Arbitration versus Litigation: Factors to Consider

 ARBITRATION v. LITIGATION: Pros & Cons
How do they compare?   What factors might you consider if you have a choice whether to go to U.S. state or federal court or pursue arbitration? 

	Litigation	Arbitration
Cost	High.  Litigation is the most expensive dispute resolution process as a result of extensive pre-trial discovery, motion practice, and formal process.	Moderate.  Arbitration is generally less expensive than litigation, although unlike litigation, the arbitrator’s fees are paid by the parties (Judges are paid by taxpayers).
Discovery	Expansive. Ability to uncover vast amounts of information.	Limited.  Most arbitration rules favor limited discovery, so opportunities for depositions and subpoenas to third-parties are limited.
Dispositive Motions	Allowed.  Courts often dismiss claims prior to trial.	Limited.  Many arbitration rules limit or disfavor dispositive motions.
Speed	Slow.  Timing of resolution based on court’s schedule, cases may be set for hearing on short notice.	Faster.  Arbitration is usually faster, and a date certain for hearing is standard; greater  scheduling flexibility.
Predictability	Unpredictable.  Juries can be unpredictable.   The parties cannot select the judge and have limited ability to select the jury.	More predictable. Arbitrator is agreed upon by both parties and can be an expert in the subject matter.
Appeal Rights	Yes.  Full rights of appeal. Decisions by judges are explained.	Very limited.  Arbitration awards are subject to appeal only on very narrow grounds.  Decisions may not be explained, making it even more difficult to appeal.
Evidence	Formal.  Rules of evidence apply.	Informal.  Rules of evidence do not apply.  Evidence can be introduced in arbitration that would be prohibited by a court.
Privacy	Public.  The Courts are public; information obtained through litigation is often public too.	Private.  Information disclosed and outcome can be confidential if agreed upon by both parties.
Forum Selection	Limited.  Limited by the events giving rise to the dispute and where the parties are located.	Flexible.  Parties can select where to hold the arbitration regardless of where they live or where the events giving rise to the action took place.

Largest One-Time Settlement in Maine History Involving Alleged Unfair Credit Rating Practices

The Maine Attorney General announced earlier this week that its $21.5 million share of the multi-state settlement with Standard & Poor's over credit rating practices is the "largest ever one-time settlement in Maine history."  The settlement received substantial press attention nationwide following Attorney General Eric Holder's press conference and in Maine following the Attorney General Janet Mills' February 4 press conference at the Kennebec County Courthouse.

According to the Maine Attorney General's press release, "Attorney General Mills said her office has aggressively litigated and negotiated the case for two years. Initially S&P removed the case from Kennebec County to federal court in Maine. The case was then consolidated with cases in other states and transferred to the United States District Court for the Southern District of New York. The Attorneys General then litigated the case in New York for eight months until the federal court remanded Maine’s lawsuit back to Kennebec County, where S&P then tried unsuccessfully to have the case dismissed on jurisdictional grounds."

Attorney General Mills singled out Assistant Attorney General Linda Conti, head of the Consumer Protection Division, for praise.  AAG Conti "traveled to New York City a number of times and . . . spent hundreds of hours litigating the case in state and federal courts on behalf of the State of Maine."

Crowdfunding -- Less Useful and More Risky?

It's great that Maine and about fifteen other States are making it easier for startups to raise money by authorizing crowdfunding -- a money-raising strategy that may be a way of assisting small businesses and start-ups looking for investment capital to get their ventures off the ground. 

Crowdfunding is an option for some entrepreneurs .  But there are plenty of ifs, ands, and buts that go along with crowdfunding.  What about complying with federal law?  Required.  Complying with the law of any other state in which investors reside?  Required.  Substantial legal oversight and advice and financial reporting capabilities?  Required. 

What about investors?  Investors should be extremely cautious about crowdfunding.  The companies involved may be new and inexperienced, information about the investment may be limited, regulatory oversight may be limited, the investments may not be liquid (it may be impossible or very difficult to cash-out), and the risk of loosing money may be off the charts.

Information from the Maine Office of Securities can be found here.

As reported in recent press, entrepreneurs can now lawfully raise capital by crowdfunding in several states.  But the utility of this tool for most entrepreneurs is limited and, as is the case with many other forms of private offerings,  the risk to investors can be substantial.

Less Secrecy, More Transparency in Securities Arbitration!

Every now and then federal regulators exercise their authority to oversee securities arbitration practices and procedures, but does the public have access to reports, examinations, and other documents related to that oversight?  No. 


The federal court of appeals in the District of Columbia determined that four examinations by federal regulators (the Securities and Exchange Commission) and other records concerning securities arbitration are secret.  In an opinion issued in November of law year, Public Investors Arbitration Bar Association v. Securities & Exchange Commission, 771 F.3d 1 (D.C.Cir. 2014) the court reached this conclusion even though the records are not core “financial” data that federal secrecy laws originally were meant to protect.

One of the three Judges on the federal court of appeals wrote separately to urge Congress to change federal law to enhance transparency.  Circuit Judge Janice Rogers Brown  wrote, “Congress should revisit this ill-conceived amendment and make sure an apparent miscue does not morph into a serious misadventure.”

She explained, “The financial world has changed since the genesis of our . . . case law. So has the world in which our financial system operates. Financial institutions and their regulators now frequently operate under a haze of public distrust fueled by repeated regulatory failures and massive, opaque, and unaccountable bailouts. The public now has good reason to doubt the rigor of our financial systems’ reliability and oversight.”

“The ramifications of . . . all-encompassing secrecy therefore reach far beyond [investors'] (legitimate) concern for the adequacy and fairness of FINRA’s regime of arbitration. It bodes ill for rebuilding civic trust that [federal law] could be employed to permanently shroud both the possible reckless conduct by regulated financial institutions and the particulars of sweeping agency intrusions into the sphere of the financial marketplace.”

Judge Brown cautioned that secrecy in the interest of “vague principles of regulatory cooperation” between regulated entities and their regulators ought not “inevitably trump the public’s interest in transparency.”


Amen.

Beware of Misleading Financial Advisor Credentials

What is an investor to make of the alphabet soup list of privately run credentialing organizations issuing credentials to financial advisors?  One of the most reputable ones, the Certified Financial Planner (CFP) Board, cautions that "accredited," "chartered," "registered" and similar designations often should be taken with a grain of salt. Investors may use a FINRA tool to look up designations to see what it actually takes to earn the designation.

The CFP Board writes, "A financial advisor hands you his business card with all sorts of letters after his name.  You ask him what they mean, and when you hear the words "Accredited" or "Chartered" or "Registered," you assume you are in the right hands.  After all, don't those terms mean that the advisor is regulated, just like a doctor or attorney."

Actually, no.  Many of these designations are mere marketing tools, with little or no education needed, no disciplinary process to police membership, and no rigorous or enforceable standards of ethics or practice.  The punch line, according to the CFP Board, "LOOK BEYOND THE LETTERS."

The American Association for the Advancement of Retired Persons (AARP) has made much the same point -- drawing on a report to Congress by the Consumer Financial Protection Bureau.  "[S]ome of these designations don't require ... rigorous training or expertise, or even the ethics to put investors' interests first, that they imply . . . ."

The take away, according to the Consumer Financial Protection Bureau is that "[m]ost financial advisers are well trained, reputable professionals. But credentials alone don’t guarantee expertise or the quality of someone’s training."  Even worse some credentials confuse and mislead investors, particularly vulnerable investors who may be more trusting.   And vulnerable investors are "too often targeted by financial services professionals with senior designations who are selling products that may not be appropriate."

Many states have banned the use senior designations that misleadingly imply expertise in senior investor issues, including  Maine, which adopted a regulation Chapter 512 of the Rules issued by the Office of Securities prohibiting such designations.

Investors Should be Wary of "Happiness Letters"

As the Wall Street Journal's Jason Zweig recently cautioned, "If you get a 'happiness letter' from your brokerage firm . . . be worried." 

What is a happiness letter?  A letter from a broker-dealer intended to elicit an acknowledgement from an investor that all is well with account activity and related transactions.  Also called "CYA" letters these letters are a risk-mitigation tactic employed by the industry to inoculate themselves against legal claims by investors.   Of course, they are also an opportunity for investors to take stock of their account positions and raise their hands if things are out of order.  And it is not unreasonable for broker-dealers to want investors to tell them if something is amiss earlier rather than later.

What should you do if you receive such a letter?  The following makes sense for starters:

• Read It:  "If you're one of those people who immediately throws away notices from your brokerage firm, you might want to think twice around this time of year." 
• Review Your Account Statements: "If you receive such a letter, immediately search your account for signs of activity that seems inappropriate or not in keeping with your instructions to your broker."
• Do Not Sign:  "Never sign and return a happiness letter. Nor should you speak to your broker about it. "
• Get More Information. "Call the compliance officer or branch manager who sent the letter and politely insist on seeing the internal data that prompted it. Don’t discuss anything else or answer any questions seeking to establish how satisfied you are with your account’s performance."
• Get a Second Opinion.  "Then bring the happiness letter, your account statements and the internal data (if you can get it) to someone who can give you an objective second opinion: an accountant, a registered investment adviser, a securities attorney, even a trusted family member or friend."

There is nothing in applicable rules or regulations giving such letters legal effect and they in fact do not have any binding legal effect -- and certainly do not absolve broker-dealers of applicable requirements, including suitability.  But investors who ignore such letters and complain later about  will have a bit of explaining to do, just as investors who jump on any disclosures contained in such letters will be in good position to get their account in order and pursue appropriate remedies.

Private Placements: Retail Broker-Dealers Shape Terms of Placements to Sell More of Them

A recent Reuters special report shines light on an "increasingly common" practice among broker-dealers of changing -- and shaping -- the terms of private placements they sell.  The report highlights several points:

• Broker-dealers have an incentive to sell private placements because they generate higher commissions as compared, for example, to even the most expensive mutual funds.  Investors are drawn to private placements because of the promise of higher returns without necessarily appreciating the substantial additional risk involved in private placements.
• Private placements are relatively lightly regulated -- disclosures are often less robust and less comprehensive.
• Brokers are working with issuers of private placements to "change the structure" of the deals to sell more private placements.  This is not illegal and may provide useful feedback to the issuer looking to understand what investors want.  
• A material change in the terms of private placements may impact the risk profile of the investment, such as, for example a change in interest rates or shortening the term of the investment. 

The involvement of brokers in shaping the terms of the investment raises questions about conflicts of interest (who is looking out for whom) and concerns about the independence and objectivity of the broker's due diligence process in vetting the private placement before offering securities to investors.