Source: https://m.openjurist.org/581/f2d/1020
Timestamp: 2020-01-27 07:10:11
Document Index: 708964198

Matched Legal Cases: ['§ 10', '§ 10', '§ 10', '§ 10', '§ 10', '§ 17', '§ 10', '§ 17', '§ 17', '§ 10', '§ 17', '§ 17', '§ 17', '§ 5', '§ 77', '§ 10', '§ 78', '§ 17', '§ 17', '§ 17', '§ 240', '§ 15']

581 F2d 1020 Securities and Exchange Commission v. Coven | OpenJurist
581 F. 2d 1020 - Securities and Exchange Commission v. Coven
581 F2d 1020 Securities and Exchange Commission v. Coven
581 F.2d 1020
Fed. Sec. L. Rep. P 96,462
Bernard Jay COVEN, Defendant-Appellant.
No. 558, Docket 75-6080.
3. The Failure to Use Best Efforts
Appellant's principal contention is that Judge Pierce applied an incorrect legal standard in determining his liability as an aider and abettor. Citing the Supreme Court's holding in Ernst & Ernst v. Hochfelder, 425 U.S. 185, 96 S.Ct. 1375, 47 L.Ed.2d 668 (1976), that "scienter" i. e., an "intent to deceive, manipulate, or defraud" must be shown in a private action for damages based on Rule 10b-5, he maintains that he should not have been judged under a negligence standard in this SEC enforcement action for injunctive relief. This calls upon us to determine the standard of liability to be applied in the present case.
In determining the applicable standard, we are governed by several basic principles. First of these is the concept, several times reiterated by the Supreme Court, that the federal securities acts embody liberal notions of fraud and deceit, SEC v. Capital Gains Research Bureau, Inc., 375 U.S. 180, 195, 200, 84 S.Ct. 275, 11 L.Ed.2d 237 (1963), and that they should be flexibly construed in order to give effect to their broad purposes, Capital Gains Research Bureau, supra, 375 U.S. at 195, 84 S.Ct. 275; Affiliated Ute Citizens v. United States, 406 U.S. 128, 151, 92 S.Ct. 1456, 31 L.Ed.2d 741 (1972); Superintendent of Insurance v. Bankers Life & Casualty Co., 404 U.S. 6, 12, 92 S.Ct. 165, 30 L.Ed.2d 128 (1971); J. I. Case v. Borak, 377 U.S. 426, 432-33, 84 S.Ct. 1555, 12 L.Ed.2d 423 (1964). Secondly, as the Court pointed out in Hochfelder, since Congress has specified differing standards of liability in different sections of the federal securities laws, which vary according to the specific remedial purpose to be served by each section, "(a)scertainment of congressional intent with respect to the standard of liability created by a particular section of the Acts must therefore rest primarily on the language of that section," 425 U.S. at 200, 96 S.Ct. at 1384. Lastly, as we recently held in Rolf v. Blyth, Eastman Dillon & Co., 570 F.2d 38, 44-48 (2d Cir. 1978), a reckless disregard for the truth or falsity of a material statement, as distinguished from mere negligence, may constitute scienter or the legal equivalent of knowledge. See United States v. Benjamin, 328 F.2d 854, 862-63 (2d Cir. 1964), Cert. denied sub nom. Howard v. United States, 377 U.S. 953, 84 S.Ct. 1631, 12 L.Ed.2d 497 (1964).
In Hochfelder the sole claim at issue was whether an accounting firm could be held liable in a private action for damages under § 10(b) of the 1934 Act and Rule 10b-5, in the absence of any allegation of scienter, i. e., on the basis of its negligence in failing to conduct proper audits of a firm alleged to have defrauded the plaintiffs. The Supreme Court, in holding that allegation and proof of scienter was essential, based its decision on the legislative history and language of § 10(b), which makes it unlawful for any person to use or employ, in connection with the purchase or sale of a security, "any manipulative or deceptive device or contrivance" in contravention of such rules and regulations as the Commission may prescribe. Rule 10b-5, promulgated by the Commission purportedly pursuant to its power under § 10(b), proscribed without mention of scienter the use in interstate commerce of "(b) . . . any untrue statement of a material fact or (omission of) a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading." The Court concluded that the statute's words "manipulative or deceptive," when used in conjunction with "device or contrivance" and viewed in the light of the statute's legislative history, "connote intentional misconduct." 425 U.S. at 197, 96 S.Ct. 1375. It further concluded that, although the broader language of Rule 10b-5 could encompass negligent behavior, "its scope cannot exceed the power granted the Commission by Congress under § 10(b)." 425 U.S. at 214, 96 S.Ct. at 1391.9 Applying these principles here, the present case differs from Hochfelder in at least one important respect.10 Here the SEC charged appellant not only with a violation of § 10(b) of the 1934 Act but also with violation of § 17(a) of the 1933 Act, the language of which is significantly different from that of § 10(b). Section 17(a) provides:
This wording is virtually identical to that of Rule 10b-5, which the Supreme Court suggested in Hochfelder would subject wrongdoers to liability for negligence were it not for the fact that the rule can be no broader than the statute under which the rule was promulgated. 425 U.S. at 212, 96 S.Ct. 1375. As the Court stated, the language of subsection (2) of § 17(a) gives no indication that liability is predicated on fraudulent intent. Id. Moreover, the clear import of the critical phrase in subsection (3), "operates as a fraud," is to focus attention on the Effect of potentially misleading conduct on the public, not on the culpability of the person responsible.11 Absent any terminology in § 17(a) comparable to "manipulative or deceptive device or contrivance" in § 10(b), upon which the Supreme Court relied heavily in Hochfelder, we see no reason to give § 17(a) a similarly narrow reading.12
Impressive policies support an interpretation of § 17(a) enabling the SEC to seek injunctive relief on the basis of negligent conduct. The essential nature of an SEC enforcement action is equitable and prophylactic; its primary purpose is to protect the public against harm, not to punish the offender. E.g., Capital Gaines Research Bureau, Supra, 375 U.S. at 193, 200, 84 S.Ct. 275. This purpose is furthered by an interpretation of § 17(a) which enables the SEC to move against negligent conduct whose effects on the public may be every bit as detrimental as those produced by intentional misconduct.
The complaint which covered 21 pages, alleged myriad violations of §§ 5(b) and 17(a) of the Securities Act of 1933, 15 U.S.C. §§ 77e(b) and 77q(a), §§ 10(b) and 15(c)(2) of the Securities Exchange Act, 15 U.S.C. §§ 78j(b), 78O (c) (2) (1970), and Rule 10b-5, 10b-6, 10b-9, and 15c2-4, promulgated thereunder
The Court stated, "Viewed in isolation the language of subsection (b), and arguably that of subsection (c), could be read as proscribing, respectively, any type of material misstatement or omission, and any course of conduct, that has the effect of defrauding investors, whether the wrongdoing was intentional or not." 425 U.S. at 212, 96 S.Ct. at 1390
Because of the use of the term "fraud," some have viewed this phrase as entailing a requirement of intent. E. g., Sanders v. John Nuveen & Co., Inc., 554 F.2d 790, 795 (7th Cir. 1977); 3 Loss, Securities Regulation 1441-42 (2d ed. 1961), as supplemented, 6 Loss, Securities Regulation 3552-53 (Supp.1969). However, we believe that the phrase read as a whole was intended to expand common law notions of the elements of fraud. Cf. SEC v. Capital Gains Research Bureau, 375 U.S. 180, 195, 84 S.Ct. 275, 284, 11 L.Ed.2d 237 (1963) (discussing Investment Advisers Act of 1940, "Congress in empowering the courts to enjoin any practice which operates 'as a fraud or deceit' upon a client, did not intend to require proof of intent to injure . . . .")
Since Hochfelder other courts have divided on the question of whether the holding in that case should be extended to suits brought under § 17(a). Compare SEC v. Geotek, 426 F.Supp. 715, 726 (N.D.Cal.1976); SEC v. Shiell (1977-78 Transfer Binder), Fed.L.Sec.Rep. (CCH) P 96,190 (N.D.Fla.1977); SEC v. Southwest Coal & Energy Co., 439 F.Supp. 820, 826 (W.D.La.1977); SEC v. World Radio Mission, 544 F.2d 535, 541 n. 10 (1st Cir. 1976) (no intent to deceive, defraud or manipulate required under § 17(a)), with SEC v. American Realty Trust Co., 429 F.Supp. 1148, 1171 (E.D.Va.1977); SEC v. Cenco Inc., 436 F.Supp. 193, 199-200 (N.D.Ill.1977) (scienter required). See also Collins Securities Corp. v. SEC, 183 U.S.App.D.C. 301, 562 F.2d 820 (1977) (not reaching the issue)
E. g., Sanders v. John Nuveen & Co., Inc., 554 F.2d 790, 795-96 (7 Cir. 1977); Malik v. Universal Resources Corp., 425 F.Supp. 350, 363-64 (S.D.Cal.1976). See 3 Loss, Securities Regulation 1784-87 (2d ed. 1961), as supplemented, 6 Loss, Securities Regulation 3912-15 (Supp.1969)
The questions of whether such an implied private right of action for damages exists under § 17(a) and what its elements may be apparently remain open. See Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 734 n. 6, 95 S.Ct. 1917, 44 L.Ed.2d 539 (1975); Fischman v. Raytheon Mfg. Co., 188 F.2d 783, 787 (2d Cir. 1951) (dicta); SEC v. Texas Gulf Sulfur Co., 401 F.2d 833, 867 (2d Cir. 1968) (Friendly, J., concurring), Cert. denied sub nom. Coates v. SEC, 394 U.S. 976, 89 S.Ct. 1454, 22 L.Ed.2d 756 (1969)
Rule 15c2-4, 17 C.F.R. § 240.15c2-4, which was promulgated pursuant to authority granted in § 15(c)(2) of the 1934 Act is instructive. It provides in part:
"It shall constitute a 'fraudulent, deceptive, or manipulative act or practice' as used in section 15(c)(2) of the Act, for any broker, dealer or municipal securities dealer participating in any distribution of securities, other than a firm-commitment underwriting, to accept any part of the sale price of any security being distributed unless: