Judicial Hobbling of the SEC: Gupta v. SEC (Part 3)

Counsel for Gupta filed a strong brief and the court sided with the Defendant, concluding that he had a right to litigate the constitutional claims in federal district court.

In considering whether to dismiss the case, the court had concerns over the SEC's motive in bringing the administrative proceeding, particularly given the different treatment afforded other defendants in similar circumstances.  As the court noted:

• A funny thing happened on the way to this forum. On March 11 2011 1 the Securities and Exchange Commission (the "SEC" or "Commission") - having previously filed all of its Galleon related insider trading actions in this federal district decided it preferred its home turf. . . .In language substantially similar to its complaints filed in this Court against some 28 other persons and entit accused of Galleon-related insider trading the SEC alleged that by virtue of such conduct, Gupta willfully violated Section 17(a) of the Securit s Act of 1933 and Section 10(b) of the Securities and Exchange Act of 1934 (the "Exchange Act"), including SEC Rule lOb-5 promulgated thereunder.

In other words, as the court described, the behavior was a "seeming exercise in forum-shopping".  The court also had concern over the retroactive application of the penalty provision in Dodd-Frank.  As the opinion noted:

• It appears undisputed that, prior to the enactment of the Dodd-Frank Act on July 21, 2010, the SEC had no power to impose such penalties in an administrative action against a nonregulated person like Gupta. Accordingly, since the conduct here complained of occurred in 2008-09, the OIP in effect seeks to apply Dodd-Frank retroactively, in seeming violation of the well established rule that a statute will be presumed not to impose penalties retroactively unless it expressly so states.

But whatever concerns the trial judge had over these issues, the case was supposed to be about the appropriate forum.  Under the traditional approach, Gupta would raise any legal issues in the administrative proceeding.  If unhappy with the outcome, he could appeal first to the Commission then to the US court of appeals.  One way or another, he would obtain judicial review of any relevant issue.

The court, however, concluded that Gupta had standing to raise his constitutional claim in a separate action.  Id.  ("Actually, however, since Gupta has alleged constitutional violations, the Court has jurisdiction pursuant to 28 U.S.C. § 1331, which grants district courts 'original jurisdiction of all civil actions arising under the Constitution, laws, or treaties of the United States.'").  To allow the case to go forward, however, had to overcome limitations set out in the APA.  Under Section 703 of the APA, actions are ordinarily limited to those "specified by statute".  5 U.S.C. § 703.  The SEC argued that the Exchange Act specified the form of proceeding (appeal of an administrative proceeding to the SEC then to the US Court of Appeals) and that Gupta was precluded from litigating the issues in any other forum.  See 15 U.S.C. § 78y(a) (1).  

The court, however, disagreed, relying on Free Enterprise Fund v. Pub. Co. Accounting Oversight Bd, 130 S. Ct. 3138, 3150 (2010).  In that case, the Supreme Court allowed plaintiffs to challenge the constitutionality of the PCAOB without first having to raise the issue in a case before the SEC.  As the Supreme Court noted:

• But we presume that Congress does not intend to limit jurisdiction if "a finding of preclusion could foreclose all meaningful judic review"; if the suit is "wholly collateral to a statute's review provisions"; and if the claims are "outside the agency's expertise."

In applying the test, the district court in Gupta v. SEC mostly viewed the constitutional question at issue to be a matter that was not within the competency of the SEC.  Id.  (with respect to the equal protection claim, it would, "if anything, . . .be inherently difficult for the Commission, which will have to approve any final order against Gupta, to be deciding whether it itself engaged in unequal protection in bringing its charges against Gupta.").  As a result, the court agreed that Gupta could raise the claim in a separate action.

Whatever the validity of the reasoning, the case really turned on the strength of the constitutional claim brought by Gupta.  In FEB v. PCAOB the issue was the constitutionality of the entire body.  In this case, the issue was whether Gupta was somehow singled out in an unconstitutional fashion with respect to the administrative proceeding.  The two claims are very different and it is not at all clear that FEC v. PCAOB supports the district court's view.  Nonetheless, we will look at the constitutional law claim in the next post. 

Primary materials in this case, including the court's opinion, can be found at the DU Corporate Governance web site.