Non-FINRA Employment-Loan Lender Ordered to Arbitration By NYS Appellate Court

August 12, 2016

A FINRA member firm has its sights on a well-connected trader or top producer or dynamic manager -- fill in the blanks as you will. The FINRA firm and the desired employee talk, they negotiate, they bargain, and, eventually, if all goes well, they forge a deal. Of course, there are deals and then there are deals. In the tortured ways that law and business clumsily embrace, we find ourselves considering documents prepared by lawyers at the behest of their financial services clients: The results range from ponderous to laughable but often with the common denominator of being indecipherable by most human beings. Still, hope springs eternal and armed with reams of paper, the hopeful employer and wannabe employee sign on the many dotted lines. And then all hell breaks loose when promises aren't kept, representations turn out to have been inflated, and things just don't quite pan out.

In today's Blog we consider a case involving an Employment Agreement and a $700,000 Promissory Note and one FINRA member firm and one non-FINRA member firm and one unhappy former employee.

Case in Point

FINRA member firm BGC Financial wanted to bring Kevin J. Gordon on-board as a Partner. As part of the enticement to snare Gordon and as part of Gordon's terms for joining, he was offered a $700,000 loan. The mechanics of that loan were set forth in a "Cash Advance Distribution Agreement and Promissory Note" dated August 1, 2011 (the "Note Agreement"). The parties to the Note Agreement were Gordon and BGC Notes, an affiliate of BGC Financial but not a FINRA member firm.

On that same date that he executed the Note Agreement, Gordon also entered into a five-year employment agreement with BGC Financial the "Employment Agreement").

SIDE BAR: FINRA member firm BGC Financial was a party to the Employment Agreement. Non-FINRA-member-firm BGC Notes was a party to the Note Agreement.

The Note Agreement provides:

Maker agrees that any and all disputes arising under this Agreement are subject to litigation in the courts of the State ofNew York and acknowledges that this Note is an agreement for the payment of money only subject to enforcement pursuant to NY CPLR §3213. With regard to any and all disputes arising under this Agreement, Maker hereby irrevocably submits to ( 1) the exclusive jurisdiction of the New York state courts and (b) service of process by mail. Maker hereby waives all of Maker's rights to personal service of process.

The Employment Agreement provides:

any disputes, differences or controversies arising under this Agreement or Employee's employment shall, to the maximum extent permitted by applicable law, be settled and finally determined by arbitration before a panel of three arbitrators in New York, New York, according to the rules of the Financial Industry Regulatory Authority (if required) . . .

Ah yes, the intersection of law and finance! Under the Employment Agreement, Gordon agreed to arbitrate disputes with his FINRA firm employer BGC Financial; however, under the Note Agreement, he had agreed to litigate disputes in the New York State court system with non-FINRA-member BGC Notes.

New York State Supreme Court Lawsuit

From April to November 2012, Gordon was employed as a broker on BGC Financial's Asset Backed Swaps Desk.  Unfortunately, things didn't work out all that well between Gordon and BGC Financial, as attested to by the exitence of BGC Notes, LLC, Plaintiff, v. Kevin J. Gordon, Defendant (Decision and Order, New York State Supreme Court Part 39, 651808/14 / July 13, 2015)

In its New York State Supreme Court lawsuit, Plaintiff BGC Notes sought to recover $699,652.58 plus interest. Defendant Gordon responded to that demand with a motion to stay the litigation and to compel BGC Notes to arbitrate its claims under the Rules of the Financial Industry Regulatory Authority ("FINRA").

BGC asserted that the Note Agreement's terms provided that the Note became due and payable when:

(1) Gordon failed to become a partner in BGC Holding L.P. ("BGC Holdings"), an entity related to BGC Financial, within 90 days of commencing his employment; or, alternatively, (2) Gordon resigned from BGC Financial on November 9 2012 and immediately ceased to be a partner in BGC Holdings.

Page 2 of NY Sup Ct Decision and Order

SIDE BAR: One of the quirky aspects of this fact pattern is that despite the Note Agreement imposing a 90-day deadline for Gordon to become a partner, we have this in the Supreme Court Decision and Order

In support of its motion, BGC Notes submits an affidavit from assistant general counsel and vice president of BGC Financial and BGC Holdings, Andrew M. Kofsky ("Kofsky"). According to Kofsky, the Note "contemplated that, after starting at BGC Financial Gordon would eventually become a limited partner in BGC Holdings." Kofsky asserts that BGC Notes agreed to loan $700,000 to Gordon on condition that he was a partner in BGC Holdings within 30 days of executing the Note. Kofsky states, however, that because Gordon "was not a limited partner in BGC Holdings" within the thirty-day period, BGC Notes had no obligation to pay out the loan. Nevertheless, BGC Notes advanced $700,000 to Gordon on April 30, 2012, subject to the Note's terms.

Page 2 of the NY Sup Ct Decision and Order

Umm . . . lemme see here . . . the 30-days didn't come and go with the partnership affiliation but you paid out the loan even though you had no obligation?  How'd that work out for ya? Of course, that all begs the question: If the loan was to be made subject to Gordon becoming a partner within 30-days, then why would you impose a longer, 90-day deadline for said partnership and trigger the repayment after that longer period?  Why not issue the loan solely based upon the occurrence of the partnership affiliation?

Summary Judgment

BGC Notes presented its claim as one entitled to summary judgment in lieu of a complaint because the Note Agreement, it argued, was an instrument for the payment of money only and Gordon had failed to make any payments. BGC asserted that the Note Agreement became due and payable when Gordon failed to become a Partner of BGC Holdings, L.P. within 90 days of having commenced his employment; or, in the alternative when he resigned from BGC Financial on November 9, 2012 (thus foreclosing any opportunity to become said Partner).

Gordon argues that the Note Agreement is not, in fact, an instrument for the payment of money only. Moreover, he asserts that he had become a Partner of BGC Holdings and, as such, is entitled to an offset as against any amounts allegedly owed by him. Notably, Gordon moved to compel arbitration of the Note Agreement because he alleges that BGC Notes is bound by the arbitration provision in his Employment Agreement, FINRA Code, and the Form U4. In reply, BGC Notes asserts that it is not a party to the Employment Agreement and is not a member firm of FINRA. As Gordon argued in his Memorandum of Law:

The reason that BGC Financial and BGC Notes structured Gordon's compensation package this way (and indeed structure many brokers' compensation packages this way) is apparently to allow BGC Financial to receive the benefit of FINRA arbitration under applicable FINRA rules, to which it is bound, while attempting to relieve its affiliate, BGC Notes, of the "burden" of litigating promissory note disputes in that forum. Simply put, by utilizing BGC Notes, a non-FINRA member and non-signatory to any arbitration provision, as the "lender" under the relevant promissory notes, BGC Financial attempts to wrongfully free BGC Notes from any arbitration requirement so that it can move for summary judgment in lieu of a complaint under CPLR § 3213 in the event it claims the right to recover on any given promissory note, as it did here.2


Footnote 2:  In doing so, BGC Financial likely violated FINRA Rule 2010 requiring that a "member, in the conduct of its business, shall observe high standards of commercial honor and just and equitable principles of trade." See IM- 13000 of the FINRA Code ("It may be deemed conduct inconsistent with just and equitable principles of trade and a violation of Rule 2010 for a member or a person associated with a member to: (a) fail to submit a dispute for arbitration under the Code as required by the Code ... ") (See exhibits I & J annexed to the affidavit of Jonathan Kotler, sworn to July 24, 2014 (the "Kotler Aff.").)

Pages 2 - 3 of Gordon's Memorandum of Law

In denying Plaintiff BGC's Motion for Summary Judgment and in granting Gordon's Motion to Compel Arbitration, the NYS Supreme Court Decision and Order asserts, in pertinent part:

Here, I find that BGC Notes should be compelled to arbitrate because it receives direct benefits flowing from the Employment Agreement, which contains an arbitration clause. In setting forth Gordon's compensation, the Employment Agreement provided that Gordon would receive a $700,000 loan from BGC Notes, in addition to salary and commissions. The Note expressly stated that BGC Financial would cause BGC Notes to make the $700,000 loan "[i]n consideration for services performed . . . and as consideration for Employee's consent to enter this Agreement." Based on this provision, BGC Notes clearly received a direct benefit from the Employment Agreement as it obtained the right to make the loan to Gordon under this agreement.

That BGC Notes benefitted from the Employment Agreement is further supported by the fact that the repayment terms under the Note were directly related to the Employment Agreement. The Note states that Gordon shall "repay the Loan (principal and interest) from the net Partnership distributions . . . on all of Maker's Partnership units (including future units) in the Partnership exclusive of any purchased by Maker with money in connection with a separate subscription agreement." The Note also sets forth various events under which the Note will "become immediately due and payable to the Lender, without notice or demand," such as if Gordon failed to become a partner in BGC Holdings within 90 days of starting his job at BGC Financial, or if he ceased to be a partner in BGC Holdings prior to the expiration of the Employment Agreement. Thus, BGC Notes' right to receive payment on the loan was directly related to the status of Gordon's employment with BGC Financial.

Pages 7-8 of NY Sup Ct Decision and Order

SIDE BAR: Welcome to my world of law. According to the NYS Supreme Court ruling, non-FINRA firm BGC Notes is compelled to arbitrate before FINRA because Plaintiff had received benefits from the Employment Agreement to which Gordon and BGC Financial were parties. The Court further held that Plaintiff's right to receive payment on the loan was directly related to the status of Gordon's employment with BGC Financial. 

Now, please, don't misunderstand my commentary: I agree with the Court's ruling and see the frequent use by many FINRA member firms of what I view as a "cut-out" non-member-firm lender as merely a transparent attempt to evade FINRA arbitration. Notwithstanding, we have a non-FINRA member firm that is not a party to the Employment Agreement imposing arbitration found to be required to arbitrate because of having benefitted via its "right to receive payment on the loan." And y'all wonder why I get paid hundreds of dollars an hour?  You try figuring that stuff out everyday. 

Appellate Division

On appeal to the New York State Appellate Division for the First Department, the New York State Appellate Division for the First Department ("App. Div.") provides some additional content and context to the underlying dispute. Kevin J. Gordon, Plaintiff=Appellant, v., BGC Notes, LLC, Defendant-Respondent (Opinion, New York State Appellate Division for the First Department, 651808/14 / August 11, 2016):

In November of 2012, around six months after starting his employment with BGC Financial and nearly five years before the end of the term set forth in the employment agreement, Gordon resigned to join Credit Suisse, one of BGC Financial's largest customers. Gordon maintained that he had intended to work for BGC Financial for the full term of his employment agreement, but that he left because of certain disagreements between him and BGC Financial. For example, Gordon stated, BGC Financial had been unable to negotiate a timely buyout of his noncompetition agreement with his previous employer, thus costing Gordon approximately $1 million. Gordon also contends that BGC Financial had not, as it had promised, fully reimbursed him for the costs and expenses incurred in negotiating and coming to a settlement with his former employer. Nonetheless, Gordon continued to refer business to BGC Financial during his one-and-a-half-year employment with Credit Suisse, and claimed that those referrals resulted in at least $1 million in commissions to BGC Financial.

Page 14 of the App Div Opinion

SIDE BAR: For a bit more insight into the issue of the commissions, consider this assertion in Gordon's Memorandum of Law:

Notwithstanding BGC Notes' position that it could have accelerated the Promissory Note on July 15,2012 or, at the latest, November 9, 2012 (See Kofsky Aff. ¶ 25-26), BGC Notes deliberately chose not to commence this action until June 2014 because BGC Financial was earning substantial commissions likely in excess of $1 million-- more than BGC Notes claims is owed on the Promissory Note -- from the Credit Suisse business that Gordon gave them. (Gordon Aff. 28.)

Page 7 of the Memorandum of Law

In expressing its rationale, the App Div noted that:

The motion court correctly ordered BGC Notes to arbitrate its claims against Gordon in accordance with the terms of Gordon's employment agreement with BGC Financial. Although BGC Notes was not a signatory to the employment agreement, which is the document actually containing the arbitration provision, BGC Notes nonetheless received a "direct benefit" directly traceable to the employment agreement (Life Tech. Corp. v AB Sciex Pte. 15 Ltd., 803 F Supp 2d 270, 275 [SD NY 2011]; Matter of Belzberg v Verus Invs. Holdings Inc., 21 NY3d 626, 631 [2013]).

Specifically, section 3(d) of the employment agreement provides that BGC Financial would "cause" BGC Notes to make a loan to Gordon by way of the very note that BGC Notes sues upon in this action, and BGC Notes received all the benefits that an entity ordinarily receives upon the giving of a loan (see Mark Ross & Co., Inc. v XE Capital Mgt., LLC, 46 AD3d 296, 297 [1st Dept 2007]). Thus, BGC Notes derived benefits from the employment agreement, and BGC Notes' contention that section 3(d) conferred a benefit only to Gordon, and at most an "indirect" benefit to BGC Notes itself, belies the terms of the employment agreement (Life Tech. Corp., 803 F Supp 2d at 276).

Likewise, we reject BGC Notes' argument that it cannot be compelled to arbitrate because it is not subject to FINRA's jurisdiction. FINRA routinely hears arbitrations brought by customers of securities firms that are not FINRA members, and FINRAs procedures permit nonmember parties to submit to FINRA arbitration even when they do not fall under FINRA's rules on mandatory arbitration. Moreover, BGC Notes may not do indirectly what it is forbidden to do directly - namely, divest an employee of his right under the FINRA Rules to arbitrate employment disputes. Here, Gordon entered into the note as part of his compensation package and as directly provided for in the employment agreement, and his decision to end his employment directly relates to his default on the note. Indeed, FINRA Rule 13806 establishes promissory note proceedings for disputes surrounding employee-forgivable loans like the note here. Thus, despite BGC Notes' assertion to the contrary, this action does not bear a mere tangential relation to the employer-employee relationship between BGC Financial and Gordon.

Pages 15 to 17 of the App Div Opinion 

Bill Singer's Comment

A superb bit of lawyering on behalf of Respondent Gordon by my former law partner Aegis J. Frumento, Esq., now with the law firm of Stern Tannenbaum & Bell LLP.

At this point in time, where does Gordon find himself? As a result of Plaintiff BGC Note's lawsuit in New York State Supreme Court, the Defendant likely incurred considerable legal fees, costs, and expense in defending before the lower court and then on appeal. In reality, the parties have little to show for all the legal maneuvers because the dispute is simply headed for a re-set via a FINRA arbitration, where the competing claims will be presented to a panel of arbitrators (unless the claims are withdrawn or settled).

More importantly, is there any consequence to the Plaintiff and/or FINRA member firm BGC Financial for not first bringing this case before a FINRA arbitration panel? One answer to that question may be found in whether Aegis Frumento, Esq. is able to obtain reasonable recompense for the costs of defending Gordon in the New York State court system. Another answer may be found in whether FINRA investigates its member firm's conduct in purportedly circumventing the mandate to arbitrate such disputes and, thereafter, whether the self-regulatory organization brings any charges.

In admonishing FINRA for not actively policing this area of "failure to arbitrate," particularly with an eye on efforts to circumvent the self-regulatory organization's mandate for intra-industry dispute resolution, I would direct FINRA's attention to: "FINRA Fines Merrill Lynch $1 Million for Failure to Arbitrate Disputes With Employees" (FINRA News Release, January 25, 2012), which stated, in pertinent part:

In January 2009, Merrill Lynch paid $2.8 billion in retention bonuses structured as loans to over 5,000 registered representatives. The promissory notes required registered representatives to agree that actions regarding the notes could be brought only in New York state court, a state which greatly limits the ability of defendants to assert counterclaims in such actions. Also, Merrill Lynch structured the program to make it appear that the funds for the program came from MLIFI, a non-registered affiliate, rather than from the firm itself, allowing it to pursue recovery of amounts due in the name of MLIFI in expedited hearings in New York state courts to circumvent Merrill Lynch's requirement to arbitrate disputes with its associated persons. Later that year, after a number of registered representatives left the firm without repaying the amounts due under the loan, Merrill Lynch filed over 90 actions in New York state court to collect amounts due under the promissory notes, thus violating a FINRA rule that requires firms to arbitrate disputes with employees.

Brad Bennett, FINRA Executive Vice President and Chief of Enforcement, said, "Merrill Lynch specifically designed this bonus program to bypass FINRA's rule requiring firms to arbitrate disputes with employees, and purposefully filed expedited collection actions in New York State courts and denied those registered representatives a forum to assert counterclaims."

Here we are, more than four years after FINRA sanctioned one of its largest member firms for designing a program to "bypass FINRA's rule requiring firms to arbitrate . . ." and not much seems to have changed.  

I have long noted that too often a member firm's ability to bypass FINRA's rule is the inevitable byproduct of a self-regulatory organization that has wholly disenfranchised the hundreds of thousands of registered representatives that are employed at the regulator's member firms. Only member firms have a vote at FINRA. The men and women who toil at those firms are subject to fines, suspensions, and bars imposed by rules that are submitted only to their employer firms for approval. The hundreds of thousands of disenfranchised registered reps are subject to rules and policies promulgated by a Board whose Governors are solely elected by employer member firms. FINRA may argue the point as it will. The fact remains that in 2016 there is a robust cottage industry designed to "bypass FINRA's rule requiring firms to arbitrate" and the overwhelming burden of that circumvention falls disproportionately upon FINRA's disenfranchised registered representatives.