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Investors Not Deemed to be Customers Cannot Pursue Arbitration Claims Under Financial Industry Regulatory Authority Rules

Raymond James Financial Services, Inc. v. Peter Cary, et al.
Case No.: 12-1053 (United States Court of Appeals for the Fourth Circuit, March 8, 2013)

by Eric M. Leppo, Associate
Semmes, Bowen & Semmes (

In this recently issued opinion from the U.S. Court of Appeals for the Fourth Circuit, the Court affirmed the trial court’s decision that Appellants were not entitled to compel Raymond James Financial Services, Inc. (“Raymond James”) to arbitrate claims, as Appellants were not customers of Raymond James.

The Appellants were individual investors who purchased allegedly fraudulent securities directly from Inofin, Inc. ("Inofin"). Inofin is a Massachusetts corporation who raised funds from investors between 1994 and 2010. In 2003, the Company’s President recruited Kevin Keough and his friend, David Affeldt, to refer investors to Inofin. Investors were purchasing unregistered promissory notes from Inofin, believing that the company was investing in subprime auto loans.

Mr. Keough sought to avoid receiving referral compensation directly from Inofin because he was employed by Morgan Stanley, a regulated broker-dealer. As such, an agreement was made for Inofin to pay Mr. Keough’s wife, Nancy, along with Mr. Affeldt. In 2006, Mr. Keough left Morgan Stanley and joined Raymond James. In January 2011, Inofin revealed that it was insolvent following protracted losses. Shortly after Inofin’s financial state came to light, the company entered bankruptcy, and the SEC initiated civil enforcement proceedings.

The Appellants were Inofin investors who sustained losses on the unregistered promissory notes. They asserted that they purchased the notes after Mr. Affeldt met with them and recommended that they invest. Both Nancy Keough and Mr. Affeldt received commissions from Inofin for these transactions.

The investors filed a Financial Industry Regulatory Authority ("FINRA") statement against Raymond James alleging violations of state securities laws and FINRA conduct rules. They argued that Mr. Keough assured them that "their investments were fully collateralized by auto loans" while Inofin was actually misappropriating those funds. The Investors sought arbitration pursuant to FINRA Rule 12200, which requires FINRA members (including Raymond James) to arbitrate disputes "between a customer and a member or associated person of a member." Id.

Raymond James filed suit in the Eastern District of Virginia, seeking injunctive relief to bar arbitration of the investors’ claims. They argued that FINRA arbitration provisions did not apply because Appellants were not (nor have ever been) Raymond James customers.

Importantly, the investors had "no personal contact" with Mr. Keough regarding Inofin, but met with Mr. Affeldt personally. He did not represent himself as associated or affiliated with Raymond James. The Appellants did not believe they were buying securities through Raymond James or an agent of Raymond James, and they did not hold any trading accounts with Raymond James at any time. The District Court granted the injunctive relief holding that the connection between Raymond James and Appellants was "insufficient" to bring the dispute within the scope of the FINRA arbitration provisions.

The investors appealed the matter to the Fourth Circuit, and sought a broad reading of FINRA Rule 12200 – in accordance with the presumption in favor of arbitration. The Court concluded, however, that no presumption in favor of arbitration applied as the Appellants simply were not customers of Raymond James. The Court noted that when Raymond James accepted FINRA Rule 12200, it agreed to arbitrate disputes with its customers. It then confirmed its agreement with the District Court that the connection between the Appellants and Raymond James via Mr. Keough was much too attenuated to make Appellants customers of Raymond James.

As such, the declaratory and injunctive relief granted by the District Court was affirmed, and Appellants were precluded from pursuing arbitration of their claims as to Raymond James.