The Stakes in the Janus Supreme Court Case

May 19, 2011

Matthew Larrabee discusses prospectus disclosure, primary liability and other issues being raised in the Janus Supreme Court case in this exclusive interview with Ignites associate editor Beagan Wilcox Volz.

Ignites: “Mutual fund disclosure obligations and legal exposure are changing or have been changing. How exactly are they changing?”

Larrabee: “Well, in a couple of different ways right now. The Supreme Court is addressing a very important decision for the mutual fund industry called the Janus case. And so, to that extent, from on high, things are changing from the top down. But there’s also a lot of activity with the SEC and with district courts in both examinations and litigation that’s affecting disclosure obligations and legal exposures for the mutual funds.”

Ignites: “So with the Janus case, what is at stake for the industry?”

Larrabee: “The Janus case is a remarkable case. Factually, it’s very unusual. The plaintiffs in that case are shareholders of the parent of the advisor, of the fund advisor. So the fund advisor had a public parent and shareholders of the public parent sued the advisor, even though they didn’t buy any shares in any mutual fund that was advised. So they’re saying that misrepresentations in the prospectus of a mutual fund can give rise to losses that they can recover, even though they never bought shares in the mutual fund.”

Ignites: “Losses at the parent company.”

Larrabee: “Losses at the parent company. In that case, the mutual fund shareholders have already been paid. They’ve had their claims about what happened to that mutual fund resolved and they got a lot of money. So that’s all taken care of and that’s not at issue in front of the Supreme Court.”

Ignites: “But at issue is whether it’s a primary or secondary liability. Why is that distinction important?”

Larrabee: “Well, if you’re trying to establish the liability of a mutual fund advisor here, you really can’t anymore get secondary liability. Under the Stoneridge decision, another Supreme Court decision, it’s essentially impossible to get aiding and abetting or other kinds of secondary liability imposed on a mutual fund or a mutual fund advisor. There are exceptions to that, but that’s the basic challenge here.”

“So, unless there is a way to hold the advisor primarily liable, then there’s really no way to hold them liable at all. In order to hold somebody primarily liable under Section 10-b and Rule 10 (b) 5, which was — those are the claims at issue in this case — they actually have to have made a representation. The representation has to be attributed to them. And, of course, in any mutual fund setting, the prospectus, which is where the representations are almost always contained, are issued by the fund. It is a prospectus of the fund. The representations most people in our industry would say are representations of the fund.”

“So this is saying because the advisor helped prepare the prospectus and because they had active management responsibilities for the mutual fund, then the case and the plaintiffs and the Fourth Circuit and the SEC are all saying the mutual fund advisor should be held primarily liable.”