Federal Court Rules That Issuers Face Strict Liability for Erroneous Statements About Legal Compliance in Registration Statements, Even if They Did Not Know the Statements Were False

by Mintz Levin
Contact

A recent federal appeals court decision addressing pleading standards for shareholder suits under Section 11 of the Securities Act of 1933, as amended, highlights the potential dangers of giving broad assurances of legal compliance in registration statements. The decision is particularly significant for companies in heavily regulated industries such as health care and biotechnology, where legal compliance can be complex and difficult to monitor, because it indicates that issuers of securities can face strict liability for material misstatements about compliance, even without actual knowledge that the statements were false.

In Indiana State District Council of Laborers and Hod Carriers Pension and Welfare Fund v. Omnicare, Inc., 2013 U.S. App. LEXIS 10385 (6th Cir. May 23, 2013), the U.S. Court of Appeals for the Sixth Circuit held that shareholders can pursue Section 11 claims against securities issuers and signers of registration statements, including directors and certain officers of the issuers, based on alleged false statements about legal compliance or matters of opinion, without alleging that the defendants actually knew that the statements were false at the time they were made. The decision is noteworthy because the Sixth Circuit disagreed with previous decisions by two other federal courts of appeals, which had held that Section 11 claims based on statements of opinion or belief require the plaintiff to allege that the statements were both objectively false and subjectively disbelieved by the defendants at the time they were made.1 This disagreement sets the stage for possible U.S. Supreme Court review in the future, should Omnicare seek certiorari.

Omnicare provides pharmaceutical care services for the elderly and other residents of long-term care facilities. In the registration statement for its December 2005 securities offering, Omnicare stated that it believed its contracts with drug companies were “legally and economically valid” arrangements and that it believed it was in material compliance with applicable federal and state regulations.

Notwithstanding these representations, Omnicare subsequently became the subject of federal and state enforcement actions in 2006 that alleged violations of anti-kickback laws and false claims in connection with administration of prescription drug programs reimbursed under Medicare and Medicaid programs. The cases were resolved through settlements obligating Omnicare to pay over $100 million.

Purchasers of securities in Omnicare’s December 2005 public offering sued Omnicare and its directors and officers for various securities violations, claiming in part that statements in the registration statement regarding the company’s compliance with applicable laws and regulations were materially misleading because they concealed the alleged illegal kickback arrangements with pharmaceutical manufacturers and false claim submissions to Medicare and Medicaid.

The federal district court dismissed the plaintiffs’ Section 11 claim, reasoning that statements about legal compliance are “soft information,” i.e., statements of opinion, which are generally not actionable, and that the plaintiffs did not adequately plead facts showing that the defendants knew the legal compliance statements were false.2

On appeal, however, the Sixth Circuit reversed the district court on this point. The Sixth Circuit ruled that to state a claim under Section 11, the plaintiffs did not need to allege that the defendants knew that the legal compliance statements were false, because Section 11 is a strict liability statute that does not require proof of scienter, in contrast with a securities fraud claim under Section 10(b) of the Securities Exchange Act of 1934, as amended.3

Although Section 11 provides a due diligence defense for defendants other than the issuer of securities, the Sixth Circuit’s Omnicare decision is nevertheless important because it loosens the standard for pleading Section 11 claims involving statements of opinion and would hold issuers strictly liable under Section 11 for materially false statements of opinion even though they did not know the statements were false.

So what disclosure practices should an issuer adopt when it issues securities pursuant to a registration statement? Should it refrain altogether from making any statements about legal compliance? That would be the safest course, but not practicable from the standpoint of investor and underwriter expectations, practice, and disclosure requirements. The Omnicare decision highlights the key importance of careful, thorough diligence and drafting of all disclosure in registration statement filings for public offerings, and a highly tailored and specific description of the steps taken by the issuer to ensure legal compliance. Avoiding broad, non-specific and generic representations that may serve as a target for future securities suits is critical.

Endnotes

1 Omnicare, 2013 U.S. App. LEXIS 10385, at *17-18 (disagreeing with Fait v. Regions Financial Corp., 655 F.3d 105, 110 (2d Cir. 2011), and Rubke v. Capitol Bancorp Ltd., 551 F.3d 1156, 1162 (9th Cir. 2009)).

2 See Indiana State District Council of Laborers and Hod Carriers Pension & Welfare Fund v. Omnicare, Inc., 2012 U.S. Dist LEXIS 17526, at *13-16, 2012 WL 462551 (E.D. Ky. Feb. 13, 2012).

3 Omnicare, 2013 U.S. App. LEXIS 10385, at *16-17. As noted above, in reaching this conclusion, the Sixth Circuit disagreed with decisions by the Second Circuit in Fait v. Regions Financial Corp., and by the Ninth Circuit in Rubke v. Capitol Bancorp Ltd., concerning the proper interpretation of the Supreme Court’s decision concerning proxy statements in Virginia Bankshares, Inc. v. Sandberg, 501 U.S. 1083 (1991). Virginia Bankshares held that, where a proxy solicitation is alleged to contain a material misstatement in violation of Section 14 of the Securities Exchange Act, and the claim is based upon a statement of opinion or belief or the reasons for taking an action, the plaintiff must show that the statement was both objectively false and not believed by the speaker at the time it was made. Id. at 1095-96. Fait and Rubke applied this same standard to Section 11 claims, whereas the Omnicare court concluded that the standard should not apply to Section 11 because it is a strict liability statute.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Mintz Levin | Attorney Advertising

Written by:

Mintz Levin
Contact
more
less

Mintz Levin on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Privacy Policy (Updated: October 8, 2015):
hide

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.

Security

JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at info@jdsupra.com. In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at: info@jdsupra.com.

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.
Feedback? Tell us what you think of the new jdsupra.com!