Lorenzo v. SEC: Scope of Primary Liability for Securities Fraud.

The Supreme Court's decision in Lorenzo v. SEC addressed significant issues related to securities fraud under Rule 10b-5 of the Securities Exchange Act of 1934 and Section 17(a)(1) of the Securities Act of 1933. The case revolved around whether a person who disseminates false or misleading statements with intent to defraud but does not "make" the statements, can be held primarily liable under these provisions.

Case Background

Francis Lorenzo, the petitioner, was the director of investment banking at Charles Vista, LLC. In 2009, Lorenzo sent two emails to potential investors that contained false information about his firm’s client, Waste2Energy Holdings, Inc. The emails, drafted by Lorenzo's superior, inaccurately described the company's assets. Despite knowing that the emails contained false information, Lorenzo sent the emails, signing them as Vice President of Investment Banking.

The Securities and Exchange Commission (SEC) charged and ultimately found that Lorenzo violated Rule 10b-5, Section 10(b) of the Securities Exchange Act, and Section 17(a)(1) of the Securities Act. While the DC Circuit Court found that Lorenzo did not "make" the statements under Rule 10b-5(b) as defined by Janus Capital Group, Inc. v. First Derivative Traders, 564 U. S. 135 (2011), it upheld the SEC’s findings under Rule 10b-5(a) and (c), Section 10(b), and Section 17(a)(1).

Supreme Court Opinion and Analysis

The primary question before the Supreme Court was whether dissemination of false or misleading statements, with intent to defraud, falls under the scope of Rule 10b-5(a) and (c) and the relevant statutory provisions, even if the disseminator did not "make" the statements as defined under Janus.

The Court held that the language of Rule 10b-5(a) and (c) and Section 17(a)(1) is sufficiently broad to encompass Lorenzo’s actions. The court noted that subsection (a) of the Rule makes it unlawful to “employ any device, scheme, or artifice to defraud” and subsection (c) makes it unlawful to “engage in any act, practice, or course of business” that “operates . . . as a fraud or deceit.” In essentially identical language, §17(a)(1), also makes it unlawful to “employ any device, scheme, or artifice to defraud.”

The court concluded that disseminating false information with intent to defraud constitutes employing a “device, scheme, or artifice to defraud” and engaging in an “act, practice, or course of business” that operates as a fraud or deceit. As the court explained,

By sending emails he understood to contain material untruths, Lorenzo “employ[ed]” a “device,” “scheme,” and “artifice to defraud” within the meaning of subsection (a) of the Rule, §10(b), and §17(a)(1). By the same conduct, he “engage[d] in a[n] act, practice, or course of business” that “operate[d] . . . as a fraud or deceit” under subsection (c) of the Rule. Recall that Lorenzo does not challenge the appeals court’s scienter finding, so we take for granted that he sent the emails with “intent to deceive, manipulate, or defraud” the recipients. Aaron, 446 U. S., at 686, n. 5. Under the circumstances, it is difficult to see how his actions could escape the reach of those provisions.

The Court recognized considerable overlap among the subsections of Rule 10b-5 and related statutory provisions. However, it opined that the distinction drawn in Janus regarding who "makes" a statement under Rule 10b-5(b) does not preclude liability under other parts of Rule 10b-5 for those who disseminate false statements with fraudulent intent. In rejecting the dissent’s arguments that its holding makes Janus a” dead letter,” the majority pointed out that Janus “would remain relevant (and preclude liability) where an individual neither makes nor disseminates false information—provided, of course, that the individual is not involved in some other form of fraud.”

Emphasizing the broad remedial purpose of the securities laws to root out fraud, Lorenzo's conduct, given his knowledge of the falsehoods and intent to deceive investors, clearly fell within the ambit of fraudulent practices intended to be addressed by the securities laws.

Importantly too, the decision claimed to maintain a distinction between primary and secondary liability but clarifies that disseminators of false information with fraudulent intent can be held primarily liable under Rule 10b-5(a) and (c). This distinction is crucial for enforcement actions by the SEC, which does not require proving reliance by the defrauded party, unlike private actions under Rule 10b-5(b).

Dissenting Opinion and Analysis

Justice Thomas, joined by Justice Gorsuch, dissented, arguing that the majority’s decision erodes the clear line between primary and secondary liability established in Janus. He contended that Lorenzo’s actions should be seen as a secondary liability, aiding and abetting his superior, rather than a primary violation. In his view, even though Lorenzo knew the messages contained falsities, his conduct was “essentially administrative nature.” While “he might have assisted in a scheme” by sending the emails as directed by his boss, “he did not himself plan, scheme, design, or strategize.”

Thomas argued that the majority’s decision undermined the specificity of Rule 10b-5(b) and Section 17(a)(2), which directly address false statements, making these provisions effectively superfluous and Janus a dead letter. Noting that under the majority’s interpretation of the rule, “administrative acts undertaken in connection with a fraudulent misstatement qualify as ‘other form[s] of fraud,’” the majority’s argument and position that it somehow preserved Janus is “illusory.”

Conclusion

Arguably, the Lorenzo decision created a wider net for SEC enforcement actions and private securities litigations, capturing a wider group of individuals who play supporting roles in the dissemination of fraudulent information such as investment bankers, brokers, and other intermediaries, potentially exposing them to liability for a wider variety forms of fraudulent conduct.

Supporters praised the Court's decision to expand the definition of primary liability for securities fraud to include those who distribute false information with intent to defraud, even if they did not "make" the statement as defined by Janus. They argue this interpretation aligns with the securities laws' broader goal of combating all varieties of fraud. However, critics contend that this ruling dangerously blurs the lines between primary and secondary liability, potentially subjecting third parties to undue lawsuits. Where the precise boundary lies remains uncertain.