The Supreme Court heard arguments Tuesday about the disgorgement powers of the Securities and Exchange Commission. The justices seemed to be looking for some way to keep the SEC’s powers alive, even if the agency might need to be more constrained in how it pursues disgorgement.
The case, Liu v. SEC, isn’t likely to see a ruling until early summer. It hinges on the question of whether the SEC can seek disgorgement in cases it pursues in federal court — or whether that disgorgement is actually a penalty, which the plaintiffs say isn’t allowed under federal statute.
The SEC, of course, says disgorgement is “equitable relief” to wronged parties, which is allowed under federal law. That was the standard understanding of things for decades, until the defendant Charles Liu, convicted of bilking Chinese investors of $27 million, challenged the SEC’s disgorgement powers in court.
The case could be a big setback for corporate compliance programs, if the Supreme Court guts SEC disgorgement powers outright. Like, consider all the time and effort you spend essentially telling people, “Crime doesn’t pay” — and then the highest court in the land says that the country’s primary investor protection agency can’t actually seize the proceeds that wrongdoers make while committing white-collar crime. It kinda steps on your point.
The justices, however, seemed to grasp that point too. Their questions focused more on how to craft a middle ground where SEC disgorgement was still allowed, even if focused more on returning ill-gotten proceeds to victims.
First consider this question from Justice Alito, one of the more conservative justices on the bench:
But is your argument that disgorgement is never possible or that disgorgement has been interpreted too broadly by the courts? Suppose it were limited to net profits and suppose every effort was made to return the money to the victims of the fraud. Would that not fall within a traditional form of equitable relief?
Spoiler alert: the plaintiffs still said no, even Alito’s idea wouldn’t qualify as equitable relief. But that’s not news. What struck me was that Alito was asking the question at all, trying to sketch out the contours of a standard where the SEC could still seek disgorgement.
Further down the transcript, we see this from Justice Kagan, one of the more liberal justices:
On the question of giving money back to the investors, I think Justice Ginsburg raised the issue about maybe you can’t find them, they’re not identifiable, there are too many of them. What do you think that if we said, you know, it’s an equitable principle that the money should go back to the investors if possible, what does that mean exactly that the SEC has to do?
Again, plaintiffs said that would only be equitable relief if the money did go back to investors; otherwise, it’s still a punishment. But really, Kagan is just expanding on Alito’s earlier question.
I’m not a close reader of Supreme Court arguments, but that seemed to be the theme here: that the justices were trying to see how SEC disgorgement powers could be kept alive, even if in some diminished capacity that forced the SEC to dwell more on cases where disgorgement could be returned to investors in a straightforward way.
The FCPA Angle
Of course there’s an FCPA angle here! The Foreign Corrupt Practices Act came up as an example of where disgorgement does happen — heck, it just happened last week in an SEC case against Cardinal Health — but those cases don’t have an obvious class of harmed investors. So how would SEC disgorgement fit here?
Malcolm Stewart, the Justice Department deputy solicitor general who argued for the SEC, even said, “Sometimes we do get big judgments. They’re not returned to investors because there really is no obvious universe of individual victims from an FCPA violation.”
Justice Gorsuch, another conservative member of the bench, jumped on that point, asking whether the government would have any difficulty with a rule that the money should be returned to investors where feasible.
Stewart said no the government wouldn’t, but again, that’s not news. The news is that yet another justice was asking about how SEC disgorgement might be kept alive. Then came this, from Justice Kavanaugh, just to clarify the issue: “Would it be appropriate for this Court to say that’s the rule; namely, that it has to be returned to investors where feasible?” And again, Stewart said a rule like that would be fine.
I have no idea how Gorsuch or any other justice might actually rule, but we have justices on both ends of the political spectrum asking questions pointing in the same basic direction. And above all, the justices aren’t dumb — they know that gutting SEC enforcement power would look terrible to the public.
All of that tells me the court might clip the SEC’s wings a bit, but they won’t leave the agency a flightless fowl stuck on the ground.
More Food for Thought
I do believe Liu v. SEC could have an outsized effect on cases involving individual scam artists, if the court does gut disgorgement as a remedy the SEC can seek in court. Compliance officers at firms covered by the Investment Companies Act should watch this closely since those are the type of business where you see con artists try to bilk investors.
For compliance officers at large corporations, typically more worried about the FCPA or similar laws, the practical effect might be less.
For example, if you’re involved in an egregious FCPA violation, the Justice Department is involved too, and those folks can bring down a much heavier hammer than the SEC. So even if the SEC couldn’t pursue disgorgement related to an FCPA case, the Justice Department could demand disgorgement as part of a joint settlement. Your firm ends up in the same place, just via a different route.
The SEC also has power to enforce civil penalties in court. So in theory the SEC could threaten penalties equal to disgorgement, although a serious appetite for corporate penalties is hard to find during the Trump Administration — but hey, anything is possible.
Plus, the SEC still has power to enforce disgorgement in its administrative hearings. So the agency could launch court and administrative actions at the same time, then pause the administrative hearing until the court case is done; and if the SEC gets a result it doesn’t like, resume the administrative hearing to go after disgorgement. (The NYU Compliance & Enforcement Blog has a good exploration of this.)
And lastly, Congress is moving along with a legislative fix that would expressly allow SEC disgorgement, and undo the five-year statute of limitations the Supreme Court imposed in its Kokesh ruling a few years ago, too.
So there is a lot going on, and a lot at stake here. But I suspect the justices know a bridge too far when they see it.