StoneRidge Ruling Shields Third-Party Advisers

Enron advisers breathe a sigh of relief as the Supreme Court hands down a decision that's likely to get them off the hook

by Douglas McCollam

The faint popping sound you heard was Wall Street uncorking the bubbly for a rare piece of good news. The Supreme Court on Jan. 15 handed corporate bankers, lawyers, and accountants a long-sought-after victory by holding that they and others who do business with a corporation are virtually immune from lawsuits brought by disgruntled shareholders against the company.

The case involved StoneRidge Investment Partners. StoneRidge sued Motorola (MOT) and Scientific-Atlanta, which supplied equipment to Charter Communications (CHTR), a cable television company. The suit alleged that the companies entered into sham transactions that falsely inflated Charter's ad revenue. StoneRidge argued that this made the vendors themselves liable to shareholders, who relied on the false financial data in making investment decisions. The Court rejected that argument, saying that while the government can go after participants in such fraudulent schemes, federal securities law limits private investors to suing those directly responsible for publishing the false data.

Skeptics Question Broader Implications

Thomas Goldstein, co-head of the Supreme Court practice at the Washington law firm of Akin Gump Strauss Hauer & Feld, called StoneRidge one the most important securities cases ever decided by the Court. "It's a dramatic decision," Goldstein said. "The Court has largely closed the door to these third-party suits that were causing such shudders."

The most immediate reverberations of the ruling will be in cases involving Enron. The litigation storm that followed the collapse of the power giant swept up accountants, bankers, and other advisers who were targeted by plaintiffs for their alleged role in helping to conceal Enron's fraudulent activities. Traditionally, such advisers have enjoyed broad immunity from these kinds of suits. The shareholders' theory in StoneRidge threatened to overturn that standard; after the Supreme Court decision, most legal observers think those claims are permanently blocked.

But Stanley Grossman, StoneRidge's lead lawyer on the case, says third-party advisers should be restrained in their jubilation. The Court, he said, did not rule out holding corporate advisers liable if they play a role in making false disclosures to the investment community. Salvatore Graziano, a New York lawyer who represents several state retirement systems in securities fraud cases, agrees: "I don't think it's a very broad decision, actually. It may not have a big impact on other cases that involve scheme participants."

Joseph Grundfest, a Stanford University law professor who teaches securities law and corporate governance and advised the defendants in StoneRidge, says that's wishful thinking on the part of investors' attorneys. "This is 'toes up' for private plaintiffs in these kinds of cases," says Grundfest. "They are just trying to salvage what they can out of a litigation Waterloo."

In bringing the case, StoneRidge relied principally on the idea of "scheme liability." That theory holds that while the defendants may not themselves have put out fraudulent information, they were willing partners in a plan that resulted in such information being given to the public. In a 5-3 decision (Justice Stephen Breyer abstained), the Court found that while that might have been true, it still didn't allow private suits against third parties under securities laws. Those who "aid and abet" such schemes can only be prosecuted by the government, the Court ruled.

McCollam is a Washington-based legal correspondent for BusinessWeek.