blanket Bond Form No. 14" and bearing the designation, "S-50732-B." (Ex. 1) The bond was drawn in its entirety by defendant without any collaboration in its preparation by plaintiff. At all relevant times the bond was in full force and effect to an amount not exceeding $1,500,000.00.
4. (a) The bond covered, among other losses:
"(C) Any loss of Property (occurring with or without negligence) through robbery, common-law or statutory larceny, embezzlement, misappropriation, theft, holdup, misplacement, mysterious unexplainable disappearance, being lost or otherwise made away with, damage thereto or destruction thereof, and any loss of subscription, conversion, redemption or deposit privileges through the misplacement or loss of Property, while the Property is in transit anywhere in the custody of any person acting as messenger or in the custody of any armored motor vehicle company, except while in the mail and while being transported by express or as freight after receipt of the Property by a carrier for hire other than an armored motor vehicle company, such transit to begin immediately upon receipt of such Property by the transporting person or company, and to end immediately upon delivery thereof at destination." (Ex. 1, p. Two)
(b) Section 1 of the bond (Ex. 1) provides that this bond does not cover:
"(d) Any loss the result of any loan made by the Insured or by any of the Employees, whether authorized or unauthorized, except when covered under Insurance Clause (A), (D) or (E) hereof."
(c) By reason of an amendment contained in Section 13 of the agreement (Ex. 1), subsection (e) of Section 1 excludes from coverage:
"(e) Any loss resulting directly or indirectly from trading, with or without the knowledge of the Insured, in the name of the Insured or otherwise, whether or not represented by any indebtedness or balance shown to be due the Insured on any customer's account, actual or fictitious, except when covered under Insuring Clause (A), (D) or (E)."
5. One Harold Friedman was a partner in Sutro between July 1, 1945 and up to the time of his resignation on January 2, 1962. (Friedman deposition, Ex. 5, p. 4) In the period between May, 1961 and September, 1961 (and apparently from 1950), he was the managing partner at the main office of Sutro at 80 Pine Street, New York City. (Ibid p. 6) The record-keeping and financing of Sutro were done from the main office where there was an order room department, a purchase and sales department, an IBM department, a margin department, a bookkeeping department, administration and file rooms. Friedman was in general charge of each department. (Ibid pp. 7, 8)
6. On or about August 25, 1960, a cash trading account for the purchase and sale of securities was opened with plaintiff by Arlee. The officers of said corporation then, and during the period here concerned, were Leo Sinsheimer, President, Joyce Sinsheimer, Vice President, and Arthur Katz, Secretary. The address of Arlee was 55 Liberty Street, Room 703, New York, New York. Katz and Sinsheimer made the major decisions of Arlee. (Exhibits 6 and 7; Katz dep., Ex. 4, pp. 3, 5) Leo Sinsheimer and Arthur Katz, directly or indirectly, were also the sole stockholders of Arlee.
7. (a) Katz and Sinsheimer, through various corporations at various times, opened trading accounts with Sutro as follows: (1) First Discount Corporation on May 5, 1958, January 21, 1959 and June 10, 1959 (Friedman dep., Ex. 5, p. 15); (2) First Industries, Inc. on November 14, 1958 (Friedman dep., Ex. 5, p. 13) and (3) Market Financial Corporation at a later date.
(b) The business of the First Discount Corporation was that of a lending company engaged primarily in the lending of money on collateral of securities of companies either traded on the various listed Exchanges or over-the-counter, such loans being made to owners of the stocks. The company also made "clearance" loans.
First Discount Corporation charged a fee for this, a source of income. The rates varied from 6% to as high as 15% per annum based on the type of security involved, the rate of advance, the amount of margin, etc. (Katz testimony before SEC, Ex. C, February 19, 1962, pp. 2361, 2362, 2364)
(c) Friedman, plaintiff's managing partner, agreed with Katz that securities could be delivered to First Discount Corporation against uncertified checks up to a daily limit of $10,000 and Friedman also allowed split deliveries on at least one occasion; part of the securities were delivered and paid for on one day, the rest were delivered and paid for the following day. (Katz testimony before SEC, Ex. C, February 19, 1962, pp. 2366, 2367; Friedman dep., Ex. 5, pp. 34, 35, 36)
(d) Later, in May 1960, when Katz and Sinsheimer had an account with Sutro in the name of First Industries, Inc., Friedman advised Katz that Sutro would no longer accept orders for First Industries, Inc. or First Discount Corporation, saying that the New York Stock Exchange had required him to stop doing business with these corporations because they were factors. (Katz testimony before SEC, Ex. C, February 19, 1962, pp. 2368-68A) A new account was then opened in the name of Market Financial Corporation in late May or perhaps June of 1960, which became relatively inactive after the summer of 1960, when the Arlee account was opened. (Katz testimony before SEC, Ex. C, February 19, 1962, pp. 2369, 2370)
8. Friedman, managing partner in Sutro, knew that prior to the Arlee account Katz was in the financing and factoring business through First Discount Corporation, First Industries, Inc. and Market Financial Corporation, and Katz discussed this with Friedman many times. (Katz testimony before SEC, Ex. C, June 27, 1961, p. 252) By 1959, Friedman apparently knew about the nature of the business theretofore conducted by Katz and Sinsheimer. (Friedman dep., Ex. 5, p. 45)
9. In general, the methods of operation of Arlee and Sutro were as follows: Arlee ordered stock purchased through Sutro as broker; Sutro confirmed the purchases; Sutro delivered the stock certificates as hereinafter delineated. (Findings 10 through 15, inclusive) These securities would be delivered by Arlee to various other brokers against sale; in some instances the securities were sold within a day after purchase; Arlee then took certified checks on New York banks for these sales, deposited these checks and later gave Sutro uncertified checks in payment. (Katz, Ex. C, June 26, 1961, p. 107; Katz dep., Ex. 4, pp. 21-25)
10. During the period between May 12 and May 19, 1961, each purchase for the account of Arlee was confirmed on the day the order was executed by the mailing to Arlee of a printed standard form of confirmation. (Ex. 2, par. 5 and Attachment 2) The confirmation form, containing the terms of each purchase, required checks in payment of purchases to be in plaintiff's possession by the settlement date. Certain provisions of said form were as follows:
"Checks in payment of purchases, payable to Sutro Bros. & Co., or securities sold and held by you, after properly endorsing same, should be sent either to our branch or main office and should be in our possession by settlement date in order to comply with current rules and regulations."
"(2) If this is a purchase (a) interest will be charged on any amount not paid on the settlement date, and (b) pending payment in full, the securities may be hypothecated, separately or commingled with other customers' securities, for the amount due thereon or, if so commingled, for a greater amount." (Ex. 2, par. 5 and Attachment 2)
11. After the opening of the Arlee account, Katz requested Friedman by telephone for permission to obtain $25,000 per day in securities against uncertified checks, to which I find that Friedman assented. (See Katz testimony before SEC, Ex. C, February 19, 1962, pp. 2370-71) Later, at the request of Katz, this was increased to $50,000 per day. (See testimony of Katz before SEC, Ex. C, June 26, 1961, pp. 100, 101; June 27, 1961, pp. 255, 257; Katz dep., Ex. 4, pp. 40-44)
12. In the period between May 12, 1961 and May 25, 1961, on the days that securities were to be delivered to Arlee, plaintiff's messenger would arrive at Arlee's 55 Liberty Street office between the hours of 10:30 A.M. and 11:30 A.M. with certificates, in bearer form, representing the securities purchased. The messenger handed the certificates to an officer or employee of Arlee and presented a delivery bill and receipt form covering the purchase. Arlee stamped the delivery bill to indicate receipt of the certificates (subject to count and examination) and returned to plaintiff's messenger the receipt form. (Ex. 2, par. 6 and Attachment 3; see Finding 13; see also Katz dep., Ex. 4, pp. 9, 10, 11; Friedman dep., Ex. 5, pp. 27-29)
13. This receipt itemized the securities and provided as follows:
"Receipt is hereby acknowledged of the described securities which Sutro Bros. & Co. have declared to us in advance of payment therefor, solely for the purpose of enabling us to inspect and verify the same. Title thereto passes to us only against receipt by Sutro Bros. & Co. of payment therefor, but all risks to such securities, including risk of loss, are assumed by the undersigned." (Ex. 2, par. 6 and Attachment 3; see also Katz dep., Ex. 4, p. 12)
This so-called "receipt" (Ex. 2) thus provided that title to the securities delivered "passes to us [i.e., Arlee] only against receipt by Sutro Bros. & Co. of payment therefor." Actually, Arlee already had title.
14. On the afternoon of the same day the messenger would return to Arlee's office between the hours of 3:00 P.M. and 4:00 P.M., surrender the receipt which he had received that morning when he delivered the certificates, and receive from Arlee the delivery bill and a check for the purchase price. (Ex. 2, par. 7) The head runner of Sutro passed the checks to the cashier for verification and deposit. (Friedman dep., Ex. 5, p. 31)
15. Sutro delivered whatever securities Arlee ordered. According to Katz, Sutro took Arlee's checks and didn't deposit them the day they were received. (Katz testimony before SEC, Ex. C, June 26, 1961, p. 110) The time lag between the clearance of a check received by Arlee on a New York bank and the clearance of a check which it gave Sutro on a similar or out-of-town bank was about 24 to 48 hours. (Katz dep., Ex. 4, p. 26)
16. In the spring of 1961, Arlee maintained bank accounts in the Perth Amboy National Bank, New Jersey, Meadowbrook National Bank, New York, National Bank of Westchester and the New Jersey Trust Company and checks of Arlee drawn on these banks were given to Sutro. Arlee, in turn, received payment from other brokers by checks on New York City banks, sometimes on the very day Arlee delivered the certificates. (Katz dep., Ex. 4, pp. 25-26)
17. From approximately May 12, 1961 to May 19, 1961, Arlee purchased from Sutro securities having an aggregate purchase price of $1,392,595.99. (See Ex. A) These were delivered on May 18, 22, 23, 24, and 25, 1961. (Ex. 2, attachment 1, pp. 21-24) The messenger did not obtain certification of any checks received for these certificates. (Katz dep., Ex. 4, pp. 41-44; Ex. B, p. 2)
18. From the time the Arlee account was opened in August 1960 to the end of May 1961, plaintiff, as stockbroker for Arlee, executed approximately 950 purchase orders for securities valued at about $13,400,000. During this period of time almost all of the transactions in the account were purchases of securities. Sales of securities were comparatively few. (Ex. C, Sutro Bros. & Co., SEC Exchange Act Release No. 7052, at 7; Ex. 4, p. 49) Up to May 18, 1961, Arlee paid for all purchases; its checks were honored.
19. Plaintiff accepted as payment from Arlee for the execution of the aforesaid 950 purchase orders 838 checks, not one of which was certified. Of said 838 uncertified checks, plaintiff deposited and collected 771 checks but the last 67 checks, totaling $1,392,595.99, which were accepted by plaintiff on and between May 18, 1961 and May 25, 1961, for the deliveries described in Finding No. 17, "bounced" because of instructions by Arlee to the drawee bank to stop payment. Of the 67 checks, 16 checks, totaling $271,297.66, were not signed by Arlee as drawer. These 16 checks later were replaced by signed checks dated May 23, 1961 on which payment was subsequently stopped. (Ex. 2, Attachment 1) Four of the 67 checks, totaling $133,246.93, were subsequently paid. It was stipulated by the parties at trial that the net loss sustained by plaintiff was $1,137,775.54. (M. 1)
20. It appears by stipulation of the parties (Ex. 3 and Ex. A attached to such stipulation) that between May 12, 1961 and May 25, 1961 the daily balance of Arlee at the Perth Amboy National Bank was insufficient to meet the checks drawn by Arlee on each day, to wit, May 12, 15, 16, 17, 18, 19, 22, 23, 24 and 25. Katz conceded that in May 1961 Arlee had no assets other than the securities it had purchased (Katz dep., Ex. 4, p. 29) and that in May 1961 Arlee, by Sinsheimer, instructed the Perth Amboy National Bank not to pay certain checks which it had given to Sutro in connection with the purchase of securities since there were inadequate funds (in that bank) to pay such checks. (Katz dep., Ex. 4, p. 31) From August 1960 to the middle of May 1961 all checks of Arlee had been paid when presented. (Katz dep., Ex. 4, pp. 47-48)
21. For the reasons hereinafter stated, I find that plaintiff has not proved by a fair preponderance of the credible evidence that when, or before, Arlee received the securities from Sutro, Arlee intended to steal the certificates.
(a) Katz testified that in the period prior to May 15, 1961, there was no intention to defraud Sutro and that the purchases were made in good faith (Katz dep., Ex. 4, p. 48) and that as to the period subsequent to May 15, 1961, there was no time when they wanted to, attempted to, or even considered defrauding anyone. (Ibid, p. 49) Katz also testified that at the time the checks were issued by Arlee and delivered to Sutro's messenger, on which payment was thereafter stopped, it was Arlee's intention that these checks be paid just as all prior checks had been paid, and that it was not his intention to steal the certificates. (Ibid, pp. 55-56) He said that the issuance of checks without signatures on May 18, 1961 was an honest mistake. (Katz testimony before SEC, Ex. C, June 26, 1961, p. 115)
(b) On or about July 25, 1961, Arthur Katz, Secretary, and Leo Sinsheimer, President of Arlee, were indicted for theft by means of false and fraudulent representations and pretenses made by them to Sutro on May 22, May 23, May 24 and May 25, 1961 (see Counts First, Second, Third and Fourth of indictment), and on the same date, on other counts, for uttering checks with the intent to defraud, drawn upon a bank for the payment of money, knowing at the time of such making, etc. that the maker (i.e., Arlee) had insufficient funds and credits, the offenses alleged to have been committed on May 23, May 24 and May 25, 1961 (see Counts Fifth through Forty-Eighth of indictment). (See Indictment, Exs. 8 and 8A) On or about February 13, 1962, Katz and Sinsheimer, then represented by counsel, pleaded guilty to grand larceny in the First, Third and Fourth counts in said indictment. (Ex. X)
The first count alleges a theft by means of a false and fraudulent representation on May 22, 1961 that "defendants" had insufficient funds in the Perth Amboy National Bank to pay certain debts. The proof in this case, even if sufficient to sustain the indictment count, does not support the claims of plaintiff asserted in this action. The third and fourth count claims are subject to similar comment.
There is nothing in the indictment and, hence, nothing in the pleas of guilty which demonstrates anything constituting a fraud upon Sutro before delivery. Instead, both indictment and plea indicate a claim of fraud in respect to checks drawn on the Perth Amboy ...