Securities Reform: Dodd Measure Would Restore Aiding & Abetting Liability

Last September Sen. Arlen Specter introduced S. 1551 which would overturn the Supreme Court's Stone Ridge Investments decision which barred "aiding and abetting" liability in securities fraud cases, as we reported here. Specter held hearings but as a free-standing measure it had little chance of passage.

K. Stewart Evans of Pepper Hamilton reports that [retiring] Sen. Christopher J. Dodd (D-Conn.)’s draft Restoring American Financial Stability Act of 2009 contains a provision (page 795 of 1,136) that amends Section 21D of the Securities Exchange Act of 1934 (15 U.S.C. 78u-4) to overruleStoneridge. 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.

Evans laments that

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.

In an action under Sec. 10(b)(5) of the Securities and Exchange Commission Act 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 (2005)."

Evans's alarm is overstated because the reliance element was eased by the Supreme Court in Basic v. Levinson, 485 U.S. 224 (1988). the Court said

“Requiring a plaintiff to show a speculative state of facts, i.e., how he would have acted if material information had been disclosed, or if the misrepresentation had not been made, would place an unnecessarily unrealistic evidentiary burden on the Rule 10b-5 plaintiff who has traded on an impersonal market.”

Thanks to Kevin LaCroix, D & O Diary for the update. Kevin's latest is always available on my blogroll on the right.