Securities and Exchange Commission v. Gallagher

Background

The Securities and Exchange Commission (SEC) sued Steven M. Gallagher under section 17(a) of the Securities Act, section 9(a)(2) of the Exchange Act, section 10(b) of the Exchange Act, and Rule 10b-5. The SEC alleged that Gallagher used a Twitter account with more than 70,000 followers to encourage people to buy particular stocks while concealing that he was selling, or imminently intended to sell, his own shares. The SEC described this alleged practice as “scalping.” It also alleged that Gallagher sometimes made false or misleading statements and engaged in “marking the close”—placing trades near the end of the trading day to influence a stock’s closing price—in connection with SPOM and BZWR.

The SEC alleged scalping involving at least 59 issuers and claimed that Gallagher generated at least $3,177,000 in net trading profits. As one example, the SEC alleged that Gallagher bought 20 million AFOM shares, posted an enthusiastic Twitter alert the next morning, and then sold 13 million shares for an approximate $42,000 profit. The SEC also alleged that Gallagher placed end-of-day buy orders in SPOM and BZWR while sending private messages and public tweets encouraging others to buy those stocks.

Gallagher previously pleaded guilty in a separate criminal proceeding to one securities-manipulation count involving his scalping of SCIE. That criminal proceeding concerned only SCIE, while this civil action alleged conduct involving many issuers. In this action, Gallagher moved to dismiss parts of the SEC’s second amended complaint.

Court’s Analysis

The court applied Rule 12(b)(6), which asks whether the complaint contains enough factual allegations to make a claim legally plausible. At this stage, the court accepted the SEC’s well-pleaded allegations as true and drew reasonable inferences in the SEC’s favor. The court emphasized that this procedure tests whether the claims are adequately pleaded, not whether the SEC has ultimately proved them.

Scalping claims. Gallagher argued that he had no independent duty to tell his Twitter followers that he planned to sell his shares. The court rejected that argument as framed. It held that the SEC was not asserting a free-standing duty to disclose every fact. Instead, the SEC alleged that Gallagher chose to recommend stocks and that his recommendations became materially misleading because he omitted his then-present intent to sell those same stocks. Under the cited precedent, once a person speaks on a subject, the person must provide information necessary to keep the statements from being misleading.

The court also held that the SEC plausibly alleged materiality. A fact is material if a reasonable investor would likely view it as significantly changing the overall information available. The court concluded that a reasonable investor could consider it important to know that Gallagher was selling, or would soon sell, the stocks he was urging others to buy. The court rejected Gallagher’s arguments that his statements were merely opinions or promotional exaggeration, explaining that statements can be actionable when omitted facts make them misleading in context.

The court further held that the SEC plausibly alleged that Gallagher obtained profits “by means of” the alleged omissions for purposes of section 17(a)(2). The complaint supported an inference that failing to disclose his intent to sell caused more people to buy than would have bought with full disclosure, helping raise prices and allowing Gallagher to profit.

The court did not decide Gallagher’s argument about whether omissions alone can support scheme-liability claims under Rule 10b-5(a) and (c) and sections 17(a)(1) and (3). It concluded that the SEC had adequately alleged materially misleading statements by omission, so it did not need to resolve that additional issue at this stage.

Market-manipulation claim. The court held that the SEC plausibly alleged a violation of section 9(a)(2) through marking-the-close activity. The allegations described late-day transactions, Gallagher’s private messages and public tweets, and an alleged purpose of raising SPOM’s and BZWR’s prices so that he could sell shares for a profit. The court rejected Gallagher’s argument that the SEC had to show that manipulation was his exclusive purpose for making the trades. It also stated that, even if a “but-for” manipulation standard applied, intent would present a factual question, and the complaint alleged manipulative intent with sufficient particularity.

First Amendment argument. Gallagher argued that requiring disclosure of his planned stock sales would violate the First Amendment. The court rejected that argument, explaining that the First Amendment does not protect fraud and that securities-related commercial activity may be regulated to prevent deception. The court concluded that the alleged securities-law violations did not implicate Gallagher’s First Amendment rights in a way that required dismissal.

Disposition

Judge P. Kevin Castel denied Gallagher’s motion to dismiss and directed the Clerk to terminate the motion. The opinion resolved only the pleading challenge; it did not determine whether Gallagher is ultimately liable for the alleged securities-law violations.