Stoneridge Investment Partners, LLC v. Scientific-Atlanta, Inc. (06-43), New York State Board of Elections v. Lopez Torres (06-766), Knight v. Commissioner of Internal Revenue (06-1286) and order list.

January 17, 2008 Supreme Court Update

Greetings, Court Fans!
We have three decisions to report this week, as well as a few cert grants. On Tuesday, the Court issued a 5-3 decision (sans Justice Breyer) in Stoneridge Investment Partners, LLC v. Scientific-Atlanta, Inc. (06-43), one of the most important securities law cases to come out of the Court in a decade. Justice Kennedy, writing for the majority (composed of the Chief, Alito, Scalia and Thomas), narrowly construed the private right of action under Section 10(b) of the Securities and Exchange Act, essentially holding that secondary actors (such as suppliers, customers, accountants, and law firms) cannot be sued under Section 10(b) unless they themselves make misrepresentations or engage in conduct that is relied on by the public. The case effectively shuts down attempts by plaintiffs to assert claims based on "scheme liability."
A class of plaintiff investors, led by Stoneridge, had alleged that Charter Communications, a cable provider, had engaged in sham transactions with two suppliers of digital cable converter boxes, Scientific-Atlanta and Motorola, wherein Charter would overpay for converter boxes and the suppliers would purchase advertising from Charter at artificially high prices so Charter could overstate its revenues (thus meeting prior projections). The District Court dismissed the plaintiffs' claims against the suppliers, and the Eighth Circuit affirmed, as did the Court. For the majority, the key was the plaintiffs' inability to demonstrate reliance. Though the plaintiffs may have reviewed Charter's financial statements, they had no knowledge of the alleged sham transactions when they purchased the stock. Thus, the plaintiffs "could not show reliance upon any of respondent's actions except in an indirect chain that we find too remote for liability." The Court was quick to point out that "it was Charter, not respondents, that misled its auditor and filed false financial statements," and the suppliers' conduct didn't make Charter's misrepresentations "inevitable" (though it was alleged that the entire point of the scheme was to falsely inflate Charter's revenue numbers). For the Court, it also was critical that the private right of action under Section 10(b) had been implied judicially; although Congress had ratified the private right of action, it did not choose to extend the cause of action to include aiding and abetting liability (which the majority appeared to view as a kissing-cousin to the conduct alleged here). Instead, Congress enacted the Private Securities Litigation Reform Act, which authorizes the SEC to pursue aiders and abettors. Finally, the Court noted that "expansion" of the 10(b) private right of action could raise the cost of doing business in the U.S. (particularly if it allowed "plaintiffs with weak claims to extort settlements from innocent companies") and shift securities offerings away from U.S. capital markets.
Justice Stevens, joined by Souter and Ginsburg, dissented. They argued that the current judicial hostility to implied rights of action was entirely unwarranted since courts had historically filled that role and the Congress that enacted Section 10(b) would have expected them to do so, since the principal of the day was "a remedy for every wrong." The issue here was not expanding a private right of action, but merely interpreting the scope of a preexisting right that was longstanding and ratified by Congress. Moreover, this case did not involve aiding and abetting but rather direct liability – the suppliers' conduct itself was deceptive and intended to support misrepresentations in Charter's financial statements, which the suppliers knew (at least allegedly) would be relied on by the public in purchasing Charter's stock. Reliance was therefore established and Section 10(b) did not require the "super-causation" upon which the majority appeared to insist. The dissenters also pointed out that their view had been supported by the SEC, which had previously argued for recognition of "scheme" liability. (By way of interesting tidbits, the SEC was apparently poised to file an amicus brief supporting the plaintiffs and "scheme" liability, but was apparently vetoed by the Bush Administration.)
Wednesday's opinions brought us an interesting judicial election question and a (frankly not-so interesting) tax question. We'll start with the Court's nearly unanimous decision in New York State Board of Elections v. Lopez Torres (06-766), which challenged New York's system for electing Supreme Court judges (for anyone unfamiliar with NY, the Supreme Court is the trial court). Since 1921, NY law has required parties to select their judicial candidates via a conference of delegates; the delegates are themselves elected by party members in a party primary and are "uncommitted" (i.e., the primary ballot doesn't specify the judicial nominee whom they will support). Delegates can get onto the ballot by obtaining 500 signatures. Judicial candidates who are not successful in winning their party convention can appear as independents in the general election by obtaining a sufficient number of signatures. The plaintiffs (including candidates who were unsuccessful in obtaining their party's nomination) claimed this convention system allowed party leaders to effectively control the nomination and thus violated their First Amendment associational right to participate in the party-selection process and have a "fair shot" at winning the party nomination. The District Court and the Second Circuit agreed and effectively directed NY to hold direct party primaries until it revised its system, but the Court was of a different opinion.
Justice Scalia (for all but Kennedy, who concurred in the judgment) concluded that while individuals do have an associational right to vote in a party primary, there is no right to a "fair shot" at winning the nomination process. Party conventions "with their attendant ‘smoke filled rooms' and domination by party leaders" were traditional, long-accepted methods of selecting party nominees. Although there are clear disadvantages to this approach, there are also good reasons for preferring it to direct primaries, where uneducated voters select the party's judicial nominee. Further, the law's limitations – both for delegates to appear on the primary ballot and for judicial candidates who do not win a party nomination to appear on the general election ballot – were reasonable and allowed for participation. The Court was disinclined to wade into this "morass." Justice Stevens, joined by Souter, wrote separately to say that electing judges is a bad idea but, as Thurgood Marshall put it, "[t]he Constitution does not prohibit legislatures from enacting stupid laws." Justice Kennedy concurred in the judgment only. For Kennedy, NY's system was saved by the fact there were alternative means to the party convention for judicial candidates to appear on the general election ballot. If not, he might find the NY system unacceptable. Kennedy also expressed deep concern about electing judges but noted that, under the right conditions, an election "could be a forum for society to discuss and define the attributes of judicial excellence."
Finally, in Knight v. Commissioner of Internal Revenue (06-1286), the Court took up the scintillating issue of tax deductions for investment advisory fees incurred by a trust administrator as opposed to an individual taxpayer. As most of us will soon be reminded, miscellaneous deductions are usually subject to a two percent "floor" – taxpayers can take deductions from their taxable income only to the extent they exceed two percent of their adjusted gross income. Trusts, however, can take these deductions in full if they relate to costs incurred in administering the trust and "would not have been incurred" otherwise. Knight asked whether investment advisory fees, which are deductible for individuals subject to the floor, were still subject to the floor if incurred by a trust. The Court held that they are, limiting the trust exemption to those expenses that are "unique" to trusts. Where, as in Knight's case, the fees are of a type commonly or customarily incurred by individuals, they remain subject to the floor. (In a distinction that serves to highlight the complexity of the tax code, the Court noted that a trust might have some conceivably unique investment objective, and that the incremental cost of advice related only to that goal would be deductible without regard to the floor.) The Chief wrote for a unanimous Court; at the very least, it cannot be said that he saves only the juicy cases for himself.
The Court also granted cert in three cases.
Taylor v. Sturgell (07-371) asks whether a party can be precluded from bringing a claim because he was "virtually represented" in a prior litigation, despite the fact that the party had no legal relationship to any party in the prior litigation and no notice of the litigation.
In Engquist v. Department of Agriculture (07-474), the Court granted cert limited to the first question presented: "Whether traditional equal protection ‘rational basis' analysis under Village of Willowbrook v. Olech applies to public employers who intentionally treat similarly situated employees differently with no rational basis for arbitrary, vindictive, or malicious reasons?"
And in Giles v. California (07-6053), the Court will decide whether a criminal defendant forfeits his Sixth Amendment Confrontation Clause rights upon the "mere showing that the defendant has caused the unavailability of a witness," or whether it must be proven that defendant caused the unavailability "for the purpose of preventing the witness from testifying." (Query how often the term "merely" can be used to describe a criminal defendant's causing a witness to become unavailable!)
Finally, the Court asked the SG to weigh in on Progress Energy, Inc. v. Taylor (07-539), in which the Court will determine whether Family Medical Leave Act claims for past conduct can be waived in a private settlement or release.
That's all for this week. Until the next . . .
Kim & Ken
From the Appellate Practice Group at Wiggin and Dana
For more information, contact Kim, Ken, or any other member of the Practice Group at 203-498-4400