(Article from Securities Law Alert, September 2021)
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On August 25, 2021, the Second Circuit affirmed the dismissal of a putative securities fraud class action alleging that a bank’s financial statements were misleading because they incorporated revenue from money laundering but failed to simultaneously disclose what the bank knew about possible money laundering at one branch. Plumber & Steamfitters Local 773 Pension Fund v. Danske Bank, 2021 WL 3744894 (2d Cir. 2021) (Jacobs, J.). The court pointed out that plaintiffs did not allege that the financial numbers were manipulated in any way, only that defendants failed to simultaneously disclose the anti-money laundering issues. The court held that “because [the bank] was under no obligation to self-report its growing suspicions regarding those issues, its disclosure of accurate historical data, standing alone, is not actionable.”
Background and Plaintiffs’ Allegations
Between 2007 and 2015, the bank allegedly failed to follow anti-money laundering (AML) protocols at one of its European branches, which allowed suspicious transactions of approximately $230 billion to flow through that branch. In 2018, after news of the bank’s AML issues had become public but before the full breadth was revealed, plaintiffs purchased the bank’s American Depositary Receipts. Plaintiffs alleged that the bank’s 2013-2015 financial statements included the allegedly ill-gotten profits from the AML violations. Plaintiffs claimed that it was misleading under Section 10(b) of the Exchange Act and Rule 10b-5(b) for the bank to release these numbers without simultaneously disclosing what it knew about possible money laundering.
Accurate Financial Statements Do Not Become Misleading Due to Nondisclosure of Suspected Misconduct That May Have Contributed to the Results
The court held that plaintiffs did not have an actionable securities fraud claim for any of the bank’s alleged misstatements or omissions. The court rejected plaintiffs’ theory that it was misleading for the bank to release its financial statements without also disclosing what it knew about possible money laundering. The court began its analysis by stating that “companies do not have a duty to disclose uncharged, unadjudicated wrongdoing.” The court further explained that “[a]s a corollary of that rule, accurately reported financial statements do not automatically become misleading by virtue of the company’s nondisclosure of suspected misconduct that may have contributed to the financial results.” The court noted that in a related context, the Sixth Circuit had concluded that a securities law violation could not be premised on a company’s disclosure of accurate historical data. In re Sofamor Danek Grp., 123 F.3d 394 (6th Cir. 1997).
The court stated that it was critical that plaintiffs did not allege that the financial numbers disclosed were manipulated in any way, just that the bank failed to simultaneously disclose the AML issues. The court consequently determined that “because [the bank] was under no obligation to self-report its growing suspicions regarding those issues, its disclosure of accurate historical data, standing alone, is not actionable.” The court reasoned that otherwise every company whose quarterly financial reports include revenue from transactions that violated AML regulations could be sued for securities fraud. The court thus affirmed the district court, concluding that the plaintiffs’ “allegations do not move the claims outside the realm of corporate mismanagement and into the realm of securities fraud.”