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Home / News & Publications / What You Need to Know About the Broker Protocol
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What You Need to Know About the Broker Protocol

July 22, 2020

By:  William P. Keith, Esq.

Introduction

The Protocol for Broker Recruiting (the “Protocol”) is a treaty by which numerous financial services firms have agreed to abide.  The agreement allows financial advisors moving from one signatory firm to another to take specific client information with them and solicit to those clients at their new firm.  The Protocol was originally executed in 2004 by three broker-dealer firms, but now has over 1,800 signatories, including a number of SEC Registered Investment Advisers (“RIAs”).

While the Protocol speaks of “Registered Representatives,” its adoption by firms beyond other than broker-dealers presumably expands its reach to a wider class of financial professionals.  Accordingly, this article will refer to these professionals generally as “advisors.”

The Protocol’s virtues include its readable text and simplified procedure.  Yet, it also raises a number of questions, some of them fairly nuanced, which must be answered in each individual firm’s or advisor’s situation.  This article discusses both the basic functioning of the Protocol, as well as some of the considerations of which its participants should be mindful.

When the Protocol Applies

The Protocol’s first paragraph succinctly summarizes its purpose and operation as follows:

The principal goal of the following protocol is to further the clients’ interests of privacy and freedom of choice in connection with the movement of their Registered Representatives (“RRs”) between firms. If departing RRs and their new firm follow this protocol, neither the departing RR nor the firm that he or she joins would have any monetary or other liability to the firm that the RR left by reason of the RR taking the information identified below or the solicitation of the clients serviced by the RR at his or her prior firm, provided, however, that this protocol does not bar or otherwise affect the ability of the prior firm to bring an action against the new firm for “raiding.” The signatories to this protocol agree to implement and adhere to it in good faith.

Protocol, ¶ 1.

The Protocol applies when a financial advisor of a member firm resigns to join another member firm.  The Protocol allows advisors to take with them five pieces of information on the clients that they serviced while at the firm: the (1) client name, (2) address, (3) phone number, (4) email address, and (5) account title (defined as “the Client Information”).  The advisor is specifically prohibited from taking any additional documents or information, such as account numbers, statements, or analytical materials.  Protocol, ¶ 2.

In order to correctly follow the Protocol, the advisor is required to deliver a written resignation to their local branch management, which includes a list of all information the advisor is taking.  If correctly followed, the Protocol limits an advisor’s liability to the firm it left.  Protocol, ¶ 2.

When an Advisor Covered by the Protocol May Begin to Solicit

One of the most important features of the Protocol is that it only permits an advisor to solicit clients after he or she joins the new firm.  Protocol, ¶ 5 (“RRs that comply with this protocol would be free to solicit customers that they serviced while at their former firms, but only after they have joined their new firms.”).  This provision is generally based on the Protocol’s implicit goal of placing the former firm and the advisor on equal footing with respect to soliciting the clients.  See Merrill Lynch, Pierce, Fenner & Smith, Inc. v. Baxter, No. 1:09CV45DAK, 2009 WL 960773, at *6 (D. Utah Apr. 8, 2009).  Based on the ease of communication between advisors and clients, and the temptation to discuss the advisor’s plans prior to departure, this is a requirement that is often violated.

Another critical requirement is that the information the advisor takes may only be used by that advisor to solicit former clients.  The information may not be passed on to others at the new firm. Protocol, ¶ 3.

Effect of Failing to Comply with Protocol Requirements

The Protocol provides that even if the firm does not agree with the advisor’s list of clients, the advisor is still considered to be in compliance as long as the advisor acted in good faith in assembling the list and substantially complied with the requirement that the advisor take only Client Information related to clients he or she serviced at the former firm.  Protocol, ¶ 2.

Whether the advisor has acted in good faith depends greatly on the specific facts.  Naturally, wholesale failure to comply with the Protocol’s requirements will almost certainly lead a court to not applying its protections.  JPMorgan Chase Bank, N.A. v. Wirtanen, No. 15-11929, 2015 WL 3506105, at *5 (E.D. Mich. June 3, 2015) (Protocol held inapplicable when departing advisors did not make showing that they delivered list of clients to former firm).

But courts have gone further, holding on several occasions that an advisor’s bad faith acts in violation of the “spirit” of the Protocol – even if in technical compliance with its text – preclude the advisor from claiming its protections.  For example, courts have denied advisors the protections under the Protocol in cases where the departing advisor corrupted client data in the former firm’s database to make it more difficult for the firm to communicate with clients, or removed client files containing performance data, contracts, and forms.  Morgan Stanley Smith Barney LLC v. O’Brien, No. 3:13-CV-01598 VLB, 2013 WL 5962103, at *4-5 (D. Conn. Nov. 6, 2013); Morgan Stanley v. Choy, No. Civ. 08-000467 (D. Haw. Oct. 29, 2008), ECF No. 23.

On the other hand, evidence of minor gamesmanship or violation of the former firm’s internal policies alone have been held insufficient to rise to the level of bad faith that would strip the advisor of the Protocol’s protections.  UBS Fin. Servs. Inc. v. Fiore, No. 17-CV-993 (VAB), 2017 WL 3167321, *16 (D. Conn. July 24, 2017) (departing advisor’s act of sorting client list by zip code insufficient to amount to bad faith); Credit Suisse Sec. (USA) LLC v. Lee, No. 11 CIV. 08566 RJH, 2011 WL 6153108, at *5 (S.D.N.Y. Dec. 9, 2011) (evidence that the departing advisor sent herself emails to a private email account insufficient to show bad faith when the information transmitted was not prohibited by the Protocol).

Team Agreements

The Protocol has special provisions that address advisors who are members of a team and where the entire team is not moving together to another firm.  Generally, if a team agreement exists, it controls.  However, in no event will the advisor be precluded from soliciting those clients that he or she introduced to the team.  If there is no agreement, then an advisor who has been a member of the team for four or more years may solicit all team clients.  Protocol, ¶¶ 9-10.

 Considerations for Firms and Advisors

There are a number of areas that advisors and firms (both former and new) must examine when handling advisor transitions or deciding, in the case of a firm, whether to join the Protocol.

Compliance with the Protocol’s Limits.  If the former firm is a Protocol member, most issues come down to the advisor limiting their retention of data to the categories allowed under the Protocol.  While perhaps tempting, taking too much information or altering data at the former firm to give the advisor an advantage in competing for the clients can strip the advisor of the Protocol’s protections.

Contracts Still Matter.  Despite the Protocol’s clear aim of simplifying broker transitions, there are often subjects in an advisor’s contract with its firm that the Protocol does not address.  For example, at least one court has held that a firm may pursue a breach of contract claim against departing advisors for failure to follow provisions in their contract that require advance notice of the departure.  HA&W Capital Partners, LLC v. Bhandari, 346 Ga.App. 598, 604, 816 S.E.2d 804, 811 (2018), overruled on other grounds by SRM Group., Inc. v. Travelers Prop. Cas. Co. of Am., No. S19G0473, 2020 WL 1670341 (Ga. Apr. 6, 2020) (reversing grant of summary judgment on breach of contract claim premised on advisors’ failure to follow notice provisions in contract).  In other cases, despite the membership and apparent application of the Protocol, courts have still issued injunctions enforcing specific contractual limitations on an advisor’s ability to solicit certain classes of clients.  Barney v. Burrow, 558 F.Supp.2d 1066, 1084 (E.D. Cal. 2008) (denying broad preliminary injunction, but granting limited preliminary injunction enforcing covenant not to solicit clients who were brought to the firm or serviced by advisors other than the departing advisor).  Due to the sometimes complex interplay between contracts and the Protocol, examination of the advisor-firm contract by all participants is crucial.

Unintended Consequences of Protocol Membership.  A handful of courts have viewed a firm’s membership in the Protocol as reflective of its understanding that advisors routinely switch firms and take client lists with them. These courts have refused to grant injunctions against the departing advisors even in cases where the advisor went to a non-Protocol firm or violated the terms of the Protocol.  Merrill Lynch, Pierce, Fenner & Smith, Inc. v. Baxter, No. 1:09CV45DAK, 2009 WL 960773, at *5 (D. Utah Apr. 8, 2009); UBS Fin. Servs. Inc. v. Fiore, No. 17-CV-993 (VAB), 2017 WL 3167321, *19 (D. Conn. July 24, 2017).  This highlights the reality that Protocol membership can result in practical limitations on a firm’s ability to address advisor departures beyond the Protocol’s text.

Other Laws May Limit the Transfer of Client Data.  It is also dangerous to assume that the Protocol works in a vacuum, or that the former firm is the only party who might complain about the handling of accounts during a transition.  Other laws, most notably Regulation S-P (17 C.F.R. 248) and the California Financial Information Privacy Act (Cal. Financial Code § 4050 et seq.), can have a profound effect on an advisor’s ability to take client data and share it with others, and their violation can lead to involvement of the SEC and other regulators.  This area should be of particular concern to both the new and old firms, as well as the advisor.

Determining Whether the Firms Involved are Members.  Carefully checking the Protocol membership of all firms involved in a transition is an obvious yet sometimes overlooked step.  Due to the number of firms that move in and out of Protocol membership, the firm that was a member at the start of a planned transition may no longer be one on the date of departure.  A less obvious issue is that there may be more than two firms involved.  An advisor that is “dual registered” with an RIA and a broker-dealer may find that one but not both of the firms are Protocol members, a scenario that will likely complicate matters and require closer examination of whose data is really being taken.

Conclusion

The Protocol represents the securities industry’s effort to minimize the disruptive effects of advisor transitions and the disputes that often ensue.  While set out in straightforward terms, the Protocol is often more difficult to implement and comply with in the real world than it might seem on paper.  As such, both firms and advisors will be well-served by thoughtfully analyzing broker transitions that involve a Protocol signatories.

William P. Keith, Esq. is a shareholder at Duckor Spradling Metzger & Wynne, A Law Corporation.  His practice focuses on business and securities litigation, as well as employment litigation.

No Legal Advice; No Attorney-Client Relationship.  The information presented in this article is for informational purposes only and does not constitute legal advice, and is not intended to create, and your receipt and/or use of such content does not create, a lawyer-client relationship. You should not rely on any such content without first consulting a licensed attorney familiar with your particular facts and legal issues.

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