Aaron v. Securities & Exchange Commission
64 L. Ed. 2d 611, 1980 U.S. LEXIS 107, 446 U.S. 680 (1980)
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Rule of Law:
In a civil enforcement action for an injunction, the Securities and Exchange Commission (SEC) is required to prove scienter as an element of a violation of § 10(b) of the 1934 Act, Rule 10b-5, and § 17(a)(1) of the 1933 Act. However, the SEC is not required to prove scienter for violations of § 17(a)(2) and § 17(a)(3) of the 1933 Act.
Facts:
- Petitioner Aaron was a managerial employee at E. L. Aaron & Co., a registered broker-dealer, and was responsible for supervising sales representatives.
- Between November 1974 and September 1975, two sales representatives under Aaron's supervision, Schreiber and Jacobson, made repeated false and misleading statements to solicit purchases of Lawn-A-Mat common stock.
- The representatives falsely claimed Lawn-A-Mat was manufacturing a new car and made baseless optimistic projections about the company's financial condition.
- An attorney for Lawn-A-Mat, Milton Kean, telephoned Aaron twice to inform him that his subordinates were making false and misleading statements.
- Aaron had access to the firm's 'due diligence' files, which indicated Lawn-A-Mat's deteriorating financial condition and contained no plans for manufacturing a car, giving him reason to know the salesmen's statements were false.
- Despite assuring Kean he would address the issue, Aaron took no affirmative steps to prevent the representatives from continuing their misrepresentations, other than telling one of them to speak with Kean.
Procedural Posture:
- The Securities and Exchange Commission (SEC) filed a complaint in the U.S. District Court for the Southern District of New York seeking an injunction against Aaron.
- After a bench trial, the District Court found that Aaron had violated the securities laws with scienter and permanently enjoined him from future violations.
- Aaron, as appellant, appealed to the U.S. Court of Appeals for the Second Circuit.
- The Court of Appeals affirmed the injunction, holding that the SEC was not required to prove scienter in an action for injunctive relief and that proof of negligence alone would suffice.
- The U.S. Supreme Court granted certiorari.
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Issue:
Is scienter a required element in an SEC civil enforcement action seeking an injunction for violations of § 10(b) and Rule 10b-5 of the 1934 Act, and § 17(a) of the 1933 Act?
Opinions:
Majority - Justice Stewart
Yes, in part, and no, in part. Scienter is a necessary element for the SEC to prove in an injunctive action for violations of § 10(b), Rule 10b-5, and § 17(a)(1), but not for violations of § 17(a)(2) and § 17(a)(3). The Court's reasoning in Ernst & Ernst v. Hochfelder, which required scienter in private damage actions under § 10(b), extends to SEC injunctive actions because the statutory language of § 10(b)—'manipulative,' 'device,' 'contrivance'—denotes intentional misconduct regardless of the plaintiff or remedy. Similarly, the language of § 17(a)(1)—'device, scheme, or artifice to defraud'—plainly requires intent. In contrast, the language of § 17(a)(2), which forbids obtaining money by means of an 'untrue statement,' and § 17(a)(3), which forbids any practice that 'operates' as a fraud, focuses on the effect of the conduct rather than the actor's mental state, and therefore does not require proof of scienter.
Concurring - Chief Justice Burger
Yes, I agree with the Court's holding. The district court's injunction was proper because Aaron's conduct was clearly intentional. The Court's holding is compelled by the precedent set in Hochfelder and reflects the language chosen by Congress. Furthermore, the practical difference may be minimal, as the SEC must show a likelihood of future violation to obtain an injunction, which is difficult to establish from merely negligent past conduct. An injunction is a 'drastic remedy' and should not be used against those who acted in good faith.
Concurring-in-part-and-dissenting-in-part - Justice Blackmun
No. Scienter should not be a required element for the SEC to obtain an injunction under § 10(b), Rule 10b-5, or any subsection of § 17(a). The majority's 'wooden' textual analysis ignores the remedial purpose of the securities laws and the longstanding distinction between actions at law for damages (requiring scienter) and suits in equity for injunctive relief (not requiring scienter). This decision unnecessarily undercuts the SEC's ability to protect the public and 'drives a wedge' between § 17(a) and Rule 10b-5, which were meant to work in harmony, illogically creating a system where only a seller's negligent misrepresentations can be enjoined.
Analysis:
This decision significantly clarified the culpability standard for SEC injunctive actions, creating a split standard based on the specific statutory text. By extending Hochfelder's scienter requirement to SEC actions under § 10(b) and § 17(a)(1), the Court raised the SEC's burden of proof for some of its primary anti-fraud tools. However, by holding that negligence suffices for § 17(a)(2) and (3), the Court preserved a crucial avenue for the SEC to enjoin misconduct that falls short of intentional fraud. This bifurcated approach forces courts and litigants to engage in a close textual analysis of the specific provision at issue to determine the requisite mental state, affecting the SEC's litigation strategy in enforcement actions.
