Public Statement by SEC Commissioner:
Stoneridge and the Rule of Law
Commissioner Paul S. Atkins
"Op-Ed" for the Wall Street Journal
January 25, 2008
Last week, the Supreme Court rejected the claims of certain defrauded investors when it handed down the decision in Stoneridge Investment Partners LLC v. Scientific-Atlanta, Inc. This week the court refused to hear the appeal of Enron investors, who raised similar claims.
Is this proof that the court is insensitive to victimized investors? Hardly. It is the mark of a court that insists on predictability and the rule of law — principles that are fundamental to the protection of investors and success of their investments. Although some have called Stoneridge "anti-investor," the Supreme Court’s decision actually protects shareholders from creative and unpredictable new ways to extract large settlements, which always include an ample portion for the lawyers.
At issue was whether companies can be held liable in class actions for securities law violations committed by companies with which they do business, the primary violators. Because the law permits private plaintiffs to recover only against primary violators and not secondary violators, the Stoneridge plaintiffs attempted to portray the defendant-companies as primary violators under the theory that they participated in a "scheme" to defraud.
In Stoneridge, the Supreme Court held that investors in one company cannot sue other companies for securities fraud unless those other companies did something that the plaintiffs specifically relied on when making investment decisions. The court warned that if it adopted the plaintiffs’ concept of reliance, the "cause of action would reach the whole marketplace in which the issuing company does business." In other words, had Stoneridge gone the other way, plaintiffs would be able to reach into the pockets of customers, vendors and other firms that simply do business with companies that defraud investors.
Regardless, Stoneridge sparked an outcry from those arguing that in the name of "fairness" and "justice" someone should be forced to pay if the primary wrongdoer cannot. This outcry could lead to demands on Congress to rewrite the securities laws to give plaintiffs like those in Stoneridge what they could not get in court — the ability to reach into a deep pocket regardless of culpability. But justice is not merely finding someone who can pay. Exposing one company to class-action lawsuits because another company defrauded its investors is not fair or just to shareholders who shoulder the burden of class-action settlements.
Moreover, as the Supreme Court observed in Stoneridge, broadening the scope of securities laws can damage capital markets. Subjecting new classes of defendants to lawsuits raises the costs of being a public company, deters overseas firms from doing business here, and shifts securities offerings away from domestic capital markets to the detriment of U.S. investors.
But those who knowingly assist others in violating securities laws will not go unpunished. As the Supreme Court observed in Stoneridge, Congress amended the securities laws in 1995 to allow the Securities and Exchange Commission to bring actions against secondary violators that aid and abet securities fraud. Congress wisely declined to extend that right to private parties, out of concern of abusive securities litigation. The SEC is well positioned to hold responsible individuals accountable by imposing injunctions, officer and director bars, disgorgement, and civil penalties. Ill-gotten gains that the SEC recovers — along with civil penalties — may be disbursed to aggrieved investors without the usual cut for the plaintiffs’ lawyers.
The SEC uses its authority to hold wrongdoers accountable, and has obtained settlements from parties for similar conduct at issue in Stoneridge. For example, the SEC filed suit against vendors that allegedly aided and abetted in the fraud of U.S. Food Service, Inc. Just last month, it filed suit against a partner of a major law firm for allegedly aiding and abetting Refco in defrauding its shareholders. For egregious violations, the SEC may refer matters to the Department of Justice to bring criminal charges. In both the U.S. Food Service and Refco matters, the SEC cooperated with DOJ. Stoneridge is no free pass to parties assisting in fraud.
The SEC has tremendous leverage to obtain settlements and assert novel bases of liability in court. But the SEC must resist efforts — internal or external — to broaden securities laws beyond their existing boundaries, even when those efforts are driven by a desire to see harmed shareholders recompensed. By respecting legal boundaries and not "pushing the envelope," the SEC provides predictability to investors, individuals and companies as to unacceptable conduct.
The SEC has an enormous responsibility not only to enforce the securities laws as written, but also to avoid rewriting and expanding them in the process. The integrity of our capital markets and the welfare of investors depend on the adherence to the rule of law by all participants. That is the lesson of Stoneridge.