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18. SECURITIES EXCHANGE ACT

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Introductory Comment

The instructions in this chapter apply only to actions brought under the Securities Exchange Act of 1934 ("the 1934 Act"), 15 U.S.C. § 78j(b), for fraud in the purchase or sale of securities ("Rule 10b-5 actions"). As stated in Dura Pharms., Inc. v. Broudo, 544 U.S. 336, 341 (2005):

Section 10(b) of the Securities Exchange Act of 1934 forbids (1) the "use or employ[ment] . . . of any . . . deceptive device," (2) "in connection with the purchase or sale of any security," and (3) "in contravention of" Securities and Exchange Commission "rules and regulations." 15 U.S.C. § 78j(b). Commission Rule 10b-5 forbids, among other things, the making of any "untrue statement of material fact" or the omission of any material fact "necessary in order to make the statements made . . . not misleading." 17 CFR § 240.10b-5 (2004).

The courts have implied from these statutes and Rule a private damages action, which resembles, but is not identical to, common-law tort actions for deceit and misrepresentation. . . . And Congress has imposed statutory requirements on that private action . . . (citations omitted).

In Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 737–40 (1975), the Supreme Court, relying chiefly on "policy considerations," limited the Rule 10b-5 private right of action to plaintiffs who themselves were purchasers or sellers. As stated in Merrill Lynch, Pierce, Fenner & Smith, Inc. v. Dabit, 547 U.S. 71 (2006), the policy the Court sought to promote in Blue Chip Stamps was that "[c]abining the private cause of action by means of the purchaser-seller limitation . . ." minimizes the ill effects of vexatious private litigation brought to compel a substantial settlement. Id. at 80-81. (This limitation does not apply to government enforcement actions brought pursuant to Rule 10b-5. Id.)

In Central Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 511 U.S. 164, 176–78 (1994), the Supreme Court also limited the scope of liability under Section 10(b) of the Securities Exchange Act to "primary violators," holding that Section 10(b) does not allow recovery for aiding and abetting because the text of the Act "does not reach those who aid and abet § 10(b) violation. . . .The proscription does not include giving aid to a person who commits a manipulative or deceptive act." Id. at 177–78. In Simpson v. AOL Time Warner, Inc., 452 F.3d 1040 (9th Cir.2006), petition for cert. filed, 75 USLW 3236 (Oct. 19, 2006) (No. 06-560), the Ninth Circuit held that to be liable as a primary violator of Section 10(b) for participation in a "scheme to defraud," the defendant "must have engaged in conduct that had the principal purpose and effect of creating a false appearance of fact in furtherance of the scheme. It is not enough that a transaction in which a defendant was involved had a deceptive purpose and effect; the defendant’s own conduct contributing to the transaction or overall scheme must have had a deceptive purpose and effect." Id. at 1047–48 (emphasis in original).

The 2001 edition of these Model Instructions interspersed Rule 10b-5 instructions with a number of other instructions concerning Section 11 of the Securities Act of 1933, 15 U.S.C. § 77k ("the 1933 Act"). The 2001 edition also contained instructions applicable to a claim by a customer of a brokerage firm that the customer’s broker engaged in excessive trading ("churning") in order to run up commissions. The committee has not included 1933 Act instructions or churning instructions in this edition, nor instructions for claims arising out of insider trading or the "Sarbanes-Oxley Act" of 2002 (Pub. L. 107-204), for the following reasons.

First, the 1933 Act basically is concerned with the initial distribution of securities, rather than their subsequent trading. It imposes many regulatory requirements on issuers and underwriters of securities. There have been no reported jury trials in private actions arising out of the Securities Act of 1933 for many years. Section 12(a)(2), the provision in the 1933 Act most like Section 10(b) of the 1934 Act, imposes liability for rescission or damages upon those who offer or sell securities by means of a material misstatement. In the unlikely event of a jury trial under Section 12(a)(2), instructions could easily be adapted from these instructions.

Second, claims for churning also have become virtually absent from federal court trials, undoubtedly because almost all brokerage firms require their customers to sign enforceable customer agreements that require such claims to be submitted to arbitration. See, for example, Shearson/American Express v. McMahon, 482 U.S. 220 (1987).

Third, insider trading claims in civil litigation almost always are brought by the Securities and Exchange Commission (SEC) directly under 15 U.S.C. § 78u, not under Rule 10b-5. Most of the basic elements of such claims, however, are those applicable to the 10b-5 action discussed in this chapter, although there are differences. SEC enforcement actions typically seek injunctive relief and disgorgement. There is no right to a jury trial in such proceedings. SEC v. Rind, 991 F.2d 1486, 1493(9th Cir.1993). Moreover, in enforcement actions the SEC is not required to prove that identifiable investors were injured, Rind at 1490, or that investors relied on the defendant’s misrepresentation or omission. SEC v. Rana Research, Inc., 8 F.3d 1358, 1364 (9th Cir.1993).

Fourth, the Sarbanes-Oxley Act creates only two private causes of action: one that allows for the recovery of profits from insider trading, 15 U.S.C. § 7244, and one that provides protection for whistle blowers, 18 U.S.C. § 1514A. The committee is unaware of any cases that have actually been tried to a jury under the Act.