Document ID: s3://data.kl3m.ai/documents/govinfo/USCOURTS/USCOURTS-caDC-03-01098/USCOURTS-caDC-03-01098-0/pdf.json

Parties Involved:
Nicholas P. Howard
Petitioner
Securities and Exchange Commission
Respondent

Document Text:

Notice: This opinion is subject to formal revision before publication in the

Federal Reporter or U.S.App.D.C. Reports. Users are requested to notify

the Clerk of any formal errors in order that corrections may be made

before the bound volumes go to press.

United States Court of Appeals

FOR THE DISTRICT OF COLUMBIA CIRCUIT

Argued January 22, 2004 Decided July 30, 2004

No. 03-1098

NICHOLAS P. HOWARD,

PETITIONER

v.

SECURITIES AND EXCHANGE COMMISSION,

RESPONDENT

On Petition for Review of an Order of the

Securities and Exchange Commission

Paul Gonson argued the cause for petitioner. With him on

the briefs were Charles R. Mills, David S. Versfelt, and Mary

T. Ambron.

Randall W. Quinn, Assistant General Counsel, Securities

and Exchange Commission, argued the cause for respondent.

With him on the brief were Giovanni P. Prezioso, General

Counsel, Meyer Eisenberg, Deputy General Counsel, Jacob

 Bills of costs must be filed within 14 days after entry of judgment.

The court looks with disfavor upon motions to file bills of costs out

of time.

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H. Stillman, Solicitor, and Rada Lynn Potts, Senior Litigation Counsel.

Before: HENDERSON, RANDOLPH, and ROGERS, Circuit

Judges.

Opinion for the Court filed by Circuit Judge RANDOLPH.

Opinion concurring in the judgment filed by Circuit Judge

HENDERSON.

RANDOLPH, Circuit Judge: Nicholas P. Howard petitions for

review of a Securities and Exchange Commission order imposing sanctions on him for aiding and abetting alleged

securities laws violations committed in the course of closing

two private placement offerings of common stock in 1991 and

1992. The SEC’s opinion holding Howard liable is confused

and confusing. The SEC first held that ‘‘awareness of wrongdoing’’ is a necessary element of aiding and abetting, but it

marshaled no evidence to show that Howard had any such

awareness. The SEC then stated – inconsistently – that

alleged aiders and abettors who act ‘‘recklessly’’ may be

liable, but it never explained what it thought ‘‘recklessly’’

meant in this context; it disregarded evidence tending to

show that Howard did not act recklessly as this court has

defined the term; and it wound up applying a ‘‘should have

known’’ negligence standard that we have rejected. Under a

correct scienter standard the evidence is insufficient to sustain most of the charges against Howard. The record is

unclear with respect to two others, which we remand to the

SEC for reconsideration.

I.

In the early 1990’s Howard served as a senior vice president of James Capel, Inc. (‘‘JCI’’), a registered broker-dealer

based in New York. JCI was a subsidiary of James Capel &

Company, Ltd., a securities brokerage firm in London, which

together with another affiliate, made up the Capel Group.

Howard’s job was to market European equity securities to

American and Canadian institutional investors. In 1990, his

customers became interested in investment opportunities creUSCA Case #03-1098 Document #839648 Filed: 07/30/2004 Page 2 of 28
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ated by the fall of communism in Eastern Europe. Howard

believed there would be demand for new hotels in the region,

an idea that ultimately resulted in New Europe Hotels, N.V.,

a Netherlands Antilles corporation incorporated on December

20, 1990, for the purpose of developing hotel properties in

Eastern and Central Europe. Howard became a director of

the new company. Before its formation, he consulted with

IDG Development Corporation, a real estate development

company; executives from the Capel Group and its affiliates;

and JCI’s corporate finance department, headed by Joel

Matcovsky – a former SEC lawyer. JCI accepted the project, and its corporate finance department took steps to

initiate a stock offering.

The initial offering of 5,000,000 shares of common stock

occurred in late 1990 and early 1991. JCI was the exclusive

marketer of New Europe Hotels stock in the United States;

its affiliates were the underwriters overseas. The law firm of

Rogers & Wells prepared the offering documents for use in

this country. Rogers & Wells began drafting the documents

in the fall of 1990. Howard was not involved in the drafting

process although he was apprised of developments. Matcovsky and the corporate finance department served as the

liaison between JCI and Rogers & Wells.

The final placement documents – which Howard skimmed

through but did not read closely – offered the stock on a ‘‘best

efforts, part or none’’ basis. Under SEC Rule 10b–9, 17

C.F.R. § 240.10b–9, a part-or-none offering requires prompt

refunds to investors if the minimum number of shares set

forth in the offering is not sold, or full payment is not

received, by the date specified. The first offering made closing contingent on the sale of at least 2,000,000 shares at 20

Deutsche Marks per share by January 2, 1991.

JCI began marketing the United States placement in late

1990. Howard headed the marketing effort here, telephoning

potential investors and arranging road shows. Sales were not

up to expectations. With concern growing that the minimum

might not be met by the deadline, three transactions were

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undertaken, each of which eventually led to an alleged violation of the securities laws.

On December 20, 1990, the Capel Group – at the behest of

its co-chairmen – obtained for itself enough shares to close

the offering. It did this by taking 100,000 shares in lieu of

the fee it would have received for serving as the worldwide

selling agent and by purchasing an additional 55,650 shares.

Howard told the subscribers in this country, and potential

investors, that the Capel Group had purchased these shares,

viewing this as a ‘‘marketing plus.’’ In making this representation, he did not say whether the shares would count toward

the subscription minimum. Howard did not believe there

were any legal problems with the Capel Group’s purchases

because he understood that Matcovsky had cleared the transactions with Rogers & Wells. Howard was on vacation

during the week of the closing and played no role in determining which shares would be counted toward the minimum.

The next questioned transaction was a purchase by JCI.

During the offering period Howard received an indication of

interest for 30,000 New Europe Hotels shares from Julius

Baer Securities on behalf of the European Warrant Fund, a

closed-end investment company that Howard participated in

creating. Baer served as the fund’s investment adviser, and

JCI served as a ‘‘subadviser.’’ Howard was aware of these

relationships. In the days before the closing, Howard was

unable to reach Baer for confirmation. Howard checked with

his supervisor, JCI’s president Mark Green, who told him

that JCI should itself purchase the stock. Before the closing,

JCI did this and held the shares in a JCI-controlled account.

JCI’s 30,000 shares were counted toward the minimum. On

January 4, 1991, two days after the closing, JCI sold the

shares to the European Warrant Fund.

The third transaction involved the real estate developer,

IDG Development Corporation. As disclosed in offering documents, IDG was to receive 75,000 shares free of charge as

‘‘founders shares’’ and had agreed to purchase another 75,000

shares on its own. The offer of free shares was rescinded

after another investor objected. Unhappy with losing the

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free shares, IDG asked if New Europe Hotels would advance

IDG’s managerial fees to ease a cash flow burden. Although

a director of New Europe Hotels, Howard was on vacation at

the time and did not participate in these discussions. In his

absence, New Europe Hotels’ board of directors approved a

plan whereby the company would deposit an amount equal to

IDG’s fees in a bank that in turn would use the deposit as

collateral for a loan to IDG. Matcovsky, who was also a

director and participated in the meetings, called Howard, told

him of the board’s resolution, and represented that Rogers &

Wells had been consulted and approved the transaction.

Only then did Howard vote in favor of the plan. New Europe

Hotels thus assisted IDG in obtaining two loans, which IDG

used to buy the shares it was originally supposed to receive

free of charge. These shares were counted toward the

minimum.

Although the closing took place on January 2, 1991, it was

not until several weeks later that full payment was made for

up to a third of the shares, including those sold to IDG

Development Corporation. In part this was due to conflicting

instructions about where to wire payment. Howard learned

of these problems when he returned from vacation on January 4 and assisted JCI’s efforts to account for and collect the

missing funds.

JCI initiated a second private placement offering of NEH

securities in October and November 1991. As with the first

offering, the corporate finance department coordinated the

drafting of documents by Rogers & Wells. Howard relied on

its work product and believed the offering materials contained

all the necessary disclosures. The second offering closed on

November 27, 1991.

The SEC charged Howard with willfully aiding and abetting and causing the securities violations committed by JCI

and New Europe Hotels. In the SEC’s view, the minimum

subscription of 2,000,000 shares in the part-or-none offering

was reached by improperly counting (1) shares the Capel

Group purchased for itself, (2) shares JCI purchased for an

aftermarket sale to the European Warrant Fund, and (3)

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shares IDG purchased with bank loans using as collateral the

fees New Europe Hotels advanced. These transactions were

not, according to the SEC, ‘‘bona fide’’ under Rule 10b–9.1

 In

addition, the SEC determined that antifraud violations occurred when the first offering closed despite the fact that

payment had not been received for a third of the shares. JCI

and New Europe Hotels thus violated § 10(b) of the Securities Exchange Act, and Rules 10b–5 and 10b–9 thereunder,

and § 17(a) of the Securities Act.2

 The violation of Rule 10b–

9 consisted of improperly closing the initial offering rather

than returning the proceeds of the sales to the investors.

The violations of Rule 10b–5 were the failure to disclose in

the first offering that these purchases would be counted

toward the minimum and the failure to disclose in the second

offering that the first offering had closed improperly. The

SEC also charged that JCI violated § 17(a)(1) of the Investment Company Act by selling securities to the European

Warrant Fund, which it was advising.3

After an evidentiary hearing an Administrative Law Judge

found that Howard had aided and abetted and caused these

violations. The SEC agreed and suspended Howard from

associating with any broker or dealer for three months,

1 Rule 10b–9 is set forth infra note 12.

2 Section 10(b) of the Securities Exchange Act prohibits the use of

manipulative or deceptive devices in connection with the purchase

or sale of securities. 15 U.S.C. § 78j(b). Rule 10b–5 prohibits,

inter alia, the making of an untrue statement of a material fact in

connection with a securities transaction. 17 C.F.R. § 240.10b–5.

Section 17(a) of the Securities Act prohibits fraudulent conduct

including the omission of material facts necessary to make statements not misleading in connection with the offer or sale of

securities. 15 U.S.C. § 77q(a).

3 Section 17(a)(1) of the Investment Company Act prohibits an

affiliated person of a registered investment company, acting as a

principal, from selling any security to that company. 15 U.S.C.

§ 80a–17(a)(1). Section 2(a)(3)(E) of the Act defines ‘‘affiliated

person’’ of an investment company to include ‘‘any investment

adviser thereof.’’ 15 U.S.C. § 80a–2(a)(3)(E).

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ordered him to cease and desist from committing any future

violations, and assessed a civil penalty of $50,000.

II.

Of the three sanctions imposed on Howard, one – the cease

and desist order – stands apart. The SEC’s authority to

issue such orders against secondary actors rests on § 21C(a)

of the Securities Exchange Act, 15 U.S.C. § 78u–3(a). This

section states that if the SEC finds that any person has

violated the Act or any rule or regulation thereunder, it may

issue a cease and desist order against ‘‘any other person that

TTT was TTT a cause of the violation, due to an act or omission

the person knew or should have known would contribute to

such violationTTTT’’ Although we held in KPMG, LLP v.

SEC, 289 F.3d 109, 120 (D.C. Cir. 2002), that the ‘‘knew or

should have known’’ language in § 21C embodied a negligence standard for purposes of that case, it does not necessarily follow that negligence is the standard here. The SEC’s

opinion in KPMG, which we sustained, held that ‘‘negligence

is sufficient to establish ‘causing’ liability under Exchange Act

Section 21C(a), at least in cases in which a person is alleged

to ‘cause’ a primary violation that does not require scienter.’’

In re KPMG Peat Marwick LLP, Exchange Act Release No.

43862, 2001 SEC LEXIS 98, at *82 (Jan. 19, 2001).4

 Unlike

KPMG, scienter was an element of the primary violations

that were the subject of the cease and desist order in this

case. See Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193

(1976).5

 This is apparently why the SEC did not cite its

4 For securities violations, the Supreme Court has described

scienter as ‘‘a mental state embracing intent to deceive, manipulate,

or defraud.’’ Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 n.12

(1976).

5 We held in Investors Research Corp. v. SEC, 628 F.2d 168, 177

(D.C. Cir. 1980), that § 17 of the Investment Company Act contains

no scienter requirement. But the SEC did not issue a cease and

desist order against Howard with respect to § 17(a)(1). In re

Nicholas P. Howard, Exchange Act Release No. 47357, 2003 SEC

LEXIS 377, at *23 n.26 (Feb. 12, 2003).

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opinion in KPMG or ours, and did not invoke negligence as

the standard to be applied. The SEC proceeded instead on

the basis that because Howard aided and abetted violations of

the securities laws requiring scienter he was ‘‘a cause’’ of the

violations under § 21C. See In re Sharon M. Graham &

Stephen C. Voss, 53 S.E.C. 1072, 1085 n.35 (1998).

The SEC’s authority to impose the other two sanctions –

suspending Howard for three months and ordering him to

pay a penalty of $50,000 – rested on Exchange Act provisions

other than § 21C. Under § 15(b)(6) and § 15(b)(4) the SEC

may suspend for up to twelve months any person associated

with a broker or dealer who ‘‘has willfully aided, [and] abetted’’ any violation of the securities laws. 15 U.S.C.

§§ 78o(b)(6)(A), 78o(b)(4)(E). Under § 21B, the SEC may

impose money penalties against persons who have ‘‘willfully

aided, [and] abetted’’ another’s violation of the securities laws.

15 U.S.C. § 78u–2(a)(2).6

How does one decide whether a person willfully aided and

abetted a securities violation? The ‘‘rules for determining

aiding and abetting [securities violations] are unclear, in an

area that demands certainty and predictability.’’ Central

Bank of Denver, 511 U.S. at 188 (internal quotations and

citation omitted). Rather than bringing clarity to the subject,

the SEC in this case muddied the waters. According to its

opinion, an element ‘‘necessary to find that a respondent

aided and abetted [the primary] violations’’ is ‘‘a general

awareness by the aider and abettor that his role was part of

an activity that was improper.’’ In re Nicholas P. Howard,

Exchange Act Release No. 47357, 2003 SEC LEXIS 377, at

*14 (Feb. 12, 2003) (‘‘Comm’n Op.’’). The ‘‘general awareness’’ language comes from this court’s holding in Investors

6 The Supreme Court held in Central Bank of Denver v. First

Interstate Bank of Denver, 511 U.S. 164, 191 (1994), a private action

for damages, that Congress did not intend to impose aiding and

abetting liability under § 10(b) of the Securities Exchange Act.

Howard’s exposure to a civil money penalty and suspension for

aiding and abetting violations of § 10(b) stems not from § 10(b)

itself, but from § 15(b) and § 21B.

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Research Corp. v. SEC, 628 F.2d 168, 178 (D.C. Cir. 1980),7

which the SEC cited in a footnote. Investors Research

explained that the ‘‘awareness of wrong-doing requirement’’

in aiding and abetting disciplinary cases was ‘‘designed to

insure that innocent, incidental participants in transactions

later found to be illegal are not subjected to harsh TTT

administrative penalties.’’ 628 F.2d at 177.

Awareness of wrongdoing means knowledge of wrongdoing.

See id. at 178 & n.61; Central Bank of Denver, 511 U.S. at

181; Halberstam v. Welch, 705 F. 2d 472, 478 & n.8 (D.C. Cir.

1983). Despite its holding that this was a ‘‘necessary’’ element of aiding and abetting liability,8

 the SEC never mentioned any evidence that Howard was aware of wrongdoing.

Its opinion said only that Howard knew the first offering

could not close unless 2,000,000 shares were sold, and that he

knew the Capel Group and JCI engaged in efforts to reach

that number through transactions which, the SEC charged,

violated Rule 10b–9 when they were counted toward the

minimum. Obviously, Howard also knew of the second offering, but again nothing indicated that he was aware of any

illegalities in the first offering that had to be disclosed to

potential investors in the second. As the SEC recognized,

the ‘‘facts in this matter are largely undisputed,’’ Comm’n

Op., 2003 SEC LEXIS 377, at *3. Among those facts are

these: ‘‘Howard did not know that his role was part of an

overall activity that was improper,’’ he ‘‘believed that the

lawyers had been consulted,’’ and he did not have a ‘‘high

conscious intent.’’ In re Nicholas P. Howard, Initial Decisions Release No. 138, 1999 SEC LEXIS 577, at *48, *19, *29,

*30, *61 (Mar. 24, 1999) (‘‘ALJ Dec.’’).

In short, the evidence showed that Howard was not aware,

generally or otherwise, of any wrongdoing. To the extent the

SEC explained itself, its point was the opposite – Howard’s

fault was in not being aware. In the sentence after it set

7 See also SEC v. Bilzerian, 29 F.3d 689, 694 n.10 (D.C. Cir.

1994).

8 The SEC held the same in In re Russo Secs. Inc., 53 S.E.C. 271,

278 (1997), which its opinion in Howard’s case also cited.

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forth the elements of aiding and abetting, the SEC added that

‘‘[r]ecklessness is sufficient to satisfy the scienter requirement for aiding and abetting liability.’’ Comm’n Op., 2003

SEC LEXIS 377, at *14. The quotation is an accurate

statement of the law of this circuit, but it is inconsistent with

the idea that knowledge of wrongdoing must be proven. A

secondary violator may act recklessly, and thus aid and abet

an offense, even if he is unaware that he is assisting illegal

conduct. Two of our decisions, rendered after Investors

Research, make this point. Graham v. SEC, 222 F.3d 994

(D.C. Cir. 2000); SEC v. Steadman, 967 F.2d 636 (D.C. Cir.

1992). Both hold that ‘‘extreme recklessness’’ may support

aiding and abetting liability. Graham, 222 F.3d at 1004;

Steadman, 967 F.2d at 641. ‘‘Extreme recklessness’’ – or as

many courts of appeals put it, ‘‘severe recklessness’’9

 – may

be found if the alleged aider and abettor encountered ‘‘red

flags,’’ or ‘‘suspicious events creating reasons for doubt’’ that

should have alerted him to the improper conduct of the

primary violator, Graham, 222 F.3d at 1006; see also Wonsover v. SEC, 205 F.3d 408, 411 (D.C. Cir. 2000), or if there

was ‘‘a danger TTT so obvious that the actor must have been

aware of’’ the danger. Steadman, 967 F.2d at 641–42, quoting Sundstrand Corp. v. Sun Chemical Corp., 553 F.2d 1033,

1045 (7th Cir.), cert. denied, 434 U.S. 875 (1977); see also

Wonsover, 205 F.3d at 414. It is not enough that the accused

aider and abettor’s action or omission is ‘‘derived from inexcusable neglect.’’ Sundstrand, 553 F.2d at 1047. ‘‘Extreme

recklessness’’ is neither ordinary negligence nor ‘‘merely a

heightened form of ordinary negligence.’’10 Steadman, 967

9 See, e.g., Ottmann v. Hanger Orthopedic Group, Inc., 353 F. 3d

338, 344 (4th Cir. 2003); In re K–tel Intern., Inc. Securities

Litigation, 300 F.3d 881, 893 (8th Cir. 2002); Nathenson v. Zonagen, Inc., 267 F.3d 400, 408 (5th Cir. 2001); Platsis v. E.F. Hutton

& Co., Inc., 946 F.2d 38, 40 (6th Cir. 1991); Barker v. Henderson,

Franklin, Starnes & Holt, 797 F.2d 490, 496 (7th Cir. 1986); Woods

v. Barnett Bank of Ft. Lauderdale, 765 F.2d 1004, 1010 (11th Cir.

1985).

10 The SEC has called this form of recklessness ‘‘a state of mind

closer to conscious intent than to gross negligence.’’ Brief for the

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F.2d at 641. To put the matter in terms of § 21C, aiding and

abetting liability cannot rest on the proposition that the

person ‘‘should have known’’ he was assisting violations of the

securities laws. See Camp v. Dema, 948 F.2d 455, 459 (8th

Cir. 1991); Graham, 222 F.3d at 1006.

Nothing in the SEC’s confusing opinion suggests that it

had any of this in mind when it found that Howard acted

recklessly. We are willing to assume that the SEC thought –

incorrectly – that reckless conduct amounted to a form of

awareness of wrongdoing. But we are unwilling to assume

that it properly evaluated Howard’s conduct under an extreme recklessness standard.11 Otherwise, there is no explaining why it found Howard liable on most of the aiding and

abetting charges against him. The heart of the SEC’s case

was the violation of Rule 10b–9 through the counting of

purchases made in the part-or-none offering that were not

‘‘bona fide.’’ The minimum subscription of 2,000,000 shares

was improperly reached when someone – not Howard –

decided to count the purchases by the Capel Group, JCI, and

IDG Development Corporation. What dangers were so obvious that Howard should have known of them? What red

flags should have alerted him? The SEC’s opinion mentions

none regarding the Rule 10b–9 violations. Instead, it finds

him reckless for not knowing all the legal requirements of a

part-or-none offering and for not disclosing to investors what

he did not know – that Rule 10b–9 would be violated when the

closing took place.

The SEC adopted Rule 10b–9 in 1962. It is quoted in full

in the margin.12 The rule makes it a ‘‘manipulative or

SEC as Amicus Curiae, Central Bank of Denver v. First Interstate

Bank of Denver, 511 U.S. 164 (1994), 1992 U.S. Briefs 854 (LEXIS).

See generally Marrie v. SEC, No. 03–1265, 2004 WL 1585848 (D.C.

Cir. July 16, 2004).

11 In their briefs, Howard and the SEC agreed that the ‘‘extreme

recklessness’’ standard of Steadman, 967 F.2d at 641–42, applied to

aiding and abetting liability.

12 § 240.10b–9 Prohibited representations in connection with certain offerings.

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deception [sic] device or contrivance’’ to represent that ‘‘the

security is being offered or sold on any TTT basis whereby all

or part of the consideration paid for any such security will be

refunded to the purchaser if all or some of the securities are

not sold, unless the security is part of an offering or distributing being made on the condition that all or a specified part of

the consideration paid for such security will be promptly

refunded to the purchaser unless (i) a specified number of

units of the security are sold at a specified price within a

specified time, and (ii) the total amount due to the seller is

received by him by a specified date.’’ 17 C.F.R. § 240.10b–

(a) It shall constitute a manipulative or deception device or

contrivance, as used in section 10(b) of the Act, for any

person, directly or indirectly, in connection with the offer

or sale of any security, to make any representation:

(1) To the effect that the security is being offered or

sold on an ‘‘all-or-none’’ basis, unless the security is

part of an offering or distribution being made on the

condition that all or a specified amount of the consideration paid for such security will be promptly refunded to the purchaser unless (i) all of the securities

being offered are sold at a specified price within a

specified time, and (ii) the total amount due to the

seller is received by him by a specified date; or

(2) To the effect that the security is being offered or

sold on any other basis whereby all or part of the

consideration paid for any such security will be refunded to the purchaser if all or some of the securities

are not sold, unless the security is part of an offering

or distribution being made on the condition that all or

a specified part of the consideration paid for such

security will be promptly refunded to the purchaser

unless (i) a specified number of units of the security

are sold at a specified price within a specified time,

and (ii) the total amount due to the seller is received

by him by a specified date.

(b) This rule shall not apply to any offer or sale of

securities as to which the seller has a firm commitment

from underwriters or others (subject only to customary

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9(a)(2). The SEC adopted the rule out of concern ‘‘that some

persons distributing securities have been representing that

securities are being offered on an ‘all-or-none’ basis when,

because of ambiguities in the contractual arrangement, it is

not clear whether the conditions have been met if the underwriter finds persons who agree to purchase all of the securities within the specified time, but he is unsuccessful in

collecting payment for all of the securities.’’ Proposal to

Adopt Rule 10b–9 Under the Securities Exchange Act of 1934,

Exchange Act Release No. 6864, 1962 WL 68100, at *1 (July

30, 1962).13

Neither Rule 10b–9, nor the SEC’s contemporaneous explanation of it, mention sales to insiders or persons affiliated

with the offeror or whether – as occurred here – these sales

may be counted toward the minimum. In a 1975 interpretation of Rule 10b–9, the SEC stated that the rule requires

purchases to be ‘‘bona fide.’’ See Requirements of Rules 10b–

9 and 15c2–4 Under the Securities Exchange Act of 1934

Relating to Issuers, Underwriters and Broker–Dealers Engaged in an ‘‘All or None’’ Offering, Exchange Act Release

No. 11532, 7 S.E.C. Docket 403, 1975 WL 163128, at *1 (July

11, 1975). That release, while re-stating the basic purpose of

requiring full payment by the specified date, also expressed

concern that issuers or underwriters of an offering ‘‘have

created the misleading appearance of a successful sale of the

specified minimum number of securities in order to fulfill the

prerequisites to receipt of the proceeds of the offeringTTTT’’

Non-bona fide sales are those which are ‘‘designed to create

the appearance of a successful completion of the offering,

such as purchases by the issuer through nominee accounts or

purchases by persons whom the issuer has agreed to guarantee against loss.’’ Id.

conditions precedent, including ‘‘market outs’’) for the

purchase of all the securities being offered.

13 In an all-or-none offering, all of the securities must be sold

within the designated period. In a part-or-none offering, a designated minimum amount must be sold within the specified time.

Rule 10b–9 deals with both types of transactions.

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Counsel for the SEC argues that the bona fide requirement

is simply ‘‘common sense,’’ Brief of the SEC at 29, and the

SEC’s opinion claimed that ‘‘[i]t is well established that

purchases by underwriters or their affiliates arranged for the

undisclosed purpose of closing an unsuccessful part-or-none

offering are fraudulent.’’ Comm’n Op., 2003 SEC LEXIS

377, at *12. In support, the SEC directed our attention to a

practitioners’ guide to Rule 10b–9.14 Far from supporting the

SEC’s position that the meaning of Rule 10b–9 should have

been apparent to Howard, it states the opposite. The ‘‘law

applicable to [10b–9] offerings has never been clear, and has

been based on a partly unwritten body of interpretation

regarding what constitutes a ‘bona fide’ purchase of securities

for purposes of the rules, what advance disclosure may be

required regarding purchases by general partners or brokerdealers, and even what constitutes a contingency offering.’’

Robert B. Robbins, Structuring Best Efforts Offerings and

Closings Under Rule 10b–9, SH067 ALI–ABA 297, 299 (2003)

(available on Westlaw). Robbins notes that in this environment of uncertainty, ‘‘[f]or many years, the best available

guidance took the form of a few SEC staff-prepared seminar

outlines, one significant no-action letter and a few published

articles. More recently, certain courts have raced ahead to

set standards that go well beyond prior interpretations and

that create significant new risks for counsel in closing contingency offerings.’’ Id. at 304. One of these new interpretations is what Robbins terms the ‘‘corroboration’’ theory. See

id. at 305–07 (citing SEC v. Blinder, Robinson & Co., 542 F.

Supp. 468, 476 (D. Colo. 1982)) (‘‘Each investor is comforted

by the knowledge that unless his judgment to take the risk is

shared by enough others to sell out the issue, his money will

be returned.’’); see also, e.g., Svalberg v. SEC, 876 F.2d 181,

183–84 (D.C. Cir. 1989) (per curiam);15 C.E. Carlson, Inc. v.

14 The SEC also cited other authorities, nearly all of which postdate the transactions at issue here. See Brief of the SEC at 29

n.15.

15 In Svalberg we affirmed the National Association of Securities

Dealers’ finding that petitioners violated Article III, § 1 of the

NASD Rules of Fair Practice by purchasing shares in an all-or-none

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15

SEC, 859 F.2d 1429, 1434 (10th Cir. 1988). But according to

Robbins, ‘‘[g]iven the vagueness of the ‘corroboration’ or

‘comfort’ standard, it should not be surprising that in recent

years it has become increasingly difficult for practitioners to

define the circumstances in which Rule[ ] 10b–9 TTT appl[ies].

The difficulties are greatest TTT in the case of purchases, or

undertakings to purchase, by affiliates of the issuer.’’ Robbins, supra, at 311.

While Howard does not question the SEC’s finding that

primary violations of Rule 10b–9 occurred through non-bona

fide transactions, he does dispute the SEC’s claim that there

were danger signals or red flags so obvious that he should

have noticed them. His point is well-taken. As we understand the SEC’s position, the purchases by the Capel Group

and JCI were not in themselves illegal. The illegality arose

in counting these shares toward the 2,000,000 minimum and

closing the offering on that basis without informing the

investors that these shares would be counted toward the

minimum. Nothing on the face of Rule 10b–9 deals with

transactions of this sort. While the SEC’s 1975 release spoke

of the need for ‘‘bona fide’’ sales, the non-bona fide transactions it mentioned – purchases by the issuer through nominee

accounts or purchases by persons whom the issuer guarantees against loss, see 1975 WL 163128, at *1 – do not appear

to be of the sort facing us here. And the Robbins article

states that there are ‘‘many cases in which it is permissible

for the sponsor or affiliates to purchase unsold interests in an

all-or-none offering,’’ as when the sponsor or affiliates buy

‘‘the securities on the same terms as other investors,’’ ‘‘take

the risk of the investment,’’ and the purchases do not ‘‘affect

offering they were underwriting. ‘‘In this case, petitioners acted to

create a false impression that the required minimum number of

shares had been sold to the public; therefore, their purchases of

SanAnCo with a purpose of closing the underwriting simply cannot

be viewed as bona fide investments.’’ 876 F.2d at 183. Although

Svalberg does not specifically address Rule 10b–9, Robbins laments

that this decision ‘‘raises even greater uncertainties and risks’’ for

securities professionals. Robbins, supra, at 309.

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16

the financial condition of the issuer.’’ Robbins, supra, at 312

& n.30.16

In light of the uncertainties about the meaning of Rule

10b–9,17 and the SEC’s contention that Howard acted recklessly because he should have known that JCI and New

Europe Hotels were violating the rule, we asked the SEC at

oral argument how a securities professional should go about

checking the legality under Rule 10b–9 of counting a given

purchase toward the minimum. The SEC attorney agreed

that one would normally expect the individual to consult

counsel, which brings us to Howard’s argument that as ‘‘a

non-lawyer,18 [he] cannot be deemed reckless where he relied

upon competent and experienced inside and outside counsel.’’

Brief of Petitioner at 26.

The ALJ made the following finding: Howard ‘‘believed

that Matcovsky, higher management in the Capel Group, and

outside counsel had approved actions that violated the antifraud provisions and Rule 10b–9.’’ ALJ Dec., 1999 SEC

LEXIS 577, at *49. The SEC accepted this finding and the

16 The SEC has given the green light to such purchases, requiring

that under Rule 10b–9 the issuer or its affiliates ‘‘must disclose the

possibility that [it] may make purchases TTT in order to meet the

specified minimum.’’ See Interpretive Release on Regulation D,

Securities Act Release No. 6455, 1983 WL 409415 (Mar. 3, 1983)

(Question 79); see Peter M. Fass & Derek A. Wittner, BLUE SKY

PRACTICE FOR PUBLIC AND PRIVATE DIRECT PARTICIPATION OFFERINGS

§ 7:54 (2003–04 ed.). In its opinion here the SEC noted that only

‘‘undisclosed’’ purchases by underwriters or their affiliates in a partor none offering are fraudulent. Comm’n Op., 2003 SEC LEXIS

377, at *12. This suggests that if JCI had disclosed to investors not

only the Capel Group’s purchase but also that these shares would

be counted toward the minimum, the transaction would not have

violated Rule 10b–9.

17 We do not suggest that the SEC erred in concluding that JCI

and New Europe Hotels violated Rule 10b–9.

18 Howard attended law school in England and worked for a

London law firm prior to coming to the United States. He did not

study or practice law in the United States.

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17

record plainly supports it. For instance, when the board of

directors of New Europe Hotels approved the transaction

involving IDG Development Corporation, Howard – a member of the board – was on vacation. Matcovsky, who headed

JCI’s corporate finance department and had been a lawyer

with the SEC’s Division of Market Regulation, called Howard

to inform him of the news and to solicit his vote. Matcovsky

was also a member of New Europe’s board, as was the Dean

of the New York University Graduate School of Business.

Only after Matcovsky reported that the board had voted in

favor of the transaction and that Rogers & Wells had approved it did Howard add his approval. (The partner in

charge at Rogers & Wells specialized in securities law and

had more than 20 years of experience.) Howard remained on

vacation when the closing took place at the offices of Rogers

& Wells. And it was at the closing that the purchases by the

Capel Group, JCI, and IDG Development Corporation were

counted toward the minimum in violation of Rule 10b–9. In

the fall of the next year, Rogers & Wells prepared the second

offering documents, documents the SEC determined should

have disclosed that the first offering closed improperly. As

with the first offering, Howard played no role in drafting

those documents, again relying on the expertise of outside

counsel and JCI’s corporate finance department. The SEC

dismissed this and other such evidence on the ground that

‘‘Howard had an ongoing obligation to familiarize himself with

pertinent legal requirements in order to protect investors

from illegality.’’ Comm’n Op., 2003 SEC LEXIS 377, at *15.

This entirely misses the significance of the evidence. Extreme recklessness, as we have discussed, means that the

alleged aider and abettor – although not knowing that he was

assisting wrongdoing – should have been alerted by ‘‘red

flags’’ signifying obvious problems. In this case, rather than

red flags, Howard encountered green ones, as outside and

inside counsel approved transactions and counted sales that,

the SEC later determined, should not have been counted

under a rule whose language was silent on the subject.

In its brief, the SEC offers two other rationales for disregarding this evidence: one, Howard, never claimed the deUSCA Case #03-1098 Document #839648 Filed: 07/30/2004 Page 17 of 28
18

fense of reliance of counsel; and two, even if he had, he failed

to qualify for the defense because he did not make full

disclosure to counsel, did not request counsel’s advice, did not

receive advice, and did not rely in good faith on that advice.

The SEC’s opinion relied on neither rationale, see United

States v. Chenery Corp., 332 U.S. 194, 200 (1947), and it would

have been error for it to do so.

Despite dicta in SEC v. Savoy, 665 F.2d 1310, 1314 n.28

(D.C. Cir. 1981), reliance on the advice of counsel need not be

a formal defense; it is simply evidence of good faith, a

relevant consideration in evaluating a defendant’s scienter.

See Bisno v. United States, 299 F.2d 711, 719 (9th Cir. 1961).

As a former SEC commissioner put it, the ‘‘reliance defense

TTT is not really a defense at all but simply some evidence

tending to support a defense based on due care or good

faith.’’ Bevis Longstreth, Reliance on Advice of Counsel as a

Defense to Securities Law Violations, 37 BUS. LAW. 1185, 1187

(1982).19 The SEC itself recognized as much in In re Charles

C. Carlson, 46 S.E.C. 1125, 1132–33 (1977), when it held that

a broker reasonably relied on a lawyer’s advice (which turned

out to be mistaken) and added that although such a securities

professional should have been familiar with the ‘‘rudiments’’

of securities law, he should not be ‘‘expected to display

finished scholarship in all of the fine points.’’20

19 See also Douglas W. Hawes & Thomas J. Sherrard, Reliance

on Advice of Counsel as a Defense in Corporate and Securities

Cases, 62 VA. L. REV. 1, 7–8 (1976) (‘‘[R]eliance is recognized only as

a factor or circumstance tending to show the defendant’s good faith

or exercise of due care; it is not in itself a complete and absolute

defense.’’); Gregory E. Maggs, Consumer Bankruptcy Fraud and

the ‘‘Reliance on Advice of Counsel’’ Argument, 69 AM. BANKR. L.J.

1, 10 (1995) (‘‘[R]eliance on the advice of counsel is not an affirmative defense. Instead, when a defendant introduces evidence of

reliance on counsel, the defendant is usually trying to negate an

element of a particular crime or tort, such as fraudulent intent.’’).

20 An essential means by which securities professionals comply

with the law is through the guidance of counsel. See Hawes &

Sherrard, supra note 19, at 36 (securities laws are ‘‘complex and

often uncertain’’; ‘‘the layman [i.e., a non-lawyer] has no real choice

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19

The facts that Rogers & Wells oversaw the closing of the

first offering at its law offices, that it drafted the documents

for the second offering and that Matcovsky conveyed to

Howard his and the law firm’s approval of the Capel Group’s

purchases and the IDG Development Corporation transaction

constituted powerful evidence that Howard’s actions did not

amount to ‘‘an extreme departure from the standards of

ordinary care’’ ‘‘so obvious that the actor must have been

aware of it.’’ Steadman, 967 F.2d at 641–42, quoting Sundstrand, 553 F.2d at 1045.21 The SEC’s response, found in its

but to rely on counsel.’’). Legal counsel plays a critical role in the

functioning of securities transactions. ‘‘Significant public benefits

flow from the effective performance of the securities lawyer’s role.

The exercise of independent, careful and informed legal judgment

on difficult issues is critical to the flow of material information to

the securities markets.’’ In re William R. Carter, Charles J.

Johnson Jr., 47 S.E.C. 471, 504 (1981); see also SEC v. Spectrum,

Ltd., 489 F.2d 535, 541–42 (2d Cir. 1973) (‘‘The legal profession

plays a unique and pivotal role in the effective implementation of

the securities laws. Questions of compliance with the intricate

provisions of these statutes are ever present and the smooth

functioning of the securities markets will be seriously disturbed if

the public cannot rely on the expertise proferred by an attorney

when he renders an opinion on such matters.’’).

21 Steadman held that the directors of a mutual fund had not

acted recklessly in relying on advice from outside counsel that

turned out to be wrong. 967 F.2d at 642. This court’s opinion in

Investors Research, 628 F.2d at 178 n.65, also indicated that an

accused’s belief that the law permitted the transactions is evidence

of a lack of scienter.

 Some states protect directors from liability when they reasonably

rely on counsel or other experts. See, e.g., N.Y. BUS. CORP. LAW

§ 717 (McKinney 2004) (‘‘director shall be entitled to rely on

information, opinions, reports or statements TTT prepared or presented by TTT counsel, public accountants or other persons as to

matters which the director believes to be within such person’s

professional or expert competence’’); DEL. CODE ANN. tit. 8, § 141(e)

(2003) (similar language); MODEL BUS. CORP. ACT § 8.30(e)(2) (2002);

see also Buffalo Forge Co. v. Ogden Corp., 555 F. Supp. 892, 904

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20

brief but not its opinion, is that the evidence does not bear on

Howard’s conduct because Matcovsky, not Howard, served as

the liaison to Rogers & Wells. That cannot be correct.

Suppose a company president communicates directly with

competent outside counsel; makes full disclosure; is advised – incorrectly – that the proposed transaction is entirely

lawful; tells junior officers in the company of the legal advice;

and instructs them to consummate the transaction. Under

the SEC’s theory, the president could avoid charges of fraudulent conduct by using the attorney’s advice to prove his lack

of scienter while those working under him could not. That is

illogical and makes no sense whatsoever. If the SEC were

right, all corporate employees below the top echelon would

have to consult outside counsel directly in order to receive the

same legal advice given top management. That not only

would run up the legal bills, but it would be impractical and

highly inefficient.22 At any rate, the SEC’s argument is at

best only a partial answer to Howard’s claim because he also

relied on inside counsel – Matcovsky, with whom he communicated directly.

In Graham, what made the defendant’s actions reckless,

and not merely negligent, was an ‘‘abundance’’ of ‘‘red flags

and suggestions of irregularities [that] demand[ed] inquiry as

well as adequate follow-up and review.’’ 222 F.3d at 1006

(internal quotations and citation omitted); see also Wonsover,

205 F.3d at 411 (noting existence of ‘‘several ‘red flags’ ’’).

On this record, the SEC is unable to identify any such

unusual circumstances with regard to the non-bona fide purchases – the focus of the SEC’s attention in this case. All the

SEC can say is that Howard should have known what the

(W.D.N.Y. 1983); Cinerama, Inc. v. Technicolor, Inc., 663 A.2d

1134, 1142 (Del. 1994).

22 Compare Levine v. SEC, 436 F.2d 88, 90 (2d Cir. 1971):

‘‘[A]bsent actual knowledge or warning signals, a broker-dealer

should not be under a duty to retain his own auditor to re-examine

the books of every company, the stock of which he may offer for

sale, even accepting the doubtful hypothesis that such permission

would be granted.’’

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21

legal requirements of Rule 10b–9 were and that he violated

the disclosure laws by failing to reveal what he should have

found out, but did not. At best this amounts to a finding of

negligence; at worst it is liability without fault. Given the

record in this case, there is no substantial evidence that

Howard had the requisite scienter to aid and abet the violations, caused by JCI’s counting of non-bona fide purchases

towards the minimum of the part-or-none offering, of § 17(a)

of the Securities Act, § 10(b) of the Exchange Act, and Rules

10b–5 and 10b–9 thereunder.

We are left with two loose ends for the SEC to address on

remand. The first deals with the apparent fact that in the

first offering – in the words of Rule 10b–9(a)(2)(ii) – ‘‘the total

amount due to the seller [was not] received by him by a

specified date.’’23 17 C.F.R. § 240.10b–9(a)(2)(ii). Howard

agrees that a third of the shares had not been paid for by the

closing date of January 2, 1991, while he was on vacation. He

learned of the problems when he returned to work two days

later. ‘‘Settlements were not his responsibility, but to assist

TTT important customers Howard tried to help solve the

problemsTTTT’’ ALJ Dec., 1999 SEC LEXIS 577, at *27.24

The SEC determined that Howard aided and abetted the

primary violation of Rule 10b–9(a)(2)(ii) because he ‘‘played a

substantial role in collecting late subscription payments from

23 We say ‘‘apparent’’ in light of this factual conclusion of the

ALJ, which seems to contradict not only the SEC’s legal conclusion

but also the ALJ’s:

A second condition [of a part-or-none offering] is that the

total amount due the seller is received by him by a

specified date. Rule 10b–9(a)(2)(B). The Division does

not contend that this aspect of Rule 10b–9 was violated,

and there is insufficient evidence in the record to make a

finding as to the date [New Europe Hotels] received the

funds raised in the first offering.

ALJ Dec., 1999 SEC LEXIS 577, at *34 n.17. The SEC’s brief

devotes hardly any attention to the matter.

24 The problems arose when subscribers received conflicting advice about where they should send their payments.

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22

those whose failure to make timely payment should have

aborted the offering.’’ Comm’n Op., 2003 SEC LEXIS 377,

at *20. (It is not clear whether Howard relied on the advice

of counsel in taking on this role.) So far as we can tell, the

SEC made no finding that Howard was aware of wrongdoing

or that he acted recklessly with respect to the late payments.

Neither the SEC nor Howard has much to say on the general

subject of the late payments. Given the confusing state of

the record, see supra note 23, the SEC’s failure to make an

essential finding and its erroneous treatment of recklessness

as a mere ‘‘should have known’’ standard, we must send this

charge back to the SEC for reconsideration.

The second matter we are remanding deals with Howard’s

aiding and abetting a violation of the Investment Company

Act. Section 17(a), in conjunction with § 2(a)(3)(E), prohibited JCI from selling securities to the European Warrant

Fund, an investment company it was advising, after the

closing. 15 U.S.C. §§ 80a–17(a)(1), 80a–2(a)(3)(E). See supra note 3. As the SEC acknowledged, Howard did not know

the transaction was unlawful. We have discovered no evidence to indicate that he received legal advice from either

Matcovsky directly or Rogers & Wells indirectly. He claimed

he relied on JCI’s president, and on JCI’s compliance department. While the SEC did not find that Howard had knowledge of wrongdoing, it did find that he acted recklessly in

assisting in this transaction. His recklessness, according to

the SEC, was in not being aware of the requirements of

§ 17(a)(1). As we have discussed, the SEC’s version of

recklessness with respect to the Rule 10b charges was erroneous. Nothing persuades us that it applied a different

version to this charge. But unlike the Rule 10b violations, we

cannot determine whether the evidence of Howard’s aiding

and abetting the violation of § 17(a)(1) would be insufficient if

the SEC evaluated it in light of the correct standard of

recklessness.

* * *

The SEC’s order imposing sanctions against Howard is

vacated and the case is remanded for reconsideration only

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23

with respect to the charges that he aided and abetted the

violations of Rule 10b–9(a)(2)(ii) and § 17(a)(1) of the Investment Company Act.

So ordered.

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1

KAREN LECRAFT HENDERSON, Circuit Judge, concurring in the

judgment:

I agree with my colleagues that the SEC’s order cannot

stand because Howard did not act, or fail to act, with the

requisite scienter of an aider and abettor. I do not agree

with the majority’s formulation of the requisite scienter,

however, and I therefore concur in the judgment.

In the usual aiding and abetting scenario, we ask three

questions: whether ‘‘1) another party has committed a securities law violation; 2) the accused aider and abetter had a

general awareness that his role was part of an overall activity

that was improper; and 3) the accused aider and abetter

knowingly and substantially assisted the principal violation.’’

Investors Research Corp. v. SEC, 628 F.2d 168, 178 (D.C. Cir.

1980); see also Dirks v. SEC, 681 F.2d 824, 844 (D.C. Cir.

1982), rev’d on other grounds, 463 U.S. 646 (1983). As the

majority opinion notes, Maj. Op. at 9–10, here the SEC found

that Howard’s unawareness that his role was part of improper activity fulfilled the second Investors Research element. I

believe the SEC’s finding in this respect is not supported by

substantial evidence, see 15 U.S.C. § 78y(a)(4), because Howard was not ‘‘recklessly’’ ignorant and therefore, under our

precedent, including Graham v. SEC, 222 F.3d 994 (D.C. Cir.

2000), inter alia, we must vacate the SEC’s order. Where I

part company with the majority is in its apparent use of two

distinct lines of authority regarding recklessness – one applying to a securities violation, whether committed by a primary

actor or by an aider and abettor, the other applying to the

second Investors Research element of ‘‘general awareness of

wrongdoing’’ – to announce a new, and I believe, incorrect,

scienter level to satisfy the latter.

We have held in the securities area that willfulness can

support a primary violation, Wonsover v. SEC, 205 F.3d 408,

416 (D.C. Cir. 2000) (concluding that ‘‘substantial evidence

supports the [SEC]’s determination that Wonsover failed to

conduct reasonable inquiry into the sources of the unregistered shares he sold and that his inadequate inquiry in the

face of several ‘red flags’ justified a finding of willfulness’’

(emphasis added)), as can ‘‘extreme’’ recklessness. SEC v.

Steadman, 967 F.2d 636, 641 (D.C. Cir. 1992). In Steadman,

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2

we considered both primary violations of section 10(b) of the

Securities Exchange Act and Rule 10b–5, inter alia, allegedly

committed by Steadman and others, and Steadman’s separate

liability as an aider and abettor in the defendant corporation’s

violations of certain SEC regulations. Relying on Investors

Research, we stated that an aider and abettor must ‘‘ ‘knowingly and substantially assist[ ]’ in the commission of a securities violation, with at least ‘a general awareness that his role

was part of an overall activity that was improper.’ ’’ Steadman, 967 F.2d at 647 (quoting Investors Research, 628 F.2d

at 178 (alteration in original)).1

More recently, in Graham v. SEC, supra, the court articulated the test for aiding and abetting liability as follows:

Although variously formulated, three principal elements are required to establish liability for aiding

and abetting a violation of section 10(b) and Rule

10b–5: (1) that a principal committed a primary

violation; (2) that the aider and abettor provided

substantial assistance to the primary violator; and

(3) that the aider and abettor had the necessary

‘‘scienter’’—i.e., that she rendered such assistance

knowingly or recklessly. See SEC v. Fehn, 97 F.3d

1276, 1287–88 (9th Cir. 1996); Bloor v. Carro, Span1 Earlier in Steadman, we observed that ‘‘we have determined,

along with a number of other circuits, that extreme recklessness

may also satisfy this [Hochfelder] intent requirement.’’ 967 F.2d at

641 (emphasis added). The D.C. circuit precedent it then cited,

however, never spoke of ‘‘extreme’’ recklessness. On the contrary,

it stated repeatedly that ‘‘recklessness satisfies the 10b–5 scienter

requirement.’’ Dirks v. SEC, 681 F.2d at 844; see also id. at 845

n.28. Perhaps the Steadman court equated the Seventh Circuit’s

‘‘extreme departure from the standards of ordinary care’’ language

with extreme recklessness. Sundstrand Corp. v. Sun Chem. Corp.,

553 F.2d 1033, 1045 (7th Cir. 1977) (internal quotation marks

omitted and emphasis added). In any event, to the extent (if any) it

intended to impose a higher degree of recklessness, it did not do so

with respect to the ‘‘general awareness of wrongdoing’’ element of

Steadman’s aiding and abetting liability. That discussion, as noted

above, adopted the Investors Research test.

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3

bock, Londin, Rodman & Fass, 754 F.2d 57, 62 (2d

Cir. 1985); SEC v. Falstaff Brewing Corp., 629 F.2d

62, 72 (D.C. Cir. 1980); Investors Research Corp. v.

SEC, 628 F.2d 168, 178 (D.C. Cir. 1980); see also

SEC v. Steadman, 967 F.2d 636, 641 (D.C. Cir.

1992).

222 F.3d at 1000. Graham’s third element ‘‘that [the aider

and abettor] rendered such assistance knowingly or recklessly’’ can only be a reformulation of the Investors Research

‘‘general awareness of wrongdoing’’ element, both because

Graham expressly relies on Investors Research in its articulation and because the other two parts of the Investors Research test are covered in Graham’s first and second elements. Graham later focuses on the ‘‘third element’’ of

aiding and abetting liability:

The real question here concerns the third element of

aiding and abetting liability: did Graham assist

Broumas with the requisite scienter? We have held

that knowledge or recklessness is sufficient to satisfy that requirement. See Kowal v. MCI Communications Corp., 16 F.3d 1271, 1276 (D.C. Cir. 1994);

SEC v. Steadman, 967 F.2d 636, 641 (D.C. Cir.

1992); Zoelsch [v. Arthur Anderson & Co.], 824 F.2d

[27,] 36 [(D.C. Cir. 1987)]; Dirks v. SEC, 681 F.2d

824, 844–45 (D.C. Cir. 1982), rev’d on other grounds,

463 U.S. 646 (1983)TTTT We are satisfied that Graham acted with at least extreme recklessness in

aiding Broumas’ stock-kiting scheme.

222 F.3d at 1004. Graham’s use of ‘‘extreme’’ recklessness

here and elsewhere, see id. at 1006 (‘‘Given the abundance of

red flags here, it would be very hard to characterize Graham’s conduct as anything but extremely reckless, regardless

of the approvals she receivedTTTT’’), describes the extent of

Graham’s recklessness; it does not impose a requirement of

extreme recklessness to support the ‘‘third element’’ (Investors Research’s second element) of aiding and abetting liability. This reading is plain, most notably from Graham’s own

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4

recognition that ‘‘recklessness is sufficient’’ as well as its

express reliance on Dirks. See supra n.1.

The majority opinion, however, misreads both Steadman

and Graham to ‘‘hold that ‘extreme recklessness’ may support [the second Investors Research element of] aiding and

aiding liability.’’ Maj. Op. at 10 (emphasis added). That

‘‘may’’ means ‘‘must’’ in the majority’s view – and that the

majority is in fact addressing the second Investors Research

element – is apparent from its subsequent discussion, particularly the following passage: ‘‘We are willing to assume that

the SEC thought – incorrectly – that reckless conduct

amounted to a form of awareness of wrongdoing. But we are

unwilling to assume that it properly evaluated Howard’s

under an extreme recklessness standard.’’ Maj. Op. at 11. It

ultimately concludes that the SEC improperly evaluated

Howard’s conduct because it used ‘‘recklessness’’ rather than

‘‘extreme recklessness’’ as the requisite level of scienter.

Maj. Op. at 16–17. I believe its application of an ‘‘extreme’’

recklessness standard is wrong.

While I characterized the majority’s error as using two

‘‘distinct’’ lines of authority regarding recklessness, supra at

1, one line is, at least to me, not altogether clear. Although

we said in Steadman that ‘‘extreme’’ recklessness satisfies the

intent requirement, we relied on Circuit precedent that held

that recklessness suffices. Supra n.1.2

 Is there a difference?

The majority plainly thinks so. Whether the two terms in

fact impose different standards in satisfying the ‘‘[Hochfelder]

intent requirement,’’ Steadman, 967 F.2d at 641, or are

merely descriptive of the degree of recklessness exhibited,3

we need not decide in this case because the separate stan2 See also Kowal, 16 F.3d at 1276 (‘‘To state a claim for securities

fraud under Rule 10b–5, a plaintiff must allege that the defendant

knowingly or recklessly made a false or misleading statement of

material fact in connection with the purchase or sale of a security,

upon which plaintiff reasonably relied, proximately causing his

injury.’’)

3 See generally Marrie v. SEC, No. 03–1265 (D.C. Cir. July 16,

2004).

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5

dard – applicable to an element of aiding and abetting, but

not primary, liability – for determining whether Howard’s

lack of awareness of the primary violations of Rule 10b–9 is

sanctionable is recklessness. This line of authority is distinct

and clear. Graham, 222 F.3d at 1000, 1004; Dirks, 681 F.2d

at 844; Steadman, 967 F.2d at 647; Investors Research, 628

F.2d at 178; see also Zoelsch, 824 F.2d at 36. The SEC,

relying on Graham, J.A. 517, 522 n.17, correctly applied the

recklessness standard to Howard’s unawareness of the improper activity; its error lies in its conclusion that Howard’s

ignorance was in fact reckless. For the foregoing reasons, I

concur in the vacatur of the SEC’s order as well as the partial

remand.

USCA Case #03-1098 Document #839648 Filed: 07/30/2004 Page 28 of 28