Supreme Court to Decide Scope of Potential Liability Based on MD&A in Annual Reports

On September 29, the Supreme Court agreed to hear a case that could significantly affect the scope of corporate liability under the securities laws. Lower courts disagree on whether the SEC-required “management’s discussion and analysis” in public companies’ annual reports can be the basis for securities-fraud liability. The Supreme Court will now resolve the issue.

More specifically, the issue is whether a public company can be held liable through a private cause of action for failure to make a disclosure required under Item 303 of the SEC’s Regulation S-K. That rule requires a company to “identify known trends or uncertainties that have had or that are reasonably likely to have a material favorable or unfavorable impact” on its financial performance. A company’s SEC-required annual report must “furnish the information required by Item 303,” under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The SEC requires this discussion so that an investor has an opportunity to look at the company through the eyes of management.

The case before the Supreme Court is Macquarie Infrastructure Corp. v. Moab Partners, L.P. It comes out of the Second Circuit, which has held that “Item 303 imposes the type of duty to speak that can, in appropriate cases, give rise to liability” under Section 10(b) of the Securities Exchange Act of 1934 and SEC Rule 10b-5, both of which prohibit deception in connection with the purchase or sale of securities. The Ninth and Eleventh Circuits, however, disagree; in their view, Item 303 has a very different concept of materiality than Section 10(b) does. In other words, those courts have held that just because a trend or uncertainty should be included in order to provide a complete answer to Item 303 does not mean that omitting it is a violation of Section 10(b). Although the Second Circuit stands alone, it covers New York and sees more securities litigation than any other circuit.

The Macquarie case is the Court’s second attempt at resolving this issue. In 2017, the Court granted review in a case presenting this same question, Leidos Inc. v. Indiana Public Retirement System, but that case settled shortly before oral argument.

In July, Goodwin submitted an amicus brief on behalf of the Securities Industry and Financial Markets Association and the Chamber of Commerce of the United States of America urging the Court to grant certiorari and to hold that an allegedly incomplete discussion in Item 303 cannot support a private cause of action. The brief argued that the inevitable effect of creating a private cause of action for alleged violations of Item 303 is to compel management to systematically err on the side of over-disclosure in order to avoid potential lawsuits. This floods the markets with low-quality information that is unhelpful for investors, and it transforms the disclosures from management’s candid narrative of their business into a pre-litigation document shaped largely by lawyers.

Amicus briefs supporting the defense position will likely be due in November. The case will likely be argued in early 2024, with a decision from the Court expected by June 2024.

This informational piece, which may be considered advertising under the ethical rules of certain jurisdictions, is provided on the understanding that it does not constitute the rendering of legal advice or other professional advice by Goodwin or its lawyers. Prior results do not guarantee a similar outcome.