Houston v. Seward & Kissel, LLP, 2008 WL 818745 (S.D.N.Y. 2008)

Brief Summary
A federal judge in Manhattan held that a lawsuit brought under the Oregon securities laws, ORS § 59.005 et seq. (the “Oregon Blue Sky Laws”), may proceed against a New York law firm for allegedly aiding and abetting securities fraud by a client hedge fund.

Complete Summary
In an action arising out of alleged fraud by an Idaho-based hedge fund, Oregon-based investor Howard Houston (“Plaintiff”) claimed that he invested $2.75 million in Wood River Partners (“Wood River”) based on documents prepared by its New York counsel Seward & Kissel, LLP (“Defendant”) that contained materially misleading and false statements and omissions. These included, but were not limited to, a representation that the fund would pursue a diversified investment strategy by not investing more than 10 percent of its portfolio in any one security.

From the beginning of 2005 to the summer of 2005, Wood River steadily accumulated stock in a company named EndWave. It continued to do so until, ultimately, 68 percent of Wood River’s assets were comprised of EndWave stock. EndWave’s share price then began to decline and, by mid-September 2005, had lost almost 50 percent of its value. Plaintiff lost his $2.75 million investment in Wood River. Wood River principal John Whittier pleaded guilty to violations of federal securities laws, was subsequently sentenced to 36 months imprisonment and was ordered to pay restitution of over $5 million.

In July 2007, Plaintiff sued Defendant under the Oregon Blue Sky Laws. In August 2007, Defendant moved to dismiss, asserting that Plaintiff’s claim was preempted by the federal National Securities Market Improvement Act (the “NSMIA”) and, additionally, that the application of Oregon Blue Sky Laws to a New York law firm representing an Idaho-based hedge fund would unconstitutionally burden interstate commerce.

The district court granted Defendant’s motion to dismiss Plaintiff’s claim for the allegedly unlawful sale of unregistered Oregon securities, but denied Defendant’s motion to dismiss Plaintiff’s claims for aiding and abetting securities fraud.

Noting that “Congress chose not to preempt state Blue Sky Laws in their entirety as it could have,” the district court found that the NSMIA did not preempt Oregon’s securities laws but rather specifically preserved state power to regulate securities fraud for federally covered securities. Id. at *5. More precisely, under the express language of 15 U.S.C. § 77r(c)(1), “states retain the ability to protect investors through application of state anti-fraud laws . . . .” Id. (internal citations omitted).

The district court also rejected Defendant’s Commerce Clause argument, reasoning that the Oregon law affected both in-state and out-of-state residents equally. The district court then noted that Defendant’s argument failed to recognize the state police power, which has been both recognized by Congress and upheld by the courts for almost a century.

Applying Oregon Blue Sky Laws to the facts of the instant matter, the district court reasoned that Oregon case law has found that attorney preparation of legal materials for an offering qualifies as participating in or materially aiding under ORS § 59.115(3). See, e.g., Adams v. Am. Western Securities, Inc., 510 P.2d 838 (Or. 1973). Accordingly, Plaintiff’s complaint alleged sufficient facts to justify the potential conclusion under Oregon law that Defendant had materially aided in the preparation of the offering documents.

Significance of Opinion
This case holds that lawyers and law firms involved in securities offerings may need to consider state, as well as federal, bases for potential liability.

This alert has been prepared by Hinshaw & Culbertson LLP to provide information on recent legal developments of interest to our readers. It is not intended to provide legal advice for a specific situation or to create an attorney-client relationship.

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Impaired and Poorly Behaving Partners: Managing the Risks

July 16, 2008, Noon-1:30 pm EST

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Tom H. Luetkemeyer, Lawyers for the Profession®  Practice Group, Hinshaw Culbertson LLP
Dr. Larry R. Richard, Vice President and Head of the Leadership & Organization Development Practice Group, Hildebrandt International

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Dealing with “problem” partners has always been a challenge for law firm leaders.  In recent years, however, it has also become a serious area of risk exposure as state bars, regulatory agencies, clients, and plaintiff’s lawyers have been increasingly willing to charge firms with accountability for the “lack of supervision” often evidenced in such behaviors.  In this virtual seminar, you will hear three experts – two professional responsibility lawyers and one lawyer/psychologist – describe the nature of these risks and offer some practical advice on dealing with these problems. 

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