Corporation A was involved in merger discussions with Corporation B. During this
ID: 2564965 • Letter: C
Question
Corporation A was involved in merger discussions with Corporation B. During this time, Corporation A made public statements denying that any merger negotiations were taking place or that it knew of any corporate developments that would account for heavy trading activity in its stock. A class of former shareholders who sold Corporation A stock after the public denial of merger activity and the announcement of the merger some six weeks later sued Corporation A, contending it made material misrepresentations of fact in denying the merger activity. Corporation A stock increased 25% upon the merger announcement. Corporation A stated that at the time of its denial of merger activity it was just involved in preliminary negotiations and its actions were not material until negotiations reached an agreement in principle. Moreover, it asserted that the shareholders made no showing that they relied on the denial statement. Decide whether Corporation A is liable to their shareholders under rule 10b-5 of the securities and exchange act of 1934. Give reasoning.
Explanation / Answer
The rule 10B-5 is a regulation formally known as the Employment of Manipulative and Deceptive Practices that was created under the Securities Exchange Act of 1934. This rule deems it to be illegal for anybody to directly or indirectly use any measure to defraud, make false statements, omit relevant information or otherwise conduct operations of business that would deceive another person; in relation to conducting transactions involving stock and other securities.
Perhaps to the dismay of litigious shareholder representatives and their counsel, companies and other potential defendants will not be found liable for federal securities fraud under Section 10(b) and Rule 10b-5 simply because they do not disclose every piece of material information a shareholder might like to know. Nor are they required to be “clairvoyant” so that they can guarantee that the information they convey, or the reasons they choose to not convey certain information, will continue to be accurate. Rather, with respect to a claim of nondisclosure under Section 10(b), the premise underlying liability is that a company had a duty to disclose the information that was allegedly fraudulently withheld, and that duty either existed at the time of the omission or subsequently arose as a result of later events.
In this situation the company does not have any fradulent intention to withhold the information. The company is not unsure of the result and it is not involved in concrete discussions. Hence Company A is not responsible