In the second quarter of the year, the U.S. Supreme Court handed down two decisions with far-reaching implications for investors and companies alike. The Supreme Court also agreed to hear, in Fall 2023, the next in a line of cases challenging the constitutionality of the U.S. Securities and Exchange Commission’s administrative process. We expand below.
Who can sue? Slack Technologies, LLC, fka Slack Technologies, Inc., et al. v. Pirani
As U.S. courts continue grappling with applying long-standing statutory schemes to modern market activity, the U.S. Supreme Court recently issued its much-anticipated decision in Slack Technologies, LLC, fka Slack Technologies, Inc., et al. v. Pirani. The Courtheld section 11 of the Securities Act of 1933, a strict liability provision, requires a plaintiff to plead and prove it purchased securities registered under a materially misleading registration statement even if the stock purchase occurred through a direct listing1. In other words, tracing the shares in question to the plaintiff remains necessary to a statutory claim—irrespective of distinctions between direct listings and traditional IPOs.
Slack conducted a direct listing on the NYSE in 2019. Direct listings are a cheaper and often more convenient alternative to traditional underwritten IPOs, in which underwriters value and purchase the registered shares before selling to investors. Slack filed a registration statement for the listing under the 1933 Act, specifying the shares it planned to offer: 118 million registered shares and 165 million unregistered shares.
Fiyyaz Pirani purchased 30,000 shares at listing and another 220,000 after. When Slack’s price fell, Pirani sued Slack for violations of section 11 and on other grounds, claiming the registration statement for the direct listing was materially misleading.
Slack moved to dismiss, arguing Pirani failed to allege any of his shares were traceable to the supposedly misleading registration statement. The trial court denied the motion but certified an immediate appeal, which resolved in Pirani’s favor.
Because “such security” is undefined, the court analyzed how the phrase appeared elsewhere in the statute, concluding Slack had the better reading.
The Supreme Court then unanimously invalidated the appellate court decision and returned the matter to the lower court, holding that section 11 liability attaches only when purchased shares are traceable to the misleading registration statement. The Court’s holding turned on a contextual analysis. Section 11(a) states: “In case any part of the registration statement … contained [materially misleading information], any person acquiring such security … may … sue”2.
Slack argued the phrase “such security” meant one issued under the offending registration statement, while Pirani claimed it could include one that was not. Because “such security” is undefined, the court analyzed how the phrase appeared elsewhere in the statute, concluding Slack had the better reading. The Court also noted its holding was consistent with the majority of cases outside and within the Ninth Circuit until that court’s departure in Slack. That this relevant precedent pertained to IPOs, and not direct listings, was a distinction without a difference.
Slack exemplifies the difficulties of applying long-standing statutory schemes to modern-day markets.
Nothing in this decision impacts issuer liability under the Securities and Exchange Act of 1934, section 10(b); purchasers of untraceable shares can still bring claims under it, though plaintiff’s pleading burden is heightened (i.e., here, Pirani would have to prove Slack knowingly included materially misleading information in its registration statement).
Where to sue? Mallory v. Norfolk Southern Railway Co.
Nearly a decade ago, the U.S. Supreme Court established a bright-line test for where a company could be sued on any claim without considering the relationship between the claim and the forum where the claim is made. It concluded that such “general” jurisdiction applies in the one, and possibly two, states where the company is essentially “at home”—the state where (i) it is organized, and (ii) its headquarters is located3. The Court’s reliance on the “at home” doctrine in another, more recent decision, reinforced the rule4, which has been particularly impactful for non-U.S. businesses.
The Court has clarified that companies are susceptible to suit on any claim in each state where it has registered to do business.
In June 2023, the Court clarified that companies are also susceptible to suit on any claim in each state where it has registered to do business, and such state treats this registration as a consent to be sued in its courts. The majority’s decision in Mallory v. Norfolk Southern Railway Co.5 observed that its conclusion was compelled by a straightforward application of the Court’s 1917 ruling in Pennsylvania Fire Ins. Co. of Philadelphia v. Gold Issue Mining & Milling Co.6. In that case, the Court determined, more than 100 years ago, that states could demand consent from foreign companies to be sued in their courts in exchange for the right to do business there. Such laws do not offend the U.S. Constitution’s due process requirements.
Following a series of decisions that had consistently narrowed the jurisdictional reach of U.S. courts, the Mallory decision at once represents a pivot while harkening back to long-standing jurisprudence.
Companies will need to be mindful of the implications of formally registering to do business in a state, particularly when the state treats registration as a consent to general jurisdiction.
Stay tuned: Where can the U.S. government sue? Jarkesy v. U.S. Sec. & Exch. Comm’n
The Supreme Court appears poised to continue its recent trend of reining in administrative agency function. In October, the Court will review the decision in Jarkesy v. U.S. Sec. & Exch. Comm’n7. There, the appeals court invalidated a U.S. Securities and Exchange Commission (SEC) decision finding Jarkesy and his investment adviser committed securities fraud, holding: 1) the SEC’s in-house administrative proceeding process deprived petitioners of their Seventh Amendment right to a jury trial because that right otherwise attaches to fraud claims at common law8; 2) Congress unconstitutionally delegated legislative power to the SEC by failing to prescribe how the SEC should exercise its discretion to bring actions administratively versus in the Article III courts9; and 3) the statutory removal restrictions for the SEC’s administrative law judges are unconstitutional10.
Jarkesy is the latest in a line of Supreme Court decisions reviewing the constitutionality of U.S. administrative procedure. In Lucia v. SEC, the Supreme Court held the SEC’s administrative law judge appointment process was unconstitutional11. And earlier this year, in two consolidated cases, Axon Enterprise, Inc. v. Fed. Trade Comm’n, the Supreme Court held the SEC and Federal Trade Commission (FTC) administrative schemes were not intended to displace federal court jurisdiction to hear direct appeals from pre-final SEC and FTC agency decisions12.
The Supreme Court’s review of Jarkesy suggests it will continue circumscribing federal administrative processes and narrowing those enforcement mechanisms.
A finding that the SEC’s process is, in whole or part, unconstitutional will widely impact U.S. administrative agencies with similar structures and mandates, including the FTC.
We expect the SEC will opt for prosecuting securities fraud cases in federal court to avoid nondelegation and other constitutionality concerns until Supreme Court review concludes.
Slack Technologies, LLC, fka Slack Technologies, Inc., et al. v. Pirani, 143 S. Ct. 1433 (U.S. 2023).
Id. at 1439-40 (citing 15 U.S.C. section 77k(a)).
Daimler AG v. Bauman, 571 U.S. 117, 137-39 (2014).
BNSF Ry. Co. v. Tyrrell, 581 U.S. 402 (2017).
143 S. Ct. 2028 (U.S. June 27, 2023).
243 U.S. 93 (1917).
Jarkesy v. Sec. & Exch. Comm’n, 34 F.4th 446 (5th Cir. 2022)
Id. at 457.
Id. at 461.
Id. at 463.
Lucia v. Sec. & Exch. Comm’n, 138 S. Ct. 2044 (2018).
Axon Enterprise, Inc. v. Fed Trade Commission, et al., 143 S. Ct. 890 (2023).