Defending a FINRA Enforcement action is not easy. This stems principally from the fact that FINRA simply won’t file a complaint in the first place if they believe that there’s any realistic chance they will not win the case. Thus, they expect to win every time they do file a complaint, and perhaps not unreasonably so.
But, that difficulty is exacerbated by the near impossibility of getting a pre-hearing procedural motion granted, assuming Enforcement elects to fight it. On seemingly any topic. I had two such motions denied this past week, so my frustration level is rather high right now, and I’m going to use this blog to get this off my chest.
The first situation involved our effort to require FINRA to produce statements from people it will be calling as witnesses at the upcoming evidentiary hearing. This is a pretty standard concept, not at all unique to FINRA Enforcement proceedings. There are a few rules that pertain to this scenario. First, Rule 9251(b)(3) requires FINRA to produce in discovery any document that contains “material exculpatory evidence.” According to FINRA, that means “evidence relating to liability or sanctions that might be considered favorable to the respondent’s case, which, if suppressed, would deprive the respondent of a fair hearing.” A great idea, and hardly groundbreaking, but, in reality, at least generally speaking, you have no choice but to take FINRA at its word when it says it has no exculpatory evidence to produce.
Second, Rule 9253(a)(1) allows a respondent to request that FINRA produce “any statement of any person called or to be called as a witness by” FINRA “that pertains, or is expected to pertain, to his or her direct testimony and which is ‘a stenographic, mechanical, electrical, or other recording, or a transcription thereof, which is a substantially verbatim recital of an oral statement made by said witness and recorded contemporaneously with the making of such oral statement.’” In other words, if FINRA obtains an oral statement from someone and makes a “substantially verbatim” record of that statement at the time it is given, FINRA needs to produce it.
Third – and this is the one that my motion involved – Rule 9253(a)(2) permits me to request “any contemporaneously written statement made by an Interested FINRA Staff member during a routine examination or inspection about the substance of oral statements made by a non-FINRA person when (a) either the Interested FINRA Staff member or non-FINRA person is called as a witness by the Department of Enforcement or the Department of Market Regulation, and (b) that portion of the statement for which production is sought directly relates to the Interested FINRA Staff member’s testimony or the testimony of the non-FINRA witness.” In other words, if a FINRA examiner interviews someone and takes notes of that interview, and either the examiner or the witness is going to testify at the hearing about the same subject as the interview, the examiner’s notes must be produced.
We requested any 9253(a) statements, but the dispute narrowed down to 9253(a)(2) statements. We know for a fact that FINRA interviewed customers of my client, because the customers told us so. But, when we asked for copies of their statements, Enforcement declined, making the rather facile argument that the interviews did not take place “during [the] routine exam.” Enforcement contended that the routine exam ended when Member Reg sent the Exam disposition letter, which happened months before the complaint was filed. Thus, any witness statements they obtained after that could not be compelled. We figured the timing was irrelevant, right? Well, naturally, the Hearing Officer bought Enforcement’s argument.
I am hard-pressed to understand the difference between statements obtained during the routine exam and those made after the exam, and how one needs to be produced but not the other. The point of the rule is to provide a modicum of fairness to respondents, so they can assess the quality and credibility of witnesses FINRA introduces by comparing the testimony they provide at the hearing with what they told the examiner earlier. Nothing in that concept changes in the slightest if the pertinent time period is extended beyond the formal close of the routine exam. Yet, in an absolutely predictable showing of form over substance, the Hearing Officer hung his hat on a literal reading of the rule. I wrote the other day that FINRA is overly rigid in its approach to regulation. This is just one example, but one that plays out every single day.
The other order I got denied a motion I filed to sever two respondents out of a case involving multiple respondents. I am dealing with an eight-count complaint that FINRA says will take two weeks to try. The two respondents at issue are named in only two of those eight counts, which means that they will largely have to sit there for two weeks, doing nothing, while FINRA puts on its case against the other respondents regarding the other six counts in the complaint.
You can guess the outcome. Here’s my favorite part of the Order denying my motion: the pertinent rule recites that one thing you have to demonstrate to get a severance is “whether any unfair prejudice would be suffered by one or more Parties if the severance is (not) ordered.” Notice that the rule only says “one or more Parties,” not all the parties, so, therefore, this includes the party or parties seeking severance. Strangely, the Hearing Officer concluded that I did not satisfy that element, even though he appeared to concede that the two respondents on whose behalf I filed the motion would be prejudiced by having to sit there idly so long. In support of his decision, he cited an SEC case that included this quote: “While severance might conserve Respondent’s own resources, it would necessitate inconvenience and costs for other parties, the Hearing Panel, and witnesses.”
In other words, while I met the strict requirements of the rule by showing my two clients would, indeed, suffer prejudice, that was apparently less important than the “inconvenience and costs” for Enforcement and the hearing panel. This FINRA-centric analysis is startling in its one-sidedness. But, sadly, maybe not surprising. I am sure that FINRA with readily agree with the old Mel Brooks joke: tragedy is when I cut my finger; comedy is when you fall into an open sewer and die.
This is not to say one should never fight FINRA. Many of my clients choose not to settle, prefering to duke it out in front of a hearing panel. As my friend and former colleague Brian Rubin regularly reports in his helpful statistical analyses, respondents often do better, in terms of sanctions, by going to hearing, rather than settling. But, if go that direction, you have to acknowledge that you are playing on FINRA’s field, with FINRA’s ball, under FINRA’s rules.