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The U.S. Supreme Court Today dealt a major blow to some investors seeking to recover damages and schemes to mislead stockholders. The case was built as the most important test of investor rights in decades. By a 5-3 vote, the investors lost.
NPR's Nina Totenberg reports.
NINA TOTENBERG: This was trumpeted as a do or die case for investors seeking to recover losses in cases like Enron. Cases where banks, insurance companies and other so-called secondary players allegedly helped perpetrate a fraud. To investors, including pension funds and other institutional investors, the case was critical because secondary players are often the only ones left standing after a stock meltdown - the only ones with money to pay off damages. The SEC also saw the case as essential for preserving the integrity of the securities market. But President Bush personally rejected that view, and his administration instead backed the business community and the Supreme Court.
The actual case before the court involved a cable company named Charter Communications that was accused of deceiving investors by conspiring with two off its vendors to make Charter's balance sheet look better than it was. The SEC found that two cable box vendors, Motorola and Scientific-Atlanta, agreed to participate in a phony transaction complete with backdated documents that would help Charter conceal a cash shortfall. When Charter's days of reckoning finally came, the investors left holding the bag, sued not only Charter but the cable box vendors, too, contending that they knew the sham transactions would help Charter keep an inflated stock price. In short the investors contended that as knowing enablers, the vendors were liable, too.
Today, though, the U.S. Supreme Court disagreed. Writings of the five justice majority, Justice Anthony Kennedy said that Congress did not authorize such investor lawsuits against secondary players in fraud unless it could be shown that the secondary players themselves filed misleading financial reports or made public statements on which investors relied.
In this case, said Justice Kennedy, the vendors had no duty to disclose their deceptive acts and didn't, therefore, the investing public did not rely on them except, said Justice Kennedy, in an indirect chain that we find too remote for a liability. In designing the federal securities laws, said Kennedy, Congress allowed the SEC to exact civil penalties from the vendors and authorize criminal sanctions as well, but Congress did not authorize the investors themselves to seek damages from secondary players.
For the business community, the decision represented a big sigh of relief. Robin Conrad is vice president and general counsel for the U.S. Chamber of Commerce.
Ms. ROBIN CONRAD (Executive Vice President, National Chamber Litigation Center): This case had the potential where the court to have accepted this novel theory of scheme liability to reach any company that was involved in any commercial transaction that indirectly affected the purchase or sale of the security. That is huge. That's what corporate America was concerned about.
TOTENBERG: Lawyers for investors agreed that today's ruling shuts the door on most private investor lawsuits against secondary players. But a few such suits may be able to survive, namely the suit brought by institutional and other investors against secondary players in the Enron debacle. Christopher Patti is counsel for the University of California, one of the investors suing Enron.
Mr. CHRISTOPHER PATTI (Legal Counsel, University of California): Mostly were suing investment banks and the investment banks did communicate to investors. They had analysts that scouted Enron as a good investment while the investment bank itself was engaging in these deals that had knew were manipulating Enron's financial results.
TOTENBERG: whether the investors on the Enron case are able to keep their suit against secondary players alive remains an open question. Of course, as the court observed, Congress is free to change the law. House Banking Committee Chairman Barney Frank, however, does not expect any efforts to change the law while George Bush is president since the measure would almost certainly be vetoed.
Representative BARNEY FRANK (Democrat, Massachusetts): With a Democratic president, I think, we would go back this particularly, by the way, if California now, as a result of these bruises in the Enron case, which would seem likelier than not by a considerable amount, I think you're going to feel a lot of pressure to get this case.
TOTENBERG: Nina Totenberg, NPR News, Washington.