SecReg Unit 2 Cases PSE Disclosures

International Securities Regulation Case Digests Atty. Francis Lim

Agdamag | Magtoto | Quintos | Roco | San Pedro | Vergara 1

UNIT TWO REGULATION OF LISTED COMPANIES

A. Disclosure Requirements

Law

1. Sections 2, 17, 18, 23, 36, 51, 57, 62 and 63, SRC 2. SRC Rules 17.1, 18.1 and 23 3. Philippine Stock Exchange (“PSE”) Disclosure Rules

Cases

1. Basic, Inc. v. Levinson

485 U.S. 224 (1988)

Memory Aid of Case in One Sentence: Sellers of stock during period prior to formal announcement of merger brought Rule 10b-5 action in which it was alleged that material misrepresentations had been made due to denial of merger negotiations prior to official announcement. FACTS: Prior to December 20, 1978, Basic Incorporated was a publicly traded company primarily engaged in the business of manufacturing chemical refractories for the steel industry. As early as 1965 or 1966, Combustion Engineering, Inc., a company producing mostly alumina-based refractories, expressed some interest in acquiring Basic, but was deterred from pursuing this inclination seriously because of antitrust concerns it then entertained. In December 1978, Combustion Engineering, Inc., and Basic Incorporated agreed to merge. During the preceding two years, representatives of the two companies had various meetings and conversations regarding the possibility of a merger; during that time Basic made three public statements denying that any merger negotiations were taking place or that it knew of any corporate developments that would account for heavy trading activity in its stock. Respondents, former Basic shareholders who sold their stock between Basic's first public denial of merger activity and the suspension of trading in Basic stock just prior to the merger announcement, filed a class action against Basic and some of its directors, alleging that Basic's statements had been false or misleading, in violation of § 10(b) and Rule 10b-5, and that respondents were injured by selling their shares at prices artificially depressed by those statements. The District Court certified respondents' class, but granted summary judgment for petitioners on the merits. The Court of Appeals affirmed the class certification, agreeing that under a "fraud-on-the-market" theory, respondents' reliance on petitioners' misrepresentations could be presumed, and thus that common issues predominated over questions pertaining to individual plaintiffs. The Court of Appeals reversed the grant of summary judgment and remanded, rejecting the District Court's view that preliminary merger discussions are immaterial as a matter of law, and holding that even discussions that might not otherwise have been material, become so by virtue of a statement denying their existence.

ISSUE: W/N Basic committed fraud? SC ruled Vacated and remanded HELD: 1. The standard set forth in TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438, 96 S.Ct. 2126, 48 L.Ed.2d 757 (1976), whereby an omitted fact is material if there is a substantial likelihood that its disclosure would have been considered significant by a reasonable investor, is expressly adopted for the § 10(b) and Rule 10b-5 context. 2. The “agreement-in-principle” test, under which preliminary merger discussions do not become material until the would-be merger partners have reached agreement as to the price and structure of the transaction, is rejected as a bright-line materiality test. Its policy-based rationales do not justify the exclusion of otherwise significant information from the definition of materiality. 3. The Court of Appeals' view that information concerning otherwise insignificant developments becomes material solely because of an affirmative denial of their existence is also rejected: Rule 10b-5 requires that the statements be misleading as to a material fact. 4. Materiality in the merger context depends on the probability that the transaction will be consummated, and its significance to the issuer of the securities. Thus, materiality depends on the facts and is to be determined on a case-by-case basis. 5. The courts below properly applied a presumption of reliance, supported in part by the fraud-on-the-market theory, instead of requiring each plaintiff to show direct reliance on Basic's statements. Such a presumption relieves the Rule 10b-5 plaintiff of an unrealistic evidentiary burden, and is consistent with, and supportive of, the Act's policy of requiring full disclosure and fostering reliance on market integrity. The presumption is also supported by common sense and probability: an investor who trades stock at the price set by an impersonal market does so in reliance on the integrity of that price. Because most publicly available information is reflected in market price, an investor's reliance on any public material misrepresentations may be presumed for purposes of a Rule 10b-5 action. 6. The presumption of reliance may be rebutted: Rule 10b-5 defendants may attempt to show that the price was not affected by their misrepresentation, or that the plaintiff did not trade in reliance on the integrity of the market price

2. Wachovia Bank v. National Student Marketing Corp. 650 F.2d 342 (D.C. Cir. 1980)

Appellants: Wachovia Bank & Trust Co. Cross-Appellants: National Student Marketing Corp., etc. Facts:

• In December 1979, Wachovia bought approximately $5M worth of National Student Marketing Corp (NSMC) stock from the corporation and two of its directors. The purchase was a private placement transaction governed by



detailed purchase agreements. • Two months later, the market price of NSMC stock declined more than

60%, and NSMC announced that it expected to report a loss for the previous fiscal quarter.

• The SEC then began a two-year investigation of NSMC, which ended in February with the filing of an enforcement and injunction action against NSMC and the other major participants in NSMC's merger with Interstate National Corporation. The SEC charged that the price of NSMC stock had been artificially inflated in violation of the securities laws.

• The original complaint in this case sought damages from NSMC and several of its officers and employees and from Peat, Marwick, Mitchell & Co. (PMM), NSMC's independent auditor, etc. These defendants were charged with participating in a conspiracy to defraud investors by artificially inflating the price of NSMC stock and thereby violating various sections of 1933 and 1934 Acts.

o Alleged that misrepresentations about NSMC's financial condition had been included in oral statements, in press releases, in reports filed with the SEC, and in other published reports not filed with SEC. The fraudulent scheme was allegedly furthered by NSMC's acquisition of a number of corporations.

• The defendants moved to dismiss the complaint on two grounds: o The action was time-barred under the two-year statute of

limitations of the District of Columbia's blue sky law, o The sections of the securities acts on which the claims were

based did not provide for or allow a private right of action. • District Court à Held that a private remedy was implied under Sec. 10(b)

of the 1934 Act and under Sec.17(a) of the 1933 Act, but the court dismissed the action as untimely.

Issues:

• W/N the action is barred by the statute of limitations. à NO! DC reversed. • W/N an implied right of action is available to Wachovia under Sec. 10(b) of

the 1934 Act16 and the corresponding SEC Rule 10b-5, or whether plaintiffs are limited to the express remedies available. à YES, implied remedies available! DC affirmed. [main]

Ratio: THE ACTION IS NOT BARRED BY THE STATUTE OF LIMITATIONS

• For causes of action under securities laws, the forum state's statute of limitations rules. At issue here is which limitations period to apply: the three-year general fraud provision, D.C. Code § 12-301(8) (1973), or the two-year blue sky law provision, id. § 2-2413(e).

• Appellants bought NSMC stock in December 1969. The statute of limitations began to run at the end of February 1970, and the suit was filed in January 1973 more than two years, but less than three years, after the limitations period had begun to run. The district court found the two-year period applicable and accordingly dismissed the case for untimely filing.

• The question of the appropriate statute of limitations is an equivocal one because the trend in the federal case law has shifted. Federal courts once favored invocation of the general fraud limitations period for Rule 10b-5 actions. But during the last decade, the law has moved toward application of the blue sky law limitations period.

• Forrestal Village v. Graham (1977) à the two-year blue sky law provision, rather than the three-year general fraud limitations guideline, " 'best effectuates the federal policy involved.'

• So should the Forrestal decision be applied retroactively? DC applied it retroactively. CA disagrees! Should be prospective! Hence, the 3 year period applies.

o Chevron (US SC case) requires nonretroactive application of a decision that overrules law "on which litigants may have relied."

o Here, Wachovia relied on the law prevailing when the time they bought the NSMC stock, where the 3-year general fraud provision still applies.

• When should the period start to run? The Court applied the doctrine of equitable tolling.

• The doctrine of equitable tolling permits, with respect to fraud, the tolling of the limitations period until the plaintiff discovers, or should have discovered through the exercise of due diligence, the fraudulent activity. The DC didn’t apply this.

• CA à The doctrine applies. The statute of limitations cannot run until the events that implicated the accountants occurred, and these occurred in February 1970. The statute of limitations against the accountants should thus be tolled until that time. Given our holding above that the three-year statute of limitations applies to this case, appellants filed this suit against the auditor-defendants within the limitations period.

IMPLYING A CAUSE OF ACTION UNDER SECTION 10(B) AND RULE 10B-5

• The SC has recognized an implied cause of action under 10(b) many times. • Moreover, despite many efforts to amend related sections of the national

securities laws, Congress never saw reason to limit or constrict the application of implied remedies under section 10(b).

• The starting point for any inquiry regarding implied remedies is the intent of Congress in passing the statute in the first place. Cort v. Ash (1975) outlined the following four-step analysis to guide efforts to determine legislative intent:

Cort analysis As applied to this case First, is the plaintiff "one of the class for whose especial benefit the statute was enacted" that is, does the statute create a federal right in favor of the plaintiff?

Wachovia is within the specific class to be protected by the statute. Section 10(b) proclaims as its purpose "the protection of investors."

Second, is there any indication of legislative intent, explicit or implicit, either to create such a remedy or to deny one?

Secondly, a search of the legislative history yields little specific. Congress did not spend much time discussing 10(b), notwithstanding its clear place as a "catch-all clause to prevent



manipulative devices." Third, is it consistent with the underlying purposes of the legislative scheme to imply such a remedy for the plaintiff?

We find more than the requisite link between the existence of an implied cause of action and the broad purposes of the 1934 Act. A private right of action not only compensates the investors who are the beneficiaries of section 10(b) in general, but also affords a broad deterrent force against the fraud that the statute condemns. And, as the SEC argues forcefully in its amicus position, a private remedy is a necessary supplement to administrative enforcement because the Commission cannot do the job alone.

Finally, is the cause of action one traditionally relegated to state law, in an area basically the concern of the States, so that it would be inappropriate to infer a cause of action based solely on federal law?

• Application of the Cort criteria points in favor of Wachovia’s right to pursue a cause of action.

APPLICATION OF SECTION 10(B) TO NEWLY ISSUED SECURITIES • NSMC’s contention à The entire 1934 Act, of which Sec. 10(b) is a part,

is inapplicable to this case because the Act was intended to regulate securities only after distribution. It is the 1933 Act, say cross-appellants, which was meant to cover newly issued securities.

• CA à Such a rigidly compartmentalized analysis misses the clear intention of Congress and the overall purposes of the statutory scheme. Section 10(b) by its very terms applies to "any security," whether or not registered on a national exchange. The language was intended to be sweeping. Congress wanted securities legislation aimed at protecting against fraud to be construed "not technically and restrictively, but flexibly to effectuate its remedial purposes."

• Cross-appellants advance the legislative history of the 1934 Act as supportive of their interpretation. Even if the language of section 10(b) were not so plain, its legislative history would offer cross-appellants little solace. That history corroborates Congress' intent, as noted above, that 10(b) act as a "catch-all clause to prevent manipulative devices."

• The broad scope of section 10(b) has been widely recognized, and the section has been applied to newly issued securities and to those sold in private placements.

• Moreover, overlap between the two statutes is neither "unusual nor unfortunate." The 1933 and 1934 Acts are meant to be interrelated and interdependent components of a general scheme, and the two should be read together. There is no conflict between them, and their overlap in no way diminishes the plain meaning of section 10(b).

THE RELEVANCE OF EXPRESS REMEDIES • NSMC’s contention à Sec. 10(b) may not give rise to an implied

remedy because other specific sections of the 1933 and 1934 Acts provide pertinent express remedies. The argument smacks somewhat of a "Catch 22" arrangement because in each instance cross-appellants are at the ready to show that the express remedies are not really available to

Wachovia. And the argument has been unavailing in previous cases for reasons that are applicable here.

• It is true that the SC has expressed concern about implying private rights of action when express remedies have been created by statute, but that concern has been limited to cases in which the express remedies would be nullified if additional remedies were implied. Such circumvention can hardly be an issue here, where the express remedies are totally different from the remedy implied under sec. 10(b), and where the express remedies are meant to treat different problems and to be applied in different situations.

• Nothing in the remedy expressly provided by section 11 is inconsistent with an implied right of action under section 10(b). Under 10(b), negligence is not enough one is liable only for fraud. The higher burden of proof under section 10(b) is clearly a trade-off for the limitations on section 11 claims, and it accounts in part for the fact that there are two separate sections dealing with related problems. Moreover, according to the view urged by cross-appellants, section 10(b) would serve no useful function because fraud is included within the broad proscription of section 11. Indeed, if no remedies may be implied under 10(b), investors defrauded in a purchase of unregistered securities are left less protected than investors suffering losses as the result of typographical errors in a registration statement.

• For the same reasons, implying a remedy under section 10(b) creates no danger of circumvention of section 12(2) of the 1933 Act, which deals with false prospectuses and oral communications. The cause of action expressly provided by that section is available in the event of negligent misstatements, and again the more stringent fraud requirement of section 10(b) serves as a trade-off for section 12(2)'s short statute of limitations and apparent restriction of defendants to sellers of securities.

• Finally, NSMC points to Sec. 18 of the 1934 Act as providing an express remedy that precludes implication of a cause of action under Sec. 10(b). Section 18 makes any person filing a "false or misleading" statement with the SEC liable for damages caused by reliance on that statement. We disagree! There are various differences between the two sections which militate against regarding them as mutually exclusive. (omitted na. too long)

Conclusion • It is more than a decade since the collapse of NSMC’s stock, thus,

appellants must be given an opportunity to pursue the substance of their claims and, if appropriate, to recover for losses incurred as NSMC shareholders and alleged victims of securities fraud.

• We reverse the holding of the court below that it is the two-year statute of limitations for the District of Columbia's blue sky law that applies here and the holding that the doctrine of equitable tolling is unavailable to appellants. Accordingly, we find that this action is not time-barred under the District's three-year limitations period for general fraud claims.

• We hold further that appellants may rely on a remedy implicit under Sec.



10(b) of the 1934 Act, irrespective of the possibility of overlap between that implied cause of action and express remedies provided by other sections of the securities laws. Sec. 10(b) is peculiarly appropriate to the allegations of fraud made by appellants, and we find nothing in the legislative history of the securities laws or in recent SC opinions inconsistent with an implied right of action under Sec. 10(b). Reversed and remanded.

3. Financial Industrial Fund v. McDonnell Douglas, 474 F.2d 514 (10th Cir. 1973)

Financial Industrial Fund, Inc. v. McDonnell Douglas Corp. Plaintiff-appellee: Financial Industrial Fund, Inc. (a Maryland corp.) Defendant-appellant: McDonnell Douglas Corp. (a Maryland corp.) Gist: The plaintiff, Financial Industrial Fund, Inc., a mutual fund or mgmt investment company, brought this damage action against McDonnell Douglas Corp., and against the underwriter of Douglas, Merrill Lynch, Pierce, Fenner & Smith, Inc. The action is based on Rule 10b-5. The jury rendered verdicts against McDonnell, et al. in the amount of $712,500.00. Facts: • Financial Industrial Fund purchased 100,000 shares of common stock of Douglas in 1966. o 21 June — The decision to purchase was reached. o 22 June, 9:15AM (Denver time) — The actual purchases of 57,000 shares in the open market or over the counter began. Financial’s officer was surprised at the large # of shares offered so he ordered that purchases stop. o 23 June, morning. Nevertheless, 23,000 additional shares were purchased by Financial. No purchases were made from Douglas or Merrill Lynch. o 24 June. Financial heard of the announcement to the press by Douglas that its earnings for the last 6-mo. period were 12¢/share. • The said earnings figure for the period was far below estimates made by independent market analysts and brokers prior to such date and known to Financial. • Financial had not consulted with Douglas or Merrill Lynch before the purchase. The regular quarterly earnings statement for Douglas was not due until mid-July. This was generally known to investors including Financial. The public markets reacted to the 24 June special earnings statement of Douglas by beginning a substantial decline. • 1-8 July. Financial sold 80,000 Douglas shares between 1-8 July for a price substantially below the purchase price. • The appeal presents no issues concerned with any direct purchase and sale of stock between Financial Industrial Fund and Douglas, nor any issue of inside dealing or of “tipping” by Douglas. • Financial is in the position of any purchaser in the open market, and the information with which the case is concerned was public information. It (being a

mutual fund) is in the business of making money by the investment of the money of others, and as such holds itself out as an expert or professional. • On 27 May 1966, the president of Douglas was advised that the Aircraft Division of the company was experiencing delays in deliveries by its suppliers of components, and that the work force was not as efficient as had been expected. • A group of corporate officials was sent to determine the extent of the problems and it was reported that the delivery of 18 airplanes could not be made until the next fiscal year. • On 1 June, an announcement of the delay was made to the press. This concluded with a statement that earnings for the fiscal year would be adversely affected. The company had just completed the call of existing convertible debentures, most of w/c were converted to common stock as it was favorable for the holders. • On the same date, the directors approved the issuance of new debentures with Merrill Lynch as the underwriter. In connection therewith, a preliminary prospectus was soon issued (June 7th) w/c showed the first 5 months earnings (Dec through Apr) to be slightly below the same period for the prior fiscal year. The quarterly financial analysis was underway as was an evaluation of the stages of completion of some 381 airplanes. • Profit figures showing a loss of several millions for May were given on 14 June to an officer preparing the financial reports. • The president of Douglas sent 50-70 engineering, estimating, and accounting officials to the Aircraft Division to investigate the situation. These people reported back that the expected 6-mo. earnings figure for the entire company would be about 49¢. • During a meeting w/ outside auditors, it was decided that a substantial inventory write-down was required in view of the losses, and this would reduce the 6-mo. earnings figure from 49¢ to 12¢. • The president then ordered a press release to be prepared relating to the earnings so determined for the past six months. This was done the same day in time to be made public before the opening of the New York Stock Exchange on 24 June. The market price of Douglas stock declined to $76 on the 24 June. By the time Financial had sold its shares of Douglas, the stock closed at $64.50 per share. • The market price of the common stock of Douglas fluctuated in its fiscal year of 1965 between $71.75 and $24.50 per share, and in the following fiscal year to June, it fluctuated between $108.61 and $68.68. Earnings also fluctuated widely over the same period and prior thereto, as did annual gross sales. At the time in issue, Douglas had a backlog of orders for airplanes, which was substantial. Financial’s contention: The special earnings report of Douglas should have been issued some days before it was. Douglas’ contention: The elements of an action under Rule 10b-5 were not shown. Specifically, Financial failed to show facts to meet the scienter standards, w/c were applicable to a complaint alleging a failure to issue the special earnings statement at an earlier time. Issue: Whether the silence of Douglas at the date/s of the stock purchases by Financial gives rise to a cause of action under Rule 10b-5 — NO.



Ratio: • In Mitchell v. Texas Gulf Sulphur Co. and Gilbert v. Nixon, it is a req’t that the plaintiff must also exercise good faith in its purchase, due diligence, and demonstrate reliance on the acts or inaction of the defendant. • In this case, there is silence at the time of the occurrence of the operative events until the statement was issued. This is different from instances where a statement is released and the issue is whether the statement is correct. In the latter, there is a reasonably direct way to test the statement against the facts as they existed, all of which involve objective matters. • However, where the silence is at issue, the proof must be directed to the corporate and individual reactions to the facts showing a change in corporate circumstances, and how the decision was reached to issue a statement at a particular time. • The silence or the timing are matters w/c require the court to examine how these decisions were arrived at by using many subjective factors and by excluding hindsight. The business judgment rule • Since the timing decision is one concerned fundamentally and almost exclusively with matters of discretion and the exercise of business judgment, it is appropriate to consider the rationale of the “business judgment” rule. • The business judgment rule may be stated that the directors and officers of a corporation will not be held liable for errors or mistakes in judgment, pertaining to law or fact, when they have acted on a matter calling for the exercise of their judgment or discretion, when they have used such judgment, and have so acted in good faith. • Rationale: In order to make the corporation function effectively, those having management responsibility must have the freedom to make in good faith the many necessary decisions quickly and finally without the impairment of having to be liable for an honest error in judgment. • The rule itself, of course, is not directly applicable, and it is not to be so applied here, but the reasons for it are considered as extended to the corporate entity. • Based on the records of the case at bar, the decision of the officers and the corporate decision of Douglas to issue an earnings statement on other than the customary date for such statements, and the timing of such statement was a matter of discretion. • The information about which the issues revolve must be “available and ripe for publication” before there commences a duty to disclose, meaning the contents must be verified sufficiently to permit the officers to have full confidence in their accuracy. It also means, that there is no valid corporate purpose which dictates the information be not disclosed. • As to the verification of the data aspect, the hazards arising from an erroneous statement are apparent, especially when it has not been carefully prepared and tested. It is equally obvious that an undue delay in revealing facts, not in good faith, can be deceptive, misleading, or a device to defraud under Rule 10b-5.

McDonnell Douglas was in good faith and exercised due diligence. • Accdg to Financial’s EVP, his company had been considering the purchase of either Boeing or Douglas stock since the end of 1965 and news that United had purchased another $220M of Douglas Aircraft jets triggered him to suggest that it seemed like an appropriate time to purchase the stock. He was of the opinion that Douglas could make more money on this particular airplane. He testified as to the wide fluctuations in the price of Douglas stock. He was also aware that Douglas had some problems as early as April 1966 (delays in production, slow deliveries, labor problems, etc.) • The record shows the known slowdown in the assembly of planes with delays expected in the finished product; the investigation, and the public announcement of 1 May of the slowdown with the warning that it would “…have an adverse effect on earnings” for the current period. The problem in May was indicated and management reacted against on the 14 June when the May figures began to come in, showing a serious financial impact in May. However, there is nothing in the record other than speculation that the extent of the May loss could have been determined and translated into figures at an earlier date to develop a statement ripe for publication. • The record thus shows without contradiction as to McDonnell Douglas as a matter of law that there was exercised good faith and due diligence in the ascertainment, the verification, and the publication of the serious reversal of earnings in May. • Much of the earnings decline was caused by the large write-down of inventory, and the need for this as a proper accounting measure is not challenged by Financial. There were questions as to the timing of the write-down but the decision was not seriously challenged. • Furthermore there was no showing by Financial of the reliance required nor facts to meet the standard of due diligence on its part. It is apparent that an earnings statement issued by a corporation at any but the expected time, which shows any substantial change is bad news for someone who had been recently in or out of a fluctuating market. While there was a strong motive to delay the publication of figures on Douglas’ part, there was no proof that the delay was under Rule 10b-5. • To prevail, Financial had the burden of proof to establish that it exercised due care in making its stock purchase, that Douglas failed to issue the special earnings statement when sufficient information was available for an accurate release (or could have been collected by the exercise of due diligence), and to show there existed a duty owed by Douglas to Financial to so disclose, as to do otherwise would be a violation of Rule 10b-5, and upon inaction under such showing plaintiff relied to its detriment. • Douglas could show either good faith or the exercise of good business judgment in its acts or inaction. The evaluation of the significance of the change in its earnings as it might affect the corporation, its stockholders, or persons considering the purchase of stock, called for the exercise of discretion, and upon a showing of the exercise of due care in the consideration of the facts, a presumption



arose that the evaluation made was in the exercise of good business judgment although subsequent events might show the decision to have been in error. • The evidence as to Douglas, as indicated above, shows the presence of a strong motive to delay the publication of figures showing a decline in earnings, but there is no proof that there was such a delay within the legal standards set forth above. There was speculation and innuendo, but no facts. Fallo: The judgment is reversed and the case remanded with directions to enter judgment for McDonnell Douglas Corporation, notwithstanding the verdict.

4. State Teachers v. Fluor 654 F.2d 843 (2nd Cir. 1981)

SUMMARY: State Teachers filed a class action for damages against Fluor Corporation due to the latter’s nondisclosure of material information about a major contract (SASOL II), in violation of Sec. 10(b) of Securities Exchange Act of 1934. State Teachers also sought to recover damages from Manufacturers (a trust company) for allegedly purchasing Fluor’s stocks without disclosing that it had material information about the contract. District Court dismissed the action. State Teachers appealed. HELD: Court of Appeals found that Fluor did not breach its duty to disclose information involving SASOL II or to halt trading in Fluor’s stocks. Moreover, Fluor only acted in good faith and in compliance with the publicity embargo provided under the contract. There was no scienter on the part of Fluor hence, there is no violation of Sec. 10(b). Fluor cannot also be held liable for misrepresentation and omission (on the basis of Fluor’s denial and responses on questions involving the contract). There was no evidence of State Teacher’s reliance, which is an essential element of the claim, on the alleged “misrepresentation”. Moreover, intent to defraud was lacking on the part of Fluor. On the Tipping issue: CA found that State Teachers presented sufficient evidence to raise factual issues as to the nonpublic nature of information given to a security analyst and as to whether Fluor and Manufacturers acted with scienter à this part was remanded for further proceedings FACTS: THE CASE:

• An appeal from District Court’s DISMISSAL of State Teachers Retirement Board (State Teachers)’s class action against Fluor Corporation (Fluor).

• Class action: In behalf of ALL those who sold their Fluor’s stocks, without the knowledge of information regarding a construction contract

• Prayer: DAMAGES à for violations of Sec. 10(b) of 1934 Act; for tipping such info to Manufacturers Hanover Trust Company (Manufacturers) and; for failure to halt trading of its stocks.

THE PARTIES

• FLUOR à a California corporation with its headquarters in Los Angeles; a world-wide engineering and construction company

• STATE TEACHERS à a public pension retirement fund; one of the largest in the US with assets > $3B

• MANUFACTURERS à a trust company that was alleged to have been given insider info of the SASOL II contract by a security analyst; Bought a large number of Fluor’s share, including the ones being sold by State Teachers

BACKGROUND

• Sept. 1974: Fluor was invited, along with two other large construction companies, to submit proposals on a $1 billion project to build a coal gasification plant in South Africa for the South African Coal, Oil and Gas Corporation Limited ("SASOL")

• Feb. 24, 1975: Lester Winterfeldt (security analyst with Manufacturers) met with representatives of several companies, including Fluor. He spoke to Paul Etter (Fluor's Public Relations Manager) with J. Robert Fluor (CEO) and David Tappan (vice-chairman of Fluor).

• Feb. 25: SASOL informed Fluor that, subject to negotiating the terms of an agreement, Fluor would be awarded the project known as SASOL II

• Feb. 28 (3 days later) Fluor SIGNED an agreement with SASOL. • The agreement provided for an EMBARGO on all publicity regarding

the appointment of Fluor as contractor until March 10, 1975. (note: this was also the date of Fluor’s Annual Shareholders’ Meeting)

• PURPOSE of confidentiality: SASOL's need to complete delicate negotiations with the French government for financing prior to the contract's announcement.

• Feb. 28 (AM): Fluor's representative in South Africa telephoned Tappan and notified him that the SASOL II contract was either signed or about to be signed.

• Walter Russler (Fluor's Director of Investor Relations) began preparation of a news statement to be released on March 10.

• March 3: Winterfeldt discussed with Joel Tirchswell (senior VP at Manufacturers) what he had learned on his trip (meeting with Fluor etc.) (here, the tipping allegation arises)

• Afterwards, 2 groups of investment officers at Manufacturers decided to acquire a larger position in Fluor stock: about 200,000 more shares.

THE RUMORS • March 4 (AM) Russler and Etter received numerous inquiries from security

analysts regarding rumors that Fluor had won a contract for a large project.

• Neither Russler nor Etter commented on these rumors. • Starting March 3, the volume of trading in Fluor's stock increased over that

of previous weeks and the price moved up slightly. • March 5: David Geffner (specialist in Fluor stock on the Pacific Coast

Exchange) called to report rumors that Fluor had obtained a large contract in the Middle East and that there might be a tender offer for its stock.

• Moreover, Merill Lynch asked Russler whether Fluor had received the coal



gasification contract in South Africa. (note: factual dispute à W/N Russler DENIED or NO COMMENT)

• Russler contacted Reuters saying that the increased market activity probably reflected the anticipation of the company's final quarter earnings report and might also be attributable to the fact that the company was "being considered for some major orders."

• March 6: o Volume of Fluor stock surged 3-fold o Price increased from 22- 1/4 to 25. o Stock activity caused Jonathan Veniar (market analyst at the New

York Stock Exchange) to call Richard Humbert at Fluor's legal department

o Possible explanations for the increased volume: § Fluor had been advised that an unknown group was

interested in purchasing one million shares of the company's common stock;

§ Fluor had been awarded the as yet unannounced SASOL II contract, and

§ There were potential new jobs for Fluor in Iran and Saudi Arabia.

• March 7: NYSE halted trading on Fluor’s stocks pending an announcement on March 10

• DISCLOSURE à March 10 (AM): Fluor issued a press release announcing the signing of the SASOL II contract. Trading in Fluor’s stocks RESUMED at 11:16 AM

SELLING and BUYING of FLUOR’s STOCKS

STATE TEACHERS • Between March 3 and March 6: State Teachers SOLD 288,257 Fluor’s

stocks it held (amount $6.4 billion = 40% of the shares traded that week) • Basis of decision to sell: Belief that the future market price for Fluor stock

would not fully reflect the earnings from projects in foreign countries. MANUFACTURERS • Purchased 200K Fluor shares (in addition to more than 275,000 shares of

Fluor stock it has) • From March 3 to March 13, Manufacturers purchased a total of 292K

shares of Fluor stock. • Note: Manufacturers bought some of the stocks without knowing that the

stock was being sold by State Teachers. THE COMPLAINT and State Teachers’ ALLEGATIONS

• State Teachers alleged that Fluor committed fraud by: o FAILURE TO DISCLOSE news of the SASOL II contract o FAILURE TO HALT trading in Fluor’s stocks.

• Alternative duty to DISCLOSE arose when Fluor became aware of rumors in the marketplace.

• Fluor committed fraud by tipping information regarding the SASOL II agreement to Manufacturers before making a public announcement.

• Prayer: Damages from Fluor and Manufacturers for trading with exclusive knowledge of the signing of this agreement.

DISTRICT COURT PROCEEDINGS

• Amendment to the Complaint à More than 3years after these allegations were made, DC granted leave to State Teachers to amend the complaint to include a claim for violation of the NYSE Listing Agreement and Company Manual based on Fluor's failure to notify the Exchange of the SASOL II contract despite the rampant rumors in the marketplace.

• DC also permitted the addition of a claim for fraud based upon 2 incidents:

o Etter's alleged denial to a security analyst on March 5 that Fluor had received the SASOL II contract

o Russler's failure to tell the Reuters reporter about the contract

• DC refused to permit State Teachers to add the other section 10(b) claims against both Fluor and Manufacturers because they were unrelated to the SASOL II contract. (mainly because of the delay of the amendment since it was made 3 years after discovery)

• DC also refused to permit State Teachers to add J. Robert Fluor as a party defendant (situs reasons à DC California where Fluor’s HQ was located has jurisdiction over such claim)

DISTRICT COURT DECISIONS: SUMMARY JUDGMENT in favor of Fluor 1. On the failure to disclose the existence of the SASOL II contract

or to seek a halt in trading of Fluor stock in violation of section 10(b) and Rule 10b-5: HELD: NO LIABILITY for delay in the release of information where it is done in a good faith exercise of business judgment. Fluor's delay in announcing the SASOL II contract was due to a good faith effort to comply with the terms of the contract.

2. On Fluor’s alleged misstatement and omission of material facts: HELD: NO showing that State Teachers or any other stockholder relied on Fluor's statements to Merill Lynch. Russler's failure to tell the Reuters reporter that the SASOL II contract might explain the recent activity in Fluor stock did not exhibit an attempt to defraud investors.

3. On the allegation that Fluor tipped material inside information to Manufacturers: HELD: Granted Fluor’s motion for summary judgment because it found that the proof did NOT indicate that Manufacturers received any inside information. Manufacturers learned only that Fluor might be awarded the SASOL II contract, a fact known to other investors

Hence, this appeal. ISSUES: (note: FOCUS on 1st and 3rd issues)



1. W/N Fluor may have breached a duty to disclose information regarding the SASOL II contract or to halt trading in the Fluor stock in violation of section 10(b)? NO

2. W/N State Teachers has an implied federal right of action for violation of the New York Stock Exchange Listing Agreement and Company Manual based on Fluor's failure to notify the Exchange of the SASOL II contract despite rumors in the marketplace? None.

3. W/N Fluor may have made statements which misrepresented or omitted material facts in violation of Rule 10b-5? NO

4. W/N Fluor may have tipped inside information of the signing of the SASOL II contract to Manufacturers who in turn traded with knowledge of this inside information?

HELD: DC Decision AFFIRMED. REVERSED as to the “tipping issue” RATIO: by Court of Appeals, 2nd Circuit 1. DUTY TO DISCLOSE OR HALT TRADING

State Teachers: Fluor had a duty to disclose the signing of the SASOL II contract during the week of March 3 when rumors became rampant and the price and volume of its stock shot upward

Court of Appeals: Fluor was under NO obligation to disclose the contract. • A company has no duty to correct or verify rumors in the marketplace

unless those rumors can be attributed to the company. • NO evidence that the rumors affecting the volume and price of Fluor stock

can be attributed to Fluor. • Fluor responded to inquiries from analysts between March 4 and March 6

without comment on the veracity of the rumors and without making any material misrepresentation

• Assuming arguendo that there is a duty to disclose, there is no showing of any intent to defraud investors à Fluor's actions were made in a good faith effort to comply with the publicity embargo.

• NO evidence of scienter, which a prerequisite to liability under section 10(b).

Fluor had NO duty under section 10(b) to notify the Exchange and request that trading in its shares be suspended

• Fluor first heard of rumors in the marketplace regarding the SASOL II contract on March 4 when the volume of trading in Fluor stock had increased over previous weeks but there was no significant change in price.

• It was not until March 6 that the volume of trading in the stock and its price increased dramatically.

• No one at Fluor knew the reason for these market developments. • Moreover, Fluor agreed to the suggestion of the Exchange that trading be

suspended. This belies the claim that Fluor acted recklessly, much less with the fraudulent intent necessary for liability under section 10(b).

• Fluor's good faith is further evidenced by its endorsement of the Exchange's decision to halt trading. To say that Fluor should have notified the Exchange at some earlier time would be to create a standard of

liability under section 10(b) which gives undue weight to hindsight. 2. PRIVATE ACTION FOR VIOLATION OF NYSE LISTING AGREEMENT

AND COMPANY MANUAL Basically, the CA found that State Teachers have NO implied federal right of action for violation of (sec A2) stock exchange listing agreement and company manual. Contrary to its previous ruling in Van Gemert (which held that Exchange's Listing Agreement and Company Manual could provide a private right of action against issuers of securities), CA found that in Van Gemert there was a failure to comply with notice requirements of the Exchange which specifically apply to redemptions. On the other hand, in the case at bar – Fluor’s obligation to disclose general corporate news is broader than the other case’s specific notice requirements. Unlike the rules in Van Gemert, section A2 of the Exchange's Company Manual touches upon areas of corporate activity already extensively regulated by Congress and the Securities and Exchange Commission. Thus, a legislative intent to permit a federal claim for violation of the Exchange's Company Manual rules regarding disclosure of corporate news cannot be inferred.

3. MISREPRESENTATION AND OMISSION State Teachers: Fluor violated Rule 10b-5 when Russler falsely denied a rumor that Fluor had received the SASOL project and his response to Reuters that a possible explanation for the recent activity in Fluor stock was that Fluor was "going to announce earnings soon" and there had "been some rumors about big projects floating around." à Misleading omission of a material fact because Russler knew on that day that Fluor had received the billion dollar SASOL contract. CA: As to the misrepresentation claim: There was NO evidence of reliance • Court found no factual issues regarding State Teachers' lack of reliance on

the misstatement. • Reliance is an essential element of a 10b-5 claim based upon an

affirmative misrepresentation. As to the omission claim: Intent to defraud was lacking • There is a distinction between a company's right "to maintain a secret

when no statements are issued, and the affirmative obligations that attach under Rule 10b-5 when a corporation makes any sort of statement."

• It is simply not realistic to say that a corporation may determine when it will release information and then hold it liable when its representatives make comments as they inevitably will in the normal course of business that do not mention this information

• NO evidence that Russler or any other Fluor officer acted with scienter.

• Thus, it is immaterial whether or not Russler's statement to Reuters omitted any references to the signing of the SASOL contract.



4. TIPPING NEWS OF SASOL CONTRACT

State Teachers: Manufacturers traded with knowledge of material inside information regarding the SASOL contract. Winterfeldt's notes from the February 24 meeting which indicate that he was told that a $2 billion coal gasification project "could go" in South Africa in 1975. CA: No violation the tipped info was NOT a MATERIAL inside information and the tipper did NOT act with SCIENTER • Assuming that Fluor told Winterfeldt that a $2 billion coal gasification

project "could go" in South Africa that year, no Rule 10b-5 violation occurred because this was NOT material inside information.

• The very most Winterfeldt could have learned from Fluor regarding the SASOL project was that Fluor representatives were optimistic about the possibility of getting the contract.

• It was not until February 25 that Fluor learned from SASOL that they were the preferred contractor for the project.

• (Info was already public knowledge) There was evidence of existing public knowledge that SASOL II was in the planning stages, that Fluor was one of the few companies that could handle the SASOL II project and that Fluor had been the contractor for a previous SASOL project.

• Elkind case: “A skilled analyst with knowledge of the company and the industry may piece seemingly inconsequential data together with public information into a mosaic which reveals material non-public information. Whenever managers and analysts meet elsewhere than in public, there is a risk that the analysts will emerge with knowledge of material information which is not publicly available.”

Tipping liability requires that the tipped information be material and that the tipper-defendant act with scienter • Materiality issue: Whether the tipped information, if divulged to the public,

would have been likely to affect the decision of potential buyers and sellers

• Scienter requirement (more difficult question in this case) o Elkind case: “One who deliberately tips information which he

knows to be material and non-public to an outsider who may reasonably be expected to use it to his advantage has the requisite scienter."

o In the case at bar, there is evidence to suggest that Etter knew at the meeting with Winterfeldt that information about the possibility of Fluor receiving the SASOL contract was non-public and material. (factual question remain on W/N Fluor acted with scienter)

• Tipping liability against the Manufacturers also requires a showing of

scienter à that Manufacturers knowingly received inside information and used it to its advantage without disclosing it to the public.

o State Teachers said that Winterfeldt entered the February 24

meeting with a written summary of available public information and left the meeting with several added notations regarding the SASOL project.

o Manufacturers asserts that Winterfeldt did not discuss with anyone else at Manufacturers anything about Fluor stock until 8 days after the meeting. Had Winterfeldt known that he had received inside information he presumably would have notified the officers at Manufacturers much sooner.

o The fact remains, however, that these same investment officers purchased a block of Fluor shares the day after the meeting with Winterfeldt. (factual issue regarding Manufacturers' scienter)

Discussion on claims NOT related to SASOL II contract deleted.

5. Mitchell v. Texas Gulf Sulphur Co 446 F.2d 90 (10th Cir.)

FACTS: Texas Gulf Sulphur detected an anomaly on a plot of land dubbed as Kidd 55 in Ontario, Canada during its extensive mineral exploration. In 1963, TGS drilled a hole on it and concluded after visual examination that it had high ore content (copper, zinc, silver). During this stage, TGS only owned a fraction of the Kidd 55 property. As such, extreme precautions were taken such that no outsider would gain knowledge of the results of the explorations. By March 1964, TGS had acquired a substantial interest of the drill site. Drilling continued from April 10 to 12. On the morning of April 13, they encountered substantial copper mineralization. As much as they tried to suppress the nature and extent of their discovery, by early 1964, rumors generated excitement about TGS’ discovery. These rumors began to take effect in the Toronto Stock Exchange and would eventually reach the US. By April 11, the New York Times & New York Herald Tribune inquired as to the discovery. As a response, TGS officers prepared an official TGS statement which was released in April 12. A statement was drafted based on the data gathered on April 10 and they announced that they could not yet conclude that a commercial ore body existed and that no calculations as to the size or grade of ore could be made without further drilling. Also, by April 13 1964, TGS invited a journalist to visit the drill site. His article stated that the discovery was one of the most impressive drill holes completed in modern times. This article was published in April 16. Another press release was also given by its EVP Fogarty on the same day which revealed in some detail the magnitude of the discovery. Reynolds, Mitchell, and Stout were stockholders of TGS. They claimed that after relying on the April 12 press release but before hearing about the April 16 release, they sold their TGS stock. REYNOLDS claimed that he sold 500 of his TGS shares on



April 16 before learning of the said press release. He asserts that had he known of the discovery, he would have doubled his holdings. As for MITCHELL, upon his reliance on the April 12 press release, he instructed his broker to sell 400 TGS shares. Realizing that he still had 20 TGS shares unsold, he instructed his broker on April 17 to likewise sell the remaining TGS shares. As for STOUT, after hearing the April 12 press release and that the TGS discovery was overrated, he sold 1,000 TGS shares on April 21. They now seek to recover damages for violations of Sec. 10b of the Securities Act as well as Rule 10-B-5 for (1) failure to disclose on April 12 and prior to April 16 information as to the results of the drilling; and (2) for issuing an inaccurate, misleading, and deceptive press release published in April 12. Trial court found that the April 12 press release was false, misleading, deceptive, and fraudulent with respect to material matters disclosed by TGS’ drilling efforts and that they already knew at that time of the presence of ore-grade copper and zinc. ISSUE: WHETHER OR NOT TGS ISSUED A MISLEADING STATEMENT IN HIS APRIL 12 RELEASE HELD: REYNOLDS’ SALE: YES. MITCHELL’S SALE OF 400 SHARES: YES; BUT NOT THE 20 SHARES; STOUT’S SALE: NO Rule 10b-5 is plain, concise and unambiguous. It provides as follows:

It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange,

(1) To employ any device, scheme, or artifice to defraud, (2) To make any untrue statement of a material fact or to

omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or

(3) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person,

in connection with the purchase or sale of any security.

The misleading, misrepresented or untruthful character of the release may appear from the nature of the statement considered alone, or, when the facts are fully disclosed, from the half truths, omissions or absence of full candor concealed therein. Misrepresented or omitted facts become material, hence actionable under 10b-5, when, considering the complaining parties as reasonable investors, the disclosure of the undisclosed facts or candid revelation of misleading facts would affect their trading judgment. The implicit variables to be weighed in a materiality analysis are the magnitude and probability of the

occurrence of the event, set against the size and total activity of the subject company. The contested press release was issued during the afternoon of Sunday, April 12, and purported to be based on "work done to date" and "drilling done to date." This misrepresents and distorts the actual fact that the information upon which TGS formulated the release was current as of 7:00 p. m., April 10. Only in light of the rapid progression of available drilling information does this become forcefully significant. The recitation that "work to date has not been sufficient to reach definite conclusions and any statement as to size and grade of ore would be premature and possibly misleading" is a one-sided statement. No one could dispute that TGS could not have accurately defined the outer limits of the ore body as of April 12, but that is not the test. When TGS undertook to deny and clarify rumor and fact, they were bound to accurately depict the situation as they then knew it. The full magnitude may yet have been a mystery, but armed with the data available on the 12th, TGS was in a position to unveil the then known dimensions and drilling data of their discovery. Having failed to accurately portray what they knew, and commenting that the information was current when in fact it was sorely outdated, TGS misrepresented the facts of the Kidd 55 discovery. The duty evolving upon a company facing these circumstances is to speak truthfully, accurately and with total candor as to the material facts. That is not too much to ask of any company with the interest of its shareholders central to its commentary. It is what the SEC demands, what the law requires, and what every stockholder is entitled to. Simply stated, when the material information is available and ripe for publication, the difficulties inherent in formulating a release cannot overbear the accuracy of the statements contained therein. Nor is it reasonable to conclude that the detail of a full release will preclude its publication in these circumstances. Indeed, the thoroughness of the April 16 release stands as evidence to the contrary. RULE 10-B-5 ACTION DOES NOT REQUIRE THAT THE INSIDERS MUST BE TRADING IN THE MARKET In SEC v. Texas Gulf Sulphur Company, it was stated that:

Rule 10b-5 is violated whenever assertions are made in a manner reasonably calculated to influence the investing public, e. g., by means of the financial media if such assertions are false or misleading or are so incomplete as to mislead irrespective of whether the issuance of the release was motivated by corporate officials for ulterior purposes. It seems clear, however, that if corporate management demonstrates that it was diligent in ascertaining that the information it published was the whole truth and that such diligently obtained information was disseminated in good faith, Rule 10b-5 would not have been violated.



The Second Circuit in the Texas Sulphur case expanded this rationale to include protection for open market investors, including speculators, when misled by nontrading insiders. RELIANCE ON THE APRIL 12 PRESS RELEASE The dispute over the Mitchell sale is that he timed his decision to sell on speculation as to what the market was going to do. Again, the evidence of record does not clearly refute the finding that the primary motivation was the deceptive April 12 release. The Stouts' case is more difficult due to the time lapse between the corrective April 16 release and the sell order — more than 5 days later. But even with that entanglement, we cannot, on the basis of clear error, conclude from the record that the April 12 release was not a substantial factor in the Stouts' decision to sell. Greater difficulty is encountered with the second of appellants' two-pronged argument which directs itself to the issue of due diligence and good faith required of investors trading in the market. REYNOLDS traded within a reasonably brief time following the April 16 release and should not be denied his recovery. MITCHELL is in exactly the same position with regard to the 400 shares which were sold by April 17. Both testified that they were attempting to reap the maximum profit before the "gloomy" release took its toll. We conclude that good faith and due diligence were exercised in the sale of these shares. On the other hand, although mala fides is not involved, the record will not support a claim of due diligence in the Stouts' sale and in Mitchell's late sale of the 20 shares.

At some point in time after the publication of a curative statement such as that of April 16, stockholders should no longer be able to claim reliance on the deceptive release, sell, and then sue for damages when the stock value continues to rise. This is but a requirement that stockholders too act in good faith and with due diligence in purchasing and selling stock. Although Mitchell alleges that he ordered the 20 shares sold on the 17th, there is no dispute that they were not in fact sold until the 23rd. His explanation is that somehow the sell order was not properly communicated until the 22nd when he called his broker to inquire into their status. In the Stouts' case, there was no miscommunication. They simply did not intend to sell until the 21st. While in some circumstances such delays may not be unreasonable, we conclude that under the circumstances of this case it would unjustifiably extend TGS liability to intolerable limits. Between April 13 and April 22, TGS stock had increased in value from 301/8 to a high of 47, with the volume of sales going from 126,500 to over 326,000. But most significant is the abundance of publicity given the April 16 statement during the following few days. The business news of every major news publication carried the story with bold headlines. Indeed, the 45 pages of press clippings and stock quotations in the record gives force to the proposition that the April 16 release received saturation coverage. We conclude that by Wednesday, April 22 when the Stouts sold their stock, and Thursday, April

23 when Mitchell sold the 20 shares, the reasonable investor would have become informed of the April 16 release and could no longer rely on the earlier release in selling TGS stock.

6. Herman & MacLean v. Huddleston 459 U.S. 375 (1983)

Facts: Texas International Speedway, Inc. (TIS), filed a registration statement and prospectus with SEC offering a total of $4,398,900 in securities to the public to finance the construction of an automobile speedway. The entire issue was sold on the offering date, October 30, 1969. TIS did not meet with success and filed for bankruptcy. A class action was instituted against TIS and other participants including its accounting firm Herman & Maclean by Huddleston and other purchasers of TIS securities for alleged violations of § 10(b) and SEC Rule 10b-5. Herman & MacLean issued an opinion concerning certain financial statements and a pro forma balance sheet that were in the registration statement and prospectus. Allegation of engagement in a fraudulent scheme to misrepresent or conceal material facts regarding the financial condition of TIS, including the costs incurred in building the speedway. It was submitted to the jury with the instruction that liability could be found only if the defendants acted with scienter and thru preponderance of evidence. The jury and district court ruled against TIS & company. TIS et al appealed and the CA held that cause of action under § 10(b) for fraudulent misrepresentations and omissions can be raised even when actionable under § 11 of the 1933 Act. 640 F.2d 534, 540-543 (1981). However, according to CA the appropriate standard of proof for an action under § 10(b) is "clear and convincing" evidence. CA reversed and remanded for New trial. It was raised to the SC on certiorari. Issues: 1) whether purchasers of registered securities who allege they were defrauded by misrepresentations in a registration statement may maintain an action under § 10(b) notwithstanding the express remedy for misstatements and omissions in registration statements provided by § 11 of the Securities Act of 1933? YES! 2) whether persons seeking recovery under § 10(b) must prove their cause of action by clear and convincing evidence, rather than by a preponderance of the evidence? NO! Ratio:



I. The Acts created several express private rights of action and federal courts have implied private remedies under other provisions. A private right of action under § 10(b) of the 1934 Act and Rule 10b-5 has been consistently recognized for more than 35 years. The two provisions involve distinct causes of action, and were intended to address different types of wrongdoing. Section 11 allows purchasers of a registered security to sue when false or misleading information is included in a registration statement. Plaintiff need only show a material misstatement or omission to establish his prima facie case. Liability against the issuer of a security is virtually absolute, even for innocent misstatements. Other defendants bear the burden of demonstrating due diligence. In contrast, § 10(b) is a "catch-all" antifraud provision, requires burden to establish a cause of action. It can be brought by a purchaser or seller of "any security" against "any person" who has used "any manipulative or deceptive device or contrivance" in connection with the purchase or sale of a security. Most significantly, he must prove that the defendant acted with scienter, i.e., with intent to deceive, manipulate, or defraud. Since § 11 and § 10(b) address different types of wrongdoing, we see no reason to carve out an exception to § 10(b) for fraud occurring in a registration statement just because the same conduct may also be actionable under § 11. Same was held in Ernst v. Ernst which held that actions under § 10(b) require proof of scienter, and do not encompass negligent conduct. In so holding, we noted that each of the express civil remedies in the 1933 Act allowing recovery for negligent conduct is subject to procedural restrictions not applicable to a § 10(b) action. A cumulative construction of the securities laws also furthers their broad remedial purposes. In furtherance of that objective, § 10(b) makes it unlawful to use "any manipulative or deceptive device or contrivance" in connection with the purchase or sale of any security. The effectiveness of the broad proscription against fraud in § 10(b) would be undermined if its scope were restricted by the existence of an express remedy under § 11. Accordingly, we hold that the availability of an express remedy under § 11 of the 1933 Act does not preclude defrauded purchasers of registered securities from maintaining an action under § 10(b) of the 1934 Act. To this extent, the judgment of the Court of Appeals is affirmed. II. In a typical civil suit for money damages, plaintiffs must prove their case by a preponderance of the evidence. Similarly, in an action by the SEC to establish fraud under § 17(a) of the 1933 Act, 15 U.S.C. § 77q(a), we have held that proof by a preponderance of the evidence suffices to establish liability. The same standard applies in administrative proceedings before the SEC, and has been consistently employed by the lower courts in private actions under the securities laws.

The Court of Appeals nonetheless held that plaintiffs in a § 10(b) suit must establish their case by clear and convincing evidence. The Court of Appeals relied primarily on the traditional use of a higher burden of proof in civil fraud actions at common law. The antifraud provisions of the securities laws are not coextensive with common law doctrines of fraud. Where Congress has not prescribed the appropriate standard of proof and the Constitution does not dictate a particular standard, we must prescribe one.Thus, we have required proof by clear and convincing evidence where particularly important individual interests or rights are at stake. By contrast, imposition of even severe civil sanctions that do not implicate such interests has been permitted after proof by a preponderance of the evidence. A preponderance of the evidence standard allows both parties to "share the risk of error in roughly equal fashion." The balance of interests in this case warrants use of the preponderance standard. CA decision affirmed in part and reversed in part. Remanded.

7. Elkind v. Liggett & Myers 635 F.2d 156 (2nd 1980)

SUMMARY PARAGRAPH: THIS CASE PRESENTS A NUMBER OF ISSUES ARISING OUT OF WHAT HAS BECOME A FORM OF CORPORATE BRINKMANSHIP-NON-PUBLIC DISCLOSURE OF BUSINESS-RELATED INFORMATION TO FINANCIAL ANALYSTS. THE ACTION IS A CLASS SUIT BY ARNOLD B. ELKIND ON BEHALF OF CERTAIN PURCHASERS (MORE FULLY DESCRIBED BELOW) OF THE STOCK OF LIGGETT & MYERS, INC. (LIGGETT) AGAINST IT. THEY SEEK DAMAGES FOR ALLEGED FAILURE OF ITS OFFICERS TO DISCLOSE CERTAIN MATERIAL INFORMATION WITH RESPECT TO ITS EARNINGS AND OPERATIONS AND FOR THEIR ALLEGED WRONGFUL TIPPING OF INSIDE INFORMATION TO CERTAIN

PERSONS WHO THEN SOLD LIGGETT SHARES ON THE OPEN MARKET. FACTS: Liggert is a diversified company listed with the NYSE with business in the tobacco industry, liquor (importer of J&B Scotch), pet food (Alpo). In order that the financial community appreciate its market activity, Liggert initiated an “Analyst Program” wherein it encouraged closer contact between financial analysts and Liggert’s management. In 1971, Liggert had a record year with $4.22 per share. This spilled over to the first quarter of 1972. In March and May 1972, it issued a press release as well as its first quarter figures showing its prosperity which led to optimism in the financial community over Liggert’s prospects. In said reports, it indicated that it predicted a 10% increase in earnings in 1972 over the 1971 earnings and that it was well-positioned to take advantage of industry trends. It did nothing to deflate the enthusiasm.



However, figures in April and May 1972 showed a sharp decline and that, internally, only a 2% increase in earnings was projected. Share prices were also projected to decline from $4.30 to $3.95. No public disclosure of the adverse financial developments were made at this time. On July 10, 1972, Peter Barry (analyst for Kuhn Loeb & Co.) spoke by phone with Daniel Provost (Liggert’s Director of Corporation Communications). Provost confirmed with Barry that J&B Scotch sales were going down due to stockpiling by consumers who were anticipating for a price increase for said commodity. Moreover, it was also revealed that a new dog food was adversely affecting Alpo’s sales. Provost did not also give a definitive answer when asked if the 10% earnings projection was realistic. After their conversation, Barry relayed the information to his firm and conveyed to its clients who had interests in Liggert. As a result of this, a client who sold 100 Liggert sales he owned. However, an investor owning 600,000 shares did not. On July 17, 1972, Robert Cummings (analyst of Loeb Rhodes & Co) questioned Ralph Moore (Chief Financial Officer of Liggert) about its financial condition. Moore grudgingly affirmed that there was a possibility that earnings would go down. Moore added that the information was confidential. Nonetheless, Cummings relayed this information to his firm and another stockholder who immediately sold 1,800 shares of Liggert stock. On July 18, 1972, the Board issued a press release at 2:15 PM and disclosed their preliminary earnings data showing that the June earnings was $.20 per share compared to the $.44 per share in June of 1971. Liggert attributed the decline to short comings in all of Liggert’s product lines. Elkin brought a securities fraud class suit against Liggert on the ground that (1) Liggert violated the Securities Act by issuing misleading statements, nondisclosure of material information, and failure to correct the projections; and (2) Liggert unlawfully traded on the basis of tipped inside information during the period of July 10 until its press release in July 18, 1972. District court dismissed the charge that Liggert had the obligation to disclose and correct the projections but held Liggert liable on the charge of trading on tipped information. ISSUE/HELD: WHETHER LIGGERT HAD THE DUTY TO DISCLOSE/CORRECT PROJECTIONS. NO. Liggett assumed no duty to disclose its own forecasts or to warn the analysts (and the public) that their optimistic view was not shared by the company. While we find no liability for non-disclosure in this aspect of the present case, it bears noting that corporate pre-release review of the reports of analysts is a risky activity, fraught with danger. Management must navigate carefully between the “Scylla” of misleading stockholders and the public by implied approval of reviewed analyses and the “Charybdis” of tipping material inside

information by correcting statements which it knows to be erroneous. A company which undertakes to correct errors in reports presented to it for review may find itself forced to choose between raising no objection to a statement which, because it is contradicted by internal information, may be misleading and making that information public at a time when corporate interests would best be served by confidentiality. Management thus risks sacrificing a measure of its autonomy by engaging in this type of program. Since Liggett had not undertaken to pass on earnings forecasts, however, it did not violate any duty to correct these figures. ISSUE/HELD: WHETHER LIGGERT WAS ENGAGED IN FALSE/MISLEADING STATEMENTS Plaintiff's second argument on appeal is that Liggett's officers intentionally engaged in misleading behavior by their repeated assertions that 1972 was expected to be a good year, knowing that the listening analysts might understand this to confirm their predictions of a 10% increase in earnings, when in fact Liggett expected a less bountiful harvest and had figures showing that the company had fared poorly in April. The district court found this claim to be substantially a restatement of the “duty to disclose” claim which it had rejected. The misleading character of a statement is not changed by its vagueness or ambiguity. Liability may follow where management intentionally fosters a mistaken belief concerning a material fact, such as its evaluation of the company's progress and earnings prospects in the current year. We cannot conclude as a matter of law that comments such as “we expect another good year in 1972” were likely to confirm the optimistic projections then in circulation or to lead the sophisticated and experienced listeners astray or that they misrepresented the views of management at the time. ISSUE/HELD: WHETHER OR NOT LIGGERT IS LIABLE FOR TRADING BASED ON TIPPED INFORMATION. ONLY FOR THE JULY 17 TIP The knowing use by corporate insiders of non-public information for their own benefit or that of “tippees” by trading in corporate securities amounts to a violation of Rule 10b-5, which may give rise to a suit for damages by uninformed outsiders who trade during a period of tippee trading. The duty imposed on a company and its officers is an alternative one: they must disclose material inside information either to no outsiders or to all outsiders equally. As with any claim under Rule 10b-5, scienter must be proven. However, if there is no trading by tippees (or those to whom the tippees convey their information), there can be no damages for tipping under s 10(b). Trades by tippees are attributed to the tipper. Tippee trading, therefore, is the primary and essential element of the offense. The investor otherwise has no right to confidential undisclosed data from the company's files even though it might, if disclosed, influence his investment decision.



The corporate officer dealing with financial analysts inevitably finds himself in a precarious position, which we have analogized to “a fencing match conducted on a tightrope.” A skilled analyst with knowledge of the company and the industry may piece seemingly inconsequential data together with public information into a mosaic which reveals material non-public information. Whenever managers and analysts meet elsewhere than in public, there is a risk that the analysts will emerge with knowledge of material information which is not publicly available. Despite the risks attendant upon these contacts, the SEC and the stock exchanges as well as some commentators have taken the view that meetings and discussions with analysts serve an important function in collecting, evaluating and disseminating corporate information for public use. The reconciliation of this outlook with the SEC's mandate that material facts may be disclosed to investors, provided they are made available to all (through filings with the SEC) and not merely to analysts, has led to a case-by-case approach. The PREREQUISITES OF TIPPING LIABILITY, in addition to the revelation of non-public information about a company to someone who then takes advantage of this superior knowledge by trading in the company's stock, are that the tipped information must be MATERIAL, and that the tipper-defendant must have ACTED WITH SCIENTER. Thus a relevant question in determining MATERIALITY in a case of alleged tipping to analysts is whether the tipped information, if divulged to the public, would have been likely to affect the decision of potential buyers and sellers. As for the “scienter” requisite, the Supreme Court defined SCIENTER as “knowing or intentional misconduct.” One who deliberately tips information which he knows to be material and non-public to an outsider who may reasonably be expected to use it to his advantage has the requisite scienter. JULY 10 TIP: NOT MATERIAL & NO SCIENTER Viewed under this standard, we cannot agree that the July 10 “tip” was material. The disclosure in that conversation consisted of confirmation that J&B sales were slowing due to earlier stockpiling and that Alpo sales were being adversely affected by Campbell's competing product and by the information that a preliminary earnings statement would be coming out in a week. The “news” about J&B and Alpo was already common knowledge among the analysts — indeed, Liggett had publicly stated that a decline in J&B sales was expected. The confirmation of these facts, which were fairly obvious to all who followed the stock and were not accompanied by any quantification of the downturns, cannot be deemed “reasonably certain to have a substantial effect on the market price of the security.” Similarly, we cannot agree that in this context the bare announcement that preliminary earnings would be released in a week was material. No

information concerning the amount of those earnings was disclosed, and the mere fact that there would be a release added little to the already available wisdom of the market place (reflected by stock prices which had been falling for two weeks) that Liggett might be in a downturn. It would serve little purpose to require a corporation to call a press conference in order to announce that it would be making an announcement in another week. Further indication of the lack of materiality may be found in the reaction of those who were exposed to the inside information. The institutional investors, holders of 600,000 shares of Liggett, did not sell any of them. The sale of 100 shares by one stockholder, who may have been influenced by public information rather than the tipped information in the wire, does little to offset the indication that the tip was not one of material information. Applying the scienter standard to the present case, we conclude that the July 10 tip was not accompanied by scienter. There is no evidence to indicate that when Provost acknowledged what was commonly known by the analysts and mentioned that preliminary earnings would be released in a week, he believed that he was disclosing information that would be of significance in any analyst's or investor's assessment of Liggett stock, much less used for any trading advantage. Absent evidence from which it may be inferred that the tipper knows or should certainly appreciate that the disclosure could reasonably be expected to be used by the tippee to his advantage, the essential state of mind for 10b-5 liability is lacking. JULY 17 TIP: MATERIAL & WITH SCIENTER The July 17 tip, however, was sufficiently directed to the matter of earnings to sustain the district court's finding of materiality. 1,800 shares were sold by a stockbroker on behalf of his customers, after speaking with Cummins by telephone. The stockbroker was left with the impression that “the second quarter was going to be very poor,” which he considered significant enough to prompt the sale. We therefore conclude that the July 17 tip was one of material inside information. There was ample evidence of scienter in connection with the July 17 tip. One could reasonably infer that an official commenting on earnings shortly before their public release will know that the tip could reasonably be expected to be used by the tippee for trading advantages. It is therefore material. Indeed, Moore's request that the disclosure be kept confidential strongly supports this inference. The district court's finding that the information was disclosed in order to keep the analysts (whose job it was to advise clients in their trading of stock) a step ahead of public knowledge supports this conclusion. We therefore conclude that the tip of July 10 was not material and was not accompanied by the requisite scienter to furnish the basis for liability under



Rule 10b-5. The tip of July 17, however, was material and made with scienter. We turn, then, to the computation of damages. (Discussion on damages omitted)

8. Ross v. A.H. Robins Co., Inc. 607 F2d 545 (2d Cir. 1979)

9. Time Warner, Inc. v. Securities Litigation 9 F.3d 259 (2d Cir. 1993)

Memory Aid of Case in One Sentence: Purchasers of stock in corporation brought fraud action under federal securities law and state law against corporation and corporate principals. FACTS: On June 7, 1989, Time, Inc. received a surprise tender offer for its stock from Paramount Communications. Paramount's initial offer was $175 per share, in cash, and was eventually increased to $200 per share. Time's directors declined to submit this offer to the shareholders and continued discussions that had begun somewhat earlier concerning a merger with Warner Communications, Inc. Eventually, Time and Warner agreed that Time would acquire all of Warner's outstanding stock for $70 per share, even though this acquisition would cause Time to incur debt of over $10 billion. Time shareholders and Paramount were unsuccessful in their effort to enjoin the Warner acquisition, which was completed in July 1989. Thus, in 1989, Time Warner Inc., the entity resulting from the merger, found itself saddled with over $10 billion in debt, an outcome that drew criticism from many shareholders. The company embarked on a highly publicized campaign to find international “strategic partners” who would infuse billions of dollars of capital into the company and who would help the company realize its dream of becoming a dominant worldwide entertainment conglomerate. Ultimately, Time Warner formed only two strategic partnerships, each on a much smaller scale than had been hoped for. This particular strategic partnership made Time Warner drowning in debt. Faced with a multi-billion dollar balloon payment on the debt, the company was forced to seek an alternative method of raising capital—a new stock offering that substantially diluted the rights of the existing shareholders. The company first proposed a variable price offering on June 6, 1991. This proposal was rejected by the SEC, but the SEC approved a second proposal announced on July 12, 1991. Announcement of the two offering proposals caused a substantial decline in the price of Time Warner stock. From June 5 to June 12, the share price fell from $117 to $94. By July 12, the price had fallen to $89.75. The plaintiff class, which has not

yet been certified, consists of persons who bought Time Warner stock between December 12, 1990, and June 7, 1991. Hence, Purchasers of stock in corporation brought fraud action under federal securities law and state law against corporation and corporate principals. Their complaint, containing causes of action under sections 10(b) and 20(a) of the Securities Exchange Act, 15 U.S.C. §§ 78j(b), 78t(a) (1988), and state law, alleges that a series of statements from Time Warner officials during the class period were materially misleading in that they misrepresented the status of the ongoing strategic partnership discussions and failed to disclose consideration of the stock offering alternative. The parties have classified the challenged statements into two categories: (1) press releases and public statements from the individual defendants, and (2) statements to reporters and security analysts emanating from sources within the company but not attributed to any identified individual. The statements consist of generally positive messages concerning the progress of the search for strategic partners, and imply to varying degrees that significant partnerships will be consummated and announced in the near future. None of the statements acknowledged that negotiations with prospective partners were going less well than expected or that an alternative method of raising capital was under consideration. The United States District Court for the Southern District of New York dismissed, and purchasers appealed. The Court of Appeals Jon O. Newman, Chief Judge, held that: (1) purchasers did not plead fraud with sufficient particularity with respect to challenged anonymous statements to reporters and analysts; (2) nondisclosure of problems in announced strategic alliance negotiations was not actionable; and (3) purchasers stated securities fraud claim based on nondisclosure of alternative to announced plan for raising capital. ISSUE: Did Time Warner Officials issue misleading statements? SC ruled Affirmed in part, reversed in part, and remanded. HELD: Attributed statements and press releases of corporation that allegedly exaggerated likelihood that strategic alliance would be made with other companies were not actionable as affirmative misrepresentations, absent any allegations that corporate principals either did not have favorable opinions on future prospects when they made statements or that favorable opinions were without basis in fact. The press release of Time Warner is not yet actionable in this case. A corporation is not required to disclose a fact merely because a reasonable investor would very much like to know that fact. Rather, an omission is actionable under the securities laws only when the corporation is subject to a duty to disclose the omitted facts. Duty on part of corporation to update opinions and projections may arise if original opinions or projections have become misleading as result of intervening events.



Allegations of purchasers of stock in corporation that corporation failed to disclose that it was considering new stock offering that would substantially dilute rights of existing shareholders to raise capital, as alternative to highly publicized campaign to find international strategic partners, stated actionable omission under securities laws. Statements of corporation regarding desired strategic alliances lacked sort of defining positive projections that might later impose duty to update on corporation; statements suggested only hope of any company, embarking on talks with multiple partners, that talks would go well, and no identified corporate principal stated that he thought deals would be struck by certain date, or even that it was likely that deals would be struck at all. Omission is actionable under securities laws only when corporation is subject to duty to disclose omitted fact, such as when disclosure is necessary to make prior statements not misleading. When corporation is pursuing specific business goal and announces that goal as well as intended approach for reaching it, it may come under obligation to disclose other approaches to reaching goal when those approaches are under active and serious consideration; whether consideration of alternative approach constitutes material information, and whether nondisclosure of alternative approach renders original disclosure misleading, remain questions for trier of fact, and may be resolved by summary judgment when there is no disputed issue of material fact. Duty to disclose arises under securities law whenever secret information renders prior public statements materially misleading, not merely when that information completely negates public statements. As an alternative basis for its dismissal order, the District Court found that plaintiffs had failed to adequately plead scienter. Scienter is necessary element of every Rule 10b–5 fraud action, and though it need not be pleaded with “great specificity,” facts alleged in complaint must give rise to strong inference of fraudulent intent. There are two distinct ways in which plaintiff may plead scienter without direct knowledge of defendant's state of mind: first approach is to allege facts establishing motive to commit fraud and opportunity to do so; second approach is to allege facts constituting circumstantial evidence of either reckless or conscious behavior. Purchasers of stock in corporation sufficiently pleaded scienter element of securities fraud, with respect to corporation's failure to disclose alternative being considered to announced plan to raise capital, by alleging motive to commit fraud and opportunity to do so; it was arguable that corporate principals acted in belief that they could somewhat reduce degree of dilution caused by alternative stock offering by artificially enhancing price of stock by way of announced goal of seeking strategic alliances, and they had sufficient opportunity to do so. Securities Purchasers of stock in corporation did not adequately plead scienter through circumstantial evidence of conscious or reckless behavior approach, with respect to corporation's failure to disclose alternative being considered to announce plan to

raise capital, where purchasers made single mention of newspaper report alleged to state that corporation was quietly working for months on alternative plan

10. Blackie v. Barrack 524 F.2d 891 (9th Cir. 1975)

Defendant-Appellants: William Blackie, Ampex Corp and its principal officers Plaintiff-Appellees: Leonard Barrack and other Ampex shareholders Facts:

• The litigation is a product of the financial troubles of Ampex Corporation. The annual report for fiscal 1970, reported a profit of $12 million. By January 1972, the company was predicting an estimated $40 million loss for fiscal 1972 (ending April 1972). Two months later the company disclosed the loss would be much larger, in the $80 to $90 million range; finally, in the annual report for fiscal 1972, the company reported a loss of $90 million, and the company's independent auditors withdrew certification of the 1971 financial statements, and declined to certify those for 1972, because of doubts that the loss reported for 1972 was in fact suffered in that year.

• Several suits were filed following the 1972 disclosures of Ampex's losses. The plaintiffs (Barrack etc.) in the various complaints involved in these appeals purchased Ampex securities during the 27 month period between the release of the 1970 and 1972 annual reports, and seek to represent all purchasers of Ampex securities during the period.

• The gravamen of all the claims is the misrepresentation by reason of annual and interim reports, press releases and SEC filings of the financial condition of Ampex from the date of the 1970 report until the true condition was disclosed by the announcement of losses in August of 1972.

• Plaintiffs' complaint alleges that the price of the company's stock was artificially inflated because: "the annual reports of Ampex for fiscal years 1970 and 1971, various interim reports, press releases & other documents (a) overstated earnings, (b) overstated the value of inventories & other assets, (c) buried expense items & other costs incurred for research and development (d) misrepresented the companies' current ratio, (e) failed to establish adequate reserves for receivables, (f) failed to write off certain assets, (g) failed to account for the proposed discontinuation of certain product lines, (h) misrepresented Ampex's prospects for future earnings."

• District Court à granted class certification of all claimants (those who purchased Ampex securities). Denied the MR of defendants. Hence they seek interlocutory appeal with CA.

• Plaintiffs filed a motion to dismiss the various appeals the purportedly direct appeals on the ground that the certification order is not appealable, and that it has been prosecuted in a dilatory manner.

Issues: W/N whether the district court order certifying the class was proper. YES!



Ratio: (Merits of class certification)

• Defendants question this suit's compliance with each of the various requirements of Rule 23(a) and (b)(3) except numerosity (understandably, as it appears that the class period of 27 months will encompass the purchasers involved in about 120,000 transactions involving some 21,000,000 shares).

• All of defendants' contentions can be resolved by addressing 3 underlying questions: 1) whether a common question of law or fact unites the class; 2) whether direct individual proof of subjective reliance by each class member is necessary to establish 10b-5 liability in this situation; and 3) whether proof of liability or damages will create conflicts among class members and with named plaintiffs sufficient to make representation inadequate?

1. Common questions of law or fact • The class certified runs from the date Ampex issued its 1970 annual report

until the company released its 1972 report 27 months later. • The plaintiffs estimate that there are some 45 documents issued during

the period containing the financial reporting complained of, including two annual reports, six quarterly reports, and various press releases and SEC filings.

• Defendant’s contention à Because the alleged misrepresentations are contained in a number of different documents, each pertaining to a different period of Ampex's operation, the purchasers throughout the class period do not present common issues of law or fact. o Proof of 10b-5 liability will require inspection of the underlying set of

facts to determine the falsity of the impression given by any particular accounting item; The facts fluctuate as the business operates.

o Thus, proof of the actionability of a current accounting representation or omission will apply only to those who purchased while a financial report was current; from which they conclude no common question is presented and a class is improper.

• CA à We disagree. The overwhelming weight of authority holds that repeated misrepresentations of the sort alleged here satisfy the "common question" requirement. Confronted with a class of purchasers allegedly defrauded over a period of time by similar misrepresentations, courts have taken the common sense approach that the class is united by a common interest in determining whether a defendant's course of conduct is in its broad outlines actionable, which is not defeated by slight differences in class members' positions, and that the issue may profitably be tried in one suit.

• Advisory Committee on the Rule à "(A) fraud perpetrated on numerous persons by the use of similar misrepresentations may be an appealing situation for a class action . . . "

• The availability of the class action to redress such frauds has been consistently upheld, in large part because of the substantial role that the

deterrent effect of class actions plays in accomplishing the objectives of the securities laws.

• While the nature of the interrelationship and the degree of similarity which must obtain between different representations in order to come within the outer boundaries of the "common course of conduct" test is somewhat unclear, the test is more than satisfied when a series of financial reports uniformly misrepresent a particular item in the financial statement. In that situation, the misrepresentations are "interrelated, interdependent, and cumulative; " One misrepresentation causes subsequent statements to fall into inaccuracy and distortion when considered by themselves or compared with previous misstatements.

• The class members also share an interest in establishing the standard of care required of the various defendants under the White v. Abrams, flexible duty standard. The flexible duty of any defendant, while depending on his particular relationship to Ampex and to the financial reporting involved, will be owed identically to all market purchasers, who are for practical purposes identically situated. The culpability of each defendant's conduct is to be measured against the statutorily imposed duty not to manipulate the market. Differences in sophistication, etc., among purchasers have no bearing in the impersonal market fraud context, because dissemination of false information necessarily translates through market mechanisms into price inflation which harms each purchaser identically.

• Moreover, because of the relative similarity of the various documents involved, the duty owed by a defendant with respect to such documents will probably be uniform or nearly so, further uniting the positions of all class purchasers.

2. Predominance and reliance.

• Defendant’s contention à Any common questions which may exist do not predominate over individual questions of reliance and damages.

• CA à The amount of damages is invariably an individual question and does not defeat class action treatment. Moreover, in this situation we are confident that should the class prevail the amount of price inflation during the period can be charted and the process of computing individual damages will be virtually a mechanical task. Individual questions of reliance are likewise not an impediment subjective reliance is not a distinct element of proof of 10b-5 claims of the type involved in this case.

• The Court has recognized that under such circumstances involving primarily a failure to disclose, positive proof of reliance is not a prerequisite to recovery. All that is necessary is that the facts withheld be material in the sense that a reasonable investor might have considered them important in the making of this decision. This obligation to disclose and this withholding of a material fact establish the requisite element of causation in fact.

• Moreover, proof of subjective reliance on particular misrepresentations is unnecessary to establish a 10b-5 claim for a deception inflating the price of stock traded in the open market.



Proof of reliance is adduced to demonstrate the causal connection between the defendant's wrongdoing and the plaintiff's loss. We think causation is adequately established in the impersonal stock exchange context by proof of purchase and of the materiality of misrepresentations, without direct proof of reliance. Materiality circumstantially establishes the reliance of some market traders and hence the inflation in the stock price when the purchase is made the causational chain between defendant's conduct and plaintiff's loss is sufficiently established to make out a prima facie case.

• Defendant’s contention à Proof of causation solely by proof of materiality is inconsistent with the requirement of the traditional fraud action that a plaintiff prove directly both that the reasonable man would have acted on the misrepresentation (materiality), and that he himself acted on it, in order to establish the defendant's responsibility for his loss, which justifies the compensatory recovery.

• CA à Disagree. The 10b-5 action remains compensatory; it is not predicated solely on a showing of economic damage (loss causation). We merely recognize that individual "transactional causation" can in these circumstances be inferred from the materiality of the misrepresentation, and shift to defendant the burden of disproving a prima facie case of causation.

• Defendants may do so in at least 2 ways: 1) by disproving materiality or by proving that, despite materiality, an insufficient number of traders relied to inflate the price; and 2) by proving that an individual plaintiff purchased despite knowledge of the falsity of a representation, or that he would have, had he known of it.

• That the prima facie case each class member must establish differs from the traditional fraud action, and may, unlike the fraud action, be established by common proof, is irrelevant; although derived from it, the 10b-5 action is not coterminous with a common law fraud action. As we recently recognized in White v. Abrams, the fraud action must be and has been flexibly adopted to the overriding purpose of enforcing the Federal securities laws.

• Here, we eliminate the requirement that plaintiffs prove reliance directly in this context because the requirement imposes an unreasonable and irrelevant evidentiary burden. A purchaser on the stock exchanges may be either unaware of a specific false representation, or may not directly rely on it; he may purchase because of a favorable price trend, price earnings ratio, or some other factor. Nevertheless, he relies generally on the supposition that the market price is validly set and that no unsuspected manipulation has artificially inflated the price, and thus indirectly on the truth of the representations underlying the stock price whether he is aware of it or not, the price he pays reflects material misrepresentations.

• Requiring direct proof from each purchaser that he relied on a particular representation when purchasing would defeat recovery by those whose reliance was indirect, despite the fact that the causational chain is broken only if the purchaser would have purchased

the stock even had he known of the misrepresentation. We decline to leave such open market purchasers unprotected. The statute and rule are designed to foster an expectation that securities markets are free from fraud an expectation on which purchasers should be able to rely.

• Thus, in this context we think proof of reliance means at most a requirement that plaintiff prove directly that he would have acted differently had he known the true facts.

• The standards of proof of causation we have set out apply to all fraud on the market cases, individual as well as class actions.

3. Conflicts among class members

• Defendant’s contention à Conflicts among class members preclude class certification. The interests of class members in proving damages from price inflation (and hence the existence and materiality of misrepresentations subsumed in proving inflation) irreconcilably conflict, because some class members will desire to maximize the inflation existing on a given date while others will desire to minimize it.

• CA à We agree that class members might at some point during this litigation have differing interests. We altogether disagree, for a spate of reasons, that such potential conflicts afford a valid reason at this time for refusing to certify the class.

• Defendants' position depends entirely on adoption of the out of pocket loss measure of damages, rather than a rescissory measure. Under the out of pocket standard each purchaser recovers the difference between the inflated price paid and the value received, plus interest on the difference. If the stock is resold at an inflated price, the purchaser-seller's damages, limited by § 28(a) of 15 U.S.C. § 78bb(a) to "actual damages," must be diminished by the inflation he recovers from his purchaser. Thus, he is interested in proving that some intervening event, such as a corrective release, had diminished the inflation persisting in the stock price when he sold.

• While out of pocket loss is the ordinary standard in a 10b-5 suit, it is within the discretion of the district judge in appropriate circumstances to apply a rescissory measure. It is for the district judge, after becoming aware of the nature of the case, to determine the appropriate measure of damages in the first instance; the possible creation of potential conflicts by that decision does not render the class inappropriate now. The Rule provides the mechanism of subsequent creation of subclasses, Rule 23(c)(4), to deal with latent conflicts which may surface as the suit progresses. As a result, courts have generally declined to consider conflicts, particularly as they regard damages, sufficient to defeat class action status at the outset unless the conflict is apparent, imminent, and on an issue at the very heart of the suit.

• Here, the conflict, if any, is peripheral, and substantially outweighed by the class members' common interests. Even assuming arguendo that the out of pocket standard applies, the class is proper. Every class member shares an overriding common interest in establishing the existence and materiality of misrepresentations. The major



portion of the inflation alleged is attributed to causes which allegedly persisted throughout the class period. It will be in the interest of each class member to maximize the inflation from those causes at every point in the class period, both to demonstrate the sine qua non liability and to maximize his own potential damages the more the stock is inflated, the more every class member stands to recover.

• Moreover, because the major portion of the inflation is attributed to causes persisting throughout the period, interim corrective disclosures (of which there appear to have been only two or three) do not necessarily bring predisclosure purchasers into conflict with post-disclosure purchasers. Because both share an interest in maximizing overall inflation, the latter purchaser will no doubt strive to show a substantial market effect from disclosure of the lesser (or partial) causes of inflation to maximize the inflation attributable to more serious causes persisting when he bought a showing which will increase the recovery of the earlier purchaser. In that light, any conflicting interests in tracing fluctuations in inflation during the class period are secondary, and do not bar class litigation to advance predominantly common interests. Courts faced with the same situation have repeatedly, either explicitly or implicitly, rejected defendants' position, for the potential conflict is present in most prolonged classes involving a series of misrepresentations. Affirmed.

11. Kohn v. American Metal Climax, Inc 458 F.2d 255 (1972)

Harold E. Kohn (trustee) v. American Metal Climax, Inc. (1972) Facts:

• The case arises out of the amalgamation of defendants Roan Selection Trust Limited (RST), a Zambian corporation, into American Metal Climax, Inc. (AMAX), a New York corporation, which prior to the consummation of the amalgamation owned 42.3% of the outstanding stock of RST.

• In Aug 1969, the President of the Republic of Zambia issued the “Matero Declaration” which expressed the Government’s intention to acquire a controlling equity interest in operating copper properties within Zambia. At that time, RST was a Zambian corporation and had its principal place of business in that country. Its operations involved primarily the production, smelting, and refining of Zambian copper.

• After the issuance of the declaration, RST negotiated the sale of a 51% interest in its operating assets to the Zambian Gov’t. The chief concern of the corporation in the negotiations was to secure from the Gov’t the right to transfer the corporate domicile and externalize the corporation’s non-operating assets. In this manner, a significant part of RST’s total worth would be free from Zambian exchange controls.

• In Nov 1969, the board of directors of RST approved, in principle, an agreement between RST, the Gov’t of Zambia, and Industrial Dev’t Corp. of Zambia (aka INDECO — a Zambian dominated corporation).

• Under the agreement:

o the mining operations of RST would be merged into a company to be formed under the name Roan Consolidated Mining, Ltd. (RCM) in which INDECO would own 51% and RST would own 36.75%. The remaining 12.25% would be held by the Anglo-American Group;

o all assets of RST, except those nationalized by Zambia, might be transferred to a new corporation outside Zambia and would consist principally of cash worth $60M; a 30% interest in Botswana RST, Ltd.; Ametalco (a group of corporations wholly owned by RST International Metals Ltd. which, in turn, was a wholly owned subsidiary of RST); the INDECO bonds; and RST’s interest in RCM.

• Seeking alternative means by which to externalize the RST assets not nationalized by the Zambian Gov’t, the RST board eventually began negotiations with AMAX, a New York corporation. In Mar 1970, RST board approved in principle an agreement to effect the externalization through an amalgamation of RST with AMAX. The agreement provided for: (1) the consolidation of RST’s Zambian operating assets into RCM, 51% of which would be sold to INDECO in exchange for INDECO bonds and (2) the acquisition of the remainder of RST by AMAX, for which non-AMAX shareholders of RST would be paid approximately $76M principal amount of 8% AMAX subordinated debentures with common stock warrants attached and $6.3M in cash.

• Kohn, as trustee of American Depositary Receipts representing 2000 shares of RST, filed a complaint on behalf of RST and as representative of all non-AMAX shareholders of RST. He sought to enjoin the proposed amalgamation and alleged that:

o AMAX, et al. violated the disclosure provisions of § 10(b) of the Securities and Exchange Act of 1934 and Rule 10b-5;

o the proposed amalgamation would violate § 7 of the Clayton Act; &

o the terms of the amalgamation evidenced a fraud on non-AMAX shareholders of RST (also, unfair and a breach of fiduciary duty).

• The approval of both the High Court of Zambia and the RST shareholders was necessary before the amalgamation could be effected.

• On July 8, 1970, the district court enjoined the distribution of proxy material to RST shareholders, unless AMAX and RST included therewith a letter prepared by Kohn setting forth his bases for claiming that the proposed amalgamation was unfair. The Court’s order specifically provided that inclusion of Kohn’s letter was without prejudice to Kohn’s claims that [the proxy material] was in substance materially misleading or otherwise violative of Section 10(b) and Rule 10b-5. This condition was met and the shareholders were sent an Explanatory Statement with Appendices setting forth the details of the RST-AMAX reorganization.

• IMPT: The proxy materials w/c the shareholders received presented the amalgamation agreement and the Zambian nationalization in the form of one resolution. Thus, there was no opportunity to approve the transfer of RST assets from within Zambia without also endorsing the agreement



negotiated between RST and AMAX. In separate meetings, RST shareholders and non-AMAX shareholders of RST voted in favor of the resolution.

• The proposed plan of externalization was to be submitted to the High Court of Zambia for its approval. However, the district court preliminarily enjoined this because of Kohn’s complaint. A lengthy trial ensued.

• AMAX and RST appealed the District Court’s findings (in substance, DC ruled in favor of Kohn).

Issue: WON there is a violation of 10b-5 — Yes Held: (I think the headings pertain to the provisions of the proxy materials presented to the shareholders) A. CREATING THE FALSE IMPRESSION THAT THE AMAX RST AMALGAMATION WAS A NECESSARY CONSEQUENCE OF THE NATIONALIZATION

• The district court held that RST’s proxy materials inaccurately portrayed the proposed amalgamation between AMAX and RST. In reaching its decision, it found that the proxy materials, particularly the descriptive language contained in the initial pages of the Explanatory Statement, were designed to create the false impression that the amalgamation was an inevitable consequence of Zambian nationalization. Thus, fraud was found.

• AMAX & RST contend that certain parts of the materials accurately point out that amalgamation and nationalization were independent.

• Court ruling: An examination of the proxy materials suggests that its authors made a studied effort to avoid stating explicitly that either amalgamation and nationalization were absolutely independent or they were absolutely interdependent. The proxy materials made a “manifest and obvious” impression upon the reader that amalgamation and nationalization were required to be a unitary package. This is a material misrepresentation.

B. LINKING AMALGAMATION AND NATIONALIZATION IN A UNITARY PROPOSAL TO THE SHAREHOLDERS

• Amalgamation and nationalization were presented for a shareholder vote as a unitary proposal. Shareholders could not approve one while rejecting the other. The choice was to accept both or to reject both. The district court found this unitary presentation as a manipulative scheme to coerce shareholder approval of the amalgamation.

• AMAX & RST contend that compelling business reasons dictated that the proposals be presented in unitary form, because if nationalization and externalization did not proceed simultaneously, the RST assets remaining non-nationalized would be subject to substantial political risks.

• Court ruling: AMAX & RST failed to explain why RST could not have sought approval of the externalization plan first, followed by nationalization. It also does not explain why alternative externalization plans could not have been presented. This is also a material misrepresentation.

C. THE IMPLICATION THAT SHAREHOLDER APPROVAL WAS PREREQUISITE TO NATIONALIZATION

• Court doubts the correctness of the district court’s ruling that there was a violation of Rule 10b-5, but chose not to decide upon the issue.

D. FAILURE TO DISCLOSE THAT EXTERNALIZATION WAS DISCRETIONARY AND NEED NOT HAVE BEEN SIMULTANEOUS WITH NATIONALIZATION

• District court found that RST failed to disclose in the proxy materials that externalization of assets was discretionary under the agreement with Zambia and, if approved, need not have been simultaneous with nationalization. This violated Rule 10b-5. Court agrees.

E. FAILURE TO DISCLOSE ALTERNATIVE PLANS FOR EXTERNALIZATION

• Because the underlying findings of the district court are inconsistent, Court decided not to rule upon the issue.

F. FAILURE OF THE PROXY MATERIALS TO ADEQUATELY DISCLOSE THE BASIS UPON WHICH RST’S ASSETS WERE EVALUATED

• Ordinarily, the SEC and the courts discourage presentations of future earnings, appraised asset valuations, and other hypothetical data in proxy materials. This general rule should apply here. No truly reliable estimates of value ever materialized. The figures which the district court concluded should have been disclosed were all advanced by the parties during negotiations only and as part of their bargaining strategies. Under such circumstances, the omission of the RST asset valuations was immaterial.

G. INADEQUATE DISCLOSURE OF THE UNIQUE BENEFITS AMAX WAS TO OBTAIN INCIDENT TO THE AMALGAMATION

• • AMAX & RST contend that although their presentation may have been

piecemeal, the shareholders were fully apprised of the benefits accruing to AMAX by means of the letter of Kohn w/c was included in the proxy materials sent pursuant to court order.

• Court ruling: In view of the close ties between AMAX and RST, the disclosure of the unique benefits1 to AMAX would have been particularly important. The piecemeal presentation of these benefits scattered throughout the proxy materials and the appendices was inadequate disclosure under the securities laws. Furthermore, any otherwise material violation of the disclosure rules is not obviated by referring to the materials of an opposing party (Kohn’s letter).

H. STATEMENT THAT RST SHAREHOLDERS WOULD, BY VOTING FOR THE

1 (1) an increase of $7 million in annual income; (2) an improvement of $134 million in cash-flow during the period 1970 to 1975; (3) an improvement of $91 million in the corporation's balance of payments; and (4) the acquisition of high-yielding assets



PROPOSAL, OBTAIN THE MAXIMUM POSSIBLE INTEREST IN ZAMBIAN MINING OPERATIONS

• District court found this statement misleading because of its implication that the shareholders by adopting amalgamation would receive the maximum interest allowable in the RCM shares and other assets.

• On analysis (court looked into some figures for this purpose, I decided to omit), it becomes clear that as to the RCM shares, the shareholders did in fact receive the maximum interest it was permissible to distribute. Hence, the Explanatory Statement was not misleading as to the proportion of RCM stock available for distribution to the non-AMAX shareholders of RST.

I. CONFLICTS OF INTEREST OF RST DIRECTORS AND BANKING ADVISERS – adequately disclosed

• While we recognize the necessity for shareholders to be informed of the extensive conflicts of interest present, we cannot agree with the district court’s conclusion that such were not adequately disclosed.

• Directly after the paragraph of the Explanatory Statement which sets forth the recommendation of the RST Board, this heading appears in boldfaced type: “6. Interests of Directors, Advising Bankers and Others.” This section and the appendices referred to therein fully document all the relevant conflicts of interest. We think this presentation satisfied the equal prominence rule.

• Among others, the recommendation of the RST Board also is in boldfaced type. Appearing in Item 5 of the Statement, it urges shareholders to approve the proposal. Item 6 and Appendix O disclosed AMAX’s 42.3% ownership of RST and the interrelationship between AMAX and RST resulting from the fact that certain named individuals were officers and/or directors of both companies. Item 6 also sets forth the shareholdings of various individuals in AMAX and RST.

J. FAILURE TO DISCLOSE THAT RST’S BANKING ADVISERS DID NOT MAKE AN INDEPENDENT SURVEY OF RST’S ASSETS

• That the bankers’ approval of the proposed amalgamation relied solely on data supplied by the RST management was only disclosed in Appendix Q. However, no reference is made to this appendicized disclosure at the outset of the Explanatory Statement where the investment advisers’ approval of the amalgamation proposal appears.

• Considering that disclosure of the basis for the advisers’ recommendation was of signal importance, the failure to direct the readers to the disclosures made in Appendix Q constituted a material omission violative of Rule 10b-5.

K. THE FAILURE TO DISCLOSE THE ROLE OF THE NY LAW FIRM, SULLIVAN & CROMWELL — no omission

• District court’s finding that there was a material omission arising from the failure of the proxy materials to disclose the role of Sullivan & Cromwell was based on a clearly erroneous factual premise that the firm was in

a conflict of interest position with respect to the negotiation of the terms of the amalgamation.

• Defendants admit that representation by Sullivan & Cromwell of both AMAX and RST continued until late Dec 1969. This was when amalgamation with AMAX was a possible alternative considered by RST. Defendants contend, however, that at no time during this period were the interests of AMAX opposed to those of the other RST shareholders. Rather, the conflict first arose when AMAX and RST commenced to negotiate amalgamation of RST with AMAX as a means of externalization. When this occurred, Sullivan & Cromwell immediately advised RST that it could not represent it in such negotiations and that RST retained new counsel for purposes of the amalgamation bargaining. In fact, the district court found that RST was represented by the New York firm of Winthrop, Stimson, Putnam & Roberts, as well as by English counsel.

• Nothing in the record demonstrates that during this time Sullivan & Cromwell attempted dual representation of AMAX and RST concerning the amalgamation proposal.

CONCLUSION

• Based on these findings, court said, the misrepresentations are material when they are related to subject matter which might have been considered important by a reasonable shareholder who was in the process of deciding how to vote. (Mills v. Electric Auto-Lite)

• Although Mills involved section 14, the materiality test is equally applicable to an alleged 10b-5 violation. It is not a defense to a finding of material violations of 10b-5 to say that some stockholders “discovered” the misrepresentations before the vote and thus were not misled, and therefore, since they were the class representatives, the entire class is precluded from obtaining any remedy.

• Those alleging a violation of Rule 10b-5 have an obligation to show a fraudulent and material misrepresentation and that, to the extent a reliance factor is required, in the present context it is encompassed by the finding that the misrepresentation was material.

12. People vs. Tan (Thank God, Philippine case!!) G.R. No. 167526, July 26, 2010.

FACTS: • A petition for review on certiorari seeking to set aside the Resolution CA

affirming RTC’s decision of dismissal of the case

• Dante Tan (accused) was charged for violation of Rule 36 (a)-12 in relation to Sections 32 (a)-13 and 564 of the Revised Securities Act before RTC Pasig

2 Sec. 36. Directors, officers and principal stockholders. — (a) Every person who is directly or indirectly the beneficial owner of more than ten (10%) per centum of any class of any equity security which is registered



Note: there are 2 information involved in this case, same contents lang. The difference lies on the ff: 1st complaint: Criminal Case No. 119831 à December 10, 1998 – 84,030,000 shares (18.6%) 2nd complaint: Criminal Case No. 119832 à June 18, 1999 – 75,000,000 shares (same 18.6%) • Tan is the beneficial owner of 84,030,000 (in 2nd complaint 75,000,000)

Best World Resources Corporation (BWRC) shares, a registered security sold pursuant Revised Securities Act

• Having a beneficial ownership of 18.6% (which is way above the 10% required by law to be reported), Tan has the obligation to file with the SEC and PSE a sworn statement of the amount of all BWRC shares of which he is the beneficial owner, within ten (10) days after he became such beneficial owner

• BUT Tan FAILED to do it, in violation of the Revised Securities Act and/or the rules and regulations

• Arraignment: Tan pleaded not guilty to both charges and the trial ensued.

• November 24, 2003: Prosecution made its formal offer of evidence (madaming exhibits: A to E with sub-exhibits, Q-W with sub-exhibits, and X)

• December 11, 2003: RTC issued an Order admitting Exhibits "A," "B," "W" and "X," but denied admission of all the other exhibits on the grounds stated therein.

• Prosecution filed MR, but it was DENIED.

pursuant to this Act, or who is a director or an officer of the issuer of such security, shall file, at the time of the registration of such security on a securities exchange or by the effective date of a registration statement or within ten (10) days after he becomes such a beneficial owner, director, or officer, a statement with the Commission and, if such security is registered on a securities exchange, also with the exchange, of the amount of all equity securities of such issuer of which he is the beneficial owner, and within ten (10) days after the close of each calendar month thereafter, if there has been a change in such ownership during such month, shall file with the Commission, and if such security is registered on a securities exchange, shall also file with the exchange, a statement indicating his ownership at the close of the calendar month and such changes in his ownership as have occurred during such calendar month. 3 Sec. 32. Reports. – (a) (1) Any person who, after acquiring directly or indirectly the beneficial ownership of any equity security of a class which is registered pursuant to this Act, is directly or indirectly the beneficial owner of more than ten (10%) per centum of such class shall, within ten days after such acquisition or such reasonable time as fixed by the Commission, submit to the issuer of the security, to the stock exchanges where the security is traded, and to the Commission a sworn statement 4 Sec. 56. Penalties. Any person who violates any of the provisions of this Act, or the rules and regulations promulgated by the Commission under authority thereof, or any person who, in a registration statement filed under this Act, makes any untrue statement of a material fact or omits to state any material fact required to be stated therein or necessary to make the statements therein not misleading, shall, upon conviction, suffer a fine of not less than five thousand (P5,000.00) pesos nor more than five hundred thousand (P500,000.00) pesos or imprisonment of not less than seven (7) years nor more than twenty-one (21) years, or both in the discretion of the court. If the offender is a corporation, partnership or association or other juridical entity, the penalty shall be imposed upon the officer or officers of the corporation, partnership, association or entity responsible for the violation, and if such officer is an alien, he shall, in addition to the penalties prescribed, be deported without further proceedings after service of sentence.

• December 18, 2003: Tan filed an Omnibus Motion for Leave to File Demurrer to Evidence and to admit the attached Demurrer to Evidence.

• January 29, 2004, the RTC granted Tan’s Motion for Leave to File the Demurrer and admitted the attached Demurrer. The RTC also ordered petitioner to file an opposition.

• February 18, 2004: Prosecution filed its Opposition to the Demurrer to Evidence. Tan filed a Reply

• March 16, 2004: RTC issued an Order granting Tan’s Demurrer to Evidence

• Prosecution filed a Petition for Certiorari before the CA. CA DENIED the petition

• CA: The dismissal of a criminal action by the grant of a Demurrer to Evidence is one on the merits and operates as an acquittal, for which reason, the prosecution cannot appeal therefrom as it would place the accused in double jeopardy

• MR DENIED. Hence, this appeal. ISSUE: (relevant to SecReg) W/N Tan is guilty of violating the RSA for failure to disclose certain information? NO! Prosecution failed to present evidence which will determine that Tan indeed had the obligation to disclose. (They did not present the Articles of Incorporation of BWRC – a very important document!! - which will serve as the basis of the % beneficial ownership of Tan. Ultimately, this will also be the basis if Tan has the duty to disclose the required information pursuant to RSA) HELD: Petition has NO MERIT. DISMISSED. RATIO: Discussion on Demurrer and Double Jeopardy

• People v. Sandiganbayan: GR à Grant of a demurrer to evidence operates as an acquittal and is, thus, final and unappealable. Such dismissal of a criminal case by the grant of demurrer to evidence may not be appealed, for to do so would be to place the accused in double jeopardy. The verdict being one of acquittal, the case ends there.

Elements of double jeopardy:

1. Complaint or information was sufficient in form and substance to sustain a conviction;

2. Court had jurisdiction; 3. Accused had been arraigned and had pleaded; and 4. Accused was convicted or acquitted, or the case was dismissed

without his express consent Applying these elements in the case at bar:

1. Informations filed in Criminal Cases Nos. 119831 and 119832 against Tan were sufficient in form and substance to sustain a conviction;



2. RTC had jurisdiction over Criminal Cases Nos. 119831 and 119832; 3. Tan was arraigned and entered a plea of not guilty; and 4. RTC dismissed Criminal Cases Nos. 119831 and 119832 on a demurrer

to evidence on the ground of insufficiency of evidence which amounts to an acquittal from which no appeal can be had

Exceptions to the rule on Double Jeopardy: • The only instance when double jeopardy will not attach is when the trial

court acted with grave abuse of discretion amounting to lack or excess of jurisdiction, such as where the prosecution was denied the opportunity to present its case or where the trial was a sham.

• The petitioner in such an extraordinary proceeding must clearly demonstrate that the trial court blatantly abused its authority to a point so grave as to deprive it of its very power to dispense justice.

SC: After citing many cases which fall under the exception

• Exception is inapplicable in the case at bar. à RTC did not abuse its discretion in the manner it conducted the proceedings of the trial, as well as its grant of Tan’s demurrer to evidence.

• Question to be resolved: "Did the RTC violate prosecution’s right to due process?" à No, in fact prosecution was given more than ample opportunity to present its case as gleaned from the factual antecedents which led to the grant of Tan’s demurrer.

Another argument of prosecution: involving RTC’s bias when it chose to grant respondent’s demurrer to evidence notwithstanding that it had filed a "Motion to Hold in Abeyance the Resolution of Accused Dante Tan’s Demurrer to Evidence and The Prosecution’s Opposition Thereto."

• While it would have been ideal for the RTC to hold in abeyance the resolution of the demurrer to evidence, nowhere in the rules, however, is it mandated to do so.

• Moreover, the same would merely constitute an error of procedure or of judgment and not an error of jurisdiction.

• Errors or irregularities, which do not render the proceedings a nullity, will not defeat a plea of acquittal

• To reiterate, the only instance when double jeopardy will not attach is when the trial court acted with grave abuse of discretion amounting to lack or excess of jurisdiction which cannot be attributed to the RTC simply because it chose not to hold in abeyance the resolution of the demurrer to evidence.

ON THE MERITS: (IMPORTANT!!!) TAN IS NOT LIABLE FOR VIOLATIONS UNDER THE RSA DUE TO PROSECUTION’S FAILURE TO ADDUCE EVIDENCE NECESSARY TO PROVE THE ELEMENTS OF SUCH VIOLATION

• One of the main reasons for the RTC’s decision to grant the demurrer was the absence of evidence to prove the classes of shares that the Best World Resources Corporation stocks were divided into,

whether there are preferred shares as well as common shares, or even which type of shares respondent had acquired.

• To secure conviction for the violations of RSA Secs. 32 (a-1) and 36 (a), it is necessary to prove the following: 1. BWRC has equity securities registered under the RSA 2. that the equity securities of BWRC are divided into classes, and that

these classes are registered pursuant to the RSA; 3. the number of shares of BWRC (authorized capital stock) and the total

number of shares per class of stock; 4. the number of shares of a particular class of BW stock acquired by the

accused; 5. the fact of the exact date when Tan became the beneficial owner of

10% of a particular class of BW shares; and 6. the fact that Tan failed to disclose his 10% ownership within 10 days

from becoming such owner.

• It is very clear from the evidence formally offered, that the foregoing facts were not proven or established.

• These cases were for Violations of RSA Rule 32 (a)-1 and Section 56 of Revised Securities Act, however, it is very surprising that the prosecution never presented in evidence the Article of Incorporation of BWRC.

• Without the Article of Incorporation, the Court has no way of knowing the capitalization authorized capital stock of the BWRC, the classes of shares into which its stock is divided and the exact holdings of Dante Tan in the said corporation.

• Articles of Incorporation NOT being a prosecution’s evidence renders impossible the determination of the 10% beneficial ownership of accused Dante Tan, as there is no focal point to base the computation of his holdings, and the exact date of his becoming an owner of 10%

13. United States vs. Simon 425 F.2d 796 (2nd Cir. 1969), cert. denied, 397 U.S. 1006 (1970)

CAVEAT: The facts of this case is heavily laden with accounting shit. I hate accounting. Ergo, hindi ko naintindihan yung kaso. In any case, the point of this case is that even if an accountant complies with the Generally Accepted Accounting Principles, if compliance therewith causes non disclosure of materially misleading information, the accountant can still be held liable under the Securities Act. FACTS: Carl Simon (senior partner), Robert Kaiser (junior partner), Melvin Fishman (senior associate) belonged to the internationally known accounting firm Lybrand, Ross Bros & Montgomery (Lybrand). They stand convicted under 3 counts of drawing up and certifying a false or misleading financial statement of Continental Vending Machine Corporation (Continental) for the year ending Sep 30, 1962.



They were convicted under Sec. 32 of the Securities Act of 1934 which provides that:

Whoever, in any matter within the jurisdiction of any department or agency of the United States knowingly and willfully falsifies, conceals or covers up by any trick, scheme, or device a material fact, or makes any false, fictitious or fraudulent statements or representations, or makes or uses any false writing or document knowing the same to contain any false, fictitious or fraudulent statement or entry, shall be fined not more than $10,000 or imprisoned not more than five years, or both

Continental is corporation whose President was Harold Roth who likewise owned 25% of its stocks. Valley Commercial Corporation (Valley) was Continental’s affiliate. Roth also ran Valley. Lybrand was the accounting firm hired to audit Continental’s books. Valley engaged in landing Continental money at interest in relation to its vending machine business. Continental would then issue negotiable notes to Valley. Valley would then endorse these in blank and use them as collateral for drawing 2 credit lines of $1M each at Franklin Bank and Meadowbrook Bank. The discounted amount of the notes would then be transferred to Continental. As early as 1956, these transactions gave rise to Valley payables. By the end of 1962, $543,345 of the $1,029,475 payable were due within said year. In addition, there were also Valley receivables resulting from Continental loans to Valley. Starting 1957, Roth would use Continental and Valley as sources of cash to finance his stock market transactions. At the end of 1962, the amount of Valley receivables amounted to $3.5M and had arisen to $3.9M by February 1963. The Valley payable could not be offset with Valley receivables because Continental’s obligations to Valley were in the form of negotiable notes endorsed in blank to Franklin and Meadowbrook banks and used as collateral to obtain the cash which it lent to Continental. Essentially, when Lybrand audited Continental, it discovered that Valley could not pay its obligation with Continental as it already knew that Valley loaned the money to Roth and that Roth was bankrupt. In the financial statement in question, it Note 2 thereof stated that:

The amount receivable from Valley Commercial Corp. (an affiliated company of which Mr. Harold Roth is an officer, director and stockholder) bears interest at 12% a year. Such amount, less the balance of the notes payable to that company, is secured by the assignment to the Company of Valley's equity in certain marketable securities. As of February 15, 1963, the amount of such equity at current market quotations exceeded the net amount receivable.

The accountants were thus charged with drawing up and certifying misleading financial statements of Continental. In their defense, the accountants called expert independent accountants to testify for them. Specifically, they testified that neither generally accepted accounting principles nor generally accepted auditing standards required disclosure of the make-up of the collateral or of the increase of the receivable after the closing date of the balance sheet, although three of the eight stated that in light of hindsight they would have preferred that the make-up of the collateral be disclosed. The witnesses likewise testified that disclosure of the Roth borrowings from Valley was not required, and seven of the eight were of the opinion that such disclosure would be inappropriate. The principal reason given for this last view was that the balance sheet was concerned solely with presenting the financial position of the company under audit; since the Valley receivable was adequately secured in the opinion of the auditors and was broken out and shown separately as a loan to an affiliate with the nature of the affiliation disclosed, this was all that the auditors were required to do. ISSUE: WHETHER ACCOUNTANTS CAN BE HELD CRIMINALLY LIABLE FOR CREATING FRAUDULENT OR MATERIALLY MISLEADING INFORMATION IN COMPLYING WITH THE GENERALLY ACCEPTED

ACCOUNTING PRINCIPLES. HELD: YES. The trial judge said that the "critical test" was whether the financial statements as a whole "fairly presented the financial position of Continental as of September 30, 1962, and whether it accurately reported the operations for fiscal 1962." If they did not, the basic issue became whether defendants acted in good faith. Proof of compliance with generally accepted standards was "evidence which may be very persuasive but not necessarily conclusive that he acted in good faith, and that the facts as certified were not materially false or misleading." We think the judge was right in refusing to make the accountants' testimony so nearly a complete defense. The critical test according to the charge was the same as that which the accountants testified was critical. We do not think the jury was also required to accept the accountants' evaluation whether a given fact was material to overall fair presentation, at least not when the accountants' testimony was not based on specific rules or prohibitions to which they could point, but only on the need for the auditor to make an honest judgment and their conclusion that nothing in the financial statements themselves negated the conclusion that an honest judgment had been made. Such evidence may be highly persuasive, but it is not conclusive, and so the trial judge correctly charged. GENERALLY ACCEPTED ACCOUNTING PRINCIPLES instruct an accountant what to do in the usual case where he has no reason to doubt that the affairs of the



corporation are being honestly conducted. Once he has reason to believe that this basic assumption is false, an entirely different situation confronts him. Then, as the Lybrand firm stated in its letter accepting the Continental engagement, he must "extend his procedures to determine whether or not such suspicions are justified." If as a result of such an extension or, as here, without it, he finds his suspicions to be confirmed, full disclosure must be the rule, unless he has made sure the wrong has been righted and procedures to avoid a repetition have been established. At least this must be true when the dishonesty he has discovered is not some minor peccadillo but a diversion so large as to imperil if not destroy the very solvency of the enterprise. Even if there were no satisfactory showing of motive, we think the Government produced sufficient evidence of criminal intent. Its burden was not to show that defendants were wicked men with designs on anyone's purse, which they obviously were not, but rather that they had certified a statement knowing it to be false.

14. Dura Pharmaceuticals, Inc. vs. Broudo 544 U.S. 336 (2005)

Caveat: This digest is based on digests, scholarly reviews by law schools, etc found on the net. Sorry but I couldn’t find a copy of the original case online. Facts: Brouda et al. were stockholders who filed a securities fraud class action alleging that petitioners, Dura Pharmaceuticals, Inc., and some of its managers and directors made misrepresentations leading respondents to purchase Dura securities at an artificially inflated price. Some of the misrepresentations were false statements concerning profits, claiming that drug sales were expected to be profitable, that the FDA would soon approve their asthmatic spray device. However, Dura subsequently announced that earnings would be lower than expected due to slow drug sales and the shares price declined. Also, 8 months after the sales announcement, they stated that the asthmatic spray would not be approved by the FDA, resulting in further decline in share price. District Court dismissed on the finding that the complaint failed adequately to allege “loss causation”–i.e., a causal connection between the spray device misrepresentation and the economic loss, 15 U.S.C. § 78u—4(b)(4) and the drug-profitability claim failed to allege an appropriate scienter. The Ninth Circuit reversed, finding that a plaintiff can satisfy the loss causation requirement simply by alleging that a security’s price at the time of purchase was inflated because of the misrepresentation and their claim that “the price at the time of purchase was overstated” is sufficient. The case was raised on review to the Supreme Court due to varying opinions of the different circuit.

Summary of the circuit’s varying opinion on loss-causation: (I just included this but this isn’t really very important so you can do away with this summary) Second circuit held that plaintiff cant just allege that had he known the true value of the shares he would not have bought it. There has to be causal connection between alleged misstatements and actual harm suffered. Third circuit held that if the value of security doesn’t actually decline due to misrepresentation then there can be no claim of economic loss. Further there must be “correction in the market price” for the inflated price to drop, otherwise its still inflated and they can sell at the inflated price. Seventh circuit compared loss causation to tort law Ninth circuit held it is satisfied by mere allegation that price at time of purchase was inflated and there is no need to allege subsequent price drop because injury occurs at the time of transaction. Eleventh circuit held that there is no need to prove misstatement as sole cause of loss but its merely substantial proof. Issue: Whether a securities fraud invoking the fraud-on-the-market theory must demonstrate loss causation by pleading and proving a causal connection between the alleged fraud and the investment's subsequent decline in price? Held: YES! Inflated purchase price approach is insufficient to show “loss causation.” Ratio: 1. An inflated purchase price will not by itself constitute or proximately cause the relevant economic loss needed to allege and prove “loss causation.” The basic elements of a private securities fraud action–which resembles a common-law tort action for deceit and misrepresentation–include economic loss and “loss causation.” The Ninth Circuit erred in following an inflated purchase price approach to showing causation and loss. First, the moment the transaction takes place, the plaintiff has suffered no loss because the inflated purchase price is offset by ownership of a share that possesses equivalent value at that moment. Thereafter, other factors may affect the price. Thus, inflated purchase price suggests that misrepresentation “touches upon” a later economic loss, but to touch upon a loss is not to cause a loss, as 15 U.S.C. § 78u—4(b)(4) requires. The common-law deceit and misrepresentation actions that private securities fraud actions resemble require a plaintiff to show not only that had he known the truth he would not have acted, but also that he suffered actual economic loss. The securities laws make clear Congress’ intent to permit private securities fraud actions only where plaintiffs adequately allege and prove the traditional elements of cause and loss, but the Ninth Circuit’s approach would allow recovery where a misrepresentation leads to an inflated purchase price, but does not proximately cause any economic loss. 2. Respondents’ complaint was legally insufficient in respect to its allegation of “loss causation.” While Federal Rule of Civil Procedure Rule 8(a)(2) requires only a “short and plain statement of the claim showing that the pleader is entitled to



relief,” and while the Court assumes that neither the Rules nor the securities statutes place any further requirement in respect to the pleading, the “short and plain statement” must give the defendant “fair notice of what the plaintiff’s claim is and the grounds upon which it rests,” The complaint contains only allegation that their loss consisted of artificially inflated purchase prices. However, such a price is not itself a relevant economic loss. And the complaint nowhere else provides Dura Pharma with notice of what the relevant loss might be or of what the causal connection might be between that loss and the misrepresentation. Ordinary pleading rules are not meant to impose a great burden on a plaintiff, but it should not prove burdensome for a plaintiff suffering economic loss to provide a defendant with some indication of the loss and the causal connection that the plaintiff has in mind. Allowing a plaintiff to forgo giving any indication of the economic loss and proximate cause would bring about the very sort of harm the securities statutes seek to avoid, namely the abusive practice of filing lawsuits with only a faint hope that discovery might lead to some plausible cause of action. SC reversed and remanded.

15. SEC vs. National Student Marketing Corp. 457 F. Supp. 682 (D.D.C. 1978)

B. Proxy Solicitation

Law

1. Sections 20, 57, 62 and 63, SRC 2. SRC Rule 23

Cases

a. Causation

1. Mills v. Electric Autolite 398 U.S. 375 (1970)

2. Virginia Bankshares v. Sandberg 501 U.S. 1083 (1991)

b. Materiality

1. TSC vs. Northway

426 U.S. 438 (1976)

c. Culpability

1. Gerstle v. Gamble-Skogmo

478 F.2d 1281 (2d Cir. 1973)

d. Relief

1. Berkman v. Rust Craft

454 F. Supp. 787 (S.D.N.Y. 1978)

2. Gladwin v. Medfield 540 F.2d 1266 (5th Cir. 1976)

C. Tender Offers

Law

3. Secs. 19, 57, 62 and 63, SRC 4. SRC Rule 19

Cases

1. Cemco Holdings, Inc. v. National Life Insurance Co.

529 SCRA 355 (2007)

2. Osmeña III v. Social Security System of the Philippines 533 SCRA 313 (2007)

3. Piper v. Chris-Craft 430 U.S. 1 (1977)

4. Rondeau v. Mosinee 422 U.S. 49 (1975)

5. Smallwood v. Pearl 489 F.2d 579 (5th Cir. 1974)

6. Electronic v. International 409 F.2d 937 (2d Cir. 1969)

7. Paine v. McCabe 797 F.2d 713 (9th Cir. 1986)

8. Panter v. Marchall Field 646 F.2d 271 (7th Cir. 1981)

9. United States v. Chestman 947 F.2d 551 (2d Cir. 1991)



10. Epstein v. MCA Corp.

50 F.3d 644 (9th Cir. 1995)

11. SEC v. Carter Hawley Hale Stores, Inc. 760 F.2d 945 (1985)

SecReg Unit 2 Cases PSE Disclosures

Documents

Transcript of SecReg Unit 2 Cases PSE Disclosures