Opinion ID: 3012208
Heading Depth: 1
Heading Rank: 3

Heading: The California Corporate Code S 25401 Claim

Text: The plaintiffs also brought claims based on S 25401 of the California Corporations Code, which provides that: It is unlawful for any person to offer or sell a security in this state or buy or offer to buy a security in this state by means of any written or oral communication which includes an untrue statement of a material fact or omits to state a material fact necessary in order to make the statements made, in the light of the _________________________________________________________________ the plaintiff to rely on the lost opportunity theory of causation, than it is in the present case. Rudinger involved a claim by an employee who chose to work for a company because he was enticed by the promise of stock options based on a fraudulently over-valued stock. In doing so, the employee gave up a definite offer from another employer that also included stock options (that were not fraudulently represented). The district court held that the fact of loss was notwholly speculative because, presented with accurate information, the employee would have chosen the other job. Further, the district court noted that the lost opportunity damages could be quantified because the alternative job offer presented certain, fixed, and demonstrable profits thwarted by a defendant’s alleged fraud. Rudinger, 778 F. Supp. at 1341. 5. The plaintiffs did not experience any out-of-pocket loss, and the fact of their potential loss is too speculative to support the lost opportunity theory of causation. 20 circumstances under which they were made, not misleading. Cal. Corp. Code S 25401. Specifically, the plaintiffs claim that Ventana’s disclosures regarding the stock issuances that it had approved at the time when the Biotek shareholders voted to approve the merger were rendered misleading by the fact that Ventana had preliminarily approved the sale of shares to Schuler and Patience, but did not disclose that preliminary approval. In other words, the plaintiffs contend that the planned sale of stock to Patience and Schuler was a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading. Cal. Corp. Code S 25401. The District Court granted summary judgment for the defendants on the California law claim because it found that it involves the same elements as the plaintiffs’ 10b-5 claim. While we think that the District Court was incorrect in its conclusion that S 25401 involves the same elements as a Rule 10b-5 claim, we are satisfied that it was correct that the defendants are entitled to summary judgment on the California claim, albeit for somewhat different reasons than those relied on by the Court. See Narin v. Lower Merion Sch. Dist., 206 F.3d 323, 333 n.8 (3d Cir. 2000) (An appellate court may affirm a decision on a ground other than that relied on by the district court.). The District Court did not provide a separate discussion of the claims based on California law, but granted summary judgment for the defendants with respect to all claims because it concluded that S 25401 involves the same elements as the plaintiffs’ 10b-5 securities fraud claim. Therefore, we assume that the District Court relied on the same grounds, i.e. failure to adduce facts sufficient to establish both causation and scienter, to dismiss the California claims as it did to dismiss the Rule 10b-5 claims. To the extent that it relied on causation and scienter to grant summary judgment to the defendants on the California claim, the Court erred. Section 25401, which is modeled on S 12(2) of the Securities Act of 1933, has less stringent requirements than S 10(b) and Rule 10b-5 regarding both scienter and causation. Section 25401 does 21 not require civil plaintiffs to demonstrate the exacting scienter standard required for 10b-5 claims. Nor does it require plaintiffs in the civil context to establish causation. See Bowden v. Robinson, 136 Cal. Rptr. 871, 878 (Cal Ct. App. 1977) (noting that in a claim brought underS 25401 (1) proof of reliance is not required, (2) although the fact misrepresented must be ‘material,’ no proof of causation is required, and (3) plaintiff need not plead defendant’s negligence). But cf. People v. Simon, 886 P.2d 1271, 129001 (Cal. 1995) (imposing a knowledge mens rea requirement for criminal prosecutions brought under California Corporate Code S 25401). Nevertheless, the defendants are entitled to summary judgment on the S 25401 claim because that statute does not cover the activity alleged by the plaintiffs in this case. As noted above, S 25401 attaches liability to the buyer or seller of a security when he or she makes an untrue statement of a material fact or omits to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading. Cal. Corp. Code S 25401. The California Court of Appeals has held that the statute does not cover cases of simple nondisclosure. Lynch v. Cook, 196 Cal. Rptr. 544, 554 (Cal. Ct. App. 1983) (quoting Bowden v. Robinson, 136 Cal. Rptr. 871 (Cal. Ct. App. 1977)); see also 1 Harold Marsh, Jr. & Robert H. Volk, Practice Under the California Securities Laws S 14.03[2][a] (2001) (stating that S 25401 does not cover cases of simple or total nondisclosure). We interpret this to mean that S 25401 does not impose a duty on buyers or sellers to disclose information unless that information is material and necessary in order to make [other] statements made, in light of the circumstances under which they were made, not misleading. Cal. Corp. Code S 25401. The plaintiffs contend that the representations that Ventana made about its capital structure, including its outstanding stock, were misleading when not accompanied by the disclosure of information regarding the Patience and Schuler compensation package.6 Thus, the question is _________________________________________________________________ 6. The plaintiffs failed to raise in their opening brief, but argue in their reply brief, that because they included in their amended complaint 22 whether the plaintiffs had to disclose the share issuance aspect of the compensation package in order to make the statement that they made at the time of the merger about their outstanding capital stock not misleading. The plaintiffs point to statements from the Reorganization Agreement (which contained the terms negotiated between Ventana and Biotek), and from the Information Statement, which was an additional document distributed to Biotek investors prior to their approval of the merger that basically summarized the Reorganization Agreement. The Reorganization Agreement provided a detailed account of Ventana’s capitalization structure. It stated: Section 4.5 Capitalization The authorized capital stock of Ventana as of the date hereof consists of 30,000,000 shares of Common Stock and 18,450,000 shares of Preferred Stock, 750,000 share of which have been designated Series A Preferred Stock, 8,300,000 shares of which have been designated Series C Preferred Stock and 9,400,000 shares of which have been designated Series D Preferred Stock. As of the date hereof, 2,742,968 shares of Common Stock, 750,000 shares of Series A Preferred Stock, 3,083,039 shares of Series C Preferred Stock and 9,036,410 shares of Series D Preferred Stock are outstanding, and no other shares of capital stock are outstanding. Ventana has outstanding warrants to purchase an aggregate of 228,914 shares of Preferred Stock and has 2,110,789 shares of Common Stock and 70,089 shares of Preferred Stock reserved for issuance (including both shares subject to outstanding options or rights and shares reserved for future grant) under its stock option _________________________________________________________________ claims under California Corporate Code S 25402, which proscribes insider trading, and because, according to the plaintiffs, S 25402 does cover simple nondisclosure, that the defendants are not entitled to summary judgment even if the plaintiffs’ claim is only one of simple nondisclosure. Our jurisprudence makes clear that an issue is waived unless a party raises it in its opening brief. Reform Party of Allegheny County v. Allegheny County Dep’t of Elections, 174 F.3d 305, 316, n.11 (3d Cir. 1999) (citation omitted). The plaintiffs failed to raise a claim based on S 25402 in their opening belief and therefore may not rely on it now. 23 or stock purchase plans. Shares of Common Stock issuable upon conversion of Ventana Payment Notes will, when issued upon any such conversion, be duly and validly issued, fully paid and nonassessable. Prior to the Closing Date, Ventana expects that its authorized number of shares of Common Stock, Preferred Stock and Series D Preferred Stock will increase due to the proposed issuance of warrants to purchase an aggregate of 1,860,500 shares of Series D Preferred Stock in connection with a proposed financing transaction. Ventana will on the Closing Date deliver an updated capitalization schedule as of that date. The plaintiffs focus on the penultimate sentence in this section, which we have emphasized. They argue that because the Reorganization Agreement disclosed the issuance of 1,860,500 shares connected to the financing of the merger that Ventana expected to issue prior to the closing date, but did not refer to the planned sale of 1.5 to 1.75 million shares of Ventana common stock to Patience and Schuler, that the omission of any reference to the compensation package makes the statement quoted above misleading. The defendants counter that the Reorganization Agreement only made representations about the stock that Ventana expected to issue prior to the Closing Date. They contend that [i]t is undisputed that the Compensation Package shares were not issued or outstanding until April 19, 1996, at the earliest, and that [i]t is equally undisputed that the historical information in the Reorganization Agreement was correct. In our view, whether the statement quoted above is misleading in the absence of information regarding the compensation package depends largely on the timing of events, specifically, when the Ventana Board of Directors had given final approval to the compensation package relative to the closing date of the Ventana/Biotek merger. The relevant events are as follows. In November 1995, the Ventana Board began to negotiate a compensation package with Schuler and Patience. Thereafter, several relevant events happened at the January 16, 1996 meeting of the Ventana Board of Directors. First, the Ventana Board voted to authorize Ventana to issue and sell an aggregate of 24 1,500,000 shares of the Corporation’s Common Stock to Jack Schuler and Crabtree Partners at $.60 per share subject to certain conditions.7 The Board also voted to authorize the officers to increase the number of shares to be sold to Patience and Schuler to 1.75 million if needed. The Board also approved on January 16, 1996 the valuation of the company’s common stock at $.60. The Ventana Board of Directors did not consider its January 16 vote to grant final approval for the compensation package, however, because, as noted below, it submitted the issue to the Ventana shareholders for approval in a proxy vote. The Ventana Board also approved two resolutions regarding the Biotek merger in its January 16 meeting. First, the Ventana Board signed a letter of intent to merge with Biotek. Second, the Ventana Board approved the issuance of the shares discussed in the sentence highlighted from Section 4.5 of the Reorganization Agreement, quoted above, to help finance the planned merger with Biotek. The Ventana Board issued the Reorganization Agreement and Information statement on January 19, 1996. On February 2, 1996, the Ventana Board disclosed the terms of the Patience/Schuler compensation plan in a proxy statement issued to its shareholders, and the shareholders approved the plan. Danzi, the Biotek Chairman, wrote to Biotek investors on February 8, 1996, calling for a special meeting to vote on whether to approve the merger with Ventana. He enclosed in this letter copies of the Reorganization Agreement and Information Statement. The Ventana Board of Directors voted to approve the final compensation plan for Mr. Schuler, Mr. Patience, and Crabtree Partners which included a right to purchase 1,750,000 shares of the Company’s restricted Common Stock, subject to certain buyback provisions by the Company, at $.60 per share, on February 23, 1996. On the same day, more than 90% of Biotek investors, including all of the plaintiffs, voted to approve the merger with Ventana. As noted above, the merger transaction _________________________________________________________________ 7. Crabtree Partners is a venture capital firm that was initially a defendant in this case, but is no longer involved. 25 closed on February 26, 1996. Patience and Schuler bought the shares issued as part of the compensation package on April 19, 1996. The plaintiffs emphasize the proximity of the Board’s January 16 authorization of the compensation agreement and the representations made to Biotek (and through Biotek to its investors) in the Reorganization Agreement. They contend that because Ventana was clearly contemplating expanding its capital stock by issuing 1.75 million shares to Patience and Schuler, it was obligated to include that information in the Reorganization Agreement, and that its failure to do so renders the statements made in the agreement about the currently outstanding capital stock misleading. The defendants counter, emphasizing that none of their statements in the Reorganization Agreement were false, and that the statements were only intended to apply to capital stock issuances that took place before the closing date for the merger. They point out that the final approval of the issuance of stock to Patience and Schuler took place after the Reorganization Agreement was distributed, and that Ventana did not issue the shares to Patience and Schuler until April 1996, almost two months after the closing date of the Ventana/Biotek merger. The question whether Ventana omit[ted] to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading turns largely on how broadly we read the term misleading. Cal. Corp. CodeS 25401. Although the California courts have provided no guidance on the breadth of the term misleading inS 25401, they have cautioned that S 25401 should not be read to create a general duty of disclosure of all material information, i.e. it does not cover simple nondisclosure. Lynch v. Cook, 196 Cal. Rptr. 544, 554 (Cal. Ct. App. 1983) (quoting Bowden v. Robinson, 136 Cal. Rptr. 871 (Cal. Ct. App. 1977)); see also 1 Harold Marsh, Jr. & Robert H. Volk, Practice Under the California Securities Laws S 14.03[2][a] (2001) (stating that S 25401 does not cover cases of simple or total nondisclosure). That caution counsels us not to adopt a broad reading of the term misleading in this case. 26 Taking the facts in the light most favorable to the plaintiffs, do they have an actionable claim underS 25401? That question hinges on whether the statement from the Reorganization Agreement that, Prior to the Closing Date, Ventana expects that its authorized number of shares of Common Stock, Preferred Stock and Series D Preferred Stock will increase due to the proposed issuance of warrants to purchase an aggregate of 1,860,500 shares of Series D Preferred Stock in connection with a proposed financing transaction, was misleading because it was not accompanied by information regarding the prospective issuance of shares to Patience and Schuler. We think that the omission did not render the statement misleading for a number of reasons. First, the issuance of stock disclosed in the Reorganization Agreement (i.e., that relating to the financing of the merger) is sufficiently distinct from the issuance of stock pursuant to the compensation package that the omission of information regarding the second does not make the disclosure of information regarding the first misleading. The issuance of stock pursuant to the financing plan appears to have had final approval before the Ventana Board made its statement in the Reorganization Agreement, while the Patience/Schuler compensation package did not receive final approval until after the distribution of the Reorganization Agreement. The compensation agreement went to the shareholders for approval through a proxy statement and was subject to another vote by the Board of Directors before its approval was deemed final. Second, the Board contemplated issuing the stock for the financing plan before the closing date of the merger, but there is no indication that it contemplated issuing the stock for the Patience/Schuler compensation plan until after the merger’s closing date. Indeed, the issuance was conditioned on the merger’s success, and Ventana did not issue the stock to Patience and Schuler until April 19, 1996, about two months after the merger’s closing date. As the defendants point out, the Reorganization Agreement only made statements with respect to Ventana’s capitalization as of the date on which the Reorganization Agreement was issued and issuances of stock that it expected to happen prior to the closing date for the merger. 27 Finally, it is undisputed that the Ventana Board had the authority to issue additional common stock at any time it wanted to do so after the merger. We fear that if we concluded that the present case falls under S 25401, we would come close to creating a general duty to disclose all information that relates to any topic mentioned in a merger agreement. Therefore, although we think that the District Court likely erred by granting summary judgment to the defendant on the claims based on California Corporate Code S 25401 based on scienter and causation grounds, we will affirm based on the alternative ground that the claims allege only simple nondisclosure, which is not actionable under S 25401. The judgment of the District Court will be affirmed. A True Copy: Teste: Clerk of the United States Court of Appeals for the Third Circuit 28