Source: s3://data.kl3m.ai/documents/govinfo/USCOURTS/USCOURTS-cand-3_07-cv-04777/USCOURTS-cand-3_07-cv-04777-2/pdf.json

Nature of Suit Code: 190
Nature of Suit: Other Contract Actions
Cause of Action: 28:1332 Diversity-Other Contract

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United States District Court

For the Northern District of California

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United States District Court

For the Northern District of California

IN THE UNITED STATES DISTRICT COURT

FOR THE NORTHERN DISTRICT OF CALIFORNIA

HERBERT J. SIMS & CO.,INC.,

 Plaintiff,

 v.

MARK ROVEN,

Defendant. /

No. C07-04777 MJJ

ORDER GRANTING MOTION FOR

PRELIMINARY INJUNCTION

INTRODUCTION

Before the Court is Plaintiff Herbert J. Sims & Co., Inc.’s (“Plaintiff”) Motion for

Preliminary Injunction. (Docket No. 7.) Defendants James Darden III (“Darden”), Marc Roven,

Rod Butterfield, Steve Bares, Jay Maguire, Carolyn Maguire, Dorothy McCarthy, Richard Teerlink,

Elenora Crone, Nellie Morison, Scott M. Crone, Scott R. Crone and Nadine Vanderlanes

(collectively, “Defendants”) oppose the Motion. For the following reasons, the Court GRANTS the

Motion.

FACTUAL BACKGROUND

Defendant Darden is a registered investment advisor doing business as Integrity Financial

Management who invests his clients’ money according to their financial objectives. (Opp. at 2;

Darden Decl. ¶ 1.) The remaining twelve Defendants (collectively, the “Investors”) were clients of

Darden. (Darden Decl. ¶ 1.) Each of the Investors had accounts in their respective names with

discount brokerage Muriel Siebert & Co., Inc. (“Siebert”) and each gave Darden a limited power of

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In July 2007, the National Association of Securities Dealers (“NASD”) became known as FINRA and the

NASD-DR became known as FINRA-DR.

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attorney to use the account to trade securities on its behalf. (Darden Decl. ¶ 2.) Whenever Darden

wished to make a bond trade on behalf of his clients, including the Investors, he would phone in an

order to Siebert’s trading desk, specify the issue to be purchased, the clients for whom the purchase

was to be made and the amount of bonds to purchase for each client. (Id.) Upon the execution of a

trade, Siebert’s clearing firm would send trade confirmations to the clients, with a copy to Darden. 

(Id.) 

Plaintiff is an investment banking and brokerage firm whose business activities include

underwriting and selling new bond offerings to finance senior living facilities. (Opp. at 2.) Plaintiff

is a registered broker-dealer and a member of the Financial Industry Regulatory Authority (FINRA). 

(Mem. of P. & A. at 3.) Scott Drayer (“Drayer”) is a broker working for Plaintiff. (Id. ¶ 3) Drayer

and Darden communicated over the years regarding Plaintiff’s bond offerings. (Id.) Darden’s

clients participated in approximately 40 of Plaintiff’s bond offerings over the years. (Id.) Siebert

did not maintain an inventory of Plaintiff’s bonds and it had to fill orders for these bonds directly

from Plaintiff. (Darden Decl. ¶ 2.) 

In March 2002, Drayer contacted Darden regarding a limited quantity of a bond issue floated

to finance the construction of Regency Pointe, a retirement facility in Alabama. (Id. ¶ 4.) Drayer

explained certain attributes of the bonds which he claimed afforded the bondholders enhanced

security and urged Darden to purchase the bonds. (Id.) Thereafter, Darden, on multiple occasions,

employed his standard procedure to purchase the Regency Pointe bonds for his clients: he called the

Siebert trading desk and requested the purchase, Siebert purchased the bonds and sent confirmations

to Darden and the Investors. (Id ¶ 5.) In total, Darden facilitated the purchase of $995,000 of

Regency Pointe bonds for the Investors in this action. (Id.)

On April 18, 2007, Darden and the Investors filed a claim to initiate an arbitration

proceeding against Plaintiff before the National Association of Securities Dealers Dispute

Resolution (NASD-DR).1

 (Machtinger Decl., Exh. A.) The Statement of Claim alleges that the

Regency Pointe bonds that Darden caused to be purchased on behalf of the Investors were unsuitable

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investments for the Investors and that the Investors suffered damages as a result. (Id. at 2-7.) 

Specifically, Darden and the Investors allege that Plaintiff’s employee Drayer misrepresented,

deceived and/or concealed material facts known to him, made unsuitable investment

recommendations and thus breached his fiduciary, contractual and other duties to the Investors. (Id.

at 8-9.) The Investors also seek recovery for constructive fraud, failure to supervise and control,

negligence and gross negligence, and violations of federal and state securities laws, NASD Conduct

Rules, New York Stock Exchange Rules and the California Elder Abuse statute, Welfare and

Institutions Code Section 15600 et seq. (Id. at 10-18.) The Investors seek to recover $1 million they

allegedly lost as a result of these investments. (Id. at 9.) Darden alleges that as a result of his

clients’ losses, his investment advisory business was ruined, causing him to lose $1 million, which

he seeks to recover from Plaintiff as damages. (Id. at 9-10.) 

On September 17, 2007, Plaintiff’s counsel notified FINRA-DR that Plaintiff declined to

submit to arbitration because Plaintiff had not entered into any arbitration agreements with any of

the claimants and because none of the claimants are, or have been, its customers. (Machtinger Decl.,

Exh. B.) On the same day, Plaintiff filed this action, seeking Declaratory and Injunctive relief. (See

Complaint, Docket No. 1.) Plaintiff seeks a declaration that Darden and the Investors are not its

customers and an order enjoining them from pursuing their claims in arbitration. (Complaint at 5-6.) 

Plaintiff now seeks a preliminary injunction to stay the arbitration proceeding pending a trial of the

action in this Court.

LEGAL STANDARD

Federal Rule of Civil Procedure 65 permits the issuance of a preliminary injunction to

preserve the positions of the parties until a full trial can be conducted. LGS Architects, Inc. v.

Concordia Homes, 434 F.3d 1150, 1158 (9th Cir. 2006) (citing University of Texas v. Camenisch,

451 U.S. 390, 395 (1981)). In all cases, the burden of persuasion remains with the party seeking

preliminary injunction relief. Hon. William R. Schwarzer, et al., Federal Civil Procedure Before

Trial § 13:159 (2006) (citing West Point–Pepperell, Inc. v. Donovan, 689 F.2d 950, 956 (11th Cir.

1982)). When a party is seeking a preliminary injunction, he or she must make a “clear showing” of

either: “(1) a combination of probable success on the merits and the possibility of irreparable injury,

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or (2) that serious questions are raised and the balance of hardships tips sharply in favor of the

moving party. These standards ‘are not separate tests but the outer reaches of a single continuum.’”

Stuhlbarg Int'l Sales Co. v. John D. Brush & Co., Inc., 240 F.3d 832, 839-40 (9th Cir. 2001)

(citation omitted); City of Angoon v. Marsh, 749 F.2d 1413, 1415 (9th Cir. 1984). “These two

formulations represent two points on a sliding scale in which the required degree of irreparable harm

increases as the probability of success decreases.” Roe v. Anderson, 134 F.3d 1400, 1402 (9th

Cir.1998) (citation omitted). Consequently, “the less certain the district court is of the likelihood of

success on the merits, the more plaintiffs must convince the district court that the public interest and

balance of hardships tip in their favor .” Southwest Voter Registration Educ. Project v. Shelley, 344

F.3d 914, 918 (9th Cir. 2003) (en banc) (per curiam) (citation omitted); see also Miller v. California

Pac. Med. Ctr., 19 F.3d 449, 456 (9th Cir. 1994) (en banc) (citations omitted).

ANALYSIS

Plaintiff is entitled to a preliminary injunction to stay the arbitration proceeding if the Court

finds that Plaintiff has made a clear showing of probable success on the merits and the possibility of

irreparable injury. The Court turns first to Plaintiff’s probable success of enjoining Defendants from

proceeding with arbitration.

Arbitrability is “[the] question [of] whether the parties have submitted a particular dispute to

arbitration.” Howsam v. Dean Witter Reynolds, Inc., 537 U.S. 79, 83 (2002). It is “an issue for

judicial determination [u]nless the parties clearly and unmistakably provide otherwise.” Id. (quoting

AT&T Techs., Inc. v. Communications Workers of Am., 475 U.S. 643, 649 (1986)). The Court,

however, can only determine whether an agreement to arbitrate exists “and if it does, enforce it in

accordance with its terms.” Simula, Inc. v. Autoliv, Inc., 175 F.3d 716, 719 (9th 1999). This is

consistent with federal policy that favors arbitration. Volt Sciences, Inc. v. Bd. of Trustees of Leland

Stanford Junior Univ., 489 U.S.468, 475 (1989). 

FINRA arbitrations are governed by the NASD Code of Arbitration Procedure (the “Code”).

Rule 12200 of the Code states:

Parties must arbitrate a dispute under the Code if:

· Arbitration under the Code is either:

(1) Required by a written agreement; or

(2) Requested by the customer.

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 Rule 12200 of the Code is an amended version of former Rule 10301 that went into effect on April 16, 2007. The

cases interpreting and applying Rule 10301apply with equal force to Rule 12200, as the amendment did not effect any

substantive change to the rule. See Comparison Chart of Old and New NASD Arbitration Codes for Customer Disputes, Rule

12200, www.finra.org/web/groups/rules_regs/documents/rule_filing/p018366.pdf.

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 The Court agrees with the parties that the relevant question is whether Defendants are Plaintiff’s “customers” for

purpose of Rule 12200. If Plaintiff shows probable success on this question, then the dispute is not arbitrable because the

other requirements of Rule 12200 are met: Plaintiff is a registered broker-dealer and a member of FINRA, Plaintiff has not

entered into any written agreements with Defendants with respect to arbitration or any other matter, and Plaintiff does not

dispute that this matter arose in connection with its business activities. (See Mem. of P. & A. at 7.)

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· The dispute is between a customer and a member or associated person of a

member; and

· The dispute arises in connection with the business activities of the member

or the associated person, except the insurance business activities of a

member that is also an insurance company.

NASD Code Arb. Proc. 12200. Therefore, under the Code, customers can compel registered

members of FINRA to arbitrate certain disputes even when no written arbitration agreement exists. 

See NASD Code Arb. Proc. 12200; see, e.g., Goldman Sachs & Co. v. Becker, No. 07-1599, 2007

WL 1982790, at *5 (N.D. Cal. July 2, 2007); Brookstreet Securities Corp. v. Bristol Air Inc., No. 02-

0863, 2002 U.S. Dist. LEXIS 16784, at *21-22 (N.D. Cal. Aug. 5, 2002).2 

Here, the issue of arbitrability is an issue for judicial determination because the parties do not

contend that they clearly and unmistakably provided otherwise, nor does the Court perceive any

such provision. Rather, the parties agree that the dispositive issue upon which Plaintiff’s request for

a stay turns is whether Defendants are customers within the meaning of Rule 12200.3 The Court

therefore turns its attention to the question of whether Plaintiffs make a clear showing of probable

success on Plaintiff’s contention that Defendants are not Plaintiff’s customers as that term is defined

in Rule 12200.

The NASD rules define the term “customer” broadly, excluding only brokers and dealers. 

See NASD Code Arb. Proc. 12100 (“A customer shall not include a broker or dealer”). The Ninth

Circuit has not further defined this term. There are, however, two decisions authored by judges of

this court and several out-of-circuit cases that guide the Court’s analysis as to whether Defendants

are customers of Plaintiff Sims and therefore entitled to arbitrate their claims.

In Brookstreet Securities Corp. v. Bristol Air, Inc., the district court found that narrow

definitions of the term “customer” have been rejected, but that the term must not be defined so

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broadly as to upset the reasonable expectations of FINRA members. 2002 U.S. Dist. LEXIS 16784,

at *23. The court explained that a customer relationship was typically created between a member

firm and a third party when “the individual who solicited the investments or provided investment

advice to the purported ‘customers’ was a representative or employee of the broker.” Id. at 24. In

the cases reviewed by the court, the solicitor was a representative or employee of the broker with

whom the investor made an investment. See id. at 24-25. The court found that a customer

relationship was not established when the investors interacted only with their investment advisor,

who maintained an account with the member firm, but was not an employee, agent or registered

representative of the firm. Id. at 25-26. In Brookstreet, the court determined that while the

investment advisor himself was a customer of the member firm, the investors were not. See id.

In Goldman Sachs & Co. v. Becker, the court noted that some courts have held that a direct

customer relationship between the member firm and the purported customer is not necessary, so long

as there is “some nexus between the investor and the member or associated person.” Goldman

Sachs, 2007 WL 1982790, at *6 (quoting Malak v. Bear Stearns & Co., Inc., 2004 WL 213014, at *4

(S.D.N.Y. 2004). Other courts, the Goldman court explained, “have interpreted ‘customer’ to

require the purchase of securities from that NASD member, or to require at least some informal

business relationship between the parties.” Id. The court found that the alleged customer

relationship in Goldman Sachs was too tenuous because the relationship was based on either the

member firm’s underwriting of another firm’s initial public offering or the member firm’s alleged

ownership of the purported customers’ mortgage. Id. The court instead found that the investors’

customer relationship, if any, was with the firm that it purchased investment products from or the

mortgage servicer itself, but not the member firm that was only tangentially related to these

transactions. Id.

The out-of-circuit cases cited by the parties similarly set out the parameters of who is, and is

not, a “customer.” If an investor invests directly with a member firm, then the investor is likely a

customer of that firm. See Oppenheimer v. Neidhardt, 56 F.3d 352, 357 (2d Cir. 1995). If an

“associated person” of the member firm induces, or shepherds, the investment, then the investor is

also likely a customer of that firm. See id.; John Hancock Life Insurance v. Wilson, 254 F.3d 48, 59

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(2d Cir. 2001) (holding that a customer relationship with an associated person is sufficient to

establish a customer relationship with the member firm itself); BMA Financial Services, Inc. v. Guin,

164 F. Supp. 2d 813, 820 (W.D. La. 2001) (same). When, however, the relationship between the

parties is more tenuous, courts should determine if there is some form of business relationship that

includes some brokerage or investment relationship between the parties. See Fleet Boston Robertson

Stephens, Inc. v. Innovex, Inc., 264 F.3d 770, 772 (8th Cir. 2001). In this analysis, the courts are

guided by the notion that the term “customer” should not be too narrowly construed, nor should the

definition upset the reasonable expectations of FINRA members. See Oppenheimer, 56 F.3d at 357;

Wheat, First Sec., Inc. v. Green, 993 F.2d 814, 820 (11th Cir. 1993).

Turning to the present case, a review of the key facts is instructive in applying the legal

principles annunciated in the cases above. First, the record shows that Defendants did not invest

directly with Plaintiff, or with an agent or representative of Plaintiff. See Oppenheimer, 56 F.3d at

357 (holding that investors who invest directly with a firm or its authorized agent were customers).

Rather, each of the Investors were clients of Darden, their investment advisor, and had accounts with

the Seibert firm, not with Plaintiff. In addition, Darden was not an employee, agent, representative

or associated person of Plaintiff. See e.g., John Hancock Life Insurance, 254 F.3d at 59 (holding

that a customer relationship with an associated person is sufficient to establish a customer

relationship with the member firm itself). Furthermore, none of the Investors had an account or

written agreement with Plaintiff or Plaintiff’s agents, nor are there allegations that the Investors

themselves had any communications, written or oral, with Plaintiff or Drayer, Plaintiff’s employee.

See Brookstreet, 2002 U.S. Dist. LEXIS 16784, at *25-26 (noting that courts have generally found

that investors qualify has “customers” when there is a more significant connection between the

parties that may include direct communications, advice or agreements). The Investors’ alleged

connections to Plaintiff were instead through Darden’s interactions with Drayer, Plaintiff’s

employee, and Darden’s purchases of Plaintiff’s bonds through Seibert, on behalf of the Investors. 

Thus, Plaintiff has made a showing that Defendants did not have a direct investment

relationship with Plaintiff. See Oppenheimer, 56 F.3d at 357. Instead, the record before the Court

falls within the ambit of cases that have analyzed whether there is some form of business

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 Defendants additionally argue that the Investors are customers per the dictionary definition, which states that a

customer is “one that purchases a commodity or service.” (See Opp. at 6.) The Court, however, chooses to rely upon case

authority in resolving the legal issue presented in this matter and finds it unnecessary to rely upon the cited reference. 

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relationship, albeit more tenuous than a direct relationship, that establishes a brokerage or

investment relationship between the parties. See e.g., Brookstreet, 2002 U.S. Dist. LEXIS 16784, at

*25-26 (analyzing a more tenuous relationship and finding no customer relationship when the

investors interacted only with their investment advisor, who maintained an account with the member

firm, but was not an employee, agent or registered representative of the firm); see also Fleet, 264

F.3d at 772; Oppenheimer, 56 F.3d at 357. In this regard, Defendants argue that there is a sufficient

nexus to establish a customer relationship because Seibert and Darden acted as agents for the

Investors and thus Plaintiff’s dealings with Seibert and Darden created a customer relationship with

the Investors.4

 The Court finds this argument unavailing.

First, Defendants contend that because Seibert acted as Defendants’ agent in the pertinent

transactions, under Civil Code Section 2330 all rights and liabilities occasioned by Seibert’s actions

would accrue to the principal. See Cal. Civ. Code § 2330 (“all the rights and liabilities which would

accrue to the agent from transactions within such limit, if they had been entered into on his own

account, accrue to the principal”). Accordingly, Defendants assert that agency principles afford

them customer status and a right to arbitrate their claims. The Court disagrees. Seibert, a brokerage

firm, is excluded from the definition of a “customer” under Rule 12100. Therefore, even if

Defendants showed that Seibert acted as their agent, Defendants do not accrue any right to customer

status as a result of an agency relationship with Seibert.

Next, if Darden was acting as an agent for the Investors, his interactions with Seibert and

Drayer were not sufficient to establish a customer relationship between the Investors and Plaintiff. 

Darden’s communications with Drayer consisted of the receipt of investment advice and

solicitations. Plaintiff has never provided any investment services or other services to any of the

Investors and has never received any payments of money from them. Indeed, Plaintiff knew nothing

about the Investors and had never heard of them until it was served with the Statement of Claim. 

While the record shows that Drayer was employed by Plaintiff, the record does not even establish

that Drayer was acting in his capacity as an employee of Sims when he solicited Darden. In

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addition, Defendants cite no case, nor can the Court find any, that supports the proposition that an

investment made through a brokerage firm, on advice from an agent at a separate firm, creates a

customer relationship between the investor and the latter firm on the basis of agency principles. 

Instead, the case law supports the conclusion that the reasonable expectations of the parties in this

case are that the Investors were customers of Seibert, not Plaintiff. See e.g., Brookstreet, 2002 U.S.

Dist. LEXIS 16784, at *25-26. Therefore, Plaintiff has made a compelling showing that Drayer’s

alleged solicitation of Darden’s investments did not create a customer relationship between Plaintiff

and the Investors.

Finally, though not briefed by Defendants, the Court cannot see how Darden, who has not

alleged that he invested funds himself or had an account with Plaintiff or Seibert could be a

“customer” of Plaintiff. If he was acting, as is argued here, as an investment advisor solely on behalf

of his clients, he is not a customer per Rule 12200. Thus, Plaintiff is likely to succeed in showing

that Darden cannot compel Plaintiff to arbitrate his claim.

In sum, therefore, the Court finds that Plaintiff has a probability of success of showing that

the relationship between Defendants and Plaintiff was too tenuous to establish a customer

relationship and compel arbitration. 

Plaintiff also asserts that it will suffer irreparable harm if the arbitration brought by

Defendants is not stayed because Plaintiff has no adequate remedy at law to recover the monetary

and human capital it would expend defending itself in arbitration. Defendants do not argue

otherwise. The Court therefore finds that Plaintiff has shown that it is possible that it will suffer

irreparable harm. See e.g., Maryland Cas. Co. v. Realty Advisory Bd. On Labor Rels., 107 F.3d 979,

984-85 (2d Cir. 1977) (time and resources spent in arbitration are not compensable by monetary

award under the Arbitration Act); Textile Unlimited v. A..BMH and Company, Inc., 240 F.3d 781,

786 (9th Cir. 2001) (holding that the district court’s grant of a preliminary injunction to stay

arbitration was not clearly erroneous); see also Brookstreet, 2002 U.S. Dist. LEXIS 16784, at *27

(finding that a party will suffer irreparable harm if arbitration is not stayed); Goldman Sachs, 2007

WL 1982790, at *7 (same). Thus, Plaintiff has made a sufficient showing to warrant the granting of

a preliminary injunction to stay the arbitration.

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CONCLUSION

For the foregoing reasons, the Court GRANTS Plaintiff’s Motion for Preliminary Injunction

and ORDERS the pending arbitration proceeding STAYED pending a trial on this action. The

Court further finds that Plaintiff is not required to post a bond per Rule 65(c) because Defendants

did not request that a bond be posted and Defendants did not argue, or offer any evidence showing,

that they would suffer hardship as a result of a preliminary injunction. See Connecticut General Life

Insurance Co. v. New Images of Beverly Hills, 321 F.3d 878, 882-83 (9th Cir. 2003) (holding that if

a party affected by an injunction does not request that the Court set a bond or present evidence that a

bond is needed, the district court does not abuse its discretion not requiring that a bond is posted).

IT IS SO ORDERED.

Dated: March 6, 2008 

MARTIN J. JENKINS

UNITED STATES DISTRICT JUDGE

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