Supreme Court Ruling Limits Shareholders' Ability to Sue

The Wall Street Journal reports that if the battle between the trial bar and business had gone the other way, it could have significantly expanded the power of defrauded shareholders to sue and been a boon to the multibillion-dollar field of securities class-action lawsuits. However, the court’s opinion maintains a status quo, the WSJ said, and extends Wall Street’s winning streak on securities cases.

In the case, Wall Street successfully argued that Congress intended only the Securities and Exchange Commission (SEC) to police alleged fraud, and not to open the door to lawsuits by private shareholders. At issue was what role third parties must play in order for them to be sued by shareholders.

Corporations and the U.S. Justice Department contended that private lawsuits are limited to cases when investors rely on fraudulent statements, and that suits can be brought only against those who control the fraud, the news report said. “We conclude the private right of action does not reach the customer/supplier companies because the investors did not rely upon their statements or representations,” Justice Anthony Kennedy wrote in the majority’s opinion, according to the WSJ.

The majority ruled that investors must rely on deceptive acts in order for a civil lawsuit to succeed under federal securities laws. Kennedy was joined in the majority by Chief Justice John Roberts Jr. and Justices Antonin Scalia, Clarence Thomas, and Samuel Alito. Justices John Paul Stevens, David Souter, and Ruth Bader Ginsburg dissented.

The case before the U.S. Supreme Court involved Charter Communications Inc., a St. Louis cable provider, accused in the late 1990's of engaging in accounting fraud to meet analyst expectations. Four former Charter employees were indicted and pleaded guilty to conspiracy, and the company also agreed to pay $144 million to settle a class-action suit led by one of its shareholders, Stoneridge Investment Partners of Malvern, Pennsylvania.

However, Stoneridge also sued Motorola Inc. and Scientific-Atlanta, now a unit of Cisco Systems Inc. Stoneridge accused both vendors of agreeing to charge artificially high prices for cable boxes they sold to Charter, then using the extra money to "buy" advertising from Charter - money Charter used to inflate its bottom line, the Wall Street Journal reported.

A 1994 Supreme Court case that said shareholders cannot sue third-party companies for aiding and abetting prompted a federal court to dismiss Stoneridge's lawsuit against Motorola and Scientific-Atlanta. The federal appeals court in St. Louis affirmed that decision.

After another appeals court ruled in an unrelated case that shareholders could sue third-parties under certain circumstances, Stoneridge asked the Supreme Court to rehear its case.

The WSJ noted that both sides of the issue lined up strong support. Siding with the trial bar were two House committee chairmen, 18 pension funds, 32 state attorneys general, and the SEC. Backing big business were the U.S. Chamber of Commerce; the Nasdaq and NYSE Euronext exchanges; seven high-profile New York lawyers; and the Justice Department's solicitor general, who represents the views of the White House.