Alert June 14, 2011

Narrowly Divided U.S. Supreme Court Issues Decision in Securities Fraud Suit Against Mutual Fund Adviser

The U.S. Supreme Court (the “Court”) issued a 5-4 decision reversing the May 2009 decision of the U.S. Court of Appeals for the Fourth Circuit (the “Fourth Circuit”) and dismissing a plaintiffs’ shareholder suit brought against the adviser to a family of mutual funds (the “Adviser”) and its publicly traded parent (the “Parent”) for allegedly making material misstatements in the funds’ prospectuses regarding the efforts taken to address market timing trading activity in the funds.  The Court held that the Adviser could not be liable under Section 10(b) of, and Rule 10b-5 under, the Securities Exchange Act of 1934 (the “1934 Act”) because under the facts pleaded by the Adviser had not “made” the statements in question, and that without such liability the Parent could not be held liable as a control person under Section 20 of the 1934 Act. 

In the Court’s view, absent express or implicit attribution to another within a statement, the maker of the statement for purposes of Rule 10b-5 is the person with ultimate authority over the statement, including its content and whether and how to communicate it.  In finding that the Adviser was not such a person with respect to statements in the funds’ prospectuses regarding anti-market timing measures, the Court cited the fact that (a) the Adviser and funds were separate corporate entities, (b) the funds met the statutory requirements under the Investment Company Act of 1940 regarding the independence of their trustees from the Adviser, (c) the funds, not the Adviser, filed their prospectuses with the SEC and (d) nothing on the face of the funds’ prospectuses indicated that their contents were statements by the Adviser as opposed to the funds.  Justice Breyer, writing for the dissenting Justices, concluded that the specific allegations regarding the involvement of the Adviser in drafting the prospectus warranted the conclusion that the Adviser did “make” the prospectus statements for purposes of Rule 10b‑5 liability.