(Article from Securities Law Alert, December 2015)
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In Janus Capital Group, Inc. v. First Derivative Traders, 131 S. Ct. 2296 (2011), the Supreme Court defined what it means to “make” a statement for purposes of Rule 10b-5. The Janus Court held that “the maker of a statement is the person or entity with ultimate authority over the statement, including its content and whether and how to communicate it.”
Second Circuit: Janus’s Definition of What It Means to “Make” a Misstatement Under Rule 10b-5 Does Not Apply to Section 17(a)(2)
On April 9, 2015, the Second Circuit found that the Janus “Court’s definition of ‘to make’ in Rule 10b-5 does not apply to § 17(a)(2)” of the Securities Act of 1933. SEC v. Big Apple Consulting USA, 783 F.3d 786 (2d Cir. 2015) (Siler, Jr., J.). Section 17(a)(2) renders it unlawful “for any person in the offer or sale of any securities . . . to obtain money or property by means of any untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading.” The Second Circuit found that the phrase “by means of any untrue statement” in Section 17(a)(2) “encompasses a broader range of conduct than ‘mak[ing]’ such a statement as defined in SEC Rule 10b-5(b)” (emphasis added by the court).
The Second Circuit found that the Janus Court’s “narrow holding” does not apply “to the entirety” of Section 17(a) because subsections (1) and (3) of Section 17(a)—like subsections (a) and (c) of Rule 10b-5—“do not use the word ‘make’ or even address misstatements.” The Second Circuit determined that the Janus Court “did not alter the potential for liability under Rule 10b-5(a) and (c).” Even after Janus, a defendant “who is not the ‘maker’ of an untrue statement of material fact” could “nonetheless . . . be liable as a primary violator of Rule 10b-5(a) and (c).” The Second Circuit explained that it would be “incongruous” to apply Janus “to remove the potential for liability under” Sections 17(a)(1) and (3) given that “Rule 10b-5(a) and (c) [were] modeled” after those provisions.
The Second Circuit further found that the text of Rule 10b-5(b) differs from “the expansive language of [S]ection 17(a)(2).” Under Rule 10b-5(b), a defendant may not “make any untrue statement of a material fact or [ ] omit to state a material fact” in connection with the purchase or sale of securities. Section 17(a)(2), however, prohibits defendants from “obtain[ing] money or property” in connection with “the offer or sale of any securities” “by means of any untrue statement of a material fact or any omission to state a material fact” (emphasis added by the court). While a defendant can only be held liable under Rule 10b-5(b) for “mak[ing]” a material misstatement, the Second Circuit found that the statutory text suggested that a defendant may be liable under Section 17(a)(2) regardless of whether the defendant “‘use[d] his own false statement or one made by another individual’” (quoting SEC v. Tambone, 550 F.3d 106 (1st Cir. 2008)).
Finally, the Second Circuit found Janus inapplicable to Section 17(a)(2) for the additional reason that the Janus Court addressed the implied private right of action under Rule 10b-5. The Janus Court stated that it was “mindful” of the need to “give narrow dimensions . . . to a right of action Congress did not authorize when it first enacted the statute and did not expand when it revisited the law.” The Second Circuit explained that “the same concern regarding the expansion of a judicially-created private cause of action” does not apply with respect to claims under Section 17(a)(2) because “there is no private right of action under § 17(a).”
Seventh Circuit: Janus Applies to Corporate Insiders as Well as Legally Independent Third Parties
On May 21, 2015, in connection with a securities fraud action against Household International, Inc. (now known as HSBC Finance Corp.), the Seventh Circuit held that the district court had erred in concluding that the Supreme Court’s decision in Janus “applie[s] only to legally independent third parties (like the investment adviser in Janus itself), not corporate insiders.” Glickenhaus & Co. v. Household Int’l, Inc., 787 F.3d 408 (7th Cir. 2015) (Sykes, J.). The Seventh Circuit found that “[n]othing in Janus limits its holding to legally independent third parties.” Rather, the court determined that the Supreme Court’s interpretation of Rule 10b-5 “applies generally, not just to corporate outsiders.”
The Seventh Circuit found that the district court’s jury instruction on what it means to “make” a statement for Rule 10b-5 purposes “directly contradict[ed] Janus.” The court had “instructed the jury that the plaintiffs could prevail on their Rule 10b-5 claim if they proved that the defendant [had] ‘made, approved, or furnished information to be included in a false statement’” (emphasis added by the Seventh Circuit). The Seventh Circuit found that this went “well beyond the narrow interpretation [of Rule 10b-5] adopted in Janus” and “plainly misstated the law.”
The Seventh Circuit found that the error prejudiced the individual defendants, including HSBC’s CEO. For example, the Seventh Circuit found no basis for plaintiffs’ claim that the CEO had “‘made’ the statements in the [company’s] press releases.” The court recognized that the CEO “had authority over the press releases in the sense that he could have exercised control over their content.” However, the Seventh Circuit explained that “if that were enough to satisfy Janus, then CEOs would be liable for any statements made by their employees acting within the scope of their employment.” The court found that such an approach “wouldn’t square with the Court’s reminder about ‘the narrow scope that we must give the implied private right of action’ under Rule 10b-5.” To satisfy Janus’s requirements, the Seventh Circuit explained that HSBC’s CEO “must have actually exercised control over the content of the press releases and whether and how they were communicated.”