U.S. Supreme Court nixes shareholders’ 10-b claim

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A service management company cannot be liable under Securities and Exchange Commission Rule 10b-5 for alleged securities violations of the mutual funds it sponsors, the U.S. Supreme Court has ruled.

The case was a class action brought by shareholders who claimed they received misleading information in prospectuses regarding a group of Janus Funds sponsored by the Janus Capital Group (JCG) by its subsidiary Janus Capital Management (JCM). The prospectuses were created by Janus Investment Fund.

The shareholders sued JCM, claiming that they bought their shares at inflated prices and later lost money when the controversial trading practices used by JCM became known to the public, causing the stock to dip.

Rule 10b-5 forbids making “any untrue statement of a material fact” in connection with the purchase or sale of securities.

A U.S. District Court in Maryland dismissed the claim against JCM, holding that the plaintiffs did not allege facts against it sufficient to state a claim because the complaint did not allege that JCM prepared or made statements in the prospectuses.

But the 4th Circuit reversed, holding that JCM and Janus Funds held themselves out as a single entity in a number of ways, including on the companies’ website.

The Supreme Court agreed to hear the case.

In a 5-4 ruling, the Court held that JCM cannot be held liable for false statements because the prospectuses were not made by JCM.

Writing for the majority, Justice Clarence Thomas reasoned that even if the information supplied in a prospectus came from JCM, because the prospectus was made by another firm beyond JCM’s control it cannot be liable for “making” a statement under SEC rules.

“This rule might best be exemplified by the relationship between a speechwriter and a speaker,” Justice Thomas wrote. “Even when a speechwriter drafts a speech, the content is entirely within the control of the person who delivers it. And it is the speaker who takes credit – or blame – for what is ultimately said. … Although JCM, like a speechwriter, may have assisted Janus Investment Fund with crafting what Janus Investment Fund said in the prospectuses, JCM itself did not ‘make’ those statements for purposes of Rule 10b-5.”

Justice Stephen Breyer wrote a dissent which was joined by Justices Ruth Bader Ginsburg, Sonia Sotomayor and Elena Kagan.

U.S. Supreme Court. Janus Capital Group v. First Derivative Traders, no. 09-525. June 13.