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The currently mandated myopia of Rule 10b-5: pay no attention to that manager behind the mutual fund curtain.


This Article examines the current state of the Rule 10b-5 (1) right of action following a constricting trilogy of Supreme Court cases that have rendered it a myopic remnant of the right previously endorsed by the United States Securities and Exchange Commission (the "SEC") and hundreds of courts over a span of numerous decades. (2) The Roberts Court's pronouncement in Janus Capital Group, Inc. v. First Derivative Traders (3) has generated an immense amount of criticism (4) and a slew of conflicting lower court decisions. (5) By effectively abolishing most private Rule 10b-5 claims against secondary actors, (6) including lawyers, accountants, credit rating agencies, underwriters and securities analysts, and by mistakenly including mutual fund investment managers in the class of ordinary secondary actors, (7) the Court has chosen a short-sighted, ill-reasoned standard that ignores the doctrinal foundations of the Securities Exchange Act of 1934 (the "1934 Act"), (8) as well as the practical realities and traditional bases of mutual fund law and practice. (9)

Specifically, despite the fact that a typical mutual fund (10) has no employees, no office space, no assets other than those it holds for its investors, no officers that are not also officers of its investment manager, and no involvement in its own day-to-day management (having delegated such management and investment decisions to its investment manager), the Roberts Court has mandated that aggrieved investors pursuing private Rule 10b-5 claims must ignore fraudulent managers and other "mutual fund malefactors," (11) even where they have deceived their fund boards. (12) In sum, Janus does real harm: it potentially allows a deceitful manager to "coordinate all major aspects of a mutual fund" (13) for fraudulent purposes, while it reaps increased fees, hides its deceit and avoids private Rule 10b-5 liability. This "pay no attention to the manager behind the mutual fund curtain" (14) dictate is untenable and should be remedied by legislative action.

Janus' absolution of all but those with "ultimate authority" in private Rule 10b-5(b) actions is particularly concerning in light of the high volume of financial frauds during the last decade involving complicit "gatekeepers," (15) who prioritized their own economic interests over their ethical obligations: Enron, WorldCom, Tyco, and Global Crossing only begin the long list of complicit gatekeeper scandals. (16) Janus is especially perplexing in light of the numerous front-page stories of mutual fund adviser misconduct over the last decade, including scandals involving market timing, late trading, valuation misconduct and soft-dollar practices. (17) Concurrent with these high-profile frauds, recent years have also witnessed highly-publicized failures of the SEC, including its failure to discover Bernie Madoff's estimated $13.2 billion to $65 billion Ponzi scheme, despite "credible and specific allegations ... repeatedly brought to the attention of SEC staff...." (18) Without doubt, gatekeepers have also shouldered a significant amount of blame for the recent financial crisis. (19) The Supreme Court's constriction of the Rule 10b-5 right, despite this troubling confluence of events, will most surely disadvantage U.S. investors, (20) as further set forth herein, unless remedied by legislative and administrative action.

This Article discusses the potentially harmful consequences of the above-referenced trilogy of Supreme Court cases with respect to private investor suits and agency-driven actions, with a particular focus on the effect on aggrieved mutual fund investors. In light of drastically reduced regulatory budgets that compromise today's securities fraud enforcement efforts, this issue is particularly timely, given that over forty percent of American households own mutual fund shares, generally assuming such investments to be relatively safe retirement vehicles. (21)

Part II of this Article provides an overview of Section 10(b) of the 1934 Act (22) and describes Rule 10b-5 (23) as promulgated under Section 10(b). Part III discusses the above-referenced trilogy of Supreme Court cases: Central Bank of Denver v. First Interstate Bank of Denver, N.A., (24) Stoneridge Investment Partners, LLC v. Scientific-Atlanta, Inc., (25) and Janus. (26) Part IV explores the unique relationship between an investment adviser and a mutual fund, with a focus on important doctrinal foundations of the Investment Company Act of 1940 (27) (the "1940 Act") ignored by the Janus Court. Part V examines the confusion among lower courts in adjudicating post-Janus cases and defines certain ambiguities and open questions in current Rule 10b-5 law. Part VI proposes legislative and regulatory fixes in line with the doctrinal underpinnings of the 1934 Act and the 1940 Act.


This Part provides a brief overview of the securities laws involved in the subject trilogy of cases. Although [section] 10(b) and Rule 10b-5 liability is the focus of the Court's analyses, an understanding of [section] 20 liability is also important to the discussion. Additionally, a brief summary of the Roberts Court's approach to securities-related matters provides a necessary background to Part III's trilogy analysis.

A. Overview of [section] 10(b) and Rule 10b-5

To address widespread financial abuses after the 1929 stock market crash, the seventy-third Congress enacted the Securities Act of 1933 (the "1933 Act"), (28) governing initial securities distributions, and the Securities Exchange Act of 1934 (the "1934 Act"), (29) governing secondary market distributions. (30) The 1933 Act and the 1934 Act (collectively, the "Acts") "embrace a fundamental purpose ... to substitute a philosophy of full disclosure for the philosophy of caveat emptor." (31) To effectuate this purpose, the Acts establish an "extensive scheme of civil liability." (32) The SEC and the Department of Justice are authorized to institute proceedings and assert penalties against violators of various provisions. (33) Further, private litigants may sue violators of certain provisions that expressly provide for private rights of action. (34) Private litigants may also sue violators of certain statutes pursuant to judicially-created private rights of action found to be implied by such provisions. (35) The Supreme Court has historically stressed the importance of private antifraud securities actions in supplementing government criminal and civil enforcement proceedings. (36) Further, the Supreme Court has admonished "that the statute should be construed not technically and restrictively, but flexibly to effectuate its remedial purposes." (37)

Section 10(b) (38) embodies the "general antifraud provision of the 1934 Act." (39) In 1942, pursuant to authority granted under [section] 10(b), the Securities and Exchange Commission ("SEC") promulgated Rule 10b-5, (40) which further delineates prohibited fraudulent activities.

The judicially-recognized Rule 10b-5 private right of action, "a judicial oak which has grown from little more than a legislative acorn," (41) was established long ago and has been consistently recognized by the courts. (42) Because Congress has not provided any guidance regarding a Rule 10b-5 private right of action, (43) the courts "have had 'to infer how the 1934 Congress would have addressed the issue[s] had the 10b-5 action been included as an express provision in the 1934 Act.'" (44) Without doubt, a private litigant may not sue under Rule 10b-5 for acts that are not prohibited by [section] 10(b). (45) As the Supreme Court explained, "our cases considering the scope of conduct prohibited by [section] 10(b) in private suits have emphasized adherence to the statutory language, '[t]he starting point in every case involving construction of a statute.'" (46)

To prevail on a Rule 10b-5 claim, a private plaintiff must prove the following elements: "(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." (47) Significantly, in an enforcement action brought by the SEC, neither reliance nor loss need be demonstrated. (48)

B. "Controlling Person" Liability under [section]20 of the 1934 Act

Congress also expressly provided for secondary liability of "control persons" (49) under [section] 20 of the 1934 Act. (50) It is important to note a few instances in which [section] 20 would not provide an avenue of redress for an aggrieved investor. First, in order to establish liability of a "control person" under [section] 20(a), the liability of the "controlled person" must be established. As articulately discussed by the Janus dissent, (51) [section] 20(a) would be inapplicable in the case of an actor exploiting an innocent intermediary. (52) Second, it is currently uncertain whether entities acting through innocent intermediaries are liable under [section] 20(b). (53) Finally, [section] 20(e), added in 1995, (54) only applies with respect to actions brought by the SEC. (55)

C. A Note on the Court

Since Justice Powell's retirement in June 198 7, (56) there has been no member of the Supreme Court with a background in securities law. (57) This twenty-six year void stands in contrast to the fifty years following the enactment of the Acts, when there was usually at least one Justice with expertise in the area. (58) This gap in the securities arena has led to random decisions drawn not from the complex interplay of the securities laws and the financial markets, but from more general notions, such as narrow statutory interpretation and legislative history. (59) As discussed below in Part IV the Court's seeming lack of understanding of the complexities of the mutual fund/adviser relationship has caused "real damage." (60)

Paradoxically, a disproportionately large 2.6% of the cases heard by the Roberts Court during its first six years (2005-2011) were securities-related, in contrast to 0.7% heard by the New Deal Court (1936-1954), 0.5% heard by the Warren Court (1954-1969), 1.3% heard by the Burger Court (1969-1986), and 0.9% heard by the Rehnquist Court (1986-2005). (61) The Roberts Court has come to be known by many analysts as a "pro-business" Court, with dramatic increases from previous Courts in its percentage of rulings for business interests. (62) Its rulings carving away the private Rule 10b-5 right have most definitely been pro-business and anti-investor. (63)

Another defining characteristic of the Roberts Court has been its cavalier attitude towards the SEC's positions in numerous cases. (64) This attitude is in stark contrast to the New Deal Court's absolute respect for and deferral to the SEC. As noted by one Supreme Court scholar, "the expertise of the SEC was a bedrock belief among the New Deal alumni that Roosevelt appointed to the Supreme Court. (65) Such judicial deference resulted in frequent victories for the SEC during its first forty years. (66) The Court's brusque dismissal of the SEC's interpretations in the cases discussed below is illustrative of this shift in ideology.


A. Central Bank

In 1994, the Supreme Court handed down its 5-4 decision in Central Bank, which abolished private aiding and abetting liability under [section] 10(b) of the 1934 Act. (67) The decision was extremely controversial, because it overturned "hundreds of judicial and administrative proceedings in every [c]ircuit in the federal system." (68) Indeed, "all 11 Courts of Appeals to have considered the question have recognized a private cause of action against aiders and abettors under [section] 10(b) and Rule 10b-5." (69)

1. Central Bank Background

Central Bank served as indenture trustee for bond issuances in 1986 and 1988 by the Colorado Springs-Stetson Hills Public Building Authority (the "Authority"). (70) The bond covenants required the bonds to be secured by landowner assessment liens on property with a value of at least 160% of the outstanding principal and interest of the bonds. (71) Pursuant to the bond covenants, Am West Development ("Am West") was required to give Central Bank an annual report evidencing that the 160% test was satisfied. (72)

In early 1988, AmWest delivered to Central Bank an appraisal of the land securing the 1986 bonds and of the land that was proposed to secure the 1988 bonds. (73) However, the 1988 appraisal showed virtually no change in the values set forth in the 1986 appraisal. (74) The senior underwriter of the 1986 bonds thereafter sent a letter to Central Bank expressing concern that the 1988 appraisal was inaccurate, as local property values had declined, and that the 160% was not being satisfied. (75) Following an exchange of correspondence between Central Bank and AmWest, Central Bank agreed to postpone conducting an independent review of the appraisal until late 1988, six months after the closing on the June 1988 bond issue. (76) The Authority defaulted on the 1988 bonds before the independent review was completed. (77)

Respondents, purchasers of $2.1 million of the 1988 bonds, sued several defendants alleging primary violations of [section] 10(b) and also sued Central Bank, alleging secondary liability under [section] 10(b) for aiding and abetting the fraud. (78) The lower court granted Central Bank's motion for summary judgment, and the Court of Appeals for the Tenth Circuit reversed. (79)

2. The Decision

The issue before the Supreme Court in Central Bank was whether aiding and abetting liability could be imposed under [section] 10(b). (80) Recognizing that the definition of conduct prohibited by [section] 10(b) must be controlled by the statutory text, the majority prefaced its highly controversial opinion: "That bodes ill for respondents, for 'the language of Section 10(b) does not in terms mention aiding and abetting.'" (81)
   Congress knew how to impose aiding and abetting liability when it
   chose to do so. If ... Congress intended to impose aiding and
   abetting liability, we presume it would have used the words 'aid'
   and 'abet' in the statutory text. But it did not. (82)

The Court rejected the argument by respondents and the SEC that the phrase "directly or indirectly" in [section] 10(b) covers aiding and abetting liability, explaining that "aiding and abetting liability extends beyond persons who engage, even indirectly, in a proscribed activity; aiding and abetting liability reaches persons who do not engage in the proscribed activities at all, but who give a degree of aid to those who do." (83) Because [section] 10(b) prohibits only conduct that is manipulative or deceptive, the majority opined that there can be no liability for acts merely involving the provision of aid to persons committing manipulative or deceptive acts. (84) "We cannot amend the statute to create liability for acts that are not themselves manipulative or deceptive within the meaning of the statute." (85)

Holding that the language of the statute resolved the case, the majority stated that it would have reached the same conclusion even if the language had not been determinative by analyzing how the 1934 Congress would have resolved the issue. (86) If Congress had enacted an express private right of action in [section] 10(b), the majority reasoned, that right would be similar to other express private rights of action in the Acts; thus, interpretive guidance with respect to [section] 10(b) is obtainable by analyzing other express rights enumerated in the Acts. (87)

Because private aiding and abetting liability was not included in any of the express causes of actions under the Acts, 88 the majority concluded that "Congress likely would not have attached aiding and abetting liability to [section] 10(b) had it provided [an express] private [section] 10(b) cause of action." (89) The majority rested its analysis on its belief that permitting such a cause of action would allow petitioners to circumvent the required element of reliance. (90)

Respondents and some amici argued that, because liability for aiding and abetting was "well established in both civil and criminal actions by 1934," Congress intended that such liability be incorporated into the 1934 Act." (91) The majority rejected this argument in light of Congress' "statute-by-statute approach to civil aiding and abetting liability" and its enactment of [section]20 imposing secondary liability with respect to control persons. (92) [W]hen Congress wished to create such [secondary] liability, it had little trouble doing so." (93) Similarly, the majority rejected arguments that Congress' failure to revise [section] 10(b) after courts began imposing aiding and abetting liability thereunder illustrated congressional intent to impose such liability. (94) It concluded that mere inaction by Congress could not amend a formally enacted statute, (95) reasoning that "several equally tenable inferences may be drawn from such inaction." (96)

In a well-written dissent, Justice Stevens emphasized that "judges closer to the times and climate of the 73d Congress than we concluded that holding aiders and abettors liable was consonant with the Exchange Act's purpose to strengthen the antifraud remedies of the common law." (97) Explaining the Court's change across time in its approach to implied causes of action, Justice Stevens explained:
  Our approach to implied causes of action, as to other matters of
  statutory construction, has changed markedly since the ... Exchange
  Act's passage in 1934. At that time, and indeed until quite
  recently, courts regularly assumed, in accord with the traditional
  common-law presumption, that a statute enacted for the benefit of a
  particular class conferred on members of that class the right to
  sue violators of that statute. (98)

Noting that none of the cases relied upon by the majority with respect to its strict interpretation of [section] 10(b) "even arguably involved a settled course of lower court decisions," Justice Stevens asserted that a "settled construction of an important federal statute should not be disturbed unless and until Congress so decides." (99) "[W]e should also be reluctant to lop off rights of action that have been recognized for decades, even if the judicial methodology that gave them birth is now out of favor." (100)

Countering the majority's refusal to confer meaning with respect to Congress' inaction, (101) the dissent noted that, in its comprehensive amendments to the 1934 Act in 1975, "Congress left untouched the sizeable body of case law approving aiding and abetting liability in private actions under [section] 10(b) and Rule 10b-5." (102) Such amendments "emerged from the most searching reexamination of the competitive, statutory, and economic issues facing the securities markets, the securities industry, and, of course, public investors, since the 1930's." (103) Further, the SEC "has consistently understood [section] 10(b) to impose aider and abettor liability since shortly after the rule's promulgation." (104)

The Court's conclusion is particularly relevant with respect to the Janus analysis:
   The absence of [section] 10(b) aiding and abetting liability does
   not mean that secondary actors in the securities markets are always
   free from liability under the securities Acts. Any person or
   entity, including a lawyer, accountant, or bank, who employs a
   manipulative device or makes a material misstatement (or omission)
   on which a purchaser or seller of securities relies may be liable
   as a primary violator under 10b-5, assuming all of the
   requirements for primary liability under rule 10b-5 are met. In any
   complex securities fraud, moreover, there are likely to be multiple
   violators; in this case, for example, respondents named four
   defendants as primary violators. (105)

3. Legislative Response to Central Bank

As recognized by the Central Bank dissent, the opinion left little doubt that even the SEC could not pursue aiders and abettors under [section] 10(b) and Rule 10b-5. (106) The opinion instigated petitions for Congress to enact a statutory cause of action for aiding and abetting liability, and the Senate held hearings on the issue within a month of Central Bank's release. (107) The Chairman of the SEC at the time, Arthur Levitt, testified before the Senate Securities Subcommittee and recommended enacting a private right of action for aiding and abetting liability. (108) Members of the Senate Subcommittee on Securities also supported a private right of action. (109) Congress declined to do so, (110) but in stead enacted [section]20(e) of the 1934 Act, as part of the PSLRA, (111) enabling the SEC to pursue injunctive relief and civil penalties against aiders and abettors. (112) Section 20(e) was amended by the Dodd-Frank Act in 2010 to relax the previous "knowledge" state of mind requirement to recklessness. (113)

After the Enron scandal became public in late 2001, legislation was once again proposed, but not enacted, to restore private aiding and abetting liability. (114) Further, neither the Sarbanes-Oxley Act of 2002 ("Sarbanes-Oxley") (115) nor the Dodd-Frank Act in 2010 did anything to restore pre-Central Bank private aiding and abetting liability. (116) The Dodd-Frank Act did require the Comptroller of the United States to issue the GAO Study, which has had little, if no, effect on legislators to date. (117)

B. Stoneridge

After Central Bank's ban on aiding and abetting liability, conflicting approaches to "scheme liability" evolved in the courts as plaintiffs asserted that secondary actors participating in fraudulent schemes were primarily liable under Rule 10b-5(a) and (c). (118) Fourteen years after Central Bank, the Roberts Court delivered its 5-3 decision in Stoneridge, which further restricted the Rule 10b-5 private right of action. (119)

1. Stoneridge Background

Petitioner, representing a class of purchasers of stock ("Investors") issued by Charter Communications, Inc. ("Charter"), a cable operator, filed suit alleging that Charter violated [section] 10(b) and Rule 10b-5 by inflating its reported revenues by approximately $ 17 million in order to hide an expected cash flow deficiency of $15 to $20 million. (120) According to Investors, Charter enlisted Scientific-Atlanta and Motorola (the "Suppliers"), its suppliers of digital cable converter boxes (also known as "set-top boxes"), to alter the terms of their contractual arrangements with Charter so that Charter's financials would meet expectations. (121) Specifically, Charter and Suppliers agreed that Charter would overpay Suppliers by $20 for each set-top box until year-end and that Suppliers would return such overpayment though their purchase of advertising from Charter. (122) Because Charter would capitalize the purchase of the set-top boxes and record the advertising sales as revenue in violation of generally accepted accounting principles, Charter could deceive its auditor into approving false financial statements demonstrating that it had met its projected cash flow and revenue numbers. (123)

Suppliers, who played no part in the preparation or distribution of Charter's financial statements, recorded the above-described transactions as a "wash, under generally accepted accounting principles." (124) Investors alleged that Suppliers "knew or were in reckless disregard of Charter's intention to use the transactions to inflate its revenues and knew the resulting financial statements issued by Charter would be relied upon by research analysts and investors." (125) The Eighth Circuit Court of Appeals affirmed the lower court's ruling granting Suppliers' motion to dismiss its decision. (126)

2. The Decision

The majority prefaced its opinion by noting that the circuit courts were in disagreement regarding whether a plaintiff could recover under [section] 10(b) against a party that did not make a public misrepresentation or violate a duty to disclose but did participate in a prohibited scheme under [section] 10(b). (127) The Court determined that Suppliers' "course of conduct included both oral and written statements, such as the backdated contracts agreed to by Charter and respondents" and conceded that "[c]onduct itself can be deceptive." (128) However, the Court found that the lack of reliance was fatal to Investors' claim, noting that reliance provided the "requisite causal connection between a defendant's misrepresentation and a plaintiffs injury." (129)

Investors argued that, under the theory of "scheme liability," Suppliers were liable even without having made a public statement. (130) Rejecting this notion, the majority opined:
   In effect [Petitioner contends that in an efficient market
   investors rely not only upon the public statements relating to a
   security but also upon the transactions those statements reflect.
   Were this concept of reliance to be adopted, the implied cause of
   action would reach the whole marketplace in which the issuing
   company does business; and there is no authority for this
   rule.... (131)

The Court concluded that Suppliers' deceptive acts were "too remote to satisfy the element of reliance," noting that such acts were not publicly disclosed. (132) "It was Charter, not [Suppliers], that misled its auditor and filed fraudulent financial statements; nothing [Suppliers] did made it necessary or inevitable for Charter to record the transactions as it did." (133) Because Investors could not demonstrate reliance on Suppliers' alleged acts, except through a remote and indirect chain of events, the majority held that the motion to dismiss was properly granted. (134)

The dissent disagreed, asserting that the majority erroneously insisted on "a kind of super-causation" (135) to prove reliance. Specifically, the dissent reasoned that the fraud-on-the-market presumption (which protects investors who cannot demonstrate individual reliance) does not speak to how a corporation or individual causes the misleading information to reach the market. (136) As such, the dissent concludes that the majority "has it backwards when it first addresses the fraud-on-the-market presumption, rather than the causation required." (137) Succinctly stated, "[t]he argument is not that the fraud-on-the-market presumption is enough standing alone, but that a correct view of causation coupled with the presumption would allow [Petitioner to plead reliance." (138) Therefore, in the dissent's view, it was foreseeable that Suppliers' actions caused Investors to undertake the securities transactions at issue. (139)

The Court also declined to extend the private right of action under [section] 10(b) to "the realm of ordinary business operations[,]" which, it noted, is primarily governed by state law: (140) "Just as [section] 10(b) is surely badly strained when construed to provide a cause of action ... to the world at large, it should not be interpreted to provide a private cause of action against the entire marketplace in which the issuing company operates." (141) The dissent convincingly countered that "liability only attaches when the company doing business with the issuing company has itself violated [section] 10(b)." (142)

Particularly relevant to Janus, the majority noted, as it did in Central Bank, that in addition to the threat of criminal penalties and state actions, secondary actors may face private suit:
   All secondary actors, furthermore, are not necessarily immune from
   private suit. The securities statutes provide an express private
   right of action against accountants and underwriters in certain
   circumstances and the implied right of action in [section] 10(b)
   continues to cover secondary actors who commit primary violations
   ." (143)

The Court concluded that its opinion was "consistent with the narrow dimensions we must give to a right of action Congress did not authorize when it first enacted the statute and did not expand when it revisited the law." (144)

In a strongly-written dissent, Justice Stevens prefaced his opinion by stating that the majority "seems to assume" that Suppliers could face aiding and abetting liability under [section] 20(e), but that they escape private liability because "they are, at most, guilty of aiding and abetting a violation of [section] 10(b), rather than an actual violation of the statute." (145) Justice Stevens labeled the majority's decision a "significant departure" from Central Bank. (146)

The dissent concluded with a detailed commentary on the importance and long history of implied private actions under the 1934 Act. (147) Noting that "[t]he Court's current view of implied causes of action is that they are merely a 'relic' of our prior 'heady days,"' Justice Stevens stated: "[t]hose 'heady days' persisted for two hundred years." (148) Tracing the judicial development of the common law during the first two centuries of U.S. history, Justice Stevens explained that "[a] basic principle animating our jurisprudence was enshrined in state constitution provisions guaranteeing, in substance, that 'every wrong shall have a remedy.'" (149) He emphasized how federal courts widely enforced private causes of action under the Acts until the Court's decision in Central Bank. (150)
   During the late 1940's, the 1950's, the 1960's and the early 1970's
   there was widespread, indeed almost general, recognition of implied
   causes of action for damages under many provisions of the ... [1934
   Act], including not only the antifraud provisions,
   [section][section]10 and 15(c)(1), ... but many others. These
   included the provision, [section]6(a)(l), requiring securities
   exchanges to enforce compliance with the Act and any rule or
   regulation made thereunder, ... and provisions governing the
   solicitation of proxies.... Writing in 1961, Professor Loss
   remarked with respect to violations of the antifraud provisions
   that with one exception 'not a single judge has expressed himself
   to the contrary.'.... When damage actions for violation of
   [section] 10(b) and Rule 10b-5 reached the Supreme Court, the
   existence of an implied cause of action was not deemed worthy of
   extended discussion. (151)

Concluding his dissenting opinion, Justice Stevens wrote that "Congress enacted [section] 10(b) with the understanding that federal courts respected the principle that every wrong would have a remedy," and that the majority's decision cuts back further the remedy that Congress intended. (152)

C. Janus

After Central Bank, the circuit courts were split regarding the method of distinguishing actionable primary liability for secondary actors from conduct for which no right of action existed. (153) The "bright-line attribution rule" required public attribution of a misstatement or omission to a defendant at the time of the dissemination to establish primary liability; this rule was followed by the Second, Fifth, Eighth and Eleventh Circuits. (154) The "substantial participation rule" required that a defendant's involvement in a misstatement's creation be sufficient enough to render attribution to such defendant reasonable; this rule was adopted by the Fourth and Ninth Circuits. (155) Further, the Tenth Circuit's rule imposed liability on actors who knew or should have known that their statements would reach potential investors who would rely on them. (156) The SEC's view, since 1998, has been that primary liability under Rule 10b-5 should be imposed where "a person, acting alone or with others, creates a misrepresentation--assuming, of course, that he or she acts with the requisite scienter." (157) According to the SEC, one "creates" a statement when "the statement is written or spoken by him, or if he provides the false or misleading information that another person then puts into the statement, or if he allows the statement to be attributed to him." (158) Three years after Stoneridge, in June 2011, in the midst of this confusion, the Roberts Court released its highly controversial 5-4 Janus decision. (159)

1. Janus Background

The relationship of the Janus entities at issue is typical of most mutual fund/adviser structures. (160) Janus Capital Group, Inc. ("Adviser Parent"), a publicly-traded company, created the "Janus family" of mutual funds, Janus Investment Fund ("Fund"), organized as a Massachusetts business trust. (161) Fund is entirely owned by mutual fund investors, and it has no assets except those owned by such investors. (162) Fund retained Janus Capital Management LLC ("Adviser"), a wholly-owned subsidiary of Adviser Parent, to serve as its investment adviser and administrator; (163) in such capacity, Adviser provides "the management and administrative services necessary for the operation" of Fund. (164) Adviser "manages the purchase, sale, redemption and distribution" of Fund's investments; "prepares, modifies and implements ... [Fund's] long-term strategies[;]" and carries out Fund's daily activities. (165) Notably, all of the officers of Fund were also officers of Adviser.166 Further, one of Fund's trustees was associated with Adviser. (167) As noted by the dissent, Adviser's employees both drafted and reviewed Fund's prospectuses, including the market timing language at issue in Janus, (168) Adviser also distributed the prospectuses through Adviser Parent's website. (169) Critically, as noted by the dissent, Adviser "may well have kept the trustees in the dark about the true 'market timing' facts" at issue in this case. (170)

The prospectuses issued to Fund investors stated that the funds at issue "were not suitable for market timing" (171) and could "be read to suggest that Adviser would implement policies to curb the practice." (172) However, in late 2003, the Attorney General of the State of New York accused Adviser Parent and Adviser of entering into secret arrangements allowing market timing, to the detriment of investors who did not engage in such practices, in several funds in which Adviser served as investment adviser. (173) Fund investors subsequently withdrew "significant amounts" of money from Fund mutual funds. (174) Adviser Parent and Adviser settled in 2004, agreeing to reduce their fees by $125 million, pay $50 million in civil penalties, and disgorge $50 million to mutual fund investors. (175)

Fund's decreased valuation as a result of the market timing scandal caused Adviser Parent's stock price to fall by approximately 25 percent. (176) First Derivative Traders ("First Derivative"), representing a class of plaintiffs who owned Adviser Parent stock, sued Adviser Parent and Adviser for violations of [section] 10(b) and RulelOb-5, alleging that Adviser Parent and Adviser "caused mutual fund prospectuses to be issued for Janus mutual funds and made them available to the investing public, which created the misleading impression that [Adviser Parent and Adviser] would implement measures to curb market timing in the Janus [mutual funds]." (177) First Derivative claimed that plaintiffs relied "upon the integrity of the market price of [Adviser Parent] securities and market information relating to [Adviser Parent and Adviser]." (178) First Derivative also asserted a "controlling person" claim against Adviser Parent pursuant to [section]20(a) of the 1934 Act. (179)

The District Court of Maryland granted Adviser Parent's and Adviser's motion to dismiss for failure to state a claim. (180) On appeal, the Fourth Circuit Court of Appeals reversed, finding that the complaint adequately alleged that the defendants, "by participating in the writing and dissemination of the prospectuses, made the misleading statements contained in the documents." (181) The Fourth Circuit held that the element of reliance with respect to Adviser was adequately pled, as "investors would infer that Adviser 'played a role in preparing or approving the content of the [Fund's] prospectuses.'" (182) However, because investors would not make such an inference with respect to Adviser Parent, the Fourth Circuit held that Adviser Parent could only face control person liability under [section]20(a) of the 1934 Act. (183)

The Supreme Court granted certiorari to resolve the issue of whether Adviser could be held liable in a private Rule 10b-5 action for materially misleading statements included in Fund's prospectuses. (184) In a thinly reasoned and tediously-written opinion, the Court held that it could not. (185)

2. The Decision

With no analysis whatsoever regarding [section] 10(b), (186) the Roberts Court sophomorically based its opinion on selected definitions of the word "make" from the 1933 edition of the Oxford English Dictionary and the 1934 edition of the Webster's New International Dictionary:
   One "makes" a statement by stating it. When "make" is paired
   with a noun expressing the action of a verb, the resulting phrase
   is "approximately equivalent in sense" to that verb. 6 Oxford English
   Dictionary 66 (def. 59) (1933) (hereinafter OED); accord, Webster's
   New International Dictionary 1485 (def. 43) (2d ed. 1934)
   ("Make" followed by a noun with the indefinite article is often
   nearly equivalent to the verb intransitive corresponding to that
   noun"). For instance, "to make a proclamation" is the approximate
   equivalent of "to proclaim," and "to make a promise" approximates
   "to promise." See 6 OED 66 (def. 59). The phrase at issue
   in Rule 10b-5, "[t]o make any ... statement," is thus the
   approximate equivalent of "to state."

   For purposes of Rule 10b-5, 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. Without control, a
   person or entity can merely suggest what to say, not "make" a
   statement in its own right. One who prepares or publishes a
   statement on behalf of another is not its maker. And in the
   ordinary case, attribution within a statement or implicit from
   surrounding circumstances is strong evidence that a statement was
   made by and only by--the party to whom it is attributed. This rule
   might best be exemplified by the relationship between a writer and
   a speaker. Even when a speechwriter drafts a speech, the content is
   entirely within the control of the person who delivers it. (187)
   And it is the speaker who takes credit--or blame--for what is
   ultimately said. (188)
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Title Annotation:I. Introduction into III. The Turnabout Trilogy C. Janus 2. The Decision, p. 171-204
Author:Kibble, Kelly S.
Publication:Missouri Law Review
Date:Jan 1, 2013
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