The issue was simple, whether the SEC can get an equitable remedy of disgorgement beside remedies available under specific statutory provisions, this was for penalties and injunctive relief. Therefore, the Supreme Court enforced a stricter version of “the punishment must match the crime”. In addition to that, it held that a fair remedy “will lie within the net profits of the activity and not the entire investment”.
Petitioners Charles Liu and Xin Wang were solicited foreign nationals. They invested in the construction of a cancer-treatment centre. Further ahead, an SEC investigation revealed, misappropriation of the funds. This violated the terms of a private offering memorandum. The Securities Exchange Act of 1934, Section 15, allows the SEC to punish securities fraud through administrative and civil proceedings. In administrative proceedings, SEC asks for civil penalties and disgorgement. Civil actions provide for civil penalties and fair relief. The SEC brought a civil action against petitioners. They sought disgorgement equal to the full amount petitioners had raised from investors.
Petitioners argued that there had been expenses in conducting the business, and that not all the funds were misappropriated. The disgorgement remedy failed to consider legitimate business expenses. But District Court did not deduct these expenses. In addition to that, it held the petitioners are liable for the full amount. Furthermore, the Ninth Circuit affirmed the same. Another stance was SEC does not always return the entirety of disgorgement proceeds to investors. Thus, there is instead depositing a part of its collections in a fund in the Treasury.
The defendant argued based on the principle that it is inequitable that a wrongdoer makes profit out of his wrong. The SEC made a broad argument that “the very fact that it conducted an enforcement action” is enough to show that the relief benefits investors. This was a counter to the money not being returned to the victim. However, this argument did not impress Sotomayor and the rest of the bench.
Justice Sonia Sotomayor delivered the decision for a unanimous bench, joined by all except Justice Clarence Thomas. The Court had to find a delicate balance on the word “equitable”. Thus, fair award should not turn into a penalty or a punitive sanction. Furthermore, it stated that it was fair to limit the liability to net profits only after deducting the legitimate expenses. Therefore, the Court did not accept the joint and several liability theory, applied in the case. The individuals were to be dealt with following the net profits made from the activity.
The bench rejected imposition of disgorgement liability on a wrongdoer through joint-and-several liability. It runs against the rule in favor of holding defendants liable. Sotomayor rejected the practice of ordering disgorgement of all revenues. The lower Courts followed this practice. There were records showing expenses to third parties for such items as leases and cancer-treatment equipment. The award did not include the aforementioned expenses.
The disgorgement award does not have to exceed the wrongdoer’s net profits. Thus, the amount awarded to the victims was equitable relief.
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