FINRA has amended its proposal to reform the expungement process again. I’ve written about this before here and here.  The “straight-in” or “expungement-only” arbitration process can be summarized quickly.  A broker desiring to purge customer dispute information from public records can secure expungement by following an odd process.  The broker first files an arbitration against a current or former employer alleging that the customer who is not a party to the action filed a “false” claim or somehow mistakenly identified a broker who had nothing to do with the matter.  In essence, the arbitration alleges that the non-party customer told lies about the broker.  The broker will then wait until about 30 days before the hearing before sending a vague letter to the customer notifying them of their right to appear at a hearing. (If the amended proposal goes into effect, customers will get notice much earlier in the future.) In my experience, the letters often omit information you’d expect to be included, such as the name of the arbitrator for the case, the time zone for the hearing, or how the customer can dial in to participate.  The process has a lot of problems and statistical evidence indicates that brokers who secure expungements are actually more dangerous to the public than the average broker.

In its letter explaining the additional changes and its response to comments, FINRA recognized that the comments fell into two main veins: (i) incremental suggestions to improve the existing process; and (ii) opposition to continuing to use arbitration to facilitate expungements.  I divided my letter on the amended proposal along this line, breaking down things FINRA could do to improve the existing process while continuing to explain why I believe that arbitration-facilitated expungement is fundamentally broken.  The FINRA response quoted from my letter to categorize the comments:

Some commenters, while expressing general support for the Proposal, expressed their preference for an alternative approach to the current expungement process that would not rely on the FINRA arbitration forum. For example, Edwards 2 stated that “FINRA deserves praise for its attempts to improve the current expungement system and many of the Amended Proposal’s changes would improve the arbitration-facilitated expungement process. The changes it embraced by amending the Proposal will do some real good. Even though the Amended Proposal offers an improvement over the status quo, the changes to the process under consideration do not go far to make arbitration-facilitated expungement acceptable.”

Although making meaningful, changes the second amendment leaves the general framework undisturbed.  FINRA adopted one of my suggestions to allow non-party customers to have access to documents through FINRA’s online portal:

Also in response to comments on the Initial Filing, FINRA amended the Proposal in Partial Amendment No. 1 to require that the Director notify customers of the time, date and place of any prehearing conferences, in addition to the expungement hearing, and clarify that customers are entitled to appear at prehearing conferences. Edwards 2 acknowledged that “these changes will reduce barriers to customer participation,” but stated that “FINRA [should also] allow non-parties to access documents through the DR Portal on equal terms as the parties to an expungement request.” . . .

FINRA agrees that customers who seek to participate in a straight-in request should have access to all documents filed in the arbitration that are relevant to the expungement request. Accordingly, FINRA is proposing in Partial Amendment No. 2 to amend proposed Rule 13805(b)(2) to provide that the Director shall provide the notified customers with access to all documents filed in the arbitration that are relevant to the expungement request. 

This will undoubtedly help non-party customers participate in a more meaningful way.  The language does leave me with a lingering concern about how FINRA will determine which documents are “material” to a non-party customer’s opposition.  Consider one situation I recently dealt with.  We represented a non-party customer in an expungement hearing where the broker sought to expunge about seven different customer’s disputes from the public record in a single stroke.  Although we requested all documents that the broker would use in the hearing, the broker only provide documents from our client’s account.  We were able to review those documents and determine that they were not accurate.  Our client, a septuagenarian widow with only a high school education, had been induced to sign a document stating she had twenty years of experience in trading options.  On cross examination, the broker immediately admitted that the account opening forms were plainly inaccurate and that the hand writing on it also indicated that the brokerage had filled the form out for the client.  If we had been able to see more documents, we might have been able to show that the brokerage routinely induced people to sign forms with false information that brokerage employees put on the forms.  Without access to all the documents and a meaningful opportunity to review them, it’s hard for us to know whether they would be material or not.

While these changes are good and improve the process, real problems remain.  As the persons being called liars are not parties to the proceeding, any time where FINRA’s rules specify that a “party” may do something or have access to something, I expect that non-party customers will continue to struggle to receive fair treatment.  

Last year, I blogged about the Boeing decision in the Northern District of Illinois.  In sum, a district court ruled that Boeing’s forum selection bylaw – requiring that all derivative actions be filed in Delaware Chancery – applied even to federal securities claims brought under Section 14(a) of the Exchange Act.  That matters because Delaware Chancery has no jurisdiction to hear Section 14(a) claims; dismissal in favor of the Delaware forum, as a practical matter, was a holding that the forum selection bylaw defeated plaintiffs’ ability to bring derivative Section 14(a) claims at all. Which would seem to be in tension with the anti-waiver provisions of the Exchange Act, which voids “[a]ny condition, stipulation, or provision binding any person acquiring any security to waive compliance with any provision of this title.” 15 U.S.C. § 78cc(a).

The Boeing plaintiffs have appealed to the Seventh Circuit and while we all await the outcome of that case, another court has just reached a similar result – this time, a magistrate decision in Lee v. Fisher, N.D. Cal., No. 3:20-cv-06163.  Section 14(a) claims were brought derivatively against The Gap and, just as in Boeing, the court dismissed the claims due to a forum selection bylaw designating Delaware Chancery as the forum for all derivative actions.

If you’ve been following this issue, you can guess what follows.  First, the court assumed that a forum selection bylaw is enforceable as a contract in the first place, offering no analysis beyond a footnote that “the Delaware Supreme Court recently ruled that forum-selection clauses governing shareholder claims are valid and enforceable under Delaware’s General Corporation Law.” But Delaware law applies as a matter of corporate law and the internal affairs doctrine; the court made no attempt to determine whether Delaware law should apply as a matter of contract law when we’re outside the internal affairs doctrine.

Assuming the bylaw was a contractual provision, the court relied on Yei A. Sun v. Advanced China Healthcare, Inc., 901 F.3d 1081 (9th Cir. 2018) to hold that contractual forum selection provisions defeat anti-waiver provisions in the substantive governing law.  Here is the court’s reasoning:

The Ninth Circuit has made clear that the strong federal policy in favor of enforcing forum-selection clauses supersedes the anti-waiver provisions in state and federal statutes… Because the anti-waiver provision standing alone does not supersede the forum-selection clause, “in order to prove that enforcement of such a clause would contravene a strong public policy of the forum in which suit is brought, . . . [P]laintiff must point to a statute or judicial decision that clearly states such a strong public policy.” …. Plaintiff does not point to any statute or judicial decision that clearly states that enforcing the forum selection clause would contravene a strong public policy. 

(quoting Yei A. Sun, 901 F.3d at 1090).

In other words, the forum selection bylaw would be enforced because the plaintiff was unable to find evidence of a federal policy against enforcing it, other than the explicit anti-waiver provision in the Exchange Act itself.  As the court put it:

[T]he Ninth Circuit has made clear that existence of an anti-waiver clause in a statute that the plaintiff intends to prosecute is insufficient to demonstrate the required strong public policy for purposes of overcoming a forum selection clause. Yei A. Sun, 901 F.3d at 1090 (“Because an antiwaiver provision by itself does not supersede a forum-selection clause, in order to prove that enforcement of such a clause would contravene a strong public policy of the forum in which suit is brought, . . . the plaintiff must point to a statute or judicial decision that clearly states such a strong public policy.”)

I’ve got to say, the logic – which originates in Yei A. Sun – baffles me.  As I understand it, the federal policy in favor of forum selection clauses is so great that even if the statute says ‘’you may not waive this claim,” waivers that occur via the operation of a forum selection clause will still be respected unless there’s an additional statute or judicial decision that says “no, seriously, we weren’t kidding about the anti-waiver thing.”  Why should the additional affirmation on top of the explicit anti-waiver provision be necessary?  And if we’re talking about a federal rather than state anti-waiver provision (the original Yei A. Sun case dealt with a state law anti-waiver provision), aren’t the federal courts – in this case, the very federal court in which the plaintiff brought her claims – equipped to make a substantive determination as to what federal policy requires, which is evidenced by the anti-waiver provision in the federal statute?  Why is it necessary for another court to do that first before the anti-waiver provision can be enforced, and which court should it be, if every federal court is waiting for another one to be the first mover?  It’s one thing if you’re interpreting a state law rule so you need a state court to make clear how the state interprets its own policy, but if it’s a federal cause of action, isn’t a federal court competent to make a determination on its own? 

Plus, all of this reasoning – about forum selection provisions trumping anti-waiver provisions – descends from the Lloyd’s of London cases, which I discussed in my prior post. You can go back and read that one if you’re interested, but my argument is they arose in a very different context and are quite distinguishable.

Anyway, yes, I do feel a bit like Don Quixote at this point – or perhaps the analogy should be more along the lines of Sisyphus – but I’m left kind of dumbstruck as I watch federal courts slowly develop a new rule that you can contractually waive securities law claims – despite literal decades of precedent holding that you can’t – if you’re clever enough to designate the waiver as a forum selection clause.  Even arbitration law doesn’t go that far, and there actually is a federal statute that has been interpreted to represent a federal policy in favor of arbitration, unlike this “policy” in favor of forum selection which is entirely based on federal common law.

Finally, I just have to reiterate my concern about Delaware eating the world.  Delaware decides how charters get amended, how bylaws get amended, what counts as an interested-party transaction, and how it will or will not be cleansed, whether it gets business judgment review or entire fairness or enhanced scrutiny, which means, so long as this line of cases continues, Delaware will be deciding critical questions regarding the validity of these bylaws and thus how federal securities law is administered.  And since part of the federal courts’ reasoning is that it’s okay if shareholders waive federal claims so long as Delaware provides some similar state law remedy, they’re functionally delegating to Delaware the power to delineate the substantive contours of what federal securities law requires.  I previously blogged about Omari Simmons’s article arguing that Delaware functions as a de facto federal agency, but this is a whole ’nother ballgame.

FINRA recently released a new regulatory notice seeking comments on how to support diversity and inclusion efforts in the brokerage industry.  The notice asks for commenters to identify any FINRA rules or regulations which might be having a disparate impact on certain groups within the industry.

My sense is that the diversity and inclusion struggles industry firms face may be driven more by firm and industry culture than particular FINRA rules.  Susan Antilla wrote about the challenges women face in the industry.  Brokers of color have also faced real challenges. As Forbes covered, the numbers in asset management are particularly stark:

But in one industry, diversity numbers seem like they’re straight out of the 19th century: Firms owned by white men manage a stunning 98.7% of the $69 trillion managed by the U.S. asset management industry. That’s according to a 2019 Knight Foundation analysis, and includes hedge funds, mutual funds, real estate funds, and private equity funds. 

The FINRA notice also seems consistent with the SEC initiative on ESG reporting.