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In its 2010 Morrison decision, the Supreme Court of the United States signaled an important change in its analysis of the extraterritorial application of federal securities laws, particularly in the context of massive “class actions” against non-US issuers. Prior to Morrison, analysis of this question was governed by the so-called “effects test:” if conduct outside the United States could be shown to have an effect within its territory, then US laws may apply to that conduct. Under this theory, shareholders who purchased shares in non-US companies on stock exchanges outside the United States could sue those companies under the US securities laws on a theory that the “effects” were felt in the US because of the losses they suffered there, often gaining huge leverage by establishing “class action” status and thereby generating massive damage claims. This approach created continuing conflicts with other sovereigns, who insisted that the regulation of companies located within their borders, and shares sold there, was not an appropriate interest of the United States. In Morrison, the Court rejected the “effects test,” and ruled that unless US federal legislation squarely states otherwise, there will be a presumption that the Congress only intended to create legal rights or obligations with respect to conduct that occurred in the United States. With respect to the securities laws, it concluded that a private litigant could rely on those laws only with respect to securities listed on a US stock exchange or actually purchased in the United States. On the basis of this decision, several class actions – including those against French companies such as Société Générale and Vivendi – were dismissed. The Morrison decision has also led to important limits in the extraterritorial application of US laws in other areas, as well; for example, in 2012 the Supreme Court in its Kiobel decision ruled that the US Alien Tort Statute – which provides a right of action to victims of certain kinds of human rights abuses – does not apply to conduct that occurred outside the United States.
Even in the framework of the federal securities laws, however, Morrison left at least two questions open. First, while Morrison limited private remedies such as class actions, did it also limit the power of the Federal Prosecutor to seek penal sanctions for violations of the criminal provisions of the US securities laws when the allegedly illegal conduct occurred outside the United States? And, second, how exactly can one determine (in the context of an international transaction, for example) if the “sale” took place within the United States, or not? In an important decision issued on August 30, 2013, in the case of United States v. Vilar, the United States Court of Appeals for the Second Circuit issued an opinion that provided answers to both of these questions. This opinion is not definitive since the Supreme Court has not yet spoken, but the Second Circuit Court of Appeals in New York has a particularly strong voice in the area of the federal securities laws and the opinion is thus worthy of note.
With respect to criminal enforcement, the question of whether principles of extraterritoriality applicable in a civil (class action) context would also apply in a criminal context might appear obvious, but the federal prosecutor strongly argued that criminal prosecutions should face different limitations because the goals are different. The goal of civil class actions is to compensate victims, who can always pursue the issuing company in the country where its shares are traded if foreclosed from a remedy in the United States. The goal of the Prosecutor is to protect American interests and deter conduct, such as fraud, that may harm those interests, which requires a more flexible and broader principle of extraterritoriality. This argument was, however, squarely rejected by the Court: a person or company can be accused of violating the fraud and other criminal provisions of the US securities laws only where those laws were applicable to the conduct in question under the principles announced in Morrison. The principles for extraterritorial application of the civil and criminal laws are, in this context, the same.
On the second question – which is to determine how, factually, to determine where a sale of a security took place for purposes of determining whether US laws applies to that sale — the Court focused on the physical location of the parties when they entered into a legally binding agreement to effect a sale: “a domestic transaction [to which the US securities laws apply] has occurred when the purchaser [has] incurred irrevocable liability within the United States to take and pay for a security, or … the seller [has] incurred irrevocable liability within the United States to deliver a security…..” While this analysis will be simple with respect to any securities listed on and purchased through a US stock exchange, for non-market sales it will require a factual analysis of exactly where the parties were when a legally binding agreement was formed. Indeed, in the Vilar opinion the Court made just such a factual analysis, and concluded that at least some of the securities transactions that formed the basis for the criminal convictions of the defendants had taken place in the United States, and thus affirmed the convictions.
The Morrison decision is correctly viewed as a watershed event that limits the effects of important US legislation on conduct of individuals and persons outside the United States. Adoption of a different and more flexible, or broader, test for criminal prosecutions than for civil litigations, as sought by the Prosecutor, would have risked significant confusion and once again threatened potential conflicts in sovereign interests. The Vilar decision has laid that risk to rest.
It is interesting to note that the New York City Bar filed a memorandum as amicus curiae (friend of the court) opposing the Prosecutor’s position, and suggesting the reasoning ultimately adopted by the Court.