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June 2010 |
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From
the editors of CCH Federal Securities Law Reporter, CCH Blue Sky
Law Reporter and the
securities publications of Aspen Publishers, this
update describes important developments covered in these publications, as well
as timely topics of interest generally to federal and state securities
practitioners. Also included is a “Hot Topic of the Month,”
with research tips and references to CCH and
To view past issues
of the Securities Update, please visit http://business.cch.com/updates/securities.
If you have
questions or comments concerning the information provided below, please contact
me at rodney.tonkovic@wolterskluwer.com.
CCH Federal Securities Law Reporter
Commission
Approves New Disclosure for Municipal Securities. The SEC approved amendments to 1934 Act
Rule 15c2-12 to improve the timeliness and availability of information about
municipal securities. The amendments extend the disclosure requirements of the
rule to variable rate demand obligations. The amendments also increase the list
of events that issuers must agree to disclose to include tender offers and the
bankruptcy, insolvency or receivership of persons obligated to make payments in
connection with the securities. The amendments establish a 10 business day
deadline for reporting material events related to municipal securities. This
standard replaces the current “in a timely manner” standard. The SEC also
approved the issuance of an interpretation relating to the duty of underwriters
to the investing public under the antifraud provisions of the securities laws.
The compliance date for the amendments is December 1, 2010. Release No.
34-62184 will be available at ¶89,026.
SEC Proposes
Consolidated Audit Trail for Equity Markets. The SEC approved a proposal to create a single consolidated
audit trail for the equity markets. Proposed Regulation NMS Rule 613 would
require self-regulatory organizations to jointly develop a plan to create and
maintain a consolidated audit trail. Currently, there is no single database of
readily accessible data on market orders and executions. The SROs rely on their
own separate audit trail systems to track order-related information. Under the
proposal, all orders would be tagged with a unique identifier that would be the
same for a customer across all broker-dealers. The SROs would file with the
Commission a plan to create a consolidated audit trail and then would submit
rule proposals to require their members to comply with the plan. Exchanges and
their members would be required to provide detailed information, most of which
would be in real time, to a newly created central repository. The plan for the
consolidated audit trail would include policies and procedures to protect the
security and confidentiality of the information that is submitted to the
repository. Release No. 34-62174 will be available at ¶89,024.
2nd Circuit:
Case Was Close, But Inference of Non-Fraudulent Intent More Compelling. A 2nd Circuit panel affirmed a district
court's judgment dismissing a complaint and finding that an alleged misleading
statement was a protected forward-looking statement. At issue in this action
was a statement in a financial services company's regulatory disclosure
documents. According to the complaint, the company stated in a quarterly report
that, while it had suffered severe losses from its high-yield debt investments
in the past quarter, it expected future losses to be substantially lower. The
investors alleged that the company knew that this statement was misleading at
the time that it was made; the allegation was based on a newspaper account
reporting that the company's executives knew that it faced additional losses
beyond those already booked. The district court dismissed the action, finding
no attempt to deceive.
At issue on appeal was whether cautionary language contained in the quarterly
report warning that it contained forward-looking statements "subject to
risks and uncertainties" was protected by the PSLRA safe harbor provision.
The challenge presented in this action, as the panel saw it, was not the
misstatement of a historical fact by the company but that it knew of a specific
risk yet failed to warn of it. The panel examined the statutory language in
order to determine what are the "important factors that
could cause results to differ materially" that cautionary
statements are required to identify. The panel noted that courts are not to
inquire into a defendant's state of mind, which creates, in the panel's view, a
tension as to how to judge what risks defendants are aware of at the time a
statement is made.
In this case, the panel stated that it did not need to address that issue
because it found that the cautionary language was vague in that it was
boilerplate language that was consistent with what was included in earlier
reports despite new information received since that time. The investors failed
to show, however, that the statement was made with actual knowledge that it was
misleading, and the panel accordingly found it to be protected by the safe
harbor provision. The panel found that the circumstantial evidence supported an
inference of non-fraudulent intent that was more compelling than the inference
of fraud. According to the panel, while it was a close case, the facts
supported a non-fraudulent inference that the company knew that its portfolio
would deteriorate, but did not know the extent of the deterioration, and that
it was reasonable to believe in good faith that losses would be less than the
previous quarter. Slayton v. American Express Co. (2ndCir) is reported
at ¶95,746 (IntelliConnect)
(IRN)
(ip
access user).
Panel
Grants Rehearing to Re-Examine Sanctions. An
11th Circuit panel granted in part a petition for rehearing. The action arose
out of the sale of a 50 percent interest in a company from one of its two
groups of owners to the other. The seller agreed to sell after the buyer
represented that no third party was providing funds to pay the seller. The
buyer refused to disclose that it had financed the purchase of its interest,
stating that the seller was bound by the parties' buy-sell agreement, and the
third-party maintained that it was not involved, so the seller eventually
transferred its interest to the buyer. Later the seller discovered that a third
party had been involved and filed against the buyer in state court for breach
of fiduciary duty and against the third party in federal court for violations
of state and federal securities laws. The seller lost both cases on summary
judgment. The district court also refused to impose Rule 11 sanctions against
the seller's attorneys. The dismissal was affirmed on appeal and the court was
directed to impose sanctions on remand. The sellers petitioned for rehearing,
asserting that the panel used the wrong standard and erred in ordering the
imposition of sanctions.
On rehearing, the panel dismissed the seller's fraud claims based on subject
matter jurisdiction and affirmed the district court's dismissal of the
remainder of the claims. On the buyer's cross-appeal, the panel concluded that
sanctions were warranted on some claims and that the rest needed to be reviewed
by the district court. The panel noted that while the sellers appealed the
district court's disposition of all of its claims, the brief presented no
argument as to five of them. The panel treated these claims, which included
state law claims and claims for fees and punitive damages, as abandoned. The
remaining claims alleged fraud under federal and the comparable state law, and
a claim that the third party had aided and abetted a breach of fiduciary duty
on the part of one of the groups of owners.
In an argument the panel later characterized as futile, the sellers failed to
show that the interest in the company was sold in reliance on the third party's
statements that he was uninvolved in the sale. The panel concluded as a matter
of law that the sale would have occurred even if the plaintiff had known of the
third party's involvement. The company's principals, explained the panel, would
have had no choice but to sell their share because, among other reasons, by
selling they profited on their initial investment, whereas if they had bought
the other share instead, they would have risked the loss of their investment.
The panel then examined the remaining state law claim for aiding and abetting a
breach of fiduciary duty and found that no breach occurred, so there could have
been no aiding and abetting by the third party. The
panel then found that the district court had abused its discretion in refusing
to sanction the sellers' attorney for failing to comply with the requirements
of Rule 11(b) of the Federal Rules of Civil Procedure in bringing their federal
claims. The Private Securities Litigation Reform Act requires courts to review
pleadings to determine if the parties have engaged in abusive litigation. The
panel stated that the court's findings of facts and conclusions of law in its
sanctions analysis did "little more than restate the elements of the
applicable statute." More importantly, it was an error for the district
court to treat the fifteen claims brought by the five plaintiffs as a whole rather
than individually, and the court was obligated to evaluate each of the fifteen
claims for compliance with each subpart of Rule 11(b).
Next, the panel found that the plaintiff's
attorneys should have been sanctioned for joining the co-plaintiffs with a
party that sold its membership interest on the federal fraud claim. Since the
other plaintiffs were not sellers and thus had no standing, a "reasonably
competent attorney" could not certify that the claim would satisfy Rule
11(b). Regarding the fraud and controlling person claims brought on behalf of
the seller, the panel found that the court had failed to determine whether a
reasonably competent attorney would have been justified in bringing the claims.
The district court's decision on sanctions against the attorneys was vacated
and remanded for the imposition of sanctions and for the determination of
whether the attorneys should be sanctioned for filing the fraud and controlling
person claims on behalf of the seller. The panel found no basis to impose
sanctions on the plaintiffs themselves and affirmed the district court's denial
of PSLRA sanctions against them. Ledford v. Peeples (11thCir) is
reported at ¶95,740 (IntelliConnect)
(IRN)
(ip
access user).
2nd
Circuit Addresses Scope of Section 10(b) Private Right of Action. A
2nd Circuit panel affirmed the dismissal of a securities fraud action brought
by an investment management company against a law firm and one of its
attorneys. The company alleged that the law firm violated the antifraud
provisions of the Exchange Act while representing a now-bankrupt brokerage
firm. According to the company, the firm facilitated sham loan transactions
between the broker and third parties and drafted portions of offering documents
that failed to disclose the broker's true financial condition. At the time of
dissemination, all of the statements were attributed to the broker. The
district court found that since no statements were attributed to the law firm,
the company had essentially alleged aiding and abetting, for which there is no
private right of action. The district court also held that the U.S. Supreme
Court's decision in Stoneridge Investment Partners, LLC v.
Scientific-Atlanta, Inc. had foreclosed the company's theory of scheme
liability.
At issue on appeal was whether a corporation's outside counsel can be liable
for false statements allegedly created by its attorneys, but not attributed to
the law firm or its attorneys at the time the statements were disseminated, and
whether the claims that the law firm participated in a scheme to defraud
investors were foreclosed by the Supreme Court's decision in Stoneridge.
The panel found that secondary actors "can be held liable for false
statements in a private damages action for securities fraud only if the
statements are attributed to the defendant at the time the statements are
disseminated," and that the claims that the law firm participated in a
scheme to defraud investors were "not meaningfully distinguishable from
the claim at issue in Stoneridge, and, therefore, were properly
dismissed." In this case, the company could not show reliance because the
statements were not attributed to the law firm, and, like the plaintiffs in Stoneridge,
the company was unaware of the law firm's involvement in the alleged fraud.
The company and the SEC had urged the panel to adopt a "creator"
standard that would make a defendant liable for the creation of a false
statement relied upon investors, regardless of its attribution at the time of
dissemination. The panel, however, rejected this argument, finding an
attribution requirement to be consistent with the Supreme Court's guidance on
secondary liability in Stoneridge and the general proposition that
attribution is necessary to show reliance. A creator standard would also be
inconsistent with 2nd Circuit precedent rejecting a similar "substantial
participation" test in favor of a "bright line" approach. A
concurring judge noted that the "[2nd] Circuit's law in this area is far
from a model of clarity," even after this decision and expressed the hope
that this case would provide the full 2nd Circuit or the Supreme Court the
opportunity to clarify the law in this area. Pacific Investment Management
Company LLC v. Mayer Brown, LLP (2ndCir) is reported at ¶95,722 (IntelliConnect)
(IRN)
(ip
access user).
CCH Blue Sky Law Reporter
…And Proposes Process for Qualifying as Examiner and Submitting
BD Compliance Reports.
Persons desiring to become approved examiners to submit broker-dealer
compliance reports would need to: (1) be designated a certified public
accountant; (2) be employed as a public accountant; (3) be licensed currently
to practice law in Indiana; or (4) have previous experience in the securities
or auditing professions acceptable to the Indiana Securities Commissioner,
under a rule proposed by the Indiana Securities Division, that also prohibits
applicants from being currently registered or employed by a broker-dealer,
whether or not the broker-dealer is registered in Indiana. Applicants would file
a complete application on a Commissioner-approved form. Other rule proposals
would require approved examiners completing a compliance report to submit the
report directly to the Securities Division, as well as a copy of the report to
the examined broker-dealer. Examiners would be prohibited from submitting a
compliance report for the branch offices of a broker-dealer for more than three
consecutive years. Instead, after submitting a report for three consecutive
years, an examiner could be engaged by the broker-dealer to complete a
compliance report after two years. ¶24,634 (IntelliConnect)
(IRN)
(ip
access user), ¶24,634A (IntelliConnect)
(IRN)
(ip
access user), ¶24,634B (IntelliConnect)
(IRN)
(ip
access user).
Martin Act
Preempted Non-Fraud Claims Against Auditors and
Administrators of Madoff Feeder Funds.
The United States District Court for the Southern District of New York has
ruled in two recent cases that the New York Blue Sky Law (Martin Act) preempted
non-fraud common law claims against the administrators and auditors of private
investment funds that had invested in the Ponzi scheme operated by Bernard
Madoff. In In re Tremont Securities Law, State Law and Insurance
Litig., the plaintiff investors had asserted claims for breach of fiduciary
duty, negligent misrepresentation, and aiding and abetting breach of fiduciary
duty based on the auditors’ alleged misrepresentations and omissions with
respect to the diligence performed on the funds during the course of their
audits. Specifically, the plaintiffs alleged that the auditors ignored
"red flags" related to the funds’ investments with Madoff and failed
to comply with professional auditing standards by not gathering independent
evidence to corroborate the existence of the funds’ assets and trading
activity. Judge Thomas P. Griesa reasoned, however, that the Martin Act vests
the Attorney General with the sole authority to prosecute securities claims
sounding in fraud that do not require proof of intent to defraud or scienter.
Moreover, there is no private right of action for any claim covered by the
Martin Act. As the weight of legal authority favored preemption by the Martin
Act of non-fraud common law claims based on deceptive acts committed in
connection with the sale of securities, dismissal of the claims was
warranted. In re Tremont Securities Law, State Law and
Insurance Litig. is reported at ¶74,832 (IntelliConnect)
(IRN)
(ip
access user).
In Stephenson v.
Citgo Group Ltd., Judge Richard J. Holwell likewise held that the Martin
Act preempted breach of fiduciary duty and negligence claims brought against
the administrators and auditor of a private investment fund that had invested
in the Madoff Ponzi scheme. As the purpose of the Martin Act is to grant the
state Attorney General broad regulatory and remedial powers to prevent
fraudulent securities practices, the court concluded that consistency with this
purpose requires the preclusion of private rights of action for common law
claims that fall within the subject matter of the statute. Although the
plaintiff argued that preemption is limited to those cases rooted in a
violation of the Attorney General’s disclosure regulations, the court held that
the weight of authority from both the
Aspen Federal Securities Publications
Securities
Regulation, by the late Louis Loss, Joel Seligman &
This month’s hot
topic is the statute of limitations. The statute of limitations period
for securities fraud actions brought under Exchange Act Rule 10b-5 is set forth
in Section 804 of the Sarbanes-Oxley Act and begins to run on two years from
discovery or five years from the date of the fraud.
In a recent case, Merck
Co., Inc. v. Reynolds, the U.S. Supreme Court gave investors a greater
opportunity to discover and sue for fraud by rejecting the argument that the
limitations period begins at inquiry notice. Prior to Merck, under the
inquiry notice standard used by some appellate courts, the limitations period
began at the point at which a reasonably diligent plaintiff would begin to
investigate the possibility that a fraud occurred. The Merck court noted
that, according to the language of the statute, a claim accrues after the
"discovery" of facts indicating fraud and that there was no
suggestion that the limitations period could begin before that
"discovery."
In Merck, a
unanimous court rejected the inquiry notice standard and held that the
limitations period for securities fraud cases begins to run on the earlier of
1) the date on which the plaintiff actually discovered the facts constituting
the violation or 2) the date on which a reasonably diligent plaintiff would
have made that discovery. In securities fraud cases, the court held that facts
showing scienter are among those that constitute the violation, and securities
fraud plaintiffs must show that it is more likely than not that the defendant
acted with the relevant knowledge or intent to state a claim. In these cases,
stated the court, it would "frustrate the very purpose of the discovery
rule" in the Sarbanes-Oxley Act limitations provision if the limitations
period began to run regardless of whether a plaintiff had discovered any facts
suggesting scienter.
We publish
information in a wide range of resources (e.g., Federal Securities Law
Reporter, SEC Today, Securities Regulation - Loss & Seligman, etc.), and
document types (cases, laws, regulations, newsletter articles, treatise
discussion). For example:
- Federal Securities Law Reporter
o
Sarbanes-Oxley
Act Section 804 at ¶62,903, et seq. (IntelliConnect)
(IRN)
(ip
access user)
o
Merck
Co., Inc. v. Reynolds (
o
Report
Letter, e.g., "Unanimous Supreme Court Allows Vioxx Suit to Proceed"
(4-30-10) (IntelliConnect)
(IRN)
(ip
access user); "Government Lawyers Argue for Expanded Inquiry Notice
Definition" (11-30-09) (IntelliConnect)
(IRN)
(ip
access user)
o
CCH
Explanations (e.g., ¶22,786 (IntelliConnect)
(IRN)
(ip
access user))
·
SEC
Today
o
SEC
Asks Court to Apply Sarbanes-Oxley Act Statute of Limitations Retroactively (9-2-04) (IntelliConnect)
(IRN)
(ip
access user)
·
Insights
– Amy L. Goodman (e.g., "Does the Sarbanes-Oxley SOA's Extended Statute of
Limitations Revive Time-Barred Securities Fraud Claims?" (September 2003)
(IntelliConnect)
(IRN)
(ip
access user))
·
Securities
Regulation – Loss & Seligman (e.g., Chapter 11.D.2 (IntelliConnect)
(IRN)
(ip
access user))
·
Jim Hamilton’s World of Securities
Regulation (e.g. 5-5-10)
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