Should the courts allow shareholders to sue a company's customers or suppliers when that company defrauds its shareholders? That's what trial lawyers wanted to be able to do. Instead, the Supreme Court delivered a decision that killed the concept of scheme liability -- perhaps once and for all.
Had it gone the other way, as the SEC desired, all sorts of business relationships would have been at risk. Bankers, accountants, suppliers, and, yes, lawyers could have been sued whenever a business they worked with turned out to be using fraudulent practices. Every business transaction would have to be vetted to ensure proper treatment so that there would be no chance of fraud coming back to bite the other party.
Yet GAAP rules are gray on purpose and allow broad interpretations. As a result, the cost to business -- and ultimately consumers and the economy -- would have been catastrophic had the court endorsed scheme liability.
Admittedly, on the surface, scheme liability appears to have merit, and its supporters certainly had compelling facts to support their arguments. According to the plaintiffs, Charter Communications
Charter ultimately paid a high price. Four of its employees ended up pleading guilty to conspiracy, and the company paid $144 million to settle a class action lawsuit brought by one of its largest shareholders, StoneRidge Investment Partners.
StoneRidge, however, also sued Motorola and Scientific-Atlanta for their parts in the scheme. Without their complicity, they argued, Charter wouldn't have been able to commit the fraud.
While that may seem like a reasonable conclusion, the court saw things differently. The court's decision cited the fact that securities laws limit private investor lawsuits to those directly responsible for publishing false data. Motorola and Scientific-Atlanta never said anything about the Charter sales. Moreover, they properly accounted for the sales on their books. The Supreme Court rightly held that they can't be sued because of Charter's actions.
Overall, the decision makes sense. In general, third parties have absolutely no control over how a company they do business with will use cash or products it receives in a given deal. Because those third parties can't prevent fraud from occurring, they shouldn't be held responsible for it.
Moreover, while private investors are barred from suit, nothing stops the SEC from exercising its full authority to go after those who "aid and abet."