Second Circuit Clarifies Morrison’s Holding Concerning What Is a U.S. Transaction, Overturning a District Court’s Approach Followed by Many Lower Courts

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Absolute Activist Value Master Fund Ltd. v. Ficeto, et al., Dkt. No. 11-0221-cv (2d Cir. 2012), presents one of the few Court of Appeals’ analyzes of the reach of the Supreme Court’s extraterritorial decision in Morrison v. National Australia Bank (No. 08-1191).

We have posted many times on the rulings by the District Court’s following Morrison, which held that Section 10(b) of the Securities Exchange Act of 1934 did not provide a private cause of action in “foreign-cubed” cases—cases where foreign plaintiffs sue foreign defendants for misconduct in connection with securities traded on foreign exchanges (hence “foreign cubed”). The Court rejected over 40 years of lower-court jurisprudence – which focused on where “conduct” and “effects” occurred or would be felt to determine the reach of Rule 10b-5. Instead the Supreme Court held that Section 10(b) reaches frauds only where “the purchase or sale is made in the United States, or involves a security listed on a domestic exchange” (slip op. at 21). 

We have expressed dubiety over what to us at times has seemed like too strict and truncated an analysis of the issues by the District Courts.  We posted specifically on the lower court’s decision in this very case.

The plaintiffs in the case are Cayman Island companies registered as hedge funds.  The defendants included non-U.S. nationals but also included U.S. nationals and corporations.  The penny stocks were not sold over U.S. securities exchanges but were traded in the U.S. over the counter or through Pink Sheets (i.e., in privately negotiated transactions) known as PIPEs (public investments in private securities).  

On appeal, the Circuit affirmed in part but reversed in most important part.  First, the Court of Appeals clarified that the issue before the courts is not one of subject matter jurisdiction.

Second, the Court of Appeals adumbrated the key rule as whether the “seller incurred irrevocable liability with the United States to deliver a security” or that “title was transferred within the United States”.  The first of those rules, said the Court,  is consistent with the rulings of several District Courts within the Second Circuit.  The second, said the Court, is that adopted by the Eleventh Circuit. 

The clarification of the rule led the Court to reverse this case to see if the plaintiffs could meet the requisite pleading standard.

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