Just four weeks ago, I wrote about the 2nd Circuit’s landmark decision in SEC v. Apuzzo. There, the court made the Securities and Exchange Commission’s (SEC) pursuit of aiders and abettors of securities fraud significantly easier by lowering the standard that the SEC has to meet when showing that an alleged aider and abettor “substantially assisted” the fraud.
Reaching back to 1938, the 2nd Circuit applied the criminal standard for proving “substantial assistance”, but this time, in the context of a civil suit. Instead of showing that the defendant’s aiding and abetting proximately caused the fraud, the SEC must prove a lower criminal standard: merely that the defendant associated himself with the scheme, participated in it and wished the fraud to succeed. The court grounded its decision in the belief that “proximate cause” is a tort concept in private actions, inapplicable to SEC enforcement actions, where the goal is deterrence and not compensation for damages.
Now, arguing the heightened significance and impact of the decision, Apuzzo has asked the 2nd Circuit to rehear the case en banc. The court never should have addressed the issue in the first place, Apuzzo argued, because Apuzzo never briefed it and the SEC, for its part, assumed that proximate cause was an element of the claim. On a more substantive level, Apuzzo focused on the propriety of applying the lower criminal standard to a civil statute like Section 20(e) of the Securities Exchange Act of 1934. Apuzzo asserted that the 2nd Circuit relied erroneously on the 1938 criminal ruling describing circumstances under which a criminal defendant is liable for substantially assisting a fraud. According to Apuzzo, Congress never intended that Section 20(e) would incorporate the criminal standard, and the 2nd Circuit overlooked its own precedent applying the proximate cause standard in cases just like this. Specifically, argued Apuzzo, the court contravened the 2nd Circuit’s 2009 decision in SEC v. DiBella, which recognized that the SEC must show that the aider and abettor proximately caused the harm.
The court’s decision obviously is no help to private litigants, and in the current landscape of heightened regulatory enforcement actions, gives the SEC a new weapon to attack alleged secondary actors. The decision is a particular boon to the SEC so soon after the Dodd-Frank Act reduced the SEC’s burden of proof for an aiding and abetting fraud claim. Instead of a “knowing” intent to assist, Dodd-Frank only requires the SEC to show that the defendant “recklessly” assisted the fraud.
The concerns now, for both sides, are the ramifications. The current holding makes it easier for the SEC to charge secondary actors—those who transact with the fraudulent party—with securities violations. In addition, in the pre-Apuzzo world, the “proximate cause” standard forced the SEC to cast a smaller net, catching only those individuals whose actions “proximately caused” the securities violation. But with that restraint removed, Apuzzo itself indicates the possibilities for SEC enforcement actions to target those more loosely related to the fraud.
Unless the full 2nd Circuit walks away from the decision, the SEC’s job has just become a lot easier. Between the current Apuzzo decision and Dodd-Frank, the SEC need only allege that the aider and abettor acted recklessly when engaging in transactions involving a securities violation by the fraudulent party, and that the alleged aider and abettor associated with the scheme and wished it to succeed.
Whatever the outcome, the decision is certain to draw significant attention, maybe even enough to garner higher review. We’ll be watching it closely.