Stoneridge ruling deals a serious blow to secondary suits: Stoneridge might be the most important finance case the Supreme Court decides this year, extending a winning streak for business and Wall Street in shareholder class actions that began in 2004.

• Author: Vallario, Cynthia Waller
• Position: LEGAL ISSUES

In a controversial verdict, the U.S. Supreme Court has refused to expand liability to a class of defendants in a major shareholder securities fraud case, citing precedent and Congressional intent, thus declining to open up a new avenue to punish "scheme liability" scams. This decision may significantly affect the future of private rights of action under federal securities laws.

Does participation in a scheme to manipulate earnings and stock price convert secondary actors into primary violators who are liable to defrauded investors under federal securities laws? That is a difficult argument to prove, and the stringent pleading requirements mandated in these cases recently became even tougher.

In a 5-3 opinion delivered in January in Stoneridge Investment Partners LLC v. Scientific-Atlanta Inc. and Motorola Inc., the Supreme Court ruled investors had no private cause of action against a company's suppliers and vendors unless deceptive misconduct by these parties was specifically relied upon by the plaintiffs in their investment decisions.

Stoneridge might be the most important finance case the high court decides this year, extending a winning streak for business and Wall Street in shareholder class actions that began in 2004.

Justice Anthony Kennedy, writing for the majority (joined by Chief Justice John Roberts and Antonin Scalia, Clarence Thomas and Samuel Alito), declined to expand shareholder suits to a "remote" class of defendant. He said such secondary parties, whom the investors hoped to hold liable, were at best aiders and abettors in transactions that led to the primary violators preparing and issuing misleading financial statements. The majority emphasized that the remedy against this class of defendants lies in criminal prosecutions and enforcement actions by the U.S. Securities and Exchange Commission (SEC).

The court's decision, based on several points, stresses that Section 10(b) of the Securities Exchange Act does not extend a private right of action to aiders and abettors, a position the high court firmly established in 1994 in Central Bank of Denver v. First Interstate Bank of Denver.

Justice Kennedy cautioned that adoption of the petitioner's approach towards reliance--that in an efficient market, investors rely not only on the public statements relating to a security but upon the transactions those statements reflect--would reach the whole marketplace in which the issuing company does business. A practical consequence of expanding aiding and abetting liability is to "allow parties with weak claims to extort settlements from innocent companies."

Victory for Business Interests

Although the Supreme Court historically has not chosen to hear many cases addressing issues in federal securities laws, it has taken an unprecedented interest in shareholder class actions in the past several years, illustrating, perhaps, a pro-business leaning.

"This case is significant to certain classes of secondary actors in fraud cases because it limits and narrows the scope of deep pockets available to plaintiffs," notes Charles Elson, law professor and head of the John L. Weinberg Corporate Governance Center at the University of Delaware. The Supreme Court, Elson explains, "has repeatedly stated that including tangential actors as defendants in shareholder suits requires specific...