A recent U.S. Supreme Court ruling that has given the SEC more room to go after individuals sharing false statements is a “big deal” and raises enforcement questions for the regulator, according to SEC Commissioner Hester Peirce.
As reported, the U.S. Supreme Court ruled on March 27 in Lorenzo v. SEC that an individual who distributes false statements — whether or not the individual is the “maker” of the statement — can be liable for that statement under the SEC’s Rule 10b-5(b).
The Lorenzo case involves Francis Lorenzo, who was the director of investment banking at Charles Vista, a registered broker-dealer in Staten Island, N.Y.
Lorenzo sent two emails to potential investors that contained false information about a debenture offering, according to the initial petition to the U.S. Court of Appeals for the District of Columbia circuit. The emails stated that the issuer had $10 million in confirmed assets when the assets were in fact worth less than $400,000. Despite knowing the statements were false, the director sent the emails at the direction of his boss, who supplied the content and approved the messages.
“Why was this case a big deal? Under Lorenzo, scheme liability is broader than some of us believed it to be,” Peirce, a Republican whose SEC term expires on June 5, 2020, said earlier this month at a lecture at Rutgers Law School in New Jersey.
Prior to the Lorenzo decision, Peirce said she “had read the provisions of the securities laws that involved a device, scheme, artifice to defraud, act, practice or course of business to require something more than a misstatement.”
Peirce emphasized at the lecture that she was sharing her personal views and not necessarily the views of the SEC or her fellow commissioners.
When reviewing cases involving SEC Rule 10b-5 or Employment of Manipulative and Deceptive Practices, Peirce said she looked for “deceptive conduct,” such as running a Ponzi scheme, misappropriating investor funds, engaging in stock manipulation or falsifying documents.
“In other words, I viewed conduct that is separate from the act of making a misstatement as a necessary basis for a violation of these provisions,” she said.
Peirce noted that Supreme Court Justice Clarence Thomas’ dissent in the Lorenzo ruling “captures this distinction” by noting that the act of knowingly disseminating a false statement at the behest of its maker does not amount to employing any device, scheme, or artifice to defraud within the meaning of the SEC rule.
Peirce noted that the Lorenzo ruling “leaves many questions” — a sentiment shared by multiple lawyers.
The commissioner shared some of her own questions:
- Would the result have been different if Lorenzo had repeated his boss’s misstatements verbally instead of by email?
- If Lorenzo’s secretary, having overheard Lorenzo deriding the value of the waste to energy technology, had edited the two emails for grammar and sent them out on his behalf, would the secretary also be primarily liable?
- If Lorenzo’s two emails count as a device, scheme, artifice to defraud, act, practice or course of business, what would not count?
- What, if anything, does the case say about conduct other than dissemination?
Peirce noted that Justice Thomas read the majority opinion to mean that "virtually any person who assists with the making of a fraudulent misstatement will be primarily liable and thereby subject not only to SEC enforcement, but private lawsuits."
Justice Thomas further observes that the Lorenzo decision "eviscerates" the distinction, as articulated in the Janus decision, "between primary and secondary liability in fraudulent-misstatement cases,” according to Peirce.
Under the previous Janus rationale, Lorenzo would not have been found to be the “maker” of the untrue statement under Rule 10b-5(b), according to The Wagner Group law firm.
Amid all these questions, Peirce said the regulator must exercise caution wielding this new power from the Lorenzo ruling.
“The SEC ought to take care in how it exercises its authority. The goal should not be for us to stretch our authority to its limits and beyond but instead to act carefully and cautiously,” Peirce said.
“It is awfully tempting for the SEC to read and attempt to apply Lorenzo as broadly as possible. I hope we will instead keep in mind how unseemly it is when a regulator stretches its authority to its outer limits or beyond. Even in the wake of a Supreme Court win, restraint is the better approach,” she added.
Peirce said the SEC “must respect the proper line” between what primary and aiding-and-abetting liability.
“Wise discretion” and “reasonableness” must be exercised by the SEC when dealing with cases related to the Lorenzo ruling, she said.