Wednesday, February 28, 2024

DOES YOUR FINANCIAL ADVISER HAVE PROFESSIONAL LIABILITY INSURANCE?

Believe it or not, your trusted financial adviser is only human. He or she can make a very costly mistake despite his or her best intentions. Perhaps you have taken comfort in the fact that your adviser, whether a registered representative or an investment adviser representative, has a company with whom they are affiliated. Surely the company has insurance, right? Well, I have more bad news for you – that company might not have an errors and omissions policy either, particularly if they are a small outfit.

Our advice is that you ask to receive a copy of your advisor’s policy at the beginning of your relationship. If your advisor does commit a negligent or even fraudulent act – consult with an attorney experienced in such matters. You may wish to confirm that an insurance policy is in place before you proceed with expensive litigation. And if you are an uninsured adviser that made a mistake, you should seek legal counsel immediately. Food for thought.


Tuesday, February 27, 2024

CAN A FINANCIAL ADVISER BE SUED BY A NON-CLIENT FOR NEGLIGENCE?

The answer to that question is “probably.” At least in Missouri, New York, and Iowa.

            Missouri courts apply a balancing test when determining if a “non-client” intended beneficiary of professional services can sue for negligence despite a lack of privity. The leading case in Missouri, at least as to accountants, is Aluma Kraft Manufacturing Co. V. Elmer, 493 S.W.2d 378(1973). The Aluma court stated: 

“The determination of whether in a specific case the defendant will be held liable to a third person not in privity is a matter of policy and involves the balancing of several factors: (1) the extent to which the transaction was intended to affect the plaintiff; (2) the foreseeability of harm to him; (3) the degree of certainty that the plaintiff suffered injury; and (4) the closeness of the connection between the defendant’s conduct and the injury suffered. Westerhold, supra, 419 S.W.2d at 81. We believe that these policy factors are satisfied with this case.” 

Aluma at 383. The court relied in part upon a New York accountant case, quoting the infamous Justice Cardozo.

The same principles of non-privity professional liability have been applied to attorneys in Missouri. See Donahue v. Shugart, 900 S.W.2d 624 (Mo. 1995). In Donahue the intended beneficiaries of a decedent’s trust that was declared invalid brought a legal malpractice and breach of fiduciary duty claim against the decedent’s attorneys. Id. At 626. Prior to the decedent’s death he directed Stamper, his attorney, to ensure that a specified sum of monies from his trust account be paid to Mary Donahue and Sundy McClung upon his death. Id. at 625. Donahue and McClung were not beneficiaries of Stockton’s trust. Id. Stockton also directed Stamper to prepare a deed to his home transferring a fifty percent interest in the home to Mary Donahue, effective on Stockton’s death. Id. Upon learning that Stockton’s death was imminent, Stamper sought advice from others in his law firm on how to make the checks and deed effective in accordance with Stockton’s wishes. Id.

Stamper attempted to effectuate the transfers, but they were later declared to be invalid by the Missouri Court of Appeals. Donahue, 900 S.W.2d at 625. The Court determined that the plaintiff’s breach of fiduciary duty claim was properly dismissed as being “dependent on the existence of attorney negligence, not on the breach of trust” because the conduct complained of was merely negligence in the performance of legal services. Id. at 630. 

But the Donahue court stated that the “Determination of whether attorney owed legal duty to non-clients so as to be liable to non-clients in legal malpractice action is determined by weighing factors in balancing test, including: existence of specific intent by client that purpose of attorney’s services were to benefit plaintiffs, foreseeability of harm to plaintiffs as result of attorney’s negligence, degree of certainty that plaintiffs will suffer injury from attorney misconduct, closeness of connection between attorney’s conduct and injury, policy of preventing future harm, and burden on profession of recognizing liability under circumstances. Pleadings were sufficient to establish that attorneys owed duty to non-clients who were intended recipients of client’s gifts causa mortis.”

Finally, the Supreme Court of Iowa applied these same basic principles to an insurance agent to allow a non-client to proceed against the agent. There is no reason to believe that the courts would not apply the same public policy to financial advisers and the intended beneficiaries of their services. Food for thought.

Monday, July 24, 2023

Missouri Securities Division is Investigating new Missouri Limited Liability Companies

          A membership interest in a limited liability company is a “security” as broadly defined under the Missouri Securities Act of 2003.[1] Now the Missouri Commissioner of Securities, through its Enforcement Section of the Securities Division (“Enforcement Section”), is sending letters to specified companies that have newly filed with the Missouri Secretary of State as limited liability companies or as foreign companies, which state it has received information of participation in prohibited conduct by these companies.

          Section 409.6-602(b) of the Missouri Revised Statutes[2] provides the Enforcement Section with extremely wide latitude to compel the production of written statements and documents regarding any matter that it considers relevant or material to its investigation. Some of these letters require the compulsory production of documents and written responses:

·         In narrative form detailing the objectives of the limited liability companies;

·         Listing all individuals/entities with investments in the limited liability companies to include names, addresses, telephone numbers, email addresses, and dates and amounts investments;

·         Name and address of all financial institutions where investors’ money was/were deposited; and

·         In narrative form detailing how the investors’ funds are/were used.

In seeking claims of exemption from registration or exception in these letters, the Enforcement Section seems to have assumed that these new limited liability companies are operating in Missouri as an unregistered investment adviser, broker-dealer, investment adviser representative, or broker-dealer agent, whether operating as an investment company or not.  Consequently, these letters should be taken extremely seriously because the costs of defending against Enforcement Section enforcement proceedings that assert these assumptions can be extreme, whether warranted or not.

If you receive one of these letters, you may not want to act alone and wish to consult with one of the experienced attorneys at Cosgrove Law Group, LLC. Call us at 314-563-2490.

Author: Brian St. James



[1] §§409.101 to 409-7-703, RSMo 2016 (Cu. Supp. 2022).  

[2] §409.6-602(b), RSMo 2016 (Cum. Supp. 2022). 

Wednesday, May 24, 2023

The Evolution of a Wells Process and the Anticipated SEC Sweeps

       The Wells Process has a long history dating back to 1972 when SEC Chairman William J Casey appointed John Wells along with two others to the “Wells Committee.” The SEC is charged with the compliance and enforcement of the federal securities law to protect citizens from fraud and theft while maintaining a fair and efficient market. Before the Wells Committee, the SEC could investigate, as it does today, but did not bring forth any notice as to what they were investigating or even who they were investigating. Attorneys who were specialized in this field could formally write to the SEC, ask what charges were being brought against their client, and file a rebuttal. Veterans of this process knew how it worked and used that to their advantage, but the vast majority of the population had no idea about any investigation until the formal charges were made. Then in January of 1972, the Wells Committee saw this as an opportunity to change just that.

            The start of the Wells Process was born. The Wells Process starts with a written letter made near the end of an SEC investigation known as a “Wells Notice.” A Wells Notice is made up of three things. It informs the person(s) or business of the intent of the SEC to file an action against them. It identifies the exact laws allegedly being violated. And finally, it provides notice on how to make a submission for your own defense called a “Wells Submission.” The Wells Submission will have parameters on length and time set by the Wells Notice. According to the notice, one has 180 days to enter a submission. The SEC can choose to extend that time, but the one submitting cannot. It is important to note that the Wells Notice has never been a formal rule in the SEC, and the SEC is not required to give a Wells Notice to begin the Wells Process. In fact, if they deem it as a public safety issue, they can completely forgo the Wells Process, and the 180 days is strictly an internal time frame. The SEC can still file a complaint after 180 days has passed.

After a Wells Notice is made, the next step is a “Wells Call” and finally a “Wells Meeting.” The call is an informal call to gather information and ask questions, while the meeting is a bit more formal which includes the Wells Submission. These Wells Submissions are written documents that need to be very carefully written. There is no formal charge at this time, but the submission can be used in discovery later. At this time in the process, the meeting is conducted by the Director or Assistant Director of the SEC’s Division of Enforcement. This is the last chance for one to give their best defense. It is at this time, the Staff can: settle the case, drop the case, or formally file charges. There are not many statistics about the Wells Process, but we do know in 2012-2013, 20% of Wells Notices ended with the case being dropped and no charges ever filed. While 20% sounds promising, Wall Street Journal financial reporter Jean Eaglesham thinks the percentage was higher the decade before and is dwindling the decade after due to how the, “SEC stockpiles significant ammunition before issuing a Well.” Still, the 20% does give hope. The ultimate goal of the SEC is to settle these cases with the best outcome for all involved, not waste time and resources.

            That brings us to Gurbir Grewal, the current director of the SEC’s Division of Enforcement. Grewal is now taking the Well Process to the next evolutionary step. The Wells Process typically takes up to 2 years. That is a long time to be under investigation and requires a fair amount of resources. As mentioned, the Wells meeting used to be conducted by the Director or Assistant Director, but Grewal’s next step is opening the meetings to be conducted by regional directors. Grewal claims everyone will get a meeting, just not with him. “Unless there’s really a real factual dispute, a novel legal issue or an area of programmatic concern, you’re not going to get a meeting with the director or the deputy,” says Grewal. While some may not appreciate this, it will quicken the pace of investigations, but also quicken the pace of the number of investigations, famously known as SEC sweeps.


Author: Hanna Sprigg

Thursday, February 23, 2023

Wells Fargo Advisors, LLC wins FINRA Award sum of $15,300,000.00+ in Damage

     On February 2, 2023, a FINRA arbitration panel awarded the Claimant, Wells Fargo Advisors, LLC a sum of 15,300,000.00 in Compensatory Damages and over $4,000,000.00 in additional costs and attorney fees.

Case Summary:

            In October 2018, Kent Jackson Rhoades left his job at Wells Fargo Advisors, LLC in Mountain Home, Arkansas to start an independent financial consulting firm with Raymond James Financial Services, Inc. Rhoades not only left the corporate company to venture out on his own but also hired on a 12- person team, all of which worked under Rhoades at Wells Fargo, and named them the Financial Services and Investment Strategies Group. It is important to note that the Wells Fargo branch is no longer in business. 

            In August of 2020, Wells Fargo filed a complaint alleging Raymond James Financial Services and Kent Jackson Rhoades led a “coordinated raid.” What is a raid you might ask? A raid is poaching another financial advisor’s team or clients with the intent of harming that firm’s business. One might not see a case regarding “coordinated raids’ because they don’t happen frequently and are difficult to prove. FINRA rule 2010 states, “A member, in the conduct of its business, shall observe high standards of commercial honor and just and equitable principles of trade.” While a little vague, under this rule, a financial firm cannot ethically poach a significant portion of another firm’s team and/or clients, and in October 2018, Raymond James Financial Services did just that. 

Wells Fargo claimed Raymond James took the entire financial advisor team, as well as clients that Rhoades had been working with over the 20 years he worked at Wells Fargo. Wells Fargo sought damages, costs and fees against Raymond James Financial Services, Kent Jackson Rhoades and the 12-person team that collectively moved from Wells Fargo to Raymond James Financial Services. Rhoades claimed that the clients at Wells Fargo moved to his firm due to the “untruths and/or deception [which] caused clients to sever their relationships.” Rhoades and the 12 pursued a counterclaim award against Wells Fargo as well. However, on August 25,2022, Wells Fargo dropped the claim against the 12, and the 12 dropped the counterclaim against Wells Fargo, leaving just Rhoades and Raymond James Financial. 

After multiple hearings, FINRA awarded Wells Fargo Inc. $15.3M in compensatory damages (with a 6% annual interest rate), $3.5M in attorneys’ fee, $847,000 in costs, $1M in punitive damages, a $500 non-refundable claim filing fee, and $53,775 in hearing session fees totalling over $20M. The counterclaim was completely dismissed and all claims for relief for Raymond James Financial Services were denied. 

 

+ Awards are rendered by independent arbitrators who are chosen by the parties to issue final, binding decisions. FINRA makes available an arbitration forum—pursuant to rules approved by the SEC—but has no part in deciding the award.

Additional sources:

https://www.advisorhub.com/wells-fargo-advisors-wins-nearly-20m-in-raiding-claim-against-raymond-james/

https://www.advisorhub.com/wp-content/uploads/2019/08/Good-Moves-Bad-Moves-Bad-Move-Being-part-of-a-raid-1.pdf

Monday, February 20, 2023

Missouri Legislature Proposes Investment Adviser Disclosure of Social Objectives

On January 8, 2023, Representative O’Donnell introduced a bill to the 102nd General Assembly that adds to the disclosure obligations of Missouri-registered investment advisers. If enacted, Missouri House Bill No. 824 will amend Chapter 409 (Regulation of Securities) of the Missouri Revised Statutes to require these investment advisers and investment adviser representatives to disclose any socially responsible criteria included in any recommendation to a client or solicitation of a prospective client. Then, before acting on any such social objective, the proposed law would require client written consent, such as:

“I, (NAME OF CLIENT), consent to my adviser or adviser’s representative incorporating a social objective or nonfinancial objective into any discretionary investment decision my adviser or adviser’s representative makes for my account; any recommendation or advice my adviser or adviser’s representative makes to me for the purchase or sale of a security or commodity; or the selection my adviser or my adviser’s representative makes, or recommendation or advice my adviser or my adviser’s representative makes to me regarding the selection, of a third-party manager or subadvisor to manage the investments in my account.  Also, I acknowledge and understand that incorporating a social objective or nonfinancial objective into investment decisions, recommendations, advice, and/or the selection of third-party manager or subadvisor to manage the investments in my account will result in investments and recommendations/advice that are not solely focused on maximizing a financial return on my account.”

This bill’s proposed effective date is August 28, 2023, which is very timely considering the U.S. Securities and Exchange Commission’s similar recently proposed amendments to rules and reporting forms that would establish disclosure requirements for funds and investment advisers that market themselves as having environmental, social, and governance (ESG) strategies.

Since matters such as investment adviser client disclosures are complicated, it can be helpful to hire an attorney that specializes in such areas. Cosgrove Law Group has experience dealing with these questions. If you are a client or a prospective client of a Missouri-registered investment adviser that has questions about these or other investment adviser disclosure obligations and would like to speak with one of our Missouri-licensed attorneys, call 314-563-2490.

Friday, January 20, 2023

Jury Trials in Missouri Securities Division Administrative Enforcement Actions

 The Enforcement Section of the Missouri Secretary of State Securities Division (the “Enforcement Section”) brought 35 administrative enforcement actions between 2020 and 2021 pursuant to Section 409.6-604, RSMo.,[1] which assessed $7.5 million in civil penalties.[2] Some of these administrative actions alleged securities fraud in violations of Section 409.5-501(1), Section 509.5-501(2), and Section 509.501(3). The administrative procedures allow the Missouri Secretary of State appointed Commissioner of Securities (the “Commissioner”) to issue an interim order finding that the respondent has committed securities fraud, which order becomes final unless the respondent requests a hearing. The administrative procedures also authorize the Commissioner to conduct the hearing, in effect serving as both the prosecution and the judge, which may be why only 5 hearings were requested in these 35 enforcement actions.[3]

Section 409.6-603 also authorizes the Missouri Securities Division to file civil actions to enforce alleged securities fraud violations to be tried by a neutral judge in the Circuit Court of Cole County, Missouri. But the Division does not.[4] And why would it when the Commissioner whose job it is to enforce the Missouri securities laws also gets to determine whether those laws have been violated?

But administrative enforcement proceedings for alleged securities fraud cases are not the only play here in Missouri. The case can certainly be made that the Missouri Constitution, art. I, section 22(a) applies to securities fraud enforcement claims, which states: “the right of trial by jury as heretofore enjoyed shall remain inviolate; …”[5] “Quite simply, the words of the provision are intended to guarantee a right, not restrict a right. The choice of words, particularly the use of the words ‘remain inviolate,’ is a more emphatic statement of the right than the simply stated guarantee written some 30 years earlier as the 7th Amendment of the United States Constitution that ‘…the right of trial by jury shall be preserved…’” State ex rel. Diehl v. O’Malley, 95 S.W. 3rd 82, 84 (Mo. Ct. App. 2002). 

Credit the U.S. Court of Appeals for the Fifth Circuit for first coming up with this idea in the context of securities fraud administrative enforcement actions in Jarkesy v. Securities and Exchange Commission, 34 F. 4th 446 (5th Cir. 2022), which ruled on May 18, 2022, in a 2-1 decision, that the U.S. Securities and Exchange Commission (“SEC”) may no longer use its own administrative proceedings framework to enforce SEC securities fraud cases. Instead, the SEC must bring such actions in federal district courts where respondents may exercise their rights to civil jury pursuant to the 7th Amendment. The same principle applies to Missouri’s administrative proceedings framework to enforce Missouri securities fraud cases, even though there is also gratuitous language in Diehl and Goodrum v. Asplundh Tree Expert Co., 824 S.W. 2d 6, 11 (Mo. banc 1992), which appears to state otherwise. We disagree.  The key is that the rights the Enforcement Section seeks to vindicate in securities fraud administrative enforcement actions are analogous to fraud causes of action at common law brought at the time of Missouri’s 1820 Constitution. 

Cosgrove Law Group has experience dealing with these questions. If you are served with a securities fraud administrative enforcement action by Missouri Securities Division and would like to speak with one of our licensed attorneys, call 314-563-2490.   

Author: Brian St. James

[1] All statutory references are to the 2020 Revised Statutes of the State of Missouri. 

[2] Committee Meeting Materials, “Administrative Practice Before the Missouri Commissioner of Securities,” 2022 MoBar Fall Conference, Office of the Missouri Secretary of State Securities Division. 

[3] Id.

[4] Id.

[5] Article, I, Section 22(a), the Missouri Constitution.