On July 15, 2022, the Second Circuit held[1]  in SEC v. Rio Tinto plc,[2] that the Supreme Court’s ruling in Lorenzo v. SEC[3] did not abrogate the rule in the Second Circuit that alleged misrepresentations and omissions cannot be the “sole basis”[4] for liability under Rule 10b-5(a) and (c).

In Lorenzo, the Supreme Court held that a person who disseminates materially misleading statements with the intent to defraud investors can be held primarily liable under Section 17(a)(1) of the Securities Act, Section 10(b) of the Securities Exchange Act, and SEC Rule 10b-5(a) and (c), even if that person does not “make” any statement to investors.[5]  The Supreme Court based its decision on the text of the rule and overlap of the rule’s provisions.[6]  The Supreme Court also noted the limits of its decision, emphasizing that its holding does not render its decision involving separate requirements for “maker” liability under Rule
10b-5(b)[7] a “dead letter,” nor does it “create[] a serious anomaly or otherwise weaken[] the distinction between primary and secondary liability.”[8]

After the Supreme Court’s decision, the lower courts have been grappling with the impact of Lorenzo on securities laws.[9]
The Second Circuit’s decision in this case clarifies that Lorenzo does not mean that the separate provisions of Rule 10b-5 are fully overlapping.[10]

Factual and Procedural Background

In a complaint filed in the Southern District of New York in 2017, the SEC alleged that defendants Rio Tinto plc and Rio Tinto Ltd. (“Rio Tinto”) and Rio Tinto’s former CEO, Tom Albanese, and CFO, Guy Elliott, made a series of alleged misstatements and omissions in connection with the value of an undeveloped, exploratory mining asset in Mozambique that Rio Tinto acquired in 2011 for $3.7 billion. The defendants moved to dismiss all the claims.[11]

In 2019, Judge Analisa Torres dismissed the vast majority of the claims in the action, including all of the scheme liability claims brought under Rule 10b-5(a) and (c), as well as under Section 17(a)(1) and (a)(3).[12]  With respect to the Rule 10b-5(a) and (c) claim, Judge Torres held that “the SEC must allege ‘the performance of an inherently deceptive act that is distinct from an alleged misstatement.’”[13]  Judge Torres also noted, however, that the pending Supreme Court decision in Lorenzo v. SEC “may clarify” the standard for Rule 10b-5(a) and (c) claims.[14]

After the decision on the motion to dismiss, the Supreme Court issued its decision in Lorenzo.[15]  The SEC ultimately filed a motion for reconsideration, which was denied.[16]  In denying the motion for reconsideration, Judge Torres explained that the only actions identified by the SEC were “misstatements or omissions,” and Lorenzo only held that those who “disseminate” false or misleading statements can be liable, “not that misstatements alone are sufficient to trigger scheme liability.”[17]

Following the denial of reconsideration, the SEC requested interlocutory review, and the review was granted.

Second Circuit Opinion

In Lentell v. Merrill Lynch & Co.[18]—a decision pre-dating Lorenzo—the Second Circuit held that “misstatements and omissions cannot form the ‘sole basis’ for liability under the scheme subsections.”[19]  Rio Tinto thus presented the question whether Lorenzo abrogated Lentell.[20] The Second Circuit held that Lentell “remains vital” post-Lorenzo.[21]

The Second Circuit explained that adopting the SEC’s expansive view of Lorenzo would eliminate the distinctions between Rule 10b-5(a) and (c) on the one hand and Rule 10b-5(b) on the other, and would “undermine two key features of Rule 10b-5(b).”[22]

First, it would undermine the Supreme Court’s ruling in Janus that the “maker of a statement is the person or entity with ultimate authority over the statement, including its content and whether and how to communicate it,” and those that do not “make” a statement, cannot be liable under Rule 10b-5(b).[23]  Since the decision in Lorenzo “emphasized the continued vitality of Janus,” the Second Circuit reasoned that Lentell is necessary to give continuing effect to Janus.[24]

Second, the SEC’s view would undermine the rule that “misstatements and omissions claims brought by private plaintiffs under Rule 10b-5(b) are subject to the heightened pleading standard of the Private Securities Litigation Reform Act (“PSLRA”).”[25]  The Second Circuit’s decision to affirm Lentell prevents “private litigants [from] repackag[ing] their misstatement claims as scheme liability claims.”[26]

Finally, the Second Circuit resisted “overreading Lorenzo” because it could “muddle primary and secondary liability” by allowing liability for participating in the preparation of alleged misstatements.[27] Only the SEC is allowed to bring claims alleging aiding and abetting liability, and the Supreme Court in Lorenzo disclaimed any attempt to weaken the distinction between primary and secondary liability.[28]

The Second Circuit’s decision ultimately reconciles Lentell and Lorenzo. Lentell instructs litigants “that misstatements and omissions alone are not enough for scheme liability,” and Lorenzo provides an example of conduct, dissemination of false or misleading statements, that is “something extra that makes a violation a scheme.”[29]

Implications

Rio Tinto is the Second Circuit’s first decision since Lorenzo to address the scope of scheme liability under the federal securities laws.  Under Rio Tinto, it is clear that pre-Lorenzo cases like Lentell remain good law, and a plaintiff cannot plead securities fraud under (a) or (c) of Rule 10b-5 absent allegations that the particular defendant(s) engaged in deceptive conduct beyond knowingly making a false or misleading statement. Rio Tinto thus reaffirms an important limitation on the ability of the SEC and private plaintiffs to pursue scheme liability claims.  While the decision is only binding in the Second Circuit, we expect that the case will be cited in other jurisdictions as persuasive authority given that the Second Circuit is the “‘Mother Court’ of securities law.”[30]  We anticipate seeing further development of the law in this area as courts apply Rio Tinto in the coming years.

ENDNOTES

[1]        Paul, Weiss, Rifkind, Wharton & Garrison represents the Defendant-Appellee, Guy Elliott, and Kannon Shanmugam argued in the United States Court of Appeals for the Second Circuit on behalf of Guy Elliott on May 19, 2022.

[2]        — F.4th –, 2022 WL 2760323, *1 (2d Cir. 2022).

[3]        139 S. Ct. 1094 (2019).

[4]        Lentell v. Merrill Lynch & Co., 396 F.3d 161, 177 (2d Cir. 2005).

[5]        Lorenzo, 139 S. Ct. at 1100-1101.

[6]        Id. at 1100-1103.

[7]        Janus Capital Group, Inc. v. First Derivative Traders, 564 U.S. 135, 142 (2011) (under Rule 10b-5(b), “the maker of a statement is the person or entity with ultimate authority over the statement, including its content and whether and how to communicate it.”)

[8]        Lorenzo, 139 S. Ct. at 1103-1104.

[9]        See, e.g., In re Alphabet, Inc. Sec. Litig., 1 F.4th 687, 709 n.10 (9th Cir. 2021) (discussing the impact of Lorenzo on pre-Lorenzo precedent in the Ninth Circuit); Malouf v. Securities & Exchange Commission, 933 F.3d 1248, 1259-60 (10th Cir. 2019) (discussing the impact of Lorenzo).

[10]      See SEC v. Rio Tinto plc, — F.4th –, 2022 WL 2760323, *1 (2d Cir. 2022).

[11]      Defendants have also filed a motion for summary judgment on the remaining claims, which has been pending during the interlocutory review.  See SEC v. Rio Tinto plc, 17-cv-7994, ECF Nos. 239, 260.

[12]      SEC v. Rio Tinto plc, 2019 WL 1244933 (S.D.N.Y. Mar. 18, 2019).  After the decision on the motion to dismiss, only four claims remain against Rio Tinto, three against Mr. Albanese, and two against Mr. Elliott, and none of the remaining claims alleged against Mr. Elliott are fraud-based.  Id. at *7-*16.

[13]      Id. at *15 (citing SEC v. Kelly, 817 F. Supp. 2d 340, 344 (S.D.N.Y. 2011)).

[14]      See id. at *15 n.9.

[15]      Lorenzo v. SEC, 139 S. Ct. 1094 (2019).

[16]      SEC v. Rio Tinto plc ,2021 WL 818745. *1 (S.D.N.Y. Mar. 3, 2021).

[17]      Id. at *2.

[18]      396 F.3d 161, 177 (2d Cir. 2005).

[19]      SEC v. Rio Tinto plc,– F.4th –, 2022 WL 2760323, *5 (2d Cir. 2022).

[20]      Id.

[21]      Id.

[22]      Id. at *4.

[23]      Janus, 564 U.S. at 141-142.

[24]      SEC v. Rio Tinto plc, — F.4th –, 2022 WL 2760323, *6 (2d Cir. 2022).

[25]      Id. at *4.

[26]      Id. at *7.

[27]      Id.

[28]      Id.; see also Lorenzo, 139 S. Ct. at 1103.

[29]      SEC v. Rio Tinto plc, — F.4th –, 2022 WL 2760323, *6 (2d Cir. 2022).

[30]      Morrison v. Nat’l Australia Bank Ltd., 561 U.S. 247, 276 (2010) (Stevens, J., concurring) (citation omitted).

This post comes to us from Paul, Weiss, Rifkind, Wharton & Garrison LLP. It is based on the firm’s memorandum, “Second Circuit Affirms That Misrepresentations and Omissions Cannot Be the Sole Basis for Liability under Rule 10b-5(a) and (c),” dated July 20, 2022, and available here.