In January 2008 the Supreme Court ruled that the "§10(b) implied private right of action does not extend to aiders and abettors." Stoneridge v. Scientific-Atlanta, 552 US 148 (2008). Sen. Christopher J. Dodd (D-Conn.)’s recently introduced Restoring American Financial Stability Act of 2009 contains a provision hidden on page 795 of 1,136 that amends Section 21D of the Securities Exchange Act of 1934 (15 U.S.C. 78u-4) to overrule Stoneridge. It provides:
(g) PRIVATE CIVIL ACTIONS.—For purposes of any private civil action implied under this title, any person that knowingly or recklessly provides substantial assistance to another person in violation of this title, or of any rule or regulation issued under this title, shall be deemed to be in violation of this title to the same extent as the person to whom such assistance is provided.
The proposed amendment 15 U.S.C. 78u-4 would allow plaintiffs to pursue secondary actors such as accountants, underwriters, lawyers, customers, and suppliers without having to prove they relied upon their statements or representations when purchasing or selling securities.1 The Stoneridge decision identified the reasons why eliminating reliance as an essential element of a private cause of action in order to create a private §10(b) cause of action for aiding and abetting is simply not a good idea. Dodd’s rejection of those reasons illustrates how destructive and dangerous the amendment would be to American business.
Stoneridge Investment Partners, LLC (Stoneridge) filed a class action on behalf of purchasers of stock in Charter Communications, Inc., a cable TV provider, seeking "to impose liability on entities who, acting both as customers and suppliers, agreed to arrangements that allowed the investors’ company to mislead its auditor and issue a misleading financial statement affecting the stock price,"2 which is exactly what the Dodd amendment would do.
Stoneridge alleged that Scientific-Atlanta, Inc. and Motorola, Inc., Charter suppliers and customers, participated in a scheme by Charter to violate §10(b). Realizing that it would not meet its quarterly projections for cable subscriber growth and operating cash flow, Charter allegedly arranged to overpay Scientific-Atlanta, Inc., and Motorola, Inc. for set-top boxes by $20, which would be then returned to Charter as payments for advertising. Stoneridge alleged that Scientific-Atlanta, Inc., and Motorola, Inc. "knew or were in reckless disregard of Charter’s intention to use the transactions to inflate its revenues and knew the resulting financial statements issued by Charter would be relied upon by research analysts and investors."
The district court dismissed the allegations for failure to state a claim on which relief can be granted. Concluding that the allegations failed to show that Scientific-Atlanta, Inc., and Motorola, Inc. made misstatements relied upon by the public or that they violated a duty to disclose, the Eighth Circuit affirmed. In a 5-3 majority opinion written by Justice Kennedy, the Supreme Court rejected the notion that Scientific-Atlanta, Inc. and Motorola, Inc.’s mere participation in Charter’s scheme violated §10(b). The Supreme Court rejected Stonebridge’s argument that the underlying scheme, itself, satisfied the required reliance element because in an efficient marketplace investors rely not just upon statements, but upon the transactions upon which the statements are based.3 In rejecting the notion of "scheme liability" the Stoneridge court ruled that the §10(b) implied private right of action did not extend to aiders and abettors and that liability of secondary actors could only be based upon satisfying each element of a §10(b) claim, including reliance.
The reasons stated by the Supreme Court for requiring proof of reliance as a prerequisite for liability of secondary actors predict the following consequences if Dodd’s amendment is enacted into law.
- Under Dodd’s amendment, participation in transactions that underlie public statements can be the basis of a securities violation absent a public statement with the result that the implied cause of action for aiding and abetting will extend to the entire marketplace in which the issuing company does business.
- The amendment "would expose a new class of defendants" to the risk that plaintiffs with weak claims might use the expense of extensive discovery and the potential for uncertainty and disruption that accompany lawsuits to extort settlements from innocent companies identified by the court in Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 740-741 (1975).4
- It will raise the cost of doing business in the United States and could deter foreign companies from doing business in the United States.5
Given these significant, predictable consequences of Senator Dodd’s amendment, one must question his judgment. Certainly, he is not committed to facilitating our country’s economic recovery. Instead, he sees himself as a sort of new populist who in that tradition points his finger at bankers as the new enemy around which his constituency, he hopes, will rally.6 But, in doing so, Dodd ignores what is best for business in the United States and its economy.
Endnotes
1 "In a typical § 10(b) private action a plaintiff must prove (1) a material misrepresentation or omission by the defendant; (2) scienter; (3) a connection between the misrepresentation or omission and the purchase or sale of a security; (4) reliance upon the misrepresentation or omission; (5) economic loss; and (6) loss causation. See Dura Pharms., Inc. v. Broudo, 544 U.S. 336, 341-342, 125 S. Ct. 1627, 161 L. Ed. 2d 577 (2005)." Stoneridge, 552 US at 157, n3.
2 Stoneridge, 552 US at 152-153.
3 Id. at 153-154.
4 Id. at 163-164.
5 Id at 164.
6 As the Wall Street Journal noted, Sen. Dodd’s aiding and abetting provision is a significant part of "Mr. Dodd’s amazing 2010 election makeover from Wall Street’s favorite Senator into the nation’s leading banker baiter." In "Dodd’s Lawsuit Makeover: Wall Street’s favorite Senator goes populist," WSJ.com, 11.13.09.
K. Stewart Evans, Jr.
