11^th Circuit Holds That Board’s Alleged Failure To Disclose Entrenching Motive For Share Repurchase Does Not Constitute Securities Fraud
 

On September 7, 2016, the Court of Appeals for the 11^th Circuit affirmed the Southern District of Florida’s dismissal of shareholder securities fraud claims against The ADT Corporation (“ADT”).  IBEW Local 595 Pension and Money Purchase Pension Plans, et al v. The ADT Corporation et al, No. 15-13595, 2016 WL 4660814 (11th Cir. Sept. 7, 2016).  Plaintiffs claimed that ADT misrepresented and failed to disclose that its board’s motivation for approving a leveraged repurchase of company stock was to protect itself from threats of replacement by an activist hedge fund (the “Fund”) and that ADT and the Fund engaged in deceptive conduct in executing the repurchase plan, in violation of Section 10(b) of the Securities Exchange Act of 1934.  The Court held that ADT was not required to disclose its motives for the repurchase and the defendants had not engaged in manipulative conduct.

Plaintiffs alleged that the Fund viewed ADT’s stock as undervalued.  The Fund bought over five percent of ADT’s shares, and the Fund’s founder joined the ADT board.  The Fund allegedly pushed ADT to incur debt in order to repurchase its stock, and threatened that if the board did not do so the Fund would run a competing slate of directors at the next shareholders’ meeting.  The repurchase program was adopted, with the result that the market price of ADT’s shares increased.  After the Fund sold its ADT stock to ADT and the Fund’s founder resigned from the board, the market price of ADT’s shares fell.  Plaintiffs alleged that in adopting the repurchase program, ADT hid from shareholders that its true motives for doing so were to placate the Fund and to preserve the directors’ positions.  Plaintiffs also asserted that ADT and the Fund had engaged in deceptive conduct by executing the repurchase plan.

The Court first held that under Fifth Circuit precedent (which the Eleventh Circuit had adopted as binding), “a company does not engage in deception under the meaning of the securities laws by failing to disclose its motives in entering a transaction.”  Plaintiffs had not alleged that ADT “fail[ed] to disclose material financial or other information concerning the nature, scope, or mechanics of the stock repurchase transaction.”  And the Court held that, given that plaintiffs did not challenge any of those disclosures, no reasonable shareholder would have considered ADT’s alleged motive to be material.  The Court also held that plaintiffs’ allegations of deceptive conduct (or “scheme liability”) were deficient.  Although the Court noted that deceptive conduct can be actionable under Section 10(b) and Rule 10b-5 absent a misstatement or omission, it found plaintiffs’ allegations insufficient because plaintiffs had not alleged that ADT and the Fund executed the repurchase plan to affect the market for ADT’s shares or deter investment in ADT.  Rather, as the Court explained, “[t]he premise underlying the [plaintiffs’] allegations is that the failure to disclose the motivations behind the transaction is what made the stock repurchase plan deceptive, not that the stock repurchase plan itself was deceptive.”  However, as the Court had just held in rejecting plaintiffs’ omission theory, ADT’s undisclosed motivations for adopting the repurchase program were not actionable.