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

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No. 06-43

IN THE

Supreme Court of the United States

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STONERIDGE INVESTMENT PARTNERS, LLC,

Petitioner,

SCIENTIFIC-ATLANTA, INC., ET AL.,

Respondents.

On Writ Of Certiorari

To The United States Court Of Appeals

For The Eighth Circuit

BRIEF FOR FORMER SEC COMMISSIONERS AND

OFFICIALS AND LAW AND FINANCE PROFESSORS

AS AMICI CURIAE SUPPORTING RESPONDENTS

MARK A. PERRY

Counsel of Record

JONATHAN C. DICKEY AMANDA M. ROSE

GIBSON, DUNN & CRUTCHER LLP GIBSON, DUNN & CRUTCHER LLP

1881 Page Mill Road One Montgomery Street

Palo Alto, California 94304 San Francisco, California 90071

(650) 849-5300 (415) 393-8200

Counsel for Amici Curiae

TABLE OF CONTENTS

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INTRODUCTION AND SUMMARY OF

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I. The Text And Structure Of The Exchange

Act Preclude Imposition Of Scheme

Liability In Private Rule 10b-5 Actions...........

A. Scheme Liability Is Inconsistent With

Section 10(b), As Construed In Central

ROTATE MELT A, AY PO ENED

B. No Express Private Right Of Action

Recognizes Scheme Liability ...................

ll. The Policy Arguments Advanced By

Petitioner And Its Amici Do Not Justify

Deviation From The Text And Structure Of

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lll. Creating A Private Right Of Action Is A Job

For Congress, Not This Court........ .....:.::::006

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Page

wii 28

TABLE OF AUTHORITIES

Page(s)

Cases

Affiliated Ute Citizens v. United States,

Re Is csincectsintisisiessivusidiametateededinnnmeaiunineliia 10

Alexander v. Sandoval,

I inl alibiaieeialilae 24, 25

Anixter v. Home-Stake Prods. Co..,

igi & 5 3 REECE mnemonic 26

Basic Inc. v. Levinson,

ann SETI tc indintncianctennsiacinnincddeuninnaclinnentminddait 10

Blue Chip Stamps v. Manor Drug Stores,

ee ITI cxsducscnresctssedepunsuamnnipeciaceanniatnamecenieuslans 14

Central Bank of Denver, N.A. v. First Interstate

Bank of Denver, N.A.,

I EES ES ASAT RIN I passim

In re Charter Commce'ns, Inc. Sec. Litig.,

443 F368 DET (Bt Coe. 2ODG)....ncccccccscscesescsescoscsccseseses 4,27

Chiarelia v. United States, 445 U.S. 222, 233

TTS ee ire Mee enn MOE OOF TES 11

Credit Suisse Secs. (USA) LLC v. Billing,

og Bi. | DONE!

Dura Pharms.. Inc. v. Broudo,

I a 10, 13

ill

In re Fannie Mae Sec. Litig.,

es ETT idl ccciscoricensitunpnsiantinsasbhaxenenbieabniaminieie 23

Fidel v. Farley,

| I 26

First Interstate Bank of Denver, N.A. v. Pring,

ee ne Oe EE le I icscsin tnasscecncsivescatonecsovveneseninl 9

In re Lernout & Hauspie Sec. Litig.,

236 F. Supp. 2d 161 (D. Mass. 2003)................:ccceceseees 21

Mahonia Ltd. v. JP Morgan Chase Bank,

2004 WL 1808816 (Q.B.D. (Comm. Ct.))

NS Sisal ceases dlchemiahcdecaitcineideinienitectinnii a 22

In re Parmalat Sec. Litig.,

376 F. Supp. 2d 472 (S.D.N.Y. 2005) ..0......cccccceceeseeeeees 21

Radzanower v. Touche Ross & Co.,

I 27

Regents of the Univ. of Cal. v. Credit Suisse

First Boston (USA), Inc.,

482 F.3d 372 (Sth Cir. 2007),

petition for cert. filed (Apr. 5, 2007) ........0:ccccccccccceeeseees 26

SEC v. J.P. Morgan Chase & Co.,

is UI I, so cs sisesinstitcinnesinsipsinninnd 21

Simpson v. AOL Time Warner, Inc.,

452 F.3d 1040 (9th Cir. 2006), petition for

es ts II sinedicsichs sceepiiinietpnmecittensciseceéncaeonenicen 21

Simpson v. AOL Time Warner, Inc.,

No. 04-55665 (9th Cir. Oct. 22, 2004)... 20

Tellabs, Inc. v. Makor Issues & Rights, Ltd.,

No. 06-484, 551 U.S. (June 21, 2007)................. 25, 27

Transamerica Mortgage Advisors v. Lewis,

Ra I as sh cttaisshicabsicaipipicauenivimnunnenipennsaubidiiis 24

Wright v. Ernst & Young LLP,

a ee As BD ieicevcsceencncoseseunsesceswesneeneenesnt 26

Ziemba v. Cascade Int'l, Inc..,

256 F.3d 1194 (11th Cir. 2001)......................... se 26

Statutes, Regulations, and Legislative History

TN IEIEE INL I i iniek decsabsiscbeldsehininenichonianiobiinidiantipaignaboeccnaeldas 4

ett Peliosenbpesanicvencsenemnsesteinbsaninpseventniannnsnanonenalial 4,11, 12

oT te SEED Me saeor me ea em 19

I ac icadabeiaenmaaanerennaiaie 18

Ne Se aise cibslacisnridsicitiaaiiidiceiaanhatncennetionsndatitncannenmintintte 17

a eee IP iibitiieninsisusnsiecnepcscdincniessvinentnnruiinessubeneupheis 19

Fe ar NE vs ieriiecesviniisnenscisntetnieiinvesnamanenennemintel 4

BF i ee Ae SOs 6 HID vnccenesecessntinsacsenotesinesnesntenen 18

148 Cong. Rec. $6584 (daily ed. July 10, 2002)... 12

Re Ns PUR. SOU IID svntcnsiccssnesnerinnsncrncnniapennvsogoanses 12

Hearing: A Review of Investor Protection and

Market Oversight with the Five

Commissioners of the Securities and

Exchange Commission Before the House

Comm. on Financial Services, 110th Cong.,

Ist Session (June 26, 2007) ................cccesscsssccccccccessceecess 18

CU, UI TE CODD eisdciccesiccienssnessoiniuiensbiceceboaiibnds 12, 25

Other Authorities

Janet Cooper Alexander, Rethinking Damages in

Securities Class Actions, 48 STAN. L. REV.

TTT TaITTTIIE isin ssintiinciencsiiethdeeniataricdishiodiiadbiinceniiadannidieidiadie 16, 17

Vincent J. Badolato, SECURITIES LAW

TECHNIQUES (Matthew Bender 2006) ........00.000000.0000000. 19

Richard A. Booth, Who Should Recover What

For Securities Fraud?, University of

Maryland School of Law Legal Studies

Research Paper, No. 2005 (2005), available

at http://papers.ssrn.com/sol3/papers.cfm?-

I FIT Seitiebiinephinitensnitssiniiniimmpsinaiiiiesiiviaiaan 16

Stephen J. Choi & A.C. Pritchard, SECURITIES

REGULATION: CASES AND ANALYSIS (2005).....000.....00000 16

John C. Coffee, Reforming The Securities Class

Action: An Essay On Deterrence And Its

Implementation, 106 COLUM. L. REv. 1534

SEE cab cesvceinictonneiitaricnntionneaiainsaetebindiaamaiinetens 15, 16, 17

James D. Cox, Robert W. Hillman, & Donald C.

Langevoort, SECURITIES REGULATION:

CASES AND MATERIALS (5th ed. 2006)......0.....00.cccccceceee 16

Frank H. Easterbrook & Daniel R. Fischel, THE

ECONOMIC STRUCTURE OF CORPORATE LAW

Daniel R. Fischel, Secondary Liability Under

Section 10(b) of the Securities Act of 1934,

Is I sd arssitc cmatmsndsconnedoosanetece 11

Joseph A. Grundfest, Scheme Liability: A

Question for Congress, Not for the Courts,

available at http://papers.ssrn.com/sol3/

papers.cfm?abstract 1d=1005524.............ccccee 22, 25, 27

Joseph A. Grundfest, Why Disimply?, 108

| cera ..20

INTERIM REPORT OF THE COMMITTEE ON

CAPITAL MARKETS REGULATION (2006)............ 15, 19, 20

Roberta S. Karmel, When Should Investor

Reliance Be Presumed In Securities Class

Actions?, Brooklyn Law School Legal

Studies Research Papers: Accepted Papers

Series, Research Paper No. 80 (forthcoming

in BUSINESS LAWYER 2007), available at

http://ssrn.com/abstract™ 1001743 ..........ccccccccceseseeeeeeees |

Donald C. Langevoort, Capping Damages For

Open- Market Securities Fraud, 38 ARIZ. L.

lad icine hanidncinsesedtieenecesscesoouns 15,17

2006 PERFORMANCE AND ACCOUNTABILITY

REPORT, U.S. Securities and Exchange

Commission, available at

http://www.sec.gov/about secpar/secpar2006

Vil

PRICEWATERHOUSECOOPERS LLP 2006

SECURITIES LITIGATION STUDY, available at

http://‘www.pwce.com/images/us/eng/about/s

ves/advisory/pi/SecLitStudy 2006 Final.pdf................ 18

A.C. Pritchard, Who Cares?, 80 WASH. U.L.Q.

TSE ASE RR Merete Rt ro hE Re oe RCN Oe oO 17

Larry E. Ribstein, Dabit, Preemption and

Choice of Law, 2006 CATO SUPREME COURT

IEE TET csindiictesdhntiinnbansiadilinnihintineindinneriectninncunceendene 16

David S. Ruder, Civil Liability Under Rule 10b-

5: Judicial Revision Of Legislative Intent?,

OF Pete Ss ins GEE IIE ccciictticecitencccntsenocccnesossestosees 14

SEC Release No. 19735, SEC v. Scientific-

Atlanta, Inc., Civ. Action No. 06 Civ. 4823

(PKC) (June 22, 2006), available at

http://www.sec.gov/litigation/litreleases/200

eI silncstidasiinsnsisiiciciteibnntnednimmanventractencesteneuens 18

Eric L. Talley, Cataclysmic Liability Risk

Among Big Four Auditors, 106 COLUM. L.

a iiss haa hiaicinbleentapnancbansiteinnibind 20

Anjan V. Thakor, The Economic Reality of

Securities Class Action Litigation (Navigant

Consulting 2005), available at

http://downloads.heartland.org/1833 | .pdf ..............0...... 16

INTEREST OF AMICI CURIAE*

Amici curiae include a bipartisan group of former

Chairmen, Commissioners and officials of the United States

Securities and Exchange Commission (SEC), as well as

prominent law and finance professors whose fields of aca-

demic inquiry include securities regulation, class-action prac-

tice, and law and economics. Amici have devoted substantial

parts of their professional careers to implementing, drafting,

and/or studying the federal securities laws, including how

those laws should be interpreted to ensure the protection of

investors and the promotion of efficiency, competition, and

capital formation.

This brief reflects the consensus view of the amici, all of

whom believe that the decision below should be affirmed.

Each individual amicus may not endorse every argument pre-

sented herein, however. The former Chairmen, Commission-

ers, officials, and professors joining this brief as amici, listed

alphabetically by category, are:

The Honorable Roderick M. Hills, who served as the

Chairman of the SEC from 1975 through 1977.

The Honorable Harvey L.. Pitt, who served as the Chair-

man of the SEC from 2001 through 2003, and who also

served as General Counsel of the SEC from 1975 through

1978.

The Honorable Harold M. Williams, who served as the

Chairman of the SEC from 1977 through 1981.

* This brief was not authored, in whole or in part, by coun-

sel for cither party, and no person or entity other than amici

and their counsel contributed monetarily to the preparation or

submission of this brief. See note |, infra. The parties have

consented to the filing of this brief and copies of their letters

of consent have been lodged with the Clerk of the Court.

The Honorable Charles C. Cox, who served as a Com-

missioner of the SEC from 1983 through 1989, and as Chief

Economist of the SEC from 1982 through 1983.

The Honorable Edward H. Fleischman, who served as a

Commissioner of the SEC from 1986 through 1992.

The Honorable Stephen J. Friedman, who served as a

Commissioner of the SEC from 1980 through 1981, and who

is the President of Pace University.

The Honorable Joseph A. Grundfest, who served as a

Commissioner of the SEC from 1985 through 1990, and who

is the William A. Franke Professor of Law and Business

and Co-Director of the Rock Center on Corporate Govern-

ance at Stanford Law School.!

The Honorable Isaac C. Hunt, Jr., who served as a

Commissioner of the SEC from 1996 through 2001.

The Honorable Roberta S. Karmel, who served as a

Commissioner of the SEC from 1977 through 1980, and who

is the Centennial Professor of Law at Brooklyn Law School.

The Honorable Philip R. Lochner, Jr., who served as a

Commissioner of the SEC from 1990 through 1991.

The Honorable Aulana L. Peters, who served as a Com-

missioner of the SEC from 1984 through 1988.

The Honorable Richard Y. Roberts, who served as a

Commissioner of the SEC from 1990 through 1995.

| Professor Grundfest has been retained by respondents to

provide counsel in this matter. In that capacity he submitted

a legal memorandum to the SEC that addressed some of the

subjects addressed in this brief. Professor Grundfest was not,

however, separately compensated in connection with the

preparation of this brief.

The Honorable Laura S. Unger, who served as a Com-

missioner of the SEC from 1997 through 2002, and as Acting

Chairman from February to August 2001.

The Honorable Steven Wallman, who served as a Com-

missioner of the SEC from 1994 through 1997.

James Doty, who served as General Counsel of the SEC

from 1990 through 1992.

Simon M. Lorne, who served as General Counsel of the

SEC from 1993 through 1996.

Professor Stephen M. Bainbridge, the William D. War-

ren Professor of Law at the University of California, Los An-

geles, Law School.

Professor Stephen J. Choi, the Murray and Kathleen

Bring Professor of Law, at New York University School of

Law.

Professor Robert C. Clark, the Harvard University Dis-

tinguished Service Professor, Austin Wakeman Scott Profes-

sor of Law, and Former Dean at Harvard Law School.

Professor John C. Coates, the John. F. Cogan, Jr.

Professor of Law and Economics at Harvard Law School.

Professor Richard A. Epstein, the James Parker Hall Dis-

tinguished Service Professor of Law and Director, the Law

and Economics Program, at the University of Chicago Law

School, and the Peter and Kirsten Bedford Senior Fellow at

the Hoover Institution.

Professor Allen Ferrell, the Greenfield Professor of

Securities Law at Harvard Law School.

Professor Larry E. Ribstein, the Mildred Van Voorhis

Jones Chair in Law at the University of Illinois College of

Law.

Professor Richard W. Roll, Ph.D, Japan Alumni Profes-

sor of International Finance, at the Anderson Graduate

Schuol of Management, University of California, Los Ange-

les.

Professor Roberta Romano, the Oscar M. Ruebhausen

Professor of Law and Director of the Center for the Study of

Corporate Law at Yale Law School.

Professor Kenneth E. Scott, the Ralph M. Parsons Pro-

fessor of Law and Business at Stanford Law School.

Professor Jeff Strnad, the Charles A. Beardsley Professor

of Law at Stanford Law School.

INTRODUCTION

AND

SUMMARY OF ARGUMENT

Petitioner, a professional money management firm, in-

vested in the common stock of Charter Communications, Inc.

On behalf of a shareholder class, petitioner sued Charter for,

inter alia, “entering into sham transactions with two equip-

ment vendors that improperly inflated Charter’s reported op-

erating revenues and cash flow.” Jn re Charter Commc'ns,

Inc. Sec. Litig., 443 F.3d 987, 989 (8th Cir. 2006). Petitioner

also sued the equipment vendors—respondents in this

Court—for taking part in this “scheme.” Petitioner alleged

that respondents “entered into these sham transactions know-

ing that Charter intended to account for them improperly and

that analysts would rely on the inflated revenues and operat-

ing cash flow in making stock recommendations.” /d. at 990.

Respondents, however, “did not issue any misstatement re-

lied on by the investing public, nor were they under any duty

to Charter investors and analysts to disclose information use-

ful in evaluating Charter’s true financial condition.” /d. at

992.

In Central Bank of Denver, N.A. v. First Interstate Bank

of Denver, N.A., 511 U.S. 164 (1994), this Court held that

there is no liability under Section 10(b) of the Securities Ex-

change Act of 1934, 15 U.S.C. § 78)(b), for “aiding and abet-

ting” a fraudulent act—i.e., only “primary” violators can be

sued under that statute and its implementing regulation, Rule

10b-5, 17 C.F.R. § 240.10b-5. Congress quickly amended

the Exchange Act to clarify that the SEC has enforcement

authority over aiders and abettors, whom it defined as those

who “knowingly provide[] substantial assistance to another

person in violation of [the Act],” 15 U.S.C. § 78t(e), but

withheld that authority from private class-action plaintiffs.

In this case, the lower courts correctly concluded that re-

spondents are secondary actors subject to the enforcement

authority of the SEC, but against whom there is no private

right of action under the rule of Central Bank. See 443 F.3d

at 992-93.

Petitioner’s core contention is that respondents should

have been categorized as primary violators under Section

10(b), and thus subject to liability in a private suit notwith-

standing Central Bank, because they allegedly participated in

a “scheme” to defraud Charter’s shareholders. Although pe-

titioner fails to articulate the contours of this theory of

scheme liability, it apparently would encompass at least those

entities that knowingly engage in “transactions with a public

corporation ... that enable[] the publication of artificially

inflated financial statements by the public corporation,” even

though the entities themselves did not trade in the public

company’s stock, owed no duty to investors, and “made no

public statements concerning those transactions.” Pet. Br. i.

Amici respectfully submit that knowingly “enabl[{ing]” a pub-

lic company’s commission of an alleged fraud in this manner

is a Classic description of secondary liability. Accordingly,

petitioner cannot maintain a class action against respondents

under Section 10(b) and Rule | 0b-S.

1. Both the text of Section 10(b) and the structure of the

Exchange Act preclude judicial implication of a private right

of action against a non-trading, non-speaking entity that

merely “enables” the commission of an alleged fraud by a

public company on its shareholders.

A. Petitioner’s “scheme liability” theory is simply a se-

mantic ploy designed to recast secondary conduct as a pri-

mary violation. The conduct at issue in Central Bank fits

squarely within petitioner's definition of “scheme liability.”

but this Court has already held such conduct to be secondary

to a primary violation and, thus, not actionable under Section

10(b). Mere knowing participation in another's alleged fraud

is not sufficient for liability to attach under that provision, as

Central Bank makes clear, and petitioner has not alleged that

respondents did anything more than that.

Following Central Bank, the SEC sought and received

congressional clarification that it may proceed against per-

sons, described as “aiders and abettors,” who knowingly pro-

vide substantial assistance to a person who commits a pri-

mary violation. Petitioner’s claim is that respondents know-

ingly provided substantial assistance to Charter, and thus re-

spondents would be subject to the SEC’s enforcement au-

thority. But Congress did not confer equivalent authority on

private plaintiffs; to the contrary, Congress has twice consid-

ered, but rejected, pleas to allow private claims against sec-

ondary actors. The Court should not do by fiat that which

Congress has expressly declined to do by legislation.

B. No express provision in any of the federal securities

laws allows investors to sue a non-speaking entity that did

not transact in the issuer’s securities and owed no duty to in-

vestors. Since Congress has never expressly authorized such

a private suit, there is no reason to assume that Congress im-

plicitly did so in Section 10(b). This Court has consistently

resisted expansive readings of the judicially implied private

right of action under Section 10(b). There is no warrant here

to recognize a liability theory that Congress has not previ-

ously made available to private plaintiffs under the securities

laws.

II. Policy considerations cannot override the text and

structure of the Exchange Act unless they show that adher-

ence to the statutory framework would lead to results so bi-

zarre that Congress could not have intended them. The pol-

icy arguments advanced by petitioner and its amici fall far

short of that standard.

A. Petitioner and its amici suggest that the private night

of action under Rule 10b-5 ought to be extended to cover

secondary actors to promote the policy goal of investor com-

pensation. But there is a broad consensus in the academic

community that the out-of-pocket measure of damages used

in Rule 10b-S class actions challenging aftermarket fraud is

economically irrational, because it bears little relation to the

actual net harm suffered by investors. The wisdom of ex-

tending the current Rule |0b-5 remedial scheme is therefore

far from obvious, particularly since the money paid to settle

Rule 10b-5 class actions is most often funded by other inno-

cent investors (and at considerable transaction costs). Fur-

thermore, the SEC can now itself provide investors with

meaningful compensation pursuant to its authority under the

“Fair Funds” provision in the Sarbanes-Oxley Act of 2002.

B. The deterrence justification for judicially implying a

private right of action premised on “scheme liability” is also

dubious, since substantial deterrents already exist. The SEC

and Department of Justice already can pursue claims against

aiders and abettors, and none of the briefs submitted by peti-

tioner and its amici demonstrates that additional deterrence is

necessary or appropriate at the margins. Moreover, private

“scheme liability” would give rise to substantial costs that

might exceed its questionable deterrent benefits. Because the

concept of “scheme liability” is not susceptible of precise

definition, defendants faced with scheme liability claims may

feel compelled to settle rather than risk expensive and pro-

tracted litigation. In addition, a defendant charged with

scheme liability often will face damages exposure greatly in

excess of the value of the transaction alleged to be part of the

scheme. The risk of such liability would factor into the price

of such transactions ex ante, raising the costs of doing busi-

ness for companies listed on the U.S. markets. It could also

stifle innovation in derivative transactions and other financial

products.

{Il. Whether to create a new private right of actlon—or

to extend an existing one—is a question appropriately di-

rected to Congress, not this Court. Congress thus far has

seen fit to give the SEC authority to pursue those who pro-

vide substantial assistance to primary violators of the securi-

ties laws, while withholding similar authority from private

plaintiffs. If Congress were to consider expanding the pri-

vate right, it would have to take into account a number of

competing policy considerations, including the impact of

such an expansion on efficiency, competition and capital

formation. It would also have to consider the proper parame-

ters of scheme liability, including whether to provide safe

harbors for derivative or other transactions. At the end of the

legislative process, Congress might decide—as it has twice

before—that the marginal costs of extending the private right

to cover secondary actors would exceed the marginal benefits

of such an extension, or it might decide that such an exten-

sion is warranted. But the very fact that a legislature could

reasonably reach either conclusion demonstrates that the de-

cision is not one for the Judiciary in the first instance.

ARGUMENT

Recognition of a private cause of action under Section

10(b) against non-trading, non-speaking entities that alleg-

edly do no more than knowingly “enable[]” fraud by a public

company (Pet. Br. i) is precluded by the text and structure of

the Exchange Act. The policy arguments advanced by peti-

tioner and its amici do not warrant deviation from that text

and structure; to the contrary, considerations of legal and

economic policy cast considerable doubt on the wisdom of

allowing private suits like petitioner's. Those doubts should

be resolved by Congress, not this Court.

I. The Text And Structure Of The Exchange Act

Preclude Imposition Of Scheme Liability In Private

Rule 10b-5 Actions

To determine whether a private plaintiff's claim may

proceed under Rule 10b-5, this Court has employed a two-

step statutory analysis. First, “the text of the statute con-

trols” with respect to the “conduct prohibited by § 10(b).”

Central Bank, 511 U.S. at 173. Second, “[w)hen the text of

§ 10(b) does not resolve a particular issue, [the Court] at-

tempt[s} to infer how the 1934 Congress would have ad-

dressed the issue.” /d. at 178 (internal quotation marks omit-

ted). Both steps of the statutory analysis compel affirmance

in this case.

A. Scheme Liability Is Inconsistent With Section

10(b), As Construed In Central Bank

Petitioner’s attempt to hold non-trading, non-speaking

entities such as respondents liable in an implied private ac-

tion under Section 10(b) founders on the language of the

Statute itself. The analysis in this regard can be boiled down

to two incontrovertible events: This Court’s decision in Cen-

tral Bank, and the congressional response to that decision.

1. Central Bank served as indenture trustee for bonds is-

sued subject to a covenant that they be secured by real estate

worth at least 160% of the bonds’ outstanding principal and

interest. Central Bank, 511 U.S. at 167. The bank was

“aware of concerns” regarding the value of the security, in

particular “the accuracy of the [pre-existing] appraisal.” /d.

at 168. A senior underwriter of the bond warned the bank

that the appraisal, which was then more than 16 months old,

“should be suspect and not relied on’” in light of declining

real-estate values. First Interstate Bank of Denver, N.A. v.

Pring, 969 F.2d 891, 894 n.5 (10th Cir. 1992). And the

bank’s own in-house appraiser expressed concern about the

values used in the appraisal. 511 U.S. at 167. Despite these

warnings, Central Bank acceded to the bond issuer’s request

to delay aun mdependent appraisal by six months, during

which time the issuer defaulted on a new issuance that, the

plaintiff alleged, would not have come to market absent Cen-

tral Bank’s agreement to defer the new appraisal. /d. at 167-

68.

This Court concluded that Central Bank’s conduct was

beyond the proscriptive reach of Section 10(b). Central

Bank, itself, “did not commit a manipulative or deceptive act

within the meaning of § 10(b),” as the plaintiffs there had to

concede. 511 U.S. at 191. Instead, Central Bank would have

had to be found “secondarily liable under § 10(b) for its

conduct in aiding and abetting the fraud’” committed by the

issuer. /bid. This Court concluded, however, that Section

10(b) reaches only primary violators. /bid. It therefore held

that the suit against Central Bank had properly been dis-

missed by the district court. /d. at 191-92.

As a comparison with the facts of Central Bank makes

clear, petitioner's “scheme liability” theory is simply a se-

mantic ploy designed to recast secondary conduct as a pri-

mary violation. The conduct at issue in Central Bank would

fit squarely within the definition of “scheme liability” that

petitioner proposes in this case (Pet. Br. i): Central Bank en-

gaged in a transaction with the issuer (i.e., an agreement to

defer the new appraisal) that “enabled” the issuer to publish

false statements (i.e., that the security covenant was satis-

tied), although the bank itself made no statement directly to

the bondholders. It follows a fortiori from Central Bank that

respondents here, who owed no duty to Charter’s sharehold-

ers and did net engage in any public misrepresentations (or

public deceptive acts), also did not engage in a primary viola-

tion (regardless of whether they “enable[d]” Charter’s alleg-

edly fraudulent scheme). See Chiarella v. United States, 445

U.S. 222, 233 (1980) (declining, in the absence of “explicit

evidence of congressional intent,” to “recogniz[e] a general

duty between all participants in the market” to refrain from

any act that may contribute to harm to other market partici-

pants).

Indeed, one of the central elements of the implied private

Rule 10b-5 action is the plaintiff's re/iance on the defen-

dant’s alleged wrongdoing. Dura Pharms., Inc. v. Broudo,

544 U.S. 336, 341 (2005). But petitioner, the plaintiff here,

cannot establish reliance on respondent:’ alleged wrongdo-

ing, either directly or by use of the fraud-on-the-market pre-

sumption: Again, respondents made no public misrepresen-

tations and engaged in no public deceptive acts (cf Basic Inc.

v. Levinson, 485 U.S. 224, 243 (1988)); moreover, given

their lack of duty, respondents cannot be charged with an ac-

tionable omission (cf. Affiliated Ute Citizens v. United States,

406 U.S. 128, 153 (1972)). Allowing a defendant to be held

“hable without any showing that the plaintiff relied upon [de-

fendant’s] statements or actions” would “circumvent the reli-

ance requirement [and] would disregard the careful limits on

10b-5 recovery mandated by . . . earlier cases.” Central

Bank, 511 U.S. at 180 (emphasis added); see also id. at 191

(describing a primarily liable party as one “who employs a

manipulative device or makes a material misstatement (or

omission) on which a purchaser or seller of securities re-

lies”) (emphasis added); cf’ Roberta S. Karmel, When Should

Investor Reliance Be Presumed In Securities Class Actions?,

Brooklyn Law School Legal Studies Research Papers: Ac-

cepted Papers Series, Research Paper No. 80 at 39 (forthcom-

ing in BUSINESS LAWYER 2007), available at

http://ssrn.com/abstract=1001743 (observing that “extending

the fraud-on-the-market doctrine to statements by third par-

ties, who are not required to speak by SEC regulations, or do

not owe a duty to investors or shareholders” would be un-

wise, as it could “encourage too much questionable litiga-

tion’’).

As the Court put it in Central Bank, “(t]he proscription”

of Section 10(b) “does not include giving aid to a person who

commits a manipulative or deceptive act.” 511 U.S. at 177.

Central Bank itself recognized that knowing participation in

a “scheme” is simply another label for aiding and abetting

when it analogized an aiding-and-abetting claim under the

securities laws to a claim for “knowing participation in a

breach of fiduciary duty” under ERISA, and the Court re-

jected both under the text of the applicable statutes. /d. at

175, 176 (emphasis added); see also Daniel R. Fischel, Sec-

ondary Liability Under Section 10(b) of the Securities Act of

1934, 69 CAL. L. Rev. 80, 105-06 & n. 138 (1981) (arguing

that knowingly assisting another’s deceptive act does not vio-

late Section 10(b)). Petitioner has not alleged that respon-

dents did anything more than knowingly participate in Char-

ter's alleged fraud; this is a secondary violation in every

sense of the word.-

2 Contrary to the suggestion of petitioner's amici (Br. for

Charles W. Adams, et al. 3), interpreting the scope of Section

10(b) in accordance with its text would not allow the villain

Fagin, from Oliver Twist, to escape liability under the Ex-

[Footnote continued on next page]

2. In the wake of Central Bank, the SEC lobbied Con-

gress for clarification that it may pursue secondary actors.

Congress responded not by amending Section !0(b), but by

enacting a new Section 20(e), which provides:

Prosecutions of Persons Who Aid and Abet

Violations. For purposes of any action

brought by the Commission . . . , any person

that knowingly provides substantial assistance

to another person in violation of a provision of

this title, or of any rule or regulation issued

under this title, shall be deemed to be in viola-

tion of such provision to the same extent as

the person to whom such assistance is pro-

vided.

15 U.S.C. § 78t(e) (emphasis added).

Thus, if there were any question after Central Bank that

aiding and abetting liability includes “scheme liability,”

Congress laid it to rest by defining aiding and abetting liabil-

ity, for purposes of SEC enforcement actions, to include pre-

cisely that: Petitioner’s claim, at bottom, is that respondents

knowingly provided substantial assistance to Charter’s al-

leged fraud. But Congress consciously decided, both when it

enacted Section 20(e) in 1995 and again when it enacted Sar-

banes-Oxley in 2002—anot to extend the right to enforce this

liability to private plaintiffs. See S. Rep. No. 104-98, at 48

(1995) (“The Committee believes that amending the 1934

Act to provide explicitly for private aiding and abetting li-

ability actions under Section 10(b) would be contrary to S.

240’s goal of reducing meritless securities litigation”); H.R.

Rep. No. 107-414, at 54 (2002); 148 Cong. Rec. S6584 (daily

ed. July 10, 2002). This Court should not do, by fiat, that

[Footnote continued from previous page]

change Act. See 15 U.S.C. § 78t(a) (imposing control person

liability).

which the Congress has declined to do each time it has been

presented with the issue.

B. No Express Private Right Of Action

Recognizes Scheme Liability

Central Bank and the congressional reaction to that deci-

sion make clear enough that Section 10(b) does not encom-

pass scheme liability. The express private rights of action

that Congress chose to include in the Exchange Act only

serve to confirm that conclusion. No express provision in

any of the federal securities laws allows investors to sue a

non-speaking entity that did not transact in the issuer’s secu-

rities and owed no duty to investors. Since Congress has

never expressly endorsed petitioner’s theory of “scheme li-

ability,” it makes no sense to assume that Congress implicitly

did so for private Rule 10b-5 actions.?

The Court’s conclusion in Central Bank is equally appli-

cable here: “From the fact that Congress did not attach pri-

vate aiding and abetting liability to any of the express causes

of action in the securities Acts, we can infer that Congress

likely would not have attached aiding and abetting liability to

§ 10(b) had it provided a private § 10(b) cause of action.”

511 U.S. at 179. By parity of reasoning, the fact that Con-

gress has never seen fit to allow a private action premised on

“scheme liability” compels the inference that Congress

would not have authorized such liability in private Rule 10b-

5 actions. That inference is confirmed by the post-Central

Bank actions (and inactions) by Congress described in the

preceding section.

3 This is not to suggest that an entity that does speak,

breach a duty or transact in the issuer’s securities is necessar-

ily liable under Rule 10b-5. See Dura Pharms., Inc., 544

U.S. at 341 (listing the elements necessary to establish a pri-

vate Rule 10b-5 claim).

The implied right of action under Rule 10b-5 is of judi-

cial creation. This Court has repeatedly resisted expansive

readings of the implied right, recognizing that private securi-

ties litigation is susceptible to abuse. Blue Chip Stamps v.

Manor Drug Stores, 421 U.S. 723, 736 (1975) (“It would in-

deed be anomalous to impute to Congress an intention to ex-

pand the plaintiff class for a judicially implied cause of ac-

tion beyond the bounds it delineated for comparable express

causes of action”); Dura, 544 U.S. at 347 (rejecting plain-

tiffs’ claim that loss causation need not be alleged with speci-

ficity based on concerns about “abusive” practices”). There

is simply no warrant for the Court to adopt, or invent, a li-

ability theory that Congress has never expressly afforded to

private plaintiffs under the federal securities laws. Cf David

S. Ruder, Civil Liability Under Rule 10b-5: Judicial Revision

Of Legislative Intent?, 57 Nw. U. L. REV. 627, 660 (1962)

(because it is implied, the private right under Rule 10b-5

“should be interpreted with caution”).

il. The Policy Arguments Advanced By Petitioner

And Its Amici Do Not Justify Deviation From The

Text And Structure Of The Exchange Act

Petitioner and some of its amici suggest that private Rule

10b-5 liability ought to be extended to encompass “scheme

liability” in order to ensure investor compensation and ade-

quate deterrence. But such “[pjolicy considerations cannot

override [this Court’s] interpretation of the text and structure

of the Act, except to the extent that they may help to show

that adherence to the text and structure would lead to a result

‘so bizarre’ that Congress could not have intended it.” Cen-

tral Bank, 511 U.S. at 188. The arguments advanced by peti-

tioner and its amici fall far short of that standard.

A. Compensation

Petitioner and its amici urge this Court to characterize

those who merely “enable” another's fraud as primary viola-

tors in order to promote the goal of investor compensation.

But a broad consensus in the academic community recog-

nizes that the out-of-pocket measure of damages utilized in

Rule 10b-5 class actions challenging aftermarket fraud is

economically irrational. Innocent investors, rather than the

actual wrongdoers, most often fund the recovery in Rule 1 0b-

5 class actions. Given that diversified investors are unlikely,

over time, to suffer net harm from aftermarket securities

fraud, this very expensive system of investor self-insurance is

difficult to defend from a compensatory standpoint. The

wisdom of extending it to cover “scheme liability” claims is

therefore far from obvious.

1. Almost without exception, Rule 10b-5 class actions

that are not dismissed at the pleading stage result in settle-

ment, and the individual wrongdoers allegedly responsible

for the fraud rarely contribute. See John C. Coffee, Jr., Re-

forming The Securities Class Action: An Essay On Deter-

rence And Its Implementation, 106 COLUM. L. REv. 1534,

1550-51 (2006). Instead, the primary sources of settlement

payments are issuers, their insurers, and ancillary defendants.

See Janet Cooper Alexander, Rethinking Damages in Securi-

ties Class Actions, 48 STAN. L. REV. 1487, 1506 & n. 81

(1996). Each of these sources of funds may be traced back to

innocent investors: Payments by the issuer effect a direct

transfer of wealth from the issuer’s current shareholders to

the class members; payments by insurers are funded by pre-

miums paid by the insurer’s policyholders (issuers and, indi-

rectly, their innocent shareholders); and payments by ancil-

lary defendants, like accountants and investment banks, may

be charged back to issuers (and, indirectly, their innocent

shareholders) through increased fees due to litigation risk.

See Donald C. Langevoort, Capping Damages For Open-

Market Securities Fraud, 38 Ariz. L. REV. 639, 649 (1996).

Moreover, ancillary defendants may themselves be publicly-

owned companies, thus implicating yet another group of in-

nocent investors.

As a result, the amount that some investors gain from

private Rule 10b-5 class actions “will show up on the other

side of the capital marketplace ledger as roughly an equal

charge to other[]” innocent investors. Langevoort, 38 ARIz.

L. Rev. at 649. Rule 10b-5 class actions are therefore like a

very inefficient form of investor self-insurance—one that, as

explained below, diversified investors do not need. See IN-

TERIM REPORT OF THE COMMITTEE ON CAPITAL MARKETS

REGULATION at 79 (2006) (the transfer from diversified in-

vestors to other diversified investors “represents a pocket-

shifting wealth transfer that compensates no one in any

meaningful sense and that incurs substantial wasteful transac-

tion costs in the process”).

2. The loss suffered by an investor who purchased secu-

rities at an artificially inflated price is always matched with a

corresponding gain to the investor on the other side of the

transaction—thus, in a case of aftermarket fraud, innocent

investors earn a profit by selling their stock at a price inflated

by the fraud, and the law allows them to keep their profits.

Because it can be assumed that an innocent investor’s chance

of being on the losing or winning side of such a transaction is

random, a well-diversified investor’s gains and losses from

aftermarket securities fraud will tend to net out over time.4

4 See, e.g., Frank H. Easterbrook & Daniel R. Fischel, THE

ECONOMIC STRUCTURE OF CORPORATE LAW 339-341 (1991);

Richard A. Epstein, CASES AND MATERIALS ON TORTS, 8th

edition, 1124 n.4 (Aspen 2004); Stephen J. Choi & A.C.

Pritchard, SECURITIES REGULATION: CASES AND ANALYSIS at

348 (2005); James D. Cox, Robert W. Hillman, & Donald C.

Langevoort, SECURITIES REGULATION: CASES AND MATERI-

ALS 727-728 (Sth ed. 2006); Larry E. Ribstein, Dabit, Pre-

emption and Choice of Law, 2006 CATO SUPREME COURT

REVIEW 141, 147-152; Richard A. Booth, Who Should Re-

cover What For Securities Fraud?, University of Maryland

School of Law Legal Studies Research Paper, No. 2005-32

(2005) at 6, available at http://papers.ssmn.com/sol3/

papers.cfm?abstract_id=683197; Anjan V. Thakor, The Eco-

nomic Reality of Securities Class Action Litigation at |

(Navigant Consulting 2005), available at http://downloads.

heartland.org/18331.pdf: Janet Cooper Alexander, Rethinking

[Footnote continued on next page]

Such an investor would “perceive[] little good in a legal rule

that forces his winning self to compensate his losing self over

and over,” while paying substantial legal fees to boot.

Easterbrook & Fischel, THE ECONOMIC STRUCTURE OF CoR-

PORATE LAW 340; see also Coffee, 106 COLUM. L. REV. at

1537 (observing that “the burden of securities [litigation]

falls perversely on the victim,” which may explain “stock

price event studies that report that the subject company’s

stock price typically falls when a securities class action is

filed and that stock prices generally rise when legislation is

passed curtailing securities class actions”); Alexander, 48

STAN. L. REV. at 1502 (“the risk of litigation, unlike the risk

of securities fraud, cannot be diversified against because the

legal fees of both sides constitute a deadweight loss”).

This is not to say that aftermarket securities fraud causes

no harm to investors. But extending the remedy of out-of-

pocket compensatory damages to reach secondary violators

in aftermarket fraud cases, such as this one, is not the best

method for redressing that harm. Cf Langevoort, 38 Ariz. L.

REV. at 651 (the compensatory justification for private Rule

10b-5S actions “has relatively few informed, non self-serving

defenders”); Coffee, 106 CoLum. L. Rev. at 1545 (“From a

compensatory perspective, the conclusion seems inescapable

that the securities class action performs poorly”); A.C.

Pritchard, Who Cares?, 80 WASH. U. L.Q. 883, 884 (2002)

(“Securities class actions cannot be justified as providing

compensation”). This ts particularly true now that the SEC is

authorized to play an important role in providing compensa-

tion to investors through the “Fair Funds” provision in the

Sarbanes-Oxley Act of 2002. See infra at 18.

{Footnote continued from previous page]

Damages in Securities Class Actions, 48 STAN. L. REV. 1487,

1495-1496 (1996).

B. Deterrence

The deterrence-based policy arguments raised by peti-

tioner and its amici similarly fail to demonstrate that adher-

ing to the text and structure of the Exchange Act would lead

to a “*bizarre’” result. Central Bank, 511 U.S. at 188. Those

who assist another’s primary violation of Rule 10b-5 already

face significant sanctions at the hands of public enforcers; it

is therefore far from clear whether the additional marginal

deterrence that might result if private “scheme liability” were

recognized is even necessary. Nor is it clear whether the

benefits of this additional deterrence, if any, would exceed

the costs of expanding the scope of the implied right.

1. Those who aid and abet securities law violations face

considerable deterrents under the existing regime. The De-

partment of Justice, for example, can bring criminal charges

against those who aid and abet a securities law violation. See

18 U.S.C. § 2. As noted above, Congress has also conferred

authority on the SEC to pursue aiders and abettors, 15 U.S.C.

§ 78t(e)—authority the SEC has utilized to pursue allegations

identical to those in this case. See SEC Release No. 19735,

SEC v. Scientific-Atlanta, Inc., Civ. Action No. 06 Civ. 4823

(PKC) (June 22, 2006), available at http://www.sec.gov-

/litigation/litreleases/2006/Ir19735.htm; see also PRICEWA-

TERHOUSECOOPERS LLP 2006 SECURITIES LITIGATION STUDY

at 24-25, available at http://www.pwc.com/images/us/eng/

about/svcs/advisory/pi/SecLitStudy 2006 Final.pdf (detail-

ing public enforcement efforts in 2006).

The SEC has utilized its enforcement authority in recent

years to recover substantial penalties from securities law vio-

lators, money it has returned in large part to injured investors

pursuant to the Fair Funds provision in the Sarbanes-Oxley

Act of 2002. 15 U.S.C. § 7246: see also 17 C.F.R.

$§ 201.1100-201.1106. Indeed, the SEC has collected at

least $8 billion for distribution to harmed investors since

2002. See 2006 PERFORMANCE AND ACCOUNTABILITY RE-

PORT, U.S. Securities and Exchange Commission, available

at http://www.sec.gov/about/secpar/secpar2006.pdf. ‘It re-

cently reported that it has returned over $1 billion to inves-

tors since 2005. See Hearing: A Review of Investor Protec-

tion and Market Oversight with the Five Commissioners of

the Securities and Exchange Commission Before the House

Comm. on Financial Services, 110th Cong., Ist Session (June

26, 2007) (Statement of the Securities and Exchange Com-

mission) (noting that “[s]everal additional large disburse-

ments are pending and will be announced shortly”).

In addition to financial penalties, the SEC has available

to it a panoply of remedies that enable it to perform its deter-

rent function in a finely calibrated manner, depending on the

facts and circumstances of the particular case before it.

These remedies, the availability of which vary somewhat de-

pending on whether the Commission initiates an administra-

tive proceeding or files suit directly in federal court, today

include: officer and director bars; injunctive relief; cease and

desist orders; disgorgement of ill-gotten gains; and orders

requiring corrective disclosures and corporate governance

changes, among other things. See Vincent J. Badolato, SE-

CURITIES LAW TECHNIQUES §§ 87.06-87.07 (Matthew Bender

2006). Importantly, the SEC and DOJ can impose career-

and liberty-ending sanctions on individuals involved in

fraudulent activity. Public enforcement serves as a stronger

deterrent in this regard than private enforcement, as individu-

als are rarely made to contribute to the settlement of Rule

10b-5 class actions. See Coffee, 106 COLUM. L. REV. at

1550-51.5

In light of the amount of deterrence that already exists, it

is far from clear that the additional marginal deterrence that

might result from implying private “scheme liability” is even

necessary. See INTERIM REPORT OF THE COMMITTEE ON

CAPITAL MARKETS REGULATION at 78 (“the public value of

> The Sarbanes-Oxley Act of 2002 further protects against

fraud by, inter alia, imposing potential civil and criminal li-

ability for the false certification of the adequacy of internal

controls. See 15 U.S.C. § 7241; 18 U.S.C. § 1350.

the securities class action is questionable”). Nor, as dis-

cussed below, is it clearly desirable. Cf Eric L. Talley,

Cataclysmic Liability Risk Among Big Four Auditors, 106

CoLumM. L. REv. 1641, 1642 (2006) (“Auditors now face en-

hanced vulnerability to liability risks that—at least according

to some—threaten the very viability of the industry as we

know it”).

2. It is not clear that the potential marginal benefits of

Rule 10b-5 “scheme liability” class actions would exceed

their marginal costs, and petitioner and its amici have made

no such showing. More enforcement is not an unmitigated

good. To the contrary, “[i]f there is excessive securities liti-

gation, too many resources will be spent on litigation and on

litigation avoidance. The cost of capital will then increase

just as if a wasteful tax had been imposed on capital forma-

tion.” Joseph A. Grundfest, Why Disimply?, 108 HARV. L.

REV. 727, 732 (1995) (emphasis omitted). When liability

rules are unclear, the risk of overenforcement, and overdeter-

rence, is particularly acute. In recognition of this, the biparti-

san Committee on Capital Markets Regulation recently ad-

vised that “there needs to be greater clarity to private litiga-

tion under Rule 10b-5.” INTERIM REPORT OF THE COMMIT-

TEE ON CAPITAL MARKETS REGULATION at xu. It recom-

mended that the SEC provide more guidance on such things

as materiality, scienter, and reliance, to help ensure that the

U.S. capital markets stay competitive in the global economy.

Id. at 80-82.

Were this Court to recognize petitioner's theory of

“scheme liability,” it would inject confusion, not clarity, into

private litigation under Rule 10b-5. Not even proponents of

“scheme liability” can consistently define this amorphous

concept. Given this uncertainty. and the magnitude of the

6 Compare Br. of the SEC at 18, Simpson v. AOL Time

Warner, Inc., No. 04-55665 (9th Cir. Oct. 22, 2004) (defen-

dant must “engag[e] in a transaction whose principal purpose

{Footnote continued on next page]

potential damage awards, defendants in private Rule 10b-5

“scheme liability” cases might “find it prudent and necessary,

as a business judgment, to abandon substantial defenses and

to pay settlements in order to avoid the expense and risk of

going to trial.” Central Bank, 511 U.S. at 189.

Those involved in derivative securities transactions

might face a particularly strong pressure to settle, given that

such transactions commonly raise complex accounting, taxa-

tion, and reporting issues. In light of these complexities,

there exists a material probability that courts would allow

class action fraud claims predicated on derivative markets

transactions to move past the motion to dismiss stage, even

though the impropriety of the transaction may be subject to

considerable doubt—transactions that seem entirely legal to

one impartial fact-finder may seem problematic to another

fact-finder considering precisely the same facts. See gener-

[Footnote continued from previous page]

and effect is to create a false appearance of revenues”) with

Simpson v. AOL Time Warner, Inc., 452 F.3d 1040, 1048

(9th Cir. 2006), petition for cert. filed (Oct. 19, 2006) (No.

06-560) (“defendant must have engaged in conduct that had

the principal purpose and effect of creating a false appear-

ance of fact in furtherance of the scheme”; rejecting SEC's

suggestion that it is sufficient “that a transaction in which a

defendant was involved had a deceptive purpose and effect’)

(emphasis in original); /n re Parmalat Sec. Litig., 376 F.

Supp. 2d 472, 502-04 (S.D.N.Y. 2005) (defendant must have

“directly or indirectly used or employed any device or con-

trivance with the capacity or tendency to deceive”; rejecting

Lernout’s requirement of “substantial participation” as incon-

sistent with Section 10(b)’s text); and /n re Lernout & Haus-

pie Sec. Litig., 236 F. Supp. 2d 161, 173 (D. Mass. 2003)

(defendant must have “substantially participate{d] in a ma-

nipulative or deceptive scheme by directly or indirectly em-

ploying a manipulative or deceptive device . . . intended to

mislead investors”).

ally Joseph A. Grundfest, Scheme Liability: A Question for

Congress, Not for the Courts, http://papers.ssrn.com/sol3

/papers.cfm?abstract_id=1005524 at 14-15.

In this regard, it is illustrative to compare the British

High Court’s decision in Mahonia Limited v. JP Morgan

Chase Bank, West LB AG, 2004 WL 1808816 (Q.B.D.

(Comm. Ct.)) (Aug. 3, 2004), with the Commission’s en-

forcement action in SEC v. J.P. Morgan Chase & Co., No.

H-03-28-77 (S.D. Tex.). Both actions involved a series of

complex derivative transactions called “prepays.” The SEC

alleged that these transactions “had no business purpose aside

from masking the fact that, in substance, they were loans and

not swap contracts,” and should therefore have been ac-

counted for as loans. J.P. Morgan Compl. 41. The swap

counterparty (Chase) was alleged by the SEC to be liable as

an aider and abettor to securities fraud.’ In stark contrast, the

British High Court, having considered precisely the same

transactions, concluded (at *|236) that the “accounting for the

prepays was not in breach of US GAAP [and] that its ac-

counting for these transactions did noi constitute a breach of

US securities law.” The British High Court further con-

cluded that “[e]ven if there had been a breach of US GAAP,”

it “would not have found that there was any aiding and abet-

ting by Chase.” /d. 4240. Evidently, objective observers of

good faith can have differing views regarding the proper ac-

counting for a derivative markets transaction.

In addition to prompting defendants to settle defensible

cases and incentivizing plaintiffs to file questionable claims,

recognizing private “scheme liability” would give rise to

other costs. “Scheme liability” would expose those engaging

in commercial transactions with public companies to dispro-

portionate damages orders of magnitude greater than the size

of the transaction alleged to give rise to the liability, and for

? Chase settled the matter with the SEC. without admitting

or denying the allegations in the complaint.

misstatements or omissions that they, themselves, did not

make.’ This would encourage such parties to spend re-

sources monitoring the adequacy of their public counter-

party’s disclosures. These additional costs and the residual

risk of liability would likely be priced into those transactions

ex ante, burdening companies listed on the U.S. markets—

and, ultimately, their investors and customers.

Start-up and technology companies might feel the brunt

of these increased costs in their dealings with suppliers and

creditors, given that their volatile stock prices make them—

and those who deal with them—the most likely targets of se-

curities fraud class actions. Moreover, innovation in the fi-

nancial services area might be stifled for fear that new types

of transactions would be labeled as “deceptive,” and subject a

financial institution to huge liabilities. Indeed, if ‘scheme

liability” were recognized, particularly without transi :tional

safe harbor provisions of the sort that could be created only

by Congress, the implications for derivative trading, and its

continued presence in U.S. markets subject to U.S. prosecu-

tion, may be profound. It is not obvious that the additional

monitoring of public company disclosures that scheme liabil-

ity might prompt would create benefits in excess of these

costs.

8 In this case, for example, the total market capitalization

loss upon disclosure of a criminal investigation into Charter’s

practices was $7 billion. The amount of alleged inflation at-

tributable to respondents’ transactions with Charter, by con-

trast, was only $17 million. See also Second Am. Consol.

Class Action Compl. { 9, 25, /n re Fannie Mae Sec. Litig.,

MDL No. 1688 (D.D.C.) (alleging that Goldman Sachs vio-

lated Rule 1 0b-5(a) and (c) by “engineering” two transactions

that Fannie Mae purportedly accounted for erroneously, and

seeking to hold Goldman Sachs liable for Fannie Mae’s $12

billion loss of market capitalization even though its involve-

ment affected less than 1% of the alleged stock price infla-

tion).

This Court recognized the potential for these types of

“ripple effects” in Central Bank. 511 U.S. at 189. It ex-

plained that interpreting Section 10(b) to encompass aiding

and abetting liability would “exact[] costs that may disserve

the goals of fair dealing and efficiency in the securities mar-

kets.” /d. at 188. The Court declined to do so, based in part

on the fact that “the rules for determining aiding and abetting

liability are unclear, in ‘an area that demands certainty and

predictability.”” /bid. Uncertain risk of liability might cause

securities professionals to refuse to provide services to some

companies altogether, this Court explained, and might cause

them to increase the prices charged to others (prices “in turn

[paid] by the company’s investors, the intended beneficiaries

of the statute”). /d. at 189.

A similar sentiment influenced this Court’s recent deci-

sion in Credit Suisse Securities (USA) LLC v. Billing, 127 S.

Ct. 2383 (2007). The Court took as a given that the conduct

alleged in that case had been disapproved by the SEC, but

nonetheless observed that serious harm could come of sub-

jecting that conduct to private attack under the antitrust laws.

The Court exphained that “only a fine, complex, detailed line

separates activity” that the SEC permits and forbids, and that

“fijn light of the nuanced nature of the evidentiary evalua-

tions necessary to separate the permissible from the imper-

missible, it will prove difficult for... different courts to

reach consistent results.” /d. at 2394, 2395. Thus, allowing

private antitrust suits to proceed would likely “overly deter

syndicate practices important in the marketing of new is-

sues.” /d. at 2397. Decisions such as Central Bank and Bill-

ing confirm the wisdom of leaving the difficult policy ques-

tion whether to expand the private night of action under Rule

10b-5 to include “scheme liability” to Congress.

Ill. Creating A Private Right Of Action Is A Job For

Congress, Not This Court

The days of judicially-implied private rights of action

are long past. Alexander v. Sandoval, 532 U.S. 275, 287

(2001); Transamerica Mortgage Advisors, Inc. v. Lewis, 444

U.S. 11, 18-19 (1979). Under the modern regime, the deci-

oes

sion to create a new cause of action—or, equivalently, to ex-

tend an existing right of action—lies squarely with Congress,

not the courts. Sandoval, 532 U.S. at 288. This Court re-

cently reiterated as much in the context of the very statute at

issue in this case. Tellabs, Inc. v. Makor Issues & Rights,

Lid., No. 06-484, 551 U.S. __, slip op. at 15-16 (June 21,

2007) (“It is the federal lawmaker’s prerogative . . . to allow,

disallow, or shape the contours of—including the pleading

and proof requirements for—§ 10(b) private actions”). Con-

gress chose to leave it to the SEC alone to enforce scheme

liability. If petitioner and its amici believe that an expansion

of private securities litigation is advisable—in light of the

changes wrought by the PSLRA, or to better incentivize

gatekeepers to police for fraud, or for any of the other various

policy reasons set forth in the briefs in this case—they should

direct their proposals to Congress, not this Court.

In deciding whether to create a private right of action

premised on “scheme liability,” Congress would have to de-

termine whether the marginal benefits of doing so would ex-

ceed the marginal costs. As explained above, that would re-

quire the weighing of several difficult policy considerations.

To aid in that process, Congress could hear witnesses, re-

quest studies, and otherwise examine the empirical evidence

to predict the likely consequences of recognizing scheme li-

ability for capital formation, market efficiency, and consumer

welfare. If nothing else, the process would make a record

that would assist the Court in construing any resulting legis-

lation. Cf Tellabs, 551 U.S. _, slip op. at 10 (noting

PSLRA’s “twin goals: to curb frivolous, lawyer-driven liti-

gation, while preserving investors’ ability to recover on meri-

torious claims”).

Congress would also have to consider how “scheme li-

ability” should be defined, something neither the SEC (in its

enforcement capacity) nor the lower courts have been able to

agree on. See note 6, supra. It might also consider whether

to offer certain safe harbors to ensure that beneficial deriva-

tive transactions meant to hedge risks for investors are not

unnecessarily deterred. See generally Grundfest, Scheme Li-

ability: A Question for Congress, Not for the Courts, supra,

at 6-7. Or it might simply extend the Commission’s existing

power under Section 20(e) to private plaintiffs. Of course,

that Congress has thus far chosen nof to do so only reinforces

the wisdom of leaving this decision to Congress in the first

instance.

A responsible legislature would weigh these and similar

policy considerations before deciding to expand the private

right of action under Rule 10b-5 to encompass non-trading,

non-speaking entities such as respondents. See, e.g., S. Rep.

No. 104-98, at 48 (noting risks of meritless litigation raised

by private aiding-and-abetting liability). It could be that, at

the end of the legislative process, Congress would make the

political judgment that the benefits of a private “scheme li-

ability” regime would outweigh its costs. It could also be,

however, that Congress would determine that the marginal

benefits of recognizing private scheme liability, if any, are

far outweighed by the costs of such liability. The very fact

that the legislature could reasonably come out on either side

of this policy debate—a point that petitioner cannot dis-

pute—is sufficient to demonstrate that it is, at bottom, a leg-

islative decision, not a judicial one.

Most lower courts have properly recognized the limita-

tions on the Judiciary’s power to create or extend private

rights of action, and thus have refused to recognize “scheme

liability."? This majority view reflects a general consensus

among federal judges that, if scheme liability is to be recog-

9 Charter, 443 F.3d at 989; Regents of the Univ. of Cal. v.

Credit Suisse First Boston (USA), Inc., 482 F.3d 372 (Sth

Cir. 2007), petition for cert. filed (Apr. 5, 2007) (No. 06-

1341); Fidel v. Farley, 392 F.3d 220, 235 (6th Cir. 2004);

Ziemba v. Cascade Int'l, Inc., 256 F.3d 1194, 1213 (11th Cir.

2001); Wright v. Ernst & Young LLP, 152 F.3d 169, 175 (2d

Cir. 1998); Anixter v. Home-Stake Prods. Co., 77 F.3d 1215,

1226 (10th Cir. 1996).

nized at all, it should be done in the first instance by Con-

gress: Imposing liability for securities fraud based on trans-

actions “in goods or services other than securities . . . would

introduce potentially far-reaching duties and uncertainties for

those engaged in day-to-day business dealings. Decisions of

this magnitude should be made by Congress.” Charter, 443

F.3d at 992-93.

* * *

It has been observed that “[t]his is one of the most im-

portant securities cases to be heard by this Court in many

years.” Br. for William H. Donaldson, et al. 2. On this

point, amici joining this brief are in agreement. This is an

important case. It is important because it gives the Court the

opportunity to reconfirm that the securities laws mean what

they say, Te/labs, 551 U.S. __, slip op. at 12; that the securi-

ties laws should be construed to further market efficiency,

Billing, 127 S. Ct. at 2396; and that pure policy decisions are

for Congress in the first instance, Radzanower v. Touche

Ross & Co., 426 U.S. 148, 156 n.12 (1976). The Court's de-

cision in Central Bank reflects each of those principles. Ad-

herence to them requires affirmance of the judgment below.

Departure, by contrast, would “re-open a plethora of doc-

trinal issues regarding the interpretation of the federal securi-

ties laws that are today clearly resolved.” Grundfest, Scheme

Liability: A Question for Congress, Not for the Courts, su-

pra, at 3-4.

CONCLUSION . \

The judgment of the court of appeals should be affirmed.

Respectfully submitted.