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Corporate immunity on civil fraud cases


 A few days ago, I became aware of a 2008 Supreme Court case that appears to have profound implications for the current economic crisis. In Stoneridge v Scientific-Atlanta, the Court ruled that companies that facilitate fraud by others are not vulnerable to civil lawsuits seeking recovery for losses due to the fraud. Stoneridge was an investment firm that had bought shares in Charter Communications, a cable provider. Facing a poor earnings report, Charter had schemed with Scientific Atlanta to boost the balance sheet. Charter agreed to raise the price it paid for set-top boxes if SA would purchase an equivalent amount of advertising time at inflated prices. Neither company had any change in its assets or revenue, but Charter was able to portray the added advertising revenue as a gain on the balance sheet. Stoneridge relied on this information to buy shares, which plummeted in price when the fraud became known. 

The Court ruled that Scientific-Atlanta, because it had made no public representation regarding Charter’s finances, bore no liability, even though it knew it was helping Charter to perpetrate a fraud. This was seen by some as at variance with Congress’s intent and an activist expansion of protections for corporations. 

The immediate consequence was to throw in question $40 billion worth of claims against the various investment banks and brokers that had abetted Enron’s fraudulent dealings. As it happened, the plaintiffs gave up their pursuit of compensation, saying that too many suits (such as Stoneridge) had gone against them and the case was futile. Thus, the worst corporate cheaters up to the recent crisis were let off the hook, at least in regard to civil suits. 

Now, it would seem to me that this rule protecting participants in fraud covers such firms as Goldman Sachs and JP Morgan Chase against civil liability for their part in packaging and selling mortgage backed securities based on false statements on loan applications — even if the mortgage company deliberately falsified information. Everyone in the chain, at least to the point the securities entered the global market,  knew what was up with these dodgy mortgages. Everyone chose to look the other way, including the ratings agencies handing AAA ratings to securities that were garbage. Is it, I wonder, the  case that GS et al are immunized from liability that professional investors could press for their knowingly marketing toxic trash? I don’t know, and I would be very interested if anyone with legal knowledge could elaborate on this. But it does seem to follow. 

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