ENFORCEMENT OF THE SECURITIES LAWS

PSLRA and SLUSA

1. Private causes of action supplement the SEC’s enforcement efforts and thus assure greater compliance with the securities laws

2. A significant portion of the private litigation under the securities laws occurs through class action procedures

3. Private Securities Litigation Reform Act (PSLRA) §21D of the ’34 Act

   1. Appointment of a lead plaintiff

      1. Provides a rebuttable presumption that the member of the purported class with the largest financial stake in the relief sought is the “most adequate plaintiff”

      2. Notice must be given to all members of the purported class action so they may request to be the lead plaintiff

      3. A person can serve as a lead plaintiff in up to five securities class actions during any three-year period

   2. Among the tasks of the lead plaintiff is to select and retain counsel to represent the class

      1. Before the suit gets filed, lead plaintiff negotiates a fee contract reduces windfall for lawyers

   3. An obvious object of the lead plaintiff provision is to harness the institutional investor’s self-interest to guide the direction of the class action

      1. Because party with the largest financial stake is likely to be an institutional investor

   4. PSLRA bars discovery until after the defendant’s motion to dismiss

      1. Bar to discovery until all pre-trial motions are over with

         1. Don’t have the ability to flesh out your pleadings with discovery

   5. Pleading requirement: facts alleged must create a “strong inference” of knowledge or recklessness

      1. As a result, cases are dismissed far more often

      2. Must allege that guy actually knew or had reckless disregard

4. Rule 11 (FRCP) = sanctions for frivolous shit

   1. At the end of trial, the court must determine (under PSLRA) in its own discretion whether any of the lawyers are deserving of sanctions

      1. Regardless whether the people have made rule 11 motions

         1. This shapes the conduct of litigation

5. Securities Litigation Uniform Standards Act (SLUSA)

   1. Confers on the federal courts the exclusive jurisdiction over most securities class actions

      1. Covered security: if the security is listed on an exchange, or a market the SEC identifies as an exchange

      2. Covered class action: suit with more than 50 persons

Primary and Secondary Violators

6. Aiders, Abettors, and Primary Violators

   1. Central bank: antifraud provision prohibits only the making of a material misstatement (or omission) or the commission of a manipulative act.

      1. Aiders and abettors not liable under Section 10(b) and Rule 10b-5

   2. Janus: primary participant liability reaches those with “ultimate authority over the statement including its content and whether and how to communicate it

   3. EA §20(e): expressly authorizes SEC (but not private) enforcement actions for aiding and abetting

      1. Knowingly or recklessly

         1. Refers to the knowledge requirement of misstatement

      2. In order for a defendant to be liable as an aider and abettor, the SEC must prove:

         1. The existence of a securities law violation by the primary (as opposed to the aiding and abetting) party

         2. Knowledge of this violation on the part of the aider and abettor

         3. Substantial assistance by the aider and abettor in the achievement of the primary violation

            1. Substantial assistance: that he in some sort associated himself with the venture, that he participated in it as in something that he wished to bring about, and that he sought by his action to make it succeed

      3. There is a sliding scale between the three elements

         1. For example, a high degree of knowledge may lessen the SEC’s burden in proving substantial assistance, just as a high degree of substantial assistance may lessen the SEC’s burden in proving scienter

      4. The SEC is not required to plead or prove that an aider and abettor proximately caused the primary securities law violation

   4. EA §10A: when the auditor discovers an illegal ac, it has an obligation to determine whether that act will have a material impact on the company’s financial statements. If such an impact is likely, the auditor not only must bring the matter to the attention of the appropriate level of management, but also must bring it to the attention of the client’s audit committee or board of directors.

      1. If the corporation/audit committee doesn’t do anything, then the auditor must resign and report to the SEC noisy withdrawal

7. Control person and respondeat superior liability

   1. SA §15: control person liability

      1. Control person of someone liable under §§11 or 12

      2. The control person avoids liability if it is established that the controlling person had no knowledge of or reasonable grounds to believe in the existence of the facts upon which the liability of the control person is alleged to exist

   2. EA §20(a): control person liability

      1. Control person of someone liable under 10b-5

      2. Liability arises unless the controlling person acted in good faith and did not directly or indirectly induce the act or acts constituting the violation or cause of action

         1. Good faith factors:

            1. Whether the controlling person derives direct financial gain from the activity of the controlled person

            2. The extent to which the controlled person is tempted to act unlawfully because of the controlling person’s policies. E.g. compensations system

            3. The extent to which statutory or regulatory law or the defendant’s own policies require supervision

            4. The relationship between the plaintiff and the controlling person; and

            5. The demonstration of some public policy need to impose such a requirement.

   3. What does it mean to be a control person?

      1. 2-prong test for determining control person liability:

         1. The control person needs to have actually exercised general control over the operations of the wrongdoer

         2. The control person must have had the power or ability – even if not exercised – to control the specific transaction or activity that is alleged to give rise to liability

   4. Attorneys and accountants are not control persons solely because of their ability to persuade and counsel the primary violator

   5. By and large, most...

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