Balancing Act – Sixth Circuit Attempts Middle-of-the-Road Approach with New Corporate Scienter Standard
In KBC Asset Mgmt. N.V. v. Omnicare, Inc. (In re Omnicare, Inc. Sec. Litig.), No. 13-5597, 2014 U.S. App. LEXIS 19326, at *42 (6th Cir. Oct. 10, 2014), the Sixth Circuit Court of Appeals opted for a middle ground approach with its formulation of a new securities-fraud standard for determining whether a corporation made a false or misleading statement with the requisite scienter. This mental state, or scienter as legally phrased, being intent to deceive, manipulate, or defraud. In re Omnicare, 2014 U.S. App. LEXIS 19326, at *33 (citing Hoffman v. Comshare, Inc. (In re Comshare, Inc. Sec. Litig.), 183 F.3d 542, 548 (6th Cir. 1999)). As an attempt to streamline its prior decision in City of Monroe Emps. Ret. Sys. v. Bridgestone Corp., 399 F.3d 651 (6th Cir. 2005) and the varying circuit approaches in response to this issue, the Sixth Circuit carved out the following three categories of individuals whose states of mind may be used to show the requisite scienter: “(a) The individual agent who uttered or issued the misrepresentation; (b) Any individual agent who authorized, requested, commanded, furnished information for, prepared (including suggesting or contributing language for inclusion therein or omission therefrom) reviewed, or approved the statement in which the misrepresentation was made before its utterance or issuance; (c) Any managerial agent or member of the board of directors who ratified, recklessly disregarded, or tolerated the misrepresentation after its utterance or issuance.” In re Omnicare, at *42.
Under the Private Securities Litigation Reform Act of 1995 (“PSLRA”), plaintiffs must meet a heightened pleading standard when alleging securities fraud, which requires them to “state with particularity facts giving rise to a strong inference that the defendant acted with the required mental state of mind.” 15 U.S.C. § 78u-4(b)(2)(A). Due to the “additional question of whose knowledge and state of mind matters” when the defendant is a corporation instead of an individual, the In re Omnicare opinion written by Judge Moore highlights the issues that lower courts have faced when applying the Supreme Court’s test for evaluating the sufficiency of scienter allegations against corporations. Id. at *33-35.
In setting forth its new standard, the court rejected the narrow Fifth Circuit approach adopted in Southland Sec. Corp. v. Inspire Ins. Solutions, Inc., 365 F.3d 353, 366 (5th Cir. 2004), which looks at the state of mind of the individual corporate official who actually makes, issues, orders, provides information or language for or approves the misrepresentation, citing personal accountability challenges. Id. at *36, 40-41. In addition, the court cautioned against too broad of a reading of its decision in City of Monroe, 399 F.3d at 688-90, which allows scienter to be imputed to a corporate official even if he or she did not make or issue the misrepresentation, discussing the risk of corporate liability being “far beyond what Congress has authorized” if the state of mind of any agent can be imputed the corporation. Id. at *37, 41-42.
The court’s clarification of its decision in City of Monroe seeks to strike a balance between holding corporations more accountable by making it harder for higher-level officials to insulate themselves from liability, and protecting corporations from legal abuse. Whether or not this balance will be met is up for debate and with any rule there is room for ambiguity. However, this clearer formulation may make it less difficult for courts and parties to evaluate the sufficiency of a plaintiff’s scienter pleading under the PRLSA, which has been a challenge in the past.