Chaim A. Levin ()
The domestic jurisdictional boundaries of multinational securities transactions are blurred at best. With greater frequency our courts are asked to evaluate the competing interests of foreign jurisdictions and our own ideals of what disclosure and accountability procedures need to be undertaken in a myriad of increasingly complex multinational transactions—a particularly thorny evaluation in circumstances when at least one of the principals to the transaction(s) under review endeavored to avoid the reach of U.S. regulations.
Recently, the U.S. Court of Appeals for the Second Circuit addressed such a complex analysis in U.S. v. Mandell. The court was faced with the convictions of defendants Ross Mandell and Adam Harrington (collectively the defendants) of conspiracy, securities fraud, wire fraud, and mail fraud.1 Over the course of eight years, the defendants had executed—from two different Wall Street brokerages—a wide-ranging scheme to defraud investors.2 After a jury found defendants guilty of all four securities fraud counts charged against them, the district court imposed a 144-month prison term on Mandell and a 60-month prison term on Harrington, and ordered that they pay restitution and fines totaling over $70 million.
In their appeal, defendants raised a principal challenge: that there was insufficient evidence of domestic securities transactions occurring within the statute of limitations to support a conviction for securities fraud. Their argument relied on the Supreme Court’s seminal decision in Morrison v. National Australia Bank, 561 U.S. 247 (2010), which limited the application of Section 10(b) of the Securities Exchange Act of 1934 (the 1934 Act) to persons who have engaged in fraud in connection with (1) a security listed on a U.S. exchange, or (2) a security purchased or sold in the United States. Morrison reversed the Second Circuit’s prior broad application of domestic securities laws.
The defendants’ argument raises issues over questions left unanswered by Morrison, which are particularly heightened with the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act, some weeks after Morrison.
Morrison did not directly address enforcement actions brought by the Justice Department or by the Securities and Exchange Commission (SEC). While it proscribed suits on “foreign transactions,” it did not provide a consistent and flexible formula for discerning which transactions were domestic and which were not. It did not specify what to do with securities that were listed and exchanged abroad and also listed on exchanges within the United States. It did not address how to treat derivative securities.
The question of immediate consequence, given the current market structure, is that posed by Section 929P(b)(2) of Dodd-Frank. Dodd-Frank included provisions granting jurisdiction over “an action…brought by the United States alleging a violation of the antifraud provisions…involving…conduct occurring outside the United States that has a foreseeable substantial effect within the United States.”3
Last year, SEC v. Tourre found that “the Dodd–Frank Act effectively reversed Morrison in the context of SEC enforcement actions.”4
In Mandell the government argued that Congress had amended the 1934 Act to make clear that it applied to enforcement actions against “conduct occurring outside the United States that has a foreseeable substantial effect within the United States.”5 Mandell and Harrington argued that regardless of the statute’s effect, it did not apply retrospectively.6
Not wishing to address the issue, the trial court found a third way; “[defendants] operated in the United States” because “the securities offered were in United States companies; even when there were foreign investors or there were private placements with foreign investors, all money and signed documents were returned to the United States; and all investors’ accounts were maintained at the Wall Street brokerage firm” notwithstanding that much of the allegedly fraudulent stock traded on the London Stock Exchange.7
Had Judge Paul Crotty excluded evidence of fraud in connection with stock sold in the United Kingdom, the defendants argued on appeal, it would have been impossible to convict them on the remaining evidence.8 Because the Second Circuit’s opinion only affirmed that there existed enough evidence in the record that a fact finder could have found that some of the transactions in evidence were domestic, it is possible that the jury only found fraud in connection with the sale of a foreign security. It is possible that Crotty’s initial assessment of the facts may have steered the case to its ultimate conclusion.
‘Morrison’ and Dodd-Frank
The interplay between Morrison and Dodd-Frank remains unresolved. While it is possible that Congress intended the provisions to respond directly to Morrison,9 and while it may be argued that it sought to supersede the domestic scope limitations that the Supreme Court had recognized in the 1934 Act in Morrison, it is beyond cavil that if Congress did intend to supersede Morrison, it could have chosen better language.
Counter to existing case law in the circuits at the time, the Supreme Court made clear in Morrison that the jurisdiction of the courts was not the relevant issue. The courts generally have jurisdiction to hear such cases; what they may lack is an express statutory grant from Congress making fraud in connection with the sale or purchase of a foreign security illegal. Due to this divergent wording, whether the courts will find the provisions of Dodd-Frank to reinstate the pre-Morrison case law, or whether they will find it to be a superfluous legislative exercise that only confirms what the courts already know—that they had jurisdiction—remains an open question.
Four possible explanations for the wording of Section 929P(b)(2), the Dodd-Frank extraterritorial provision, are notable. The first is that Congress simply used the jurisdictional language by mistake.10 Intending to address the merits, Congress relied on the history of 10(b) in the circuit courts, which had always treated extraterritoriality as a jurisdictional issue until the Supreme Court corrected them in Morrison. Some legislative history supports this conclusion. Dodd-Frank’s extraterritoriality language was adopted from bills proposed prior to Morrison.11
The second explanation is that such a drafting error existed, but was a material reason that the bill passed.12 Certain members of Congress could have thought amending the bill to reflect the new jurisprudence under Morrison was too politically risky.
A third explanation is that members of Congress intended to do exactly what the public law says: confer jurisdiction. It is possible that Congress intended to codify Morrison’s holding, thus explicitly endorsing the ruling and taking discretion away from the judiciary to relinquish jurisdiction in the future.
Finally, Congress could have intended to modify the Supreme Court’s conclusion that the extraterritorial application of the law was a question of merit. Congress has the authority to make an issue one of subject-matter jurisdiction by affirmatively including the issue in a jurisdictional provision. Under this theory, the jurisdictional language was not a drafting error; rather, it was an endorsement of the pre-Morrison case law treating the issue as one of jurisdiction. Were it to carry a court, this theory would supersede Morrison and reinstate some version of the “conduct and effects” test that antedates it and was found inapplicable by the Supreme Court.
There is much by way of recent precedent to assist in understanding the jurisdictional and plenary parameters of foreign as compared to domestic transactions when the lines of demarcation are not altogether obvious or clear. We know, for example, that the Second Circuit is of the opinion that the Morrison analysis applies equally to civil and criminal cases.13 We have just been told very recently that the Second Circuit is also of the opinion that Morrison precludes claims based on transactions on foreign exchanges, even if the underlying securities are also cross-listed on a U.S. exchange.14
We even have been provided with at least general guidelines to evaluate whether or not a given security was transacted “within the United States.”15 We are reminded, however, that “[f]acts concerning the formation of the contracts, the placements of purchase orders, the passing of title, or the exchange of money” could, however, if well pleaded, sufficiently allege a U.S. transaction. But, the mere assertion that a transaction “took place in the United States” is inadequate.
While a few of the more nuanced issues remain to be resolved, we already have many useful precedents. In Butler v. U.S. the court in the Eastern District of New York noted that although clients completed required documents in their offices abroad, if they communicated their decisions to someone physically present within the United States. who acted within the United States on their behalf to buy or sell securities, the transactions at issue were deemed to be primarily domestic.16 Consequently, Section 10(b) of the 1934 Act applied.
Additionally, where derivative securities are purchased in the United States, but reference shares traded abroad, they are not subject to Section 10(b) of the 1934 Act.17 Conversely, where such derivative securities are purchased abroad but reference securities listed on a U.S. exchange, they are.18
Notwithstanding the progress that has been made, there remain additional issues for the courts to address. For example, what does a “U.S. exchange” mean if Deutsche Börse and the New York Stock Exchange merge—as they attempted but failed to do in 2012?19
The Mandell case may still be far from over. Mandell has requested an en banc review of the decision.20 Commentators—and Harrington’s own attorney—have suggested that defendants may even petition the Supreme Court for certiorari.21 Should they do so, the Supreme Court may take the opportunity to again clarify the line between U.S. and foreign transactions.
Either the Supreme Court or the Second Circuit will, in due course, answer this question authoritatively if Congress does not treat it first. In the meantime, however, the SEC has independent authority to pursue broker-dealers that use foreign markets to bypass U.S. securities laws. Thus, it may only be of paramount importance to those market participants who wish to pursue trades at the periphery of what Morrison allows, to understand that domestic agencies and courts are keen to increase disgorgement of profits and penalties in connection with transnational securities transactions and to enforce U.S. insider trading laws abroad.
Mandell may resolve how to read Morrison and Dodd-Frank together if either the Second Circuit or the Supreme Court decides to consider it again. Already, however, the Second Circuit’s jurisprudence stemming from Morrison appears more stable than at any other time. Many, if not all, of the questions originally posed by commentators have largely been answered, and much of the uncertainty that first greeted the bar at the Supreme Court’s insistence has now subsided.
1. Nos. 12-1967, 12-2090, 2014 WL 1978717, at *1 (2d Cir. May 16, 2014).
2. See Gov’t's Sent. Memo. at 2, U.S. v. Mandell, No. S1 09 Cr. 662 (PAC) (S.D.N.Y. May 1, 2012), 2012 WL 1657162.
3. Pub. L. No. 111-203, sec. 929P(b)(2), § 27(b), 124 Stat. 1376 (2010).
4. No. 10 Civ. 3229(KBF), 2013 WL 2407172, at *1 n.4 (S.D.N.Y. June. 4, 2013) (concluding that “the primary holdings of [its] opinion affect only pre-Dodd Frank conduct.”).
5. Gov’t's Memo. of Law in Resp. to Defs. Ross Mandell and Adam Harrington’s Pretr. Motions at 15, U.S. v. Mandell, No. (S1) 09 Cr. 662 (PAC) (S.D.N.Y. March 16, 2011), 2011 WL 924891 (citing drafter of provision, Representative Paul Kanjorski, explaining that “‘[T]he purpose of the language…is to make clear that in…proceedings brought by the SEC or the Justice Department, …the Exchange Act…may have extraterritorial application…irrespective of whether the securities are traded on a domestic exchange or the transactions occur in the United States, when the conduct within the United States is significant or when conduct outside the United States has a foreseeable substantial effect within the United States.’ Cong. Record, June 30, 2010, p. H5237.”).
6. Reply Memo. of Law in Support of Defs. Adam Harrington’s Pretr. Motion at 8, U.S. v. Mandell, No. (S1) 09 Cr. 662 (PAC) (S.D.N.Y. March 16, 2011), 2011 WL 924891.
7. U.S. v. Mandell, No. (S1) 09 CR. 0662 (PAC), 2011 WL 924891 at *6 (S.D.N.Y. March 16, 2011).
8. Brief and Special Appdx. for defendant-appellant Ross H. Mandell at 28, U.S. v. Mandell, Nos. 12-1967-cr, 12-2090-cr (2d Cir. May 16, 2014), 2012 WL 4336737.
9. See Marc Lendermann and Helge Pühl, “The Extraterritorial Application of US Sec. Law after Morrison v. National Australia Bank,” 38 D.A.J.V. Newsl. 2, 4 (2013).
10. Richard W. Painter, “The Dodd-Frank Extraterritorial Jurisdiction Provision: Was it Effective, Needed or Sufficient?” 1 Harv. Bus. L. Rev. 195, 200 (2011).
11. See, e.g., Wall St. Reform and Consumer Prot. Act of 2009, H.R. 4173, 111th Cong. §7216 (2009).
12. Painter, supra note 12, at 202.
13. See U.S. v. Vilar, 729 F3d 62 (2d Cir. 2013).
14. See City of Pontiac Policemen’s and Firemen’s Ret. Sys. v. UBS AG, No. 12-4355-cv, 2014 WL 1778041 (2d Cir. May 6, 2014).
15. See Absolute Activist Value Master Fund v. Ficeto, 677 F.3d 60, 62 (2d Cir. 2012) (finding that for purposes of Morrison’s second prong, a “securities transaction is domestic when the parties incur irrevocable liability to carry out the transaction within the United States or when title is passed within the United States.”).
16. No. 13-CV-4639, 2014 WL 216476 at *11 (E.D.N.Y. Jan. 17, 2014).
17. See Elliott Assocs. v. Porsche Automobil Holding, 759 F.Supp.2d 469 (S.D.N.Y. 2010).
18. See Valentini v. Citigroup, 837 F.Supp.2d 304, 323 (S.D.N.Y. 2011); S.E.C. v. Maillard, No. 13-cv-5299 (VEC), 2014 WL 1660024 (S.D.N.Y. April 23, 2014) (finding that if purchase of CFDs abroad was intended to, and did in fact, cause purchase of securities in U.S., then it was subject to 10(b) of 1934 Act.).
19. Lendermann, supra at 5 n.26 (citing the European Commission’s decision to not clear the merger, No. COMP/M.6166—Deutsche Börse /NYSE Euronext.).
20. Walter Pavlo, “Federal Judge Orders Ross Mandell to Prison, But Hold On,” Forbes (May 29, 2014, 9:16 AM), http://www.forbes.com/sites/walterpavlo/2014/05/29/federal-judge-orders-ross-mandell-to-prison-but-hold-on/.
21. See, e.g., Walter Pavlo, “Breaking: Sky Capital’s Ross Mandell Conviction Upheld,” Forbes (May 16, 2014, 11:49 AM), http://www.forbes.com/sites/walterpavlo/2014/05/16/breaking-sky-capitals-ross-mandell-conviction-upheld/; Bill Singer, “Breaking Story!!!” Full-Text 2 Cir Opinion in USA v. Mandell. Analysis by Bill Singer,” Broke and Broker Blog (May 17, 2014), http://www.brokeandbroker.com/2414/mandell-harrington-second-circuit/.