One trend running through recent U.S. Supreme Court decisions is a sense of caution in expanding the scope of U.S. law to extraterritorial activities. To that end, the Court has instructed that a statute does not apply extraterritorially unless the text clearly shows the U.S. Congress intended such a result. Notably, the Tenth Circuit recently held that Congress has authorized the SEC to enforce the securities fraud laws extraterritorially in certain circumstances. Foreign actors should take note of this potential expansion of the SEC’s enforcement powers.
One of the cornerstones — if not the cornerstone — in the Supreme Court’s modern extraterritorial jurisprudence is the 2010 decision in Morrison v. National Australia Bank Ltd., 561 U.S. 247 (2010), where it held that Section 10(b) of the Securities Exchange Act (and Rule 10b-5 promulgated thereunder) did not apply extraterritorially. See 561 U.S. 247 (2010). However, in SEC v. Scoville, No. 17-4059 (10th Cir. Jan. 24, 2019), the Tenth Circuit held that with respect to SEC enforcement actions, the antifraud provisions of the securities laws apply extraterritorially “when either significant steps are taken in the United States to further a violation of those anti-fraud provisions or conduct outside the United States has a foreseeable substantial effect within the United Sates.” Here we harmonize these two significant decisions.
The U.S. Supreme Court’s Morrison Decision
Section 10(b) is used to challenge material misstatements and omissions made in connection with the purchase or sale of securities. In Morrison — a private securities fraud action — the Court first held that the statutory text of these antifraud provisions do not apply extraterritorially. The Court next examined whether the activity at issue — the purchase of securities of a foreign issuer by foreign persons on a foreign exchange—fell within the “focus” of Section 10(b). Plaintiffs argued that because the misstatements at issue arose from the activities of the defendant issuer’s Florida subsidiary and public statements made in Florida, they were seeking a domestic application of the statute that fell within the statute’s focus. The Court disagreed and held that “the focus of the Exchange Act is not upon the place where the deception originated, but upon purchases and sales of securities in the United States.” Accordingly, Section 10(b) would only apply to “transactions in securities listed on domestic exchanges, and domestic transactions in other securities, to which § 10(b) applies.” As the late Justice Scalia stated for the Court: “For it is a rare case of prohibited extraterritorial application that lacks all contact with the territory of the United States. But the presumption against extraterritorial application would be a craven watchdog indeed if it retreated to its kennel whenever some domestic activity is involved in the case.”
The Tenth Circuit’s Decision in Scoville
In Scoville, the United States Court of Appeals for the Tenth Circuit had the opportunity to examine the extraterritorial application of Section 10(b) (and Sections 17(a)(1) and (a)(3) of the Securities Act of 1933) in a SEC enforcement action. The Tenth Circuit held that the 2010 Dodd-Frank Act Amendments to the jurisdictional sections of the antifraud provisions makes clear in that context “that the antifraud provisions apply when either significant steps are taken in the United States to further a violation of those antifraud provisions or conduct outside the United States has a foreseeable substantial effect within the United States.” The court based its conclusion on the text of the 2010 Dodd-Frank Act, where Congress amended the 1933 and 1934 securities acts to state the following:
The district courts of the United States and the United States courts of any Territory shall have jurisdiction of an action or proceeding brought or instituted by the Commission or the United States alleging a violation of section 77q(a) of this title [Section 17(a) of the 1933 Securities Act] involving—
(1) conduct within the United States that constitutes significant steps in furtherance of the violation, even if the securities transaction occurs outside the United States and involves only foreign investors; or
(2) conduct occurring outside the United States that has a foreseeable substantial effect within the United States.
15 U.S.C. § 77v(c) (bracketed material added); see also id. § 78aa(b) (amended 1934 Securities Exchange Act providing federal district courts with “jurisdiction of an action or proceeding brought or instituted by the [SEC] or the United States alleging a violation of the antifraud provisions of this chapter involving–(1) conduct within the United States that constitutes significant steps in furtherance of the violation, even if the securities transaction occurs outside the United States and involves only foreign investors; or (2) conduct occurring outside the United States that has a foreseeable substantial effect within the United States”).
In so deciding, the Tenth Circuit addressed why the Dodd-Frank Amendments addressed extraterritoriality in the jurisdictional provision of the securities fraud statutes, and not in the substantive/merits section. It first noted that “Morrison . . . , contrary to forty years of circuit-level law, held that the question of the extraterritorial reach of § 10(b) did not implicate a court’s subject-matter jurisdiction; instead, other provisions of the securities acts gave district courts subject-matter jurisdiction to hear SEC enforcement actions generally.” Nevertheless, the Tenth Circuit held that “it is clear to us that Congress undoubtedly intended that the substantive anti-fraud provisions should apply extraterritorially when the statutory conduct-and-effects test is satisfied” because, among other items, the Supreme Court issued the Morrison opinion on the final day that a joint congressional committee considered the proposed Dodd-Frank Act, that committee published the final version of the bill several days later, it was enacted into law less than a month after Morrison, and Congress titled this section of the Dodd-Frank Act “STRENGTHENING ENFORCEMENT BY THE COMMISSION.”
After adopting the conduct-and-effects test, the Court had no qualms affirming the district court’s decision that the SEC could enforce the anti-fraud provisions in this instance. Scoville involved sales of revenue interests called AdPacks in a business called Traffic Monsoon that would ostensibly boost web traffic in order to rank websites higher on search engine results, but which allegedly operated as a Ponzi scheme. Even though some sales of, and offers to sell, the AdPacks were made to persons outside the United States, the defendant conceived and created Traffic Monsoon in the United States, he created and promoted the Adpack instruments over the internet while residing in Utah, and the servers housing the Traffic Monsoon website were physically located in the United States.
As Judge Briscoe noted in her concurring opinion, the court could just as easily have decided that this case involved the offer and sale of securities in the United States without addressing extraterritoriality issues. Traffic Monsoon was based in the United States, operated in the United States, and sold the AdPacks through computer servers based solely in the United States. However, in cases where foreign/domestic issues are a closer call, the SEC can be expected to rely heavily on the statutory conduct-and-effects test to flex its enforcement power. In the meantime, Morrison will continue to apply to private securities fraud actions.