Court ruling may force firms to provide reasons for opinions in securities filings

The anticipated decision in a securities law case now pending in the Supreme Court should drive companies to review and update the way they include statements of opinion in their registration statements and other contexts, says Mark Foster, securities litigation partner at Morrison & Foerster.

The key question in Omnicare v. Laborers District Council Construction Industry Pension Fund is ‘When do statements of opinion that are included in stock offering documents give rise to securities fraud liability under Section 11 of Securities Act of 1933?’

The Court’s ruling will determine whether the pension fund can sue Omnicare because the healthcare company told potential investors that it believed its practices were legal, when its own lawyers and a government investigation strongly suggested the practices were illegal. In other words, is the fact that a company’s opinion proves to be objectively false enough to trigger fraud liability, or must it also be subjectively false, meaning Omnicare had to believe its practices were illegal while opining to the contrary? 

The statute holds issuers strictly liable for false factual statements. But, most circuit courts of appeal that have addressed statements of the issuer’s opinion that prove to be false have ruled the opinion must be subjectively false to create liability, because the only fact implied by a statement of opinion is that the speaker believes its opinion. That’s the test that Omnicare is calling for in this case.

As detailed by the briefs and reflected in the transcript of the oral argument on November 3, the Court must consider two other possible rules to apply to securities filings under Section 11: a reasonable basis test and a strict liability rule.

The strict liability rule proposed by the pension fund suing Omnicare for fraud takes a skeptical stance toward statements of opinion by suggesting the issuer be strictly liable when facts implied by the opinion prove false at the time the securities issue, regardless of whether the issuer believed the opinion, or whether the falsity results from a change in circumstance between the time the opinion was given and when the securities were issued.

The reasonable basis rule, which the federal government is arguing for (and which the pension fund also endorses) is less exacting than the strict liability rule, requiring only that the opinion be reasonably held.

In this case the two tests produce the same result. Omnicare should be liable, the investing pension fund asserts, because its opinion implies that the company engaged in due diligence to ensure the opinion had a reasonable basis. Any meaningful due diligence would not have justified a belief that Omnicare’s practices were legal and investors are entitled to rely on the implied fact of due diligence when considering the company’s opinion, says the pension fund.

‘I think the Court will adopt the reasonable basis test,’ Foster says. ‘It sounded like there was enough support all around for that. [Unfortunately], the reasonable basis test, from a defendant’s perspective, is anything but reasonable. I say that because it invites subjective second-guessing, especially with the benefit of hindsight.’

With no clear, predictable standard for liability, every case will turn on a combination of the facts and who the adjudicator is, Foster adds.

Still, he sees no need for issuers to panic. ‘If adopted, I think a reasonableness standard, on the Richter scale, is a 4 or 5; enough to do some real shaking but not catastrophic damage to the status quo in terms of how companies go about making disclosures,’ he says.

Under a reasonableness standard, the worst case for issuers would be if the Court were to fail to unequivocally ‘limit its holding to Section 11 cases,’ says Foster. That would be challenging because it would signal applying the same standard to opinions stated in SEC filings generally, or even in informal contexts such as earnings calls or analyst day meetings.

‘That’s important because, from a securities litigation perspective, those off-the-cuff statements are the most risky and most likely to create liability issues for companies,’ Foster explains.

Rather than feeling helpless to mitigate such risk, Foster advises that issuers adopt more robust procedures to validate and clear opinions in the same way they vet various SEC filings generally. ‘On the plus side, I think it creates an opportunity for corporate secretaries and general counsel to double down on diligence efforts and other fact-checking exercises,’ he says. ‘It will require involvement of lawyers reviewing and helping script what otherwise would have been off-the-cuff statements by executives.’

Foster hopes the Court will address an implicit question presented by Omnicare: What is an expression of opinion? As a veteran securities litigator, he has seen lower courts in circuits that have adopted the subjective falsity test struggling to embrace it.  

‘They get around it by saying the challenged language is not a statement of opinion, it’s a statement of fact. Then they don’t have to apply the subjective falsity test,’ he says. Given that any test will still create a different standard for statements of fact and opinion, he says he would welcome ‘some guidance on that fundamental issue when the Court announces the applicable standard of liability for opinions.’