I’ve said too much/I haven’t said enough: Eleventh Circuit law on the duty to correct prior representations in light of the Ninth Circuit’s ruling in In re Yahoo! Inc. Securities Litigation
On May 15, the Ninth Circuit declined to recognize a duty to correct prior representations under §§ 10(b) and 20(a) of the Securities Exchange Act of 1934, affirming the Northern District of California’s dismissal of a securities fraud class action against Yahoo! Inc. and three officers arising from representations regarding Yahoo’s investment in Alibaba. In re Yahoo! Inc. Securities Litigation, No. 12-17080, --- F. App’x ----, 2015 WL 2330190 (9th Cir. May 15, 2015).
Although the Supreme Court has similarly refused to impose such a duty in the securities context, as early as 1986 the Eleventh Circuit recognized that “[w]here a defendant’s failure to speak would render the defendant’s own prior speech misleading or deceptive, a duty to disclose arises.” Rudolph v. Arthur Andersen & Co., 800 F.2d 1040, 1043 (11th Cir. 1986) (citing First Virginia Bankshares v. Benson, 559 F.2d 1307, 1314 (5th Cir. 1977)). The Eleventh Circuit reasoned that this duty is the logical extension of the prohibition against “deal[ing] in half truths” that, incidentally, is acknowledged by both the Ninth Circuit and the Supreme Court. See First Virginia Bankshares, 559 F.2d at 1314.
Over the last nearly 30 years, only two published Eleventh Circuit decisions have addressed the limits of this purported duty to correct prior representations, both arising in the context of merger or acquisition transactions.
In Clay v. Riverwood International Corporation, 157 F.3d 1259 (11th Cir. 1998), the company issued a press release about beginning to review “‘strategic alternatives’ that included a ‘possible sale or merger.’” The plaintiff asserted that, notwithstanding the truth of the statement when made, a duty to update investors arose a few months later when the company narrowed the list of potential purchasers to one. The Eleventh Circuit held that it was not “‘necessary’” for the company to update its press release, because it was true when made, and, more importantly, the company’s press release was “non-committal” and therefore “expressed no ‘specific business goal’ or ‘intended approach’ [to achieving a specific business goal] in its … press release.” In fact, “with the abundance of watered-down intentions, it was almost as if [the company] never spoke at all.”
The Eleventh Circuit revisited the duty to correct last year in Finnerty v. Stiefel Laboratories, Inc., 756 F.3d 1310 (11th Cir. 2104). There, an employee who exercised a put option—requiring the company to buy back stock obtained through an employee stock bonus plan—asserted Exchange Act violations based on the company’s failure to disclose advanced merger negotiations at the time of the buy-back. Notably, for many years prior, the company’s principals had represented to employees that the company would continue to be privately held at “virtually every [company-wide] meeting.”
The court distinguished between “prior statement[s] about a historical fact” that are true when made—which do not create a duty to update—and “forward-looking statements” that “subsequently bec[o]me misleading”—which might give rise to such a duty to update, depending on the facts. Ultimately, the court held that notwithstanding the desirability of allowing a company to exercise business judgment about when to disclose merger negotiations, the principals had a duty to update the employees regarding the potential transaction to prevent the company from using “inside information to take advantage of ‘outside’ stockholders,” while leaving open the question of “when” and “to whom” the updated disclosure had to be made.
Ultimately, based on the current state of Eleventh Circuit law, a company should think carefully before making any specific representations regarding M&A plans, particularly when an employee stock buy-back or other stock buy-back program is in place.
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