A Senate subcommittee is wading into a contentious and growing issue in securities law: whether to allow civil lawsuits against companies that might have aided or abetted fraud.
Third parties have enjoyed civil immunity in most securities fraud cases since last year, when the Supreme Court ruled in Stoneridge Investment Partners v. Scientific-Atlanta that the law includes no right of private action against “aiders and abettors.” The decision limited class actions against potential defendants like accountants, credit-rating agencies, and lawyers — leaving the government to pursue such parties.
Sen. Arlen Specter (D-Pa.) is sponsoring legislation that would override the Court’s decision. It would allow civil suits against anyone who “knowingly or recklessly provides substantial assistance” to someone engaged in fraud.
In a hearing today before the Senate Judiciary Subcommittee on Crime and Drugs, which he chairs, Specter lashed out at the Supreme Court’s five-member conservative majority. He said the justices’ 5-3 decision in Stoneridge ran counter to decades of precedent dating to the Securities Exchange Act of 1934.
“I was more than surprised. I was shocked,” Specter said of his reaction to the ruling. “It really makes me wonder what the Court is up to. And there have been commentaries about how this Court is partial to big business. It’s hard to understand how aiders and abettors are not liable.”
The legislation fits a recent pattern of congressional Democrats seeking to overturn recent Supreme Court rulings on statutory interpretation. Specter, who was the only senator who attended today’s late-day hearing, also alluded to a ruling this year that tightened the pleading standard for all civil lawsuits, and he has legislation to override that decision, too.
No committee vote has been scheduled on the fraud bill, and it’s possible that the Senate Banking Committee could claim jurisdiction.
Robert Giuffra Jr., a partner at Sullivan & Cromwell in New York, was among those who testified at the hearing against Specter’s bill. He said Congress should leave enforcement to the Justice Department and the Securities and Exchange Commission, arguing that class-action lawyers would be tempted to go after every conceivable party in a fraud case.
“Plaintiffs’ lawyers have every incentive to sue deep-pocketed third parties,” said Giuffra, a former chief counsel to the Senate Banking Committee.
Others testified that government enforcement is inadequate. John Coffee, a Columbia University law professor, said the SEC lacks the resources to handle large class actions. And, Coffee said, private lawyers are unlikely to bring frivolous cases because the pleading rules require that they show a “strong inference of fraud” prior to discovery.
Patrick Szymanski, general counsel of the Change to Win labor coalition, testified that the issue boils down to fairness. “People ought to be responsible for their actions, and the idea that these third-party people are immune from liability is ridiculous,” he said.