The Private Right of Action Under Section 10(b) and Rule 10(b)5

Sometimes it is worth reviewing the basics. How is it that an investor can bring a Section 10b-5 claim against a company and/or its officers and directors where Section 10(b) does not mention the right to sue?

15 U.S.C. §78j(b) provides that it is unlawful “[t]o use or employ, in connection with the purchase or sale of any security registered on a national securities exchange or any security not so registered . . . any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the Commission may prescribe as necessary or appropriate in the public interest or for the protection of investors.” In 1942, the SEC adopted Rule 10b-5, 17 C.F.R. §240.10b-5, which provides:

It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange,

(a) To employ any device, scheme, or artifice to defraud,

(b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or

(c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.

Neither the Section nor the Rule provides for a private right of action.

However, the United States Supreme Court provided for such a private right of action in a footnote in a 1971 case!

As the Court recently wrote in the Stoneridge decision,

"Though the text of the Securities Exchange Act does not provide for a private cause of action for §10(b) violations, the Court has found a right of action implied in the words of the statute and its implementing regulation. Superintendent of Ins. of N. Y. v. Bankers Life & Casualty Co., 404 U. S. 6, 13, n. 9 (1971). In a typical §10(b) private action a plaintiff must prove (1) a material misrepresenta- tion or omission by the defendant; (2) scienter; (3) a con- nection between the misrepresentation or omission and the purchase or sale of a security; (4) reliance upon the misrepresentation or omission; (5) economic loss; and (6) loss causation. See Dura Pharmaceuticals, Inc. v. Broudo, 544 U. S. 336, 341–342 (2005)."

Thus, the private right of action, one of the most important claims litigated in federal courts today rests on a single footnote in a Supreme Court opinion.

Edward X. Clinton, Jr.