SEC study probes issue of private extraterritorial securities fraud claims

A study the SEC prepared for Congress describes options for lawmakers to consider but makes no specific recommendations regarding whether private causes of action should be allowed to be extended to extraterritorial securities fraud claims.

The U.S. Supreme Court held in Morrison v. National Australia Bank, Ltd., 130 S. Ct. 2869 (2010), that shareholders who buy or sell securities on non-U.S. exchanges cannot participate in class action lawsuits brought by plaintiffs’ lawyers in U.S. courts.

In the Dodd-Frank Wall Street Reform and Consumer Protection Act, P.L. 111-203, Congress gave the SEC and Department of Justice (DOJ) the ability to prosecute fraudulent securities conduct that occurs:

• Within the United States, even if the securities transaction occurs on foreign exchanges and involves only foreign investors.
• Outside the United States, if it has substantial effect in the United States.

The Dodd-Frank Act directed the SEC to gather public comment and conduct a study to determine whether to extend the scope of private actions extraterritorially. The SEC last week authorized that study to be presented to Congress.

Instead of making specific recommendations, the SEC staff in the study describes options for consideration. One option the staff advanced is enacting conduct-and-effects tests for private actions similar to the test the SEC and DOJ use in enforcement actions.

The study says one version of this approach could require the plaintiff to demonstrate that its injury resulted directly from conduct within the United States. The report says this approach could serve as a filter to exclude claims more closely connected to another jurisdiction. The SEC (along with the U.S. solicitor general) recommended this approach in the Morrison litigation and remains supportive of such a standard, the report says.

Another conduct-and-effects approach would enact tests only for investors who are U.S. residents.

In addition to possible enactment of conduct-and-effects tests, the study gives four options to consider to supplement and clarify the transactional test:

• Permit investors to sue for fraud in the purchase or sale of any security in the same class of securities registered in the United States, regardless of the transaction’s location.
• Authorize private actions against securities intermediaries such as broker-dealers and investment advisers who engage in fraud while servicing foreign transactions for U.S. investors.
• Allow investors to sue if they can demonstrate they were in the United States when they were fraudulently induced into the transaction, regardless of where the transaction took place.
• Clarify that an off-exchange transaction takes place in the United States if either party made or accepted the offer to buy or sell while in the United States.

In a Feb. 18, 2011, letter, representatives from seven accounting firms, including the Big Four, said there is no evidence of a gap in monitoring, deterrence, or compensation that needs to be filled by the creation of a new private liability under U.S. law.

SEC Commissioner Luis Aguilar released a statement expressing disappointment in the study.

“The study fails to satisfactorily answer the congressional request, contains no specific recommendations, and does not portray a complete picture of the immense and irreparable investor harm that has resulted, and will continue to result, due to Morrison v. National Australia Bank, Ltd.,” Aguilar said.

—Ken Tysiac (ktysiac@aicpa.org) is a JofA senior editor.

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