By Robert Fusfeld 

A recent significant ruling on the reach of Janus Capital Group v. First Derivative Traders, 131 S. Ct. 2296 (U.S. June 13, 2011) to actions brought by the Securities and Exchange Commission went against the agency’s position. 

In SEC v. Kelly et al., 2011 WL 4431161 (S.D.N.Y. Sept. 22, 2011), the two defendants moved for judgment on the pleadings as to the SEC's 10(b) allegations against them and the court granted their motion to dismiss the claims based on Janus. 

The two defendants were executives of AOL who were alleged to have arranged a series of transactions that caused AOL to report about $1 billion in improper advertising revenue. They did not directly prepare or sign the allegedly false SEC filings. The SEC conceded that the defendants did not directly make the statements but posited that they were still liable under the scheme language of Rule 10b-5(a) and (b). The court rejected this distinction. It found that to accept the SEC's argument would allow those who merely facilitate false communications by others would erase the bright line between primary and secondary liability that was at the heart of the Janus decision. 

One would have thought that the Kelly case would likely have little long-term significance though. This is because the court refused to dismiss the SEC's aiding and abetting claims against the two AOL executives. This means that as a practical matter in most cases those who escape primary liability will still face potential liability in SEC actions for aiding and abetting violations. However, since private parties (unlike the SEC) cannot bring claims based on aiding and abetting, the approach taken by the court in Kelly, if adopted by courts of appeals, could limit significantly the reach of 10(b) liability in private actions. 

However, that initial surmise appears to be incorrect. In a recent SEC complaint filed on October 6, 2011 (two weeks after the Kelly decision) the agency charged corporate executives with scheming to arrange fictitious transactions to recognize revenue with both direct violations of Section 10(b) and Rule 10b-5, and aiding and abetting. See SEC v. Christopher Sells and Timothy Murawski, No. 11-CV-4941 (N.D. Cal.). The Kelly analysis would seem to dictate that the two defendants be charged only with aiding and abetting rather than direct violations. However, just as in Kelly the SEC charged Sells and Murawski with both direct violations and aiding and abetting. It would seem that the SEC does not accept the Kelly decision and intends to keep the issue alive until multiple courts of appeals have a crack at the issue. 

(Robert Fusfeld is on the faculty of the Institute for Public Policy Studies at the University of Denver where he teaches graduate and undergraduate courses.  From 1975 until his retirement in 2006 he was an SEC enforcement attorney and managed the SEC's Denver office trial unit for 15 years. He publishes a blog commenting on SEC administrative proceeding decisions at www.secteaparty.blogspot.com).