What You Need to Know
- An increasing number of RIA firms have sued former advisors for allegedly breaking the terms of their contracts.
- Too many advisors and brokers don’t read the terms of the contracts they sign when they join a firm.
- One other big mistake: Not having a lawyer review the contract before signing it.
After Hightower sued a breakaway advisor in December on accusations he broke an agreement protecting client information, advisors and other industry leaders criticized the firm for using what they deemed a wirehouse tactic. But in recent years, an increasing number of RIA firms have filed similar suits, legal experts told ThinkAdvisor.
Across channels, too many advisors and brokers don’t read the terms of the contracts they sign or even know what the exact terms are when they join a firm, they said.
One big mistake is that advisors “almost never” have a lawyer review a contract from a financial services firm before signing it, according to Brian Hamburger, CEO and president of MarketCounsel and chief counsel of the Hamburger Law Firm.
Not Just for Wirehouses Anymore
It used to be the wirehouses that were responsible for most cases in which financial services firms sued brokers who left and attempted to take clients with them, Hamburger told ThinkAdvisor.
“But, as market share has shifted, I think we are seeing a commensurate number of cases within the independent side of the securities industry, and that makes sense,” he said.
Meanwhile, the specific terms of each financial services firm contract with an advisor or broker vary significantly, Hamburger said, adding there are always some restrictions placed on advisors. “Yet, way too often, advisors just sign what’s placed in front of them” and aren’t reviewing the business terms before accepting a job, he said.
The Hightower Case
Advisor/broker Michael Policar “stole Hightower’s confidential and proprietary information, trade secrets, and solicited Hightower clients for the benefit of his newly created competing company,” NGP Financial Planning, Hightower alleged in a recent complaint filed in U.S. District Court for the Northern District of Illinois.
As part of an agreement he signed with Hightower, Policar “promised to safeguard confidential information and take precautions to prevent the disclosure and improper use of confidential information,” the complaint said.
However, “Policar failed to safeguard Hightower’s confidential information; Policar violated Section 3(c) of the agreement when he used such confidential information for improper purposes and to his advantage, thereby harming Hightower,” according to the complaint.
The agreement restricted Policar from contacting Hightower clients for 12 months following his termination, according to the complaint, which said he contacted Hightower clients exclusively by phone “in order to avoid leaving a paper trail of his wrongful behavior.”
Policar denied that he breached his agreement with Hightower.
This type of legal dispute is “extremely prevalent in the industry,” according to Max Schatzow, partner at RIA Lawyers.
“Most employers in this industry still try and protect their business and their clients through restrictive covenants and when employees violate those restrictive covenants, we oftentimes see litigation,” he told ThinkAdvisor.
If Policar was located in California instead of Illinois, “there is likely no case,” said Schatzow, noting California “doesn’t recognize agreements not to solicit clients and it is unlikely that Hightower brings the case based solely on the misappropriation of trade secrets (although I have seen these types of cases brought in desperation).”
“Typically, we see either 1- or 2-year restrictions against competition and contacting and soliciting former clients,” according to Schatzow.
But he pointed out: “Every business is different and there really isn’t any industry standard. Large firms and small firms alike take steps to protect their businesses. For firms that believe in using restrictive covenants to protect their business, they need to look to state law to see what the law permits.”
Although Hightower critics argued that such restrictive contracts should be abolished, Schatzow said it was more complicated.