The Wall Street Journal carried a story yesterday on the pressure building on the SEC to file an amicus brief supporting the petition for certiorari filed by the plaintiffs in the Enron securities litigation against the firm’s former financial advisors. In Regents of the University of California v. Credit Suisse, the Fifth Circuit reversed the certification of a class bringing securities claims against investment banking firms that worked with Enron, holding that Section 10(b) does not provide for primary liability for such advisors and deepening the split among the federal appellate courts on that issue.
The Supreme Court has already agreed to decide whether financial advisors may be liable under Section 10(b) in Stoneridge Investment Partners v. Scientific Atlanta, an appeal from the Eighth Circuit, and The Race to the Bottom Blog will explore the issues raised by these cases next week. But there is a crucial–and largely overlooked–difference between Stoneridge and the Enron litigation that may well affect the outcome. It concerns the makeup of the justices who will be deciding the case. If the Court grants review in the Enron litigation as well, it may well tell us something about the likely outcome in Stoneridge itself.
Liability of a financial advisor or vendor under Section 10(b) depends upon whether their conduct constitutes a “deceptive act.” In 1994, the Supreme Court in Central Bank v. First Interstate Bank held that the language of Section 10(b) did not extend to aiding and abetting liability. The Fifth and Eighth Circuits have held that vendors and financial advisors (like the investment bankers that assisted Enron) only aid and abet securities violations (unless the advisors have an independent duty to disclose, which they usually do not), and thus cannot be held primarily liable under Section 10(b). In contrast, the Ninth Circuit has held that a vendor’s conduct might still constitute a “deceptive act,” at least where the purpose and effect of the vendor’s conduct was to cause securities fraud.
Crucially, the Supreme Court’s order granting certiorari in Stoneridge indicates that two justices (The Chief Justice and Justice Breyer) did not participate; those two Justices are therefore likely to be conflicted out of the case. (The Justices’ financial disclosure forms indicate that they may hold stock in parties to the litigation.) Of the remaining seven justices, three (Justices Scalia, Kennedy, and Thomas) voted to eliminate aiding and abetting liability under Section 10(b) as members of the Central Bank majority. Three others (Justices Stevens, Souter, and Ginsburg) dissented in Central Bank. The votes in Central Bank–a decision that, as Justice Stevens noted in dissent, was contrary to the previous rulings of every circuit to have considered the issue–may be an appropriate means of determining how the Justices will view Stoneridge. And, to the extent the justices’ votes in Central Bank are indicative of their views in Stoneridge, it will be the Court’s newest Member, Justice Samuel A. Alito, who will determine the outcome.
While a judge on the Third Circuit, Justice Alito’s opinions evinced a workmanlike approach to securities fraud cases. He authored three decisions on securities fraud, twice reversing dismissals of shareholder suits on the pleadings. In In re Westinghouse Sec. Litigation, decided in 1996, then-Judge Alito permitted shareholders to proceed with a suit against officers and directors, but held that the shareholders’ claims against Price Waterhouse, the company’s accountants, were meritless as a matter of law. In In re Burlington Coat Factory Sec. Litigation, decided the following year, Justice Alito again vacated a dismissal of a shareholder suit, holding that the plaintiffs had plead the alleged fraud with sufficient particularity to meet the requirements of Federal Rule of Civil Procedure 9. And in Oran v. Stafford, decided in 2000, Justice Alito wrote an opinion affirming the dismissal of a 10(b) suit, holding that the plaintiffs had failed to plead that the defendants made a material misrepresentation of fact.
These cases do not suggest that Justice Alito is predisposed to limit the reach of Section 10(b). Justice Alito could, therefore, vote for a more expansive interpretation of primary liability–one that captures the conduct of financial advisors and vendors–than the one used by the Eighth Circuit in Stoneridge and the Fifth Circuit in Credit Suisse. On the other hand, if Justice Alito can be persuaded to join the three participating members of the Central Bank majority, the Court will affirm the Eighth Circuit, holding that financial advisors cannot be held primarily liable under Section 10(b).
But if the Court also grants review in Credit Suisse, it probably tells us something about the outcome in Stoneridge. Presumably The Chief Justice and Justice Breyer will not be recused. Justice Breyer seems unlikely to adopt a constricted view of Section 10(b). Although he authored Dura Pharmaceuticals v. Broudo, a case that restricted the application of Section 10(b) by holding that a mere allegation of loss causation is not enough to survive a motion to dismiss, the decision was unanimous and thus does not tell us much about Justice Breyer’s views in a closer securities case. Moreover, Justice Breyer also penned The Wharf Ltd. v. United International Holdings (another unanimous opinion), adopting a broad interpretation of the “in connection with” requirement under Section 10(b). Most importantly, Justice Breyer joined the majority in United States v. O’Hagan, upholding the doctrinally suspect but necessary misappropriation theory of insider trading. Justice Breyer will, therefore, mostly likely be a fourth vote to reverse the narrow interpretation of primary liability for financial advisors and vendors given by the Eighth and Fifth Circuits.
Chief Justice Roberts, on the other hand, has little track record in securities cases. Before joining the bench, however, he had an extensive corporate practice, and is considered a “pro-business” judge who may be disinclined to expand the reach of Section 10(b). Moreover, Chief Justice Roberts and Justice Alito are ideologically associated with Justices Thomas and Scalia, both members of the Central Bank majority. The four voted together yesterday, for example, in a case involving gender discrimination in employment.
Predictions at this stage are very difficult to make–the Supreme Court hasn’t granted review in the Fifth Circuit Enron litigation, and merits briefs have not yet been filed in Stoneridge. Nonetheless, if the Court grants review in Credit Suisse, it could well mean that Chief Justice Roberts and Justice Alito are inclined to take a narrow view of primary liability, and that The Chief Justice will be in a position to assign the opinion to a wavering Justice Alito. If Credit Suisse is granted, look for the case to be a 5-4 decision, with liability under Section 10(b) not extended to vendors and investment bankers, even where they know the transaction is a sham and will be used to effect a financial fraud.