Thursday, January 12, 2012

Raising Capital is a Perilous Endeavor:  It Could Even Land You in Prison

Just last month the Court of Appeals of Ohio affirmed the convictions of a business owner for three counts of false representation in the registration of securities, and one count each of engaging in a pattern of corrupt activity, tampering with records, and falsification, but reverse the remainder of his convictions. The appeals court did, however, reverse dozens of convictions on other counts, including securities fraud, and sent the case back to the trial court to reconsider the 10 year sentence of imprisonment it imposed. Notably, however, the pattern of corrupt activity conviction was based solely upon the defendant’s failure to disclose sales commissions on a Reg D filing prepared by his attorney, and the tampering and falsification convictions were predicated upon his failure to disclose a 13 year old misdemeanor bad check conviction on a non-required filing with the Division of Financial Institutions. Below I have set forth excerpts from this remarkable prosecution and conviction. The case citation is State v. Willan, 2011 WL 6749842 (Ohio App. 9 Dist.).

All of Mr. Willan's convictions stemmed from activity conducted by two of his businesses. For several years, Mr. Willan was in the business of buying, renovating, and reselling homes under the name of Summit Redevelopment. Mr. Willan later changed the company's name to Evergreen Homes, LLC. Although Mr. Willan later started building new homes through a business named Evergreen Builders, that entity is not connected to the convictions in this case. Because many potential buyers of renovated homes lacked the ability to secure financing through traditional means, Summit Redevelopment and later Evergreen Homes assisted buyers in obtaining financing.

As Evergreen Homes' sales business grew, it developed a need for an influx of capital. Mr. Willan hired a law firm with attorneys experienced in regulatory and finance area. He worked with the attorneys at the firm for almost a year to develop a business plan to raise capital for Evergreen Homes. Mr. Willan continued to work with these attorneys for the next several years and repeatedly told them that he wanted to do whatever was necessary to ensure that his business complied with the law. Even when the law firm recommended action that exceeded that required under the law, Mr. Willan agreed to the firm's recommendations.

To implement the business plan, Mr. Willan formed a separate company, Evergreen Investment Corporation. Evergreen Investment was formed to purchase and hold the second mortgages that Evergreen Homes had received through its home sales and to secure investors to provide capital that would enable it to purchase the mortgages from Evergreen Homes. To accomplish this goal, Evergreen Investment sold debt securities, which earned interest at a set rate around 10 percent or above. This endeavor required Evergreen Investment to conform to the registration requirements connected with a securities offering. Eventually, Evergreen Homes secured capital directly through the sale of equity securities. These securities represented actual ownership interests in Evergreen Homes.

In raising its capital through the issuance of debt securities, Evergreen Investment registered each offering with the Division of Securities of the Ohio Department of Commerce. Upon the advice of counsel, Mr. Willan hired a certified public accounting firm to prepare audited financial statements for Evergreen Investment to file with the Division prior to the initial offering. Although audited financials were not required by the Division, Mr. Willan followed his counsel's advice to fully disclose the financial condition of the company. With respect to the sale of its equity securities, Evergreen Homes did not register those securities with the Division of Securities, but instead filed forms with the Division to exempt the offerings of those securities from the state's registration requirements.

Mr. Willan hired Daniel Mohler to manage the investment sales. Mohler had no experience with securities sales and was not licensed by the state to sell securities. Mohler received a commission for each security sale. Evergreen Investment sold its debt securities through newspaper advertisements, which were approved by the Division prior to publication. The ads announced the availability of the high-risk, high-yield certificates and provided information about how prospective investors could obtain more information about the offering. The information provided warned the potential investor that the investment was high-risk, was dependent on fluctuations in the lending and housing market, and was not insured. After reviewing the information and determining whether the investment was appropriate, interested investors would purchase certificates. Even though the investment was tied to the continued success of Evergreen Homes, numerous investors were attracted to the high rate of return and good reputation of the company. Mohler's job was to handle the paperwork when potential investors contacted the office. Although he occasionally met outside the office with potential investors who requested information, Mohler's sales role did not involve the active solicitation of new investors.

When the Division conducted an audit of Mr. Willan's companies, it learned that Mohler was selling the securities and was receiving a commission for each sale. Both Mr. Willan and Mohler admitted that Mohler received a commission for each security sale. In fact, Mr. Willan made no attempt to conceal anything about his businesses during the audit, nor did he attempt to alter the companies' books to disguise the form or amount of Mohler's compensation. Mr. Willan stated that he was not aware that he should not have been paying Mohler a commission. The Division described Mr. Willan as “fully cooperative” with its investigation. In furtherance of his cooperation, Mr. Willan agreed to travel to Columbus to give a deposition to the Division. There was no evidence suggesting that Mr. Willan did anything to impair or hinder the Division's investigation.

The Division communicated with Mr. Willan's then-counsel, who had been unaware until that time that Mohler was selling the securities or that anyone was receiving commissions. After learning that Mohler was paid commissions to sell the securities, Mr. Willan's counsel informed the Division that Ohio law did not require Mohler to be licensed as a salesperson because he sold securities on behalf of the issuer, and therefore, the sales were exempted from state licensing requirements. Based on his counsel's advice, Mr. Willan maintained the position that the statutory prohibition on commissioned sales applied only to securities dealers, not salespeople. Nonetheless, in what appears to be an abundance of caution, Mr. Willan's counsel advised Mr. Willan to stop paying Mohler a commission and suggested that instead Mohler be paid a salary. Mr. Willan agreed. It appears that Mr. Willan's counsel believed that such action would be sufficient to resolve the matter with the Division.

In addition to concerns of the Division of Securities that Evergreen Investment and Evergreen Homes were conducting business in violation of Ohio securities laws, the Summit County Sheriff's Department had become aware that many of the homes sold by Mr. Willan were in foreclosure. The sheriff's department had been investigating Mr. Willan and his businesses and had learned that he had withdrawn large sums of money from his companies. It questioned whether these withdrawals had been made at the expense of investors and whether Evergreen Investment was financially solvent. The sheriff's department obtained warrants to search the offices of the Evergreen companies as well as Mr. Willan's current and former residences. The sheriff's department seized numerous items from Mr. Willan's offices that included several computers and file cabinets full of business records of Evergreen Homes and Evergreen Investment. The Evergreen companies were “basically left with a shell of an office.” It does not appear that any evidence was uncovered during the raid that would suggest that the purpose of Mr. Willan's endeavors was to defraud investors in the nature of a “Ponzi” scheme or that the entities were not legitimate operations.

When an attorney at the Division of Securities first began investigating the Evergreen companies, he discovered that the Division had received no complaints from any investors in either Evergreen company. Prior to the raid by the sheriff's department, all investors were paid everything they had been promised, and Evergreen Investment had honored all requests for redemption of certificates. After the raid, however, the Evergreen companies essentially screeched to a halt. The companies had little ability to continue operations because the sheriff's department had seized their computers and business records. Moreover, because the raid had generated a great deal of negative publicity, investors called to demand an immediate return of their investments. Although Mr. Willan's companies remained financially solvent assets sufficient to cover the investments, Mr. Willan lacked the liquidity to refund the investments of everyone at once. As a result, Mr. Willan's Evergreen companies filed for bankruptcy protection.

Mr. Willan initially faced 108 charges. After the close of evidence, the jury considered 68 counts against Mr. Willan: one count of engaging in a pattern of corrupt activity, five counts of false representation in the registration of securities, 20 counts of selling securities as an unlicensed dealer, one count of securities fraud, one count of aggravated theft, one count of theft from the elderly, 17 counts of violating the Ohio Small Loans Act, and 22 counts of acting as an unregistered second mortgage lender. The jury found Mr. Willan guilty of all 68 counts.

The most serious of Mr. Willan's licensing convictions were 20 counts of violating R.C. 1707.44(A)(1) by selling securities without obtaining a license. Although both Evergreen Investment and Evergreen Homes eventually sold securities, the indictment and Mr. Willan's convictions pertained only to specific sales of Evergreen Investment debt securities. The State attempted to prove that Mr. Willan violated R.C. 1707.44(A)(1) by acting through Daniel Mohler in selling securities because Mohler was not licensed to sell securities, nor was Mr. Willan or either of his companies.

On appeal Mr. Willan conceded that the State presented evidence that, Mohler handled and processed customer inquiries and requests for purchases of Evergreen Investment debt securities, that Evergreen Homes paid him commissions for the sales, that he was not licensed to sell securities, and that Evergreen Investment, Evergreen Homes, and Mr. Willan were not licensed as dealers. Mr. Willan's argument was that Mohler was not a “salesperson” within the meaning of R.C. 1707.01(F)(1) because Mr. Willan and his Evergreen companies were not “dealers” within the meaning of R.C. 1707.01(E)(1).

It is clear from R.C. 1707.01(E)(1)(a) that, with respect to Evergreen Homes' own securities, it fell within the issuer exception. Thus, it is not surprising that Mr. Willan was not charged with any crimes under R.C. 1707.44(A)(1) concerning the sale of Evergreen Homes' own securities. The remaining question, therefore, was whether Evergreen Homes was a dealer of Evergreen Investment's securities through the action of its employee, Mohler.

The Court of Appeals noted that the latter half of the definition of dealer, discussing selling securities “for the account of others[,]” requires that the person, here Evergreen Homes, received a commission, fee, or similar remuneration for the sale of the securities. R.C. 1707.01(E)(1). So it concluded that, even assuming that Evergreen Homes was selling securities “for the account of others[,]” because Evergreen Homes did not receive a commission, fee, or similar remuneration for the sale of Evergreen Investment's securities, it was not a dealer as contemplated by the second portion of the statutory definition. R.C. 1707.01(E)(1).

With respect to the first portion of the definition, discussing the sale of securities “for the person's own account,” the Court noted that it was unclear to what extent the sale would have to benefit the person to qualify as “for the person's own account” under the statute. R.C. 1707.01(E)(1). But according to the Court, if the legislature had intended such a tenuous benefit to qualify as “for the person's own account,” it could have inserted language into the statute that would make such an interpretation more reasonable. R.C. 1707.01(E)(1). As the legislature did not do so, it concluded Evergreen Homes was not selling securities for its own account.

Next, the Court turned to examining whether Evergreen Investment was a dealer as contemplated by R.C. 1707.01(E)(1). In that instance, the Court concluded that, even assuming that the activities of Evergreen Investment satisfied the general definition of dealer, by being in the business of selling securities for its own account, R.C. 1707.01(E)(1), Evergreen Investment fell within the issuer exception. Evergreen Investment was the issuer of the securities in question because it sold, offered for sale, or furthered the sale of securities which represented an economic interest in Evergreen Investment, and it did not receive any commission, fee, or similar remuneration for the sale. R.C. 1707.01(E)(1)(a). As Mr. Willan, Evergreen Investment, and Evergreen Homes were not dealers, Mohler was not a salesperson, and Mr. Willan could not be convicted of aiding and abetting him as an unlicensed salesperson. See R.C. 1707.01(F)(1); R.C. 1707.44(A)(1). Therefore, the Court held that the State failed to present sufficient evidence that Mr. Willan aided and abetted Mohler as an unlicensed salesperson of securities, as it failed to establish that Mohler was required to be licensed.

The trial court also gave the statutory definition of the term “dealer.” R.C. 1707.01(E) defines a “dealer” to include “every person, other than a salesperson, who engages * * * in the business of selling securities for the account of others in the reasonable expectation of receiving a commission, fee, or other remuneration[.]” R.C. 1707.01 does not define the phrase “engages * * * in the business,” nor does it otherwise specify the level of involvement required for one to “engage” in the business of selling securities and, therefore, fall within the definition of a “dealer.”

Sheldon Safko, formerly an attorney with the Division of Securities, described dealers as agents who are in the business of selling securities for issuers other than themselves, such as Charles Schwab and Merrill Lynch. He further explained that a dealer is one who can employ a salesperson. See R.C. 1707.01(F). In addition, he testified that, although an individual technically could qualify as a dealer, it was not the practice of the Division to license individuals as dealers and he did not think it was ever done; individuals were licensed as salespeople.

Consequently, the Court concluded that the language of R.C. 1707.01(E) can reasonably be construed to apply only to a person or entity that directs and controls the manner and means of the securities sales activity. Because it was not clear that R.C. 1707.01(E)(1)(a) was intended to define “dealer” to include an employee who performs merely clerical functions and works at the direction and control of his employer, this Court would not construe it to apply to Mohler's securities sales activities. Because the State failed to prove that Mohler, Mr. Willan, Evergreen Homes, or Evergreen Investment qualified as salespeople or dealers within the meaning of R.C. 1707.01(E) and (F), none of them was required to be licensed to sell the Evergreen Investment debt securities. Therefore, the Court held that the State failed to present sufficient evidence to support Mr. Willan's 20 convictions under R.C. 1707.44(A)(1).

Mr. Willan was also convicted of five counts of making a material false representation for the purpose of registering or exempting securities from registration when he registered two separate offerings of Evergreen Investment's debt securities and when he filed for an exemption from registration of three separate offerings of equity securities. At that time, R.C. 1707.44(B)(1) provided that “[n]o person shall knowingly make * * * any false representation concerning a material and relevant fact * * * in any * * * circular, description, application, or written statement, for any of the following purposes: [r]egistering securities * * * or exempting securities * * * from registration, under this chapter[.]”

Mr. Willan's misrepresentation convictions were based on his statements in the securities filings of Evergreen Homes and the offering circular of Evergreen Investment that no commissions would be paid in connection with the sale of the securities. These alleged offenses focused on misrepresentations that were made on securities forms filed with the state and in the offering circular for the Evergreen Investment debt securities. Mr. Willan conceded that the representations were false because Mohler was paid a commission for most of the securities sales. But he challenged the sufficiency of the evidence primarily on whether these misrepresentations were material and/or whether he made them with knowledge that they were false or with a purpose to defraud anyone. Evergreen Investment filed forms with the Division of Securities of the Ohio Department of Commerce to register a $5 million offering of debt securities. The registration paperwork filed by Evergreen Investment included the required Form 6(A)(1), as well as the offering circular that Evergreen Investment would use to inform investors about the Evergreen companies and each security offering. Evergreen Investment filed similar paperwork to register a $10 million offering of debt securities. Each offering circular stated that “[n]o commissions * * * will be paid * * * in connection with the sale of the Certificates.”

Although Mr. Willan conceded that the statement in the circular regarding commissions was false, and that the circular was filed along with his registration paperwork, he maintained that the State failed to prove that the false statements in the circular were made for the purpose of registering securities or that they were material to the registration process. The Court of Appeals agreed.

Although many federal cases involve material misrepresentations in the registration of securities, those cases provided little guidance because they involved civil suits brought by investors and, necessarily, focused on whether the misrepresentation was material to investors' decisions to invest. The focus here was not whether investors' decisions would have been affected by Mr. Willan's misstatement about the commissions but whether the Division of Securities was materially misled in its decision to register the securities.

The Court of Appeals observed that, although the State established that the information in the circular was relevant to the sale of securities, it offered no evidence that Mr. Willan made this misstatement for the purpose of registering the securities or that it was material or relevant to the registration of the security offering. Therefore, the State presented insufficient evidence that he knowingly made material and relevant false statements for the purpose of registering the debt security offerings.

Mr. Willan's remaining convictions of false representation in the registration of securities, focused on entirely different forms that Mr. Willan filed on behalf of Evergreen Homes to exempt its equity securities from state registration. Mr. Willan filed the requisite “Form D” with the Division of Securities to exempt a total of $4 million in equity securities offerings from state registration requirements. Again at issue was Mr. Willan's misrepresentation that no commissions would be paid in connection with the sale of these securities.

Section C, Item 4 of each Form D filed by Evergreen Homes included a line to list the amount of “Sales Commissions” that would be paid in connection with the offering. Each Form D filed by Evergreen Homes left the commission expense line blank and, consequently, no commissions were deducted from the gross amount of the offering to arrive at the “adjusted gross proceeds to the issuer.” In addition to Mr. Willan's failure to include commissions as an expense to be deducted from the issuer's proceeds, each Form D included an affirmative misrepresentation that no commissions would be paid. Each Form D filed by Evergreen Homes included the response “None.” to Section B, Item 4 and no other information.

Form D provides almost an entire page for information about the people who have been or will be paid commissions in connection with the sale of securities in the offering, including the name of their associated broker or dealer. The State explained to the jury that information about who would receive commissions was relevant and material to the Division's review of each Form D because the securities offering would not qualify for a Rule 506 registration exemption if the securities sales involved the payment of commissions to people who were not licensed with the state to sell securities.

R.C. 1707.03(X) provided that an “offer or sale of securities made in reliance on the exemption provided in Rule 506 of Regulation D under the Securities Act of 1933 * * * is exempt provided that all of the following apply:

(1) The issuer makes a notice filing with the division on form D of the securities and exchange commission within fifteen days of the first sale in this state;

(2) Any commission, discount, or other remuneration for sales of securities in this state is paid or given only to dealers or salespersons licensed under this chapter;

By misrepresenting that no commissions would be paid, when in fact Mr. Willan knew that commissions would be paid to someone who was not a dealer or salesperson licensed in this state, the Court of Appeals concluded that Mr. Willan made material false statements on each Form D he filed. Had the commission payments to Mohler been disclosed, Evergreen Homes would have been required to fully register each of the three equity securities offerings with the state or commit another offense by selling unregistered securities.

Although Mr. Willan's former counsel completed each Form D, he sent the forms to Mr. Willan for him to review and sign. Regardless, according to the Court, each Form D was only a few pages long and included little information for Mr. Willan to review. The statement about the commissions would have been noticeable from even a brief review of the forms. Moreover, Mr. Willan signed each Form D directly below a series of statements, representing that he was familiar with the conditions that must be satisfied for the exemption, that he understood that the issuer had the burden of demonstrating that it qualified for the exemption, and that he had “read this notification and knows the contents to be true[.]” In sum, Mr. Willan knew that Mohler would be selling the equity securities and receiving a commission at the time he represented otherwise to the Division of Securities on each Form D. Therefore, the Court held that the State presented sufficient evidence to support Mr. Willan's convictions of false representation in the registration of securities, as charged.

Mr. Willan was also convicted of aggravated theft and theft from the elderly under R.C. 2913.02(A)(3) for sales of his securities. And although the State presented the testimony of many alleged elderly theft victims, who testified that they had invested amounts ranging from $20,000 to several hundred thousand dollars in securities in one or both of Mr. Willan's two companies and that they never received a refund of their investment, the State offered no evidence that Mr. Willan, Mohler, or anyone else associated with Mr. Willan had deceived any of the alleged victims about how their money would be invested. Indeed, according to the Court, almost every witness testified that they understood at the time they invested that a high rate of return was associated with a higher risk investment. Each had received a copy of the offering circular, which fully explained that this investment carried many risks. Instead, the deception alleged by the State again focused on Mr. Willan's false representation in the offering circular that no commissions would be paid in connection with the sale of securities. But there was no evidence that any of these investors gave money to Mr. Willan's companies due to his false statement about commissions.

Mr. Willan's position was that he was conducting a legitimate housing business and sought investors to provide capital to purchase more properties to improve. He maintained that his failure to return the investors' money was due to the eventual insolvency of his businesses. Despite the State's attempts to depict Mr. Willan's investment plan as a “Ponzi” scheme, it never presented any evidence to support that characterization. A so-called “Ponzi scheme” was named after Charles Ponzi, who defrauded investors of millions of dollars by convincing them that their money was earning a high rate of return when, in fact, he had not invested their money in anything. His scheme was a total sham because he “made no investments of any kind, so that all the money he had at any time was solely the result of loans by his dupes.” The Court of Appeals, however, observed that nothing in the record supported the State's allegations that Mr. Willan's investment plan was a sham. To the contrary, investors were told that their money would be used to provide capital to allow Evergreen Homes to buy more homes to renovate and the State failed to present any evidence that the investors' money was not used for that purpose. In fact, there was evidence that a reputable accounting firm had prepared the income tax filings and financial statements for the Evergreen companies and that the companies were financially solvent. The State failed to present evidence to support even an inference that the eventual insolvency of the Evergreen companies, and the investors' resulting loss of the money they invested, was due to anything other than a downturn in the housing and mortgage markets and the bad publicity that surrounded the sheriff's department raid of their offices.

As such, the Court concluded that the State failed to present sufficient evidence that Mr. Willan committed the offenses of aggravated theft or theft from the elderly.

Mr. Willan was also convicted of securities fraud under R .C. 1707.44(G). The statute provided that “[n]o person in * * * selling securities shall knowingly engage in any act or practice that is, in this chapter, declared illegal, defined as fraudulent, or prohibited.” R.C. 1707.01(J) defined “fraudulent acts” to include “any * * * scheme * * * to obtain money or property by means of any false * * * representation[.]” But again, Mr. Willan demonstrated that the State failed to present sufficient evidence to support this conviction.

Despite all of these reversals, however, Willan’s conviction of engaging in a pattern of corrupt activity under R.C. 2923.32(A)(1) was upheld by the Court. Although it concluded that there was insufficient evidence to support some of these convictions, there was sufficient evidence to support his convictions under R.C. 1707.44(B)(1) of three counts of making a false representation in the Form D filings of three separate offerings of equity securities. A conviction under R.C. 2923.32 required proof that Mr. Willan acted through an “enterprise” and engaged in a “pattern” of corrupt activity. R.C. 2923.31(C) defines an enterprise to include “any individual, * * * corporation * * * or other legal entity, or any organization, association, or group of persons associated in fact although not a legal entity.” R.C. 2923.31(E) defines a “[p]attern of corrupt activity” as “two or more incidents of corrupt activity, whether or not there has been a prior conviction, that are related to the affairs of the same enterprise, are not isolated, and are not so closely related to each other and connected in time and place that they constitute a single event.” In that regard, the State presented evidence that Mr. Willan, acting through his company Evergreen Homes, made false representations to the Division of Securities so he could exempt Evergreen Homes' equity securities from state securities registration. In connection with three separate offerings of equity securities. According to the Court, each act was directly related to providing funds for the affairs of his Evergreen companies and the acts were not isolated or so closely connected in time that they could be construed to constitute a single event. The pattern of corrupt activity involved a total of $4 million in securities that Mr. Willan was able to exempt from state registration as a result of the false representation. Therefore, the Court concluded that the State had presented sufficient evidence to support Mr. Willan's conviction of engaging in a pattern of corrupt activity.

Luckily, perhaps, the Court of Appeals also concluded that the trial court erred in imposing a ten-year term of incarceration under the former R.C. 2929.14(D)(3)(a) for the conviction of engaging in a pattern of corrupt activity. Because the language and legislative history of former R.C. 2929.14(D)(3)(a) do not clearly indicate that the mandatory ten-year term of incarceration was intended to apply to the general offense of engaging in a pattern of corrupt activity under R.C. 2923.32, the Court resolved this ambiguity in favor of Mr. Willan. Consequently, it concluded that the trial court erred by imposing a mandatory ten-year term under former R.C. 2929.14(D)(3)(a) for Mr. Willan's conviction of engaging in a pattern of corrupt activity based on the first-degree felony offenses of false representation in the registration of securities.

In sum, this case should terrify anyone raising capital, or representing someone who is doing so. Food for thought.

Tuesday, January 10, 2012

Recent FINRA Awards for Defamatory Statements on Form U-5’s

In the last few years, broker-dealers have seen a recent trend by its regulatory authority, FINRA, in cracking down on the high standard of accuracy and fairness that brokerage-dealers must adhere to in terminating registered representatives.

Broker-dealers that are members of the FINRA are required to file a Form U-5 when terminating their relationship with a registered representative.  Broker-dealers must also describe the specific reason(s) that the rep was discharged or permitted to resign.  Publishing the reasons or causes for a rep’s discharge or resignation can be troubling if the reasons disclosed on the U-5 were false, exaggerated or misleading. 

A black mark on one’s U-5 can make it extremely difficult, and in some cases, impossible, to find another job in the industry.  Therefore, the potential damages against the broker-dealer for defamatory statements on one’s U-5 can be exponential, especially if the false statements were intentionally or recklessly published.  In addition to compensatory and punitive damages, the statements on the U-5 can be ordered to be expunged and amended to reflect the truth.

In July 2011, a Philadelphia FINRA Panel awarded Gregory Kipple, a former broker of Wells Fargo, $6.83 million for wrongful termination and defamation ($4.3 million for lost earnings; $1 million for defamation; $1 million in punitive damages for violation of New Jersey’s Conscientious Employee Protection Act; and $530,000 in cost and attorney’s fees).  Wells Fargo was also ordered to update Kipple’s U-5 to reflect that he was “terminated without cause.”  Kipple was fired in August of 2009 for his “failure to follow the firm’s policies related to ‘know your customers.’”  However, Kipple had no direct involvement or interaction with the specific customer that the statement was in reference to. 

The District Court upheld another FINRA award against Wells Fargo in July 2011 for submitting defamatory statements on a discharged employee’s form U-5.  The claimant, Kenneth Schafer alleged that infractions reported on his U-5 were misleading and pretextual because he was discharged for health reasons.  Schafer was awarded $75,000 in compensatory damages. 

In June of 2011, a FINRA Arbitration Panel awarded a Claimant with a substantial punitive damage award.  In Olsen v. World Equity Group, Olsen alleged defamation, breach of contract, and tortious interference.  Claimant Olson alleged that Respondent WEG had breached its employment contract with him, wrongfully terminated him, and maliciously defamed him on his Form U5.  Olson was awarded $285,000 in compensatory damages, $575,000 in punitive damages, and $282,800 in attorney’s fees.  The Panel also ordered expungement of the defamatory comment from his U-5 which stated, “Disagreement over advertising policy, rules, and advertising protocol.”  The statement was to be replaced with, “FINRA Arbitration Panel ruled discharge was wrongfully administered. FINRA Arbitration Panel questions the appearance of the stated internal review and/or its effectiveness. FINRA Arbitration Panel found no violations of investment-related statutes, regulations, rules or industry standards of conduct.” 

In Perales v. Chase Investment Services Corp., also decided in June 2011, the claimant sought damages for defamation and expungement of the statements on her U-5 which alleged that she committed fraud and wrongfully took property. Chase was ordered to pay Perales $75,000 in compensatory damages and FINRA ordered expungement of the defamatory statements and recommended replacement language. 

Charles Schwab was punished in 2010 with a substantial punitive damage award by a FINRA Panel.  In that case, Claimant Timothy Leahy, who was a registered representative with Charles Schwab, was awarded $1.8 million in total damages, of which $1.5 million was comprised of punitive damages, as well as expungement of the defamatory statement from his U-5.  Leahy’s U-5 stated that he was terminated for “failure to adhere to HR related policies.”  The Panel found that Schwab conducted an inefficient human resources investigation, stated false violations as reasons for his termination, and found that Schwab had the “specific intent” to harm the Leahy. 

In 2009, FINRA found that Questar Capital Corporation included misleading information on John Saldutte’s U-5 after terminating him as a registered rep.  Saldutte was awarded $68,000 in compensatory damages and the Panel ordered expungement of the information contained on his U-5 regarding his termination and recommended Questar replace the defamatory statement with the following language: “After conducting a deficient investigation, the firm wrongfully terminated representative based on erroneous, misleading, and unjustified conclusion that representative knowingly participated in unregistered person’s submission of business in representative’s name.”     

If you’re a registered representative and feel you have been harmed by false or misleading statements published on your Form U-5 or to third parties, Cosgrove Law, LLC has substantive experience representing reps and advisers in such matters.