# Amicus Curiae Brief — Stoneridge Inv. Partners v. Scientific-Atl.

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URL: https://www.frixlaw.com/law-library/documents/brief%3Amicro_IA40385016_0280%3A11

## Record

- **Collection:** Supreme Court brief
- **Document type:** Amicus Curiae Brief
- **Published:** January 1, 2008
- **Citation:** 552 U.S. 148

## Text

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No. 06-43 OFFIC 2 oi. St
In the Supreme Court of the Gnited States
STONERIDGE INVESTMENT PARTNERS, LLC,
PETITIONER
v.

SCIENTIFIC-ATLANTA, INC., ET AL.

ON WRIT OF CERTIORARI
TO THE UNITED STATES COURT OF APPEALS
FOR THE EIGHTH CIRCUIT

BRIEF FOR THE UNITED STATES
AS AMICUS CURIAE SUPPORTING AFFIRMANCE

PAUL D. CLEMENT
Solicitor General
Counsel of Record

THOMAS G. HUNGAR
Deputy Solicitor General

KANNON K. SHANMUGAM
Assistant to the Solicitor
General
Department of Justice
Washington, D.C. 20530-0001
(202) 514-2217

07

QUESTION PRESENTED

Whether a person may be liable in a private action under
Section 10(b) of the Securities Exchange Act of 1934, 15
U.S.C. 78j(b), and Rule 10b-5(a) and (c) thereunder, 17 C.F.R.
240.10b-5(a) and (c), for engaging in a transaction with the
issuer of a security on the ground that the transaction consti-
tuted “deceptive” conduct, when the plaintiff did not rely on
that conduct but at most relied only on a subsequent misstate-
ment by the issuer concerning the transaction.

(I)

TABLE OF CONTENTS

Page
ee SEEN go ny bcdcenedosesoovedesen l
ES ee er er re 2
Ne eee ec ueeeea aces S

Argument:
The court of appeals correctly held that respondents
cannot be held liable in a private action under Section
SRR TE PON TOC eee eT TE e ey 10
A. The phrase “deceptive device or contrivance,” as
used in Section 10(b), encompasses deceptive
conduct as well as misstatements (and omissions
by parties with a duty to disclose) ................ 1]
B. Because petitioner failed sufficiently to allege
reliance, the court of appeals correctly upheld
the dismissal of petitioner's complaint ............ 17
C. Allowing the complaint in this case to proceed
would dramatically broaden the inferred right of
action in Section 10(b) and Rule 10b-5 ............ 26
SEED ct cuca wench Migs baebidek shad Keso00de Gen 30

TABLE OF AUTHORITIES
Cases:

Affiliated Ute Citizens v. United States, 406 U.S. 128

al 55 i Gwe 9664S OS 054605448 Ke e509 15, 24
Alerander v. Sandoval, 5382 U.S. 275 (2001)... 2.2... 27, 50
Anixter v. Home-Stake Prod. Co., 77 F.3d 1215

I eee ell lc edhe bwin edn 00a C6 IY 21
Basie luc. v. Levinson, 485 U.S. 224 (1988) 2.2... 18, 24, 25
Central Bank of Denver, NA. v. First Interstate

Bank of Denver, N_A., 11 US. 164 1994) 22... passin

(IIT)

IV

Cases—Continued: Page

Correctional Servs. Corp. v. Malesko, 534 U.S. 61

SUED nc snovdssnvesevesecseisesseesseenrereee 27
Dura Pharm., Inc. v. Broudo, 544 U.S. 336

re ee ee ee ae ere nee 11, 17, 18, 23, 25
Ernst & Ernst v. Hochfelder, 425 U.S. 185 (1976) .... 12, 17
Fidel v. Farley, 392 F.3d 220 (6th Cir. 2004) ........... 21
Greenberg v. Crossroads Sys., lnc., 364 F.3d 657

GCA EE Sess ewuvecacevisetenverceneciou 26
J. Case Co. v. Borak, 377 U.S. 426 (1964) ............. 27
Klein v. Boyd, No. 97-1143 (3d Cir.) ..............245. 21
Lampf, Pleva, Lipkind, Prupis & Petigrov v.

Gilbertson, 501 U.S. 350 (1991) ........ cece eee 28
Pinter v. Dahl, 486 U.S. 622 (1988) ..............0008. 29
Radzanower v. Touche Ross & Co., 426 U.S. 148

Ree ere mere mes ae re 30

Regeuts of the Univ. of Cal. v. Credit Suisse First
Boston (USA), Inc., 482 F.3d 372 (5th Cir. 2007),
petition for cert. pending, No. 06-1341 (filed Mar. 4,

SED kbd 0 wots kdsascsdesdseeen dee 24
Santa Fe Indus., Lue. v. Green, 430 U.S. 462
GOR va v0e0sanedsiseensennceeeeeeeee 12,15

Schlick v. Penn-Dirie Cement Corp., 507 F.2d 374
(2d Cir. 1974), cert. denied, 421 U.S. 976 (1975) ... 18,19

Schweiker v. Chilicky, 487 U.S. 412 (1988)... 0. eee 27
SEC v. Edwards, 540 U.S. 389 (2004) ...........2000ee 15
SEC v. Zandford, 535 U.S. 813 (2002) ............0066- 10

Shapiro vy. Cantor, 123 F.3d 717 (2d Cir. 1997) 22.2.0... 21

Cases—Continued: Page

Simpson v. AOL Time Warner Ine., 452 F.3d 1040
(9th Cir. 2006), petition for cert. pending, No.

06-560 (filed Oct. 19, BOOB) .. 2... ccc cece cee seen 23
Sosa vy. Alvarez-Machain, 542 US. 692 (2004) ......... 27
Superintendent of Ins. v. Bankers Life & Cas. Co.,

a etc ase hecenesecsce 15, 27
Tellabs, Inc. v. Makor Issnes & Rights, Ltd.,

tk eh cakes becececenc ese 28
United States v. Nobles, 422 U.S. 225 (1975) «0.6.6... 25
United States v. Hagan, 521 U.S. 642 (1997) ...... 15, 16
United States v. Russo, 74 F.3d 1388 (2d Cir.), cert.

denied, 519 U.S. 927 (1996) 2.2.0... ... cee cee eee 16
Wilkie v. Robbins, 127 S. Ct. 2588 (2007) 2.2... 60... 27
Wright v. Erust & Young LLP, 152 F 3d 169 (2d Cir.

1998), cert. denied, 525 U.S. 1104 (1999) ............ 21
Ziemba v. Cascade Intl, Ine., 256 F.3d 1194 (11th Cir.

ae ices cc oes beste vecece 21, 22

Statutes, regulation and rule:

Private Securities Litigation Reform Act of 1995, Pub.

L. No. 104-67, $201, 100 Stat. 748 ................. 13
Securities Act of 1933, 15 U.S.C. T7a et seq.

15 U.S.C. Tila 11) ($ Wahl) ................06. BY

Che ecuncckscecaccccoces 29

Securities Exchange Act of 1934, 15 U.S.C. 78a
et seq.:

I os a cc cae cccsccccseceese 13
CD cecccccevecesccesess passim

i occceuccceceteccoscsssees 29

Bl
ag

_

VI
Statutes, regulation and rule—Continued: Page
Sees SEED: Covi-eWwoceveeveveusseuvune 29
PCs COED sc cccecccccsccccccsnce 26, 29
15 U.S.C. 78u-4(b)(4) ($ 21D(b)(4)) «02 eee eee 25
15 U.S.C. 78u-4(f 2A) (§ 21ID(PM2MA)) 2.2... 28
15 U.S.C. 78u-4(PM(3NC) ($ Z2IDBKC)) . 2.2... 2k
15 U.S.C. 78u-4(f) 10) A) (§ 2ID(DUOMA)) . 2.2.22... ve
17 C.F.R.:
Section 240.10b-5 (Rule 10b-5) ............... passim
Section 240.10b-5(a) (Rule 10b-5(a)) ........... 5, 11,13
Section 240.10b-5(b) (Rule 10b-5(b)) .... 6.2.0.0. 5,13
Section 240.10b-5(c) (Rule 10b-(¢)) .. 2.2.22... 5, 11,18
PE eee EEE on odes Sonkcedensncanoucddantl 24
Miscellaneous:
Black's Law Dictionary (3d ed. 1933) 2.0.00. eee 14
Bonrier’s Law Dictionary (928)... 2... ee cee 14

Charter Comme ns, luc. In ve, Exchange Act Release
No. 50,098 (July 27, 2004) ..............02005- 4
Restatement (Second) of Torts (1977) ............. 18, 19
S. Rep. No. 792, 73d Cong., 2d Sess. (1984) 2.0.0... 6 04. 13
S. Rep. No. 98, L04th Cong., Ist Sess. (1995) 2.2.2... 26
Webster's New International Dictionary (2d ed.

PEED 08465560 edkuhbaihtnnasesacneneucetaeaee 12, 16

Jn the Supreme Court of the Anited States

No. 06-43
STONERIDGE INVESTMENT PARTNERS, LLC,
PETITIONER
v’.
SCIENTIFIC-ATLANTA, INC., ET AL.

ON WRIT OF CERTIORARI
TO THE UNITED STATES COURT OF APPEALS
FOR THE EIGHTH CIRCUIT

BRIEF FOR THE UNITED STATES
AS AMICUS CURIAE SUPPORTING AFFIRMANCE

INTEREST OF THE UNITED STATES

The United States administers and enforces the federal
securities laws. The question in this case concerns the scope
of liability in private actions under Section 10(b) of the Securi-
ties Exchange Act of 1934, 15 U.S.C. 78j(b). Meritorious pri-
vate actions are an essential supplement to criminal prosecu-
tions and civil enforcement actions brought by the govern-
ment. At the same time, private securities actions can be
abused in ways that impose substantial costs on companies
that have fully complied with the applicable laws. The United
States also has responsibility, through, /iter alia, the federal
banking agencies, for ensuring that entities providing services
to publicly traded companies are not subject to inappropriate
secondary liability. The United States thus has a strong in-
terest in seeing that the principles applied in private actions

(1)

2

promote the purposes of the securities laws and other impor-
tant federal laws, and has previously participated as an ami-
cus curiae in cases involving those principles.
STATEMENT

1. This case involves a claim of securities fraud against
respondents Scientific-Atianta, Inc., and Motorola, Inc., which
manufacture digital set-top boxes used by cable-television
subscribers. As alleged in the amended complaint, the facts
are as follows. Respondents supplied set-top boxes to Charter
Communications, Inc. (Charter), one of the Nation's largest
cable-television operators. In August 2000, Charter realized
that it was unlikely to meet its annual target for operating
cash flow. Charter decided to ask respondents to enter into
“wash” transactions, whereby Charter would pay respondents
additional amounts for the set-top boxes they supplied and
respondents would use those amounts to “purchase” advertis-
ing on Charter’s cable channels. In effect, those transactions
would entitle respondents to receive the advertising for free.
Scientific-Atlanta Br. in Opp. App. 31-32.

In order for Charter to improve its operating cash flow as
a result of those transactions, it needed to capitalize the pay-
ments to respondents (on the theory that they were for the
purchase of equipment) while treating the return payments
from respondents as revenue (on the theory that they were
for the purchase of advertising). Before entering into the
transactions, Charter discussed them with Arthur Andersen,
its outside accountant. Arthur Andersen advised Charter that
it could not recognize the advertising payments as revenue if
they were integrally related to the payments to respondents,
but that it could do so if the two sets of payments were unre-
lated to each other, negotiated at least one month apart, and
made at fair market value. Charter informed Arthur Ander-
sen that it would undertake to satisfy those conditions. In

3

late September 2000, Charter and each respondent entered
into separate agreements for the price increase in the set-top
boxes and for the advertising; the agreements concerning
the set-top boxes, however, were backdated to August 2000.
Scientifice-Atlanta Br. in Opp. App. 32-34.

The proposed second amended complaint, based on infor-
mation obtained in discovery, contains more detailed allega-
tions concerning the transactions.’ It alleges that Charter
instructed Scientific-Atlanta to notify Charter that it was
raising the price of set-top boxes that Charter had already
agreed to purchase, and further instructed Scientific-Atlanta
to cite higher manufacturing costs as the reason for the in-
crease. Scientific-Atlanta followed Charter’s instructions,
even though it knew that the stated reason for the increase
was false. The parties later entered into an agreement under
which Charter would pay an extra $20 for each set-top box it
had already agreed to purchase (totaling $6.73 million in ex-
cess payments). The parties simultaneously entered into a
separate agreement in which Scientific-Atlanta agreed to
purchase $6.73 million in advertising from Charter (at rates
four to five times higher than those paid by other advertis-
ers). J.A. 53a-59a.

The proposed second amended complaint also alleges that
Charter entered into an agreement with Motorola to purchase
540,000 set-top boxes by December 31, 2000, even though
Charter had no present need for the Motorola boxes (and thus
no intention of buying them). The agreement contained a
provision requiring Charter to pay Motorola $20 per box in
liquidated damages (totaling $10.8 million) if it did not pur-

~ After the district court had dismissed the claim against respondents,
petitioner filed a motion for leave to file the proposed second amended com-
piaint. The district court denied the motion in relevant part, concluding that.
in light of its reasoning in dismissing the claim, “amending the complaint would
be futile.” Pet. App. 28a.

|

chase the boxes by the specified date. The parties entered
into a separate agreement in which Motorola agreed to pur-
chase $10.8 million in advertising from Charter (again at rates
four to five times higher than those paid by other advertis-
ers). J.A. 53a, 56a-59a.

The proposed second amended complaint alleges that re-
spondents knew that Charter intended to use the transactions
artificially to inflate its operating cash flow. It also alleges
that the backdating of the contracts for the set-top boxes was
indicative of “[respondents’] scienter and complicity in efforts
to mislead Charter’s auditors.” J.A. 53a, 55a, 58a-60a.

Charter subsequently informed Arthur Andersen that the
agreements had been negotiated a month apart from each
other, and Arthur Andersen duly advised Charter that it could
recognize the advertising payments as revenue. Charter did
so in its financial statements for the fourth quarter of 2000,
thereby increasing its operating cash flow by at least $17 mil-
lion to a total of $433.2 million (and $1.56 billion for the entire
year). But for its accounting of the transactions with respon-
dents, Charter would not have met analysts’ projections for
its operating cash flow. Charter continued to report increases
in cash flow throughout 2001 and the first quarter of 2002. On
April 1, 2003, however, Charter issued a comprehensive re-
statement of its financial reports in which, inter alia, it re-
duced its operating cash flow for 2000 by $195 million and its
operating cash flow for 2001 by $292 million. Scientific-At-
lanta Br. in Opp. App. 33-34, 47, 49-60, 66.°

- The Securities and Exchange Commission (SEC) subsequentiy brought
administrative proceedings against Charter; in its order instituting the pro-
ceedings. the SEC alleged that, as a result of the transactions at issue in this
case, Charter had committed numerous reporting, books and records, and
accounting control violations. See 1 re Charte rComnec us, loc. Exchange Act
Release No. 50,00 (July 27, 2004) . Charter settled the proceedings without admitting or denying any
securities Violations

5

2. As is relevant here, petitioner, an investment firm,
filed a class action against respondents in the United States
District Court for the Eastern District of Missouri on behalf
of all purchasers of Charter securities between November 8,
1999, and July 17, 2002, alleging that respondents had en-
gaged in fraudulent condtr ct in violation of Section 10(b) of the
Securities Exchange Act of 1934 (1934 Act), 15 U.S.C. 78j(b),
and Rule 10b-5(a) and (c) thereunder, 17 C.F.R. 240.10b-5(a)
and (c).’ Petitioner also brought claims against Charter and
its executives, contending that Charter had engaged in nu-
merous fraudulent acts to misrepresent its revenues and costs
and to inflate its customer growth rate, and against Arthur
Andersen, contending that Arthur Andersen had acted fraud-
ulently in auditing Charter’s financial statements. Scientific-
Atlanta Br. in Opp. App. 1-88."

Respondents filed motions to dismiss, contending, inter
alia, that the complaint failed to allege actionable misstate-
ments or omissions by respondents, and also failed to allege
that petitioner had relied on respondents’ alleged deceptions.
The district court granted the motions. Pet. App. 30a-71a.
The court held that “|petitioner’s] claims against [respon-
dents] amount to claims for aiding and abetting liability under
§ 10(b) and Rule 10b-5,” and were therefore barred by Central
Bank of Denver, N.A. v. First luterstate Bank of Denver,
N.A., 511 U.S. 164 (1994), which held that a private party may
not pursue a Section 10(b) action on a theory of aiding and

' Petitioner originally also alleged that respondents had made misstate-
ments in violation of Rule 10b-5(b), 17 C.F_R. 240.10b-5(b), see Scientific-
Atlanta Br. in Opp. App. 80, but dropped that claim in its second amended
complaint, see J.A. 110a.

' Charter and its executives entered into a settlement. Arthur Andersen
moved to dismiss the claim against it, contending that the complaint did not
sufficiently allege scienter, but the district court denied the motion. Pet. App.
i7a-tida. Arthur Andersen subsequently also entered into a settlement.

6

abetting liability. Pet. App. 39a. The district court reasoned
that “[petitioner] do[es] not assert that [respondents] made
any statement, omission or action at issue or that [petitioner]
relied on any statement, omission or action made by either of
them.” /d. at 41a. Instead, the court noted, “[petitioner]
contend(s] that [respondents] are liable to Charter’s investors
on the basis that they engaged in a business transaction that
Charter purportedly improperly accounted for.” /bid. The
court stated that it could “find no precedent” for the proposi-
tion that a company could violate Section 10(b) and Rule 10b-5
simply “by virtue of engaging in a business enterprise with a
company such as Charter, the entity purported to have made
the statements at issue.” /d. at 4la-42a.

3. The court of appeals affirmed. Pet. App. la-lla. At
the outset, the court of appeals stated that, in Central Bank,
this Court “confirmed that § 10(b) prohibits only ‘manipula-
tive or deceptive’ devices or contrivances,” and that, in earlier
cases, the Court “held that ‘deceptive’ conduct involves either
a misstatement or a failure to disclose by one who has a duty
to disclose.” /d. at 4a-5a (citation omitted). The court of ap-
peals further noted that, in Central Bank, this Court held that
“Rule 10b-5 does not reach those who only aid or abet a viola-
tion of § 10(b).” /d. at 5a.

The court of appeals rejected petitioner's contention that
it had “properly alleged a primary violation of the securities
laws within the meaning of Central Bank because [respon-
dents] violated Rule 10b-5(a) and (c),” Pet. App. 8a, which
prohibit “employ[ing] [a] device, scheme, or artifice to de-
fraud” or “engag{ing] in [an] act, practice, or course of busi-
ness which operates or would operate as a fraud or deceit
upon any person.” The court reasoned that “Central Bank
and the earlier cases on which it relied stand for three govern-
ing principles.” /bid. First, the court explained, “a private
plaintiff may not bring a 10b-5 suit against a defendant for

7

acts not prohibited by the text of § 10(b).” /b7d. (internal
quotation marks and citation omitted). Second, the court con-
tended, “[a] device or contrivance is not ‘deceptive,’ within the
meaning of § 10(b), absent some misstatement or a failure to
disclose by one who has a duty to disclose.” /bid. (citation
omitted). Third, the court noted, “(t]he term ‘manipulative’ in
§ 10(b) has [a] limited contextual meaning.” /bid. (citation
omitted). Based on those principles, the court held that “any
defendant who does not make or affirmatively cause to be
made a fraudulent misstatement or omission, or who does not
directly engage in manipulative securities trading practices,
is at most guilty of aiding and abetting and cannot be held
liable under § 10(b) or any subpart of Rule 10b-5.” /d. at 9a.
Applying that holding, the court of appeals determined
that petitioner’s complaint failed to state a claim against re-
spondents. Pet. App. Ya-10a. The court reasoned that “the
focus of | petitioner's] § 10(b) and Rule 10b-5 claims was decep-
tion” by Charter, and that “neither Motorola nor Scientific-
Atlanta was alleged to have engaged in any * * * deceptive
act.” Jbid. In addition, the court held that respondents “did
not issue any misstatement relied upon by the investing pub-
lic, nor were they under a duty to Charter investors and ana-
lysts to disclose information useful in evaluating Charter’s
true financial condition.” /d. at 10a. ‘he court thus concluded
that “the district court properly dismissed the claims against
|respondents] as nothing more than claims, barred by Central
Bauk, that [respondents] knowingly aided and abetted the
Charter defendants in deceiving the investor |class].” /bid.
The court of appeals stated that it was “aware of no case
imposing § 10(b) or Rule 10b-5 liability on a business that
entered into an arm's length non-securities transaction with
an entity that then used the transaction to publish false and
misleading statements to its investors and analysts.” Pet.
App. 10a. Imposing liability in those circumstances, the court

8

concluded, “would introduce potentially far-reaching duties
and uncertainties for those engaged in day-to-day business
dealings,” and “[dJecisions of this magnitude should be made
by Congress.” /bid.

SUMMARY OF ARGUMENT

A. The court of appeals in this case erred to the extent it
held that Section 10(b) of the 1934 Act, 15 U.S.C. 78}(b),
reaches only misstatements, omissions made while under a
duty to disclose, or manipulative trading practices. The plain
language of Section 10(b) demonstrates that it potentially
reaches all conduct that is “manipulative” or “deceptive.”
That interpretation is consistent both with the legislative
history of the 1934 Act and with the contemporaneous under-
standing of the term “deceptive.” This Court’s cases provide
no support for the conclusion that non-verbal deceptive con-
duct is somehow beyond the reach of Section 10(b).

Properly understood, a person engages in “decuptive”
conduct for purposes of Section 10(b) when the conduct by its
nature is objectively likely to mislead another person. e.g.,
when it has the effect of conveying a false appearance of ma-
terial fact to an observer (assuming, of course, that the defen-
dant possessed the requisite mental state in engaging in the
conduct). Respondents’ alleged conduct constituted a “decep-
tive device or contrivance” because it not only was likely to,
but allegedly did, mislead Charter’s outside accountant, Ar-
thur Andersen, about the nature of the transactions into
which respondents had entered. Such a reading of Section
10(b) does not nullify this Court's holding in Central Bank
that aiding and abetting liability is not available in a private
Section 10(b) action, because a person cannot be liable as a
primary violator unless it ‘tse/f engages in deceptive con-
duct—and, critically, unless the other elements of primary
liability under Section 10(b) are also established.

9

B. Although the court of appeals erred by concluding that
petitioner had failed to satisfy Section 10(b)’s deception re-
quirement, it nevertheless correctly upheld the district
court's dismissal of petitioner’s complaint, because petitioner
did not sufficiently plead reliance on respondents’ deceptive
conduct. Petitioner does not allege that it was even aware of
the transactions that respondents executed with Charter; at
most, petitioner relied on Charter’s misstatements in purchas-
ing Charter stock. Petitioner does not dispute that Charter
independently decided to make the misrepresentations in its
financial statements, and does not contend that respondents
drafted or otherwise created those misstatements. Accord-
ingly, the causal connection between respondents’ conduct
and petitioner's stock transactions is simply too attenuated to
satisfy the reliance requirement. That is particularly true
because respondents’ alleged conduct relates to only one as-
pect of Charter’s fraudulent scheme, and has no connection
with the publicly disseminated misstatements relating to nu-
merous other, contemporaneous fraudulent acts in which
Charter allegedly engaged. For similar reasons, petitioner
has also failed sufficiently to allege the related element of loss
causation.

C. Allowing liability for a primary violation under the
circumstances presented here would constitute a sweeping
expansion of the judicially inferred private right of action in
Section 10(b) and Rule 10b-5, potentially exposing customers,
vendors, and other actors far removed from the market to
billions of dollars in liability when issuers of securities make
misstatements to the market. It would be particularly inap-
propriate to allow private liability under these circumstances
in light of Congress's rejection of a private right of action for
aiding and abetting liability under Section 10(b) in the wake
of Central Bank (and Congress's creation of much narrower
private rights of action in other provisions of the securities

10

laws). Congress consciously struck a balance between expo-
sure to aiding-and-abetting liability and complete immunity
by empowering the Securities and Exchange Commission
alone to pursue cases of aiding and abetting. Petitioner's
proposed rule would upset that congressional choice and
vastly expand liability in unpredictable ways. Such a radical
expansion of liability is a task for Congress, not the courts.

ARGUMENT

THE COURT OF APPEALS CORRECTLY HELD THAT RE-
SPONDENTS CANNOT BE HELD LIABLE IN A PRIVATE
ACTION UNDER SECTION 10(b) AND RULE 10b-5

Section 10(b) of the Securities Exchange Act of 1934 (1934
Act) makes it unlawful for “any person” “directly or indi-
rectly” to “use or employ, in connection with the purchase or
sale of any security * * * , any manipulative or deceptive
device or contrivance in contravention of such rules and regu-
lations as the [Securities and Exchange Commission (SEC)]
may prescribe as necessary or appropriate in the public inter-
est or for the protection of investors.” 15 U.S.C. 7&j(b). The
SEC's Rule 10b-5 implements Section 10(b) by declaring it
unlawful, “in connection with the purchase or sale of any secu-
rity,” to (a) “employ any device, scheme, or artifice to de-
fraud”; (b) “make any untrue statement of a material fact or
to omit to state a material fact necessary in order to make the
statements made * * * not misleading”; or (c) “engage in
any act, practice, or course of business which operates or
would operate as a fraud or deceit upon any person.” 17
C.F.R. 240.10b-5. This Court has noted that the scope of Rule
iUb-5 is “coextensive” with that of Section 10(b). SEC v.
Zandford, 535 U.S. 813, 816 n.1 (2002). And for violations of
Section 10(b) and Rule 10b-5, courts have inferred a private
right of action that “resembles, but is not identical to,
common-law tort actions for deceit and misrepresentation.”

11

Dura Pharmaceuticals, Inc. v. Broudo, 544 U.S. 336, 341
(2005).

The question presented in this case is whether a person
may be liable in a private action under Section 10(b) and Rule
10b-5(a) and (c) for engaging in a transaction with the issuer
of a security on the ground that the transaction constituted
“deceptive” conduct, when the plaintiff did not rely on that
conduct but at most relied only on subsequent misstatements
by the issuer concerning the transaction. Contrary to the
view seemingly expressed by the court of appeals, Section
10(b)’s prohibition against deception is not limited to actual
misstatements or omissions, but encompasses non-verbal de-
ceptive conduct as well. For the reasons set forth below, how-
ever, the district court correctly dismissed the complaint for
failure to allege that petitioner relied on respondents’ decep-
tive conduct, and the judgment of the court of appeals should
therefore be affirmed.

A. The Phrase “Deceptive Device Or Contrivance,” As Used
In Section 10(b), Encompasses Deceptive Conduct As
Well As Misstatements (And Omissions By Parties With
A Duty To Disclose)

The court of appeals categorically stated that “any defen-
dant who does not make or affirmatively cause to be made a
fraudulent misstatement or omission, or who does not directly
engage in manipulative securities trading practices, is at most
guilty of aiding and abetting and cannot be held liable under
§ 10(b) or any subpart of Rule 10b-5." Pet. App. 9a. The
court of appeals thereby appeared to foreclose the possibility
that non-verbal deceptive conduct—/.e., deceptive conduct
other than misstatements or omissions—could give rise to a
violation of Section 10(b). The court erred in its analysis in
that regard, because a defendant may employ a “deceptive

12

device or contrivance” within the meaning of Section 10(b) by
engaging in non-verbal deceptive conduct.’

1. The text of Section 10(b) unambiguously reaches non-
verbal deceptive conduct, in addition to misstatements and
omissions. Section 10(b) renders it unlawful for “any person”
“directly or indirectly” to “use or employ” “any manipulative
or deceptive device or contrivance” in connection with the
purchase or sale of securities. 15 U.S.C. 78j(b). This Court
has previously addressed the meaning of the critical terms
“device” and “contrivance.” In Ernst & Erust v. Hochfelder,
425 U.S. 185 (1976), the Court, quoting from a contemporane-
ous dictionary, defined “device” as “|t hat which is devised, or
formed by design; a contrivance; an invention; project; sche-
me; often, a scheme to deceive; a stratagem; an artifice,” and
defined “contrivance” as “{a| thing contrived or used in con-
triving; a scheme, plan, or artifice.” /d. at 199 n.20 (second
brackets in original) (quoting Webster's New Jnternational
Dictionary 580, 713 (2d ed. 1934)). The breadth of those
terms demonstrates that Section 10(b) reaches al/ conduct
that is “deceptive” or “manipulative” (assuming that the other
statutory requirements are satisfied), not merely verbal con-
duct (/.¢., misstatements or omissions). Consistent with that
interpretation, the SEC, in promulgating Rule 10b-5, pro-

~ The court seemingly recognized that Section 10tb) reaches at least some
nen-verbal conduct: ¢v2., when the “scheme or contrivance” at issue is “mani-
pulative.” rather than “deceptive.” See Pet. App. 9a (holding that Section 10(b)
makes it unlawful for a defendant, (vfer alia, to “engage in manipulative
securities Grading practices”) (emphasis added). The court was correct to
recognize that “manipulative” conduct can be non-verbal. because the prototy-
pical examples of “manipulative” conduct are such non-verbal actions as “wash
sules, matched orders, or rigged prices.” Sawta Fe ludus.. Lie. v. Green, 430
tus. #2. 176 1977). As the court of appeals noted (Pet. App. {a & n.2), how-
ever. “manipulative” has been viewed as a term of art denoting manipulation
that operates on warkets, see. e.g... Erust & Erust v. Hochtelder, A225 US. 1s,
19 & n.21 (1976), and it is therefore not at issue in this case.

13

scribed not only misstatements and omissions that render
statements misleading (in Rule 10b-5(b)), but also “any de-
vice, scheme, or artifice to defraud” (in Rule 10b-5(a)) and
“any act, practice, or course of business which operates or
would operate as a fraud or deceit upon any person” (in Rule
10b-5(c)). The latter subparts of the rule would be rendered
largely superfluous if Section 10(b) were construed to cover
only misstatements and omissions.”

The legislative history of the 1934 Act confirms that Sec-
tion 10(b) was intended to reach all forms of “deceptive” or
“manipulative” conduct. The Senate Report indicated that
Section 10, together with other sections of the 1934 Act, was
“aimed at those manipulative and deceptive practices which
have been demonstrated to fulfill no useful function,” without
distinguishing between verbal and non-verbal conduct. S.
Rep. No. 792, 73d Cong., 2d Sess. 6 (1934) (emphasis added).
And the Senate Report noted that, while Section 10(a) regu-
lates short sales and stop-loss orders, Section 10(b) “autho-
rizes the [SEC] by rules and regulations to prohibit or regu-
late the use of any other manipulative or deceptive practices
which it finds detrimental to the interests of the investor,”
again without distinguishing between verbal and non-verbal
conduct. /d. at 18 (emphasis added).

2. Nvothing in the ordinary meaning of the word “decep-
tive” suggests that it limits the range of actionable “device[s]
or contrivance|s]” to misstatements or omissions. To the con-
trary, contemporary dictionaries confirm that “deception” and

* Similarly, Section 21Di 10) A) of the 1934 Act (which was added by the
Private Securities Litigation Reform Act of 1995, Pub. L. No. 104-67, § 201, 109
Stat. Tos), in defining the circumstances under which a person “knowingly
commits a Violation of the securities laws” (and thus can be subject to joint and
several liability), distinguishes between “an action that is based on an untrue
statement of material fact or omission of a material fact necessary to make the
statement not misleading” and “an action that is based on any | uther| conduct.”
15 U.S.C. Tsu-4f 10 A).

14

“deceit” can arise from verbal and non-verbal conduct alike.
See, e.g., Black's Law Dictionary 529 (3d ed. 1933) (defining
“deception” as, inter alia, “intentional misleading by false-
hood spoken or acted”); Bouvier’s Law Dictionary 276 (1928)
(noting, in defining “deceit,” that “[a] fraudulent misrepresen-
tation or contrivance * * * need not be made in words”).

This Court's eases likewise provide no support for the
apparently contrary view of the court of appeals, which as-
serted that “|a] device or contrivance is not ‘deceptive,’ within
the meaning of § 10(b), absent some misstatement or a failure
to disclose by one who has a duty to disclose.” Pet. App. 8a;
see id. at 5a, 9a. The court of appeals relied primarily on a
single sentence from Central Bank of Denver, N.A. v. First
luterstate Bank of Denver, 511 U.S. 164 (1994). See Pet. App.
5a. In that sentence, the Court stated that “the statute pro-
hibits only the making of a material misstatement (or omis-
sion) or the commission of a manipulative act.” Central Bank,
511 U.S. at 177; see éd. at 191 (same).

When that statement is read in context, it is clear that the
Court did not intend to exclude non-verbal deceptive conduct
from the reach of Section 10(b). In the very next sentence
(and throughout the rest of the opinion), the Court used ge-
neri¢c language indicating that the statute covers deceptive
conduct, without distinguishing between verbal or non-verbal
conduct. See Central Bank, 511 U.S. at 177 (stating that
“[t}he proseription [in Section 10(b)] does not include giving
aid to a person who commits a manipulative or deceptive act”)
(emphasis added); see also, e.g., id. at 166 (“deceptive act”);
id. at 167 (“deceptive practice”); id. at 170 (“deceptive act”);
id. at 173 (“deceptive acts”); id. at 178 (“acts that are * * *
deceptive”); id. at 183 (“deceptive conduct”); id. at 191 (“de-
ceptive act”). To the extent that the relevant sentence can be
read to have excluded non-verbal deceptive conduct, there-
fore, any such exclusion appears to have been inadvertent and

15

without significance. Cf. SEC v. Edwards, 540 U.S. 389, 396
(2004) (stating that “we will not bind ourselves unnecessarily
to passing dictum that would frustrate Congress’ intent” un-
der the securities laws).

The court of appeals also cited United States v. O'Hagan,
521 U.S. 642 (1997), and Affiliated Ute Citizens v. United
States, 406 U.S. 128 (1972) (see Pet. App. 5a), but those cases
do not speak to the definition of “deceptive device or contriv-
ance.” Instead, they involved collateral issues concerning the
circumstances under which a defendant can be liable for en-
gaging in deceptive conduct by means of an omission alone.
See, e.g., O'Hagan, 521 U.S. at 654 (stating that “|djeception
through nondisclosure is central to the theory of liability for
which the Government seeks recognition”); Affiliated Ute
Citizens, 406 U.S. at 153 (noting that the defendants had
failed to “disclos[e] to [the plaintiffs] material facts that rea-
sonably could have been expected to influence their decisions
to sell”).

In sum, Ҥ 10(b) and Rule 10b-5 prohibit a// fraudulent
schemes in connection with the purchase or sale of securities,
whether the artifices employed involve a garden type variety
of fraud, or present a unique form of deception,” and “[{n ]ovel
or atypical methods should not provide immunity from the
securities laws.” Superintendent of Insurance v. Bankers
Life & Cas. Co., 404 U.S. 6, 11 n.7 (1971) (citation omitted); ef.
Santa Fe Indus., Inc. v. Green, 430 U.S. 462, 477 (1977) (con-
cluding that “Congress meant to prohibit the full range of
ingenious devices that might be used to manipulate securities
prices”). The court of appeals thus erred to the extent it ex-
cluded non-verbal deceptive conduct from the scope of Section
10(b).

3. Because the court of appeals apparently concluded
that only a misstatement or omission can constitute a “decep-
tive device or contrivance” for purposes of Section 10(b), it did

16

not attempt to elaborate on the circumstances under which
other conduct could be “deceptive.” The plain language of
Section 10(b) provides substantial guidance on that issue. The
same dictionary on which this Court relied in Ernst & Ernst
in defining the statutory terms “manipulative,” “device,” and
“contrivance” defines “deceptive” as “|t ending to deceive” or
“having power to mislead.” Webster's New International
Dictionary 679 (2d ed. 1934); see ibid. (defining “deceive” as
“{t]o cause to believe the false, or disbelieve the truth”). It
naturally follows that the phrase “deceptive device or contriv-
ance” comprises any conduct that is committed with the requi-
site mental state and is objectively likely to mislead an ob-
server: ¢.g., conduct that has the effect of conveying a false
appearance of material fact concerning a transaction into
which the person has entered. Cf. United States v. Russo, 74
F.3d 1383, 1391 (2d Cir.) (concluding that trading scheme that
“create(d] a false impression” of demand for stock constituted
a “manipulative * * * device or contrivance” for purposes of
Section 10(b)), cert. denied, 519 U.S. 927 (1996).

When measured against the correct standard, respon-
dents’ alleged conduct in this case constituted a “deceptive
device or contrivance.” The parties are alleged to have delib-
erately backdated the agreements for the price increases in
the set-top boxes, so as to make it appear that the parties had

In order to satisfy the “deceptive device or contrivance” requirement, a
plaintiff need only allege that the defendant engaged in conduct that was
objectively likely to mislead a other person. Insofar as unlawful conduct under
Section L0(b) requires some nexus with an /cestor, that requirement is rooted
not in the “deceptive device or contrivance” requirement. but rather in Section
10(b)'s separate “in connection with” requirement, and (with respect to private
actions) in the reliance and loss-causation requirements. See. ¢.4..O Hogan,
521 U.S. at 656-657; see also pp. 17-26. infra. Respondents did not seek
dismissal in the district court on the ground that the “in connection with”
requirement Was not satisfied, and neither of the courts below addressed that
question.

17

entered into those agreements before the reciprocal advertis-
ing agreements. See Scientific-Atlanta Br. in Opp. App. 33-
34. By entering into the backdated agreements, respondents
conveyed a false appearance of material fact concerning the
transactions into which they had entered: 7.e., because their
conduct not only was likely to, but in fact did, mislead Char-
ter’s outside accountant, Arthur Andersen, into believing that
the two sets of transactions were discrete. On those alleged
facts, respondents’ conduct could be found to constitute a
“deceptive device or contrivance” under Section 10(b).”

B. Because Petitioner Failed Sufficiently To Allege Reli-
ance, The Court Of Appeals Correctly Upheld The Dis-
missal Of Petitioner’s Complaint

In order to state a claim against a defendant as a primary
violator of Section 10(b), a plaintiff not only must allege that
the defendant engaged in “deceptive” or “manipulative” con-
duct, but also must satisfy “a// of the [other] requirements for
primary liability’—regardless of whether the defendant is
itself the issuer of the relevant security or is a “secondary
actor” (such as respondents). Central Bank, 511 U.S. at 191.
Specifically, the plaintiff must allege that the defendant acted
with the requisite scienter, see Erust & Erust, 425 U.S. at 194
n.12, and engaged in the requisite conduct “in connection
with” the purchase or sale of a security, see Dura Phar-
maceuticals, 544 U.S. at 341. Those requirements are ele-
ments not only of private actions such as this one, but also of
criminal prosecutions and civil enforcement actions for viola-

~ Indeed, it is unclear why the backdating does not constitute a misstate-
ment that would satisfy even the court of appeals’ erroneously restrictive view
of Section 10(b). To the extent that the court of appeals’ test excludes even
some material misstatements, it deviates even further from the proper scope
of Section 10¢b)'s prohibition on all deceptive conduct.

18

tions of Section 10(b) brought, respectively, by the Depart-
ment of Justice and the SEC.

Critically for purposes of this case, however, in order to
state a claim in a private action under Section 10(b) and Rule
10b-5, the plaintiff also must satisfy the requirements of reli-
ance and loss causation. See Dura Pharmaceuticals, 544 U.S.
at 341-342. Although petitioner sufficiently alleged that re-
spondents had engaged in deceptive conduct for purposes of
Section 10(b), petitioner did not sufficiently plead that it had
relied on that conduct. The court of appeals’ decision uphold-
ing the dismissal of petitioner's complaint should be affirmed
on that basis.”

1. In Basic June. v. Levinson, 485 U.S. 224, 243 (1988),
this Court expressly held that reliance is an element of a pri-
vate action under Section 10(b) and Rule 10b-5. In so holding,
the Court recognized that “reliance is and long has been an
element of common-law fraud,” ibid. (citing Restatement
(Second) of Torts § 525 (1977)), and explained that “[rJeliance
provides the requisite causal connection between a defen-
dant’s misrepresentation and a plaintiff's injury.” /bid.; see
Schlick v. Penn-Dixie Cement Corp., 507 F.2d 374, 380 (2d
Cir. 1974) (reasoning that the element of reliance requires
that the defendant’s fraudulent conduct have “caused the

* The distriet court accepted respondents’ contention that the complaint
failed to allege reliance, noting that petitioner “do|es| not assert that * * * [it]
relied on any statement, omission or action made by either of | respondents |.”
Pet. App. tla. Respondents renewed that contention on appeal. See Scientific-
Atlanta C.A. Br. 25-28; Motorola C.A. Br. 15-16. While the court of appeals did
not address the reliance issue in detail, it appears to have endorsed the district
court's resolution of that issue. See. ¢.g., Pet. App. 7a (quoting the district
court's ruling on reliance); /d. at 10a (noting that respondents “did not issue any
misstatement relied “pow by the investing public”) (emphasis added). In its
brief before this Court, petitioner does not contend that the Court should not
address the reliance issue, but instead contends only that reliance was suffi-
ciently pleaded. See Br. 57-40.

19

|plaintiff] to engage in the transaction in question”), cert.
denied, 421 U.S. 976 (1975). In Central Bank, the Court con-
firmed that reliance was “|an} element critical for recovery
under Rule 10b-5,” and that, in order to recover in a private
action under Section 10(b) and ule 10b-5, “[a] plaintiff must
show reliance on the defendant s misstatement or omission”
(or other deceptive conduct). 511 U.S. at 180 (emphasis
added). Indeed, the importance of strict adherence to the
reliance requirement in private actions against secondary
actors was a key basis for this Court’s rejection of aiding and
abetting liability. “Were we to allow the aiding and abetting
action proposed in this case,” the Court reasoned, “the defen-
dant could be liable without any showing that the plaintiff
relied upon the aider and abettor’s statements or actions.”
Ibid. (emphasis added)."”

In this case, petitioner does not contend that it relied upon
respondents’ allegedly deceptive conduct (/.e., the backdating
of the contracts increasing the price of the set-top boxes) in
engaging in the relevant transactions (/.e., the purchase of
Charter shares). In fact, petitioner does not contend that it
(or the investing public) was even aware of the transactions
that respondents executed with Charter. Instead, petitioner
freely concedes that “[rjespondents did not themselves dis-
seminate the false information to the securities market,” Br.
38, and alleges only that the backdating of the contracts as-
sisted Charter in mischaracterizing the payments from re-
spondents as revenue (and thus in inflating its operating cash
flow in its financial statements). See, e.g., Scientific-Atlanta
Br. in Opp. App. 33-34. Those allegations might rise to the

“ See Restatement (Second) of Torts § 537 (1977) (providing that “Itlhe
recipient of a fraudulent misrepresentation can recover against its maker for
pecuniary loss resulting from it if. but only if, * * * he relies on the misrepre-
sentation in acting or refraining from action, and * * * his reliance is justi-
fiable”).

20

level of aiding and abetting Charter’s misstatements, but they
fail to establish petitioner's reliance on respondents’ miscon-
duct.'' Because petitioner (and other investors) at most relied
only on Charter’s misstatements, and not on respondents’
apparently undisclosed deceptive conduct, petitioner has
failed sufficiently to allege reliance for purposes of its claim
against respondents. See Central Bank, 511 U.S. at 180.
Petitioner contends (Br. 38, 39) that reliance is neverthe-
less sufficiently alleged because, but for respondents’ decep-
tive conduct, Charter could not have made the misstatements
on which it (and other investors) allegedly relied in purchas-
ing Charter stock. But alleging “but-for” causation is no sub-
stitute for alleging reliance on respondents’ own conduct.
“But-for” causation does not distinguish primary from sec-
ondary liability; alleged misconduct by secondary actors is
frequently necessary to fraudulent schemes (as the facts of
Ceutral Bank illustrate), but that alone does not make those
actors primarily liable. Petitioner does not dispute that Char-
ter independently decided to make the misrepresentations in
its financial statements; indeed, in its complaint, petitioner
seemingly recognizes that Charter could have accounted for
its transactions with respondents in a way that would have
rendered its financial statements accurate. See Scientific-
Atlanta Br. in Opp. App. 4; ef. Pet. Br. 3& (alleging only that
Charter’s misstatements “built upon” respondents’ deceptive
conduct). Conversely, Charter could have misrepresented its
operating cash flow in other respects without engaging in
these transactions. The critical point is that it was Charter’s

As discussed above. reliance is not an element in an enforcement action
brought by the government under Section L0(b). Accordingly, a defendant as
to whom reliance cannot be shown may nonetheless be liable in such an action,
either as a principal violator or as an aider and abettor, even though it would
he at most an aider and abettor (and therefore not liable) in the content of a
private action.

21
misrepresentation of its cash flow, not respondents’ conduct,
on which petitioner allegedly relied.

Petitioner, moreover, does not contend that respondents
affirmatively induced Charter to make the misstatements or
that respondents actually drafted, created, or otherwise made
those misstatements themselves. As numerous courts of ap-
peals have correctly held, a secondary actor cannot be held
liable in a private securities action by virtue of a plaintiff's
reliance on misstatements that were not “made” by the sec-
ondary actor. See, ¢.g. Fidel v. Farley, 392 F.3d 220, 235 (6th
Cir. 2004) (holding that accounting firm could not be liable for
failing to correct issuer’s misleading financial statements
because it “did not make a material misstatement or omis-
sion”); Ziemba v. Cascade Int'l, Jue., 256 F.3d 1194, 1205-1207
(11th Cir. 2001) (holcing that, notwithstanding “allegations of
substantial assistance in the alleged fraud,” “no statements
attributable to |defendant] were ever made to |p|laintiffs;
therefore, |p]laintiffs could not have relied on [defendant] in
making their investment decisions”); Wright v. Ernst &
Young LLP, 152 F.3d 169, 175 (2d Cir. 1998) (noting that
“[rjeliance only on representations made by others cannot
itself form the basis of liability”) (citation omitted; brackets
in original), cert. denied, 525 U.S. 1104 (1999); Shapiro v.
Cantor, 123 F.3d 717, 720 (2d Cir. 1997) (stating that aceuun-
tants “must themselves make a false or misleading statement
(or omission) that they know or should know will reach poten-
tial investors” in order to e liable) (citation omitted); Avéicter
v. Home-Stake Prod. Co., 77 F.3d 1215, 1226 (10th Cir. 1996)
(same); see also SEC Br. at 17-18, Alein v. Boyd, No. 97-1543,
1998 WL 55245 (3d Cir. Feb. 12, 1998) (arguing that a person who “creates a misrepre-
sentation * * * ean be liable as a primary violator.” but that

ard

person who merely “knew of misrepresentations” but had not
“created” them “would not be liable as a primary violator”).

This Court’s decision in Central Bank is to the same ef-
fect. As the Court emphasized in that case, secondary actors
may be held liable in a private action under Section 10(b), but
only when, inter alia, reliance on their conduct has been dem-
onstrated: “Any person or entity, including a lawyer, accoun-
tant, or bank, who employs a manipulative device or makes a
material misstatement (or omission) on which a purchaser or
seller relies may be liable as a primary violator.” 511 U.S. at
191 (emphases added). Words or actions by a secondary actor
that facilitate an issuer’s misstatement, but are not them-
selves communicated to investors, simply cannot give rise to
reliance (and thus primary liability in a private action). That
principle is at the heart of the distinction between primary
liability and secondary liability of the kind rejected in Central
Bank.

In this case, there is an additional reason to conclude that
the complaint fails to satisfy the reliance requirement. While
respondents’ conduct allegedly related to Charter’s state-
ments inflating its operating cash flow by at least $17 million
in the fourth quarter of 2000, petitioners allege that Charter
also engaged in other, contemporaneous fraudulent acts to
misrepresent its revenues and costs—thus raising the ques-
tion whether the decision of petitioner (or any other investor)
to purchase Charter stock, in reliance on Charter’s rosy finan-
cial reports, could be connected even in an attenuated sense
to respondents’ conduct (which appears to have given rise

= ‘The courts in Zremba, 256 F Sd at 1205, and Wright, 152 F 3d at 175, also
held that misstatements made by u secondary actor must be publicly attributed
to the secondary actor before liability can attach in a private action. There is
no need to consider the correctness of that requirement in this case, because
no misstatements made by respondents were disseminated to investors, either
with or without attribution.

23

only to a fraction of the total overstatement in operating cash
flow).

For example, the compiaint alleges that Charter engaged
in a variety of practices that materially overstated its operat-
ing cash flow in 2000 (the year in which respondents’ transac-
tions occurred) by $195 million, and its operating cash flow for
2001 by $292 million. See Scientific-Atlanta Br. in Opp. App.
5, 66. But respondents’ conduct could account for no more
than $17.53 million of the overstatement, or less than 10% of
the total for 2000. The complaint also alleges that Charter
materially inflated its subscriber growth rate and misstated
its expenses. /d. at 3, 38-40. Thus, even if this Court were to
adopt petitioner’s erroneous effort to equate reliance with
mere “but-for” causation, but see Dura Pharmaceuticals, 544
U.S. at 344 (endorsing “the need to prove proximate causa-
tion”), it is difficult to see how petitioner could satisfy such a
requirement, because, taking the facts as alleged in the com-
plaint as true, there is no basis for concluding that, but for
respondents’ conduct, petitioner would not have purchased
Charter stock. Under any standard for reliance, therefore,
petitioner’s complaint is deficient. Where a cause of action
for aiding and abetting exists, an aider and abettor may be
held accountable for losses resulting from the scheme it aided,
but a theory of primary liability must focus on the actions of
the defendant on which the plaintiff allegedly relied."

* In Simpson v. AOL Time Warner Ine. 452 F 3d 1040 (2006), petition for
cert. pending, No. 06-560 (filed Oct. 19, 2006), the Ninth Cireuit held that the
reliance requirement would be satisfied as long as “the introduction of mis-
leading statements into the securities market was the intended end result of a
scheme to misrepresent revenue.” /d. at 1051. [n amicus briefs in that case,
the SEC ‘ook the position that “|t}he reliance requirement is satisfied where
a plaintiff relies on a material deception flowing from a defendant's deceptive
act, even though the conduct of other participants in the fraudulent scheme
may have been a subsequent link in the causal chain leading to the plaintiff*s
securities transaction.” SEC Reply Br. at 12, Simpson, supra (No, 04-55065)

24

2. Just as petitioner has failed sufficiently to allege that
it actually relied on defendants’ conduct in purchasing Char-
ter stock, so too has petitioner failed to show that it is entitled
to a presumption of reliance.'’ This Court has recognized
presumptions of reliance in only two contexts: first, when a
defendant with a duty to disclose has made a material omis-
sion (and it would thus be impossible to show how the plaintiff
would have acted if the omitted information had been dis-
closed), see Affiliated Ute, 406 U.S. at 153-154, and second,
when a defendant commits “fraud on the market” by publicly
making material misstatements concerning an efficiently
traded security, see Basic, 485 U.S. at 241-247.

Petitioner suggests (Br. 38 & n.14; Scientific-Atlanta Br.
in Opp. App. 72) that it can avail itself of the fraud-on-the-
market presumption. Even assuming, however, that the
fraud-on-the-market presumption would be available in an
action against Charter for its misstatements concerning the
transactions with respondents, such a presumption could not
assist petitioner in establishing reliance with respect to its
claim against respondents. By its very terms, the presump-

(Feb. 7, 2005) .
The SEC's briefs, however, were filed without the involvement of the Solicitor
General, and the position on reliance that was expressed in those briefs does
not reflect the views of the United States. For the reasons stated in text, that
position, and the Ninth Circuit's holding on reliance in Simpson, are inconsis-
tent with Central Bank (and with this Court's other cases concerning the
reliance requirement).

* Asa practical matter, without a presumption of reliance. petitioner would
probably be unable to proceed with a class action. because the individualized
issue of reliance would “overwhelm |" any common issues (and thereby
preclude class certification under Federal Rule of Civil Procedure 23(b)(3)).
Basic, 485 US. at 242: see, «.g., Regents of the Cure. of Cal. v. Credit Suisse
First Boston (CSA), lne., 482 F Sd 372, 394 th Cir. 2007) tholding that,
because nu presumption of reliance was available in a case involving similar
allegations against secondary actors, the district court erred by granting class
certification), petition for cert. pending, No. 06-1341 (filed Mar. 5, 2007).

25

tion applies only to publicly disseminated misrepresentations:
“Because most publicly available information is reflected in
market price, an investor's reliance on any public material
misrepresentations * * * may be presumed for purposes of
a Rule 10b-5 action.” Basic, 485 U.S. at 247 (emphases
added). Petitioner’s complaint does not identify any public
statements or actions by respondents. Accordingly, peti-
tioner cannot rely on the fraud-on-the-market theory to sat-
isfy the reliance requirement here.

3. For many of the same reasons that the complaint does
not satisfy the reliance (or transaction-causation) require-
ment, it also does not satisfy the related loss-causation re-
quirement.’ In order to show loss causation, a plaintiff must
prove that the defendant’s fraudulent conduct “proximately
caused the plaintiff's economic loss.” Dura Pharmaceuticals,
544 U.S. at 346; see 15 U.S.C. 78u-4(b)(4) (codifying loss-cau-
sation requirement). In its complaint, pe itioner alleges only
that it purchased stock during a specified class period. See
Scientific-Atlanta Br. in Opp. App. 2, 7. Petitioner does not
allege that respondents conduct caused its loss; indeed, peti-
tioner does not even specifically allege how (and when) it was
revealed that Charter had misrepresented its operating cash
flow as it related to the transactions with respondents, much
less that petitioner (or other class members) still hele its

' Although respondents appear to have raised the loss-causation issue in the
district court (see Scientifie-Atlanta Mot. to Dismiss 20), they did not
separately raise the issue in the court of appeals. and that court did not acklress
it. Because of the purely legal nature of that issue, however, which is con-
ceptually linked to the reliance issue (in that both address aspects of causation),
and in view of the need for clarity and certainty regarding the scope of the
implied private right of action under Section 10(b), the Court may wish to exer-
cise its discretion to address that alternative ground for affirmance. See, ¢.g..
United States v. Nobles, 122 U.S. 225, 240 0.15 1975).

26

Charter stock at the time that the revelation occurred." Peti-
tioner, moreover, does not allege that any injury it suffered
from a decline in Charter’s share price was attributable to the
revelation that Charter had misrepresented its cash flow as
it related to the transactions with respondents, as opposed to
revelations concerning the numerous other fraudulent acts in
which Charter allegedly engaged. See id. at 6 (generically
alleging that Charter’s share price fell during and after the
class period as a result of “[iJncreasing skepticism regarding
the accuracy of [Charter’s| prior disclosures” and “the disclo-
sure of [a] [g]rand [jjury [i]nvestigation” into Charter’s ac-
counting practices); cf. Greenberg v. Crossroads Sys., Ine.,
364 F.3d 657, 665 (5th Cir. 2004) (requiring plaintiff to show
that “there is a reasonable likelihood that the cause of the
decline in price is due to the revelation of the truth and not
the release of the unrelated negative information”). Peti-
tioner’s complaint thus fails sufficiently to allege loss causa-
tion, as well as reliance.

C. Allowing The Complaint In This Case To Proceed Would
Dramatically Broaden The Inferred Right Of Action In
Section 10(b) And Rule 10b-5

In the wake of this Court’s decision in Central Bank, Con-
gress considered, and rejected, a proposal to create an ex-
press private right of action for aiding and abetting under
Section 10(b), and chose instead to authorize only the SEC to
seek civil redress against aiders and abettors. See, e.g., 15
U.S.C. 78t(e); S. Rep. No. 98, 104th Cong., ist Sess. 19 (1995).
Congress thus struck a careful and deliberate balance be-
tween open-ended secondary liability, on the one hand, and

’ The amended complaint alleges only that. on June 18, 2002. an analyst
expressed the view that Charter “hal d|a more aggressive capitalization policy”
than other cable operators (and that Charter “hal d]done some marketing deals
with equipment vendors”). Scientific-Atlanta Br. in Opp. App. 63-61.

27

impunity for aiders and abettors, on the other. Allowing lia-
bility for a primary violation under the circumstances pre-
sented here would effectively circumvent that congressional
judgment and would constitute a sweeping expansion of the
judicially inferred private right of action in Section 10(b) and
Rule 10b-5.

1. This Court first recognized the existence of an in-
ferred private right of action under Section 10(b) and Rule
10b-5 in Bankers Life, 404 U.S. at 13 n.9, at a time when the
Court took the view that “it is the duty of the courts to be
alert to provide such remedies as are necessary to make effec-
tive the congressional purpose” expressed by a statute. J./.
Case Co. v. Borak, 377 U.S. 426, 433 (1964). Since that time,
however, the Court has consistently warned against judicial
inference of private rights of action not specifically authorized
by Congress. See, e.g., Sosa v. Alvarez-Machain, 542 U.S.
692, 727 (2004); Correctional Servs. Corp. v. Malesko, 534
US. 61, 67 & n.3 (2001); Alerander v. Sandoval, 532 U.S. 275,
287-288 (2001). The Court has also repeatedly warned against
extending preexisting inferred rights of action to new con-
texts. See, ¢.y., Wilkie v. Robbins, 127 S. Ct. 2588, 2604-2605
(2007); Malesko, 534 U.S. at 74; Schweiker v. Chilicky, 487
U.S. 412, 421 (1988).

It would greatly expand the inferred private right of ac-
tion under Section 10(b) and Rule 10b-5 if “secondary actors”
could be held primarily liable whenever they engage in alleg-
edly deceptive conduct, even if investors do not rely on (and
are not even aware of) that conduct. Such a rule would expose
not only accountants and lawyers who advise issuers of securi-
ties, but also vendors (such as respondents) and other firms
that simply do business with issuers, to potentially billions of
dollars in liability when those issuers make misrepresenta-
tions to the market. Such a rule would thereby considerably
widen the pool of deep-pocketed defendants that could be

28

sued for the misrepresentations of issuers, increasing the
likelihood that the private right of action will be “employed
abusively to impose substantial costs on companies and indi-
viduals whose conduct conforms to the law.” Tellabs, Ine. v.
Makor Issues & Rights, Ltd., 127 S. Ct. 2499, 2504 (2007).
Moreover, extending liability to vendors could have the effect
of substantially expanding liability for foreign companies that
trade with publicly listed companies. Likewise, creating new
and unpredictable liability for closely regulated entities like
banks could create particular problems and greatly compli-
cate the task of regulators. And the expansion of liability
would raise difficult questions concerning the apportionment
of liability where, as here, the conduct of the secondary actor
relates only to a small part of a broader fraudulent scheme.
See, e.g., 15 U.S.C. 78u-4(f)(3)(C) (providing that, in appor-
tioning liability, the trier of fact should consider “the nature
of the conduct of each covered person found to have caused or
contributed to the loss incurred by the plaintiff or plaintiffs”
and “the nature and extent of the causal relationship between
the conduct of each such person and the damages incurred by
the plaintiff or plaintiffs”).''

Permitting secondary actors to be held liable under these
circumstances would also be inconsistent with the much nar-
rower private rights of action that Congress expressly cre-
ated in other provisions of the securities laws. This Court has
repeatedly looked to those express rights of action in defining
the contours of the inferred right of action in Section 10(b)
and Rule 10b-5. See, e.g., Lampf. Pleva, Lipkind, Prupis &
Petigrow v. Gilbertson, 501 U.S. 350, 359-360 (1991). In con-
struing those express rights of action, moreover, the Court
has strictly defined the class of persons who can be held lia-

Indeed. a rule that permitted secondary actors tu be held liable would raise
the specter of joint and several liability where such an actor was found tu have
“knowingly” violated the securities laws. See 15 U.S.C. TNu-difw 2" Ad.

ble. For example, in Pinter v. Dah/, 486 U.S. 622 (1988), the
Court rejected the proposition that Section 12(1) of the Secu-
rities Act of 1933, 15 U.S.C. 77/(1), which imposes liability on
any person who “offers or sells” an unregistered security,
reaches any person whose participation in the transaction was
a “substantial factor” in the transaction’s occurrence. Pinter,
486 U.S. at 649. Petitioner’s proposed rule not only would be
inconsistent with the Court's practice in construing express
rights of action, but would threaten to swamp those rights of
action by creating an all-encompassing inferred right of ac-
tion under Section 10(b) and Rule 10b-5. See, e.g., 15 U.S.C.
77b(a)(11), 78t(a) (imposing liability on secondary actors only
to the extent that they “control” persons who violate the secu-
rities laws); 15 U.S.C. 78r(a) (imposing liability on parties that
“cause to be made” a false statement in an SEC filing, where
the plaintiff acted “in reliance upon such statement”); cf. Cen-
tral Bank, 511 U.S. at 180 (noting that “it would be * * *
anomalous to impute to Congress an intention in effect to
expand the defendant class for 10b-5 actions beyond the
bounds delineated for comparable express causes of action”).

2. Moreover, at the same time that it refused to create an
express private right of action for aiding and abetting under
Section 10(b), Congress expressly authorized the SEC to pur-
sue civil enforcement actions on a theory of aiding and abet-
ting liability for violations of the 1934 Act. See 15 U.S.C.
7xt(e). In such actions, a person may be liable as an aider and
abettor if the person “knowingly provides substantial assis-
tance” to a primary actor's violation of the securities laws.
Ibid.; ef. Central Bank, 511 U.S. at 168 (listing elements of
preexisting private action for aiding and abetting). The SEC
therefore can take action not only against any party that itself
engages in deceptive or manipulative conduct in violation of
Section 10(b), but also against any party that knowingly facili-
tates another party's deceptive or manipulative conduct: e.g.,

30

when, as is alleged to have occurred here, a party enters into
a deceptive transaction in the knowledge that the other party
intends to make misrepresentations concerning that transac-
tion to its investors.

More fundamentally, Congress's unwillingness to recog-
nize a private right of action for aiding and abetting suggests
that this Court should be loath to create the functional equiv-
alent of such a right of action itself. Cf. Alecander, 532 U.S.
at 290 (noting that “(t}he express provision of one method of
enforcing a substantive rule suggests that Congress intended
to preclude others”). Such an action would upset the deliber-
ate balance struck by Congress. Insofar as petitioner and its
amici advance various policy arguments in favor of broad lia-
bility for secondary actors, there are ample policy arguments
to the contrary (some of which apparently struck a chord
when Congress last expressly addressed the issue). In any
event, all of those policy arguments “are more appropriately
addressed to Congress than to this Court.” Radzanower v.
Touche Ross & Co., 426 U.S. 148, 156 n.12 (1976).

CONCLUSION
The judgment of the court of appeals should be affirmed.
Respectfully submitted.

PAUL D. CLEMENT
Solicitor General
THOMAS G. HUNGAR
Deputy Solicitor General
KANNON K. SHANMUGAM
Assistant to the Solicitor
General

AUGUST 2007

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Source: Frix Law Library, https://www.frixlaw.com/law-library/documents/brief%3Amicro_IA40385016_0280%3A11. Public record. Not legal advice.