To get a sense as to how the Justices might rule in Janus v. First Derivative Traders, a visit to the Oyez.org website is helpful. There, one can listen to the audio of the December 7, 2010 oral argument while the transcript scrolls down. And, as an added benefit, the photo and name of the Justice or attorney speaking appears along side each of their respective comments.
The Justices who asked the toughest questions of Petitioners were Justice Sonia Sotomayor, Justice Ruth Bader Ginsburg, Justice Elena Kagan and Justice Stephen Breyer. Justice Anthony Kennedy seemed slightly more sympathic. Not surprisingly, Kennedy’s line of question leaves one with the sense that he might be the swing vote.
In contrast, Chief Justice John Roberts during Petitioners' argument, spoke only to indicate his support for Petitioners. Justice Antonin Scalia showed his hand around 25 minutes in, revealing support for Petitioners. Indeed, Scalia, who had remained nearly silent while counsel for Petitioner spoke, became the leading interrogator when Respondent’s counsel’s time began. Justice Samuel Alito spoke rarely but showing he favored Petitioners' position. Justice Clarence Thomas was silent.
Who “Made” the Misstatements?
Justice Sotomayor was the first to jump in when she confronted Mark Perry, Petitioner’s counsel on who “made” the false statements. Sotomayor commented that the Respondents claim that “they [JCG and JCM] are the actual speakers because they were talking about their activities, and they used Janus as a conduit to deceive the market.” Sotomayor went on to compare this practice to a corporation using an outside market analyst to make misleading statements. She noted that“We don’t talk about the market analysts’ falsity; we talk about the company’s falsity, because the market analysts didn’t have scienter” (or knowledge of the false statement). The Justice probed further, as Perry defended his position, asking him: “Do you mean to say to me that puppets become a legal defense for someone who intentionally manipulates the market information?”
Who Had “Scienter” and Does it Matter?
Justice Ginsburg chimed in when she heard, the very odd assertion by Perry that while misstatments were made, “nobody had scienter.” Ginsburg said that “somebody made the decision that certain hedge funds would be allowed to engage” in market-timing. Perry, though admitted that the conduct of permitting the market-timing was attributable to JCM. And, Ginsburg got Perry to agree that JCM, in her words, “made the decision that violated the policy.” Nevertheless, Perry insisted that JCM was not a “primary violator” with respect to “these plaintiffs.”
Justice Anthony Kennedy helped Perry move his argument along. Kennedy said that even if JCM had scienter Perry is arguing that “they’re not liable anyway.” Perry agreed and pushed the Court to focus on “whether, scienter or no scienter, [can] JCM be held liable for the statements in another company’s prospectus.” Perry explained that “[t]he policy says funds are not intended for market timing. The adviser allowed 12 traders to trade frequently. The only wrongdoing, if there is any wrongdoing, was the failure of the adviser to disclose to the trustees the deviation from the policy. That is a state breach of contract. It may be a breach of fiduciary duty.”
Who Created the Misstatements and Who Paid Their Salaries?
Justice Kagan zeroed in on the mechanics of creating the statements. While Perry agreed that JCM paid lawyers who draft prospectuses, he refused to agree that JCM lawyers drafted the misstatements. Justice Ginsburg pushed Perry further stating that “in fact, it was JCM’s lawyers . . . they were in-house lawyers for JCM. And they served the Fund in doing the prospectus, but they were on the payroll of JCM, and they were in JCM’s legal department.” Perry swiftly responded that in-house counsel for investment advisers to mutual funds can “wear many hats” and that when working on fund matters, they were representing the Janus mutual funds, not the JCM. However, later in the argument, Ginsburg returned to this theme reminding Perry that though the trustees for the Funds had independent outside counsel, the people who drafted the prospectuses were the in-house lawyers. Eventually Perry did agree that the statements at issue in this case were drafted by these in-house lawyers on the payroll of JCM.
Kennedy asked Perry to consider whether an “alternate theory” might be advanced that “JCM is really the day-to-day managers in day-to-day active control of the Fund and therefore, should be chargeable as if it and the Fund are the same for purposes of making the statement?”
Claiming Petitioners could not have their cake and eat it too, Sotomayor asserted that Perry had to choose. Namely, if Perry insisted that the mutual funds were separate entities and thus, there could be no “control person” liability imposed on JCG, then Perry could not also argue that JCG/JCM were not primary violators. She asked Perry, “Under what theory would you defend an allegation that the investment manager who had control over the everyday affairs of the company, drafted or help draft the prospectus, hired the lawyers who helped draft it, wouldn’t be a control person? How would you defend that?” Perry relied upon the fact that the Board of Trustees for the funds reviewed and approved the prospectus language.
Using a Conduit to Commit Fraud
Justice Breyer posed a hypothetical for Perry.
“What -- what happens if the president of [an] oil company, knowing that the statement is false, says: We have discovered 42 trillion barrels of oil in Yucatan. He writes it on a piece of paper; he gives it to the board of trustees; they think it's true and they issue it. Joe Smith buys stock and later loses money. Can Joe Smith sue the president of Yucatan, of the oil company, for having made an untrue statement of material fact?”
Perry agreed that as an authorized agent of the oil company, the President could be subject to liability even though the trustees issued the statement. Then, by analogy, Breyer asked if the oil company President could be subject to liability, why couldn’t JCG and JCM who “after all, run every affair of the Fund?” Breyer characterized this as “an obvious, naïve question” for which he wanted Perry to furnish an answer that “anyone could understand.”
Perry attempted to distinguish the situation by describing the Fund trustees as the ones who govern the mutual funds and characterizing, in Breyer’s words, the mutual fund advisers like JCM as “helpers.” Breyer pushed the same conduit concept that Sotomayor earlier introduced. Breyer suggested that: “[T]he managers of a Fund, even though they are outsourced people brought in, are liable as principals if they get the false statement to the public through a conduit, the conduit being an entity or person that is unaware of the falsity of the statement.”
Perry insisted that the analogy was not apt as the Janus mutual funds are organized as Massachusetts business trusts, whereas JCM is a Delaware LLC. Moreover, Perry referenced the federal laws (the 1940 Act and the Advisers Act of 1940) as a detailed regulatory scheme that treats the adviser separately from the funds.
Justice Kennedy returned to the oil company hypothetical and Perry agreed that the Oil company itself could be subject to liability under 10b-5.
Justice Scalia asked Perry to clarify is JCM was ever an agent of the mutual funds. Perry said only with regard to what was listed in the contract with JCM, activities like selecting securities in the portfolio, but not with regard to “registering the Funds’ securities for sales, complying with the Federal securities laws preparing and issuing the prospectus.”
JCM in the Driver’s Seat
Justice Ginsburg seemed to make things plain when she said, in reviewing the 4th Circuit’s opinion this “could be reduced to a very simple statement . . JCM was in the driver’s seat. It was running the show. And if that can be proved, [the 4th Circuit] thought they would have a good case.”