## Facts

- From 1993–1994, a municipal securities underwriter participated in nine taxable municipal note offerings; an investment banker served as lead banker and helped prepare and review investor disclosure documents (official statements).
- The municipal issuers used offering proceeds for interest arbitrage—borrowing at low rates and investing at higher yields—and invested proceeds in investment pools managed by the Orange County Treasurer.
- The pools used leveraged, interest-rate-sensitive strategies that could produce above-market returns when rates stayed low but could generate substantial losses if rates rose.
- The official statements did not disclose that proceeds would be used for interest arbitrage or that proceeds would be invested in the Orange County leveraged pools.
- In 1994, interest rates rose, the pools suffered large losses, and Orange County entered bankruptcy; the SEC brought an enforcement action alleging negligent investigation and materially incomplete disclosures by the underwriter and banker.

## Issues

1. What standard of care governs a municipal securities underwriter’s conduct for purposes of SEC negligence-based claims under Securities Act § 17(a)(2)–(3) and MSRB Rule G-17: conclusive compliance with industry practice, or an independent “reasonable prudence” standard?
2. Under the correct standard, whether genuine disputes of material fact existed as to whether the banker’s investigation and disclosure conduct was negligent, precluding summary judgment.

## Decision

- The Ninth Circuit reversed summary judgment for defendants and remanded.
- The court held the standard of care for municipal underwriters is “reasonable prudence,” not mere conformity with prevailing industry practices.
- Industry custom may be considered as evidence of reasonableness but cannot control the negligence inquiry.
- The court concluded a factfinder could determine that a reasonably prudent underwriter would have investigated further and required fuller disclosure regarding the use of proceeds and the risks of the Orange County pools.

## Legal Principles

- In SEC actions under Securities Act § 17(a)(2)–(3), the required culpability showing is negligence rather than scienter.
- Negligence is also the applicable culpability standard for violations of Exchange Act § 15B(c)(1) and MSRB Rule G-17’s fair dealing prohibition in this context.
- The municipal underwriter’s duty is measured by objective reasonable prudence; courts independently assess reasonableness even where customary market practice points the other way.
- Where the record permits competing inferences about what the underwriter knew or should have known, and about the materiality of undisclosed risks, those questions are typically for the factfinder rather than resolution on summary judgment.

## Conclusion

The Ninth Circuit held that municipal underwriters in SEC enforcement actions are held to an objective reasonable-prudence standard, with industry custom treated as relevant but noncontrolling evidence, and it reinstated the SEC’s negligence-based claims because factual disputes about investigation adequacy and disclosure materiality required trial.


Securities & Exchange Commission v. Dain Rauscher, Inc., 254 F.3d 852 (9th Cir. 2001)