Argument preview: Justices to consider ability of securities investors to sue for faulty disclosures about tender offers
on Apr 8, 2019 at 12:55 pm
Emulex Corp v. Varjabedian, which will be argued on April 15, is a case with a simple story and a complicated story. The justices’ approach to this case is likely to turn on which story they prefer.
The case involves Section 14(e) of the Securities Exchange Act, which among other things proscribes “mak[ing] any untrue statement of a material fact … in connection with any tender offer.” Respondent Gary Varjabedian represents a class of investors who claim that petitioner Emulex failed to provide adequate information to allow investors to evaluate the price in a tender offer for the stock of Emulex. The lower courts decided that Emulex could be held liable if the investors could prove that Emulex negligently failed to provide material information in its disclosures to investors. The case raises two questions: whether the investors can sue Emulex for damages under Section 14(e) and, if they can, whether they are required to prove more than that the company acted negligently.
Emulex tells the simple story, which runs something like this. This case is about judicially inferred private rights of action. It is bad when a court infers a private right of action that does not appear on the face of the statute because it usurps Congress’ power to specify the liability regime for the laws it enacts. The Supreme Court has not been in the business of inferring private rights of action for a good 30 years now. It has not previously approved a private right of action under Section 14(e). It therefore should either hold that there is no private right of action or, at a minimum, hold that mere negligence is not enough for liability. If there is going to be a private right of action here, liability should require proof of “scienter,” the most common standard of intent under the securities laws, which requires something quite close to actual intent to violate the securities laws.
The investors tell a considerably more intricate story, along the following lines. They emphasize that Section 14(e) has two distinct clauses. One of them (the clause at issue here) prohibits material misstatements and omissions. The other prohibits fraudulent, deceptive and manipulative acts. It makes good sense to require scienter for the second clause – you shouldn’t condemn somebody for fraud, deception or manipulation if they acted negligently. But it makes much less sense to require intent when the investors already have established that a defendant’s statement omitted information so material as to make the statement misleading. The investors point to an earlier Supreme Court case called Aaron v. SEC, in which the court held that negligence would violate the prohibition on material misstatements in Section 17(a) of the Securities Exchange Act. Because the Supreme Court already had made that ruling when Congress enacted the similar language in Section 14(a), it is only fair to assume that Congress intended Section 14(a), like Section 17(a), to extend to negligent acts. After all, the investors point out, wouldn’t a Congress that was obligating companies to make disclosures about tender offers have wanted investors to be protected from losses that flow from negligently material misstatements?
On the broader question – whether there should be a private right of action under Section 14(a) – the investors point out that none of the lower courts considered this question; Emulex did not contest the point given existing lower-court precedent that recognizes the private right of action. Accordingly, they argue, there is no reason for the court to address the broad question. Moreover, because the private right of action has been recognized without objection for more than 50 years in the lower courts, it would be far too disruptive for the court to reach out to invalidate it at this late date.
As the stark differences between those two narratives suggest, the court’s precedents could support an outcome for either side. We’ll know much more after the argument about where the justices are leaning. I’ll be watching closely for Justice Stephen Breyer’s reaction. He’s written recently at length (in his dissent in Jam v. International Finance Corp.) about the interpretive problem of how to read a statute that meant one thing when Congress adopted it but would mean quite a different thing today. This case seems to present exactly that problem: The investors are more likely to prevail under the law that existed when Congress wrote the statute, while the company is more likely to prevail under more modern interpretive principles that are employed today.
[Disclosure: Goldstein & Russell, P.C., whose attorneys contribute to this blog in various capacities, is among the counsel on an amicus brief in support of the respondents in this case. The author of this post is not affiliated with the firm.]