Supreme Court Preserves But Limits SEC Disgorgement Power

• Published date: 01 July 2020
• Subject Matter: Corporate/Commercial Law, Securities
• Law Firm: Sheppard Mullin Richter & Hampton
• Author: Ms Sarah Aberg and Christopher Bosch

In Liu v. Securities & Exchange Comm'n, No. 18-1501, 2020 WL 3405845 (U.S. June 22, 2020), the United States Supreme Court upheld the authority of the Securities and Exchange Commission ("SEC") to seek disgorgement as an equitable remedy under 15 U.S.C. ' 78u(d)(5), so long as it "does not exceed a wrongdoer's net profits and is awarded for victims." Although Liu preserved the SEC's disgorgement powers as a general matter, it narrowed the criteria for appropriate equitable relief, effectively curtailing the SEC's ability to pursue unduly broad disgorgement remedies.

The SEC alleged that defendants defrauded foreign nationals investing in the United States EB-5 Immigrant Investor Program by misappropriating investors' funds earmarked for construction of a cancer treatment center. The EB-5 program allows non-citizens to pursue permanent residency by investing in growth projects so long as those projects provide jobs for U.S. citizens.

The United States District Court for the Central District of California, in addition to an injunction and fine, ordered disgorgement equal to the amount defendants raised from investors, inclusive of funds utilized for business expenses. Securities & Exch. Comm'n v. Liu, 262 F. Supp. 3d 957 (C.D. Cal. 2017). The United States Court of Appeals for the Ninth Circuit affirmed. Securities & Exch. Comm'n v. Liu, 754 F. App'x 505 (9th Cir. 2018). The Supreme Court granted certiorari to determine the extent of the SEC's disgorgement powers, whether net or gross.

Defendants argued that the Court's decision in Kokesh v. Securities & Exchange Comm'n, 137 S. Ct. 1635 (2017), that disgorgement is necessarily a penalty means that disgorgement imposed on them is not available at equity. Petitioners also argued that the disgorgement award was unlawful because it exceeded the bounds of traditional equity in three ways: (1) it failed to return funds to victims; (2) it imposed joint-and-several liability; and (3) it did not reflect deductions for legitimate business expenses.

In an 8-1 decision, the Court (Sotomayor, J.) held that the SEC may seek disgorgement. It also ruled that any disgorgement must be awarded for victims. Although the Court affirmed the SEC's authority to seek disgorgement, it acknowledged that the concerns raised by defendants create "considerable tension with equity practices." The Court therefore vacated the disgorgement order and remanded to the Ninth Circuit to issue an award that comports with the equitable principles...