Many investors have sustained significant losses investing in an IPO stock, ShoreTel, which was sold to them just as the subprime and credit crises were significantly impacting the economy. The stock price of ShoreTel fell like a rock almost immediately following its issuance. The question remains why did sophisticated Wall Street brokerage firms sell ShoreTel to investors at a time when chaos was abound on Wall Street?
In July 2007, stockbrokers and financial advisors at Lehman Brothers, Inc., JPMorgan Securities, Inc. and other brokerage firms recommended that their clients purchase shares of ShoreTel, Inc., a California-based communications equipment company that was engaged in an initial public offering, or “IPO.” Buying shares in an IPO can be particularly risky for investors because the company has no history of the kind of rigorous financial reporting required by the Securities and Exchange Commission, and because the stock has no trading history from which its potential volatility can be measured. These risks are further exacerbated when the company, like ShoreTel, is engaged in a volatile industry like the technology sector.
Owners of ShoreTel saw their shares go from $18 to a little over $4 in just a few months, causing massive losses. While a few shareholders have filed a class action lawsuit against ShoreTel, as well as Lehman and JPMorgan as the company’s underwriters, that lawsuit does not address one of the obvious questions many investors are asking: Why did my broker recommend this stock to me?
Every stockbroker or financial advisor has an obligation to know his or her customer, including an intimate knowledge of the customer’s investment objectives and risk tolerance. Unless a client had a huge appetite for risk, any recommendation to buy ShoreTel would have been negligent or “unsuitable” in industry terminology. Even investors who might be willing to tolerate a small amount of risk in their portfolio might find themselves suddenly over-concentrated in risky stocks like ShoreTel as a result of a broker or financial advisors negligent recommendations.
Consider the conflicts of interest. Both Lehman and JPMorgan earned significant fees for underwriting the IPO. That put tremendous pressure on them to become cheerleaders for the stock to do well. As a consequence their analysts initiated coverage of ShoreTel with “overweight” or “outperform” ratings. In 2003 both brokerage firms admitted that their ratings were influenced by their investment banks revenues, and there is no evidence that anything has changed in the years since.
Although most investors don’t realize it, they have legal rights against their brokers and brokerage firms to recover damages for losses incurred as a result of unsuitable recommendations. Typically, these rights are asserted in arbitration claims brought before the Financial Industry Regulatory Authority, or FINRA. Successful claimants in FINRA arbitrations recover a much larger percentage of their losses than those shareholders who merely passively participate in class actions, but it is important that the investor “opt out” of the class action in order to pursue their claims individually. If the investor fails to opt out before the deadline set by the court presiding over the class action, the investor’s claims can be barred forever.
Page Perry has represented thousands of investors in FINRA arbitrations, many of them involving these types of suitability claims. Page Perry is an Atlanta-based law firm with over 125 years collective experience. While past results are not indicative of future success, Page Perry’s attorneys have recovered over $1 million dollars for clients on more than 30 occasions. For further information, please contact us.