In Re: Digital Island Securities Litigation William Blair Massey, Lead As Representative of A Class Consisting of All Holders of The Common Stock of Digital Island, Inc., 357 F.3d 322, 3rd Cir. (2004)
In Re: Digital Island Securities Litigation William Blair Massey, Lead As Representative of A Class Consisting of All Holders of The Common Stock of Digital Island, Inc., 357 F.3d 322, 3rd Cir. (2004)
3d 322
This securities class action lawsuit arises out of the acquisition of Digital Island,
Inc. by Cable & Wireless, PLC ("C & W"). Pursuant to a May 14, 2001 Merger
Agreement between Digital Island and C & W, Dali Acquisition Corp. ("Dali"),
a wholly-owned subsidiary of C & W, made a cash tender offer to shareholders
of Digital Island under which it acquired 80 percent of the shares of Digital
Island. Dali was thereafter merged into Digital Island, which survived as a
wholly-owned subsidiary of C & W.
who received the tender offer.1 Defendants are Digital Island, members of
Digital Island's Board of Directors during the relevant time period, including
Digital Island's CEO, Ruann Ernst (the "Directors"),2 C & W, C & W's CEO,
Graham Wallace,3 and Dali. Plaintiffs allege that, in connection with the tender
offer, Defendants made misleading statements and failed to disclose material
information in violation of Section 14(e) of the Securities and Exchange Act of
1934 (the "'34 Act"), as amended by the Williams Act of 1968. 15 U.S.C.
78n(e). Plaintiffs further allege that the Directors received "extra consideration"
for their shares in violation of Section 14(d)(7) of the '34 Act, 15 U.S.C.
78n(d)(7), and Securities and Exchange Commission ("SEC") Rule 14d-10, the
so-called "Best Price Rule," 17 C.F.R. 240.14d-10(a). Plaintiffs allege both
individual violations by Defendants of these provisions, as well as "control
person liability" under Section 20(a) of the '34 Act. 15 U.S.C. 78t(a).
3
I.
4
The following facts are drawn from the proposed amended Complaint and from
Digital Island's Securities and Exchange Commission ("SEC") Form 14D-9,
which is referenced in the proposed amended Complaint and included in the
Joint Appendix. See Oran v. Stafford, 226 F.3d 275, 289 (3d Cir.2000) (taking
judicial notice of documents required by law to be filed with the SEC). Digital
Island provides a global e-business delivery network and suite of services for
enterprises that use the internet to deploy business applications and conduct ecommerce. Digital Island began searching for a potential acquirer in August of
2000, at which time representatives of Digital Island contacted representatives
of C & W to gauge C & W's interest in a strategic partnership with Digital
Island. In March of 2001, C & W indicated that it was interested in a potential
business combination with Digital Island. In April of 2001, C & W delivered an
initial draft of the Merger Agreement and made an initial offer to purchase
Digital Island for $2.25 a share. After considering the offer and meeting with
its financial advisors, Digital Island advised C & W that it was prepared to
begin negotiations, provided that the offer price was increased to at least $3.25.
5
Negotiations between Digital Island and C & W continued through April and
into May, but C & W would not agree to raise its offer to $3.25 per share. On
May 10, 2001, Digital Island announced an agreement to provide certain
business services to Microsoft Corporation. The price of Digital Island's stock
rose that day from $2.00 per share to $3.69 per share. On May 11, 2001,
representatives of C & W indicated that C & W's board of directors had
preliminarily approved an offer of $3.40 per share.4 Digital Island made a
counter-proposal of $4.10 per share, which was rejected by C & W. On May
13, 2001, the Digital Island board met and voted unanimously to approve the
execution of the Merger Agreement with a per share tender offer price of $3.40
and to recommend to the shareholders that they accept the tender offer.
On May 14, 2001, Digital Island and C & W executed the Merger Agreement,
which contemplated a first step tender offer followed by a second step merger.
Under the tender offer, shareholders who tendered their shares were to receive
$3.40 per share. Under the merger, all remaining shares of Digital Island would
be canceled, and shareholders would receive $3.40 per share. The tender offer
period expired on June 18, 2001, and on June 19, 2001, Digital Island
announced that approximately 80 percent of its outstanding stock had been
tendered.
Plaintiffs' Section 14(e) claim is based on two significant business deals that
were announced immediately after the expiration of the tender offer. On June
20, 2001, Digital Island announced a major business agreement with
Bloomberg LP, and on July 2, 2001, Digital Island announced another major
business agreement with Major League Baseball ("MLB"). According to
Plaintiffs, both the Bloomberg and MLB deals had substantial value to Digital
Island, and, if disclosed, would have substantially influenced the shareholders'
decision to tender their shares.5
Plaintiffs allege that Defendants knew of the Bloomberg and MLB deals prior
to expiration of the tender offer, but deliberately or recklessly failed to disclose
the deals until after the expiration of the tender offer. Plaintiffs argue that
Defendants had an affirmative duty to disclose the Bloomberg and MLB deals,
or, alternatively, that Defendants' failure to mention those deals in the tender
offer and the Schedule 14D-9 rendered those documents materially misleading.
Plaintiffs allege that Defendants were motivated to suppress the Bloomberg and
MLB deals because the success of the tender offer and resulting merger created
a windfall for Defendants that was not enjoyed by Digital Island's other
shareholders. Specifically, Plaintiffs allege that, pursuant to the merger, the
Such extra consideration was given to Digital Island officers and directors in
order to induce them to support the Offer to Purchase at the $3.40 price per
share and to withhold the announcement of the Bloomberg and Major League
Baseball deals until after the expiration of the Offer to Purchase in order to
preclude the need for C & W to increase the consideration in the Offer to
Purchase.
10
11
12
App. at 352.
13
In addition to their Section 14(e) claim, Plaintiffs allege that, by virtue of these
cash payments and the Ernst employment agreement, the Directors received
"extra consideration" for their shares in violation of Section 14(d)(7) of the '34
Act and the SEC's Best Price Rule. Plaintiffs allege individual violations by
Defendants of Sections 14(e) and the Best Price Rule, as well as "control
person liability" under Section 20(a) of the '34 Act.7
14
The District Court dismissed the Complaint on September 10, 2002, for failure
to state a claim. The District Court held that Plaintiffs' Section 14(e) claim
failed to meet the heightened pleading requirements of the PSLRA in two
respects: (1) the Complaint did not identify with specificity the statements that
were allegedly misleading, and (2) the Complaint did not plead facts giving rise
to a strong inference of scienter. 15 U.S.C. 78u-4(b). The District Court
further held that Plaintiffs failed to state a claim for violation of the Best Price
Rule because that provision applies only to payments made during a tender
offer, and the extra consideration alleged by Plaintiffs was received pursuant to
agreements executed prior to the tender offer. Finally, the District Court
dismissed Plaintiffs'"control person liability" claim because (1) the predicate
violations on which that claim was based (i.e., the Section 14(e) and Best Price
Rule claims) were dismissed, and (2) because Plaintiffs failed to allege facts
sufficient to establish control and/or culpable participation.
15
Plaintiffs filed a Motion to Alter Judgment and For Leave to File An Amended
Complaint under Fed.R.Civ.P. 59(e) and 15(a). The District Court denied
Plaintiffs' motion on November 25, 2002. The District Court concluded that
Plaintiffs had deliberately and unreasonably delayed seeking leave to amend
until after judgment had been entered on the motion to dismiss.
16
Plaintiffs timely appealed both orders on December 23, 2002. 8 The District
Court had subject matter jurisdiction under 28 U.S.C. 1331 and 15 U.S.C.
78aa. This Court has jurisdiction over the District Court's order dismissing
Plaintiffs' Complaint under 28 U.S.C. 1291 because the Complaint was
dismissed with prejudice. Manze v. State Farm Ins. Co., 817 F.2d 1062, 1064
(3d Cir.1987). This Court also has jurisdiction under section 1291 over the
District Court's denial of Plaintiffs' post-judgment motion for leave to amend.
See Foman v. Davis, 371 U.S. 178, 83 S.Ct. 227, 9 L.Ed.2d 222 (1962); N.
River Ins. Co. v. CIGNA Reinsurance Co., 52 F.3d 1194, 1203 (3d Cir.1995).
We review de novo a District Court's dismissal of a complaint for failure to
state a claim under Fed.R.Civ.P. 12(b)(6). Ramsgate Court Townhome Ass'n v.
West Chester Borough, 313 F.3d 157, 158 (3d Cir.2002).
17
On December 8, 2003, after oral argument in this case, the successor entity to
the merger of Digital Island and Dali filed for Chapter 11 Bankruptcy in the
District of Delaware. Under 11 U.S.C. 362(a), this filing operates to stay all
proceedings against Digital Island and Dali. Digital Island is a defendant in
Plaintiffs' Section 14(e) claim, and Dali is a defendant in Plaintiffs' Best Price
Rule Claim. Although the stay of proceedings against Digital Island and Dali
does not affect our reasoning, it does mean that our decision today does not
reach either entity.
II.
18
19
It shall be unlawful for any person to make any untrue statement of a material
fact or omit to state any material fact necessary in order to make the statements
made, in the light of the circumstances under which they are made, not
15 U.S.C. 78n(e). The District Court held that Section 14(e) requires proof of
scienter, i.e., "a mental state embracing intent to deceive, manipulate, or
defraud." Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 n. 12, 96 S.Ct. 1375,
47 L.Ed.2d 668 (1976). Both parties appear to agree.9
21
22
A.
23
Plaintiffs' theory of the case is that the Directors and CEO Wallace suppressed
the Bloomberg and MLB deals to ensure the success of the tender offer and the
subsequent merger.10 When the tender offer succeeded, the merger cashed out
various options to purchase shares of common stock as well as shares of
restricted common stock held by the Directors. According to Plaintiffs, the
prospect of cashing out these holdings induced the Directors to suppress
information that would have raised the value of Digital Island's shares. Such an
increase, Plaintiffs allege, would have jeopardized the Merger Agreement
because shareholders would not have tendered at $3.40 and C & W would not
have increased the consideration offered. CEO Ernst's lucrative employment
contract with the surviving entity provided her with a further inducement.
24
Setting aside the Ernst employment agreement, the Directors stood to gain from
any increase in Digital Island's share price in the same manner as any other
Digital Island shareholder, that is, by tendering their shares into the offer or by
having their shares cashed out in the merger. Moreover, our reading of the
proposed amended Complaint compels the same conclusion reached by the
District Court: "As a result of the tender offer and merger, each [Director] was
paid the face value of the options, i.e., the difference, if any between the option
price and $3.40." Digital Island, 223 F.Supp.2d at 550. Nevertheless, Plaintiffs
argue that the success of the tender offer created a windfall for the Directors
because it allowed them to unload their holdings all at once, at a guaranteed
price of $3.40 a share.11
25
Granting that some value might attach to the avoidance of future risk, or that
only so many shares can be unloaded on the open market without depressing
the share price, Plaintiffs' theory is nevertheless a weak inference teetering on
an unfounded assumption. Kalnit v. Eichler, 264 F.3d 131, 139-40 (2d
Cir.2001) ("Sufficient motive allegations `entail concrete benefits that could be
realized by one or more of the false statements and wrongful nondisclosures
alleged.'") (quoting Shields v. Citytrust Bancorp., Inc., 25 F.3d 1124, 1130 (2d
Cir.1994)). The inference is that the Directors feared that C & W would
abandon its efforts to acquire Digital Island if the share price increased.
Plaintiffs argue that this fear can be inferred from C & W's rejection of Digital
Island's $4.10 counter-proposal, and from the fact that the merger agreement
was hastily executed within days of the disclosure of the Microsoft deal.
Whether or not this inference is reasonable under Rule 12(b)(6), the PSLRA
requires a strong-as opposed to merely reasonable-inference to survive a motion
to dismiss. See Rockefeller, 311 F.3d at 224. The inference urged by Plaintiffs
is not strong, because the far more compelling inference is that the Directors
bargained aggressively with C & W, motivated solely by a desire to exploit the
surge in Digital Island's stock price that followed the announcement of the
Microsoft deal. If the Directors were confident of the Bloomberg and MLB
deals before the merger agreement was finalized, they would certainly have
disclosed those deals to support their counter-offer.12 If instead, the Bloomberg
and MLB deals were finalized after execution of the merger agreement, C &
W's rejection of the counter-offer could have no bearing on how C & W would
react to the deals. Rather, C & W's decision to increase the tender offer price
following the Microsoft deal would indicate that C & W might respond
favorably to the Bloomberg and MLB deals.
26
27
28
29
30
Accord Kalnit, 264 F.3d at 139-40 ("[A]n allegation that defendants were
motivated by a desire to maintain or increase executive compensation is
insufficient because such a desire can be imputed to all corporate officers.").
Because Plaintiffs' allegations regarding the Ernst employment agreement do
nothing to distinguish her motivations from those surrounding countless other
mergers and acquisitions, the proposed amended Complaint fails to create a
strong inference of scienter as required by the PSLRA.
B.
31
32
We agree with the District Court that Plaintiffs' allegations fail to create a
strong inference of recklessness. Because Plaintiffs' allegations show that
Defendants' interests were at all times tied to the value of their shares, we have
no basis to infer the sort of conscious disregard and deliberate ignorance
required to plead scienter. At most, Plaintiffs' allegations show that the
Directors failed to exploit the potential that the Bloomberg and MLB deals had
to increase the value of Digital Island shares, whether through the tender offer
price paid by C & W or on the open market. Such alleged mismanagement does
not fall within the anti-fraud prohibitions of Section 14(e).
IV.
33
34
Where any person varies the terms of a tender offer ... before the expiration
thereof by increasing the consideration offered to holders of such securities,
such person shall pay the increased consideration to each security holder whose
securities are taken up and paid for pursuant to the tender offer....
35
36
The District Court adopted, and Defendants urge this Court to adopt, a "brightline rule" that payments arising out of an agreement executed prior to a tender
offer do not state a claim under the Best Price Rule, which expressly applies
only to payments made "during a tender offer." 17 C.F.R. 240.14d-10(a). The
District Court and Defendants rely heavily on Lerro v. Quaker Oats Co., 84
F.3d 239, 245 (7th Cir.1996), in which the Seventh Circuit held that
"transactions before or after a tender offer are outside the scope of Rule 14d10." The plaintiff in Lerro alleged that a controlling shareholder had received
extra compensation for his shares in the form of an exclusive distribution
agreement executed by the tender offeror and the controlling shareholder prior
to the tender offer. Id. at 240. The agreement was to commence upon
consummation of the offer. Id. The court held that the value of the distribution
agreement did not constitute extra compensation in violation of the Best Price
Rule because the agreement was signed before the offer began. Id. at 244. The
court reasoned:
37
Before the offer is not "during" the offer.... The difference between "during"
37
Before the offer is not "during" the offer.... The difference between "during"
and "before" (or "after") is not just linguistic. It is essential to permit everyone
to participate in the markets near the time of a tender offer. Bidders are
forbidden to buy or sell on the open market or via negotiated transactions
during an offer, but they are free to transact until an offer begins, or
immediately after it ends.
38
Id. at 243; see also Katt v. Titan Acquisition, Inc., 244 F.Supp.2d 841, 850
(M.D.Tenn.2003) (stating that Rule 14d-10 "is, on its face, `aimed at conduct
during the pendency of the tender offer'" (quoting Walker v. Shield Acquisition
Corp., 145 F.Supp.2d 1360, 1375 (N.D.Ga.2001))).
39
Plaintiffs urge this Court to adopt a more flexible rule that focuses on whether
the allegedly improper payment is an integral part of the tender offer. For their
part, Plaintiffs rely on Epstein v. MCA, Inc., 50 F.3d 644 (9th Cir.1995), in
which the Ninth Circuit rejected the argument that Rule 14d-10 turns on the
timing of the payment. Epstein did not involve an agreement executed prior to
the tender offer period.16 Instead, the issue in Epstein was whether a payment
made after the tender offer expired could violate the Best Price Rule. The Ninth
Circuit held that such a payment could establish a violation, reasoning that to
hold otherwise
40
would drain Rule 14d-10 of all its force [since] even the most blatantly
discriminatory tender offer-in which large shareholders were paid twice as
much as small shareholders-would fall outside Rule 14d-10's prohibition, so
long as the bidder waited a few seconds after it accepted all of the tendered
shares before paying the favored shareholders.
41
Id. at 655. Epstein held that the proper focus should be "whether the ...
transaction was an integral part of [the] tender offer." Id.17
42
We agree with the Seventh Circuit and the District Court that the market
requires a bright-line rule "to demark clearly the periods during which the
special Williams Act rules apply." Lerro, 84 F.3d at 243. We also agree with
Epstein that tender offerors cannot be permitted to evade the requirements of
the Williams Act simply by delaying the actual payment, or by agreeing on the
extra payment beforehand. Indeed, Lerro itself acknowledges that some
payments made outside of the tender offer period may be so transparently
fraudulent as to require them to be treated as made "during the tender offer":
43
Doubtless there are limits to the use of a follow-up merger as a means to deliver
extra compensation. Suppose [the acquirer] had promised [a shareholder] $14
for each share he tendered during the offer, plus another $6 for each of these
shares one month later. Just as tax law requires "boot" to be treated as a gain
received from the sale of stock, securities law treats "boot" as a payment during
the tender offer.
44
45
Where, as here, a plaintiff argues that the Best Price Rule has been violated by
a transaction executed prior to the tender offer, the plaintiff necessarily alleges
that the tender offeror has fraudulently devised a scheme to circumvent the
Rule. An offeror can and will enter into a wide variety of agreements, including
agreements with shareholders, that are conditioned on the success of the tender
offer. The Ernst employment agreement is a perfect example: An offeror who
intends to operate a company as a going concern after the acquisition may
reasonably attempt to secure the services of incumbent management. Only
where the tender offeror deliberately inflates that compensation to provide a
premium for the officer's shares is there a violation of the Best Price Rule. In
such instances, the tender offeror has attempted to defraud the shareholders of
the target company of the equal consideration to which they are entitled under
the Williams Act and the Best Price Rule.
46
47
With respect to the Merger Agreement, Plaintiffs allege that the Directors
received "extra compensation" to the extent that they were able to cash out all
of their options and restricted stock at once. As a threshold matter, we question
whether the Best Price Rule should ever apply to payments made pursuant to a
second-step merger. We find persuasive the Second Circuit's reasoning in
Kramer v. Time Warner Inc., 937 F.2d 767, 779 (2d Cir. 1991):
48
49
Accord Lerro, 84 F.3d at 244 ("Kramer rejects, rightly we think, any argument
that a follow-up merger should be integrated with a tender offer. They are
different transactions, under different bodies of law...."); Epstein, 50 F.3d at
659 n. 21 (distinguishing Kramer on the grounds that Kramer, unlike Epstein,
involved a second-step statutory merger).19
50
51
Nor have Plaintiffs alleged any facts that would render the Ernst employment
agreement suspect. Plaintiffs do not allege that Ernst's employment agreement
is a sham transaction designed to insulate an improper tender offer premium.
They do not contend that the compensation package was excessive, or that it
was out of line with amounts that similarly situated executives were paid.
Instead, Plaintiffs simply characterize the agreement as "lucrative." This
conclusory allegation provides no basis on which to infer the payment of a
share premium in violation of the Best Price Rule.
52
The facts alleged by Plaintiffs are therefore a far cry from Epstein. In that case,
the tender offeror executed an agreement with one of the shareholders,
Sheinberg, under which Sheinberg would receive a lump sum payment if the
tender offer succeeded. Epstein, 50 F.3d at 657. Immediately after the
execution of the agreement-i.e., that same day-the tender offer was announced.
Id. at 653, 657. The defendant in Epstein claimed that the payment was to
induce Sheinberg to stay on as an officer and to cash out his stock options under
the merger. Id. at 657. Plaintiffs argued, however, that the options themselves
were conditioned on the success of the tender offer. Id. at 658. With respect to
Sheinberg's "amended employment agreement," Plaintiffs pointed out that the
payment appeared to correspond precisely to the value of his options, i.e., there
was no compensation for services. Id. at 658-59. Epstein thus involved
precisely the kind of allegations of fraud that a bright line rule would exclude
from Best Price Rule protection. Further proceedings were therefore necessary
to determine the purpose of the Sheinberg agreement, i.e., whether the lump
sum payment "constitutes incentive compensation that [the offeror] wanted to
give Sheinberg independently of the ... deal, or a premium that [the offeror]
wanted to give Sheinberg as an inducement to support the tender offer and
tender his own shares." Id. at 659.
53
To the extent that Epstein holds that the proper inquiry in such cases is whether
the transaction "unconditionally obligated" the offeror, we respectfully reject
that holding. Id. at 656-57; see also id. at 656 (concluding that an agreement
was "an integral part of the offer and subject to Rule 14d-10's requirements"
because the agreement was "conditioned on the tender offer's success").
Whether the offeror was unconditionally obligated would be important if we
were dealing with an outright purchase of securities. See 17 C.F.R. 240.14e5(b)(7) (allowing purchases of securities during-but "outside"-of a tender offer
where purchase is pursuant to an unconditional and binding contract entered
into before public announcement of the tender offer); Epstein, 50 F.3d at 656
("Thus a bidder who purchases shares from a particular shareholder before a
tender offer begins does not violate Rule 14d-10."). But tender offerors
routinely engage in transactions not involving the purchase of securities that are
conditioned on the success of the tender offer (e.g., if the offer fails, the
prospective "employer" never comes into existence). Epstein's "unconditionally
obligated" test should not subject all of these transactions to challenge under the
Best Price Rule. See also Lerro, 84 F.3d at 244-45 (warning against a
construction of the Best Price Rule that "would imperil countless ordinary
transactions [including] simple employment agreements under which the
surviving entity promises to employ managers for stated terms or give
severance pay").
54
Instead, when applying the Best Price Rule to a transaction that is executed
outside of the tender offer period and that nominally does not involve the
purchase of securities, the "central issue" is whether a given payment
constitutes "a premium that [the offeror] wanted to give [the shareholder] as an
inducement to support the tender offer and tender his own shares." Epstein, 50
F.3d at 659; see, e.g., Katt, 244 F.Supp.2d at 857-58. This, of course, requires
an intent to defraud the remaining shareholders of their entitlement to equal
consideration under the tender offer. Accordingly, when reviewing a complaint
alleging a violation of Rule 14d-10 based on a transaction executed prior to the
commencement of a tender offer, the trial court should determine whether the
plaintiff has met the heightened pleading requirements of Rule 9(b) and the
PSLRA.
55
V.
56
VI.
57
Finally, we address the District Court's denial of Plaintiffs' motion under Rules
59(e) and 15(a) to alter the judgment and to obtain leave to file an amended
complaint. We have determined that Plaintiffs' proposed amended Complaint
fails to state a claim under Rule 12(b)(6) and the PSLRA and that leave to
amend would therefore be futile. Foman v. Davis, 371 U.S. 178, 182, 83 S.Ct.
227, 9 L.Ed.2d 222 (1962); In re NAHC, Inc. Sec. Litig., 306 F.3d 1314, 1332
(3d Cir.2002). Accordingly, we will affirm the District Court's order denying
Plaintiffs leave to amend.
VII.
58
Because Plaintiffs failed to allege facts giving rise to a strong inference that
Defendants acted with scienter in regard to their statements and/or silence
concerning the Bloomberg and MLB deals, we will affirm the District Court's
dismissal of their Section 14(e) claim. Likewise, we will affirm dismissal of
Plaintiffs' Best Price Rule claim because it depends on the same implausible
theory of fraud as their Section 14(e) claim. Moreover, dismissal of these
claims compels dismissal of Plaintiffs' Section 20(a) claims, which are
derivative of the Section 14(e) and Best Price Rule claims. Finally, our analysis
has taken into consideration the additional allegations in Plaintiffs' proposed
amended Complaint. We therefore will affirm the District Court's denial of
leave to amend on the basis of futility.
Notes:
1
The other Directors are: Charlie Bass, Christos Cotsakos, Mary CirilloGoldberg, G. Bradford Jones, Robert Marbut, Shahan Soghikian, Don Reed,
Mike McTighe, Robert Drolet, Avery Duff, and Marc Lefar
The proposed amended Complaint alleges that "five of the officers of Digital
Island, including Ms. Ernst, received lucrative employment contracts in
connection with the merger which entitled them to generous salary and option
packages." Defendants point out that, according to the Schedule 14D-9
referenced in the Complaint, only one named Defendant, CEO Ernst, received
such a contract. Plaintiffs did not respond
The Complaint also alleges that Defendants issued a false and misleading proxy
statement in violation of Section 14(a) of the '34 Act. Plaintiffs do not appeal
dismissal of this claim
A timely Rule 59(e) motion suspends the time in which to appeal, which then
begins to run, pursuant to Fed. R.App. P. 4(a)(4), upon the entry of an order
granting or denying the motion
Plaintiffs citeClearfield Bank & Trust Co. v. Omega Fin. Corp., 65 F.Supp.2d
325, 340, 342-43 (W.D.Pa.1999), in support of the proposition that Section
14(e) requires proof of scienter.
10
We agree with the District Court that, absent a duty to correct or update
misleading statements, Plaintiffs failed to identify an affirmative duty to
disclose the Bloomberg and MLB dealsOran, 226 F.3d at 285-86 ("Such a duty
to disclose may arise when there is insider trading, a statute requiring
disclosure, or an inaccurate, incomplete or misleading prior disclosure."); In re
Burlington Coat Factory Sec. Litig., 114 F.3d 1410, 1432 (3d Cir.1997)
("Except for specific periodic reporting requirements ... there is no general duty
on the part of a company to provide the public with all material information.").
Because we conclude that Plaintiffs have failed to adequately plead scienter, we
do not decide whether the proposed amended Complaint adequately specifies
the statements alleged to be misleading and the reason why those statements are
misleading, or whether the proposed amended Complaint properly attributes
those statements to any of the Defendants in this case. See Rockefeller, 311
The allegations in the proposed amended complaint emphasize the fact that the
merger cashed out both vested and unvested options and restricted stock:
First, the Digital Island officers and directors were to receive substantial cash
payments in connection with the Merger for their in-the-money options to
purchase Digital Island common stock. This applied to both vested and
unvested options. In addition, the officers of Digital Island were to receive cash
in connection with the Merger in return for certain restricted common stock
which they had been granted in April 2001, several weeks prior to the Merger
announcement, in return for their out-of-the money options.
App. at 351. Plaintiffs do not allege that the Directors received any sort of
accelerated payment for their holdings, i.e., that any payment was made prior to
their vesting. Nor are there any allegations regarding the circumstances or
purpose of the April 2001 option exchange program. Instead, our reading of the
proposed amended Complaint leads us to the same conclusion as the District
Court: the Directors received the face value of their options and restricted stock
pursuant to a merger in which all outstanding securities of Digital Island were
cancelled. More fundamentally, the value of these options and restricted stock,
whether vested or unvested, was necessarily tied to the market value of Digital
Island's common stock. While other eventualities might have decreased Digital
Island's share price before these holdings vested, such open-ended speculation
is entirely insufficient to support a strong inference of motive under the
PSLRA. Rockefeller, 311 F.3d at 222.
12
sufficiently certain to merit disclosure. Plaintiffs generally allege that the deals
were close to completion sometime during the tender offer period. Plaintiffs,
however, imply that the deals were sufficiently final sometime prior to
execution of the merger agreement, insofar as Plaintiffs allege that the
disclosure of the Microsoft deal was misleading because it implied that no
other deals were about to be consummated. Plaintiffs also allege that C & W
generally became aware of the deals by virtue of the due diligence process
13
14
Plaintiffs do not appeal dismissal of this claim as to Digital Island or any of the
individual defendants other than Wallace. As the District Court recognized, the
Best Price Rule, by its terms, only applies to biddersDigital Island, 223
F.Supp.2d at 556. On appeal, Plaintiffs offer no explanation why Defendant
Wallace should be considered a bidder. We therefore will affirm the District
Court's dismissal of the Best Price Rule claim with respect to Defendant
Wallace on the ground that Defendant Wallace is not a bidder within the
meaning of the rule.
15
The proposed amended Complaint alleges that this consideration exceeds that
received by other Digital Island shareholders, although Plaintiffs make no
allegation that Digital Island's outstanding options and restricted stock were
held exclusively by the Directors
Curiously, Plaintiffs argue in their brief that we should read the proposed
amended Complaint to allege that the extra payment was made when the
Directors tendered their shares. If that is the case, we do not understand how
the Directors could have received the extra consideration alleged by Plaintiffs,
which is premised on the allegation that those options were partially unvested
at the time of the merger. If the Directors did indeed exercise their options, to
the extent vested, they were simply paid the tender price for each share
tendered like every other shareholder.
16
The agreements inEpstein were executed the same day on which the tender
offer was announced, thus occurring during the tender offer under Rule 14d2(a), which provides that, for purposes of Section 14(d), a tender offer
commences "at 12:01 a.m. on the date when the bidder has first published, sent,
or given the means to tender to security holders." 17 C.F.R. 240.14d-2(a); see
Epstein, 50 F.3d at 653, 655 & n. 18, 657.
17
18
InKramer, the plaintiff claimed that certain officers received payments for their
stock options in connection with a merger that exceeded the price paid to other
shareholders pursuant to the merger. Id. at 778-79 & n. 5.
19
Plaintiffs allege that the payments received by the Directors were consideration
for options and restricted stock that were held prior to the Merger Agreement.
This ground further distinguishesEpstein, where the options themselves were
alleged to be conditioned on the success of the tender offer. 50 F.3d at 658.