Defining 'Customer': A Survey of Who Can Demand FINRA Arbitration

Author:Jason W. Burge - Lara K. Richards
Position:Associate, Fishman Haygood Phelps Walmsley Willis & Swanson, L.L.P. - Associate, Fishman Haygood Phelps Walmsley Willis & Swanson, L.L.P.
Pages:173-211
 
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Defining “Customer”: A Survey of Who Can Demand
FINRA Arbitration
Jason W. Burge
Lara K. Richards∗∗
INTRODUCTION
Over the past 20 years, courts and legislators have limited the
rights of plaintiffs to assert securities claims in federal courts in
response to complaints about abusive litigation.1 The prosecution of
securities claims has grown more difficult as the Supreme Court has
Copyright 2013, by JASON W. BURGE AND LARA K. RIC HARDS.
Associate, Fishman Haygood Phelps Walmsley Willis & Swanson, L.L.P.
The authors would like to thank Martha Thibaut, Lowell Dyer, Andrew Gerow,
Victoria Bagot, and Kaja Stamnes for their research assistance, as well a s their
helpful comments and edits on earlier drafts o f this Article. Special thanks to
Emmy Gill and the editors of the Louisiana Law Review for both the opportunity
to contribute this Article, as well as for the editors’ skillful edits.
∗∗ Associate, Fishman Haygood Phelps Walmsley Willis & Swanson, L.L.P.
1. See Richard Painter, Responding to a False Alarm: Federal Preemption
of State Securities Fraud Causes of Action, 84 CORNELL L. REV. 1, 32 (1998)
(describing the “battle” over the merits of securities lawsuits where “plaintiffs’
lawyers accuse issuers, underwriters, and accountants of pervasive fraud, and
they, in turn, charge plaintiffs’ lawyers with greed and opportunism”). Critics of
the private right of action under the federal securities laws have contended that
these cases are time-consuming and expensive, only transfer wealth between
shareholders, and are often merely strike suits that do not benefit shareholders.
See Janet Cooper Alexander, Do the Merits Matter? A Study of Settlements in
Securities Class Actions, 43 STAN. L. REV. 497, 546 (1991) (stating that
“[s]ecurities cases are large, complex and expensive to litigate, and take a long
time to resolve” and finding that class actions generally took from 43 to 6 8
months from filing to settlement approval and a single case could cost over $1
million for the plaintiff to litigate (footnote omitted)); Richard A. Booth, The
Future of Securities Litigation, 4 J. BUS. & TECH. L. 129, 143–44 (2009)
(arguing that securities fraud class actions “suffer from circularity” because “(1)
the costs fall on the corporation and thus its stockholders (even though the
company gained nothing from the fraud), (2) settlements account for a very
small percentage of total investor losses, and (3) the settle ment is effectively
paid by investors who held shares at the time of the fraud to investors who
bought during the fraud period” and suggesting that securities class actions
should be brought derivativel y (footnote omitted)); Jill E. Fisch, Class Action
Reform: Lessons from Securities Litigation, 39 ARIZ. L. REV. 533, 533 (1997)
(“One of the most damaging accusations made against class action litigation,
particularly securities litigation, is the claim that it is ‘lawyer-driven litigation.’
In the parlance of, among others, the proponents of the Republican Contract
with America, lawyer-driven litigation is inherently abusive.” (footnotes
omitted)).
174 LOUISIANA LAW REVIEW [Vol. 74
chipped away at the private right of action.2 Similarly, Congress has
passed a series of laws targeted at raising the pleading bar for
plaintiffs in securities actions3 and forcing large securities cases into
federal court.4
While litigating securities claims has become more difficult for
plaintiffs, a rise in the use of pre-dispute arbitration agreements
(PDAAs) has led to a significant growth in securities arbitration
under the auspices of the National Association of Securities Dealers
2. See, e.g., Cent. Bank of Denver, N.A. v. First Interstate Bank of Denver ,
N.A., 511 U.S. 164 (1994) (barring private plaintiffs from asserting claims for
aiding and abetting securities fraud); Dura Pharm., Inc. v. Broudo, 544 U.S. 336,
338 (2005) (raising the pleading standards for loss causation in private securities
actions); Stoneridge Inv. Partners v. Scientific-Atlanta, 552 U.S. 148, 159–60
(2008) (barring private plaintiffs from asserting claims against third-party actors
under a “scheme liability” theory).
3. In 1995, Congress passed the Private Securities Litigation Reform Act
(PSLRA), Pub. L. No. 104-67, 109 Stat. 737. The explicit goal of the PSLRA
was to “protect investors, issuers, and all who are associated with our capital
markets from abusive securities litigation.” H.R. REP. NO. 104-369, at 32 (1995)
(Conf. Rep.), reprinted in 1995 U.S.C.C.A.N. (104 Stat.) 730, 731. See Matthew
O’Brien, Choice of Forum in Securities Class Actions: Confronting “Reform” of
the Securities Act of 1933, 28 REV. LITIG. 845, 858 (2009) (“In particular,
Congress wanted the PSLRA to curtail ‘strike suits’—‘meritless class actions
alleging fraud in the sale of securities . . . .’” (footnote omitted)). Among other
provisions, the PSLRA instituted a mandatory stay of discovery until after the
resolution of an initial motion to dismiss, 15 U.S.C. § 77z-1(b) (2012), and
greatly increased the pleading burden for plaintiffs by requiring a pa rticularized
pleading of misrepresentations and scienter. Id. § 78u-4(b).
4. In 1998, in response to concerns that plaintiffs were avoiding the
PSLRA by filing lawsuits in state court, Congress passed the Securities
Litigation Uniform Standards Act (SLUSA). See H.R. REP. No. 105-803, at 2
(1998) (Conf. Rep.) (“[I]n order to prevent certain State private securities class
action lawsuits alleging fraud from being used to frustrate the objectives of the
Private Securities Litigation Reform Act of 1995, it is appropriate to enact
national standards for securities class action lawsuits involving nationally traded
securities, while preserving the appropriate enforcement powers of State
securities regulators and not changing the current treatment of individual
lawsuits.”). SLUSA prevents securities class actions from proceeding in state
court and prevents parties from asserting class actions alleging violations of
state securities laws. See Segal v. Fifth Third Bank, N.A., 581 F.3d 305, 309
(6th Cir. 2009) (“After PSLRA became law, some claimants responded by
‘avoid[ing] the federal forum altogether,’ bringing ‘class actions under state law,
often in state court’ instead. That apparently was not what Congress had in
mind. In 1998, it sought to close the gap in coverage by enacting SLUSA. T o
‘prevent certain State private securities class action lawsuits alleging fraud from
being used to frustrate the objectives of’ PLSRA, SLUSA expressly prohibits
certain state law class actions. . . .’” (internal citations omitted) (quoting Merrill
Lynch, Pierce, Fenner & Smith Inc. v. Dabit, 547 U.S. 71, 82 (2006)). See
generally William B. Snyder, Jr., The Securities Act of 1933 after SLUSA:
Federal Class Actions Belong in Federal Court, 85 N.C. L. REV. 669, 676–77
(2007).
2013] DEFINING “CUSTOMER” 175
(NASD) and its successor, the Financial Industry Regulatory
Agency (FINRA), the self-regulatory authorities that oversee the
securities industry and its arbitral forum.5 At the same time that
courts were raising the bar for securities litigation, FINRA altered its
own rules to make the forum more attractive to investors.6 Not
surprisingly, in recent years a fair amount of litigation has arisen
around the issue of arbitrability, in which securities industry
members seek to deny plaintiffs access to FINRA’s arbitral forum
and force plaintiffs to bring their claims in court.7
FINRA arbitration is available to any customer of a FINRA
member for any claim that arises out of that member’s business
activities, either based upon a written agreement between the parties
5. See Catherine Moore, The Effect of the Dodd-Frank Act on Arbitration
Agreements: A Proposal for Consumer Choice, 12 PEPP. DISP. RESOL. L. J. 503,
511 (2012) (“[W]hile the investment market has expanded, the number of
arbitration forums has shrunk to one—FINRA. Thus, there are more consumers
signing predispute arbitration agreements and only one forum in which they can
settle their disputes.” (footnote omitted)).
6. Two recent pro-customer changes to FINRA rules include allowing
customers to request an all-public arbitration panel, which does not include a n
industry representative and also limiting motions to dismiss prior to the
arbitration hearing. See Optional All Public Panel Rule FINRA R.
12403(c)(1)(A) (2013), available at http://finra.complinet.com/en/display
/display_main.html?rbid=2403&element_id=4141 (“Rule 12403 . . . provides
for limited strikes on the public and public chairperson lists and unlimited
strikes on the non-public list. In optional all public panel cases, the panel may
consist of three public arbitrators or two public arbitrators and one non-public
arbitrator. Under this option, either party can ensure that the panel will have
three public arbitrators by striking all of the arbitrators on the non-public list.”)
The Optional All Public Panel Rule went into effect on January 31, 2011. See
Optional All Public Panel Rules, FINRA, http://www.finra.org/arbitration
andmediation/arbitration/rules/ruleguidance/noticestoparties/p123997; see also
FINRA R. 12504(a) (2013), available at http://finra.complinet.com/en
/display/display_main.html?rbid=2403&element_id=7377; News Release,
FINRA, SEC Approves FINRA Rule to Drastically Limit Motions to Dis miss in
Arbitration (Jan. 8, 2009), available at http://www.finra.org/Newsroom
/NewsReleases/2009/P117686 (“By narrowing significantly the grounds for
granting dispositive motions before investors present their case, the new rule
will ensure that claimants in arbitration have a full opportunity to argue their
case. Under the new rule, a motion to dismiss before a claimant’s case is
presented can only be granted on three specific grounds, and there are stringent
new sanctions against parties for engaging in abusive case-dismissal
practices.”). FINRA Rule 12405 went into effect on February 23, 2009.
7. See Barbara Black, The Irony of Securities Arbitration Today: Why Do
Brokerage Firms Need Judicial Protection?, 72 U. CIN. L. REV. 415, 416, 419–
31 (2003) (outlining situations in which FINRA members have gone to court to
enjoin arbitration). “Illustrating a classic example of ‘be careful what you wish
for,’ brokerage firms no longer find arbitration entirely to their liking.
Increasingly they turn to the courts to resist arbitration, to interfere with ongoing
arbitration, or to undo the results of arbitration.” Id.

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