North v. Smarsh, Inc.

UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF COLUMBIA
)
THADDEUS J. NORTH, et al., )
)
Plaintiffs, )
)
v. ) Civil Action No. 15-494 (RMC)
)
SMARSH, INC., et al., )
)
Defendants. )
)
OPINION
Thaddeus J. North and Mark P. Pompeo (Plaintiffs) were securities brokers who
were the subject of enforcement actions by the Financial Industry Regulatory Authority
(FINRA). Pursuant to the Securities Exchange Act of 1934, 15 U.S.C. § 78a et seq. (Exchange
Act), FINRA initiated disciplinary actions against Plaintiffs for alleged improprieties and
noncompliance with securities laws and regulations. In pursuing these actions, FINRA asked
Smarsh, Inc. –– the email vendor for Plaintiffs’ former firms –– to produce copies of internal and
external electronic communications concerning Plaintiffs and other registered brokers.
In the instant case, Plaintiffs allege that the data produced by Smarsh and relied
upon by FINRA was spoliated and tampered. Compl. [Dkt. 1]. They seek monetary damages for
the intentional or negligent spoliation of the data. Id. at 29. Plaintiffs also seek to enjoin
FINRA’s disciplinary actions, as well as to prevent the dissemination and use of such data in any
future proceeding. Id. Both FINRA and Smarsh (Defendants) separately move to dismiss.
Plaintiffs filed oppositions to both motions to dismiss, to which Defendants filed separate replies.
The parties also filed a sur-response and sur-replies. The Court will grant Defendants’ motions
to dismiss.
1
I. FACTS 1
A. The Parties
Mr. North is a resident of Connecticut. From February 2008 to August 2011, Mr.
North was the Chief Compliance Officer of Southridge Investment Group, LLC (Southridge).
In 2010, FINRA began investigating Southridge because of certain improprieties concerning the
owner’s management of a hedge fund and an alleged business relationship between LK, a broker
registered with Southridge, and TC, a person who is a statutorily disqualified from working as a
broker. As a result of the investigation, Mr. North and about half of his Southridge colleagues
left that firm and became registered with Ocean Cross Capital Markets, LLC (Ocean Cross). Mr.
North worked at Ocean Cross, also as Chief Compliance Officer, from August 2011 to January
2013. Mr. North is also a respondent in two FINRA Enforcement Disciplinary Proceedings: (1)
Proceeding No. 2010025087302 involving Southridge (Southridge Proceeding); and (2)
Proceeding No. 2012030527503 involving Ocean Cross (Ocean Cross Proceeding). In both
proceedings, FINRA accused Mr. North of failing to review sufficient electronic correspondence
to ensure compliance with securities laws and regulations. In the Southridge Proceeding, FINRA
also accused Mr. North of failing to identify and report the business relationship between LK and
TC.
1
Unless otherwise cited, these facts are taken directly from the Complaint in the instant case.
The Court has also considered documents incorporated by reference in the Complaint. See EEOC
v. St. Francis Xavier Parochial School, 117 F.3d 621, 624 (D.C. Cir. 1997) (stating that courts
may consider documents incorporated by reference in the complaint, as well as any matters of
which the Court may take judicial notice, without converting a motion to dismiss into a motion
for summary judgment); see also Ward v. D.C. Dep’t of Youth Rehab. Servs., 768 F. Supp. 2d
117, 119-20 (D.D.C. 2011) (explaining that courts may consider such documents even if they are
not produced “by the plaintiff in the complaint but by the defendant in a motion to dismiss”)
(citations and internal quotation marks omitted).
2
Mr. Pompeo is a resident of Massachusetts. He was a registered securities broker
with Southridge from January 2010 to September 2011 and with Ocean Cross from September
2011 to September 2012. On August 16, 2013, FINRA charged Mr. Pompeo with violating
FINRA rules pursuant to FINRA Examination No. 20120305375. 2 Mr. Pompeo settled the case
against him. As such, Mr. Pompeo is not a respondent in the underlying FINRA disciplinary
proceedings. 3
Smarsh is a New York corporation with its principal place of business and
headquarters in Portland, Oregon. Page Decl. in Supp. of Smarsh’s MTD [Dkt. 9-1] (Page Decl.)
¶ 2. Smarsh also has satellite offices in Atlanta, Boston, Los Angeles, New York, and London.
Id. Smarsh holds itself out to be “the leading provider of archiving & compliance solutions for
companies in regulated and litigious industries.” Compl. ¶ 5. Smarsh contracted with Southridge
and Ocean Cross “to preserve exact and unchangeable copies of internal and external
communications for all registered representatives of the two (2) firms for compliance at all times
from July 1, 2009 through July 1, 2013 (Relevant Period). . . and according to the requirements
of the Exchange Act.” Id.
2
The Complaint indicates that FINRA “charged” Mr. Pompeo with FINRA rule violations.
Compl. ¶ 4 n.3. Defendants respond, however, that FINRA never issued a formal complaint
against Mr. Pompeo and, instead, merely sent him a notice of a potential enforcement action. See
FINRA’s MTD [Dkt. 6] at 12 n.7, 13 and Smarsh’s MTD [Dkt. 9] at 2. Whether Mr. Pompeo
was formally charged is irrelevant.
3
Mr. Pompeo executed a Letter of Acceptance, Waiver and Consent (AWC), which FINRA
accepted. According to FINRA Rule 9216(a)(4), an accepted AWC “shall be deemed final and
shall constitute the complaint, answer, and decision in the matter.” FINRA’s MTD, Ex. 2
(FINRA Rule 9216) at 1-2. Mr. Pompeo agreed to a ten business-day suspension from
association with any FINRA member firm and a $5,000 fine. FINRA’s MTD, Ex. 3 (Mr.
Pompeo’s AWC). He also waived his right to appeal, as well as his right to defend against
FINRA’s allegations. Id.
3
FINRA is a private not-for-profit Delaware corporation and a self-regulatory
organization (SRO) in the securities industry. FINRA is registered with the Securities Exchange
Commission (SEC) as a national securities association pursuant to the Maloney Act of 1938,
15 U.S.C. § 78o-3 et seq., and has its headquarters in Washington, D.C. FINRA serves as both a
“professional association [that] promot[es] the interests of its members” and as a “quasi-
governmental agency” authorized “to adjudicate actions against members who are accused of
illegal securities practices and to sanction members found to have violated the Exchange Act or .
. . [SEC] regulations issued pursuant thereto.” Compl. ¶ 6 (quoting Nat’l Ass’n of Sec. Dealers,
Inc. v. SEC, 431 F.3d 803, 804 (D.C. Cir. 2005)). 4 FINRA’s disciplinary actions “may be
adjudicated before a [FINRA] Hearing Panel” and the Panel’s “decisions may be appealed to the
National Adjudicatory Council (NAC), or they may be reviewed by NAC on its own initiative.”
Id. (citations omitted). NAC can affirm, reverse, or modify the Panel’s decision. Once a final
disciplinary action is taken against a member, FINRA must notify the SEC of said action, which
“may then act sua sponte, or pursuant to a petition from the aggrieved member, to review NAC’s
decision de novo.” Id. (citations omitted); see also 15 U.S.C. § 78s(d). FINRA, in its role as
first-level adjudicator, cannot appeal an SEC decision that reverses a NAC decision. Id. at 805.
The aggrieved member, however, may appeal an SEC decision to the relevant U.S. Court of
Appeals or the U.S. Court of Appeals for the District of Columbia Circuit. See 15 U.S.C. § 78y.
B. FINRA Rules on Electronic Communications
FINRA Rule 3110(a)-(d) and SEC regulation at 17 C.F.R. § 240.17a-4(f) require
securities broker-dealers to preserve all written and electronic communications. Copies of all
electronic communications must be preserved “exclusively in a non-rewritable, non-erasable
4
On July 30, 2007, the National Association of Securities Dealers, Inc. was renamed FINRA.
4
format.” 17 C.F.R. § 240.17a-4(f)(2)(ii)(A). Such electronically stored information (ESI)
includes emails, chats, instant messages, and like communications regardless of the digital
device used to send or receive them. The electronic record is the original and official federal
record of these communications. See Armstrong v. Executive Office of the President, Office of
Admin., 1 F.3d 1274 (D.C. Cir. 1993). As a result, SEC has warned that any ESI systems that are
vulnerable to the “ability to overwrite or erase records stored on these systems” are “non-
compliant with Rule 17a-4(f).” Compl. ¶ 12 (quoting Electronic Storage of Broker-Dealer
Records, Exchange Act Release No. 34-47806, 68 Fed. Reg. 25281-02, 25283 (May 12, 2003)).
As alleged, Southridge and Ocean Cross contracted with Smarsh to ensure their
compliance with these regulatory duties of preservation. Specifically, they hired Smarsh to:
(a) use proper care to preserve by commercially responsible
methods exact, unalterable, non-rewriteable, and non-erasable
copies of each firm’s registered representatives’ domain emails,
Bloomberg messages and other electronic correspondence in a
permanent file for the Relevant Period, (b) provide access to that
database of ESI for compliance review, and (c) maintain an accurate
electronic record that documents ESI compliance reviews.
Id. ¶ 14. Plaintiffs allege that they reasonably relied on Smarsh’s “knowledge, expertise and
representations respecting its archival and compliance solutions” and reasonably “believe[d] that
Smarsh would exercise due and proper care in preserving their own and the firms’ internal and
external electronic communications in a commercially reasonable manner in an accessible and
properly searchable database.” Id. ¶ 28.
C. FINRA’s Investigation and Disciplinary Proceedings
William E. Schloth, who is not a party to this suit, was the Chief Executive
Officer and General Securities and Financial Operations Principal at Southridge and then Ocean
Cross at all times during the Relevant Period. Mr. Schloth hired LK in July 2009 and was her
direct supervisor at both Southridge and Ocean Cross. Mr. Schloth interviewed TC in June 2009,
5
but did not hire him because of the time and expense of attempting to reverse his disqualification
from the industry. Mr. Schloth informed FINRA in August 2009 about a business relationship
between LK and TC. As a result, FINRA began to investigate LK for allegedly working with
TC.
In the course of FINRA’s investigation, Southridge and Ocean Cross “arranged
for Smarsh to deliver the firms’ electronic communications directly to FINRA . . . .” Id. ¶ 34.
FINRA’s Department of Enforcement conducted on-the-record interviews of Mr. North and Mr.
Schloth in April 2012 and of LK in September 2011 and August 2012. Following the delivery of
Smarsh’s records to FINRA, the Southridge and Ocean Cross disciplinary proceedings were
initiated against Mr. North in July and August 2013. FINRA also accused Mr. Pompeo of
violating FINRA Rule 2010 and NASD Rule 2210(d) because he had allegedly sent information
about investments to the public through email. As noted, Mr. Pompeo settled the allegations
against him and was never a respondent in a FINRA proceeding.
In November 2013 and thereafter, FINRA delivered computer disks to Mr. North
containing ESI it had received from Smarsh and on which it based its disciplinary actions against
him. During the on-the-record interviews, witnesses had trouble recognizing some of the emails
produced by Smarsh to FINRA. Due to alleged problems accessing the computer disks and
“visible indicia of spoliation to the ESI,” Mr. North retained a computer technician in March
2014 to analyze the ESI. Id. ¶ 40.
In April 2014, LK purchased access to her Bloomberg vault –– which provides its
own email preservation service –– and discovered that it contained over 212,000 emails and a
few thousand chats of various types for the Relevant Period. These communications were in
extensible markup language (XML). However, the ESI produced by Smarsh and delivered by
6
FINRA in the Southridge Proceeding contained fewer than 60,000 records in .pst format
attributable to LK and her assistant. With respect to the Ocean Cross Proceeding, Smarsh also
produced fewer emails attributable to LK than the number in her Bloomberg vault for the same
time period.
According to Plaintiffs and the computer technician retained by Mr. North, the
spoliation included “tens of thousands of emails with language added to sender line descriptions,
the substitution or insertion of inaccurate sender and recipient names, formatting and time
differences, lost and incomplete content, and multiple copies of the same communication in
different formats.” Id. ¶ 44. Plaintiffs also allege that “tens of thousands of electronic
communications that should have been preserved by Smarsh had been lost, destroyed, or
withheld.” Id.
In February and March of 2015, Berryhill Computer Forensics, Inc. (Berryhill),
retained by Mr. North, examined the ESI and concluded “that FINRA has been massively misled
by Smarsh.” Id. ¶ 55. Berryhill also concluded that “the data produced by Smarsh has been
altered and manipulated to the point of being nearly unrecognizable compared to the original
source data.” Id. In both Proceedings, FINRA rejected Mr. North’s allegations on the basis that
spoliation was irrelevant to the subject of FINRA’s enforcement actions –– namely, whether or
not Mr. North conducted an appropriate review of each firms’ electronic communications.
FINRA also excluded Berryhill’s expert testimony from the proceedings for lack of relevance.
Pls. Opp’n to FINRA’s MTD, Ex. 3 [Dkt. 13] (FINRA’s Evidentiary Order). Neither Smarsh nor
FINRA investigated Plaintiffs’ spoliation allegations. Mr. North petitioned the U.S. Court of
Appeals for the District of Columbia Circuit for mandamus relief to enjoin the FINRA
proceedings and prevent the use of the alleged spoliated evidence. The Court of Appeals refused
7
to intervene and denied the petition. FINRA’s MTD, Ex. 1 (D.C. Cir. Order). FINRA still has
not issued a final disciplinary action against Mr. North.
Plaintiffs complain “they were wrongfully subject to disciplinary actions based on
spoliated evidence, and so each was required to report said actions on their official public record
and thereby have suffered retribution. . . [and] loss of gainful employment and professional
reputation.” Id. ¶ 65. They also claim they incurred legal fees in responding to FINRA’s “ill-
conceived and unfounded disciplinary proceedings against each of them.” Id. ¶¶ 62, 64. On
April 6, 2015, Plaintiffs filed the instant lawsuit against Smarsh and FINRA. Count I of the
Complaint alleges that Smarsh intentionally spoliated the ESI; Count II accuses Smarsh of
spoliation through gross negligence; Count III alleges that both Smarsh and FINRA spoliated the
electronic communications through simple negligence; and Count IV seeks injunctive relief
against both parties to prevent further spoliation and the use and dissemination of these spoliated
records. Id. ¶¶ 68-103.
FINRA moves to dismiss the Complaint for lack of subject matter jurisdiction
under Federal Rule of Civil Procedure 12(b)(1) and because it is immune from suits related to its
enforcement duties under the Exchange Act. FINRA’s MTD at 9. In the alternative, FINRA
contends that Plaintiffs’ Complaint should be dismissed for failure to state a claim upon which
relief may be granted under Federal Rule of Civil Procedure 12(b)(6). Id. Smarsh also moves to
dismiss the Complaint for lack of subject matter jurisdiction under Federal Rule of Civil
Procedure 12(b)(1). Smarsh’s MTD at 1. It also moves to dismiss for lack of personal
jurisdiction under Fed. R. Civ. P. 12(b)(2) and for failure to state a claim upon which relief may
be granted under Fed. R. Civ. P. 12(b)(6). Id.
8
II. LEGAL STANDARDS
A. Motion to Dismiss Under Rule 12(b)(1)
Pursuant to Federal Rule of Civil Procedure 12(b)(1), a defendant may move to
dismiss a complaint, or any portion thereof, for lack of subject matter jurisdiction. Fed. R. Civ.
P. 12(b)(1). No action of the parties can confer subject matter jurisdiction on a federal court
because subject matter jurisdiction is both a statutory requirement and an Article III requirement.
Akinseye v. District of Columbia, 339 F.3d 970, 971 (D.C. Cir. 2003). The party claiming
subject matter jurisdiction bears the burden of demonstrating that such jurisdiction exists. Khadr
v. United States, 529 F.3d 1112, 1115 (D.C. Cir. 2008); see Kokkonen v. Guardian Life Ins. Co.
of Am., 511 U.S. 375, 377 (1994) (noting that federal courts are courts of limited jurisdiction and
“[i]t is to be presumed that a cause lies outside this limited jurisdiction, and the burden of
establishing the contrary rests upon the party asserting jurisdiction”) (internal citations omitted).
When reviewing a motion to dismiss for lack of jurisdiction under Rule 12(b)(1),
a court should “assume the truth of all material factual allegations in the complaint and ‘construe
the complaint liberally, granting the plaintiff the benefit of all inferences that can be derived
from the facts alleged.’” Am. Nat’l Ins. Co. v. FDIC, 642 F.3d 1137, 1139 (D.C. Cir. 2011)
(quoting Thomas v. Principi, 394 F.3d 970, 972 (D.C. Cir. 2005)). Nevertheless, “the court need
not accept factual inferences drawn by plaintiffs if those inferences are not supported by facts
alleged in the complaint, nor must the Court accept plaintiff=s legal conclusions.” Speelman v.
United States, 461 F. Supp. 2d 71, 73 (D.D.C. 2006). A court may consider materials outside the
pleadings to determine its jurisdiction. Settles v. U.S. Parole Comm’n, 429 F.3d 1098, 1107
(D.C. Cir. 2005); Coal. for Underground Expansion v. Mineta, 333 F.3d 193, 198 (D.C. Cir.
2003). A court has “broad discretion to consider relevant and competent evidence” to resolve
factual issues raised by a Rule 12(b)(1) motion. Finca Santa Elena, Inc. v. U.S. Army Corps of
9
Engineers, 873 F. Supp. 2d 363, 368 (D.D.C. 2012) (citing 5B Charles Wright & Arthur Miller,
Fed. Prac. & Pro., Civil § 1350 (3d ed. 2004)); see also Macharia v. United States, 238 F. Supp.
2d 13, 20 (D.D.C. 2002), aff’d, 334 F.3d 61 (2003) (in reviewing a factual challenge to the
truthfulness of the allegations in a complaint, a court may examine testimony and affidavits). In
these circumstances, consideration of documents outside the pleadings does not convert the
motion to dismiss into one for summary judgment. Al-Owhali v. Ashcroft, 279 F. Supp. 2d 13,
21 (D.D.C. 2003).
B. Motion to Dismiss Under Rule 12(b)(2)
Pursuant to Federal Rule of Civil Procedure 12(b)(2), “the plaintiff bears the
burden of establishing a factual basis for the court’s exercise of personal jurisdiction over the
defendant.” Capital Bank Int’l Ltd. v. Citigroup, Inc., 276 F. Supp. 2d 72, 74 (D.D.C. 2003)
(citing Crane v. N.Y. Zoological Soc’y, 894 F.2d 454, 456 (D.C. Cir. 1990)). In other words,
“the plaintiff must make a prima facie showing of the pertinent jurisdictional facts.” First
Chicago Int’l v. United Exchange Co., 836 F.2d 1375, 1378 (D.C. Cir. 1988). Specifically, the
plaintiff “must allege specific acts connecting the defendant with the forum, and . . . the bare
allegation of conspiracy or agency is insufficient to establish personal jurisdiction.” Id. at 1378-
79 (internal quotation marks, citations, and alteration omitted); see also Second Amendment
Found. v. U.S. Conference of Mayors, 274 F.3d 521, 524 (D.C. Cir. 2001). Bare allegations and
conclusory statements are insufficient. Atlantigas Corp. v. Nisource, Inc., 290 F. Supp. 2d 34, 42
(D.D.C. 2003).
In determining whether a factual basis for personal jurisdiction exists, a court
should resolve all factual discrepancies in the record in favor of the plaintiff. Crane, 894 F.2d at
456. However, the court need not treat all of the plaintiff’s allegations as true. United States v.
Philip Morris Inc., 116 F. Supp. 2d 116, 120 n.4 (D.D.C. 2000). Instead, a court “may receive
10
and weight affidavits and any other relevant matter to assist it in determining the jurisdictional
facts.” Id. (internal quotation marks and citation omitted).
C. Motion to Dismiss Under Rule 12(b)(6)
A motion to dismiss for failure to state a claim pursuant to Federal Rule of Civil
Procedure 12(b)(6) challenges the adequacy of a complaint on its face. Fed. R. Civ. P. 12(b)(6).
A complaint must be sufficient “to give a defendant fair notice of what the . . . claim is and the
grounds upon which it rests.” Bell Atl. Corp. v. Twombly, 550 U.S. 544, 555 (2007) (internal
citations omitted). Although a complaint does not need detailed factual allegations, a plaintiff=s
obligation to provide the grounds of his entitlement to relief “requires more than labels and
conclusions, and a formulaic recitation of the elements of a cause of action will not do.” Id. A
court must treat the complaint=s factual allegations as true, “even if doubtful in fact,” id., but a
court need not accept as true legal conclusions set forth in a complaint, see Ashcroft v. Iqbal, 556
U.S. 662, 678 (2009). To survive a motion to dismiss, a complaint must contain sufficient
factual matter, accepted as true, to state a claim for relief that is “plausible on its face.”
Twombly, 550 U.S. at 570. A complaint must allege sufficient facts that would allow the court
“to draw the reasonable inference that the defendant is liable for the misconduct alleged.” Iqbal,
556 U.S. at 678-79. In deciding a motion under Rule 12(b)(6), a court may consider the facts
alleged in the complaint, documents attached to the complaint as exhibits or incorporated by
reference, and matters about which the court may take judicial notice. Abhe & Svoboda, Inc. v.
Chao, 508 F.3d 1052, 1059 (D.C. Cir. 2007).
11
III. ANALYSIS
A. Subject Matter Jurisdiction
Plaintiffs allege tort claims of intentional and negligent spoliation. They assert
that this Court has jurisdiction over the instant case pursuant to 28 U.S.C. § 1331. Compl. ¶ 1.
They also assert that the Court has supplemental jurisdiction over “any state law claims”
pursuant to 28 U.S.C. § 1367. Id. However, the Complaint does not state any claim arising
under federal law. In fact, Plaintiffs’ spoliation claims are pure state-law torts.
1. Federal Question Jurisdiction
Federal question jurisdiction exists when a plaintiff’s claim arises under federal
law. See 28 U.S.C. § 1331 (“The district courts shall have original jurisdiction of all civil actions
arising under the Constitution, laws, or treaties of the United States.”). Generally, “a suit arises
under the law that creates the cause of action.” Borg-Warner Protective Servs. Corp. v. EEOC,
245 F.3d 831, 833 (D.C. Cir. 2001) (quoting American Well Works Co. v. Layne & Bowler Co.,
241 U.S. 257, 260 (1916)). In other words, a plaintiff must assert that “a federally ordained rule
specifically creates his cause of action.” Id. (internal quotation marks omitted).
Federal question jurisdiction may also exist over a state law claim when “a well-
pleaded complaint establishes . . . that the plaintiff’s right to relief necessarily depends on
resolution of a substantial question of federal law.” Bender v. Jordan, 623 F.3d 1128, 1130
(D.C. Cir. 2010) (citation and internal quotation marks omitted); see also Grable & Sons Metal
Prods., Inc. v. Darue Eng’g & Mfg., 545 U.S. 308 (2005). Moreover, a “substantial question of
federal law” exists “if a federal issue is: (1) necessarily raised, (2) actually disputed, (3)
substantial, and (4) capable of resolution in federal court without disrupting the federal-state
balance approved by Congress.” Gunn v. Minton, 133 S. Ct. 1059, 1065 (2013). This test, also
12
known as the Grable exception, is “extremely rare,” id., and applies to a “special and small
category” of cases. Empire Healthcare Assurance, Inc. v. McVeigh, 547 U.S. 677, 699 (2006).
According to Plaintiffs, federal question jurisdiction exists because “the resolution
of the underlying claims herein involves [the] application of the [Exchange Act].” Compl. ¶ 1.
This proposition is untenable. The Exchange Act governs securities regulation, as well as the
role of SROs, such as FINRA. It does not provide a right of action for common-law torts, such
as spoliation claims. See In re Series 7 Broker Qualification Exam Scoring Litigation, 548 F.3d
110 (D.C. Cir. 2008) (holding that the Exchange Act does not provide a right of action for suits
against an SRO like FINRA for torts committed in connection with its regulatory duties). The
resolution of Plaintiffs’ claims for monetary and injunctive relief does not involve the Exchange
Act. Therefore, the Complaint’s reliance on this statute is unfounded.
In their Oppositions, Plaintiffs also argue that federal question jurisdiction exists
because FINRA and Smarsh violated a series of criminal obstruction of justice statutes, 18
U.S.C. §§ 1512(c), 1519, as well as federal record-keeping rules, 17 C.F.R. § 2140.17a-
4(f)(2)(ii)(A). The argument is also meritless. Without doubt, Plaintiffs do not have a private
right of action to enforce these laws. See, e.g., RJ Prod. Co. v. Nestle USA, Inc., 2010 WL
1506914, at *2 n.1 (D.D.C. Apr. 15, 2010) (holding that since criminal statutes under Chapter 18
of the United States Code “do not provide for private causes of action, they cannot be used to
grant plaintiff access to federal courts”); Peavey v. Holder, 657 F. Supp. 2d 180, 190-91 (D.D.C.
2009) (stating that no private right of action exists to enforce the federal criminal code,
particularly §§ 1512 and 1519); see also In re Series 7, 548 F.3d at 114 (holding that there is no
private right of action against FINRA for violation of its own rules).
13
Also, these laws do not contemplate lawsuits for tort spoliation claims. In fact,
none of these laws applies to Defendants. Section 1512(c) criminalizes the destruction of
evidence “with the intent to impair . . . [its] integrity or availability for use in an official
proceeding.” 18 U.S.C. § 1512(c)(1); see also id. § 1515(a)-(d) (defining “official proceeding”
as a proceeding before a federal judge or grand jury, Congress, a federal agency, or an agent or
agency involved in the regulation of insurance). Similarly, § 1519 criminalizes the destruction of
evidence “with the intent to impede the investigation or proper administration of any matter
within the jurisdiction of any department or agency of the United States.” 18 U.S.C. § 1519.
Since FINRA disciplinary proceedings do not take place before a federal judge, grand jury,
Congress or a federal agency, they are not “official proceedings” within the meaning of §
1512(c). See 18 U.S.C. §§ 1512(c), 1515(a)-(d). Also, FINRA is a private entity and not a
“department or agency of the United States” within the meaning of § 1519. See McGinn, Smith
& Co., Inc. v. FINRA, 786 F. Supp. 2d 139, 147 (D.D.C. 2011) (“Courts have repeatedly held
that FINRA is a private entity and not a government functionary.”) (citation omitted).
Consequently, these laws do not apply to the instant case.
Similarly, Plaintiffs’ reliance on federal record-keeping rules is misplaced. See
17 C.F.R. § 2140.17a-4(f)(2)(ii)(A). Aside from the obvious fact that SEC Rule 17a-4 does not
create a right of action to raise the spoliation claims at bar, the Rule does not apply here. This
Rule requires each “member, broker and dealer” to “maintain and preserve” certain records and
provides that such records may be “produced or reproduced . . . by means of ‘electronic storage
media’” that “[p]reserve[s] the records exclusively in a non-rewritable, non-erasable format.” Id.
§§ 240.17a-4(e), (f)(2)(ii)(A). The Rule also provides that any “agreement with an outside entity
shall not relieve such member, broker, or dealer from the responsibility to prepare and maintain
14
records as specified in this section . . . .” Id. § 240.17a-4(f)(i). The text of the Rule makes clear
that the responsibility to prepare and maintain records applies only to a “member, broker, or
dealer,” such as Plaintiffs, and not a private contractor who may have failed. Id. Plaintiffs may
not rely on the Rule to assert their spoliation claims against Defendants.
Plaintiffs also cite the Administrative Procedure Act (APA), 5 U.S.C. § 551 et
seq., and records-management provisions at 44 U.S.C. §§ 3101 and 3106, as possible sources of
federal question jurisdiction. Plaintiffs’ reliance on these statutes is equally flawed. With
respect to the APA, Plaintiffs do not seek formal review of any agency regulation or
adjudication. More importantly, the APA does not apply to SROs such as FINRA because
FINRA is not an “agency” within the meaning of the statute. See Matter of Frank L. Palumbo,
52 S.E.C. 467, 475 (1995) (“We have repeatedly noted that the [APA] does not apply to self-
regulatory organizations such as the NASD.”). Similarly, §§ 3101 and 3106 prescribe the
records management obligations of federal government agencies and do not apply to SROs such
as FINRA. See 44 U.S.C. §§ 3101, 3106 (requiring “the head of each Federal agency” to
preserve records and report any attempt to destroy such records).
Since Plaintiffs cannot point to a federal statute that creates a right of action for
the spoliation claims at bar, the Court must determine whether this is one of those “extremely
rare” cases that involves a “substantial question of federal law.” Gunn, 133 S. Ct. at 1065.
Plaintiffs urge the Court to recognize a federal tort of spoliation in the instant case. According to
Plaintiffs, there should be a civil remedy for spoliation of evidence and the use of such evidence
in federal agency proceedings. Furthermore, Plaintiffs argue that such a remedy is necessary
because: (1) Defendants do business across the United States; (2) there is a “national interest for
juridical consistency, regulatory accountability and operational integrity within support services
15
provided in the financial and securities markets in which Defendants FINRA and Smarsh are
regularly engaged;” (3) a civil remedy in this context would deter wrongful conduct; (4)
American jurisprudence favors both monetary and injunctive relief as possible tort remedies; (5)
“destruction of evidence is harmful to the parties depending upon it;” and (6) there are multiple
jurisdiction involved in the instant case. Pls. Opp’n to FINRA’s MTD at 12-13.
Plaintiffs’ arguments fail for various reasons. First, as earlier explained, FINRA
disciplinary proceedings are not “federal agency proceedings.” Marchiano v. Nat’l Ass’n of
Securities Dealers, Inc., 134 F. Supp. 2d 90, 95 (D.D.C. 2001) (noting that every court has held
that NASD is not a state actor). Second, there is no federal issue central to this case. The
resolution of Plaintiffs’ spoliation claims does not involve any interpretation or consideration of
a federal statute or rule. Moreover, the adjudication of said claims is “fact-bound and situation-
specific,” and does not involve a “pure issue of law that could be settled once and for all and
thereafter would govern numerous cases.” Bender, 623 F.3d at 1130 (quoting Empire, 547 U.S.
at 700-01)) (internal quotation marks omitted). A “fact-bound and situation-specific case,” such
as the immediate suit, generally does not raise legal issues of central importance to the “federal
system as a whole,” Gunn, 133 S. Ct. at 1066, and this one does not. Additionally, Plaintiffs
have failed to show a “significant conflict between some federal policy or interest and the use of
state law.” O’Melveny & Myers v. FDIC, 512 U.S. 75, 79 (1994). The Court is constrained to
conclude that this case does not present a “substantial question of federal law.” Bender, 623
F.3d at 1130.
In the absence of a federal statute providing a right of action or a substantial
question of federal law, it follows that Plaintiffs’ spoliation claims do not arise under federal law.
Id. Consequently, the Court does not have federal question jurisdiction under § 1331 over
16
Plaintiffs’ claims. Without § 1331 jurisdiction, there is no supplemental jurisdiction under 28
U.S.C. § 1367. See Campbell v. American Int’l Grp. Inc., 926 F. Supp. 2d 178, 182 (D.D.C.
2013), aff’d 760 F.3d 62 (D.C. Cir. 2014).
2. Diversity Jurisdiction
Smarsh contends that Plaintiffs’ claims must be dismissed because the Complaint
failed to establish the Court’s subject matter jurisdiction. However, noticeably absent from the
parties’ briefs is any discussion of the Court’s diversity jurisdiction under 28 U.S.C. § 1332. 5
District courts have original diversity jurisdiction over civil actions when: (1) the matter in
controversy exceeds $75,000, without considering interest and costs; and (2) when the
citizenship of each plaintiff is different from the citizenship of each defendant. 28 U.S.C.
§ 1332(a).
In the instant case, the record clearly establishes that diversity jurisdiction exists
over Plaintiffs’ claims. The amount in controversy easily exceeds the statutory requirement, see
Compl. at 29, and there is complete diversity of citizenship between the parties. See id. ¶¶ 3-6
(indicating that: (1) Mr. North is a resident of Connecticut; (2) Mr. Pompeo is a resident of
Massachusetts; (3) FINRA is a private not-for-profit corporation headquartered in Washington,
D.C.; and (4) Smarsh is a corporation with its principal place of business and headquarters in
5
Strangely, Plaintiffs mention in passing that “the jurisdiction of this court is not based upon
diversity . . . .” Pls. Opp’n to FINRA’s MTD at 12. In the same way that “parties cannot
stipulate to jurisdiction where none exists,” see Matheson v. Progressive Specialty Ins. Co., 319
F.3d 1089, 1090 (9th Cir. 2003), it is also clear that “a plaintiff cannot draft a complaint in a
manner that divests a federal district court of jurisdiction that unquestionably exists.” Santos v.
America Cruise Ferries, Inc., No. 13-cv-1537, 2015 WL 1212115 at *3 (D.P.R. March 17,
2015). Since the Court has an independent duty to determine its jurisdiction, the Court will
proceed without regard to Plaintiffs’ assertion. See Settles, 429 F.3d at 1107.
17
Oregon); see also FINRA’s MTD at 10 (explaining that FINRA is a private not-for-profit
incorporated in Delaware) and Page Decl. ¶ 2 (explaining that Smarsh is a private corporation
incorporated in New York and headquartered in Oregon). Since the jurisdictional requirements
of § 1332 are met, Plaintiffs’ spoliation claims would have to arise under state law. See Compl.
¶ 70 (citing Holmes v. Amerex Rent-A-Car, 710 A.2d 846, 848 (D.C. 1998)) (recognizing a claim
of third-party negligent or reckless spoliation as a tort action under District of Columbia law).
B. Smarsh’s Motion to Dismiss
Plaintiffs seek both injunctive and monetary relief against Smarsh for spoliating
the ESI that was produced to FINRA. Compl. at 29. Specifically, Plaintiffs assert claims of
intentional or grossly negligent spoliation, as well as negligent spoliation, against Smarsh. Id.
¶¶ 68-103. They also seek punitive damages. Id. at 29. Smarsh moves to dismiss the Complaint
for lack of personal jurisdiction under Federal Rule of Civil Procedure 12(b)(2) and failure to
state a claim upon which relief can be granted under Federal Rule of Civil Procedure 12(b)(6).
The Court holds that it does not have personal jurisdiction over Smarsh. Therefore, the Court
will not address Smarsh’s Rule 12(b)(6) argument and will dismiss Plaintiffs’ claims against
Smarsh without prejudice.
1. Personal Jurisdiction
To establish personal jurisdiction over Smarsh, a non-resident defendant,
Plaintiffs must show that: (1) “jurisdiction is applicable under the state’s long-arm statute” and
(2) “a finding of jurisdiction satisfies the constitutional requirements of due process.” Thompson
Hine LLP v. Taieb, 734 F.3d 1187, 1189 (D.C. Cir. 2013) (quoting GTE New Media Servs., Inc.
v. BellSouth Corp., 199 F.3d 1343, 1347 (D.C. Cir. 2000)). Also, Plaintiffs “must rely on D.C.
law to sue nonresident defendants, since no federal long-arm statute applies.” Edmond v. U.S.
Postal Serv. Gen’l Counsel, 949 F.2d 415, 424 (D.C. Cir. 1991). In other words, Plaintiffs must
18
establish that D.C. law authorizes the Court to exercise either general or specific jurisdiction over
Smarsh –– a New York corporation with its principal place of business and headquarters in
Oregon.
i. General Jurisdiction
“District of Columbia law . . . permits courts to exercise ‘general jurisdiction’
over a foreign corporation as to claims not arising from the corporation’s conduct in the District
if the corporation is ‘doing business’ in the District.” Gorman v. Ameritrade Holding Corp., 293
F.3d 506, 509 (D.C. Cir. 2002) (citing D.C. Code § 13-334 (a)). According to the District of
Columbia Court of Appeals, “the reach of ‘doing business’ jurisdiction under § 13-334(a) is
coextensive with the reach of constitutional due process.” Id. at 510 (citing Hughes v. A.H.
Robins Co., 490 A.2d 1140, 1148 (D.C. 1985)). This means that general jurisdiction “is only
permissible if the defendant’s business contacts with the forum district are ‘continuous and
systematic.’” Id. at 509-510 (quoting Helicopteros Nacionales de Colombia, S.A. v. Hall, 466
U.S. 408, 415 (1984)).
The record demonstrates that Smarsh has no offices, data centers, servers,
employees or agents in the District of Columbia. Page Decl. ¶ 3. In fact, none of the company’s
operations is conducted in the District. Id. According to Bonnie Page, Smarsh’s General
Counsel, Smarsh earned $35 million in 2014, of which only $180,438 came from the District of
Columbia. Id. ¶ 6. The D.C. revenue only represented 0.05% of Smarsh’s overall business. Id.
Plaintiffs generally argue that “the existence of a revenue stream referenced by Ms. Page
strongly suggests meaningful, affirmative commercial undertakings, marketing activities, and
direct solicitation of business in the District of Columbia sufficient to satisfy general
19
jurisdictional requirements.” Pls. Opp’n to Smarsh’s MTD [Dkt. 15] at 13. The argument is
devoid of substance.
“It is not enough to merely mention a possible argument in the most skeletal way,
leaving the court to do counsel’s work, create the ossature for the argument, and put flesh on its
bones.” See United States v. Zannino, 895 F.2d 1, 17 (1st Cir. 1990). Plaintiffs fail to allege any
facts indicating that Smarsh’s business contacts with the District are “continuous and
systematic.” See El-Fadr v. Cent. Bank of Jordan, 75 F.3d 668, 675 (D.C. Cir. 1996) (holding
that “isolated and sporadic contacts unrelated to the claims in the instant case” are insufficient to
establish general jurisdiction). Also, since Plaintiffs did not serve Smarsh with summons in the
District of Columbia, they cannot invoke § 13-334 (a) as the basis of personal jurisdiction in the
instant case. See Gorman, 293 F.3d at 514 (quoting Everett v. Nissan Motor Corp., 628 A.2d
106, 108 (D.C. 1993)) (“Where the basis for obtaining jurisdiction over a foreign corporation is §
13-334 (a), . . . a plaintiff who serves the corporation . . . outside the District is ‘foreclosed from
benefitting from [the statute’s] jurisdictional protection.’”). Therefore, the Court holds that
Smarsh is not subject to the Court’s general jurisdiction as authorized by D.C. law and the Due
Process Clause.
ii. Specific Jurisdiction
Since general jurisdiction is not available, the Court must decide if it has specific
jurisdiction over Smarsh. District of Columbia law authorizes “so-called ‘specific jurisdiction’
over a person for claims arising from the person’s ‘transacting any business’ in the District.” Id.
at 509 (citing D.C. Code § 13-423(a)(1)). It is well-established that “the ‘transacting any
business’ clause has been interpreted to provide jurisdiction to the full extent allowed by the Due
20
Process Clause.” United States v. Ferrara, 54 F.3d 825, 828 (D.C. Cir. 1995). 6 This means that
“the statutory and constitutional jurisdictional questions, which are usually distinct, merge into a
single inquiry: would exercising personal jurisdiction accord with the demands of due process?”
Thompson Hine, 734 F.3d at 1189 (citing Ferrara, 54 F.3d at 828).
Due process requires “‘minimum contacts’ between the defendant and the forum
‘such that he should reasonably anticipate being haled into court there.’” Id. (quoting
International Shoe Co. v. Washington, 326 U.S. 310, 316 (1945); World-Wide Volkswagen Corp.
v. Woodson, 444 U.S. 286, 297 (1980)). “Such minimum contacts must show that “the defendant
purposefully avail[ed] [him]self of the privilege of conducting activities within the forum State,
thus invoking the benefits and protections of its laws.” Id. (quoting Hanson v. Denckla, 357 U.S.
253, 253 (1958)). Furthermore, these minimum contacts are necessary to make sure that “the
maintenance of the suit does not offend ‘traditional notions of fair play and substantial justice.’”
International Shoe, 326 U.S. at 316 (citations omitted); see also Crane v. New York Zoological
Society, 894 F.2d 454, 455-56 (D.C. Cir. 1990).
The record does not support a finding that Plaintiffs’ spoliation claims arise out
Smarsh’s minimum contacts with the District. In fact, Plaintiffs concede that Smarsh’s contracts
with Southridge and Ocean Cross were negotiated, signed, executed, and performed outside of
the District of Columbia. See Pls. Opp’n to Smarsh’s MTD at 11; see also Page Decl. ¶ 3
(explaining that “Smarsh’s protocols and processes relating to the Southridge and Ocean Cross
6
While the District of Columbia is not a “state” for purposes of the Fourteenth Amendment’s
Due Process Clause, due process has been incorporated into the Fifth Amendment of the
Constitution, which does apply here. See Ins. Corp. of Ireland v. Compagnie des Bauxites de
Guinee, 456 U.S. 694, 702 (1982) (“The requirement that a court have personal jurisdiction
flows not from Art. III, but from the Due Process Clause.... It represents a restriction on judicial
power not as a matter of sovereignty, but as a matter of individual liberty.”); see also Ferrara, 54
F.3d at 832-33 (Silberman, J., concurring).
21
archiving and subscription services were not set up in the District of Columbia”). Plaintiffs’ only
argument is that because Smarsh delivered the spoliated ESI to FINRA, which is headquartered
in the District of Columbia, and because Smarsh employees voluntarily participated in FINRA
hearings, it must be that Smarsh purposefully availed itself to the Court’s jurisdiction as
authorized by § 13-423(a)(1). The Court disagrees.
Plaintiffs’ claims against Smarsh arise out of the alleged intentional or negligent
spoliation of the ESI produced to FINRA. Since “Smarsh’s protocols and processes relating to
the Southridge and Ocean Cross archiving and subscription services were not set up in the
District of Columbia,” see Page Decl. ¶ 3, it cannot be that Plaintiffs’ spoliation claims arise out
of any business transacted in the District. See Gorman, 293 F.3d at 509 (holding that “specific
jurisdiction” is not available where the claim “does not arise out of any business transacted
between the parties in the District . . . .”). Plaintiffs do not argue otherwise. The fact that
Smarsh’s employees participated in FINRA hearings is beside the point. This participation, as
well as the location of FINRA’s headquarters, has nothing to do with the alleged spoliation of the
ESI. In fact, since the employees’ participation in the underlying proceedings took place well
after the alleged spoliation was committed, Plaintiffs’ spoliation claims “could not have arisen
out of” the employees’ participation. Richter v. Analex Corp., 940 F. Supp. 353, 359 (D.D.C.
1996). 7 Similarly, the production of allegedly spoliated ESI to FINRA cannot be the basis for
specific jurisdiction because said production occurred after the alleged spoliation was committed
7
It is worth noting that Smarsh’s employees never physically entered D.C. to participate in
FINRA hearings or proceedings. Instead, they testified by telephone while they were located in
Oregon. Plaintiffs do not argue otherwise. See Pls. Opp’n to FINRA’s MTD at 12 n. 10. (“The
November 5 and 25, 2015 telephonic hearing participants were located in Oregon (Smarsh),
Virginia (Plaintiffs’ counsel), and the District of Columbia (the hearing officer).”). In fact, the
physical proceedings occurred outside of the District –– in Boston, New York, and New Orleans.
See id., Ex. 5 and 9 (Southridge Hr’g. Tr. Excerpts); id., Ex. 8 (Ocean Cross Hr’g. Tr. Excerpts).
22
and because it was incidental to Smarsh’s primary relationship with its former customers in
Connecticut. See id. (finding the mailing of documents to a law firm in the District to be
insufficient to satisfy the due process standard of minimum contacts and purposeful availment);
see also Cellutech, Inc. v. Centennial Cellular Corp., 871 F. Supp. 46, 49-50 (D.D.C. 1996)
(finding defendant’s filings with the SEC in the District, as well as contacts by phone and
interstate courier service with attorney in the District, to be insufficient to establish jurisdiction).
Finally, Plaintiffs urge the Court to exercise personal jurisdiction over Smarsh
because of the important public policy considerations involved in the instant case. Among these
considerations –– most of which are irrelevant –– are a “national concern regarding a federally
regulated industry” and a “national interest of juridical consistency, regulatory accountability and
operational integrity . . . in the financial and securities markets in which . . . Smarsh is regularly
engaged.” Pls. Opp’n to Smarsh’s MTD at 14. Without demeaning these “public policy
considerations,” the Court cannot ignore the constitutional and statutory limits to its jurisdiction.
Since Plaintiffs have failed to show that their claims arise out of any business transacted in the
District, the Court will dismiss the Complaint against Smarsh without prejudice.
C. FINRA’s Motion to Dismiss
Plaintiffs seek both injunctive and monetary relief against FINRA for relying on
the alleged spoliated evidence to prosecute them. While this Court has original diversity
jurisdiction over the case, it lacks jurisdiction to review or enjoin FINRA’s disciplinary actions
and proceedings. In addition, FINRA is absolutely immune from suit for its regulatory acts.
Consequently, the Court must dismiss Plaintiffs’ claims against FINRA.
1. Injunctive Relief
The Exchange Act establishes a mandatory process for resolving FINRA
disciplinary actions. Marchiano, 134 F. Supp. 2d at 92. That process does not contemplate the
23
involvement of federal district courts. Id. at 92, 94-95. The D.C. Circuit has clearly held that
“where a statute commits review of agency action to the Court of Appeals, any suit seeking relief
that might affect the Circuit Court's future jurisdiction is subject to the exclusive review of the
Court of Appeals.” Telecommunications Research and Action Center v. F.C.C., 750 F.2d 70, 75
(D.C.Cir.1984) (TRAC)). Pursuant to TRAC, a district court does not have jurisdiction to review
or enjoin FINRA’s disciplinary actions if: (1) the relevant statute “commits review to the Court
of Appeals”; and (2) “the action seeks ‘relief that might affect the Circuit Court's future
jurisdiction.’” Marchiano, 134 F. Supp. 2d at 93 (quoting TRAC, 750 F.2d at 75). Both factors
are satisfied in the instant case.
First, it is clear that FINRA’s disciplinary actions against Plaintiffs originate from
the authority delegated by the Exchange Act, see 15 U.S.C. § 78a et seq. The Exchange Act
provides that a person aggrieved by a final disciplinary action can appeal the FINRA Hearing
Panel’s order to the NAC, then to the SEC, and ultimately to the relevant Circuit Court of
Appeals or to this Circuit. See 15 U.S.C. §§ 78s, 78y; see also Marchiano, 134 F. Supp. 2d at
93. Since the Exchange Act “vests jurisdiction in a particular court” –– namely, the Circuit
Courts of Appeals –– it follows that the statute “cuts off original jurisdiction” in this Court.
TRAC, 750 F.2d at 77; In re Series 7, 548 F.3d at 114 (stating that the Exchange Act’s “multiple
layers of review evince Congress’[s] intent to direct challenges . . . to the avenues Congress
created”).
Second, Plaintiffs’ plea to enjoin FINRA proceedings would prevent the Hearing
Panel from issuing a final disciplinary order against Mr. North. The disciplinary proceedings
against Mr. North have not concluded, and “[w]ithout a final [FINRA] order, there would be no
review by the Court of Appeals.” Marchiano, 134 F. Supp. 2d at 93 (citing Ohio Edison Co. v.
24
Zech, 701 F. Supp. 4, 7 (D.D.C. 1988); Jamison v. Federal Trade Commission, 628 F. Supp.
1548, 1551 (D.D.C. 1986)). An injunction would prevent the Circuit from reviewing FINRA’s
evidentiary determinations concerning the relevance of Mr. North’s spoliation allegations and
related expert testimony. See id.
Plaintiffs’ claim that FINRA has relied on spoliated evidence constitutes a
collateral attack on the validity of the underlying disciplinary actions –– namely, Mr. Pompeo’s
AWC and FINRA’s enforcement proceedings against Mr. North. Before this Court, Plaintiffs
are “effectively challenging the manner in which FINRA has decided to investigate and conduct
disciplinary hearings against them.” McGinn, Smith, 786 F. Supp. 2d at 146. Under TRAC,
Plaintiffs are barred from launching such collateral attacks because they “almost certainly
implicate[ ] issues that would be addressed by the Court of Appeals upon final review of
FINRA’s ruling.” Id. (citing Ohio Edison, 701 F. Supp. at 6). Since the Exchange Act grants
exclusive jurisdiction to a U.S. Court of Appeals, this Court lacks jurisdiction under TRAC in the
instant case to grant Plaintiffs’ request for injunctive relief. See Air Line Pilots Ass'n, Int'l v.
Civil Aeronautics Board, 750 F.2d 81, 88 (D.C. Cir. 1984) (holding that the district court lacked
TRAC jurisdiction to review collateral attacks, such as whether the agency was biased against the
plaintiff). 8
Plaintiffs fail to advance any arguments concerning the Court’s possible lack of
jurisdiction under TRAC. Instead, they merely argue that they should not be required to
complete the Exchange Act’s multiple layers of review because, inter alia, review is futile and
inadequate. However, Plaintiffs conflate TRAC’s two-prong analysis with the Exchange Act’s
8
Whether Plaintiffs seek to enjoin the proceedings as a whole or just the use of the alleged
spoliated evidence, this Court does not have jurisdiction to intervene in FINRA’s disciplinary
proceedings.
25
requirement that aggrieved persons must exhaust their administrative remedies. See Marchiano,
134 F. Supp. at 93-94 (distinguishing the jurisdictional bar under TRAC from the Exchange Act’s
exhaustion requirement); see also Swirsky v. Nat’l Ass’n of Secs. Dealers, Inc., 124 F.3d 59, 61
(1st Cir. 1997) (requiring plaintiffs to exhaust the Exchange Act’s “process of both
administrative and judicial review of disciplinary proceedings”).
This Court’s lack of jurisdiction under TRAC is independent from Plaintiffs’
failure to exhaust their administrative remedies. Even if Plaintiffs had exhausted their remedies
–– which they did not –– TRAC makes clear that Plaintiffs still would not be able to raise their
spoliation claims before this Court. 9 TRAC’s jurisdictional bar does not depend on the alleged
futility or inadequacy of the administrative process. Congress expressly vested federal circuit
courts with original exclusive jurisdiction to review or enjoin FINRA’s disciplinary actions. Mr.
North presumably knew this when he petitioned the U.S. Court of Appeals for the District of
Columbia Circuit for mandamus relief. Merely because that petition failed does not mean that
9
Mr. North’s failure to exhaust the Exchange Act’s administrative procedures “render[s] the
district court without jurisdiction to entertain the suit.” First Jersey Secs., Inc. v. Bergen, 605
F.2d 690, 700 (3d Cir. 1979), cert. denied, 444 U.S. 1074 (1980). In the instant case, FINRA has
not issued a final decision as to Mr. North. Consequently, Mr. North has not even concluded the
first step of the Exchange Act’s administrative process. Mr. Pompeo settled the allegations
against him. In doing so, Mr. Pompeo waived his right to defend against the allegations made by
FINRA. Even if Mr. Pompeo could still challenge the AWC, the Exchange Act clearly indicates
that this Court does not have jurisdiction to consider such a challenge. See Swirsky, 124 F.3d at
59-60 (rejecting collateral attack by broker who challenged his settlement with NASD). The
Court is not persuaded that any of the exceptions to the Exchange Act’s exhaustion requirement
applies in the instant case. See Marchiano, 134 F. Supp. 2d at 94-95 (dismissing suit for lack of
TRAC jurisdiction and, in the alternative, for failure to exhaust administrative remedies).
Plaintiffs’ arguments regarding the futility and inadequacy of the administrative remedies are not
pertinent to the Court’s holding that it has no jurisdiction under TRAC in the instant case.
26
Mr. North can circumvent the explicit avenues for review that Congress directed. This Court
simply does not have jurisdiction to entertain Plaintiffs’ request for injunctive relief. 10
i. Dismissal or Transfer Under 28 U.S.C. § 1631
Since the Court lacks jurisdiction over Plaintiffs’ prayer for injunctive relief, it
must determine whether “it is in the interest of justice to transfer this action to the appropriate
Court of Appeals in lieu of dismissing it.” McGinn, Smith, 786 F. Supp. 2d at 146 (citing 28
U.S.C. § 1631); see also TRAC, 750 F.2d at 79 (“Because the precedent in this circuit may have
implied that the District Court has concurrent jurisdiction over claims concerning nonfinal
agency action, . . . [w]e assume that, rather than dismiss these suits for want of jurisdiction, the
District Court will transfer them to this court under [§ 1631].”). In determining whether transfer
is in the interest of justice, the Court can consider various factors, such as the “likelihood of
success on the merits and irreparable harm.” McGinn, Smith, 786 F. Supp. 2d at 147. In fact,
“by taking a ‘peek at the merits,’” the Court can “avoid raising false hopes and wasting judicial
resources that would result from transferring a case which is clearly doomed.” Haugh v. Booker,
210 F.3d 1147, 1150 (10th Cir. 2000) (quoting Phillips v. Seiter, 173 F.3d 609, 610-11 (7th Cir.
1999)).
10
The D.C. Circuit has recognized an exception to TRAC for constitutional claims. See Time
Warner Entertainment Co., L.P. v. F.C.C., 93 F.3d 957 (D.C. Cir. 1996). Under this narrow
exception, a plaintiff’s “constitutional challenge to the enabling statute by which the agency
acts” renders TRAC inapplicable. Marchiano, 134 F. Supp. at 94 (citation omitted); see also
Time Warner, 93 F.3d at 965 (noting that the constitutional claim exception applies to a
“constitutional challenge that is exclusively directed to the source of putative agency authority,”
as opposed to “a challenge to the manner in which the agency has exercised or . . . failed to
exercise that authority”). In the instant case, Plaintiffs do not allege that the Exchange Act ––
FINRA’s enabling statute –– is unconstitutional. See Marchiano, 134 F. Supp. at 94 (holding
that the exception did not apply because the plaintiff only asserted that NASD officials were
biased against him and exercised their authority in an unconstitutional manner). Therefore,
TRAC’s constitutional exception does not apply and this Court does not have jurisdiction to hear
Plaintiffs’ spoliation claims.
27
The Court first notes that Plaintiffs failed to recognize the relevance of TRAC, let
alone request the transfer of this action to the D.C. Circuit. In addition, “it appears that Plaintiffs
will have difficulty establishing a meritorious claim that could justify the extraordinary relief
they have requested.” McGinn, Smith, 786 F. Supp. 2d at 147. The claim of negligent spoliation
against FINRA requires Plaintiffs to establish the following seven elements:
(1) [t]he existence of a potential civil action; (2) a legal or
contractual duty to preserve evidence which is relevant to that
action; (3) destruction of that evidence by the duty-bound defendant;
(4) significant impairment in the ability to prove the potential action;
(5) a proximate relationship between the impairment of the
underlying suit and the unavailability of the destroyed evidence; (6)
a significant possibility of success of the potential civil action if the
evidence were available; and (7) damages adjusted for the estimated
likelihood of success in the potential civil action.
Cook v. Children’s Nat’l Medical Center, 810 F. Supp. 2d 151, 155 (D.D.C. 2011) (citing
Holmes, 710 A.2d at 854) (other citation omitted). With respect to the first required element, it
is well-established that District of Columbia law only recognizes the tort of negligent spoliation
when raised against a “third party.” Id. at 157. In other words, a claim of negligent spoliation
applies only to a third-party spoliator that has allegedly destroyed or tampered evidence that is
relevant to a plaintiff’s claim against a different person or entity. See id. at 157 n.3 (citing
Holmes, 710 A.2d at 848-49) (other citations omitted).
In the instant case, Plaintiffs do not allege “the existence of a potential civil action
in which [FINRA], the alleged spoliator, is not a party.” Id. at 159 (dismissing negligent
spoliation claim against an entity also being sued in a malpractice case). FINRA “cannot be a
third-party spoliator regardless of whether [P]laintiffs name other parties . . . .” Id. Simply put,
since FINRA is not a duty-bound, third-party spoliator within the meaning of Holmes, Plaintiffs
are highly unlikely to succeed on the merits of their negligent spoliation claim against it.
28
With respect to the issue of irreparable harm, Plaintiffs do not allege that there is a
risk of further spoliation. Mr. Pompeo already settled the allegations against him by entering
into an AWC with FINRA and the merits hearings in the Southridge and Ocean Cross
Proceedings against Mr. North have already concluded. Also, Mr. Pompeo does not explain how
he would be irreparably harmed if the Court does not enjoin the pending proceedings against Mr.
North. In terms of concrete damages, Plaintiffs complain that they have incurred significant
litigation expenses in responding to FINRA’s disciplinary proceedings. Nonetheless, “courts
have uniformly recognized that ‘[m]ere litigation expense, even substantial and unrecoupable
cost, does not constitute irreparable injury.’” McGinn, Smith, 786 F. Supp. 2d at 147 (quoting
Renegotiation Bd. v. Bannercraft Clothing Co., 415 U.S. 1, 24 (1974)). They also allege
without specificity that FINRA’s alleged negligent spoliation has resulted in retribution, as well
as loss of gainful employment and professional reputation. See Compl. ¶¶ 62, 64-65. The Court
recognizes that these damages could rise to the level of irreparable injury. However, FINRA has
not issued a final disciplinary action against Mr. North and some of the charges in the Southridge
and Ocean Cross Proceedings –– i.e., whether Mr. North reviewed sufficient electronic
correspondence as required by securities laws and regulations –– have nothing to do with the
content of the spoliated ESI. Therefore, it is unclear how enjoining FINRA from using spoliated
ESI against Mr. North would avoid the alleged harms.
After reviewing the potential merits of Plaintiffs’ negligent spoliation claim and
allegations of irreparable harm, the Court finds that it is not in the interest of justice to transfer
Plaintiffs’ action to the Court of Appeals. The Court will dismiss Plaintiffs’ prayer for injunctive
relief without prejudice for lack of subject matter jurisdiction.
29
2. Monetary relief
Plaintiffs also ask for damages for the alleged negligent spoliation of the ESI.
However, FINRA is “absolutely immune from suit for the improper performance of regulatory,
adjudicatory, or prosecutorial duties delegated by the SEC.” In re Series 7, 548 F.3d at 114; see
also Weissman v. NASD, 500 F.3d 1293, 1298 (11th Cir. 2007) (“Indeed, every case that has
found an SRO absolutely immune from suit has done so for activities involving an SRO’s
performance of regulatory, adjudicatory, or prosecutorial duties in the stead of the SEC.”). In
other words, FINRA cannot be liable for “claims arising out of the discharge of its duties under
the Exchange Act.” D’Alessio v. New York Stock Exchange, Inc., 258 F.3d 93, 105 (2d Cir.
2001), cert. denied, 534 U.S. 1066 (2001). The underlying rationale is that FINRA and other
SROs should not be held liable for acting under the authority delegated by the Exchange Act that
“encourage[s] forceful self-regulation of the securities industry.” Barbara v. New York Stock
Exchange, 99 F.3d 49, 59 (2d Cir. 1996); see also Sparta Surgical Corp. v. NASD, 159 F.3d
1209, 1215 (9th Cir. 1998) (“[W]hen Congress elected ‘cooperative regulation’ as the primary
means of regulating the over-the-counter market, the consequence was that self-regulatory
organizations had to enjoy freedom from civil liability when they acted in their regulatory
capacity.”).
Plaintiffs concede that FINRA is absolutely immune for its regulatory acts.
Nonetheless, Plaintiffs contend that FINRA is not entitled to immunity here because it engaged
in intentional tortious or criminal conduct. See Pls. Opp’n to FINRA’s MTD at 22 (arguing that
“[i]ntentional spoliation, alteration, and falsification of records are clearly not a regulatory,
adjudicatory, or disciplinary function” and that “there is no immunity that protects FINRA for
any actions that violate 18 U.S.C. §§ 1512(c) and 1519”). Even assuming arguendo that
30
Plaintiffs’ argument is correct, the Complaint only asserts a claim of intentional spoliation
against Smarsh, not FINRA. See Compl. at 29. Count I of the Complaint alleges that Smarsh,
not FINRA, intentionally spoliated the ESI. Compl. ¶¶ 68-85. Count III alleges that both
FINRA and Smarsh spoliated the ESI through simple negligence. Id. ¶¶ 90-93. Since the
Complaint does not allege any intentional conduct by FINRA, Plaintiffs’ argument has no merit.
Similarly, the argument that FINRA’s liability arises from its supposed criminal conduct also
fails because Plaintiffs cannot enforce the federal criminal code and because §§ 1512 and 1519
do not apply to FINRA. See supra Part III, Section A at 13-14.
FINRA does not exceed its delegated authority when it pursues disciplinary cases
against registered representatives in the securities industry. That is precisely what Congress
intended FINRA to do. See 15 U.S.C. § 78o-3; see also In re Series 7, 548 F.3d at 115. In the
instant case, FINRA acted pursuant to its statutorily delegated authority when it investigated
Plaintiffs, entered into an AWC with Mr. Pompeo, and conducted the ongoing disciplinary
proceedings against Mr. North. These actions fall squarely within FINRA’s regulatory and
prosecutorial functions. Furthermore, FINRA’s decisions to exclude expert testimony and reject
the spoliation allegations as irrelevant were nothing more than evidentiary decisions, subject to
appeal. 11 Accordingly, FINRA was acting within the scope of its delegated adjudicatory
11
On December 2, 2015, Plaintiffs filed a motion asking the Court to order the production of
digital records for examination. Pls. Mot. to Compel [Dkt. 28]. Plaintiffs contend that the
production of the digital records will allow the Court to “address the predicate issues of
jurisdiction raised by [Smarsh and FINRA] . . . .” Pls. Mem. in Supp. of Mot. to Compel [Dkt.
28-1] at 1. However, Plaintiffs fail to explain why such production is relevant to Defendants’
jurisdictional arguments. Plaintiffs’ request for limited discovery necessarily requires the Court
to step in and interfere with FINRA’s investigation, prosecution, and evidentiary decisions. No
production of any documents, however tampered with, could change the fact that: (1) this Court
lacks jurisdiction under TRAC over FINRA’s claim for injunctive relief; (2) FINRA is absolutely
immune from suit for the improper performance of its regulatory, prosecutorial, and adjudicatory
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authority. See FINRA’s MTD, Ex. 2 (FINRA Rule 9263) at 3. Finally, the Complaint does
allege that FINRA was misled by Smarsh and negligently relied on spoliated ESI to pursue the
underlying enforcement actions against Plaintiffs. Compl. ¶¶ 90-103. Nonetheless, at the very
most, these allegations only show that FINRA failed to properly perform its delegated functions.
Since FINRA is “absolutely immune from suit for the improper performance of . . . [its] duties,”
Plaintiffs cannot defeat immunity in the instant case. In re Series 7, 548 F.3d at 115 (affirming
the dismissal of a tort action against FINRA for admitted mistakes committed while
administering a securities licensing exam). Plaintiffs’ claim for monetary relief will be
dismissed with prejudice.
IV. CONCLUSION
For the foregoing reasons, the Court will grant both FINRA’s Motion to Dismiss,
Dkt. 6, and Smarsh’s Motion to Dismiss, Dkt. 9, and deny Plaintiffs’ Motion for Orders to
Produce Digital Records for Examination, Dkt. 28. In sum, the Court finds that it has no general
or specific jurisdiction over Smarsh. Accordingly, the Court will dismiss the Complaint against
Smarsh without prejudice for lack of in personam jurisdiction. With respect to Plaintiffs’
negligent spoliation claims against FINRA, the Court finds that TRAC divests the Court of
jurisdiction to entertain Plaintiffs’ prayer for injunctive relief. Moreover, since Plaintiffs are
unlikely to succeed on the merits of their claim and it is unclear that they will suffer irreparable
harm as a result of the continuation of the FINRA proceedings, the Court finds that transfer to
the D.C. Circuit is not in the interest of justice. The Court will dismiss Plaintiffs’ claim for
injunctive relief against FINRA without prejudice for lack of subject matter jurisdiction. The
acts; and (3) this Court lacks in personam jurisdiction over Smarsh. Accordingly, the Court will
deny Plaintiffs’ motion.
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Court also holds that FINRA is absolutely immune for its regulatory and prosecutorial acts and,
thus, will dismiss Plaintiffs’ claim for monetary relief against FINRA with prejudice. A
memorializing Order accompanies this Memorandum Opinion.
Date: December 4, 2015
/s/
ROSEMARY M. COLLYER
United States District Judge
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