Ninth Circuit Finds NASDAQ Listing Material

In a rare case, based solely on a Section 12(a)(2) of the Securities Act of 1933 (the “Act”), 15 U.S.C. § 77l(a)(2) claim, the Ninth Circuit overturned a District Court Opinion finding that an implied promise to list the stock on NASDAQ, in the Final Draft of the Prospectus, was not material. In HOWARD MILLER v.THANE INTERNATIONAL, INC., the Ninth Circuit recites what this author finds to be almost an amusing flip-flop of experts (both of whom I respect) who normally take completely opposite positions in a 10b case where defendants argue that the "reliance" element of fraud cannot be established through the "fraud on the market presumption" in small cap stocks because the markets on which they trade on are not efficient :

Testifying for Thane International, Bradford Cornell, Professor of Finance at the Anderson Graduate School of Management at the University of California, Los Angeles, minimized the importance investors attach to the market in which a company trades, concluding “value derives from the company itself and not where it trades.” He also testified that liquidity is determined by a company’s inherent characteristics,5 not the market on which it trades. He generally regarded listing on the NASDAQ as a cosmetic benefit of secondary importance to investors who focus on a company’s fundamentals.

On behalf of the plaintiff class, Candace Preston, founding member of Financial Markets Analysis, LLC, emphasized the benefits that accompany NASDAQ listing as compared to listing on the OTCBB. She declared that NASDAQ stocks generally enjoy greater liquidity, and thus reduced spreads,6 leading to greater investor returns.7 NASDAQ-listed shares are also exempt from state-by-state “Blue Sky” laws, which require companies offering securities to undergo burdensome registration processes in certain states in addition to the various federal registration requirements. This translates into lower compliance costs, more favorable terms for raising capital, and thus, all things being equal, higher earnings and share prices. NASDAQ-listed shares can also be purchased on margin, i.e. purchased with money on loan from a stockbroker. This can lead, all things being equal, to a larger investor base and higher returns.Wall Street Journal, which further decreases their exposure to potential investors and decreases price transparency. She also explained that NASDAQ listing confers a degree of prestige on a stock because of that market’s more rigorous listing standards.

Preston testified, and Thane International did not dispute, that institutional investors almost universally shun OTCBB stocks, which significantly cuts into the base of demand for those shares (thus depressing their price). Preston also testified that OTCBB stocks are not regularly quoted in financial publications like the

See Thane_International_Ninth_Circuit.pdf. Also of interest to the Plaintiffs' Bar are affirmations of two long held principles. The first being the principle that even literally true statements can be misleading:

[A]n issuer’s public statements cannot be analyzed in complete isolation. “Some statements, although literally accurate, can become, through their context and manner of presentation, devices which mislead investors. For that reason, the disclosure required by the securities laws is measured not by literal truth, but by the ability of the material to accurately inform rather than mislead prospective buyers.” In re Convergent Tech. Sec. Litig., 948 F.2d 507, 512 (9th Cir. 1991) (quoting McMahan & Co. v. Wherehouse Entm’t, Inc., 900 F.2d 576, 579 (2d Cir. 1990)); see also Kaplan v. Rose, 49 F.3d 1363, 1372 (9th Cir. 1994).

The second is that Section 12(a)(2) claims have no scienter element:

“Section 12(a)(2) is a virtually absolute liability provision that does not require an allegation that defendants possessed scienter.” In re Suprema Specialties, Inc. Sec. Litig., 438 F.3d 256, 269 (3d Cir. 2006) (internal quotation marks omitted); see also Gustafson v. Alloyd Co., Inc., 513 U.S. 561, 578 (1995) (“It is understandable that Congress would provide [securities] buyers with a right to rescind, without proof of fraud . . . .” ). Moreover, the purchaser need not prove reliance on the misrepresentations. See Gustafson, 513 U.S. at 576, 578.

While plaintiffs may have won the war, they may have lost the battle. The Courts holding that the stock drop was immaterial for determining liability is moderated by the fact that the Court sent it back for the District Court to consider loss causation. Contrast Footnote 2:

2 In the context of a “fraud on the market” Rule 10b-5 class action, where reliance is presumed based on the price of a stock, availability to the public of truthful information may be relevant to the extent the stock’s price has not actually been skewed by any misrepresentations. However, in an action that does not involve the fraud on the market presumption, that truthful information is available elsewhere does not relieve a defendant from liability for misrepresentations in a given filing or statement. See Apple Computer, 886 F.2d at 1114-15.

With:

A Section 12 defendant is liable only for depreciation that results directly from the misrepresentation at issue. See 15 U.S.C. § 77l(b). Because the district court found no misrepresentation, however, it did not reach loss causation. Thane International urges that we should affirm the district court’s judgment because the district court’s factual findings necessarily establish that there was no loss resulting from any material misrepresentations. Specifically, Thane International argues that the district court’s finding that Thane International stock did not react during its first nineteen days of OTCBB listing supports a finding that its failure to list on the NASDAQ was not the direct cause of any loss of value.

Without expressing any opinion as to the strength of this argument, we remand to the district court to address the issue of loss causation in the first instance, following the “general rule [that] ‘a federal appellate court does not consider an issue not passed upon below.’ ” Golden Gate Hotel Ass’n v. City & County of San Francisco, 18 F.3d 1482, 1487 (9th Cir. 1994) (quoting Singleton v. Wulff, 428 U.S. 106, 120 (1976)).

What one hand gives, the other takes away. Prediction...early settlement.