March 12, 2009
Practical Implications of a Supreme Court Ruling in Jones v. Harris.
Posted by William Birdthistle

In a pair of final segments to my series of posts on Jones v. Harris, I will speculate separately on the practical and theoretical implications of a Supreme Court ruling.  So, let’s start with the practical.

First, a liminal question: why did the Supreme Court take the case?

Just because of a circuit split?  Unlikely.  The respondents argued in their brief in opposition to certiorari that there is, in fact, no circuit split here because the established Gartenberg precedent and the new Easterbrook standard are “substantively identical” and that therefore the petition raises merely “academic issues.”  While it’s true that under both standards plaintiffs are probably doomed, it’s difficult to argue that any discrepancies are merely illusory when both Easterbrook and Posner openly discussed the circuit split.  It’s even harder when the respondents’ own lawyers issued a “litigation alert” immediately after Easterbrook’s ruling heralding this “new standard” in the title.  Also, attempting to dismiss issues as “academic” may not be a terribly effective pejorative when describing the work of two academics, Easterbrook and Posner, to a Supreme Court comprising several former law professors.

Perhaps the more likely reason for granting certiorari was the vigor and prominence of Posner’s dissent.  Indeed, the public disagreement between Easterbrook and Posner did a great deal to ensure that the Court would take a case heavily implicating economic analysis.

So, how will the Court rule? 

Perhaps the Roberts Court will rule in favor of Easterbrook’s call for judicial restraint.  But to many experts in this field, Easterbrook’s opinion is anything but restrained: his disregard for the congressional enactment of a fiduciary duty strikes them as an intensely activist overruling of legitimate legislation.  Also, denying certiorari would have had the same effect as affirming Easterbrook.

Perhaps the Court will reaffirm and universalize Gartenberg.  But since that case is still in force in three circuits where large numbers of fund advisers are based (Second, Third, and Fourth), that project also seems an unnecessary use of the Court’s time.

The most likely outcome might therefore be for the Court to follow Posner’s prescription by enacting a “Gartenberg-plus” standard that adds additional factors to the Gartenberg analysis.  For example, the Court might require advisers to provide explanations and data justifying the discrepancy in prices they charge to institutional versus individual investors.  Advisers have long argued – and lower courts have long agreed – that advisers have good reasons for charging different fees to different investors in the same fund: e.g., individual investors cost more to serve since they need websites, individual statements, customer support, &c.  But in his dissent, Posner argued that it's a mistake not to compare these two fees since their relationship can reveal whether the entire industry is tacitly colluding to keep individual fees artificially high.  The Court might agree, ruling that if advisers have good reasons for charging different prices, they should disclose those reasons so that investors, trustees, and courts can evaluate how compelling they are.

What effect would such a ruling have?

If the Court were to issue a Gartenberg-plus ruling, it might be hoping to encourage two changes: fund advisers immediately lowering the fees they charge individual investors (since trying to raise fees on institutional clients seems far more difficult) and/or advisers producing internal data that attempt to justify any fee differentials.  Of course, to the extent that the data are unpersuasive, lower courts would be empowered to rule against fund advisers, a prospect that could also exert a downward pressure on fees.  (If there weren’t a profit cushion for advisers to give up, requiring more data could in fact lead to higher fees, but this industry is famously profitable.)

But would the Roberts Court ever decide against business and make it easier for plaintiffs to sue?

Many preconceptions about the Court may have been challenged with last week’s ruling in Wyeth v. Levine, when the Court upheld a patient's right to sue a drug manufacturer in the face of the manufacturer's arguments of federal preemption.  Jones v. Harris arguably presents an even more populist opportunity for the Court to protect individual investors from Bernie Madoffs at a time of economic calamity, if the justices are so inclined.

So individual shareholders will live happily ever after?

With 38 years of defeats under Gartenberg, plaintiffs may need more than just a little tweaking of the standard to mount credible litigation in future, so some commentators would like to see an even more comprehensive overhaul of the standard here.  One of the recurring challenges to plaintiffs is that lawyers like to take cases that will pay their expenses; to do so in this area, the defendants must manage large funds with deep pockets; but the highest fees are typically charged by small funds.  So the facts aren’t always great for plaintiffs.

Perhaps another solution lies outside the judicial system.  If a plaintiff with large legal resources and little economic motivation – i.e., the Securities and Exchange Commission – mounted a case on the strength of egregious facts, things might change.  But the SEC has never litigated excessive fees . . . prior to the Obama administration.

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