When is a third party directly responsible for another company's stock fraud?

The Supreme Court is asked to draw this line. Arguments are set for October 9.

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This is one of the biggest securities-law showdowns in years. In this case, third-party suppliers allegedly assisted a cable company with the ”cooking” of its books. The decision, when applied, could affect lawyers, investment bankers, accountants and anyone who does business with a company found in violation of securities law.

StoneRidge Investment Partners is a Pennsylvania-based firm with $770 million under management. It invested in cable company Charter Communications. Cable-box makers Scientific Atlanta and Motorola were suppliers to Charter. They are accused of participating in a scheme to inflate Charter’s earnings by paying doctored fees.

StoneRidge says Scientific Atlanta and Motorola played a primary role in the fraud, giving shareholders the right to sue them directly. The cable-box makers say that they are not directly liable and can’t be sued by Charter’s shareholders. Their claim is that, at worst, they unknowingly ”aided and abetted” Charter’s fraud.

Multiple state governments filed a joint brief, and the solicitor general declined the SEC’s request to file a brief on behalf of the investors. Merrill Lynch, the Securities Industry and Financial Markets Association and Business Roundtable have all filed friend-of-the-court briefs.

Stephen Shapiro, a former deputy U.S. solicitor general, is being sued by Stanley Grossman. Both are lawyers.

Victory for StoneRidge could be bittersweet because one of its funds is heavily invested in Cisco Systems, the parent company of Scientific Atlanta. Then we have two justices, John Roberts and Stephen Breyer, who each own more than $50,000 of Cisco stock. They will likely excuse themselves from the case but could of course sell their shares and rejoin.

On the other hand, a loss for StoneRidge could spell a tough road for future plaintiffs when seeking to recoup losses from securities frauds. If the cable-box makers lose, fear of litigation will cause all legitimate business transactions to slow as companies are forced to proceed with caution and budget for possible actions.