Injunctions Against Client Account Transfers May Be Inequitable

ecently a federal district court judge handed Merrill Lynch a defeat that should please reps who are considering switching firms. Merrill Lynch sought an injunction against two reps who had moved to Wachovia Securities and who were in the process of encouraging their customers to transfer their accounts. The court denied Merrill Lynch's request and, in so doing, became another court opinion about which brokers should be aware. Let's explore the facts and the law applied.

The Facts

The facts are fairly typical. The two reps had signed agreements with Merrill Lynch prohibiting them from soliciting clients (served at Merrill Lynch or whose names had become known to them while at Merrill Lynch) for one year after employment termination. Additionally, the reps promised that the names and addresses of the customers would remain the property of Merrill Lynch and would remain confidential.

On a Friday in late April, the two reps resigned and the same day joined Wachovia Securities, Inc. That day the reps book consisted of 429 clients with accounts valued at $79 million and generating $801,000 in commission revenues. Wachovia Securities paid the reps substantial upfront compensation.

The court's decision reveals that, at or near the time of their resignation, the reps did not remove any "list" of Merrill Lynch clients. Instead, over their years at Merrill Lynch, the reps utilized Merrill Lynch's lists to develop their own list of the names, addresses and telephone numbers for their 429 clients. The reps had both a hard copy and an electronic version of this list of customers. The reps used this list to solicit the customers in typical fashion in the days and weeks after they resigned from Merrill Lynch.

As stated by the court, the reps defended themselves by, among other things, alleging that, "Merrill Lynch maintains a policy of encouraging the recruitment of experienced financial analysts from other firms and requiring the recruited financial analysts [advisers] to provide their client statements and other client information before and after leaving their old firms." Importantly, though Merrill Lynch denied asking for client names or lists, the firm did admit that it expects its transferring financial advisers to solicit their former clients. Merrill Lynch claimed it expects such solicitation to be based only upon memory of names, and that this is standard industry practice. The court made no credibility finding as to Merrill Lynch's claim that it expects brokers not to use customer lists or other memory-aiding devices to help with customer name recall.

The Law

The court did not dismiss Merrill Lynch's claims of liability or for monetary damages but did deny Merrill Lynch's request for an injunction. In doing so, the court addressed whether, in this case, Merrill Lynch would suffer "irreparable harm" in the absence of an injunction.

The court rejected Merrill Lynch's claims that it would suffer irreparable harm. First, there was no irreparable harm in not preventing the two reps from soliciting their 429 customers because, at the time of the court's ruling, the reps already had contacted nearly all of their 429 customers. The "cat was out of the bag", so to speak. Any proven lost revenue from those customers would be the subject of a monetary damages claim at a trial (months if not years away).

Likewise, the court rejected Merrill Lynch's claim for an injunction based upon the loss of trust and confidence of customers whose financial and other information Merrill Lynch had pledged to keep confidential. The court opined that such loss does not equate with irreparable harm, and observed that the reps had not taken their customers' confidential financial documents, just their names, addresses and telephone numbers.

Most important, however, is the court's ruling that the equitable doctrine of "unclean hands" barred Merrill Lynch from obtaining injunctive relief. Courts that consider injunctions do so as a matter of equity. As such, there are numerous equitable considerations. One such consideration is the defense of unclean hands: "he who comes into equity must come with clean hands." The court observes that, "Where the plaintiff bringing a claim committed a willful act concerning that cause of action which 'transgresses equitable standards of conduct,' the plaintiff can be prohibited from maintaining that action."

Of course, the court was referring to Merrill Lynch's own practices. In particular, the court wrote:

[S]olicitation of former clients from memory is standard practice both at Merrill Lynch and throughout the financial services industry. By seeking to halt such solicitation, Merrill Lynch seeks to enjoin the same behavior in which it engages as a matter of company policy.

Merrill Lynch attempted to show clean hands by suggesting that its hands were clean insofar as those reps were concerned (that is, Merrill Lynch had not previously had not sought to have these two reps solicit their clients from a former firm). But the court stated that it has broad discretion in "refusing to aid the unclean litigant." The court would not do so here, citing two other court opinions.

This court opinion provides a lesson to reps that they should not automatically accept the claim that covenants not to compete always are enforceable. Have a competent attorney review your agreements, the firm's practices and the law.