On September 29, 2017, a three-judge panel of the United States Court of Appeals for the D.C. Circuit (“D.C. Circuit”) overturned the Securities and Exchange Commission’s (“SEC”) determination that investment banker Frank Lorenzo had violated Rule 10b-5(b) under the Securities Exchange Act of 1934 (“Exchange Act”) by sending emails that allegedly contained material misrepresentations about a debenture offering that were drafted by his employer. See Lorenzo v. SEC, No. 15-1202, slip op. at 2 (D.C. Cir. Sept. 29, 2017). The panel held that, per the Supreme Court’s decision in Janus Capital Group, Inc. v. First Derivative Traders, 564 U.S. 135 (2011), Lorenzo was not the “maker” of the alleged misrepresentations in the emails because he had only cut-and-pasted content over which his employer retained “ultimate authority.” After reversing the SEC’s Rule 10b-5(b) determination, however, a split panel affirmed the SEC’s determination that, by recklessly making use of misleading statements over which he did not have ultimate authority, Lorenzo had violated Rules 10b-5(a) and 10b-5(c), as well as Section 17(a)(1) of the Securities Act of 1933 (“Securities Act”). The panel then set aside the lifetime industry bar and $15,000 civil monetary penalty that had been imposed on Lorenzo and directed the SEC to reassess the appropriate penalties in light of the panel’s holding that Lorenzo had not violated Rule 10b-5(b).

Lorenzo was the director of investment banking at broker-dealer Charles Vista LLC (“Charles Vista”) when Charles Vista’s largest client, Waste2Energy Holdings (“W2E”), sought to issue $15 million in convertible debentures. Charles Vista’s owner allegedly instructed Lorenzo to send two emails to potential investors that contained misrepresentations concerning W2E’s financial condition, which the owner himself had drafted. When the SEC instituted enforcement actions charging Lorenzo, Charles Vista and its owner with securities law violations, Charles Vista and its owner settled, but Lorenzo proceeded to trial before an administrative law judge (“ALJ”).

At trial, Lorenzo, who was the only witness called to testify, claimed that Charles Vista’s owner had drafted the alleged misrepresentations at issue, and that Lorenzo had sent the emails as instructed without paying attention to their content. Although the ALJ appeared to credit Lorenzo’s claims that he had not paid attention to the substance of the emails, the ALJ nevertheless concluded that Lorenzo was liable for securities fraud because the alleged misrepresentations were “staggering” and Lorenzo allegedly had known the truth about W2E’s financial condition when he sent the emails. The ALJ barred Lorenzo for life from the securities industry and imposed a $15,000 civil monetary penalty. After conducting a full review of the record, the SEC sustained the ALJ’s decision, and indeed buttressed it by rejecting the ALJ’s factual conclusion the Lorenzo had not paid attention to the substance of the emails as “implausible.” Lorenzo appealed the SEC’s determination to the D.C. Circuit, arguing that, under the Supreme Court’s decision in Janus, he was not the “maker” of any of the alleged misrepresentations because he had only cut-and-pasted content allegedly created by his employer.

Lorenzo also argued that he lacked the intent to deceive or defraud because he had sent the emails with a “good-faith belief in their veracity.” The panel agreed that, per Janus, Charles Vista’s owner—not Lorenzo—had “made” the misstatements because the owner had “ultimate authority over the statement, including its content and whether to communicate it.” Nevertheless, a majority of the panel upheld the SEC’s determination that Lorenzo was primarily liable under Section 17(a)(1) of the Securities Act, Section 10(b) of the Exchange Act, and Rules 10b-5(a) and 10b-5(c) thereunder because (i) he had played an “active role in perpetrating the fraud” by adding his supervisor’s statements to the emails and (ii) he possessed the intent to deceive since he knew the truth about W2E’s financial condition before he sent the emails. The majority also noted that Lorenzo’s position that he had a good-faith belief in the emails’ veracity suggested that he had reviewed the content of the emails, contrary to his testimony at trial.

The dissenting panel member, Judge Brett Kavanaugh, vigorously disagreed with the majority’s holding that Lorenzo could be primarily liable for securities laws as a result of statements he did not “make.” Judge Kavanaugh explained that the SEC and the majority had ignored the administrative law judge’s factual findings, which were entitled to deference, including that Lorenzo had not drafted the statements at issue, had not read the statements before cutting and pasting them into the emails, and only sent the emails at the direction of his employer. Judge Kavanaugh also criticized the majority for creating a circuit split by becoming the first court of appeals to hold that “mere misstatements, standing alone, may constitute the basis for so-called scheme liability under the securities laws . . . even if the defendant did not make the misstatements.” Other courts, Judge Kavanaugh wrote, required “conduct that goes beyond a defendant’s role in preparing mere misstatements or omissions made by others.”

While Lorenzo appears consistent with Janus’ limitation of liability for 10b-5(b) securities fraud to the individuals or entities that have ultimate authority over alleged misrepresentations, the majority’s holding that Lorenzo may be held liable as a primary violator for securities fraud without “making” a misrepresentation could be read to expand the scope of primary liability under the securities laws, which may result in the Supreme Court weighing in on the issue.

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