Friday, April 12, 2024

Macquarie Infrastructure Corp. v. Moab Partners, L. P.

I’ve frequently posted about omissions liability under the federal securities laws; you can read many of those posts, in reverse chronological order, here, here, and here.  But, here’s the CliffsNotes version of where we are now, after the Supreme Court’s decision today in Macquarie Infrastructure Corp. v. Moab Partners, L. P..


Once upon a time, there was a statute, Section 10(b) of the Exchange Act. That statute made it unlawful:


To use or employ, in connection with the purchase or sale of any security registered on a national securities exchange or any security not so registered, or any securities-based swap agreement any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the Commission may prescribe as necessary or appropriate in the public interest or for the protection of investors.

The Commission did, in fact, adopt those rules and regulations, in the form of Rule 10b-5, which made it unlawful:


(a) To employ any device, scheme, or artifice to defraud,

(b) 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

(c) 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.

These subparts, collectively, were intended to prohibit the full extent of conduct prohibited by Section 10(b) itself.  See SEC v. Zandford, 535 U.S. 813 (2002).   That is, if it could fall into the category of a “manipulative or deceptive device or contrivance” in connection with the purchase or sale of a security, then it must be prohibited by at least one of Rule 10b-5’s subparts.


Back in kinder, simpler times, U.S. courts throughout the land interpreted Section 10(b) and Rule 10b-5 to prohibit not only “manipulative or deceptive device[s] or contrivance[s]”, but also conduct that aids and abets the “manipulative or deceptive device or contrivance” of someone else.  But, alas, in Central Bank of Denver, N. A. v. First Interstate Bank of Denver, N. A., 511 U.S. 164 (1994), the Supreme Court said – nay!  Section 10(b) prohibits “only the making of a material misstatement (or omission) or the commission of a manipulative act”; mere “aiding” someone else’s “manipulative or deceptive device or contrivance” is not prohibited.


That, of course, kicked off years of litigation over the distinction between aiding a “manipulative or deceptive device or contrivance” and actually participating in one.


Which brought us to Janus Capital Group, Inc. v. First Derivative Traders, 564 U.S. 135 (2011).  There, investment adviser Janus Capital Management caused its affiliated mutual funds to file false prospectuses about those funds’ policies. The Supreme Court held that the investment adviser had not violated Rule 10b-5(b), because it had not actually “made” a false statement.  The funds made false statements.  Though the funds’ statements had been drafted by its investment adviser, the statements had been filed under the funds’ name, making the funds – and only the funds – responsible for their contents.  This highly technical definition of the word “make,” the Court further explained, was necessary to preserve the line between primary liability and aiding and abetting liability.


Oh no.


Because, aiding and abetting, we learned from Central Bank, is outside the scope of the Section 10(b) statute.  But the Janus holding was based on a technical definition of the word “make,” which appears only in one subpart of Rule 10b-5.  Was the Court seriously proposing that intentionally causing a captured entity to issue false statements is not a “manipulative or deceptive device or contrivance” within the meaning of Section 10(b)?  Or was the Court merely holding that such conduct does not run afoul of Rule 10b-5(b), but still could run afoul of Rule 10b-5(a) or (c)?


In Lorenzo v. SEC, 587 U.S. 71 (2019), we got an answer.  Janus was about Rule 10b-5(b); there may well be conduct – including distributing false statements that someone else made, with an intent to deceive – that falls within Section 10(b), but not Rule 10b-5(b) (i.e., that falls within Rule 10b-5(a) or 10b-5(c)).


Which brings us to Moab v. Macquarie, wherein the Supreme Court decided that the Central Bank to Janus to Lorenzo journey was so much fun, it was worthwhile to do it again.


In Moab, shareholders of Macquarie Infrastructure Corp. brought a fraud on the market class action, alleging that Macquarie filed its 10-K without including certain information required to be disclosed under Item 303.  The shareholders contended that omitting required information was prohibited by Rule 10b-5(b).


The Supreme Court rejected the claim.  According to the Court, Rule 10b-5(b)’s language is limited solely to affirmatively false or misleading statements – not “pure” omissions.  The Court contrasted the language of Rule 10b-5(b) with the language of Section 11 of the Securities Act of 1933.  The latter prohibits not only false statements and misleading omissions, but also failure to disclose required information; Rule 10b-5(b), however, says nothing about failure to disclose required information.  Therefore, concluded the Court, absent an affirmative false or misleading statement, Rule 10b-5(b) does not create liability.


Except, we know that Section 10(b) prohibits “pure” omissions.  We know that because the Supreme Court has said so.  See Chiarella v. U.S., 445 U.S. 222 (1980) (“the Commission recognized a relationship of trust and confidence between the shareholders of a corporation and those insiders who have obtained confidential information by reason of their position with that corporation. This relationship gives rise to a duty to disclose because of the ‘necessity of preventing a corporate insider from . . . tak[ing] unfair advantage of the uninformed minority stockholders.’”); SEC v. Zandford, 535 U.S. 813 (2002) (“each [sale] was deceptive because it was neither authorized by, nor disclosed to, the Woods”); Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128, 152-53 (1972) (“The individual defendants, in a distinct sense, were market makers, not only for their personal purchases constituting 8 1/3% of the sales, but for the other sales their activities produced. This being so, they possessed the affirmative duty under the Rule to disclose this fact to the mixed-blood sellers.”).  


Which makes perfect sense!  Because whatever the language of 10b-5(b), it seems entirely unobjectionable that it should be considered a “manipulative or deceptive device or contrivance” within the broader meaning of Section 10(b) to intentionally withhold information you have a duty to disclose – from some other source – in order to mislead someone else.


The inescapable conclusion, then, is that if pure omissions are not prohibited under 10b-5(b), they must be prohibited under either 10b-5(a) or 10b-5(c).


Except Moab included this curious footnote:


The Court granted certiorari to address the Second Circuit’s pure omission analysis, not its half-truth analysis. See Pet. for Cert. i (“Whether . . . a failure to make a disclosure required under Item 303 can support a private claim under Section 10(b), even in the absence of an otherwise-misleading statement” (emphasis added)) …The Court does not opine on issues that are either tangential to the question presented or were not passed upon below, including what constitutes “statements made,” when a statement is misleading as a half-truth, or whether Rules 10b–5(a) and 10b–5(c) support liability for pure omissions.

It also included such language as:


Neither Congress in §10(b) nor the SEC in Rule 10b–5(b) mirrored §11(a) to create liability for pure omissions…

 So … either pure omissions – even if the omissions were part of an intentional effort to deceive someone to whom there was a duty of disclosure – do not count as “manipulative or deceptive device[s] or contrivance[s]”, which will come as a pleasant surprise to various insider traders and faithless brokers, or Rules 10b-5(a) and (c) prohibit conduct outside the scope of Section 10(b).


Or … we’ll be walking all this back in a couple of years.


Okay, fine, here’s the actual way out: The Court didn’t exactly say omissions aren’t prohibited; it said “A pure omission occurs when a speaker says nothing, in circumstances that do not give any particular meaning to that silence.”  Only these “pure omissions” are not prohibited.


Presumably, circumstances that give meaning to the silence are when one acts as a broker, or a market maker, or trades on the information provided in the context of a trusting relationship.  Or, it is not a “pure” omission – it is an omission coupled with conduct – when one misuses a brokerage account, or acts as a market maker, or trades in stock.


Without explanation – or even an acknowledgment of the inferential leap – the Supreme Court apparently concluded that no conduct is involved, or no “circumstances … giv[ing] any particular meaning to that silence” exist, when a defendant engages in the action of filing an official document with the SEC that omits required information. 


So I assume that the next smartass who tries to cite Moab as a defense to insider trading will be told “but that’s a circumstance that gives particular meaning to the silence!”


In other words, the rule, such as it is, appears to be that it’s not fraud if it’s in connection with a fraud on the market class action, and it is fraud anywhere else.  Which means, we must ask – is it a circumstance that gives particular meaning if someone doesn’t merely leave required information out of a form but fails to file a form at all? 


I guess we’ll soon find out. 


Finally, as I previously mentioned, the SEC can fix this – or most of this – by adding a line item to every filed form declaring that it is not only accurate, but also complete.  That would be the explicit statement rendered false by a failure to include required information.  Still, such a certification is not a complete panacea – there would still be uncertainty around entire failures to file a form, and over whose scienter would be attributed to the company for a false certification, but it would solve some of the problem.


Also, icymi, earlier today I posted a plug about stuff I've done recently.

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