The Alberta Court of Appeal recently revisited the issue of broker negligence and investor contributory negligence in S. Maclise Enterprises Inc. v. Union Securities Ltd., which was decided on December 18, 2009. The plaintiff, S. Maclise Enterprises, had appealed against a finding of the Alberta Court of Queen's Bench that it was contributorily negligent for losses suffered after investing in Cenpro Technologies Inc ("Cenpro"), and the defendants, brokers Terry Ferguson and Tom Hochhausen, and their employer Union Securities Ltd., cross-appealed against the finding that they were negligent.
The source of the dispute was the loss of $200,000 invested by S. Maclise Enterprises in Cenpro Technologies, which subsequently declared bankruptcy. S. Maclise Enterprises was an investment company used by Sharon Maclise. She was the sole shareholder and director. Ms. Maclise was an accomplished businesswoman, who at one time owned her own RE/MAX franchise, and later administered her own real estate portfolio. The Court of Appeal accepted that when Ms. Maclise consulted her broker, she was looking for a "high risk investment where she could double her money quickly". Her broker, Mr. Ferguson, and his supervisor, Mr. Hochhausen introduced her to the CEO of Cenpro. The CEO gave a presentation at the offices of Union Securities, in which he outlined Cenpro's strengths and also mentioned that the company was subject to a cease trade order issued by the Alberta Securities Commission. Although her interest was piqued by the presentation, Ms. Maclise performed a significant amount of due diligence, including speaking to employees and directors of Cenpro, prior to investing.
Despite being subject to a cease trade order, the nature and effect of which was found to be unclear to both Mr. Ferguson and Mr. Hochhausen, Ms. Maclise purchased shares in Cenpro. Mr. Stronach, Union Securities' vice president of corporate affairs, however, realized the transaction contravened the cease trade order. He told his brokers to reverse the transaction, refund the commissions, and ensure Ms. Maclise was reimbursed. Although Mr. Stronach received a copy of a cheque written by Cenpro to Ms. Maclise, it was never delivered to her. In the meantime Ms. Maclise became aware of the effect of the cease trade order and worried she had broken the law. In an attempt to remedy her perceived breach, she converted her investment into a loan. The brokers did not provide Ms. Maclise with the cheque, in part, because the brokers knew Cenpro had already spent the money and could not cover the cheque, and also because she had converted her investment to a loan.
The Court of Appeal upheld the findings of the trial judge that the brokers were negligent. The Court found that the brokers had not met the standard of care required of investment advisors. The brokers made negligent misrepresentations, such as understating the amount of Cenpro's debt by half, which induced Ms. Maclise to invest. The brokers also should have known what a cease trade order was and explained its significance to Ms. Maclise.
The Court of Appeal also upheld the finding that Ms. Maclise was partially (33%) responsible for the loss because she negligently performed due diligence. She did not request or review the company's financial statements, although she was entitled to, nor did she request documentation relating to the cease trade order. Further, she did not visit Cenpro's manufacturing plant prior to investing and only spoke to two out of three directors. Taken together these omissions constituted contributory negligence.
The finding at trial that Union Securities was directly liable for the losses suffered by Ms. Maclise based on the fact that Mr. Stronach never confirmed Ms. Maclise received the cheque written by Cenpro, was overturned by the Court of Appeal which found that the vice president fulfilled his duty when he asked the brokers to return the money. He was not obliged to personally verify that Ms. Maclise received the cheque after giving his brokers instructions. It was reasonable to believe that the brokers would carry out his instructions. While the brokers were negligent when they allowed Ms. Maclise to make the investment, there was no indication that they had acted fraudulently. Had there been a finding of fraud or fraudulent behaviour, Union Securities would have had a duty to follow up more concretely.
Stories and tales of rogue brokers continue to fill the headlines. On January 15, 2010, Earl Jones plead guilty to two counts of fraud for a total of $50.3 million dollars. Earl Jones defrauded investors, who were located almost exclusively in Quebec, by using money from his clients' trust accounts for personal use. To date, 158 victims have been identified; little money has been recovered, although forensic accountants continue to look for assets.
Weizhen Tang, the self-proclaimed Chinese Warren Buffett, is accused of defrauding hundreds of investors who were mostly located in Ontario out of over $30 million dollars through a Ponzi scheme. He promised investors a return of 1% a week. He is currently being held without bail and will be tried on 12 counts of violating Ontario securities legislation, beginning in April.
Andrew Lech, another Ontario broker, defrauded Ontario investors out of between $50 and $70 million. He is currently serving a six year jail sentence. His fraudulent activities also spawned a class action lawsuit against various financial services companies, including Mackenzie Financial Corporation, where he held an investment account used to channel the investors' monies. Stein v. Cartier Partners Financial Services Inc., was decided in the Ontario Superior Court in 2009. Mr. Stein, a defrauded investor, brought a class action lawsuit against the Mackenzie Financial Corporation, among other parties, on the ground that they owed him a duty of care. In dismissing this action, the Court held that Mackenzie did not owe Mr. Stein a duty of care, and that Mackenzie was not and could not have been aware of Mr. Lech's fraudulent behaviour.
These class action lawsuits may be the start of a trend. It is anticipated that defrauded investors will begin to look toward brokerage firms as a potential source of compensation. In fact, on February 5, 2010, Earl Jones' victims sought leave to begin a class-action lawsuit in Quebec against the Royal Bank of Canada, alleging that RBC negligently monitored Jones' clients' trust accounts.
Update: New Insider Trading Reporting Regime
The Canadian Securities Administrator has passed regulations which will introduce a new insider trading reporting regime. The new rules, which take effect on April 30, 2010 will simplify and harmonize reporting requirements across Canada. The rules will apply in all provinces except Ontario where the Securities Act takes precedence. Some of the changes to the rules include: reducing the number of individuals who must file insider reports, simplifying the reporting requirements associated with stock-based compensation, and shortening the deadline for reporting from ten days to five.
By Gordon Johnson
MFDA Policy 3
The Mutual Fund Dealers Association ("MFDA") has recently amended its complaint handling policy, Policy 3 (the "Policy"). Under the Policy, Members are now under an explicit duty to assess all complaints. A "complaint" is now deemed to include both written and oral complaints. Where a complaint is made in writing, Members must provide a substantive response in writing. Members should also assist clients in documenting a verbal complaint where it is apparent that such assistance is required. Members must conduct both a factual investigation and an analysis that are reasonable in the circumstances, using a balanced approach. All complaints, must be handled fairly and promptly and within the time period expected of a Member acting diligently in the circumstances. The Policy provides that in most cases this will be within three months, but recognizes that in complex cases the time for a substantive response may need to be extended. If the Member feels a substantive response will take longer, it should inform the complainant in writing and provide an explanation for the delay and an estimate as to when the client can expect a substantive response.
All complaints are subject to the General Complaint Handling Requirements provided for in Section 9 of Part 1 of the Policy. Briefly, Section 9 provides that:
- Complaints must be handled by qualified supervisors/compliance staff at the Member, and senior management must be made aware of all complaints of serious misconduct and all legal actions.
- Members must log and maintain records of complaints, and report them on the Member Events Tracking System ("METS") under MFDA Policy No. 6 as required.
- Members must cooperate and share information as necessary with Members of the MFDA or a member of another SRO where the events in question took place in part at another Member.
- Members and Approved Persons must not impose confidentiality restrictions with respect to regulators or law enforcement agencies as part of the resolution of a complaint.
One of the most significant amendments to the Policy is that it now distinguishes between two categories of complaints: 1) complaints subject to informal resolution which are governed by requirements set out in Part I; and 2) complaints that are more serious in nature and thereby subject to Additional Complaint Handling Requirements prescribed by Part II of the Policy. As a first step, a Member's procedures should provide for a determination of whether the allegation in the complaint is more serious in nature and among the categories enumerated in the Policy to which Part II of the Policy applies.
If Part II does not apply, the complaint may be resolved by informal resolution as described in Section 4 under Part I of the Policy. The substantive response for complaints subject to informal resolution must be reasonable in the circumstances, and the Policy provides guidelines on how to achieve the objective on handling complaints reasonably and fairly.
If Part II applies, the Member must send an initial written response letter which must include the specific requirements provided for in Part II, section 1. The initial written response letter should generally be sent within 5 business days of receipt of the complaint. The Member must then provide a substantive response to the complainant which must meet the detailed requirements of Part II, section 2.
Finally, the Policy provides for certain requirements at the time of account opening. In particular, as of July 1, 2010, Members must now provide new clients with a copy of the updated Client Complaint Information Form ("CCIF") when an account is opened, as well as a written summary of the Member's complaint handling procedures. The updated CCIF is available at http://www.mfda.ca/regulation/forms/ClientComplaint_En.pdf. This information, along with a specific point of contact for complaints, should also be made available on the Member's website.
In addition to requirements regarding complaint handling, the Policy is also expanded to include requirements relating to supervisory investigations, internal discipline and records retention. The full text of the policy can be found on the MFDA website at http://www.mfda.ca.
Edited by David Di Paolo
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.