On June 18, 2007, the United States Supreme Court decided that, in the context of initial public offerings (IPOs), the antitrust laws and the federal securities laws were “clearly incompatible,” reversing the Second Circuit Court’s decision. Credit Suisse Securities (USA) LLC v. Billing, 05-1157, 551 U.S. __ (2007). The claims concerned alleged manipulative conduct by underwriters in the IPO process, where the Court interpreted the securities laws as “implicitly precluding the application of the antitrust laws.”
The plaintiffs, investors who bought securities in IPOs and in the immediate aftermarket following completion of IPOs, claimed that Credit Suisse Securities (USA) LLC (f/k/a Credit Suisse First Boston Ltd.) and some of the country’s other leading investment banking firms engaged in a massive conspiracy to manipulate IPO prices and aftermarket prices of over 800 technology stocks. The plaintiffs cited the following conduct:
? Requiring institutional investors to buy additional stock in the immediate aftermarket, sometimes at escalating prices, referred to as “laddering” arrangements
? Permitting the institutional investors to sell the shares they bought in the IPO and the immediate aftermarket only when told to do so by the underwriters
? Requiring institutional investors, upon sale of securities at the inflated prices, to split the excess profits with the underwriters
? Allocating IPO securities to institutional investors only if they agreed to buy securities in subsequent, less desirable securities offerings, referred to as “tie-in” agreements
Permissibility of Conduct Under the Securities Laws
Although the plaintiffs did not allege that using the syndicate system, in and of itself, violated the antitrust laws even though it involved joint pricing decisions, they did claim that defendants abused that system, resulting in antitrust violations.
Typically underwriters form syndicates to share the risk of an IPO. The lead underwriter, as representative of the participating underwriters, through a marketing process that involves the issuer, the potential investors and the other underwriters in the syndicate, sets the price of the securities and that price must be the same, regardless of which member of the syndicate is selling the issue. In addition, once the lead underwriter reaches agreement with the issuer on the amount of the underwriting discount for a particular offering, all participating underwriters receive the same discount. This is conduct within a single IPO, in contrast to conduct that either involves aftermarket sales of securities or cuts across multiple IPOs.
An illustration of the contrast between conduct permitted under the securities laws, but not under the antitrust laws, is price manipulation for the purpose of supporting the price of new securities issues in the immediate aftermarket, known as “stabilization.” Some price stabilization is permitted under the securities regulations, though this permitted activity does not extend to inflating prices or other types of manipulations alleged in this case. Those types of manipulations would likely be prohibited under both the securities laws and regulations and the antitrust laws. However, stabilization skirts close to some of the conduct in the complaint.
There is no doubt that the Securities and Exchange Commission (SEC) has the authority to regulate the syndication and pricing process of IPOs as well as the prohibited manipulations alleged in the Credit Suisse case. In addition to being prohibited by the general anti-fraud and anti-manipulation provisions of the securities laws, Regulation M, promulgated by the SEC, specifically prohibits distribution participants “directly or indirectly, to bid for, purchase, or attempt to induce any person to bid for or purchase, a covered security during the applicable restricted period.” 17 CFR Part 242. The “restricted period” ends only after the closing of the offering.
However, collaborative activities in the sale of securities generally, among underwriters, is expressly permitted. In fact, the Court noted that the Securities Act of 1933 itself carves out of the definition of the terms, “sale” and “sell,” collaborative activity by underwriters who have contractual arrangements with issuers to sell their securities. 15 U.S.C. 77b(a)(3).
U.S. Supreme Court Analysis
The Court focused its analysis primarily on whether the risk that applying both the securities and antitrust laws would create “conflicting guidance, requirements, duties, privileges or standards of conduct.”
The Court described various scenarios where the same conduct could be analyzed as legal under one set of laws and unlawful under the other and concluded that there would be no practical way to insure that antitrust suits would only challenge conduct that is currently unlawful and is likely to remain so under the securities laws.
The Court said that it based its ultimate decision on the following considerations:
“The fine securities-related lines separating the permissible from the impermissible; the need for securities-related expertise (particularly to determine whether an SEC rule is likely permanent); the overlapping evidence from which reasonable but contradictory inferences may be drawn; and the risk of inconsistent court results.”
The Court also weighed the harm from the risk of a wrong decision under antitrust laws against the harm to investors of precluding application of the antitrust laws. The Court saw little risk to investors in precluding antitrust laws for several reasons. First, part of the SEC’s mandate is to take into account protecting competition. Second, the Court said that the SEC has been actively enforcing the rules and regulations that prohibit the conduct that comprises the plaintiffs’ claims. Third, the plaintiffs have a private right of action under the securities laws so they are not left unprotected.
In contrast with the foregoing, the Court thought that permitting the antitrust laws to apply here would risk serious mistakes which, with the threat of treble damages, could essentially chill U.S. capital markets.
The Court decided that the standard for determining whether the antitrust laws are precluded in a securities case depends on a finding as to whether the securities laws and the antitrust laws are “clearly incompatible” in the context of the case and given the potential ramifications of the finding.
One of the interesting aspects of this 7-1 decision (Justice Kennedy recused himself) is that the Court found broader regulatory authority for the SEC than the SEC claimed for itself in the amicus curiae brief it filed jointly with the United States Solicitor General and the antitrust agencies. The implication for underwriters is that they have more certainty as to the inapplicability of antitrust standards to the IPO process. They only have to comply with securities laws and regulations. As to investors who believe they are paying inflated prices for securities due to manipulative conduct of underwriters, they still have a private right of action under the securities laws, but they will be limited to single damages and will have to satisfy the rigorous procedural requirements of the securities laws when bringing suit against underwriters for IPO-related conduct.
Although this was a pro-underwriter decision, underwriters nevertheless must act with care during the IPO process. If the alleged manipulative conduct in fact occurred and can be proven, that conduct would almost certainly be found to violate the securities laws and regulations. In fact, no party contended that such conduct would comply with the securities laws. Even if the SEC were not to vigorously enforce the securities laws, private plaintiffs would nevertheless bring class actions.
What made this case unusual was that that the plaintiffs brought these claims under the antitrust laws, rather than the securities laws. Indeed, the intersection of the two was the focus of the case. In the future, plaintiffs will need to bring cases like this one under the securities laws despite the fact that the risk-reward equation for private parties is quite different under the securities laws (with potential single damages recovery) than under the antitrust laws (where treble damages are awarded).