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A principal who puts an agent in a position that enables the agent, while apparently acting within his authority, to commit a fraud upon third persons is subject to liability to such third persons for the fraud. The principal is subject to liability although he is entirely innocent, although he has received no benefit from the transaction, and although the agent acts solely for his own purposes. Liability is based upon the fact that the agent's position facilitates the consummation of the fraud, in that from the point of view of the third person the transaction seems regular on its face and the agent appears to be acting in the ordinary course of the business confided to him.
Respondent client was the widow of a dairy farmer who did not have business experience. She selected an agent of the brokerage companies to serve as her investment advisor. The agent told the client that the brokerage companies had research divisions that advised when to buy and sell stock. The agent persuaded the client to invest in a nonexistent company. The client filed an action against the brokerage companies for fraud to recover the misappropriated money. The trial court entered judgment in favor of the client under the theory of ostensible authority. The brokerage companies appealed.
Under the circumstances, could the brokerage companies be held liable for fraud committed by the agent against the respondent?
The court affirmed the decision of the trial court finding that there was substantial evidence to support the trial court's judgment that the client acted with ordinary care. The court reasoned that the research services that the brokerage companies used to induce the client to rely upon them for advice contributed to the fraud. The court also found that the brokerage companies failed to inform the client of the limitations to the agent's authority. The court noted that the brokerage companies could not accept the benefits of the sale of the stock by the agent and also deny liability for the fraudulent misuse of the money.