In a 5-4 decision, the U.S. Supreme Court held that a mutual fund investment adviser cannot be held liable in a private action under Rule 10b-5 for false statements included in the mutual fund prospectuses prepared by the adviser.  

The case involved a class "fraud on the market" action brought under Rule 10b-5 by stockholders of the adviser's publicly-traded parent. The stockholders alleged that statements in the mutual fund prospectuses prepared by the adviser were misleading. These statements implied that the adviser would implement measures to curb market timing in the mutual funds, which, in turn, made the funds more attractive to investors and caused the parent's stock to be overpriced – the parent being the perceived beneficiary of the funds' future management fees. Thereafter, the stockholders suffered economic harm when the parent's stock price dropped precipitously as the result of public allegations made by the State of New York that the parent and the adviser had been secretly allowing market timing in the mutual funds. Factually, the Court noted that although the parent created the entity holding the mutual funds (the fund), the fund was, at all times, a separate legal entity owned entirely by mutual fund investors. Further, despite complete overlap between the officers of the fund and the adviser, because only one member of the fund's board of trustees was associated with the adviser, the Court viewed the fund as an independent entity.

After giving great deference to corporate form and regard to the narrowness with which the Court ought to construe private rights of action, the Court's analysis turned on whether the adviser could "make" material misstatements for the purposes of stating a claim under Rule 10b-5. According to the Court, "the maker of a statement is the person or entity with ultimate authority over the statement," and, in this case, the fund – as a separate legal entity with its own independent board – had ultimate authority over the contents of the mutual funds' prospectuses. To illustrate the point, the Court made an analogy between a speechwriter and a speaker with the adviser as the former and the fund as the latter. "Even when a speechwriter drafts a speech, the content is entirely within the control of the person who delivers it." The Court acknowledged the persuasiveness of the argument by the stockholders and the amici to disregard the corporate form in view of the significant authority and control fund advisers have over the funds they manage. However, the Court deferred to Congress to settle any inequities that may exist as the result of the strategic and administrative control fund advisers typically exert over their fund clients.

The dissent reasoned that the majority's decision allows for the possibility of an end run around Rule 10b-5 liability. Highlighting the majority's "ultimate control" analysis the dissent outlined a scenario whereby an unscrupulous investment fund advisor intentionally uses an unknowing intermediary – such as an investment fund's independent board – to intentionally publish a false statement and mislead investors. Only time and lower court interpretations of this opinion will tell how much the Court's holding will limit shareholder actions against fund managers for unscrupulous behavior or otherwise. At the moment, however, maintaining corporate formalities at the investment management and fund levels has never been more critical to the operation of investment funds.