Securities Law Alert
In This Edition:• Second Circuit: Investment Advisory Client Did Not Become a Member of a Section 13(d) “Group” With
the Advisor Simply By Delegating Discretionary Investment Authority to the Advisor• Eleventh Circuit: District Court Failed to Consider Whether Partial Corrective Disclosures Cumulatively
Disclosed the Alleged Fraud• Southern District of New York: Mere Disagreement With a Company’s Goodwill Calculation Does Not
Give Rise to a Securities Fraud Claim• Southern District of New York: Plaintiffs Must Allege That Failure to Disclose Form 483 RenderedStatements Actually Made Misleading• Delaware Chancery Court: Directors Do Not Face a Substantial Likelihood of Liability for Failing toDisclose Information They Did Not Know
• New York Supreme Court: There Is No Duty to Update Business Issues That Were Not Discussed in theRegistration Statement
May 2020

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Second Circuit: Investment
Advisory Client Did Not
Become a Member of a Section
13(d) “Group” With theAdvisor Simply By Delegating
Discretionary Investment
Authority to the Advisor
On May 20, 2020, the Second Circuit heldthat a client of an investment advisor did
not become “a member of a Section 13(d)group with his investment advisor and theadvisor’s other clients merely because he andthe other clients had delegated discretionary
investment authority to the advisor andthe advisor had purchased for the client’s
account shares of the same issuer that was the
subject of the advisor’s Schedule 13D filing.”
Rubenstein v. Int’l Value Advisers, 2020 WL
2549507 (2d Cir. 2020) (Parker, C.J.). The

court concluded that the client was therefore“not obligated to disgorge his short-swing
profits” under Section 16(b) of the Exchange
Act of 1934.
The Second Circuit explained that “Section
16(b) . . . imposes strict liability on certain
insiders of an issuer, requiring them todisgorge to the issuer any profits they realize
from short-swing trading in the issuer’s
securities.”1 “In addition to requiring
individual statutory insiders to disgorge
short-swing profits, the [Exchange] Act
provides for ‘group’ liability” pursuant to
Section 13(d). “A Section 13(d) group isformed ‘[w]hen two or more persons agree
to act together for the purpose of acquiring,
1. Section 16(b) defines short-swing trading as “any purchaseand sale, or any sale and purchase, of any equity of such issuer. . . within any period of less than six months . . . irrespectiveof any intention on the part [the insider].” 15 U.S.C. § 78p(b).
Section 16(b) applies to “[e]very person who is directly or
indirectly the beneficial owner of more than 10 percent of anyof any class of any equity security” of the issuer. Id.

holding, voting or disposing of equity
securities of an issuer.’” Id. (quoting 17
C.F.R. § 240.13d-5(b)(1)). “The group is thendeemed to have acquired beneficial ownershipof all equity securities of that issuer
beneficially owned by any group members.
If the group’s collective holdings exceed 10%of any class of the issuer’s outstanding equity
securities, then each group member is subject
to the short-swing profit rule.”

In the case before the court, an investment
advisor and two of its managing members
had reported that “they beneficially owned,
through their voting and investment powerover their advisee-clients, more than 10%of [a company’s] outstanding common
stock” and “filed Schedule 13Ds with the
SEC indicting that, in accumulating theirposition in [the company], they had formeda ‘control purpose’ with respect to [thecompany].” The plaintiff contended that“the filing of the Schedule 13D put an ownerof [the company’s] shares in a managed
account . . . on notice of the [investment
adviser] defendants’ control purpose andthat the owner thereby ‘agreed’ to become
part of the group by failing to terminate the[investment adviser] defendants’ control ofthe managed account.”
The plaintiff “relie[d] principally on the theory
that [the investment adviser’s] clients became
members of a group with their investment
advisor and its other clients when they
signed investment management agreements
delegating discretionary trading authority to[the investment adviser].” The Second Circuit
found the plaintiff’s “theory . . . incompatible
with the text of the [Exchange] Act andits implementing regulations.” The court“straightforwardly conclude[d] that theseprovisions impose liability only wheninsiders enter an agreement . . . to trade
the securities of a particular issuer.” Id.
(emphasis added). The court noted that“[n]either [the company in question] nor any

other issuer was identified as one whose stock[the investment advisor] might purchasefor [the client’s] account.” Moreover, “theinvestment management agreement did
not address whether, or to what extent,
the [investment adviser] defendants mightpurchase or sell the same securities for theother accounts they managed; nor did theinvestment management agreement touchon the subject of whether the [investment
adviser] defendants might seek to influence orcontrol an issuer whose shares might be in an
account they managed.” The court therefore
determined that the plaintiff’s contention
that “the investment management agreement
constituted an ‘agreement’ to trade in [thecompany’s] securities” was “simply wrong.”
The Second Circuit also deemed unpersuasive
the plaintiff’s policy argument that declining
to impose Section 16(b) liability on an
investment advisory client under thesecircumstances would “enable investment
managers to evade Section 16(b) and toabuse inside information by trading in client
funds rather than their own funds . . . andto earn profits from those trades.” The court
explained that “[b]ecause of the strict liability
imposed by Section 16(b), the Supreme Court
has cautioned against exceeding the ‘narrowly
drawn limits’ on the class of corporate
insiders who may be subject to the statute.”
The court found that it “may not expand theboundaries of the statute merely to address[the plaintiff’s] concerns,” particularly giventhat “[e]xempting certain client profits from
Section 16(b) does not insulate investment
advisors from liability under the more generalanti-fraud provisions of the [Exchange] Act:
Section 10(b) and Rule 10b-5.”
In addition, the Second Circuit rejected theplaintiff’s contention that once the investment
advisor “filed a Schedule 13D with the SEC
disclosing its status” as an insider with respect
to the company at issue, the investment
advisor’s clients “implicitly agreed to trade in
the securities of [the company] as membersof the insider group.” The court reasoned
that adopting the plaintiff’s approach would
require the court to “treat all investors as
though they were conscious of the securities
held by their advisors’ other clients and would
mandate that they tailor their investment
decisions to those other clients’ trades.” Thecourt held that “[s]uch requirements are
impracticable ones that are not contemplatedby the securities laws.” The court emphasized2that “Section 16(b) is not designed to threaten
liability based on the trades of other investors
to whom a defendant’s only connection issharing an investment advisor.”

Eleventh Circuit: District
Court Failed to Consider
Whether Partial Corrective
Disclosures Cumulatively
Disclosed the Alleged Fraud
On May 4, 2020, the Eleventh Circuit
reversed the dismissal of a securities fraud
action alleging that a beverage company mademisleading statements regarding two sales
metrics that the company cited as measuresof its growth and sales. Luczak v. National
Beverage Corp., 2020 WL 2111947 (11th Cir.
2020) (per curiam). The Eleventh Circuit
held that the district court erred in its losscausation analysis by “fail[ing] to analyze[the] complaint as alleging a series of partial
disclosures” that, when taken together,
revealed the alleged fraud.
The Eleventh Circuit explained that in order“[t]o show loss causation, a plaintiff must
offer proof of a causal connection between
the misrepresentation and the investment’s
subsequent decline in value.” The court
noted that while “loss causation can bedifficult to prove in fraud-on-the market
cases . . . a plaintiff can demonstrate losscausation circumstantially by: (1) identifyinga ‘corrective disclosure’ (a release of
information that reveals to the market thepertinent truth that was previously concealed
or obscured by the company’s fraud);(2) showing that the stock price dropped
soon after the corrective disclosure; and(3) eliminating other possible explanations
for this price drop.”
The plaintiff alleged that the company
made misrepresentations concerning two
purportedly proprietary sales metrics—
velocity per outlet (“VPO”) and velocity percapita (“VPC”)—in three press releases issued
in 2017. According to the plaintiff, a March
23, 2018 letter from the SEC and a June
26, 2018 article in The Wall Street Journal
were both partial corrective disclosures of
the alleged fraud. The plaintiff alleged that“the March 23 letter was the first time themarket learned that the company issued

conflicting statements regarding its VPO andVPC metrics” and “was failing to cooperatewith the SEC” in explaining these metrics.
The plaintiff further alleged that “the June
26 article provided the market with a full
realization that [d]efendants’ claims about the
VPO and VPC metrics were misleading.”
The Eleventh Circuit held that the district
court “erred in finding the March 23 letter
could not serve as a corrective disclosure
because it does not constitute either proofof fraud or proof of liability.” The court
explained that because the plaintiff “alleges
the March 23 letter and the June 26 article
cumulatively disclosed [the company’s]
allegedly fraudulent practices,” the plaintiff
did not “need to allege the March 23 letteralone shows proof of fraud.”

The Eleventh Circuit held that “[t]he district
court also erred in its separate analysis ofboth documents.” The Eleventh Circuit
determined that “it was improper for the
court to reject [the plaintiff’s] reading of
the [March 23] letter and find that the SEC
never accused [the company] of failing tocooperate.” The Eleventh Circuit stated that“[w]hile a court is not bound to accept thetruth of general allegations in a complaint
where they are contradicted by specific factual
details in attached exhibits, no contradiction
exists here” between the plaintiff’s
allegations and the SEC’s letter. The Eleventh
Circuit further found the district court’scharacterization of the June 26 article as “amere summary of the earlier correspondence
between the [c]ompany and the SEC staff”
was “not a fair reading of the article, nor of[the plaintiff’s] allegations.” The Eleventh
Circuit noted that the article did not “specify
that [the] information [in the article] wasgleaned only from the March 23 letter, so
the district court should not have drawn thisconclusion.”
3

The Eleventh Circuit concluded that thecomplaint adequately “alleges the defendants’fraudulent behavior leaked out through aseries of partial disclosures, causing a dropin the stock price.” Because the court foundthese allegations satisfied “the heightened
pleading standards of Rule 9(b) and the[Private Securities Litigation Reform Act(“PSLRA”)], the Eleventh Circuit found thatit “need not resolve” the question of “whether
the PSLRA’s heightened pleading standards
apply to allegations of loss causation.”

Southern District of New
York: Mere Disagreement
With a Company’s Goodwill
Calculation Does Not Give
Rise to a Securities Fraud
Claim
On May 7, 2020, the Southern District of
New York dismissed a securities fraud action
arising out of a company’s multi-billion dollar
goodwill impairment. In re General ElectricSec. Litig., 2020 WL 2306434 (S.D.N.Y.
May 7, 2020) (Cote, J.). The court held thatplaintiffs’ “theory ultimately rests entirely
on a disagreement about the exercise of
judgment” in calculating goodwill.
The court began its analysis by noting that
under the Second Circuit’s decision in Fait v.
Regions Financial Corp., 655 F.3d 105 (2dCir. 2011), “goodwill balances are opinion
statements.”2 The court explained that
because “[g]oodwill balances are accounting
estimates produced through an exercise of
judgment,” there is “a wide range of goodwill
values that could be compliant with GAAP.”
The court stated that in order to “plead thatthe defendants made misleading statementsin their calculations of [the company’s]
goodwill, . . . plaintiffs must identify
particular facts supporting an inference that[the company’s] accounting fell outside of that
permissible range.”
Here, the “bulk” of the impairment “wasattributed to goodwill that had been added
to [the company’s] balance sheet” from theacquisition of a manufacturing company.
Plaintiffs alleged that the company “should
2. Please click here to read our discussion of the Second Circuit’s
decision in Fait.

have recognized” earlier than it did thatthe goodwill from the acquisition “wasexcessive and that the anticipated synergies
would not be realized.” The court found“plaintiffs’ assertion of falsity rest[ed] on an
accusation that [the company’s] judgment
or opinion about goodwill, which rested onother judgments—its projections of future
cash flows and anticipated synergies—
was misleading.”
According to plaintiffs, the company “knewbefore it took the massive impairment
about the very trends that it used to justify
the impairment.” But the court held that “acompany’s knowledge of unfavorable trends
does not show that its goodwill balances weremisleading as of the time they were stated,”
because “previously known trends maylater reveal themselves to be of a different
magnitude or importance than initially
expected.” The court found it significant that“the trends that plaintiffs rely on in alleging
that [the company] should have more quickly
written down its goodwill were all publicly
disclosed to investors during the [c]lass[p]eriod.” The court concluded that plaintiffs“failed to plead facts that would support
a claim that the goodwill reported in the[c]lass [p]eriod . . . was a false or misleadingstatement of opinion.”

Southern District of New
York: Plaintiffs Must Allege
That Failure to Disclose Form
483 Rendered Statements
Actually Made Misleading
On April 28, 2020, the Southern Districtof New York considered a question of first
impression in the Second Circuit: whether aForm 483 from the FDA, which documents
FDA concerns with manufacturing processes,
is immaterial as a matter of law. Schaeffer
v. Nabriva Therapeutics, No. 19-cv-4183(VM), slip op. (S.D.N.Y. 2020) (Marrero,J.). The court determined that it could not“conclude that the Form 483 is so obviously
unimportant to a reasonable investor thatreasonable minds could not differ on thequestion of its importance.” However, thecourt held that the failure to disclose a Form
483 will usually be insufficient, standing
alone, to raise a strong inference of scienter.
The court granted defendants’ motion to4

dismiss because the plaintiff failed to allege
facts demonstrating “that [d]efendants knew
or recklessly disregarded that their statements
were misleading in light of the Form 483.”
The court explained that “a Form 483 is aform of interim feedback rather than a final
FDA decision on” a new drug application(“NDA”). A Form 483 “lists ‘significant
conditions’ that may indicate a drug is being
prepared in ways that do not comply with
FDA regulations.” Once the FDA issues aForm 483, “the company is then responsible
for taking corrective action to address any
significant conditions identified.”
In the case before the court, plaintiffs allegedthat defendants violated Section 10(b) andRule 10b-5 by making several statements
regarding an NDA without mentioning thecompany’s receipt of a Form 483. Plaintiffs
alleged that the failure to disclose the Form
483 led investors to believe that the NDA
would be approved within the year, “eventhough the Form 483 allegedly demonstrated
that approval of the NDA would be delayed
beyond that year.”
The court held that the Form 483 was not
per se immaterial. The court noted that othercourts have “reached conclusions covering
the entire spectrum on” the materiality ofForm 483s. The court found that at the circuit
level, “[t]he Eighth Circuit has provided theonly clear guidance so far.” The Eight Circuit
has instructed that “the issuance of Form
483s may render a defendant’s statement
about its compliance with FDA regulations
or [Current Good Manufacturing Practiceregulations (“cGMP”)] false, or at least
misleading . . . depending on a number offactors, including the number, severity, andpervasiveness of objectionable conditions
noted, as well as whether a company has
failed to address or correct the deficiencies
noted by the FDA.” Pub. Pension Fund Grp. v.
KV Pharm. Co., 679 F.3d 972 (8th Cir. 2012).
The court found it significant that “[t]he First
Circuit has suggested its agreement with theEighth Circuit’s conclusion.” Nabriva slip.
op. (citing In re Genzyme Corp. Sec. Litig.,
754 F.3d 31 (1st Cir. 2014)). The court further
found that “[t]he large number of decisions
denying motions to dismiss Section 10(b)claims involving Forms 483 bolsters theconclusion that Forms 483 may be material
depending on the circumstances alleged.”

At the same time, the court found that“[b]ecause a Form 483 is interim FDA
feedback, there is no standalone duty todisclose its existence.” The court held that
defendants’ failure to disclose the Form 483
would “be actionable only if disclosure wasnecessary to render the statements [at issue]
not misleading.” The court noted, forexample, that “failing to disclose a recent
Form 483 that lists numerous potential cGMP
violations could potentially render misleading
a company’s statements that is presently incompliance with cGMP violations.” The court
found that two of the defendants’ statements
at issue “could mislead a reasonable investor”
because of the failure to disclose theForm 483.
But the court held that the plaintiff’s
allegations were insufficient to raise a strong
inference of scienter. The court noted that“knowledge of a Form 483 alone might
be enough to render certain statements
both misleading and made with scienter”
if the “Form 483 . . . clearly contradicts thestatement being made (for example, thatthe company is currently in substantial
compliance with cGMP regulations).” But in“the majority of Form 483 cases,” plaintiffs
must “rely on additional factual matter tocorroborate the allegedly serious nature of
the omitted Form 483.” The court explainedthat “[t]his is not an unduly high pleading
requirement,” as there are “a wide variety ofways that a plaintiff might adequately allegea defendant’s failure to mention a Form 483
was reckless.” The court noted, for example,
that plaintiffs could point to “a pattern of
FDA feedback reflecting the same unresolved
concerns,” or “statements by confidential
former employees reflecting that the problems
identified in the Forms 483 were pervasive
enough that they could not be readily
remedied.” The court found the “[p]laintiff
here pleads no such additional facts, instead
relying on the conclusory allegation that the5Form 483’s observations alone rendered[d]efendants’ public statements knowingly or
recklessly misleading.”

Delaware Chancery Court:
Directors Do Not Face a
Substantial Likelihood of
Liability for Failing to Disclose
Information They Did Not
Know
On April 28, 2020, the Delaware Chancery
Court held that a majority of the directors
who considered the demand (the “demandboard”) did not face a substantial likelihoodof liability for allowing or failing tocorrect allegedly inaccurate management
representations concerning the company’s
ability to meet its revenue guidance, because
management had “regularly advis[ed]” thedirectors that the company “was on track
to . . . hit its revenue guidance.” In re GoPro
Stockholder Derivative Litigation, 2020
WL 2036602 (Del. Ch. 2020) (Slights, V.C.).
The court found that “[t]he Board was under
no obligation to disclose what it did notknow or did not believe to be true,” nor wasit “obliged to doubt the information it wasreceiving from [the company’s] managers.”
The court therefore dismissed with prejudiceplaintiffs’ derivative action for failure to plead
demand futility.
The court began its analysis by describing thecomplaint as “a model of . . . imprecision.”
Plaintiffs alleged, on the one hand, that thedirectors “caused [the company] publicly
to issue false statements regarding thestatus of its new product releases and thecorresponding projections of revenue.” But
plaintiffs also alleged, on the other hand,that the directors “failed to act when they
consciously failed to monitor the information
and reporting systems that could have
prevented the same false statements.” Thecourt noted that “when the plaintiff struggles
consistently to characterize the nature of
the underlying wrongful conduct that gives
rise to his claims, this imprecision signalsthat he may not have pled such conduct withparticularity.” Id. (emphasis in original).
As to the first theory of liability, the court
recognized that “directors who knowingly
make materially misleading statements

to stockholders may be considered to beinterested for the purposes of demand.” But
the court found plaintiffs failed to allege
any particularized facts supporting theinference that the directors “contributed
to and approved [the company’s] revenue
guidance while knowing it was impossible
for the [c]ompany to achieve the projected
results.” The court underscored that “Board
acquiescence cannot support an inferenceof affirmative Board-level misconduct.” Thecourt explained that “[e]ven if the Board weretold by its management that the [c]ompany
was not going to meet its revenue projections,and then did nothing as management publicly
stood by its market guidance, that factual
predicate would support a classic Caremark
claim for failing to respond to red flags, nota claim against the Board for causing the[c]ompany to make false disclosures.”
The court also found it significant thatplaintiffs failed to “offer a conceivable
explanation of why a majority of the Demand
Board would cause the [c]ompany to releasefalse statements to the market knowing fullwell” that the market would learn the truth“within a matter of weeks.” Given the lackof “a legally cognizable explanation for why
the [d]emand [b]oard would lie so openly,
especially when they were virtually certain
to be caught in the lie,” the court determinedthat it was “unreasonable to infer badfaith malfeasance.”
As to the second theory of liability (theCaremark claim), the court found plaintiffs’
core allegation was that “a majority of the
Demand Board knew there was no way [thecompany] would meet its revenue guidanceand yet it failed to cause that guidance to becorrected or to prevent management fromcontinuing to report that the guidance wasunattainable.” The court rejected plaintiffs’
argument that the directors were required
to access the company’s internal dataand “extrapolate on [their] own that the[c]ompany” would have challenges meeting
its revenue guidance. The court explained that“the duty to act in good faith to be informed
cannot be thought to require directors topossess detailed information about all aspectsof the operation of the enterprise.” The court
also found no basis for inferring that “theBoard knew the [c]ompany would miss its
guidance or consciously disregarded risk.”
The court emphasized that “[p]laintiffs cannot
equate a bad outcome with bad faith.”6

New York Supreme Court:
No Duty to Update Business
Issues That Were Not
Discussed in the Registration
Statement
On May 6, 2020, a New York state court
dismissed a securities fraud action alleging
claims under Sections 11 and 12(a)(2) of the
Securities Act of 1933. Hoffman v. AT&T,
2020 WL 2236189 (N.Y. Sup. Ct. 2020)(Ostrager, J.). The court held that defendants
had no duty to update the Registration
Statement to address declines in subscriptions
for one of the company’s business services,because the Registration Statement madeno specific representations concerning thatbusiness service.
The court stated that “[g]enerally, Section 11
liability is judged from the effective date of
the Registration Statement.” However, thecourt noted that “Item 512(a) of Regulation
S-K requires an issuer to file a post-effective
amendment in specified circumstances,”
including when “‘facts or events arising
after the effective date of the registration
statement . . . represent a fundamental
change in the information set forth in theregistration statement.” Id. (quoting 17 C.F.R.
§ 229.512(a)(1)(ii)).
In the case before it, the court found that “noduty to issue a post-effective amendment
was triggered.” First, the court explainedthat “the text of the Registration Statement
itself does not contain any reference to” therelevant business service. Rather, “[t]he only
references to [the business service] that werepart of the Registration Statement were a few
references to a ‘strong’ launch contained in[two SEC filings] that were incorporated byreference.” The court agreed with defendants
that “there can be no duty to update
information that was not contained in theRegistration Statement in the first place.”
Second, the court held that “even if there wasa duty to make a post-effective amendment
about a topic that was not explicitly set
forth in the Registration Statement, thechanges plaintiff alleges to [the businessservice] do not represent a ‘fundamental
change’ within the meaning of the SecuritiesAct.” The court noted that “[t]he SEC has
provided examples of ‘fundamental changes’
that trigger a duty to issue a post-effective
amendment.” These include “major changes
in the issuer’s operations, such as significant
acquisitions or dispositions, and any change
in the business or operations of the registrant
that would necessitate a restatement of thefinancial statements.” The court explainedthat the changes to the subscribership of thebusiness service at issue did “not constitutea fundamental change” under the guidance
provided by the SEC, as subscribers tothat service “represented less than 1%” of
subscribers to the company’s subscriptionbased services, which, in turn, represented“only one part of [the company’s] overallbusiness.”

This edition of the
Securities Law Alert was edited byPeter E. Kazanoffpkazanoff@stblaw.com / +1-212-455-3525,
Cheryl J. Scarboro
cscarboro@stblaw.com / +1-202-636-5529,
and George S. Wang
gwang@stblaw.com / +1-212-455-2228

7

New York

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Brooke E. Cucinella+1-212-455-3070
brooke.cucinella@stblaw.com

Joseph M. McLaughlin+1-212-455-3242
jmclaughlin@stblaw.com

Chet A. Kronenberg+1-310-407-7557
ckronenberg@stblaw.com

Paul C. Curnin+1-212-455-2519
pcurnin@stblaw.com

Lynn K. Neuner+1-212-455-2696
lneuner@stblaw.com

Palo Alto

Stephen M. Cutler+1-212-455-2773
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Michael J. Osnato, Jr.
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George S. Wang
+1-212-455-2228
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Peter E. Kazanoff+1-212-455-3525
pkazanoff@stblaw.com

David Elbaum
Senior Counsel+1-212-455-2861
david.elbaum@stblaw.com

Joshua A. Levine+1-212-455-7694
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Janet A. Gochman
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Stephen P. Blake+1-650-251-5153
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Washington, D.C.
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+1-202-636-5532
jeffrey.knox@stblaw.com
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cscarboro@stblaw.com

Hong Kong
Adam Goldberg+852-2514-7552
adam.goldberg@stblaw.com

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