(Article from Securities Law Alert, December 2016)
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Second Circuit: Breach of Contract Can Only Serve as the Basis for a Fraud Claim If There Is Proof of Fraudulent Intent at the Time of Contract Execution
On May 23, 2016, the Second Circuit considered the question of when a breach of contract can “also support a claim for fraud[.]” United States v. Countrywide Home Loans, 822 F.3d 650 (2016) (Wesley, J.). The Second Circuit held that “where allegedly fraudulent misrepresentations are promises made in a contract, a party claiming fraud must prove fraudulent intent at the time of contract execution; evidence of a subsequent, willful breach cannot sustain the claim.”
Second Circuit: Criminal Convictions Under Section 206 of the Investment Advisers Act Do Not Require Proof of Intent to Harm
Section 206 of the Investment Advisers Act prohibits investment advisers from engaging in certain types of transactions, including “any device, scheme, or artifice to defraud any client or prospective client.” The Act provides for criminal penalties against anyone who “willfully violates” its provisions.
On May 4, 2016, the Second Circuit held a criminal conviction premised on a violation of Section 206 does not require proof of intent to harm. United States v. Tagliaferri, 820 F.3d 568 (2d Cir. 2016) (per curiam). Rather, the Second Circuit held “the willfulness mental state” for criminal convictions under Section 206 only requires the Government to prove “the defendant acted with knowledge that his conduct was unlawful.” The Second Circuit emphasized that “[S]ection 206 prohibits not only common-law fraud by investment advisers but also any practice which operates as a fraud or deceit.”
Seventh Circuit: Applies the Delaware Chancery Court’s Trulia Decision and Rejects a Disclosure-Only Settlement
Earlier this year, the Delaware Chancery Court indicated that disclosure-only settlements would likely be met with continued disfavor “unless the supplemental disclosures address a plainly material misrepresentation or omission.” In re Trulia, Inc. Stockholder Litig., 129 A.3d 884 (Del. Ch. 2016).
On August 10, 2016, the Seventh Circuit explicitly “endorse[d], and appl[ied]” the Delaware Chancery Court’s decision in Trulia to reverse district court approval of a disclosure-only settlement based on the Seventh Circuit’s finding that the supplemental disclosures provided “nonexistent” benefits to the class. In re Walgreen Co. Stockholder Litig., 832 F.3d 718 (7th Cir. 2016) (Posner, J.). The Seventh Circuit stated that supplemental disclosures must not only “address the misrepresentation or omissions” but also “must correct them” for a disclosure-only settlement to merit court approval.
Eighth Circuit: Court Reverses Class Certification in Best Buy Action, Holding Defendants Successfully Rebutted the Basic Presumption with “Overwhelming Evidence” That the Alleged Misstatements Had No Price Impact
In Halliburton v. Erica P. John Fund, 134 S. Ct. 2398 (2014), the Supreme Court held that “defendants must be afforded an opportunity before class certification to defeat the [fraud-on-the-market] presumption through evidence that an alleged misrepresentation did not actually affect the market price of the stock.”
On April 12, 2016, in the first circuit court opinion to apply Halliburton in considering defendants’ price impact evidence, the Eighth Circuit reversed a district court decision granting class certification in a securities fraud action against Best Buy[1]. IBEW Local 98 Pension Fund v. Best Buy Co., 818 F.3d 775 (8th Cir. 2016) (Loken, J.). The Eighth Circuit held that defendants had successfully rebutted the fraud-on-the-market presumption by presenting “overwhelming evidence” that the alleged misstatements had no impact on Best Buy’s share price. The Eighth Circuit further held that the district court had “misapplied the price impact analysis mandated by” Halliburton and “abused its discretion” in certifying the class.
Ninth Circuit: (1) Rule 13a- 14 Provides the SEC with a Cause of Action Against Executives Who Certify False or Misleading Statements, and (2) SOX 304’s Disgorgement Provisions Require Only Issuer Misconduct, Not Personal Misconduct by the CEO or CFO
Pursuant to Rule 13a-14 of the Securities Exchange Act, an issuer’s CEO and CFO must certify the accuracy of the issuer’s financial reports filed with the SEC. On August 31, 2016, the Ninth Circuit held Rule 13a-14 “provides the SEC with a cause of action not only against CEOs and CFOs who do not file the required certifications, but also against CEOs and CFOs who certify false or misleading statements.” SEC v. Jensen, 835 F.3d 1100 (9th Cir. 2016) (Clifton, J.).
The Ninth Circuit also considered the reach of Section 304 of the Sarbanes-Oxley Act (“SOX 304”), which permits the SEC to seek disgorgement of certain CEO and CFO compensation and stock sale profits when the issuer is required to prepare an accounting restatement “as a result of misconduct.” The Ninth Circuit held SOX 304’s disgorgement remedy “applies regardless of whether a restatement was caused by the personal misconduct of an issuer’s CEO and CFO or by other issuer misconduct.” Jensen, 835 F.3d 1100.
[1] Simpson Thacher represents Best Buy and several of its executives in this action.