Seventh Circuit Court of Appeals Commentary : In Their Opinion : Lawyer & Attorney Michael E. Rigney : Kelley Drye & Warren Law Firm

MCCANN v. HY-VEE, INC. (November 22, 2011)

Denise and Anthony McCann divorced in 2002. The decree required Anthony to transfer stock in the closely held company by whom he was employed to Denise and to pay child support through 2007 and alimony through 2012. The decree also provided that the alimony obligation could end as early as 2007 if Anthony sold the stock and gave Denise the proceeds. According to Denise, the company's CFO told her that the shares could not be sold until Anthony died or left the company. In fact, that was not the case and Anthony did sell the stock in 2007, gave Denise the proceeds, and stopped making alimony payments. Denise filed suit against the company in September of 2009, alleging a violation of Section 10 (b) of the Securities Exchange Act and Rule 10b-5. Judge Nordberg (N.D. Ill.) dismissed the case on statute of limitations grounds. Denise appeals.

In their opinion, Seventh Circuit Judges Posner, Flaum, and Sykes affirmed. The Court first addressed the Company's alternative grounds urged for dismissal -- that there was no purchase or sale of stock. The Court concluded otherwise and held that the 2007 sale by Anthony was actually an involuntary sale by Denise and that the 2002 transfer pursuant to the divorce decree was also a sale in that Denise gave up certain demands in return for the shares. Returning to the timeliness issue, the Court noted that the statute allows a securities fraud case to be brought no later than two years after the discovery of facts constituting the violation or five years after the violation. Although the Court addressed the two-year prong, it based its holding solely on the five-year prong. Under that part of the statute, a plaintiff has five years to sue from the date of the violation. Denise argued that the violation occurred in 2007, when Anthony sold the stock and stopped making the alimony payments. The Court agreed that that was the time of her injury but concluded that injury was not an element of the "violation" indicated in the statute. Here, the alleged violation occurred when the CFO misrepresented the restrictions or limitations on Anthony's ability to sell the stock. That occurred in 2002. Denise's 2009 suit is untimely.

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BROWN v. CALAMOS (November 10, 2011)

The Calamos Convertible Opportunities and Income Fund is a closed-end investment fund. It issues common stock, which is not redeemable, and preferred stock, which is similar to a bond and can be traded at auction. Since the Fund's investments generally earned more than the interest paid to the holders of preferred stock, the fund's owners (holders of the common stock) benefit. During the 2008 financial crisis, the auction market for the preferred stock collapsed. The holders of the preferred stock could have been stock with their then-low interest rate and the holders of common stock would not have been affected. But the Fund redeemed the preferred stock -- at a premium. A class of common stock owners brought suit in state court against the Fund, alleging that it and its parent breached their fiduciary obligation to the shareholders in order to placate the banks and brokers that they did business with. The Securities Litigation Uniform Standards Act of 1998 prohibits state law class actions with more than 50 class members if the suit is not exclusively derivative and it alleges a misrepresentation or omission of a material fact in connection with the purchase or sale of a security. If such a case is brought, a defendant may remove the case to federal court and the court should dismiss the case. That is exactly what Judge Bucklo (N.D. Ill.) did here, with prejudice, and without addressing class certification. The class appeals.

In their opinion, Seventh Circuit Judges Posner, Flaum, and Sykes affirmed. The Court first recognized that the complaint contained a specific disclaimer that it was not a claim based on a misstatement or omission. Notwithstanding the disclaimer, however, the Court stated that the complaint does allege, either explicitly or implicitly, both misrepresentations and omissions. Before affirming on that rather simple ground, the Court addressed various approaches taken by the Circuits. The Sixth Circuit takes a literal approach and would dismiss if the complaint can be interpreted to allege a misrepresentation or omission. On the other end of the spectrum, the Third Circuit would not bar the suit if the misrepresentation or omission alleged is not essential to the suit's success. In the middle is the Ninth Circuit, which would follow the Sixth Circuit and dismiss the case but dismiss it without prejudice, in order to allow the plaintiff to remove the offending allegation. After some discussion and criticism of each of the various approaches, the Court concluded that the suit would be barred under any reasonable standard because the fraud allegations were central to the case. Furthermore, an amendment to the complaint would not be appropriate. Given the significance of the fraud allegations, the plaintiffs would certainly try to get them back into the case if it were to be remanded to state court.

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ANCHORBANK v. HOFER (August 18, 2011)

Clark Hofer was an AnchorBank employee. Through his employer, he had an individual 401(k) account. One of the investment options in the account was the AnchorBank Unitized Fund, which consisted of cash and AnchorBank stock. In late 2008 and early 2009, Hofer and two colleagues, also bank employees, engaged in trades in the Fund. AnchorBank and the Trustee of the Fund brought suit against Hofer, alleging violations of Sections 9(a) and 10(b) of the Securities Exchange Act of 1934, Wisconsin securities law, and common law claims for breach of fiduciary duty and unjust enrichment. Magistrate Judge Crocker (W.D. Wis.) dismissed the complaint with prejudice. He concluded that plaintiffs failed to meet the loss causation pleading requirements. Plaintiffs appeal.

In their opinion, Seventh Circuit Judges Manion, Wood, and Williams reversed and remanded. The only issue on appeal was the sufficiency of the complaint. The Court noted that plaintiffs had to satisfy the Federal Rules of Civil Procedure 8(a) and 9(b) general pleading requirements, the Securities Exchange Act of 1934 sections 9(a) and 10(b) pleading requirements, and the Private Securities Litigation Reform Act pleading requirements. The Court concluded that plaintiffs satisfied the Rule 8(a) short and plain statement requirement and the Rule 9(b) fraud with particularity requirement. With respect to the latter, the Court noted that the complaint described the setup of the Fund, how it bought and sold stock on the open market, how it maintained its cash-to-stock ratio, how Hofer and his colleagues used their knowledge of Fund practices to buy and sell in ways that affected the price of the underlying stock, and how Hofer and his colleagues enjoyed extraordinary gains in doing so. The Court turned to the pleading requirements of the Securities Exchange Act and the PSLRA. On appeal, Hofer asserts that the complaint failed to adequately allege scienter, reliance, economic loss, and loss causation. The Court disagreed. It summarized the particular allegations of the complaint and found each of the elements adequately alleged. It noted that Hofer had competing explanations for his conduct that could affect scienter and reliance -- but rejected the assertion that they justified dismissal of the complaint. The Court also conceded that general economic conditions could have contributed to the dramatic decline in the value of AnchorBank stock. A plaintiff need not allege or prove that its entire loss is the result of the defendant's conduct -- only that it is a plausible cause of some of the loss.

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PREMIUM PLUS PARTNERS v. GOLDMAN, SACHS & CO. (August 5, 2011)

On October 31, 2001, a Goldman Sachs employee provided its traders with certain information about 30-year government bonds that had not yet been made public. The traders bought futures contracts for the 30-year bonds and made a lot of money when the bonds’ price rose significantly. Unfortunately, their abnormal trading practices led to an SEC investigation. The SEC filed a civil complaint in September 2003. In March of 2004, Premium Plus Partners brought a class action on behalf of traders who had short positions in the bonds on October 31, no matter when they sold. Judge Der-Yeghiayan (N.D. Ill.) denied class certification. George Tomlinson, an individual investor who held a short position on October 31, then filed suit along with four other individual investors. Judge Bucklo (N.D. Ill.) dismissed the complaint on the pleadings, concluding that the two year statute of limitations had run before the class action had been filed (during which it would have been suspended). Meanwhile, in the Premium case, Goldman Sachs made an offer of judgment for the full amount of Premium's damages plus interest. Premium accepted the offer but also wanted to continue with the suit in order to certify a class and spread its costs among other class members. The court entered judgment on the Rule 68 offer and rejected Premium's proposed plan. Tomlinson then sought to intervene as class representative. The court denied that motion. Premium appeals the order denying class certification, Tomlinson appeals the order denying his motion to intervene, and Tomlinson also appeals the order dismissing his individual suit.

In their opinion, Seventh Circuit Chief Judge Easterbrook and Judges Sykes and Tinder affirmed with a modification. The Court first addressed the individual Tomlinson appeal. On the statute of limitations question, the Court assumed that the Merck federal securities fraud rule applies to a commodities fraud case because it was more favorable to Tomlinson than the understanding of the statute under the Commodity Exchange Act. Under Merck, the statute does not begin to run until the plaintiff discovers (or could have discovered) the essential facts of the violation, including scienter. Tomlinson admits that he was aware of his injury on October 31 and learned soon thereafter that Goldman Sachs had traded on nonpublic information. The central question, then, is whether Tomlinson could have discovered that Goldman Sachs acted with scienter. The Court concluded that all the facts regarding the transactions were in the public domain well before April of 2002. The fact that Goldman Sachs denied it and that the SEC did not file until late 2003 is of no moment. The district court did not err in dismissing the individual Tomlinson suit. The Court's decision on that appeal made their analysis of Tomlinson's intervention appeal rather simple. Since he has filed and lost his individual suit, he is not even a member of a potential class, much less an effective representative of the class. The Court turned to Premium's appeal. It noted that Premium had two options: a) it could have rejected the Rule 68 offer and continued with the case, or b) it could have accepted the Rule 68 offer and keep the case alive long enough for a viable class representative to intervene and pursue the class allegations. It cannotdo what it wants to do -- continue to push ahead with the case as class representative in the hopes of spreading some of its costs and increasing its net recovery. Finally, the Court did find an error in the district court's computation of interest. The court should have calculated a compound, rather than simple, interest. The Court remanded for a recalculation. 

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COSTELLO v. GRUNDEN (June 28, 2011)

Several senior Comdisco, Inc. employees participated in the company's shared investment plan (SIP) program. Under the program: a) participants purchased Comdisco stock, b) the purchase was funded exclusively by personal loans, c) the participants executed promissory notes in their personal capacities, d) Comdisco guaranteed the loans, e) the lender remitted the loan proceeds directly to Comdisco, f) Comdisco held the shares, g) there were several restrictions on the ability to sell the stock, and h) participants delivered a blank stock power to Comdisco. Although some SIP participants later sold their stock and made healthy profits, others were still holding the stock when Comdisco went into bankruptcy. As part of the settlement on the guarantee, the lender assigned its rights under the notes to the Comdisco Litigation Trustee. The Trustee brought suit against the participants and moved for summary judgment against two of them. Judge Gettleman (N.D. Ill.) granted the Trustee's motion for summary judgment, rejecting the defendants' defenses. The court then granted the Trustee's motion for summary judgment against the remaining defendants on the bases of his earlier ruling and his rejection of the additional defense. Defendants appeal. The Seventh Circuit issued an opinion on October 18, 2010. On June 16, 2011 the Court granted a petition for panel rehearing and vacated the October opinion and judgment.

In their opinion, Judges Kanne, Rovner, and Tinder vacated the summary judgments in favor of the Trustee and remanded for further proceedings. The defendants raised several arguments on appeal. First, the defendants argued that the district court erred in not allowing them to assert violations of Regulations G and U as affirmative defenses. The Court agreed. It concluded that a private right of action under either § 7(d) or § 29(b) is not a prerequisite to asserting a violation of Regulation G or U as an affirmative defense. It also concluded that the "zone of interests" prudential standing requirement does not apply when a party uses a violation of the statute or regulations defensively. Second, the defendants argued that the district court erred in concluding that Comdisco and the lender did not violate the regulations. Again, the Court agreed. With respect to Comdisco, the Court concluded that the Trustee did not raise it in his summary judgment papers. With respect to the lender, the Court identified genuine issues of fact with respect to the good faith non-reliance exception. Third, the defendants challenged the summary judgment ruling on the § 10(b) illegality defense. The Trustee originally only argued that the defendants could not prove falsity. In his reply brief, he then argued that defendants had to establish all elements of the defense. The Court concluded that the defendants did not have to present their evidence on the other elements of the defense and that the district court erred in granting summary based on lack of scienter. The Court also held that the district court erred in applying a heightened "strong inference" of scienter requirement. Fourth, the defendants argued that the notes are unenforceable due to violations of § 17(a) of the Securities Act. Because the Trustee defended the district court's ruling only on lack of scienter, the Court vacated the judgment for the same reasons it vacated with respect to the illegality defense. Fifth, the defendants challenged the district court's extension of its ruling with respect to the first two defendants to the other defendants. The district court's ruling with respect to the first two defendants was that the misrepresentations were expressions of legal opinion and therefore could not support a fraud claim. But the later defendants identified an exception to that general rule. The district court erred in that it never considered the argument. Finally, the defendants argued that the district court erred in granting summary judgment on their excuse-of-nonperformance defense. Based on its earlier rulings that summary judgment on the counts alleging statutory and regulatory violations was improper, the Court also concluded that summary judgment on the excuse-of-nonperformance defense was improper.

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SECURITIES AND EXCHANGE COMMISSION v. WEALTH MANAGEMENT LLC (December 1, 2010)

As of mid-2009, investment firm Wealth Management LLC of Appleton, Wisconsin managed over $130 million in almost 450 client accounts. Until 2003, most of that money was held in low risk investments appropriate for Wealth Management's clients. Wealth Management's approach changed drastically that year. It began investing its client's funds in illiquid and risky ventures through six unregistered investment pools it established. By 2009, over 75% of its managed money was in these risky investments. Investors in one of the investment pools were informed in early 2008 that redemptions would be limited to 2% per quarter. Later in 2008, two of Wealth Management's offers officers admitted receiving kickbacks, the SEC began an investigation, and the company suspended redemptions and begin to liquidate. The SEC brought an enforcement action in 2009. The court froze the firm's assets and appointed a receiver. The receiver conducted an accounting of the company's funds and proposed a distribution plan. The accounting concluded that only $6.3 million was available for distribution. The receiver proposed a pro rata distribution with any redemptions after May 2008 (i.e., after the SEC investigation became public) offset against an investor's total distribution. Judge Griesbach (E.D. Wis.) approved the proposal over objection. Two of the objectors, Dr. Edwin Wilson and the James and Sandra Verhoeven Revocable Trust, appeal.

In their opinion, Seventh Circuit Judges Ripple, Kanne, and Sykes affirmed. The Court first addressed its jurisdiction. The order below is not appealable as a final order. If it is appealable, it is under the collateral order doctrine -- a question of first impression in the Circuit, although the Fifth and Six Circuits have allowed an appeal from a receiver's distribution plan. The Court concurred with its sister circuits, concluding that the appeal satisfied the collateral order doctrine's requirements: the order conclusively determined a disputed question, it resolved an important issue separate from the merits, and it was effectively unreviewable after final judgment. Addressing another minor procedural issue, the Court held that the appellants satisfied Federal Rule of Appellate Procedure 3(c), even though the Verhoevens objected below as individuals and appealed as the Verhoeven Trust. On the merits of the appellant's' challenge to the distribution plan, the Court noted that the district court has broad discretion in ensuring that the plan is fair and reasonable. Here, the plan treated all investors equally, an approach routinely endorsed by courts as fair and reasonable. The Court considered the claims of investors who tried to redeem their equity that their interest was different but ultimately concluded that the claims were the same as those who did not try to redeem. The Court rejected the appellants' claim that they were entitled to be treated differently under either federal or state law. With respect to the offset date challenge, the Court noted that the district court had several options: offset all redemptions, offset no redemptions, offset some redemptions based on a cutoff date, or offset some redemptions based upon an individual analysis of each redemption request. The individual analysis approach may have resulted in a more accurate distribution, but it would have been expensive and time-consuming. Each of the other approaches would penalize a different subset of investors. The district court did not abuse its discretion in selecting the cutoff date approach or in selecting the cutoff date.

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SCHLEICHER v. WENDT (August 20, 2010)

Conseco was a large financial services company traded on the New York Stock Exchange. It filed for bankruptcy in 2002 and successfully reorganized. This securities-fraud claim was filed against Conseco managers who are alleged to have made false statements prior to the bankruptcy. Then-District Judge Hamilton (S.D. Ind.) certified a class. Defendants appeal.

In their opinion, Chief Judge Easterbrook and Judges Bauer and Rovner affirmed. The Court began by noting that securities-fraud claims are regularly litigated as class actions. Common questions generally include falsehood, intent, causation, and materiality. Individual questions, such as an individual investor's extent of loss, can frequently be addressed mechanically. Prior to 1988, defendants fought class certification by focusing on the reliance element. But the Supreme Court that year, in Basic, concluded that the stock price conveys the same public information to each investor if the stock is frequently traded in an efficient market. The Basic doctrine, called fraud on the market, replaced the reliance element. Here, the defendants argued that the fraud on the market doctrine does not apply because, notwithstanding the alleged false statements, Conseco's stock was falling during the relevant period. The Court found that fact to be irrelevant and concluded that the case met the Basic requirements. The Court also rejected defendants’ arguments that certification was improper because the class included short sellers and because the court failed to determine falsity and materiality. On the former, the Court noted that both long and short sellers are affected by news related to the value of a stock. The fact that short sellers may not realize a loss as a result of a false statement affects computation of damages, not the propriety of a class. On the latter, the Court stated that falsity and materiality are elements to be decide on the merits – not at the class certification stage. In doing so, it specifically expressed its disagreement with the Fifth Circuit’s decision in Oscar Private Equity that reads Basic to allow a tightening of class certification requirements. Congress has spoken on the issue in the Private Securities Litigation Reform Act and the Securities Litigation Uniform Standards Act. The Court declined to legislate other changes.

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ANDERSON v. AON CORP. (July 26, 2010)

Robert Anderson sold his California insurance brokerage firm to Aon Corporation in 1997. He received approximately 95,000 shares of Aon stock when it was trading around $69 per share. Within five years, its share price had fallen to approximately $14. Anderson brought suit in state court in California, his state of residency, and alleged only violations of California securities law. He alleged that the fall in share price was due to the company’s mismanagement, that the mismanagement was fraudulently concealed until 2002, and that he would have sold the shares earlier absent the concealment. Aon removed on diversity grounds. Anderson shortly thereafter dismissed without prejudice, anticipating that the federal court was going to transfer the case to Illinois under § 1404(a). He refiled, again in California state court, and added two California citizen defendants (to prevent diversity). Curiously, this time he included a federal claim (RICO) in his complaint. Aon removed on federal question grounds and also asserted that the additional defendants were fraudulently joined. Anderson dismissed his federal claim and asked that the case be remanded. Instead, the California district court transferred the case to Illinois. Judge Manning (N.D. Ill.) applied Illinois law and dismissed the complaint for failure to state a claim. Anderson appeals.

In their opinion, Chief Judge Easterbrook and Judges Williams and Tinder reversed and remanded. The Court first addressed its appellate jurisdiction, since one of Anderson's arguments was that the California federal court should have remanded to state court, instead of transferring, once he dismissed his RICO claim. The Court recognized that some circuits have held that appellate review in cases such as this is split between the transferor court's circuit and the transferee court's circuit -- but it concluded otherwise. A § 1404(a) transfer is not separately reviewable. The only review comes after a final decision when all rulings of the Illinois court (even if to apply law of the case) are reviewed. On the merits of the transfer decision, the Court concluded that the lower court acted appropriately. There was jurisdiction when the suit was filed because of the federal claim and there was supplemental jurisdiction over the state law claim under § 1367(a). Once the federal claim was dismissed, the district court had discretion to either remand or to assert its supplemental jurisdiction over the state court claims until resolution. The Court cited Andersen's legal maneuvering as one reason the court prudently kept (and transferred) the case. On the substantive merits of the claim, however, the Court found error. The transfer of the case should not affect the applicable law. Here, the court should have applied the California choice-of-law rules to determine which state's substantive law applied. The California choice-of-law rule has three parts: first, it asks whether the different states' laws are different; second (if they are different), it examines each states' interest to decide whether a true conflict exists; and third (if there is a true conflict), it applies the law of the state whose interests would be most impaired by the adoption of the other state's law. The Court noted that the substantive law at issue here was the viability of a "holder action." A holder action is a private action for damages by an investor who claims that he continued to hold the stock, when he would otherwise have sold, because of the deceit of the defendant. The Supreme Court, in Blue Chip Stamps, concluded that holder actions are not viable under federal securities laws. However, they are viable under California securities laws. The Illinois Supreme Court has not spoken, although Illinois generally follows federal law in this area. The Court therefore concluded that there was a true conflict under the choice of law rules in the California. It also concluded that the third prong of the test favored California in that California has affirmatively accepted the viability of a holder action and Illinois has not spoken on the issue. Anderson should thus be allowed to proceed with the action. The Court concluded by noting a number of significant obstacles in Anderson's path but left them to be addressed, in the first instance, by the district court.

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KURZ v. FIDELITY MANAGEMENT & RESEARCH CO. (February 23, 2009)

Kurz and Heinzl both invested in portfolios managed by Fidelity Management & Research Co. (“Fidelity”). Apparently, some Fidelity employees placed trades with Jeffries & Co. in return for kickbacks from Jeffries. The SEC initiated a proceeding under the Investment Company Act and the Investment Advisors Act. Fidelity and the SEC entered into a consent decree. Kurz and Heinzl thereafter filed a class-action suit in state court, alleging that the employees’ conduct resulted in a breach of contract by Fidelity. Fidelity removed to federal court on the basis that their failure to disclose the employees’ misconduct was a securities law issue. The district court denied Kurz’ motion to remand and entered judgment for Fidelity. Kurz appeals.

In their opinion, Chief Judge Easterbrook and Judges Sykes and Kendall affirmed. The Court referred to the Securities Litigation Uniform Standards Act of 1998 (the “Act”). The Act generally bars class actions based on state law which allege an omission of a material fact “in connection with the purchase or sale of a covered security. The Court noted that there are exceptions to the bar (like a derivative action) but Kurz did not invoke any exception. Instead, his position was that the claim was a contract claim -- not one for a misrepresentation or omission. The Court agreed that a true action for breach of contract would not be barred by the Act but concluded that Kurz could not maintain an action for breach of contract. The principal reason for his inability to do so was the complete absence of any promise made by Fidelity to Kurz.

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KATZ v. GERARDI (January 5, 2009)

Jack Katz brought this action on behalf of a class of persons who contributed real property to a real estate investment trust (“REIT”). In exchange, they received an interest in the REIT. The REIT merged into a new entity in 2007. The interest-holders were offered either cash or an interest in the new entity. Katz took the cash but filed suit in state court, alleging that the offer violated the terms of their original agreement with the REIT. He based the action on the Securities Act of 1933 ( “’33 Act”). Defendants removed the suit to federal court under the Class Action Fairness Act of 2005 (“CAFA”). The district court concluded that removal was not allowed by the ’33 Act. The defendants petition for appeal.

In their opinion, Chief Judge Easterbrook and Judges Kanne and Sykes granted the petition and vacated and remanded the decision of the district court. The Court first addressed whether Katz’ action was even one under the ’33 Act. The ’33 Act applies only to purchasers of securities – Katz and the class members are sellers of securities. The Court was inclined to believe that Katz was styling his claim as one under the ’33 Act in order to prevent removal. The district court had acknowledged the same issue. It decided that the weakness of the pleading went to the merits, not to whether it was removable. The Court recognized the difficulty in distinguishing between a claim designed to defeat federal jurisdiction and one, though ultimately unsuccessful, is properly pleaded. Ultimately, the Court decided to accept the pleading as one under the ’33 Act and address the conflict between the laws.

The ’33 Act provides that actions brought under the statute in state court are not removable except in particular circumstances. CAFA allows for removal of class actions if certain criteria are met – which admittedly are met here. The Court noted the canons of construction that apply when statutes are in conflict – an older statute yields to a newer and a less specific yields to a more specific. But the Court concluded that it did not have to apply those canons. The statutes, in fact, are not incompatible. The very language of CAFA provides the answer. The broad removal authority granted by CAFA is modified by the almost identical lists of exceptions in §1332(d)(9) and §1453(d). The Court concluded that class actions brought under the ‘33 Act are removable unless one of the §1453(d) exceptions applies. Katz relied on one of the exceptions – claims that relate to rights and duties relating to any security. The Court noted an inconsistency between Katz’ attempts to fit his claim into the exception while still relying on the ‘33 Act. Nevertheless, the Court decided the best course was to remand to determine whether the claim fit within the exception.

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STARK TRADING v. FALCONBRIDGE LIMITED (January 5, 2009)

Brascan Asset Management (“Brascan”) owned 41% of the common stock of Noranda, Inc. (“Noranda”). Noranda owned, in turn, 59% of Falconbridge, Inc. (“Falconbridge”). Noranda and Falconbridge were both large Canadian mining companies. In March 2005, Noranda offered the minority shareholders in Falconbridge 1.77 shares of Noranda stock for each share of Falconbridge. The offer was conditioned on being accepted by holders of more than half of Falconbridge’s shares. The plaintiffs (two hedge funds) bought Falconbridge shares in the months leading up to the tender-offer expiration date in May. The plaintiffs believed that Falconbridge was grossly undervalued. Before the expiration of the tender-offer, the plaintiffs learned of many problems in the transaction. They expressed their concerns to the Canadian regulators. They exposed a conflict of interest at the investment bank that did the valuation of Falconbridge and in the internal Falconbridge committee that considered the valuation. They also warned that Noranda overstated the value of its own shares. The plaintiffs tendered their shares and the tender-offer succeeded. A few months later, Noranda and Falconbridge merged. Shortly thereafter, another mining company offered to buy the merged company for a price substantially above the tender-offer price. The plaintiffs brought this action against both the merged company and Brascan. The suit was based on the SEC’s Rule 10b-5 and section 11 of the Securities Exchange Act. The district court dismissed the suit for failure to state a claim. Plaintiffs appeal.

In their opinion, Judges Posner, Kanne and Tinder affirmed. The Court first addressed the Rule 10b-5 fraud claims. A claim of fraud cannot be maintained without proof that the plaintiffs relied on the misleading misrepresentations or omissions of the defendant. The Court concluded that plaintiffs were not deceived. They knew Falconbridge was undervalued, they knew the offer was too low, and they knew that Noranda engaged in fraud. They did not try, however, to influence other minority shareholders or even to publicly disclose the information. What they had wanted was a higher offer. Not getting it and worried about the lack of minority shareholder protection under Canadian law, they tendered their shares. Other investors may have been deceived but the plaintiffs actually saw through the fraud. The Court agreed that they could not maintain a 10b-5 action. With respect to the §11 claim, the Court noted that it does not require reliance. A person may bring an action under §11 if the registration statement of the security contains an untrue statement or material omission. The plaintiffs fare no better under §11, however, than they did under 10b-5. The measure of damages is the difference between the purchase price paid by the plaintiff and the share price when it was sold or at the time of the suit, if still owned. Here, the value of the plaintiffs’ investment was higher at the time of the suit than when they purchased the shares.

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