“Off-book” Investments: Mulley v Lewis

Issue

When is a securities dealer vicariously liable for the misconduct of an employee broker relating to “off-book” investments?

Key Facts

Lewis was the broker of record of a mother and her two adult children for many years. The broker was associated with a number of securities dealers, the most recent of which was IPG. Prior to the broker and clients joining IPG, the broker recommended that the clients invest in debenture loans issued by Bridge Management Inc., which operated offshore. While the broker and clients were at IPG, the clients incurred losses from the Bridge investments. The Bridge investments were private, and were not transferred to or held on the books of IPG. The clients sued the broker and IPG to recover the losses.

Key Findings

The broker was held liable for the Bridge investment losses based on his misrepresentation of the nature and risk of the investments. He was therefore negligent for failing to properly advise and inform the plaintiffs.

In assessing whether IPG was liable for the misconduct of the broker, the Québec Superior Court was informed by the following key facts: the broker’s recommendations to purchase the Bridge investments were made before the broker and clients joined IPG; the broker declared to IPG that he had never sold offshore trusts to his clients; the clients were aware that their Bridge investments were not transferred to IPG; there was no reference on the dealer transfer forms to the Bridge investments and thus IPG did not know about those investments.

The Court found that IPG was not liable for the clients’ Bridge investment losses. Though no fault was ascribed to the clients, the Court held that: “[IPG] was kept in the dark about these investments not only by [the broker] but by the plaintiffs.” The Court decided that the broker’s actions regarding Bridge were not related to IPG’s business and that it was not possible for IPG to supervise those investments, let alone know about them. Finally, the Court ruled that the Bridge investments were part of an independent service of the broker of which IPG had no knowledge and for which IPG was not liable.

What You Need to Know

This case bears on the thorny issue of when dealers may be found liable for investments that are not on their books, but which are sold to clients by a broker employee. Canadian cases are not entirely consistent on this point (see, for example, S. Maclise v. Union Securities Alberta C.A. 2008) and are fact-specific. IIROC also takes the position that dealers’ supervision obligations extend to off-book assets (the recent CRM2 amendments require reporting on such assets in certain circumstances). However, this decision provides some comfort to dealer-employers that they may be insulated from liability for off-book investments.

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