January 9, 2013

Company's Forward-Looking Statements Protected by the PSLRA's Safe Harbor

Holland & Knight Bulletin
Allison Kernisky

On January 2, 2013, the U.S. District Court for the Southern District of New York dismissed a securities class action complaint filed against an online provider of medical information and three of its directors and officers, finding that certain statements made by the defendants were shielded from liability under the Private Securities Litigation Reform Act's Safe Harbor for Forward-Looking Statements. In their consolidated complaint for violations of Section 10(b) and Rule 10b-5 and Section 20(a) of the Securities Exchange Act, the plaintiffs alleged that the defendants defrauded investors by knowingly releasing inflated revenue forecasts and making misleading statements regarding the company's projected guidance while letting the "truth" about the company's declining results trickle out over the 11-month class period rather than all at once. The resulting artificially inflated stock price allegedly benefitted the defendants through a $400 million private placement of convertible notes and also supposedly motivated them to overvalue the company because they were actively seeking to sell it.

The defendants moved to dismiss the complaint on the grounds that the challenged statements were protected by the PSLRA's safe harbor. In the Second Circuit, the safe harbor shields defendants from liability if they can show that the challenged statements are either: (1) identified as forward-looking and accompanied by meaningful cautionary language; (2) immaterial; or (3) protected because the plaintiffs fail to adequately allege that the defendants had actual knowledge, or scienter, that the statements were false at the time they were made.

Here, the court disagreed with the plaintiffs' argument that the defendants made the challenged statements with actual knowledge of their falsity and dismissed the complaint under the safe harbor's third rationale for failure to prove scienter. Rather than indicate that the defendants provided misleading guidance or intentionally withheld bad news from investors, the court found that the defendants were realistic in their assessment of downward-trending market conditions at the time but may have misinterpreted their duration. The court held that a far more plausible inference was that the defendants were merely mistaken rather than intentionally deceitful and that they simply misread the impact declining market conditions would have on the company.

The court also pointed to the company's conservative guidance as a factor negating scienter and stressed the fact that the company repeatedly adjusted its guidance downward as the year progressed as further evidence of non-fraudulent intent. The court was further unpersuaded by the plaintiffs' argument that the defendants had a motive to commit fraud to reap maximum gain in the convertible note offering or that they were motivated to overvalue the company because they were attempting to sell it. Without allegations of insider stock sales or other personal benefit, the court held, those arguments failed. Although the court dismissed the case under the "actual knowledge" prong of the safe harbor, it nevertheless found that the challenged statements were all forward-looking and accompanied by meaningful cautionary language and thus could be dismissed under the safe harbor's first prong as well. The plaintiffs have 60 days to file an amended complaint.

In re WebMD Health Corp. Sec. Litig., No. 1:11-cv-05382 (S.D.N.Y.).

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