Thursday, June 24, 2010

Supreme Court Restricts Extraterritorial Application of US Federal Securities Laws

In what is perhaps the first foreign-cubed case to ever reach the US Supreme Court, the Court ruled that Rule 10b-5 does not provides a cause of action to foreign plaintiffs suing foreign and American defendants for misconduct in connection with securities traded on foreign exchanges. The antifraud rule reaches the use of a manipulative or deceptive device only in connection with the purchase or sale of a security listed on an American stock exchange, and the purchase or sale of any other security in the United States. When a statute gives no clear indication of an extraterritorial application, it has none. Since there is no affirmative indication in the Exchange Act that §10(b) applies extraterritorially, the Court concluded that it does not. The Court adopted a transactional test of whether the purchase or sale is made in the United States, or involves a security listed on a domestic exchange. (Morrison v. National Australia Bank, Ltd, Dkt. 08-1191).

In the Court’s view, the fact that many difficult to apply judge-made tests on the extraterritorial aspects of the federal securities laws have developed over the years demonstrates the wisdom of the presumption against extraterritorial application of Rule 10b-5. Rather than guess anew in each case, the Court said that it would apply the presumption in all cases, preserving a stable background against which Congress can legislate with predictable effects.

While this entire area of law is replete with judge-made rules because the implied private cause of action under §10(b) and Rule 10b–5 is a thing of the Court’s own creation, Justice Scalia emphasized that when it comes to the scope of the conduct prohibited by §10(b), the text of the statute controls the decision. On its face, §10(b) contains nothing to suggest it applies abroad.

Under the Court’s transactional test, the Exchange Act does not reach conduct in the US affecting exchanges or transactions abroad. The probability of incompatibility with the applicable laws of other countries is so obvious that if Congress intended such foreign application it would have addressed the subject of conflicts with foreign laws and procedures.

Like the United States, foreign countries regulate their domestic securities exchanges and securities transactions occurring within their territorial jurisdiction. And the regulation of other countries often differs from ours as to what constitutes fraud, what disclosures must be made, what damages are recoverable, what discovery is available in litigation, what individual actions may be joined in a single suit, what attorney’s fees are recoverable, and many other matters.

The Court cited amicus briefs from other nations complaining of the interference with foreign securities regulation that the extraterritorial application of Rule 10b-5 would produce and urging the Court to adopt a clear test that will avoid that consequence. In separate amicus briefs, the UK and France cited international comity in urging the Court not to allow the application of Rule 10b-5 to upset the delicate balance that foreign nations have struck in regulating securities fraud and thereby offend the sovereign interests of foreign nations.

The UK argued that the proper recognition of the sovereignty of other nations, the development of sophisticated regulation of the issuance and trading of securities within
numerous nations, the globalization of capital markets, and international comity all combine to support a finding that the US federal courts lack jurisdiction to consider foreign-cubed cases. The UK and France also argued that they have sophisticated financial regulatory systems and substantive and procedural rules for remedying securities fraud and their approach to securities regulation and litigation differs in important respects from that of the U.S. Moreover, these differences represent legitimate policy choices and sovereign interests that ought to be respected by the United States.