(Article from Securities Law Alert, October/November 2019)
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On November 1, 2019, the Supreme Court granted certiorari to consider whether the SEC may seek and obtain disgorgement in civil enforcement proceedings. Liu v. SEC, No. 18-501. The SEC is statutorily authorized to seek and obtain injunctive relief, equitable relief and civil monetary penalties in civil enforcement proceedings. See 15 U.S.C. §§ 77t(b), (d), 78u(d)(1), (3), (5). The statutory scheme does not specifically empower the SEC to seek and obtain disgorgement in civil enforcement proceedings.[1]
All of the circuit courts have either explicitly held, or simply assumed, that courts may order disgorgement in SEC enforcement proceedings as part of their broad authority to award equitable relief. See SEC v. Cavanagh, 445 F.3d 105 (2d Cir. 2006) (holding that “contemporary federal courts are vested with the . . . authority by the Constitution and the Judiciary Act” to order disgorgement in SEC enforcement proceedings); SEC v. Maxxon, 465 F.3d 1174 (10th Cir. 2006) (“Disgorgement is by nature an equitable remedy as to which a trial court is vested with broad discretionary powers.”); SEC v. Blavin, 760 F.2d 706 (6th Cir. 1985) (“Once the [SEC] has established that a defendant has violated the securities laws, the district court possesses the equitable power to grant disgorgement . . . .”).[2]
But in Kokesh v. SEC, 137 S. Ct. 1635 (2017), the Supreme Court held that “[d]isgorgement in the securities-enforcement context is a ‘penalty’” subject to the 5-year statute of limitations set forth in 28 U.S.C. § 2462.[3] The Court rejected the SEC’s contention that disgorgement is remedial rather than punitive in nature. The Court observed that “SEC disgorgement sometimes exceeds the profits gained as a result of the violation” and “sometimes is ordered without consideration of a defendant’s expenses that reduced the amount of illegal profit.” The Court noted that, “[i]n such cases, disgorgement does not simply restore the status quo; it leaves the defendant worse off.” Notably, the Kokesh Court stated that “[n]othing in [its] opinion should be interpreted as an opinion on whether courts possess authority to order disgorgement in SEC enforcement proceedings or on whether courts have properly applied disgorgement principles in this context.”
Ninth Circuit Rejects the Argument That Kokesh Precludes Courts From Ordering Disgorgement in Excess of Net Profits in SEC Enforcement Proceedings
In SEC v. Liu, 754 F. App’x 505 (9th Cir. 2018), the Ninth Circuit affirmed a district court decision ordering disgorgement of the full amount of the funds defendants raised from investors (over $26 million) for a project that violated federal securities laws, with no deduction for expenses (approximately $16 million). The district court ordered disgorgement in addition to millions of dollars in civil penalties.
The Ninth Circuit rejected the argument that under Kokesh, the district court was not permitted to order disgorgement in an amount that exceeded defendants’ net profits. The Ninth Circuit reasoned that “Kokesh expressly refused to reach this issue . . . so that case is not ‘clearly irreconcilable’ with [its] longstanding precedent” on disgorgement orders in SEC enforcement proceedings. Defendants successfully petitioned the Supreme Court for certiorari.
On November 5, 2019, several days after the Supreme Court granted certiorari to address the question of whether district courts may order disgorgement in SEC enforcement proceedings, the Fifth Circuit rejected the argument that Kokesh “necessarily decided that disgorgement is no longer an equitable remedy.” SEC v. Team Res., 2019 WL 5704525 (5th Cir., 2019) (Duncan, J.). The Fifth Circuit stated that it was “not convinced that Kokesh quietly revolutionized SEC enforcement proceedings while at the same time explicitly stating it was not doing so.”
Potential Implications
Should the Supreme Court rule against the SEC in Liu, we expect some measure of short-term disruption to the SEC’s enforcement program. But we anticipate that Congress would act to provide express statutory authority for disgorgement—and there are in fact two draft bills advancing in Congress—in a manner that may actually extend the statutory limitations period for disgorgement to as long as ten years. And in the interim, the SEC could be expected to pursue more cases in an administrative forum, where it has express statutory authority to pursue disgorgement.
The Supreme Court will hear and rule on Liu v. SEC later this Term; a date for oral argument has not yet been set.
[1] The SEC is, however, statutorily authorized to seek and obtain disgorgement, among other remedies, in SEC administrative proceedings. See 15 U.S.C. § 78u-2(e) (permitting the SEC to “enter an order requiring accounting and disgorgement, including reasonable interest”).
[2] See also SEC v. Happ, 392 F.3d 12 (1st Cir. 2004); SEC v. Hughes Capital Corp., 124 F.3d 449 (3d Cir. 1997); SEC v. Gotchey, 1992 WL 385284 (4th Cir. 1992); SEC v. Huffman, 996 F.2d 800 (5th Cir. 1983); SEC v. Lipson, 278 F.3d 656 (7th Cir. 2002); SEC v. Ridenour, 913 F.2d 515 (8th Cir. 1990); SEC v. Rind, 991 F.2d 1486 (9th Cir. 1993); SEC v. Calvo, 378 F.3d 1211 (11th Cir. 2004); SEC v. First City Fin. Corp., 890 F.2d 1215 (D.C. Cir. 1989).
[3] 28 U.S.C. § 2462 establishes a five-year statute of limitations for “an action, suit or proceeding for the enforcement of any civil fine, penalty, or forfeiture, pecuniary or otherwise.” Please click here to read our discussion of the Supreme Court’s decision in Kokesh.