FINRA Arbitrators Issue $3 Million Dollar Sanctions for Failure to Comply with Discovery Order
Miami, Fla. (July 26, 2019) - A three-person FINRA panel in Miami ordered Morgan Stanley Smith Barney LLC (Morgan Stanley) to pay Puerto Rico bond investors $3 million in sanctions for failure to produce documents related to the termination of a broker. The investors’ Statement of Claim, filed July 2017, alleged Morgan Stanley breached fiduciary duties, negligence, negligent supervision, fraud, breach of contract, and violations of Sections 10(b) of the Exchange Act and 10-b5 of the 1934 Act and related Florida state securities law claims related to the sale of Puerto Rico bond investments.
While the award in compensatory damages was relatively small ($261,420) compared to the claimant’s request at the close of the hearing ($2.739 million plus attorneys’ fees of $515,624 and $10.95 million in punitive damages), the panel appears to have made up for the relatively low compensatory award by issuing sanctions for discovery abuse.
During discovery, Morgan Stanley asserted that documents related to a broker’s termination were privileged. However, the panel disagreed and approved the claimant’s request for the documents. The panel had previously received briefs and arguments on whether the respondents should be subject to discovery sanctions. That motion was renewed during the evidentiary hearing.
The panel again ordered Morgan Stanley to produce “all” documents related to the broker’s termination, ordering all documents “produced by midnight.” Morgan Stanley, however, did not comply. Nor did they “provide opposing counsel with the courtesy of an email by midnight explaining why ‘all’ the ordered documents were not being produced.”
The claimant then requested sanctions for non-compliance with the panel’s order, to which the panel agreed and ordered the sanctions based on “the extreme prejudice respondent’s failure of compliance caused Claimant’s counsel in preparing their case and asserting their claims without the withheld documents which the panel deemed were highly relevant to the dispute in question.” The panel further held that Morgan Stanley “is liable to and shall pay the Claimants the sum of $3,000,000 in monetary sanctions under FINRA Rules 12212 and 12511 of the Code of Arbitration.” The panel also noted that Morgan Stanley’s refusal to produce the documents breached FINRA rules related to acting in good faith for document production requests under FINRA Rule 12506.
The award is one of the largest awards ever made by a FINRA panel for discovery abuse. The panel’s decision signals FINRA’s willingness and the extent to which it will enforce FINRA Rule 12506, which requires parties to act in good faith when searching for requested documents. The sanctions award also indicates the willingness and the extent to which a panel may issue sanctions under FINRA rule 12511, which authorizes sanctions for “failure to cooperate in the exchange of documents.” As the panel noted “Good faith” means that a party must use its best efforts to produce all documents required or agreed to be produced and if a document cannot be produced in the required time a party must establish a reasonable timeframe to produce the document.” It also noted the panel’s authority to sanction a party for failure to comply with any provision of the Code of Arbitration.
Given the size, severity, and publicity of the sanction award, a motion to vacate that portion of the award can be expected. We will monitor and update with further case developments.
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Clint A. Corrie, Partner
Michael Gonzales, Associate