Being a Supreme Court justice means wrestling with the really big questions, such as: What does it mean to make a statement? And: Can the same false statement simultaneously violate and not violate laws against securities fraud? The answers to these questions determine the careers of stockbrokers and the fortunes of investors.
Back in 2011, the Supreme Court heard a case involving Janus Capital Group. Janus was a Roman god typically depicted with two faces, and the case suggested the symbol may have been a little more apt than most Janus investors assumed.
Federal law prohibits all manner of frauds in connection with the sale of securities. One provision makes it unlawful for a securities dealer “to make any untrue statement” in connection with a sale. But enforcing that law first requires identifying the maker of the untrue statement. Janus had divided itself into multiple units, each legally independent. The employees of one unit prepared mutual fund prospectuses containing allegedly false statements. But a different unit was put in charge of publishing the prospectuses. This latter unit, conveniently enough, had no assets of its own, making it effectively immune from suit. So which unit made the allegedly false statements?
All of them, one might be tempted to answer, but the Supreme Court disagreed. “The maker of a statement is the person or entity with ultimate authority over the statement,” the court declared in an opinion by Justice Clarence Thomas. That sounds clear enough, but “ultimate” can mean either last or most significant. Thomas was using the word in the former sense. The other Janus units, the ones that controlled the corporation’s assets and actually drafted the offending material, were like speechwriters, he said. Only the unit that interacted with the public, the last link in the chain, was the speaker.
Janus was an almost comical example of elevating form over substance. The niceties of corporate structure counted for more than honesty in the securities industry. Creative lawyers quickly seized on its ambiguous wording, giving the word “ultimate” its other meaning to argue that only the most important person involved in making a false statement could be held liable for the fraud.
Frank Lorenzo, a stockbroker in a tiny firm, was instructed by his boss to flog some worthless securities. The boss drafted a message, which contained flat-out lies, and told Lorenzo to email it to clients. Lorenzo knew the message was fraudulent, but he sent it out over his own signature.
“Using false representations to induce the purchase of securities would seem a paradigmatic example of securities fraud,” as the Supreme Court observed. But Lorenzo raised a strong defense: He claimed he didn’t make the false statements he sent to his customers because he lacked “ultimate authority” over the email’s content. He wasn’t the most important person involved in preparing it — his boss was. In essence, he claimed that Janus validated the Nuremburg defense: He was just following orders. When the D.C. Circuit Court of Appeals heard his case, it agreed with him.
But, as mentioned, federal securities law covers all types of fraudulent activity, not just the making of false statements. It’s unlawful to engage in any act that operates as a fraud, and the SEC contended that sending an email containing a fraudulent statement is such an act, without regard to the identity of the statement’s maker.
Lorenzo protested that the SEC was playing word games. In the D.C. Circuit, he found a passionate champion: Then-judge Brett Kavanaugh thundered that the SEC needed to be slapped down for its effort “to push the envelope” and “end-run” the Janus decision. But Kavanaugh was on the losing end of a 2-1 decision upholding the SEC’s finding that Lorenzo violated the law.
Lorenzo took his case to the Supreme Court and, in late March, lost again, this time on a 6-2 vote. (Justice Kavanaugh recused himself). The decision in Lorenzo’s case didn’t technically overrule Janus, only shredded it. A person lacking ultimate authority still cannot be held liable for making a false statement in connection with the sale of securities, but can be held liable for disseminating it. And I’m not even kidding — that’s what the case says.
Only Justice Thomas, author of the Janus opinion, and newcomer Neil Gorsuch would have cleared Lorenzo of legal responsibility for forwarding falsehoods in a solicitation to investors. In the positions of Kavanaugh and Gorsuch one may, perhaps, catch a glimpse of what made them attractive to the Trump administration’s judge-pickers. Their positions are in line with what former EPA Administrator Scott Pruitt called the administration’s “deregulatory agenda.” It’s an interesting comment on the changing role of the Supreme Court in American society that it no longer seems strange to think of new justices coming on board with well-defined agendas.
Joel Jacobsen is an author who recently retired from a 29-year legal career. If there are topics you would like to see covered in future columns, please write him at email@example.com