Liu v. SEC: Supreme Court Places Limits On SEC Disgorgement

• Published date: 25 June 2020
• Subject Matter: Corporate/Commercial Law, Litigation, Mediation & Arbitration, Trials & Appeals & Compensation, Securities
• Law Firm: Ropes & Gray LLP
• Author: Ms Eva Carman, Daniel V. McCaughey, R. Daniel O'Connor, Daniel V. Ward, Matthew L. McGinnis and Annie Hancock

Introduction

On June 22, 2020, the Supreme Court issued its decision in the closely watched Liu v. SEC case, holding that the SEC has statutory authority to seek disgorgement so long as the amount of disgorgement does not exceed the defendant's net profits and is awarded for victims. The Court's decision leaves undisturbed the Court's 2017 ruling in Kokesh v. SEC, which held that claims by the SEC for disgorgement are subject to the five-year statute of limitations set forth in 28 U.S.C. ' 2462.¹

The SEC has express statutory authority to seek disgorgement in administrative proceedings, but no similar explicit statutory authority in enforcement matters brought in federal court. The SEC has relied upon the ability to seek disgorgement as an equitable remedy to recover ill-gotten gains from defendants in court proceedings. The Court's decision in Kokesh specifically declined to address whether or not the court-fashioned remedy of disgorgement was authorized in the first place. Practitioners and commenters seized on the Court's famous 'Footnote 3' to question whether the SEC was able to recover disgorgement at all.² A ruling limiting this disgorgement authority would have deprived the SEC of a key component of its enforcement authority.

While the Liu decision upholds the SEC's general disgorgement authority, it is not an unqualified victory for the SEC. Rather, the Court suggested any such disgorgement should be limited (1) to situations in which the disgorged amount can be disbursed to aggrieved investors, and not just deposited in the U.S. Treasury; (2) to the specific defendant's profits, rather than all profits from the alleged enterprise; and/or (3) to account for the deduction of legitimate business expenses.

The Kokesh Decision

The Liu decision picks up where the Court's 2017 decision in Kokesh left off. In Kokesh, the Court unanimously held that 'disgorgement' operates as a 'penalty,' rendering claims for disgorgement subject to the five-year statute of limitations set forth in ' 2462.³

The Court explicitly declined to address whether or not courts have authority to issue SEC disgorgement in its now infamous Footnote 3.⁴ The Court explained that, beginning in the 1970s, the SEC persuaded federal courts to order disgorgement as part of the courts' 'inherent power to grant relief ancillary to an injunction,' at a time when the SEC's only available statutory remedy in enforcement proceedings was injunctive relief barring future violations of securities laws.⁵

The...