On June 22, 2020, the United States Supreme Court held in Liu v. Securities and Exchange Commission (“Liu”) that a disgorgement award which (i) does not exceed a wrongdoer’s net profits and (ii) is awarded for victims is permissible equitable relief available to the Securities and Exchange Commission (“SEC”) in sanctioning securities fraud in a civil case.
Liu centered around the SEC’s enforcement measures against defendants who solicited investors to invest in the construction of a cancer-treatment center and subsequently misappropriated much of the funds raised in the offering. In its civil case against the defendants, the SEC sought disgorgement in an amount equal to the full amount of investments the defendants had raised from the investors. The defendants argued that such disgorgement would constitute punitive enforcement unavailable to the SEC in a civil case. The Ninth Circuit Court of Appeals, in affirming a District Court’s decision, upheld the SEC’s disgorgement of the full amount.
The Supreme Court’s Decision
In vacating the Ninth Circuit’s decision, Justice Sonia Sotomayor, writing for eight of the Supreme Court’s nine justices, stated that courts have routinely deprived wrongdoers of their unlawful gains as an equitable remedy. However, the Supreme Court held the SEC’s disgorgement in civil cases must be limited to the wrongdoer’s net profits, as opposed to disgorging the full amount of investments raised without deducting legitimate expenses. Otherwise, the disgorgement would exceed the bounds of an equitable remedy and become a punitive remedy impermissible in a civil case.
Additionally, the Supreme Court held that any disgorgements must be awarded for victims. The SEC his historically deposited portions of disgorgement proceeds into the United States Treasury to assist with funding the activities of the Inspector General and whistleblower payments, and the SEC maintains that this practice may still be justified after Liu in instances where distributing the disgorged funds to investors would be infeasible. While the Supreme Court explicitly left open the question of whether this practice satisfies the SEC’s obligation to award disgorged funds for victims, it noted here that the SEC had not claimed such infeasibility in Liu.
Impact of the Decision
The Supreme Court’s decision will allow the SEC to continue seeking disgorgement as an equitable remedy in its civil enforcement actions to combat securities fraud, a tool the SEC believes is vital to its investor protection mission. However, the SEC may no longer seek disgorgement of the full amount of investments raised in a particular offering and the SEC must award the disgorged funds for the victims.
The Supreme Court’s opinion in Liu can be found at this link.