Ernst & Ernst v. Hochfelder Case Brief

Why is the case important?

Ernst (Defendant), and accounting firm, failed to expose an escrow account fraud plan committed by the president of the brokerage firm that retained Ernst, causing Hochfelder (Plaintiff) to seek damages for negligence under § 10(b) of the 1934 Act.

Facts of the case

Question

Does an action for civil damages fail to fall under § 10(b) of the Securities and Exchange Act of 1934 and SEC Rule 10b-5 when lacking an accusation of intent to mislead, manipulate, or deceive on the part of the defendant?

Answer

(Powell, J.) No. An action for civil damages fails to fall under § 10(b) of the Securities and Exchange Act of 1934 and SEC Rule 10b-5 when lacking an accusation of intent to mislead, manipulate, or deceive on the part of the defendant. The usage and employment of “any manipulative or deceptive device or contrivance†in breaking SEC rules is illegal under § 10(b). The use of terms like “manipulativeâ€, “deceptive†and “contrivance†intensely advocate a congressional objective to prohibit a type of behavior nothing like negligence. Such terms imply deliberate or determined behavior intended to mislead or defraud investors. The history behind the legislation also backs an explanation like this. § 10(b) was intended as a “catch-all clause to prevent manipulative devices…the commission should have the authority to deal with new manipulative devices.†Terms like that would not be utilized by the drafters if the objective was to produce liability for simply negligent acts or omissions. A defendant could elude a liability by showing that the statement was made in good faith, as stated in the U.S. Senate report on the 1934 Act. Also each portion of the Act that is responsible for civil liabilities asserts that if recovery under S 10(b) has been generated judicially, to permit an action under § 10(b) on the grounds of negligence would permit causes of action developing under other portions of the act (§§ 11, 122, and 15) to be filed under § 10(b) “and thereby nullify the effectiveness of the carefully drawn procedural restrictions on these express actions.†Reversed.

Conclusion

The Court stated that the language of a statute controls when it is sufficiently clear in context. The Court held there could be no private cause of action for damages under § 10(b) of Act and Rule 10b-5 without an allegation of scienter, i.e., intent to deceive, manipulate, or defraud.

  • Case Brief: 1976
  • Petitioner: Ernst & Ernst
  • Respondent: Hochfelder
  • Decided by: Burger Court

Citation: 425 US 185 (1976)
Argued: Dec 3, 1975
Decided: Mar 30, 1976