If correctly understood and applied, the Supreme Court’s decision in Omnicare, Inc. v. Laborers Dist. Council Const. Industry Pension Fund, 135 S. Ct. 1318 (2015), will allow corporate officers to speak more freely, without fear of unfair liability. And defendants will win more cases.
Yet I keep seeing commentary from defense lawyers saying that Omnicare expanded the basis for defendants’ liability. That sort of statement is simply wrong, and fails to appreciate the muddled state of the pre-Omnicare standards for judging statements of opinion and the Omnicare standard itself. Indeed, Omnicare – which applies to the “false or misleading statement” element of both Section 11 and Section 10(b) – will be the most helpful Supreme Court decision for defendants since Tellabs, if we in the defense bar use it right.
Pre-Omnicare Law Governing Statements of Opinion Was Muddled
To correctly understand Omnicare, it is critical to appreciate that the law on statements of opinion before Omnicare was a mess. For a full discussion, I invite you to review pages 13-19 of our Omnicare amicus brief on behalf of Washington Legal Foundation. Here, I’ll share what I believe was going on in the cases, starting with the base case, the Supreme Court’s decision in Virginia Bankshares v. Sandberg, 501 U.S. 1083 (1991).
Virginia Bankshares held that an opinion may be actionable as a false statement of “fact,” to the extent to which it is a “misstatement of the psychological fact of the speaker’s belief in what he says.” 501 U.S. at 1095. This makes sense. If it’s raining and I say to someone from another city that the weather where I am is “nice,” my statement of opinion is true if I genuinely believe it. It doesn’t matter if most other people wouldn’t think so. But it also makes sense that my true opinion could be misleading to a reasonable person, since most people wouldn’t regard rainy weather as “nice.” Virginia Bankshares only concerned the “falsity” of an opinion, and not the broader question of whether a “true” statement of opinion can omit facts that make the opinion misleading – just like any other type of true statement can be misleading.
Virginia Bankshares didn’t catch on. I think there are two main reasons. First, the decision is difficult to read and decipher. Many doubted that the Supreme Court actually meant to create a subjective falsity standard, and many defendants and courts didn’t even cite the case when analyzing statements of opinion. Second, the subjective falsity standard only covers the “false” half of the “false or misleading statement” element – the fact of the speaker’s state of mind. Courts thus struggled to figure out how to harmonize Virginia Bankshares with the “misleading” half of the element, especially as defendants argued that a lack of subjective falsity alone defeated the entire claim. I believe that these difficulties led courts to ignore or distinguish Virginia Bankshares, or to apply an alternative standard.
The most influential alternative standard was the disjunctive three-part test the Ninth Circuit established in In re Apple Computer Sec. Litig., 886 F.2d 1109 (9th Cir. 1989). In Apple, the Ninth Circuit held that opinions are actionable if they (1) are not genuinely believed, (2) there is no reasonable basis for the belief, or (3) the speaker knows undisclosed facts that tend to seriously undermine the opinion. Courts around the country followed the broad and plaintiff-friendly Apple standard to such an extent that it is fair to say it was the prevailing test for deciding whether an opinion was actionable. Virginia Bankshares, if cited at all, was typically an afterthought. Even after the Ninth Circuit first applied Virginia Bankshares in 2009, in Rubke v. Capitol Bancorp Ltd., 551 F.3d 1156 (9th Cir. 2009), it didn’t expressly overrule the incompatible Apple standard, and some courts, both inside and outside the Ninth Circuit, continued to refer to Apple.
Virginia Bankshares Recently Had Started to Catch On
Recently, in Fait v. Regions Fin. Corp., 655 F.3d 105 (2d Cir. 2011), the Second Circuit joined the Ninth Circuit in applying Virginia Bankshares. Based on Fait and Rubke, and a few other circuit court decisions, defendants began to argue that an opinion can only be false or misleading if it was not actually believed by the speaker. This, I think, is the source of the defense bar’s disappointment with Omnicare: they feel it is a step backward from the standard of law they hoped was developing – namely, one that makes a statement of opinion not actionable as long as the speaker genuinely believes it (i.e. is subjectively true), without considering whether it may nevertheless be misleading.
But whatever the merits of recent decisions, Virginia Bankshares concerns only “subjective falsity,” the first half of the “false or misleading statement” element. In Omnicare, the Supreme Court prescribed the standards for analysis for both halves of the “false or misleading statement” element, which, of course, is legally required, because under Section 11 and Section 10(b), a true statement can be actionable if it is misleading.
Omnicare’s Second Prong is Simply the Misleading Half of “False or Misleading Statement” Element
Indeed, the “misleading” half of the “false or misleading statement” element was the real showdown in Omnicare. At oral argument, it seemed inevitable that the Supreme Court would reject the plaintiffs’ argument that a genuinely believed opinion may nonetheless be considered “false” if it is later determined that the opinion was incorrect. But the Court also expressed discomfort with the potential loopholes that could be created by Omnicare’s position at the other extreme – that if a statement is phrased as an opinion, it cannot be found to be either false or misleading under the securities laws, as long as the opinion was honestly held by the speaker.
There were many wrong turns that the Court could have taken in rejecting these two extremes, running the risk of further confusing the law not only regarding the truth or falsity of opinions, but also muddling the law of scienter and materiality. But the Court successfully navigated these potential pitfalls – including refusing to adopt the “reasonable basis” standard advocated by the Solicitor General – and instead adopted an analytically sound approach that is consistent with its previous securities rulings, holding that:
(1) a statement of opinion is only “false” under the securities laws if it is not genuinely believed by the speaker; and
(2) like any other kind of statement, a statement of opinion may be “misleading” if, when considered in context, it creates a false impression in the mind of a reasonable investor.
Omnicare thus simply stitches together (1) Virginia Bankshares’s subjective falsity standard and (2) the standard for “misleading” in the “false or misleading statement” element that has always applied to each and every type of challenged statement in each and every securities class action. See, e.g., Brody v. Transitional Hosps. Corp., 280 F.3d 997, 1006 (9th Cir. 2002) (a statement is misleading due to omissions if it “affirmatively create[s] an impression of a state of affairs that differs in a material way from the one that actually exists”).
Although recent cases seemed to focus on subjective falsity, a rule of subjective falsity alone never could or would have been the law, because the misleading-statement half of the “false or misleading statement” is an integral part of the law of Section 10(b) and Section 11. Thus, the law on what can make a statement of opinion misleading inevitably would have developed in the courts, with or without Omnicare. For this simple reason, the view that Omnicare’s second prong is something new and plaintiff-friendly is wrong; it is simply the pre-existing “misleading” half of the “false or misleading statement” element.
The legal standard Omnicare established to evaluate misleading-statement allegations will greatly help defendants argue for dismissal of claims based on statements of both fact and opinion. In evaluating what investors understood, the Court directed courts to consider the entire factual context in which defendants made the challenged statement. In particular, the Court’s analysis emphasizes that whether a statement is misleading “always depends on context” and a statement must be understood in its “broader frame,” including “in light of all its surrounding text, including hedges, disclaimers, and apparently conflicting information,” and the “customs and practices of the relevant industry.” 135 S. Ct. at 1330.
A good motion to dismiss has always analyzed a challenged statement (fact or opinion) in its broader factual context to explain why it’s not misleading. But many defense lawyers unfortunately leave out the broader context, and courts sometimes take a narrower view. Now, this type of superior, full-context analysis is required by Omnicare. And combined with Tellabs’s directive that courts consider scienter inferences based on not only on the complaint’s allegations, but also on documents on which the complaint relies or that are subject to judicial notice, courts clearly must now consider the full array of probative facts in deciding both whether a statement was false or misleading and, if so, was made with scienter. Plaintiffs can’t cherry-pick what the court considers anymore.
In the full context of the facts, Omnicare prescribes strict scrutiny of misleading-statement allegations, emphasizing the narrowness of its standard: an opinion is not misleading just because “external facts show the opinion to be incorrect,” 135 S. Ct. at 1328, or if a company fails to disclose “some fact cutting the other way,” or if the company does not disclose that some disagree with its opinion. Id. at 1329-30. Rather, the Court seized upon the misleading-statement analysis that our amicus brief (alone among the parties and amici) had urged, finding that an opinion is misleading if it omits information that is necessary to avoid creating a false impression of the “real facts” in a reasonable investor, when the statement is taken as a whole and considered in its full context. Unlike the “reasonable basis test” urged by the Solicitor General, the Court emphasized that this inquiry “is objective.” Id. at 1327. And the Court stressed that pleading a misleading opinion will be “no small task for an investor.” Id. at 1332.
Thus, far from being plaintiff-friendly, Omnicare has expressly given the defense bar tools with which to make better arguments. If the defense bar uses Omnicare correctly, the decision will have a profound impact on securities litigation defense and, most importantly, on the ability of directors and officers to speak their minds without fear of liability for doing so honestly.