So Elon Musk didn't file a form on time

By now, I’m sure everyone is very much aware that Elon Musk took a giant stake in Twitter, was late filing his Schedule 13G (and failed to include a certification that he intended to hold passively), was added to Twitter’s board, and updated his Schedule 13G to a 13D, leaving a question whether he should have been filing on 13D all along.  Once Musk did reveal his stake, Twitter’s stock price shot up.

The SEC has not historically policed the Schedule 13G/Schedule 13D filing requirements with great vigor, though Gary Gensler has highlighted the potential harm to traders/markets when they trade in ignorance of the presence of a potential activist investor; see also United States v. Bilzerian, 926 F.2d 1285 (2d Cir. 1991) (“Section 13(d)’s purpose is to alert investors to potential changes in corporate control so that they can properly evaluate the company in which they had invested or were investing.” (quotations and alterations omitted)).

Matt Levine asks whether this means Elon Musk engaged in insider trading, since he managed to save maybe $143 million by continuing to amass Twitter stock before finally revealing his holdings.

I’m going to ask something else: do the traders who sold between the time he was supposed to file the 13G, and the time he actually filed it, have a claim?  And it seems pretty much, yes they do.

And boy howdy this got long, so, under the cut it goes:

The requirement that acquirers file Schedule 13Ds/13Gs is derived from Section 13(d) of the Exchange Act.  That statute itself does not create a private right of action for traders, but Section 10(b) and Rule 10b-5 give rise to a private right of action for any manipulative or deceptive devices/false statements of material fact/omissions that render statements misleading, in connection with a securities transaction.  And there’s precedent going back for decades to the effect that (1) failing to file a 13D – or failing to update one with material changes, as required – may violate 10(b), see, e.g., United States v. Wey, 2017 WL 237651 (S.D.N.Y. Jan. 18, 2017); SEC v. General Refractories, 400 F. Supp. 1248 (D.D.C. 1975), and (2) private traders in particular can sue, see, e.g., Puddu v. 6D Global Tech, 2021 WL 1198566 (S.D.N.Y. Mar. 30, 2021); Vladimir v Bioenvision, 606 F. Supp. 2d 473 (S.D.N.Y. 2009); Burt v. Maasberg, 2014 WL 1291834 (D. Md. Mar. 28, 2014); Levie v. Sears & Roebuck, 496 F. Supp. 2d 944 (E.D. Ill. 2007); Amida Capital Mgmt. v. Cerberus, 669 F. Supp. 2d 430 (S.D.N.Y. 2009); In re Luxottica Grp SpA Sec. Litig.,  293 F. Supp. 2d 224 (S.D.N.Y. 2003). 

In a lot of these latter cases, the claim fails because the trader is unable to show that the acquirer really did reach the point where a 13D update/filing was required, see, e.g., Vladimir v Bioenvision, 606 F. Supp. 2d 473 (S.D.N.Y. 2009); Levie v. Sears & Roebuck, 676 F. Supp. 2d 680 (E.D. Ill. 2009); Amida Capital Mgmt. v. Cerberus, 669 F. Supp. 2d 430 (S.D.N.Y. 2009), but not all of them, see, e.g., Puddu v. 6D Global Tech, 2021 WL 1198566 (S.D.N.Y. Mar. 30, 2021); Burt v. Maasberg, 2014 WL 1291834 (D. Md. Mar. 28, 2014).  Some of these specifically involve allegations that failure to file/update a 13D concealed the acquirer’s interest in the stock, thereby keeping prices depressed and causing traders to sell their stock for cheap.  See, e.g., Levie v. Sears & Roebuck, 496 F. Supp. 2d 944 (E.D. Ill. 2007); Vladimir v Bioenvision, 606 F. Supp. 2d 473 (S.D.N.Y. 2009).  There’s even a Supreme Court case that suggests private traders can sue in these circumstances, though it does not specify the source of the cause of action.  See Rondeau v Mosinee Paper Co, 422 U.S. 49 (1975) (unnecessary to grant injunctive relief over a late 13D, because, inter alia, “those persons who allegedly sold at an unfairly depressed price have an adequate remedy by way of an action for damages”).  More on that in a minute.

What about counterauthority?

Well, I’m gonna be honest with you and say I got bored after about reading about 20-30 cases so my search was not exhaustive, but I have not seen any courts hold that Section 10(b) is unavailable in these circumstances.  What I have seen, though, are a couple of curious statements suggesting that Section 18 is the exclusive private right of action for 13(d) violations, but I don’t find that precedent terribly reliable.

In Motient Corp. v. Dondero, 529 F.3d 532 (5th Cir. 2008), an issuer tried to sue directly under 13(d) and the Fifth Circuit followed the general rule that issuers have no cause of action for damages under 13(d).  In that context, the Fifth Circuit added this paragraph:

The Williams Act was enacted to protect shareholders who are forced to make decisions between bidders and management. Since any material misstatement or omission to an investor who purchases or sells the security and actually relies on that information gives rise to a private cause of action under Section 18(a) of the Exchange Act, 15 U.S.C. § 78r(a), Section 18(a) provides the sole basis for a private right of action for damages resulting from a violation of Section 13(d). Hallwood Realty Partners, L.P., 286 F.3d at 620. Motient provides no compelling reason for recognizing a private right of action in favor of issuers for money damages.

Now, first, nothing in the case suggested the Fifth Circuit even considered Section 10(b).  Second, though it cites Hallwood Realty Partners, L.P. v. Gotham Partners, L.P., 286 F.3d 613 (2d Cir. 2002), that case also involved an issuer trying to sue directly under Section 13(d), and the Second Circuit is among the courts that have at least strongly suggested that Section 10(b) is available for a failure to update a 13D, see Azurite Corp v. Amster, 52 F.3d 15 (2d Cir. 1995). Third, Section 18 by its terms does not create a right of action for failure to file documents or omitting required information, only for filing false documents, so it would be passing strange if it were to entirely displace Section 10(b) here.  And fourth, taken at its word – and in taking Hallwood Realty Partners at its word – Motient would mean that Section 10(b) would not even be available for a flat out false 13D, and that can’t possibly be right, given Section 10(b)’s well-established breadth.  After all, if you can still use Section 10(b) for false statements in a registration statement – despite the availability of a specific cause of action for false registration statements, see Herman & MacLean v. Huddleston, 459 U.S. 375 (1983) – then it seems obvious that Section 18, which makes no reference to Section 13(d) of the Exchange Act, cannot displace Section 10(b) for false 13D filings, either. 

Plus, in Kamerman v. Steinberg, 891 F.2d 424 (2d Cir. 1989) (cited by Hallwood), the Second Circuit addressed an attempt to bring a claim directly under Section 13(d) alongside a Section 10(b) claim.  In the context of the 13(d) claim, the court said that Section 18 is the sole damages remedy for false filings, but the court then went on to analyze the Section 10(b) claim on the merits.

In sum, the courts that have said Section 18 is the sole remedy seem to have done so entirely in the context of analyzing whether Section 13(d) itself provides a cause of action. 

What I haven’t found – and I’m not saying it’s not out there, just that I stopped reading cases – is any serious discussion of Rule 10b-5 liability for omissions vs. liability for misleading statements.  However, there is kind of a longstanding dispute about whether Rule 10b-5 gives rise to liability when someone does not affirmatively say anything misleading, but merely violates a regulatory disclosure obligation; the Supreme Court even granted cert to resolve the split, and later DIG’d.  The argument for permitting liability goes something like, everyone knows there’s a disclosure obligation, therefore the failure to disclose is understood by the market as an affirmative representation that there is nothing to disclose, i.e., the absence of facts that would warrant disclosure.  But given all this, it’s possible some circuits would refuse to recognize omissions liability under Section 10(b), and therefore would refuse to find Musk liable for remaining silent when he should have spoken. 

But wait, I’ve got more.

Let’s go back to Section 18 for a minute, and imagine that it is available – or even exclusive – for 13(d) violations.  Section 18 prohibits “any statement in any application, report, or document filed pursuant to this chapter or any rule or regulation thereunder … which statement was at the time and in the light of the circumstances under which it was made false or misleading with respect to any material fact,…” which should be easier for plaintiffs than Section 10(b) because it gives rise to liability based on negligence; Section 10(b), by contrast, would require plaintiffs to prove that Musk acted with intent or recklessness.  But plaintiffs almost never use Section 18, because courts have interpreted it not to permit fraud-on-the-market liability; instead, it requires “eyeball” reliance, Ross v. A.H. Robins Co., Inc., 607 F.2d 545 (2d Cir. 1979), and it’s rare that someone can show that, and almost impossible to show in the class action context. 

Maybe the Rondeau Court was referring to Section 18 when it referenced a damages cause of action for failure to file a 13D.

Would it work here?  You could argue that “eyeball” reliance cannot be required when there’s nothing to “eyeball”; what are plaintiffs supposed to show, that they visited the SEC website and looked at the absence of a filing?  This is precisely why, in addition to fraud-on-the-market liability, we have omissions liability, which permits a presumption of reliance from the absence of disclosure.  See Affiliated Ute Citizens v. United States, 406 U.S. 128 (1972).  True, courts have also said that even Affiliated Ute is not available for Section 18, but that was in the context of a filed document, suggesting that the plaintiffs would have to show they at least read the document on file.  See Ross v. A.H. Robins Co., Inc., 607 F.2d 545 (2d Cir. 1979); In re MDC Holdings Sec. Litig., 754 F. Supp. 785 (S.D. Cal. 1990).  That’s not the same as saying you’re going to make plaintiffs affirmatively prove reliance when there was literally nothing to read. 

Now, the Affiliated Ute presumption of reliance can be rebutted by a showing that the plaintiff would not have read the document even if the defendant made the required disclosure, Eckstein v. Balcor Film Investors, 58 F.3d 1162 (7th Cir. 1995); Shores v. Sklar, 647 F.2d 462 (5th Cir. 1981), but in this case, given the storm of publicity that followed Musk’s filing, plaintiffs should be able to show that yeah, it’s actually very likely that individual traders would have taken a look.  That’s a theory that at least one district court has accepted (reversed on appeal on the grounds that Affiliated Ute did not apply, see In re Volkswagen “Clean Diesel” Marketing, Sales Practices, and Products Liability Litigation, 2 F.4th 1199 (9th Cir. 2021)).

But wait, there’s more.

Another issue worth flagging is whether Musk’s acquisition of Twitter stock was material, given that even on his 13D, he disclaims any activist intentions.  Still, given Musk’s stated plan to make “significant improvements” to Twitter, not to mention the market reaction to his 13G, it would be hard to say as a matter of law that his stake was immaterial.  Cf. United States v. Bilzerian, 926 F.2d 1285 (2d Cir. 1991) (“whether a public company’s stock price moves up or down or stays the same after the filing of a Schedule 13D does not establish the materiality of the statements made, though stock movement is a factor the jury may consider relevant.”)

Finally, what is the class period?  Presumably it ends on April 4 when he filed his 13G (or maybe even April 5 when he filed the 13D), but what’s the start date?  And here’s a curious aspect to the filing requirement that Steve Bainbridge has highlighted: the investor has 10 days to file after acquiring 5% of the stock, but it’s not clear whether that’s calendar days or business days.  So that would mean Musk’s obligation to file was either March 24 or March 28.  There’s a weekend in there but I assume the extra time could be significant in terms of potential damages.

Okay, that’s all I’ve got.

Update: Commenters are saying it’s calendar days, with sources; that will certainly make plaintiffs’ counsel happy.

Second update: No sooner do I post that I have not seen a court hold that 10(b) is unavailable in these circumstances than a district court does hold that 10(b) in unavailable in these circumstances. Curiously, it was in New Jersey, which is in the Third Circuit. That circuit has in the past held that failure to speak when under a regulatory obligation is the equivalent of a false statement (though in the context of 14a-9 claims for false proxies).  See Jaroslawicz v. M&T Bank Corp., 962 F.3d 701 (3d Cir. 2020).  The district court nonetheless pointed out that many 10(b) claims for 13(d) violations had failed for various reasons in the past, and took from this that there is a general judicial reluctance to permit damages relief for 13(d) violations. As a result, the plaintiffs' claims were dismissed.