Author(s): William D. Nelson
Two characteristics of the retail brokerage business are broker mobility and covenants restricting solicitation and confidential information. When these two characteristics intersect, a court injunctive proceeding may result. The fact pattern tends to be typical and certainly not remarkable. A representative joins a firm and signs an agreement containing nonsolicitation and confidentiality restrictions as well as a provision permitting injunctive relief if the restrictions are violated. When the representative sees greener pastures at a competing firm, he or she usually resigns on a Friday and, after the registration transfers, frantically uses the weekend to solicit as many clients as possible before the former firm races to court to obtain a temporary restraining order ("TRO") in anticipation of industry-mandated arbitration.
In mid-2004, Smith Barney, Merrill Lynch and UBS Financial Services joined together and created the "Protocol for Broker Recruiting" ("Protocol"). The stated goal of the Protocol "is to further the clients' interests of privacy and freedom of choice in connection with the movement of their Registered Representatives between firms." Although not expressly stated, an equally important goal was to control legal fees.
When a representative leaves one Protocol firm to join another Protocol firm, there are specific practices that, if followed, preclude the first firm from suing to impose monetary or other liability on the second firm and the representative. Generally, the representative may take account information consisting only of client names, addresses, phone numbers, e-mail addresses and account titles ("Client Information"). The representative must resign in writing to the branch office and leave a copy of the Client Information that the representative is taking with him or her together with account numbers.
To date, there are approximately 300 signatories to the Protocol out of a total of almost 4,900 registered broker-dealers. However, most of the larger wirehouse and independent contractors are signatories. The obvious question is what happens when a representative leaves a Protocol firm to join a non-Protocol firm? Some Protocol firms take the position that the procedures and protections of the Protocol do not apply to nonsignatories and that injunctive relief is still available and appropriate in such situations. However, several federal and state courts have taken a contrary position.
In Merrill Lynch v. Brennan, Case No. 1:07cv475, 2007 WL 632904 (N.D. Ohio, Feb. 23, 2007), the court declined to enter a TRO against a representative who resigned from Merrill Lynch to join Bear Stearns, a nonsignatory to the Protocol. The court found that Merrill Lynch was unable to demonstrate irreparable harm, reasoning that, by signing the Protocol and setting up a procedure for departing brokers to take Client Information, Merrill Lynch "tacitly accepts that such an occurrence does not cause irreparable harm."
In Smith Barney v. Griffin, Case No. 08-0022, 2008 WL 325269 (Mass. Super., Jan. 23, 2008), the court denied Smith Barney's motion for preliminary injunction against Griffin, who joined nonsignatory New York Life. The Griffin court focused on the confidential nature of the information taken. The court reasoned that Smith Barney, by allowing representatives to take the Client Information to other Protocol firms, was effectively stating that this information was not "non-public personal information" under the Gramm-Leach-Bliley Act. As in Brennan, the court also concluded that Smith Barney failed to demonstrate that it had suffered irreparable harm. It held that when Smith Barney permits representatives to take Client Information to Protocol firms, it cannot "credibly contend" that taking the same information to a nonsignatory results in irreparable harm.
Finally, in Merrill Lynch v. Baxter, Case No. 1:09cv45, 2009 WL 960773 (D. Utah, Apr. 8, 2009), the court denied Merrill Lynch's motion for a temporary restraining order against Baxter, who joined Ameriprise, a nonsignatory. Applying the Griffin rationale, the court concluded that Merrill Lynch could not prove it had suffered irreparable harm since it was in no different position than it would have been had Baxter moved to a Protocol firm.
In light of the Brennan, Griffin, and Baxter decisions, are there best practices to be employed when a non-Protocol firm recruits representatives from a Protocol firm? These three cases suggest that voluntarily following the procedures set forth in the Protocol enhances the probability that injunctive relief will not enter against the representative or his or her new firm.
Should a broker-dealer join the Protocol? The answer is probably yes. There is no cost to join the Protocol, and by joining, neither a representative nor his or her new firm will have any monetary or other liability to the former firm if they follow the Protocol procedures.
That said, it is important that the individuals in the firm involved in the recruiting of registered representatives clearly understand the nature and scope of the Protocol (and its limitations) and that this information be made clear to the prospective recruits. The Protocol will not shield a representative or a firm when the representative has been overzealous in taking information that exceeds the five specific categories of the Protocol, such as account statements, broker notes, or individual client files. Particular care must also be taken in situations where the representative shares an account with other representatives or with accounts obtained by the representative through a sunset or other retirement agreement. The Protocol contains specific procedures governing those situations.
Should a registered investment adviser join the Protocol? For the same reasons set forth above, the answer is probably yes. Securities industry statistics indicate that there has been and continues to be a migration of individuals from registered broker-dealers to advisory firms. It is certainly in the best interests of the representative and his or her new advisory firm to protect the privacy of the client while at the same time recognizing the client's freedom to choose the representative and adviser with whom he or she wishes to maintain a business relationship.
Finally, what impact, if any, has the Protocol had on the recruiting and movement of brokers between non-Protocol firms? A TRO or preliminary injunction requires proof of irreparable harm. The Brennan, Griffin, and Baxter decisions tell us generally that the approximately 300 firms that have signed the Protocol, which include most of the largest wirehouse and independent contractor brokerage firms, concede that the taking of the Client Information by a departing representative does not constitute irreparable harm and that the Client Information is not "non-public personal information" under the Gramm- Leach-Bliley Act. In other words, it is not confidential information. If this Client Information is not confidential and the taking of it does not give rise to irreparable harm, why should it be otherwise between non-Protocol firms? The Protocol has arguably become the new industry standard.
William D. Nelson is a partner with RJ&L and provides general representation of securities broker-dealers and state and federal registered investment advisers. He has extensive litigation, arbitration, and mediation experience in securities customer, industry, and employment disputes. Mr. Nelson represents broker-dealers and registered investment advisers in regulatory and administrative proceedings before the Securities and Exchange Commission, Financial Industry Regulatory Authority, and state regulatory agencies. He can be reached at 303-623-9000 or by e-mail at firstname.lastname@example.org.