Future of SEC enforcement authority under review

The imminent Supreme Court hearing in April for Sripetch v. Securities and Exchange Commission may not be grabbing headlines, but its outcome could potentially reshape the SEC’s enforcement authority by reeling in its power to punish wrongdoers. The Securities Exchange Act of 1934, enacted during the Great Depression, empowered the SEC to function as an independent entity entrusted with rebuilding trust in capital markets through investigations and prosecutions of federal securities law violations.

Originally limited to permanent injunctions, the SEC’s focus on insider trading in the 1960s led to the development of common law theories ensuring restitution for victims, notably through disgorgement. As the SEC’s enforcement toolset expanded, so did the scope of relief available. Concerns about deterrence precipitated Congress granting the SEC the authority to levy fines on those engaged in financial fraud, adding a punitive dimension to their arsenal beyond injunctions and disgorgement.

Following the enactment of the Sarbanes-Oxley Act in 2002, the SEC justified disgorgement as a means to deprive wrongdoers of their unlawful gains, rather than compensating victims fully, leading to questions about its punitive nature. In the Kokesh v. SEC case of 2017, the Supreme Court determined that disgorgement verged on being penal rather than strictly remedial, subjecting it to similar limitations as civil penalties under traditional equity principles.

The Liu v. SEC case of 2020 further refined the boundaries of permissible equitable relief, distinguishing punitive and remedial disgorgement by emphasising victim restitution, individual liability, net profit calculations after valid expense deductions, and eventual return of funds to victims. The burden of applying these principles in specific cases was placed on lower courts. Sripetch v. SEC delves into the core issue of defining a victim in securities fraud scenarios, focusing on the requisite extent of harm suffered by investors due to misconduct, whether pecuniary loss must be proven, and the transition from restitution to punitive measures in public securities law enforcement.

Should the Supreme Court lean towards a punitive interpretation of disgorgement in the Sripetch case, the SEC’s evidentiary requirements in lower courts would become more stringent, necessitating the demonstration of financial harm to secure judgements. Although Sripetch’s outlook may seem unfavorable given the SEC’s stance on proving pecuniary harm, pending amicus briefs from similar cases like SEC v. Barry before the U.S. Court of Appeals for the 9th Circuit could influence the court’s perspective on the evolving scope and purpose of disgorgement in regulatory enforcement.