Opinion ID: 201208
Heading Depth: 2
Heading Rank: 2

Heading: The Synthetic Leases

Text: 26 Plaintiffs devote a considerable portion of their efforts in constructing a claim under Section 10(b) and Rule 10b-5 to GCX's use of synthetic leases as a corporate finance tool and GCX's description of the leases in its financial disclosure filings. GCX entered into two synthetic leases before filing for bankruptcy. Plaintiffs argue that GCX omitted material information from its public filings regarding these synthetic leases which was necessary for the disclosed information not to mislead investors. 27 A synthetic lease is an arrangement that allows a corporation to finance real estate ownership while shifting the risk away from itself should the deal prove unprofitable. A primary factor motivating many synthetic leases is the off-balance sheet treatment that such transactions receive. H. Peter Nesvold, What Are You Trying to Hide? Synthetic Leases, Financial Disclosure and the Information Mosaic, Stan. J. L., Bus. & Fin. 83, 93 (1999). Overall, the off-balance treatment gives the corporation the opportunity to show a stronger bottom line in its financial disclosure statements. Id. Other financing advantages, such as tax savings, can also make synthetic leases a good vehicle for corporate financing. 28 The first synthetic lease at issue here was with General Electric Credit Company (the GECC lease) and the second was with Heller (the Heller lease). The district court held that GCX disclosed the existence and the amount of the leases in its 2000 Form 10-K, and that a reasonable investor [would have been] on notice of the nature of GCX's lease arrangement. Baron, 285 F.Supp.2d at 105. 29 The 2000 Form 10-K contained the following information regarding the leases: 30 [GCX] has entered into $118.8 million of operating leases with a major financial institution under a lease financing arrangement. The receivable due from the financing institution at October 31, 1999[sic] of $15.5 million was reclassified to capital expenditures in 2000.[GCX] has Bankruptcy Court approval to make monthly adequate protection payments of approximately $1.1 million, in respect [sic] of the lease financing arrangement. 31 Plaintiffs argue that this information is not sufficient to meet defendants' disclosure requirements. 3 They allege, inter alia, that more information was necessary to inform investors of the consequences of the leases and that GCX's failure to disclose the subsequent claims that came into being once they filed for bankruptcy constituted a violation of Section 10(b) and Rule 10b-5. 32 Plaintiffs' claim fails because GCX disclosed the material facts that would lead a reasonable investor to make an informed decision regarding the purchase of stock in GCX. We review allegations of securities fraud under the particular facts of each case. See Greebel, 194 F.3d at 196. First, during the relevant class period, the company was in reorganization proceedings. Thus, any reasonable investor was aware that the business operations of GCX were strained and the company was undergoing substantial changes in its operations. Upon evaluating the particular language of the 2000 Form 10-K regarding the leases, it is clear that the amount of the liability is disclosed as is the nature of the transaction and the accounting change over to capital expenditure. Second, and most important, GCX specified its continuing obligation, as well as the amount of the obligations, as a debtor-in-possession vis-a-vis the leases, during the relevant class period. 4 Cf. In re Cabletron, 311 F.3d at 35 (where company's revenues were materially inflated by tens of millions and the inaccuracy in earnings was derived from actual fraud, filings were considered materially misleading). 33 Plaintiffs also allege, on a slightly different track, that one of the reasons the district court dismissed their claims regarding the synthetic leases was because compliance with GAAP immunized defendants from liability. We do not believe the district court's holding is susceptible to such an interpretation. In fact, the district court stated that [t]here is no allegation of any violation of generally accepted accounting principles in respect [to] the synthetic leases. Baron, 285 F.Supp.2d at 105 n. 3. We have previously observed that a violation of GAAP in SEC filings raises an inference that the disclosure is misleading or inaccurate under SEC regulations. See In re Cabletron, 311 F.3d at 34 (citing to 17 C.F.R. § 210.4-01(a)(1)). In the same vein we have held that even when a company's disclosure is in violation of GAAP, some techniques ... might prove to be entirely legitimate, depending on the specific facts. Id. In this case, plaintiffs concede that the SEC filings are in compliance with GAAP. Nevertheless, they argue that GAAP rules should not immunize the defendants from liability. 5 We think this misses the central question in this matter which is whether the leases were disclosed in compliance with Section 10(b). All the material information necessary for a reasonable investor to make an informed decision was provided.