Courtroom Developments

On October 13, 2009, Justice Scott Brooker of the Court of Queen’s Bench of Alberta released his written reasons for decision in the case of Soost v. Merrill Lynch Canada Inc. It is a wrongful dismissal case in which the dismissed broker succeeded in establishing a claim against his former employer and was awarded $2.2 million. The decision contains some commentary that is of interest to the industry in the areas of both liability and damages.

Mr. Soost was a star broker who had been offered a substantial bonus to move from RBC Dominion Securities to Midland Walwyn at about the time Merrill Lynch was buying Midland. Needless to say, his contract along with the CPH and the firm’s policy manuals required him to be aware of and comply with all regulatory requirements.

In May, 2001, his employer decided to terminate his employment for cause. Mr. Soost’s clients were advised by letter that he was no longer with Merrill Lynch and that a new advisor had been assigned to them. Mr. Soost relocated to a new firm shortly afterward but only about 10% of the clients followed him, and he left the industry shortly afterward.

The cause alleged against Mr. Soost was that (a) he did not, as firm policy required, obtain approval for assorted private placement activities in which he was engaged; (b) once that was drawn to his attention, he did not make full disclosure of all his private placement activities despite several requests; (c) he did not make appropriate disclosure of his outside interests on his EARS form, even when asked directly; (d) he solicited clients to make purchases of a particular biotech stock after being directed by the employer not to; (e) he did not follow margin rules in his own accounts; (f) he did not appropriately supervise unlicensed staff working under his direction; (g) he supposedly engaged in an instance of discretionary trading.

Liability

In Canada, it is usually quite difficult for an employer to establish just cause against an employee, short of dishonesty or other highly egregious behaviour. It is especially difficult for employers to rely upon mere “performance” issues for cause, particularly if clear, direct warnings have not been previously issued.

The conundrum for the brokerage industry is that the consequences of regulatory non compliance by its employees can be extremely harmful to the brokerage. If employees misconduct themselves, the firm risks loss of clients, diminished reputation, civil lawsuits from investors and regulatory sanctions. Accordingly, a brokerage should be able to present a reasonable argument that broker conduct and compliance is of critical importance to the firm and that non compliance with rules and policies is therefore a strong ground for termination for cause. In Mr. Soost’s case, his employer argued that the alleged non compliance, taken in totality, was a serious matter justifying termination.

Justice Brooker analyzed each of the alleged grounds for cause and rejected them all. On the issue of Mr. Soost’s alleged failure to get approval for private placements, he found that “whatever the policies regarding private placements, they were honoured in the breach”. (Remember, this was in 2001.) This underscores that if a brokerage is going to rely on non compliance with a policy to sanction or terminate employees, it must treat the policy seriously and apply it consistently, not sporadically.

Similarly, Mr. Soost’s failure to fully disclose his outside interests on his Employee Activity Review System Form in the part that asked if he had outside business interests or investments was not grounds for cause because, among other reasons, not everyone completed the forms.

With each of the other allegations, the Court similarly concluded that either the transgressions did not actually occur or were not significant enough to justify summary dismissal. The Court noted that terminating an investment advisor for cause is a serious matter that can have the effect of “mortally wounding” the broker’s ability to make a living. Justice Booker was plainly of the view that the employer should have allowed Mr. Soost to resign of his own accord or leave on a reduced notice period rather than being summarily dismissed and told to leave with no notice.

Damages

Justice Brooker awarded Mr. Soost $2,200,000.00. It is standard in wrongful dismissal cases for the Court to assess a period of reasonable notice, and then award lost income over that period. Justice Brooker found that a reasonable notice period based on Mr. Soost’s age, length of employment and other circumstances was 12 months, and he awarded $600,000.00 as Mr. Soost’s likely loss of salary and commission income for that period.

In addition to that, though, he awarded an additional $1,600,000.00 to compensate Mr. Soost for damages he suffered as a result of the means of firing and the effect it had on his reputation, goodwill and book of business. He concluded that Mr. Soost would be “woefully under compensated for his true loss” if he received only his lost income over the period of reasonable notice. Even though some case law has supported the notion that the book of business is largely the property of the employer, the judge examined the realities of the relationship and concluded that the sudden dismissal affected Mr. Soost’s ability to move elsewhere and be followed by the clients. He said that the employer’s actions in purporting to dismiss Mr. Soost for cause were “unfair and insensitive” and that this element therefore obliged the employer to fully compensate Mr. Soost for his “true loss”, not just lost income over the 12 month period of reasonable notice. He found that the circumstances of the termination – a sudden departure without concurrent notification that the broker had relocated to another house – were bound to raise innuendo, suspicion and distrust which, in turn, would leave the clients suspicious or concerned. As noted above, Mr. Soost moved to a new brokerage shortly after leaving, but was followed by only 10% of the clients. The evidence was apparently that 70-80% of clients would normally be expected to follow the advisor to a new firm.

OSC Decision of Interest

In Re: Kasman, the Ontario Securities Commission heard an appeal by IIROC (formerly, IDA) of a decision of an IDA panel involving two broker employees of Desjardins Securities Inc. The panel found the brokers guilty of unbecoming conduct in facilitating certain manipulative or deceptive trading conducted by three clients in American Motorcycle Corp. stock. The panel concluded that the brokers had failed to make appropriate inquiries into the circumstances of the trading, and failed to properly assess or monitor the clients’ trades. At the hearing, IDA staff argued that one of three things happened:

  1. The brokers knew that the clients were engaged in manipulative trading, but did not care;
  2. If they didn’t know, they were at least grossly negligent;
  3. At the very least, they were sufficiently negligent to constitute conduct unbecoming.

The panel concluded that the brokers had not been wilfully blind to the clients’ trading practices, but rather were unthinking and unaware about the significance of the questionable trades. It said, however, that their conduct fell “far below” the required standard in failing to make inquiries and discern the purpose of the trading.

The panel imposed suspensions of only two months although the IDA staff sought much stiffer suspensions of two to five years. The panel relied on evidence from the brokers’ new employer that longer suspensions would be ruinous to the brokers and could cause undue hardship to the brokerage as well. (In addition, the fines and costs ordered by the panel were about half of what Staff had sought.)

On appeal, the OSC upheld the panel’s decision. It concluded that the panel did not err in determining that the brokers’ ability to pay was a relevant consideration, that IDA costs should be awarded on a conservative basis and that the panel did not otherwise err in its seemingly light treatment of the brokers. The main factors were that the brokers did not act dishonestly; were remorseful; the amounts involved were low; the commissions were only $14,000; no prior record; and it was an isolated incident.

The most significant aspect of the sanctions, as is usually the case, was not the fines and costs but rather was the length of the suspensions. There is obviously a major difference between two months and two to five years. As it turned out, the brokers obviously gambled correctly in deciding not to settle before the hearing. The fact that their misconduct occurred over a relatively short period of time, did not result in outside complaints, was an exception to their otherwise clean records and was an isolated incident obviously motivated the panel (and the OSC) to impose far lighter sanctions than those requested by IDA staff. Nonetheless, the case is a good reminder that brokers will suffer consequences if they fail to be good gatekeepers and are not sufficiently alert to questionable trading practices by clients.