The Financial Advisor Succession Agreement

 “The Financial Advisor Succession Agreement: Can the Receiving Financial Advisor Contact Clients Associated with the Financial Advisor Succession Agreement upon Departure from the Firm?” 

Author: Brian St. James

What happens when a financial advisor enters into a Financial Advisor Succession Agreement and subsequently chooses to depart the firm? Is she or he able to contact those succession account clients after she or he lands at the new firm? As with most questions of this nature, the answer is “it depends.” 

A Financial Advisor Succession Agreement (the “Agreement”) is generally by and among the retiring financial advisor (the "Retiring FA"), the receiving financial advisor (the "Receiving FA") and the firm (the “Firm”), and is entered into pursuant to the terms of a Financial Advisor Succession Program.  The purposes are generally to  provide for trailing commissions to be paid the Retiring FA (the "Post-Retirement Payments") following the retirement date, and to ensure clients serviced by Retiring FA (the "Financial Advisor Succession Accounts") enjoy uninterrupted service throughout the defined post-retirement period as set forth in the Agreement (the “Post-Retirement Period"). Also, Receiving FA services the Financial Advisor Succession Accounts as a participant under the Agreement, and generally if Receiving FA departs the Firm for any reason during the Post-Retirement Period, then generally the Firm will re-assign the Financial Advisor Succession Accounts for servicing to another receiving FA so Post-Retirement Payments can continue until the end of the Post-Retirement Period. 

The Agreement may or may not contain a non-solicitation provision that prevents the solicitation of clients associated with the Financial Advisor Succession Accounts by the Receiving FA for a period of time after departure from the Firm. An industry-standard non-solicitation clause generally provides in some form or fashion for the following essential terms:

 “If Receiving FA's employment with the Firm terminates for any reason prior to the end of the Post-Retirement Period, she or he will not, for a period of one (1) year following such transition, directly or indirectly, on his or her behalf or on behalf of any other person,  solicit any clients associated with the Financial Advisor Succession Accounts for the purposes of providing financial services identical to or reasonably substitutable for the Firm’s financial services.  Solicitation shall include, but not limited to, contact or communication by mail, phone, email, or by any other means, either directly or indirectly, with any other person or party, for the purpose of requesting, encouraging, or inviting the transfer of an account from the Firm, the opening of new accounts with any other organization that does business in securities, or discontinuing any relationship with the Firm."  

The Agreement also may or not contain a non-disclosure provision that prevents the use of client information by the Receiving FA to solicit clients after departure from the Firm. An industry-standard non-disclosure provision may generally state as follows: 

Receiving FA shall not remove, use, disclose or transmit any confidential information or documents related to the Financial Advisor Succession Accounts or clients associated with the Financial Advisor Succession Accounts, including, but not limited to the names, addresses, phone numbers, account holdings or financial information related to the  Financial Advisor Succession Accounts."  

Based upon the inter-working of the non-solicitation and non-disclosure provisions, it seems abundantly clear that Receiving FA cannot contact any clients associated with the Financial Advisor Succession Accounts without breaching the Agreement. The analytical framework requires looking in two places to determine whether this is correct or not. 

The first is the Protocol for Broker Recruiting (the "Protocol"). In general, when a registered representative (“RR”) moves from one firm to another and both are signatories to the Protocol, the departing RR may take with him/her the client name, address, phone number, email address and account title of clients that she or he serviced while at the departing firm with him/her (the "Client Information"). RRs who comply with the Protocol are "free to solicit customers that they serviced while at their former firm" after she or he joins their new firms, and with the exceptions of team agreements and raiding cases, neither the departing RR or the firm that she or he joins "would have any monetary or other liability by reason of the RR taking Client Information or the solicitation of clients." 

The Protocol therefore seems rather definitive that Receiving FA can take Client Information with him/her to another signatory to the Protocol, but that is not the case with the Agreement, with respect to which the Protocol clearly states: "[i]f accounts serviced by the departing RR were transferred to the departing RR pursuant to  a retirement program that pays a retiring RR trailing commissions on the accounts in return for certain assistance provided by the retiring RR prior to his or her retirement in transitioning the accounts to the departing RR, the departing RR's ability to take Client Information related to those accounts and the departing RR's right to solicit those accounts shall be governed by the terms of the contract between the retiring RR, the departing RR, and the firm with which both were affiliated.” So, this does not work. 

The second place to look is at the non-solicitation and non-disclosure provisions themselves.  With respect to the non-solicitation provision, it restricts Receiving FA from directly or indirectly soliciting any clients associated with the Financial Advisor Succession Accounts. So, it is necessary to determine what constitutes a "solicitation." Pursuant to the Agreement, "solicitation" is defined to "include, but not limited to, contact or communication by mail, or by any other means, either directly or indirectly, with any other person or party, for the purpose of requesting, encouraging, or inviting the transfer of an account from the Firm, the opening of new accounts with any other organization that does business in securities, or discontinuing any relationship with the Firm."  Consequently, whether or not Receiving FA solicits any clients associated with the Financial Advisor Succession Accounts clients turns on Receiving FA’s intent when contacting the former clients.  

Under Missouri law, if Receiving FA does not do "anything but inform [his/her] former clients of [his/her] new employment," it is not a solicitation. Edward D. Jones & Co. v. Kerr, 415 F.Supp.3d 861, 874 (S.D. Ind. 2019) (applying Missouri law). (See, also fn. 11 that cites several cases for the proposition that merely contacting former clients to inform them of their departure and provide new contact information was not an indirect solicitation). This finding is consistent with Bittiker v. State Bd. of Registration for Healing Arts, 404 S.W.2d 402, 405 (Mo. App. 1966), a seminal Missouri case on what constitutes “soliciting” that states: soliciting "means to ask for or to request something or some action in language which convinces that the asking or requesting is done in earnest and that the solicitor wants results." A mere announcement would not according to Bittiker.    

The Kerr case was cited in Edward D. Jones & Co., L.P. v. Clyburn, No. 7:20CV00433, 2020 WL 4819547 (W.D. Va. Aug. 19, 2020), another case applying Missouri law and involving an industry-standard non-solicitation provision that states as follows: 

"Your agreement not to solicit means that you will not, during your employment with Edward Jones, and for a period of one year thereafter, initiate any contact or communication of any kind whatsoever for the purpose of inviting, encouraging or requesting any Edward Jones client to transfer from Edward Jones to you or to your new employer, to open a new account with you or to your new employer, to open a new account with you or with your new employer or to otherwise discontinue his/her/its patronage and business relationships with Edward Jones."  

Clyburn distinguished Kerr by finding "the district court specifically emphasized that there was 'no evidence to show that Mr. Kerr did anything but inform his former clients of his new employment.'" (citation omitted). Here "Mr. Clyburn contacted specific clients to schedule appointments, ... asked at least three particular clients to move their accounts to Ameriprise, and ... contacted another client more than once and advised her that he wanted to complete the paperwork necessary for her to switch firms." Consequently, there appears to be good authority under Missouri law that if Receiving FA does not do "anything but inform [his/her] former clients of [his/her] new employment," it is not a solicitation. But this safe harbor may be difficult to navigate given the factual circumstances of each client contact in connection with a departure. 

The second question is how to respect the non-disclosure provision without breaching the Agreement. And "Courts are more likely to find … contact constitutes a solicitation when there is evidence that the defendants - employees improperly used confidential records or trade secrets obtained while at their former employers to issue the announcements." Kerr, 414 F.Supp.3d at 877, fn. 12 (and cases cited therein).  

In Kerr it was specifically found that "Mr. Kerr denies using any of Edward Jones's information when issuing his announcement," and that "the transferee clients, who first learned of Mr. Kerr's transition from his announcement, had pre-existing, personal relationships with Mr. Kerr." So, it appears that one way to respect the non-disclosure provision without breaching the Agreement is for Receiving FA to limit the announcement of his/her transition to former clients who have pre-existing, personal relationships with him/her, such as family members or close friends.  Another way appears to be if Receiving FA is also dual registered as an RIA. If so, then the argument can be made that consistent with Receiving FA’s fiduciary duty of care, she or he has to inform his or her former clients of his or her departure from the Firm.  The argument would be that this fiduciary duty is not satisfied by relying upon the Firm to inform your customers, and that this fiduciary duty supersedes the non-disclosure obligation as it relates to using confidential information as to customer names and addresses to issue the announcements.   

Therefore, there is a lot to unpack regarding “it depends.” So, if you need assistance in this regard, you may wish to consult with experienced securities industry counsel at Cosgrove Law Group.  

Please follow us on Twitter @CosLawGroup, on LinkedIn at Cosgrove LawGroup, LLC, and on Facebook at Cosgrove Law Group, LLC. 

SEC Publishes Final Rule that Expands the Definition of ‘Accredited Investor’ for Private Placements

On August 26, 2020, the U.S. Securities and Exchange Commission (the “SEC”) published its Final Rule that amends the definition of “Accredited Investor” (for private placements pursuant to Regulation D) to “add new categories of natural persons that may qualify as accredited investors based on certain professional certifications or designations or other credentials or their status as a private fund’s ‘knowledgeable employee,’ expand the list of entities that may qualify as accredited investors, add entities owning $5 million in investments, add family offices with at least $5 million in assets under management and their family clients, and add the term ‘spousal equivalent’ to the definition.”[1] The stated purposes of the Final Rule is “to update and improve the definition to identify more effectively investors that have sufficient knowledge and expertise to participate in investment opportunities that do not have the rigorous disclosure and procedural requirements, and related investor protections, provided by registration under the Securities Act of 1933.”[2]

 The amendments to the “accredited investor” definition added new categories for both natural persons and entities. For natural persons,[3] the SEC designated in a separate order (a) as the initial certifications, designations, or credentials, those natural persons holding in good standing the “General Securities Representative license (Series 7), the Private Securities Offerings Representative license (Series 82), and the Licensed Investment Adviser Representative (Series 65),” and (b) certain “knowledgeable employees” of private funds for investments in the funds.[4]

With respect to entities, the Final Rule amends the definition of “accredited investor” to include (a) all SEC and state-registered investment advisers, (b) exempt reporting advisers, (c) rural business investment companies, (d) any entity owning “investments,” and (e) certain “family offices” and their “family clients”.[5]

The SEC also now allows natural persons to include the joint income from spousal equivalents when calculating joint income Rule 501(a)(6) and to include spousal equivalents when determining net worth under Rule 501(a)(5)  “Spousal equivalents” is defined as a cohabitant occupying a relationship generally equivalent to that of a spouse.

Christopher W. Gerold, President of the NASAA, is critical of the Final Rule, as set forth in the following statement also issued on August 26: 

“The Commission’s vote today continues its deregulatory campaign to expand private markets, while showing little regard for the potential adverse effects on investors and the public markets. The SEC should focus on growing and promoting the public markets rather than incentivizing issuers to raise capital in the private markets. Further expansion of private markets comes at the expense of the public markets, which are essential to the health of the economy.” 

“The Commission squandered an opportunity to fulfill its mandate to protect investors by failing to address long overdue changes to the wealth and income standards defining accredited investors. For the past 38 years, the Commission’s failure to index these standards to account for inflation has eroded the investor protections they were designed to provide.  Each year the Commission fails to address these standards only expands the pool of accredited investors, including investors who only meet the wealth standard based on their accumulated retirement savings. The Commission had the opportunity, but once again failed, to protect seniors or other vulnerable investors from the inherent risks associated with the lack of transparency and liquidity that exists in the private securities marketplace.”[6] 

This Final Rule becomes effective 60 days after it is published in the Federal Register.  

Author: Brian St. James

Please follow us on Twitter @CosLawGroup, on LinkedIn at Cosgrove Law Group, LLC, and on Facebook at Cosgrove Law Group, LLC. 

 

 

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[1] SECURITIES AND EXCHANGE COMMISSION 17 CFR PARTS 230 and 240 (“Release Nos. 33-10824; 34-89669; File No. S7-25-19) RIN 3235-AM19 “Amending the “Accredited Investor” Definition.

[2] Id.

[3] Previously with respect to a natural person, s/he had to have (1) individual net worth, or joint net worth with that person’s spouse, at the time of purchase that exceeded $1 million, or (2) income or joint income with that person’s spouse that exceeds $200,000 or $300,000, respectively, in each of the two most recent years, and who has a reasonable expectation of reaching that same income level in the current year.

[4] Trustees and advisory board members, or persons serving in a similar capacity, of a Section 3(c)(1) or 3(c)(7) fund or an affiliated person of the fund that oversees the fund’s investments, as well as employees of the private fund or the affiliated person of the fund (other than employees performing solely clerical, secretarial, or administrative functions) who in connection with the employees’ regular functions or duties, have participated in the investment activities of such private fund for at least 12 months.

[5] The definition encompasses a “family office” as defined in the “family office rule” [17 CFR § 275.202(a)(11)(G)-1] that meets the following additional requirements: (i) it has at least $5 million in assets under management, (ii) it is not formed for the specific purpose of acquiring the securities offered, and (iii) its prospective investment is directed by a person who has such knowledge and experience in financial and busines matters that such family office is capable of evaluating the merits and risks of the prospective investment.  “Family clients” (as defined in the family office rule) of a family office must meet the requirements stated in (i), (ii), and (iii) above, whose prospective investment in the issuer is directed by the family office. 

[6] https://www.nasaa.org/55611/nasaa-statement-on-the-secs-amendment-of-accredited-investor-definition/