Until last week, federal circuit courts were split on whether so-called “pure omissions” could support securities fraud claims under Securities Exchange Act Rule 10b-5(b). The implications of the split were important to plaintiffs seeking to challenge companies for allegedly failing to disclose material information on a topic in the absence of any other affirmative statements on the same topic.
On April 12, the United States Supreme Court unanimously held in Macquarie Infrastructure Corp., et al. v. Moab Partners, L.P., et al. that “pure omissions are not actionable” under Rule 10b–5(b) and that the Rule extends only to “half-truths.” In other words, to state a scienter-based fraud claim under Rule 10b-5(b), a plaintiff must establish that material information allegedly omitted made some other affirmative statement false and misleading; “Rule 10b-5(b) does not proscribe pure omissions.”
Under Rule 10b–5(b) — a staple both of SEC enforcement and private securities class actions — it is unlawful “[t]o make any untrue statement of a material fact or to omit 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.”
For those not fluent in the application and enforcement of Rule 10b-5(b), its text does not exactly roll off the tongue and its concepts can be tricky to apply in practice. In essence, Rule 10b-5(b) prohibits parties (in Macquarie, SEC registrant entities) from (1) affirmatively lying or making false statements of material fact; and (2) lying by omission — that is, rendering whatever a party has stated on a topic misleading because the audience is not given all of the material facts.
How Macquarie Sharpens Focus on — and Limits — the Reach of Rule 10b-5(b)
In 2016, the U.N. implemented a regulation to cap, by 2020, sulfur content in fuel oil used in shipping. A Macquarie subsidiary operated storage terminals that stored a particular type of fuel oil with a higher sulfur content. Initially, Macquarie did not disclose the U.N. regulation in its public offering documents. In February 2018, however, Macquarie announced a decline in business due in part to a decline in the market for the kind of fuel oil its subsidiary stored. Following the announcement, Macquarie’s stock price dropped nearly 41 percent.
Moab Partners sued Macquarie and certain of its officers, alleging violations of Rule 10b-5(b) by failing to disclose (despite an alleged duty to do so) material facts relating to the U.N. regulation’s impact on the business. The Southern District of New York sided with Macquarie and dismissed the complaint, concluding that Moab had not “actually plead[ed] an uncertainty that should have been disclosed” or “in what SEC filing or filings Defendants were supposed to disclose it.” The Second Circuit reversed, holding that Moab adequately pleaded facts giving rise to a duty to disclose, thereby making an omission unlawful under the rule and further entrenching a circuit split.
Moab grounded its allegations in Item 303 of Regulation S–K, which requires companies to disclose in regulatory filings “known trends or uncertainties that have had or that are reasonably likely to have a material favorable or unfavorable impact on net sales or revenues or income from continuing operations.” According to Moab, Macquarie’s alleged failure to disclose information Moab argued was required under Item 303 triggered a violation of Exchange Act Section 10(b) and Rule 10b-5(b) thereunder. That is, Moab paired certain Item 303 affirmative-disclosure requirements with Rule 10b-5(b)’s enforcement mechanism to argue Macquarie’s failure to disclose the U.N. regulation and its impact on the business were actionable.
For the Supreme Court, the chief issue was whether Rule 10b-5(b) prohibits so-called “pure omissions” or only “half-truths.” The former occurs “when a speaker says nothing, in circumstances that do not give any special significance to that silence.” The latter occurs when a speaker makes “representations that state the truth only so far as it goes, while omitting critical qualifying information.” To that end, the Court addressed “whether the failure to disclose information required by Item 303 can support a private action under Rule 10b-5(b), even if the failure does not render any ‘statements made’ misleading.” In other words, the question was whether, in the absence of affirmative statements on a topic, a failure to disclose violates the rule. The Court answered no.
In a concise, unanimous opinion authored by Justice Sonya Sotomayor, the Court held that pure omissions are not actionable under Rule 10b–5(b), reasoning that the rule’s plain text requires a plaintiff to establish that something already said by a speaker is made misleading by the speaker’s omission of a material fact. Stated differently, an omission-based claim under Rule 10b–5(b) requires an existing, affirmative statement.
For the Court, the statute’s context supported the plain-text reading. The Court pointed to Section 11(a) of the Securities Act of 1933, which proscribes half-truths and pure omissions, prohibiting registration statements from making “an untrue statement of a material fact or omitting to state a material fact required to be stated therein or necessary to make the statements therein not misleading” (emphasis added). The inclusion of “pure omission” language in Section 11(a) — and the lack of similar language in section 10(b) or Rule 10b–5(b) — underscored that section 10(b) and Rule 10b-5(b) were not intended to create liability for pure omissions. Pointing to its prior decision in Basic v. Levinson, the Court made clear that without some duty to disclose, silence alone is not misleading under Rule 10b-5 and went on to state that
“Even a duty to disclose, however, does not automatically render silence misleading under Rule 10b–5(b). Today, this Court confirms that the failure to disclose information required by Item 303 can support a Rule 10b–5(b) claim only if the omission renders affirmative statements made misleading.”
In addition, the Court noted that the focus of section 10(b) and Rule 10b-5(b) is to prevent fraud — not to police disclosures. Dispensing with arguments that foreclosing these claims would lead to immunity for disclosure failures, the Court observed that “the SEC retains authority to prosecute violations of its own rules and regulations, including Item 303.”
The Difference Between a Pure Omission and a Half-Truth
As Macquerie succinctly observes, omissions-based liability under Rule 10b-5(b) “requires disclosure of information necessary to ensure that statements already made are clear and complete” (emphasis added). The Court differentiated pure omissions from half-truths as follows (internal citations omitted):
| Pure Omission Not Actionable Under 10b-5(b) | Half-Truth Actionable Under 10b-5(b) |
| Speaker says nothing and remains silent on a topic, in circumstances that do not give any particular meaning to that silence A child not telling his parents he ate a whole cake | Representations that state the truth only so far as it goes, while omitting critical qualifying information A child telling his parents he had dessert, but not telling them it was an entire cake Literal accuracy is not enough, a speaker must not mislead investors by saying one thing and holding back another |
Takeaways
- Practitioners and potential litigants should remember that fraud claims under Exchange Act Rule 10b-5(b) are already subject to a heightened pleading standard under Fed. R. Civ. P. 9(b) (and other heightened standards when pursued under the Private Securities Litigation Reform Act);
- Plaintiffs now face a higher bar for pleading cognizable claims, and for beating motions to dismiss, when liability is rooted in an alleged omission of material fact;
- “Half-truths” remain actionable under Rule 10b-5(b), but now require litigants to identify other on-topic affirmative statements and credibly plead how those statements were rendered misleading by information the speaker failed to provide;
- Companies addressing prescriptive cyber-disclosure requirements (and possible future climate disclosures notwithstanding current Eighth Circuit litigation over recently adopted final rules) might breathe a little easier in light of this decision, insofar as the Court rejected efforts to establish omissions-based liability in the absence of affirmative statements and based purely on an alleged failure to disclose information required under Regulation S-K; and
- The Macquerie decision, while limiting private actions under Rule 10b-5(b), does not alter a plaintiff’s ability to pursue “scheme” liability claims under Rule 10b-5(a) and (c).
Jessica Magee is chair of Holland & Knight’s Securities Enforcement Defense Team. She is a former associate regional director of enforcement for the U.S. Securities and Exchange Commission.
Brandon King is an associate at Holland & Knight, where he focuses his practice on government investigations and enforcement actions, white collar defense, internal investigations and appellate law.
Hunter W. Bezner is a litigation associate at Holland & Knight.
Mary Ellen Stanley and Amelia Occhino also contributed to this article.