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FINRA Arbitrations Can Be Traps for the Unwary

Posted in Arbitrations, FINRA

Are you considering invoking FINRA’s arbitration process to seek redress for wrongs done by or to a broker-dealer?  Be careful, because you might be biting off a bit more than you can chew.  Two recent cases – one a FINRA arbitration award, the other a Fourth Circuit affirmance of a FINRA arbitration award – tell us the process might not end up as well as you hope.  In each case, the arbitration panel rejected the claimants’ claims entirely, and awarded significant attorneys’ fees to the respondents.

Vogelbach v. Quincy Cass Assocs., Inc.

In the first, Karl Heinrich Vogelbach and Andrew Vogelbach sued registered representative Jens Adolf Spitta, as well as Quincy Cass Associates, the broker-dealer Spitta is associated with.  The Vogelbachs claimed damages of $526,000, including $80,000 for Andrew.  Both Vogelbachs contended that Spitta made investment recommendations that were unsuitable for them, that they reasonably relied on those recommendations, and that they suffered losses as a result.  They also claimed that Quincy Cass did not have adequate internal procedures for supervising its registered representatives, and that the firm failed to supervise Spitta appropriately.  On February 29, the arbitration panel was dismissive of Andrew’s claims.  “Not a scintilla of evidence was presented . . . to demonstrate that [he] had a contractual relationship with either of the Respondents.”  The panel also could not find evidence that Spitta even knew that his recommendations were being communicated to Andrew or acted on by him.  From the panel’s perspective, Andrew’s losses were due to “his own independent decisions and market risks.”

Karl’s claims did not fare better.  The panel found clear and convincing that Spitta did know Karl’s financial situation and investment profile, and that Spitta’s recommendations were “suitable for investor who was wealthy, financially sophisticated, and aggressive in his approach to investing . . . .”  As with Andrew, the true causes of Karl’s investment losses were “his own independent decisions and market risks.”  The panel also found that Quincy Cass had adequate internal procedures to supervise its registered representatives, and actually did supervise Spitta appropriately.

The Vogelbachs lost all of their claims.  The panel further ordered the Vogelbachs to pay $75,000 of the Respondents’ $110,000 in attorneys’ fees and expenses, and also recommended the expungement of all reference to the arbitration from Spitta’s record.

Wachovia Securities, LLC v. Brand

On February 16, the U.S. Court of Appeals for the Fourth Circuit affirmed another award of attorneys’ fees in a FINRA arbitration outside the broker-customer context.  There, Wachovia Securities sued four former employees for breach of a non-compete agreement after Wachovia terminated their employment and they left to work for Stifel Nicolaus & Co.  The employees described the dispute as meritless and requested that the arbitration panel award them attorneys’ fees and costs incurred for their defense.

In final briefs submitted just before the arbitration was complete, the employees argued for the first time that they were entitled to attorneys’ fees under the FCPA.  But not that FCPA.  The South Carolina Frivolous Civil Proceeding Act.  That statute contains a number of procedural safeguards for litigants facing sanctions, including a notice period affording the accused 30 days to respond to a request for sanctions and a separate hearing on sanctions after the verdict.  S.C. Code 15-36-10(C)(1).  No such procedures were followed here.

But the Fourth Circuit didn’t care.  Wachovia cited, and the Court of Appeals found, no authority for the proposition that state procedural requirements must be imported into arbitration.  So in this case, the employees got all the benefit of the South Carolina statute’s substance, while Wachovia got none of the benefit of the statute’s procedural protections.  The court simply noted the Supreme Court had found that “the informality of arbitral proceedings was itself desirable, reducing the cost and increasing the speed of dispute resolution.”  The court also held that if the South Carolina FCPA’s procedural protections applied in arbitration, Wachovia’s challenge would still fail because it had not alleged misconduct by the panel.  Intentionally contradicting the law would be one thing.  But a mere mistake, under the extremely deferential standards applicable to review of arbitration decisions under the Federal Arbitration Act, is something else entirely, and basically untouchable.

The arbitration panel’s award of $1.1 million in attorneys’ fees to the former employees was allowed to stand.

Lesson from the Case

I think the lesson from these matters is simple, but significant: do not enter into a FINRA arbitration cavalierly.  The process carries risk not only that one might spend resources in a losing cause, but also that a reckless effort without a clear assessment of a case’s weaknesses could draw a painful award of attorneys’ fees to the other side.  And once done, the award will be especially hard to undo, even with quite competent appellate counsel on your side.  Be careful before you open that box.