This Week In Securities Litigation

by Dorsey & Whitney LLP

The Supreme Court handed down the Omnicare decision on Securities Act Section 11 liability for opinion statements this week. In a judgment joined by all nine Justices the Court reversed the Sixth Circuit, concluding that opinion statements in a registration statement are actionable if the opinion is not believed or contrary to facts known at the time. The Section also imposes liability for the omission of material facts which a reasonable, objective investor would have expected to be disclosed.

Statistics published by Cornerstone Research show that while the number of securities class action settlements last year is about the same as in the prior year, the dollar amount of the settlements declined significantly. Nevertheless, the number of settling actions alleging GAAP violations increased significantly while the number of securities class actions paralleled by an SEC enforcement action declined.

Finally, the SEC filed two administrative proceedings last week, centered on violations of Exchange Act Section 15(a). One named 21 individuals and entities in a scheme involving one broker-dealer which used the others to acquire securities for it in offerings and in the secondary markets for a cut of the profits on resale. The other is a related action.


Rules: The Commission adopted Rules under the JOBS act regarding Reg. A+ (here).

Proposed rules: The Commission proposed rules which would require broker-dealers trading in off-exchange venues to become members of a national securities association (here).

Testimony: Chair Mary Jo White testified before the House Committee on Financial Services (March 24, 2015). Her testimony focused on the SEC’s agenda and FY 2016 budget request (here).

Remarks: Commissioner Kara M. Stein delivered remarks titled International Cooperation in a New Data-Driven World at the Brooklyn Law School International Business Law Breakfast Roundtable (March 26, 2015). Her remarks focused on systemic risk, effective swaps regulation and better accounting standards (here).

Remarks: Commissioner Luis A. Aguilar delivered remarks titled Preparing for the Regulatory Challenges of the 21st Century at the Georgia Law Review Annual Symposium (March 20, 2015). His remarks focused on efforts of the SEC to enhance its data gathering and analytics, the globalization of securities regulation and creating an environment for combating fraud (here).

Supreme Court

Omnicare, Inc. v. Laborers District Council Construction Pension Fund, No. 13-435 (S. Ct. March 24, 2015). The case centers on a registration statement filed by Omnicare in connection with a public offering of common stock. The firm is the largest pharmacy provider for nursing home residents in the U.S. In part it analyzed the impact of various federal and state laws on the business of the firm which included statements of belief regarding the firm’s compliance. Later the Government filed enforcement actions against the firm and plaintiffs brought suit alleging the statements of “belief” regarding compliance were false. The District Court granted Omnicare’s motion to dismiss, concluding statements of opinion were not actionable. The Sixth Circuit reversed, holding that if the statements were “objectively false” the statements were actionable.

The Supreme Court, in a unanimous decision, vacated the lower court rulings and remanded with instructions. Justice Kagan, writing for seven members of the Court, began by stating that the Sixth Circuit and the Funds “wrongly conflates facts and opinions.” While Section 11 by its plain terms applies to statements about facts it nevertheless still applies to opinions. First, an opinion implies that the speaker “actually holds the stated belief.” Thus if the speaker knew the statement was incorrect the expression of an opinion to the contrary would become an untrue statement of fact. Likewise, if the opinion contained an imbedded statement of fact which is incorrect again there would be an untrue statement of fact. Here the Funds claim that Omnicare turned out to be wrong is not sufficient to support Section 11 liability.

Second, the omissions provision of Section 11 must be considered. In part the Section states that there can be liability if Omnicare “omitted to state facts necessary” to make its opinion regarding legal compliance “not misleading.” Under this part of the statute the question turns on “the perspective of a reasonable investor: The inquiry (like the one into materiality) is objective.” Under this provision the investor can reasonably expect “not just that the issuer believes the opinion (however irrationally), but that it fairly aligns with the information in the issuer’s possession at the time. Thus, if the registration statement omits material facts about the issuer’s inquiry into or knowledge concerning a statement of opinion, and if those facts conflict with what a reasonable investor would take from the statement itself, then §11’s omissions clause creates liability.” The test here is an objective one of what a reasonable persons would understand from the statement.

Finally, to plead a Section 11 claim the securities law plaintiff cannot simply claim that the opinion was wrong. Rather, the complaint must call into question the basis of the claim or specify the facts which should have been disclosed. The decision was vacated and the case remanded since the omission theory was not considered by the lower courts. Justice Scalia concurred in part and in the judgment. Justice Thomas concurred in the judgment.

Securities Class Actions

Last year the number of securities class action cases settled remained largely constant compared to the prior year, according to a report by Cornerstone Research (here). At the same time the number of cases alleging GAAP violations increased, although only a small percentage involved restatements. Curiously, the number of securities class actions paralleled by an SEC enforcement action, which tend to be the larger, more complex cases, declined despite a claimed emphasis on financial fraud actions by the Commission.

In 2014 there were 63 court approved settlements, about the same as the prior year. Yet when compared to the five year period of 2010 through 2014, the number of settled cases declined about 35%. In 2014 67% of the settled cases alleged GAAP violations, a significant increase over the 61% average for such claims since the passage of the Reform Act. Interestingly, only 29% of those cases involved a restatement. 21% of the cases which alleged GAAP violations also named the auditor as a defendant. However, only 16% of the settled cases involved a parallel SEC enforcement action. That is significantly less than the 18% in 2013 and 21% in 2012. The median settlement for all post-Reform Act cases with a parallel SEC action of $12.9 million is more than twice that of cases without a corresponding Commission action, reflecting perhaps in part the fact that those actions tend to be more complex. In 2014 the median settlement for cases with a parallel SEC action was $9.4 million compared to $5.5 million for others.

SEC Enforcement – Filed and Settled Actions

Statistics: During this period the SEC filed 0 civil injunctive action and 2 administrative proceeding, excluding 12j and tag-along-actions.

Unregistered broker-dealer: In the Matter of Global Fixed Income, LLC, Adm. Proc. File No. 3-16460 (March 26, 2015) is a proceeding which names as Respondents Global, a registered broker dealer that primarily buys and sells fixed income securities for its own account, its owner Charles Kempf, and 19 other entities and individuals. For a period of three years beginning in June 2009 Global directed the other Respondents to purchase about $2.5 billion in New Issues for it and another $2.3 billion in securities in the secondary market. Before each New Issue Global transferred money to the Respondents’ account to be held on behalf of Global. After the purchase the allocations were transferred to Global which sold them on the secondary market, typically at a small profit. The profits from all of the transactions were divided. The Order alleges violations of Exchange Act Section 15(a). To resolve the action Global and each other respondent consented to the entry of a cease and desist order based on Exchange Act Section 15(a). Charles Kempf, the owner and CEO of Global, agreed to the entry of an order suspending him from the securities business for a period of one year. In addition, Global and Mr. Kempf will, on a joint and several, basis pay disgorgement of $2,435,989.61 along with prejudgment interest. Each of the other Respondents agreed to pay disgorgement. In addition, Global will pay a penalty of $500,000 while each other entity Respondent agreed to pay a penalty of $50,000 and each individual Respondent (other than Mr. Kempf) will pay a $5,000 penalty. See also In the Matter of David Boyle, Adm. Proc. File No. 3-16459 (March 26, 2015)(similar proceeding naming as a Respondent the 1/3 owner of Etck, a firm which is a Respondent in Global; settled with a cease and desist order based on Section 15(a) and the payment of disgorgement and a $5,000 penalty).

Offering fraud: SEC v. BioChemics, Inc., Civil Action No. 12-12324 (D. Mass.) is a previously filed action against the company and its founder and two promoters. The complaint alleged that beginning in 2009, and continuing through mid-2012, the firm and the individual defendants raised at least $9 million from 70 investors based on a series of misrepresentation about the firm. Previously the company agreed to a partial settlement which was recently entered by the Court. Under the terms of that partial settlement the company was enjoined from violating Securities Act Section 17(a) and Exchange Act Section 10(b). This week the Court entered a supplemented judgment, based on a motion by the Commission, ordering the company to pay disgorgement of $15,105,325, prejudgment interest and a penalty of $750,000. The litigation continues as to the individuals. See Lit. Rel. No. 23220 (March 25, 2015).

Criminal cases

Investment fund fraud: U.S. v. Zemlyansky, Case No. 1:12-cr-00171 (S.D.N.Y.). Mikhail Zemlyansky was charged with securities fraud tied to defrauding investors out of about $18 million with his claimed investment funds. To implement the scheme, Mr. Zemlyanski used two entities, Lyons Ward & Associates and the Rockford Group. Investors were told the firms were settlement claims funding companies that invested in law suits in return for a portion of future settlements. Documents and account statements were created for use by cold-callers to solicit investors with boiler room tactics. In reality there were no investment funds and investor money was misappropriated. A racketeering claim was based on a scheme that ran over a five year period beginning in 2007 tied to the New York State no-fault auto insurance law. That law requires prompt payment for medical treatment from auto accidents but permitted patients to assign the right to reimbursement from an insurance company to others including clinics. Over the years of the scheme Mr. Zemlyansky’s organization defrauded auto insurance companies out of over $100 million by creating and operating medical clinics that provided unnecessary and excessive medical treatment to take advantage of the no-fault law. The organization owned and controlled over a dozen medical professional firms, paying licensed medical professionals to use their licenses to form the entities. The proceeds from this activity were laundered through check-cashing entities and shell companies. Finally, Mr. Zemlyansky’s organization operated high-stakes illegal poker games in Brooklyn. Tens of thousands of dollars per game in profits were generated. A jury convicted Mr. Zemlyansky of racketeering conspiracy, securities fraud, mail fraud and wire fraud after a four week trial. The date for sentencing has not been set.


Investment fund fraud: The Serious Frauds Office announced that David Dixon pleaded guilty to five fraud related offenses tied to investment schemes he ran involving Arboretum Sports (USA) and Arboretum Sports (UK) Limited. Three schemes were conducted. In the first investors put up funds in what they were told was a riskless gambling venture. In the second investors were induced to purchase shares in a firm supposedly linked to famous casinos. The third was an advanced fee scheme. Mr. Dixon will be sentenced in April 2015.

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.

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