Arbitrations filed by brokerage firms against departed brokers to collect amounts due under promissory notes have accounted for 17% of all FINRA arbitration awards in 2010, the highest percentage in a decade, according to the Financial Industry Regulatory Authority (FINRA) and a recent Wall Street Journal article by Aaron Lucchetti (“Signing Bonuses Haunt Wall Street”).
During the past two years, firms were so eager to entice brokers away from rival firms that they offered six- or even seven-figure signing bonuses. In reality, the bonuses are structured as loans and brokers are obligated repay the loans. A portion of the repayment obligation is typically “forgiven” annually. Every major brokerage firm, from Merrill to Wells Fargo to Morgan Stanley Smith Barney, offers signing bonuses, according to the article.
Signing bonuses and similar broker retention awards have exceeded $10 million in some cases, according to the article. This is in addition to $3 million to $5 million a year that some brokers make through fees and commissions. Broker compensation is tied to a formula that awards brokers a percentage (usually 25% to 50%) of what they generate in commissions or fees.
“The economics of the business are going to have to change,” according to one executive. Brokerages can no longer afford to pay “extremely uneconomic” sums for recruiting and retention, this person reportedly said.
Many of these brokers who were paid big bonuses have not generated the revenues that firms expected, or have left, and the firms that paid them are disappointed. Under such circumstances, firms often file arbitration claims to recover on the promissory notes. As noted, such filings are at record levels.
“Individuals promised to repay loans if they departed the firm,” a Merrill Lynch spokeswoman was quoted as saying. “Where advisers have not lived up to their agreement, we will pursue repayment.”
Since the firms are usually able to show the arbitrators a copy of the note with the broker’s signature on it, firms win a high percentage of these cases. However, firms often face defenses and counterclaims for breach of contract by the brokers (such as failing to keep other promises made to entice the brokers to come aboard), and they sometimes agree to compromise the amount owed or the timing of payments.
UBS reportedly hired 1,400 brokers in a nine-month period in 2008 and early 2009, offering some 160% of fees and commissions generated in the previous year. But investment activity and consequently broker production have been lower during the financial crisis.
According to the article, UBS appears to be playing hardball to force hundreds brokers in the U.S. who received bonuses to “win back” their old clients and bring in more revenue. Normally, the unforgiven portion of a bonus is not due to be repaid until the broker leaves the firm. However, where new brokers have fallen well short of revenue expectations, UBS and other brokerage firms reportedly are considering or have considered accelerating that repayment obligation.
J. Boyd Page of Page Perry in Atlanta observed “I think that brokerage firms will have serious problems with some of these note cases. The combination of the bad economy and the misconduct of some of these brokerage firms have driven many retail customers out of the investment markets. In turn, this has prevented or frustrated the ability of many individual brokers to generate acceptable revenues for their firms. Stated another way, the firms themselves are responsible for many of the problems they seem to be complaining about.”
Page Perry is an Atlanta-based law firm with an active practice in representing individuals in employment disputes with firms in the financial services industry. The firm is currently involved in representing several employees in such disputes. In the past year, the firm has won arbitration award for clients in employment disputes in the amounts of $1.7 and $3.9 million. For further information, please contact www.pageperry.com.