You Should Exchange Your Briefs

Your pre-mediation briefs, that is.

It is generally agreed among lawyers that some amount of information must be possessed by both disputing parties to a mediation, if the mediation is to result in settlement. (Of course, theories on how much information is necessary, i.e. how much discovery, if any, differ with types of case and frequently from attorney to attorney.) I’ll write more about that in future memos.

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Business Memo: Defending Against Allegations of Unsuitability — Part II: The Period of Limitations

The most frequent allegation brought against broker-dealers and RRs is that of “unsuitability” of recommendations. We discussed avoiding unsuitable recommendations in our July 2003, February 2004 and September 2004 issues. We discussed in our last issue, July 2007, the defenses of ratification, waiver, estoppel and laches. In this issue we will discuss the statute of limitations, or more precisely, the period of limitations.

As now implemented, the cause of action for “unsuitability” in arbitration has become a sort of “malpractice” action against broker-dealers and registered representatives, similar to negligence and recklessness malpractice actions against lawyers and doctors. That development arose out of the recent movement of disputes out of courts and into arbitration over the past, say, thirty years. The roots of the unsuitability” action, even when resolved in arbitration, are actually in the court action of securities fraud. The action was created in state and federal statutes and rules (e.g., Rule 10b-5) and cases beginning early in the last century. And the roots of its period of limitations, not surprisingly, are in that same action of securities fraud.

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Amendments to Rules 144 and 145– A Source of Additional Revenues?

Rules 144 and 145, since 1990 providing a method for sales of restricted and control securities, were amended by the Securities and Exchange Commission (“SEC”) effective February 15, 2008.

Reasons for Expanding Rule 144 Business.

As discussed below, the amendments to Rules 144 and 145, on balance, significantly reduce requirements for sellers and broker-dealers in processing sales of “control” and “restricted” securities in Rule 144 transactions. As amended, the Rule 144 restrictions no longer apply to the sale of debt securities. Prior to amendment, the primary task for the broker-dealer was preparation (for the customer) of Form 144 both in transactions for affiliates and for non-affiliates. After amendment, the requirement to file Form 144 for non-affiliates has been eliminated. Also, prior to amendment, the broker-dealer had to assure that sales, even by non-affiliates, met the limitations (discussed below) on volume of securities sold and manner of sale. As amended, however, those limitations no longer apply to non-affiliate sales. The amendments should make the process of sale of control and restricted securities easier and less fraught with danger for the small broker-dealer processing the transaction.

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Holy Moses, Batman! They’ve Stolen Our Private Placement Exemptions!

The Basic Requirements: Early History

Any sale of a security to a Missouri resident must either be registered with the U.S. Securities and Exchange Commission (“SEC”) and the Missouri Securities Commission, or have at least one specific provable exemption from each of those two requirements.

In 1953, the U.S. Supreme Court ruled that the “private offering” exemption of §4(2) of the Securities Act of 1933 (the “1933 Act”) required that the issuer prove that all “offerees” (not only purchasers) had sufficient investment sophistication and financial well-being (hereinafter “investment suitability”) to establish that they did not “need the protection of registration” under the 1933 Act. SEC v. Ralston Purina, 346 U.S. 119 (1953) But because of the illusory definition of “offerees” as including possibly every person who learned of an offering (not just those receiving an “offer” in the contract sense), the availability and thus the usefulness of the private offering exemption of Section 4(2), was thereafter seriously curtailed.

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Early Stage Financing: Offerings Exempt From Registration Requirements

I. The Requirement for Registration or Exemption

Every offer and sale of a “security” must be registered or the issuing company must bear the burden of proving an exemption from the registration requirement is available under the federal Securities Act of 1933, §5, 15 U.S.C. §77(e), and under the Missouri Securities Act, Mo. Rev. State. §409.3-301. Prima facie case for plaintiff: that he was sold a security in a transaction which was not registered.

II. What is a Security?

A. STATUTORY DEFINITION – §2(1) of the Securities Act of 1933 defines a “security” as: Any note, stock, treasurer stock, bond, debenture, evidence of indebtedness, certificate of interest or participation in any profit-sharing agreement, . . .investment contract, …fractional undivided interest in oil, gas, or other mineral rights, any put, call, straddle, option, or privilege or any security, …or, in general, any interest or instrument, commonly known as a “security”, or any certificate of interest or participation in, temporary or interim certificate for, receipt for, guarantee of, or warrant or right to subscribe to or purchase, any of the foregoing. Missouri definition virtually identical. Mo. Rev. Stat. §409.1-102(28).

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Business Memo: Defending Against Allegations of Unsuitability – Part I

As pointed out in our July, 2003 issue, far and away the most frequent allegation brought against broker-dealers and RRs is alleged “unsuitability” of recommendations by RRs. As also pointed out in that issue, a claimant alleging unsuitability must show that the securities or investment program recommended were (1) unsuitable to the investor’s circumstances; and (2) that the broker-dealer and RR held sufficient “control” over the investor.

In that issue, we discussed what aspects of the RR’s recommendations could be unsuitable. In the next two issues, i.e., February, 2004 and September, 2004, we discussed what constituted “control” and what constituted a “recommendation.” In this issue we will discuss briefly the defenses available to a broker-dealer to a claim of unsuitability.

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New NASD Code of Arbitration for Customer Disputes is Effective

The long-awaited new NASD codes of arbitration became effective April 17, 2007. They are reorganized into three different codes: member-customer disputes, industry disputes and mediation. We will discuss here the code likely to be the most used, i.e. the code for member-customer disputes.

Although the provisions for customer-member disputes were almost totally rewritten in the new rules, there are surprisingly few substantive changes in them. I have, somewhat arbitrarily, broken the more important substantive changes into categories.

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Private Placement Broker-Dealers

Both federal and state securities laws require registration of “every person engaged in the business of effecting transactions in securities . . . . ” And such registration, of course, requires that principals and RRs take initial and continuing examinations, and that firms meet net capital and extensive ongoing record-keeping and reporting requirements. The examinations require an understanding of the public securities markets, evaluation of the nature of publicly-held securities vis-à-vis the suitability of various investors, the structure of mutual funds, annuities, derivatives and other types of investments, and other concerns of full-service B-Ds.

So, you might ask, do these not simply assure that B-Ds and their RR know how to carry out their business and report their financial well-being, thereby protecting the investing public? What is the problem?

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Business Memo: Are You A Fiduciary? Why Do You Care?

A lawn care service company sells products and provides services. Registered representatives (“RRs”) and broker-dealers (“B-Ds”) also provide services and sell products (securities, etc.) to their customers. The question here is whether RRs and B-Ds have a significantly higher duty—a fiduciary duty—to their customers.

Most RRs and BDs would automatically react that they provide much more sophisticated services and products than a lawn care service and therefore treat their customers with a higher level of care. However, when that customer complains about their service, and perhaps brings a claim in arbitration or litigation, well-advised B-Ds and RRs argue that their duty was not that of a fiduciary.  Liability on such a claim frequently turns on whether, and is much more likely if, the arbitrators or court believes that the B-D and RR had a fiduciary duty to the customer.

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Recent Changes to Branch and Small Office Requirements:Getting Out in the Neighborhood

The structure of the regulation of the securities industry continues to change to accommodate changes in customer demand and technological capabilities of the industry. As discussed in detail below, the National Association of Securities Dealers (NASD), the New York Stock Exchange (NYSE) and the North American Securities Administrators Association (NASAA) have proposed, and the Securities and Exchange Commission (SEC) has approved, a new and uniform definition of “branch office” (the “Uniform Definition”) and the transition to a centralized, CRD-based branch office application system, using a new Form BR. The new Form BR will allow member organizations to submit a single filing to simultaneously fulfill the branch office registration/approval requirements of the NASD, the NYSE and most states. And, in a more recent development, the SEC has approved the NYSE’s proposed Interpretation of its Rule 342 (concerning supervision and control of offices) to permit waiver of the otherwise normally required level of supervisory qualifications of resident branch office managers for “limited purposes offices” which have more than three registered representatives (RRs).

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