The distinction between primary and secondary liability has been repeatedly litigated in securities damage cases, and to a lesser extent in SEC enforcement actions, since the Supreme Court handed down its decision in Central Bank of Denver v. First Interstate Bank of Denver, 511 U.S. 164 (1994). The Court’s decision in Janus Capital Group, Inc. v. First Derivative Traders, 131 S. Ct. 2296 (2011) drew the primary liability line, focusing on who has control regarding the making of a false statement.

Janus many now be creating a new division. Recently, in SEC v. Kelly, Case No. 08 CV 4612 (S.D.N.Y.) the court considered the application of the Janus rule in a false statement case. The action centered on a fraud at AOL from 2000 to 2003 involving round trip transactions between the company and its vendors. AOL is alleged to have structured transactions so that a counterparty purchased advertising. The company then made false statements regarding the transactions to inflate its revenues.

Following the decision in Janus two executives named as defendants in the case requested judgment on the pleadings as to the SEC’s Rule 10b-5 claims. Specifically, the two defendants claimed that they did not “make” the statements in the Janus sense because they did not have control. The SEC conceded the point but argued that Janus is limited to subsection (b) of Rule 10b-5. The Commission sought to hold the defendants liable under subsections (a) and (c) which focus on scheme liability.

The court rejected the SEC’s contention, ruling in favor of the defendants. While the Commission is correct that Janus is based on subsection (b), where the “primary purpose and effect of a purported scheme is to make a public misrepresentation or omission, courts have routinely rejected the SEC’s attempt to bypass the elements necessary to impose ‘misstatement’ liability under subsection (b) by labeling the alleged misconduct a ‘scheme’ rather than a ‘misstatement’” the court held. If scheme liability could be used to evade the requirements of Janus then the distinction between primary and secondary liability would evaporate.

In this case the focus is on false statements. There is nothing inherently deceptive about the underlying transactions. Accordingly, the SEC can not expand primary liability here by invoking scheme liability.

The court also dismissed the SEC’s claims under Securities Act Section 17(a). While Janus did not address the question of liability under this section, since it is “essentially the same” as Section 10(b) and Rule 10b-5, the same test of primary liability crafted in Janus should apply. Accordingly, the court granted the defendants’ motion for judgment on the pleadings.

The court in Hawaii Ironworkers Annuity Trust Fund v. Cole, Case No. 3:10CV371 (N.D.Oh. Decided Sept. 7, 20911)(discussed here) reached the opposite result. There the plaintiffs sought to hold executives who worked in the operating divisions of now bankrupt Dana Corporation primarily liable for false statements about the financial condition of the company. Plaintiffs claimed that a wide spread financial fraud was orchestrated at the company by its former CEO and CFO. Senior officials at the company repeatedly made false statements regarding the financial condition of the company. Executives in the operating divisions, including the defendants, were directed to prepare false financial data for the statements.

Following Janus the court held that the defendants were not primary liable because they did not control the making of the statements. Accordingly, the claims under Rule 10b-5-2 were dismissed. The court went on to hold, however, that those same defendants could be held liable under subsections (a) and (c). Here the defendants engaged in manipulative conduct according to the allegations of the pending complaint. Therefore the claims under subsections (a) and (c) of the rule were not dismissed. See also SEC v. Daifotis, No. 3:11-c-00137 (N.D. CA.)(applying Janus but not considering subsections (a) and (c) as discussed here).