Liability for Misinformation in Exchange Act Reports Extends to Exhibits
Issuers should be mindful of potential disclosure issues regarding representations included in exhibits to reports, proxy statements and registration statements filed under the federal securities laws. The United States Court of Appeals for the Ninth Circuit recently rejected an issuer's contention that a securities fraud complaint should be dismissed because the alleged misstatements were contained in a merger agreement attached as an exhibit to an Exchange Act report, instead of in the report itself.
The court took a position consistent with a 2005 SEC Release (Exchange Act Release No. 51283) in which the SEC highlighted the issuer's responsibility to ensure that disclosures regarding material contractual provisions, such as representations, are not misleading. An issuer cannot avoid its disclosure obligation by making disclosures through agreements or other documents which are attached to a disclosure document. The court held that communicating the details of the merger in the form of an attachment to a publicly filed 10-K instead of in the 10-K itself, does not necessarily protect the company from securities liability.
Glazer Capital Management v. Magistri, No. 06-16899 (9th Cir., Nov. 26, 2008)
Delaware Chancery Court Denied Indemnification Claim, Distinguishing Between a Promise and a Condition in an Operating Agreement
A Delaware Chancery Court decision serves as a warning to use caution contract drafters. To ensure that recourse to damages for breach of contract will be available, undertakings by the parties must be clearly worded as promises to perform.
The court denied TravelCenters' claim for indemnification by its members regarding a breach of TravelCenters' LLC Agreement, ruling that the members violated a condition, as opposed to a promise, which did not constitute breach of the LLC Agreement.
In a previous action brought by TravelCenters against the defendant members, the court found that the members violated the LLC Agreement notice provisions by nominating individuals for election to the Board of Directors, rendering the nominations ineffective. Since a provision of TravelCenters' LLC Agreement requires members to indemnify TravelCenters for all costs and expenses arising from members' breach of its LLC Agreement provisions, TravelCenters sought indemnification for costs and expenses incurred in the underlying action.
The court addressed whether a notice provision violation constituted an LLC Agreement breach and thereby triggered the indemnification provisions. The court analyzed the language of the notice provisions and ruled that compliance with the notice provisions is a condition to nominating an individual for election as director, as opposed to a promise by the members not to submit non-compliant notices. Principles of contract law dictate that while a promise gives rise to a duty to perform and non-performance can result in a breach of contract, a condition is an event that occurs before a party is obligated to perform. In the later case, non-occurrence of a condition is not considered a breach unless a party promised the condition would occur. The court pointed out that although the notice provision of the TravelCenters LLC Agreement stated that the members "must" and "shall" do certain things when submitting notices, the opening paragraph of the notice provision states that a member cannot nominate a person for election as director without complying with the notice requirements. The court interpreted this to mean the only consequence of non-compliance with the notice provision is that a nomination is ineffective.
TravelCenters of America LLC v. Brog (Del. Ch. Dec. 5, 2008)
SEC Highlights the Importance of Compliance in "Market Turmoil"
In an open letter to CEOs of investment advisers, investment companies, broker-dealers, transfer agents, and other SEC-registered firms, the Director of the SEC's Office of Compliance Inspections and Examinations, emphasized that despite staff reductions and cost-cutting measures during these times of financial turmoil, firms continue to have a legal obligation to maintain adequate compliance programs to proactively prevent, detect and, if necessary, correct compliance issues.
The letter echoes sentiments that SEC Chairman Christopher Cox expressed this past November and suggests that the SEC will focus more attention on a firm's compliance resources in the future. Any firm contemplating reductions and cost-cutting measures should evaluate the impact of those actions on its compliance program.
For the text of the letter, go to: http://www.sec.gov/about/offices/ocie/ceoletter.htm.
E-Proxy Rules Now Effective for All Public Companies
On January 1, 2009, the E-Proxy rules adopted by the SEC in 2007 became applicable to all public companies (SEC Release No. 34-56135). These rules require public companies to make proxy materials available on the internet. The rules set forth a Notice and Access Model, which gives issuers two options for making proxy materials available. The first option, the "Notice Only" option, calls for the issuer to post the proxy materials online at least 40 days prior to the shareholder meeting and to provide notice to shareholders of the electronic availability of those proxy materials as well as instruction on how to access them. The issuer must also provide the proxy materials in other formats upon shareholder request. The second option, the "Full Set Delivery" option, requires an issuer to deliver a full set of proxy materials to the shareholders along with notice of the materials' electronic availability and instruction on how to access such materials online, in addition to posting proxy materials online. This notice can be incorporated in the proxy statement and card. Issuers who choose this second option are not required to respond to requests for additional copies of the proxy materials from shareholders.
In response to concerns about imposing the E-Proxy rules too quickly, the SEC chose a tiered implementation. In the beginning of 2008, only large accelerated filers (not including registered investment companies) were required to comply with the E-Proxy rules. The SEC noted that many larger companies already posted their proxy materials online, and thus determined that the rules would not overly burden these particular issuers. All issuers, as well as other soliciting persons, including intermediaries and persons conducting their own proxy solicitations, are required to comply with the SEC E-Proxy rules as of January 1, 2009.
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Copyright © 2009 Herrick, Feinstein LLP. Corporate Alert is published by Herrick, Feinstein LLP for information purposes only. Nothing contained herein is intended to serve as legal advice or counsel or as an opinion of the firm.