High Court Sides With Business on SEC Liability Requirement (3)

The US Supreme Court agreed that a “pure omission” in an SEC filing can’t give rise to a securities class action without some statement shareholders can point to that’s misleading.

The court’s narrow ruling Friday by Justice Sonia Sotomayor for a unanimous court agreed that some statement was required, but it didn’t go further to say how specific it must be.

Plaintiffs must identify “affirmative assertions” before a court can consider whether “other facts are needed to make those statements ‘not misleading,’” Sotomayor said.

The case concerns Item 303 of the Security and Exchange Commission’s Regulation S-K, also known as Management’s Discussion and Analysis or “MD&A,” which requires that management provide investors with an understanding of trends or events that could affect the business’s financial condition.

Shareholder Moab Partners LP sued Macquarie Infrastructure Corp., now Macquarie Infrastructure Holdings LLP, for its failure to disclose that a new rule would eliminate nearly half of its business.

In ruling for Macquarie, the court distinguished between “half-truths” and “pure omissions.”

The latter “occurs when a speaker says nothing, in circumstances that do not give any particular meaning to silence,” Sotomayor wrote. The former are “representations that state the truth only so far as it goes, while omitting critical qualifying information.”

The SEC’s Rule 10b–5(b), one of the rules implementing Section 10(b) of the Securities Exchange Act, “covers half-truths, not pure omissions,” Sotomayor said.

‘Extremely Rare Occurrence’

“It’s a short, succinct decision by Justice Sotomayor,” said Elizabeth Gingold Clark of Alston & Bird LLP in Atlanta and New York. The decision offers clarity for courts throughout the country and “important reminders” that Rule 10-b “covers fraud, not disclosure obligations,” she said.

Another securities litigator who represents companies, Michael Hines of Skadden, Arps, Slate, Meagher & Flom LLP in Boston, said the decision applies the plain language of Rule 10-b, especially its reference to omissions that render “statements made” misleading. It stops plaintiffs from attempting to plead around the Private Securities Litigation Reform Act’s particularity requirement “by using Item 303 or some other regulation or statute,” Hines said.

“The courts ought to be wary of plaintiffs attempting to end-run the decision, dressing up pure omissions as purported half-truths,” he said.

Laura Posner, who represents investors in securities suits, said the ruling is very narrow. “Pure omission” suits are an “extremely rare occurrence,” because investors “almost always allege at least a half-truth,” she said. Moab did so and will be able to move forward, said Posner, who’s with Cohen Milstein Sellers & Toll PLLC in New York and is also president of the Institute for Law & Economic Policy.

The US Court of Appeals for the Second Circuit revived Moab’s suit based on both types of allegations, and now the half-truth allegations will likely be remanded to the district court, she said.

The court isn’t “opining on anything related to half-truths,” she said. “It left open scheme liability under Rule 10-b5 a and c, and half-truths under Item 303.”

Moab alleged that Macquarie knew the International Maritime Organization’s impending regulation restricting No. 6 fuel oil would materially affect the company because it owned numerous fuel tanks for holding that type of oil—tanks that would have to be repurposed at considerable expense.

But Macquarie didn’t disclose the extent of its No. 6 tank holdings, the anticipated repurposing expense, and other factors, said Moab, which serves as the lead plaintiff in the proposed investors’ class action.

Moab argued that under Section 10(b) and Rule 10b-5, fraud liability encompasses misleading Item 303 statements. The requirement to report material information is a circumstance where omitting information can make other statements misleading, it said. Macquarie wasn’t silent when it wrote the report and certified the completeness of its annual filings, the investment fund said.

But that argument reads the requirement for an affirmative statement out of the rule and “shifts the focus” from fraud to disclosure, Sotomayor said.

The ruling won’t lead to “broad immunity” for a stock issuer’s fraudulent omission of information, the high court said. “For one thing, private parties remain free to bring claims based on Item 303 violations that create misleading half-truths. For another, the SEC retains authority to prosecute violations of its own regulations,” Sotomayor said.

Although the government participated in argument and supported Moab, attorneys didn’t see significant implications for the SEC from the ruling. “The SEC doesn’t typically go out on a limb,” Posner said. “I don’t know that I’ve seen an Item 303 pure omission suit by the SEC.”

“Nothing in the appeal changes the SEC’s authority,” Clark said. “The court is speaking to a private right of action.”

The SEC didn’t immediately respond to an email requesting comment.

The case is Macquarie Infrastructure Corp. v. Moab Partners, U.S., No. 22-1165, 4/12/24.