Chapter 15 - § 15.9 • CONTROL PERSON LIABILITY, § 15

• Jurisdiction: Colorado

§ 15.9 • CONTROL PERSON LIABILITY, § 15

Section 15 of the 1933 Act makes every person who controls any person who is liable under §§ 11 or 12 also liable jointly and severally with and to the same extent as the controlled person. Section 15 is duplicated in § 20(a) of the 1934 Act and has been interpreted to permit the SEC to seek penalties and damages from control persons who otherwise have not violated the law.¹¹⁹ Damages for control person liability are subject to the 1995 amendments providing for "fair share" or proportionate liability for defendants who act non-knowingly.

§ 15.9.1—Control Persons — Generally; A Factual Question

Whether a person is a controlling person is "an intensely factual" question.¹²⁰ It is important to note that a control person's liability is based on the primary actor's malfeasance; the control person need not have been directly involved in the actions as long as there is liability for the underlying predicate acts. See In re Stone & Webster, Inc. Securities Litigation,¹²¹ where the court dismissed allegations against the controlling persons that they participated in the fraud, but permitted the action to continue against them as control persons under Rule 10b-5.

Under an Eleventh Circuit test, a person is subject to control person liability if the individual "had the power to control the general affairs of the entity primarily liable at the time the entity violated the securities laws . . . [and] had the requisite power to directly or indirectly control or influence the specific corporate policy which resulted in primarily liability."¹²²

In In re Centennial Technologies Litigation,¹²³ the court held that, to show controlling person liability, the plaintiffs must show that:

1) The alleged control person actually exercised control over the general operations of the primary violator.
2) The alleged control person possessed the power to determine the specific acts or omissions upon which the underlying action is based.

There are cases that differ from the Centennial Technologies requirement that the control person actually exercise control. Some cases, such as Binder v. Gordian Sec., Inc.,¹²⁴ require that the control person merely have the power to influence, regardless of whether the power is exercised. In Binder, the court said that a controlling person:

need not actually participate in the challenged transaction, as such a requirement would render meaningless the concept of secondary, "controlling person" liability. Instead, the "controlling person" standard asks whether [the defendant] "had the requisite power to directly or indirectly control or influence corporate policy." [The defendant] need not have exercised that power to be a "controlling person."¹²⁵

In Steed Finance LDC v. Nomura Securities International, Inc.,¹²⁶ the court denied a motion to dismiss a claim for control person liability when the investors alleged that the person's actions created a "reasonable inference of control" over a primary violator.

A right to acquire control probably does not result in the defendant being a "control person." In Maher v. Durango Metals, Inc.,¹²⁷ the court held that the fact that a person "possessed [a contractual] ability to acquire" control was insufficient to find the person liable as a "control person."¹²⁸ In an extensive note describing the "conflict in the circuits" regarding the definition of "control person," the Tenth Circuit stated, "The ability to acquire the power to control is necessarily one step removed from the power to control and two steps removed from the actual exercise of control."¹²⁹ In that case, the Tenth Circuit was unwilling to assert liability based on the "power to acquire control."

§ 15.9.2—Officers And Directors As Control Persons

Directors generally are considered to be controlling persons. However, two outside directors who were members of an issuer's audit committee were found not to be control persons when they "played no significant role in the management of the corporation or in the dissemination of" information to the public that was found to be misleading.¹³⁰ In Bomarko, Inc. v. Hemodynamics, Inc., mere attendance at board meetings did not indicate that the outside directors "culpably participated in the issuance of false statements."¹³¹ In that case, another director was found to be a "control person" subject to liability when he was the company's outside legal counsel and "reviewed and approved most press releases issued by [management]."¹³²

Similarly, when directors acted reasonably and relied in good faith on corporate officers and experts, the Fourth Circuit found no control person liability.¹³³

In Caruso v. Metex Corp.,¹³⁴ the court found on a summary judgment motion that a former director could be considered to be a controlling person notwithstanding his resignation, when the former director stated in an affidavit submitted in unrelated litigation that he had control over the corporation. Heilbron v. ARC Energy Corp.¹³⁵ applied state law to hold the president of a corporation liable for the acts of the corporation, which were found to be in violation of the Missouri Securities Act.

A member of an issuer's management committee is considered a statutory "controlling person of the issuer" since major or significant business decisions are made by the committee.¹³⁶

In Food & Allied Service Trades Department, AFL-CIO v. Millfeld Trading Co.,¹³⁷ the court found that a shareholder had adequately pled control status under 1934 Act § 20(a) with...