Ruling Called 'Paradigm Shift' in Non-Compete Cases

Shannon P. Duffy

The Legal Intelligencer

In a case that may mark a significant shift in the way securities industry arbitrators calculate damages that stem from violations of a non-compete agreement, a three-member Financial Industry Regulatory Authority panel has ordered a broker and his new employer to pay damages equal to 4 percent of the assets of the clients who switched firms.

In Charles Schwab & Co. v. Karpiak, an arbitration panel awarded $957,000 to Charles Schwab & Co. in its suit against a former broker who quit to join RBC Dain Rauscher and persuaded clients with nearly $24 million in investments to follow him.

Evidence in the case showed that broker Scott Karpiak had compiled a 90-page spreadsheet of his clients' names and accounts before he quit Schwab and that RBC Dain had promised to indemnify Karpiak if he were sued for breaking the non-compete agreement.

Significantly, the unanimous three-member FINRA panel enforced a liquidated damages provision in Schwab's non-compete clause that called for any damages award to be calculated as a percentage of the clients' assets.

Attorney Michael R. Greco of Fisher & Phillips, who represented Schwab, said the decision "represents a paradigm shift in non-compete damage calculation in the securities industry" because FINRA panels have "traditionally based non-compete awards on commission production."

Greco said some securities companies have been reluctant to use liquidated damages clauses, believing that they had to choose between including a clause calling for injunctive relief or a clause calling for liquidated damages.

But the arbitrators' decision in the Karpiak case, he said, "demonstrates that these two clauses are not inconsistent, but rather complementary. Injunctions stop the harm from continuing, and liquidated damages clauses stipulate the method for calculating compensation for the harm done before the injunction stopped it."

In the first round of the litigation, Schwab sued Karpiak and RBC Dain in U.S. District Court, seeking an injunction to stop Karpiak from soliciting his former clients to transfer their investment portfolios.

U.S. Magistrate Judge M. Faith Angell held a three-day hearing and recommended in a 23-page report in December 2006 that a preliminary injunction issue. Senior U.S. District Judge Louis H. Pollak later adopted Angell's recommendation and issued an injunction in January 2007.

Pollak's injunction was later made permanent by the FINRA panel in the first phase of the arbitration proceedings.

According to court papers, Karpiak began working for Schwab in its Newtown Square, Pa., office in 1999, and, over the years, had signed several versions of the company's non-compete agreement that prohibited him from soliciting his Schwab clients for 18 months.

At the time of his resignation from Schwab in April 2006, Karpiak had more than 125 clients whose accounts contained approximately $178 million in assets under Schwab management, according to court records.

Within two weeks of his resignation, Schwab began receiving account transfer forms from customers serviced by Karpiak asking to transfer assets from Schwab to RBC Dain.

In her opinion recommending an injunction, Angell found that Karpiak had prepared a spreadsheet, at RBC Dain's request, that contained a list of the customers he serviced at Schwab, including their names, addresses, account titles and whether the customer would need checking, margin accounts or powers of attorney.

Angell found that RBC Dain used the spreadsheet to prepare letters to the clients along with account transfer forms.

Karpiak testified that he called his Schwab clients to advise them that he was no longer with Schwab and to thank them for working with him. He said he did not inform the clients that he was working for RBC Dain unless the customer asked.

The letters, Karpiak said, were sent only to clients who had requested additional information about RBC Dain or expressed an interest in transferring their accounts.

Attorney Elliot R. Good of Chorpenning Good & Pandora in Columbus, Ohio, who represented both Karpiak and RBC Dain, argued that no injunction should issue because Karpiak had simply notified his former clients that he had left Schwab and never "solicited" them to transfer to RBC Dain.

Good also insisted that Karpiak never took any confidential information when he left Schwab, and that Schwab's claims of irreparable harm were weakened by its delay in seeking injunctive relief.

Angell flatly disagreed, saying "although he asserts that his communications with Schwab clients immediately after his resignation from Schwab amounted to 'notification' rather than 'solicitation,' I find that the arbitrators probably will conclude that his actions encouraged these clients to follow him to RBC Dain. In addition, I find that the arbitrators probably will conclude that the disclosure of names, addresses, and telephone numbers of Schwab clients to RBC Dain also constituted a breach of contract."

As a result, Angell said, "I find that Schwab is likely to succeed in showing that Karpiak wrongfully removed names, addresses, and telephone numbers from the Schwab office and disclosed this information to employees of RBC Dain."

Schwab, she said, "has shown far more than a reasonable probability of success on the merits of this claim."

Angell also found that Karpiak "admits that he intends to continue calling clients whom he previously serviced at Schwab" and that "this admitted continuing violation is incapable of adequate protection by monetary damages."

As a result, Angell said, Schwab "has demonstrated that it will suffer irreparable harm in the absence of injunctive relief."

Angell also rejected the defense argument that Schwab was not entitled to injunctive relief because it waited five months before coming to court.

"The record reveals that Schwab was not idle during this time period. It was in contact with RBC Dain repeatedly concerning Karpiak's behavior," Angell wrote.

After Pollak adopted Angell's recommendation and issued a preliminary injunction, the litigation moved to proceedings before the FINRA arbitration panel.

Now the arbitrators have issued an eight-page decision that says Karpiak and RBC Dain are jointly liable for Karpiak's breach of the non-compete agreement and must pay liquidated damages of $957,061.

The panel -- Elena P. Anastasiou, Alan J. Blocher and Catherine S. Kopley -- also ordered Karpiak and RBC Dain to "destroy and purge all Charles Schwab customer records and information from their possession."

Greco had also asked for an award of attorney fees, but the arbitrators refused to grant that and also held that the arbitration fees of more than $22,000 should be shared equally.

Neither Good nor his co-counsel, Michael J. Zaretsky of Carlet Garrison Klein & Zaretsky, could be reached for comment on the decision.