(Article from Securities Law Alert, December 2014)
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Second Circuit Finds Corporations Need Not Phrase Disclosures in Pejorative Terms
On September 8, 2014, the Second Circuit affirmed the district court’s grant of summary judgment to defendants in a securities fraud class action alleging material misrepresentations concerning Xerox Corporation’s worldwide restructuring initiative in 1998 and 1999. Dalberth v. Xerox Corp., 766 F.3d 172 (2d Cir. 2014) (Pooler, J.). The Second Circuit found meritless plaintiffs’ contention that the district court had “incorrectly” deemed “immaterial” “the distinctions between Xerox’s carefully phrased public disclosures” concerning restructuring-related challenges with “the more colorful language in the corporation’s internal documents. “While [p]laintiffs may have desired more detailed or nuanced language” in Xerox’s disclosures, the Second Circuit explained that it has “never required a corporation to frame its public information with specific adjectives.” The court underscored that “‘[d]isclosure is not a rite of confession’” and “‘[c]orporations are not required to phrase disclosures in pejorative terms.’” All that “‘is required is the disclosure of material objective factual matters.’”
Ninth Circuit Holds That Item 303 of Regulation S-K Does Not Create a Duty to Disclose Under Section 10(b) and Rule 10b-5
Item 303 of Regulation S-K sets forth the disclosure requirements for the Management’s Discussion and Analysis (MD&A) section of a public company’s SEC filings. In relevant part, Item 303 states that a public company must “[d]escribe any known trends or uncertainties that have had or that the registrant reasonably expects will have a material favorable or unfavorable impact on net sales or revenues or income from continuing operations.” 17 C.F.R. § 229.303(a)(3)(ii).
On October 2, 2014, the Ninth Circuit held that “Item 303 [of Regulation S-K] does not create a duty to disclose for purposes of Section 10(b) and Rule 10b-5.” In re NVIDIA Corp. Sec. Litig., 768 F.3d 1046 (9th Cir. 2014) (O’Connell, J.). Concurring with the Third Circuit’s reasoning in Oran v. Stafford, 226 F.3d 275 (3d Cir. 2000), the Ninth Circuit found that “[m]anagement’s duty to disclose under Item 303 is much broader than what is required under the standard pronounced in” Basic Inc. v. Levinson, 485 U.S. 224 (1988). The Basic test for the materiality of forward-looking information balances “the indicated probability that the event will occur” against “the anticipated magnitude of the event in light of the totality of the company activity.” Id. (quoting Basic, 485 U.S. 224). In contrast, Item 303 requires disclosure of “known trends or uncertainties that have had or that the registrant reasonably expects will have a material favorable or unfavorable impact on net sales or revenues or income from continuing operations.” Id. (quoting 17 C.F.R. § 229.303(a)(3)(ii)). The Ninth Circuit found it significant that the SEC has explicitly stated that Basic’s “probability/magnitude test for materiality … is inapposite to Item 303 disclosure,” which “specifies its own standard for disclosure—i.e., reasonably likely to have a material effect.” Id. (quoting Exchange Act Release No. 34-26831, 54 Fed. Reg. 22427 (May 24, 1989)).
The Ninth Circuit concluded that plaintiffs may not rely on Item 303 when alleging a duty to disclose. Rather, the court held that “[s]uch a duty to disclose must be separately shown according to the principles set forth by the Supreme Court in
Basic and”
Matrixx Initiatives, Inc. v. Siracusano, 131 S. Ct. 1309 (2011).
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Securities Law Alert Resource Center.