Brody v. Transitional Hospitals Corp.

• Decision Date: 07 February 2002
• Docket Number: No. 99-15672.,99-15672.
• Citation: 280 F.3d 997
• Parties: Jules BRODY; Joyce T. Crawford, Plaintiffs-Appellants, v. TRANSITIONAL HOSPITALS CORPORATION; Wendy L. Simpson; Richard L. Conte, Defendants-Appellees.
• Court: U.S. Court of Appeals — Ninth Circuit

280 F.3d 997

Jules BRODY; Joyce T. Crawford, Plaintiffs-Appellants, v. TRANSITIONAL HOSPITALS CORPORATION; Wendy L. Simpson; Richard L. Conte, Defendants-Appellees.

No. 99-15672.

United States Court of Appeals, Ninth Circuit.

Argued and Submitted July 11, 2001.

Filed February 7, 2002.

Jeffrey S. Abraham, New York, NY, for the plaintiffs-appellants.

Mark R. McDonald, Morrison & Foerster, Los Angeles, CA, for the defendants-appellees.

Appeal from the United States District Court for the District of Nevada, David Warner Hagen, District Judge, Presiding. D.C. No. CV-97-00747-RHL.

Before: HALL, WARDLAW and BERZON, Circuit Judges.

BERZON, Circuit Judge.

In this case we address several securities fraud issues, centering on whether a plaintiff must have traded at about the same time as the insider it alleges violated securities laws. Jules Brody and Joyce T. Crawford brought suit against Transitional Hospital Corporation ("THC" or "the company") and its officers claiming violations of the Securities and Exchange Act of 1934 ("Exchange Act") and state law because the defendants both traded in reliance on inside information and released misleading public information. The district court granted the defendant's motion to dismiss for failure to state a claim. Brody and Crawford now appeal the district court's order on several grounds.

BACKGROUND

In determining whether the complaint states a claim upon which relief could be granted, we assume the facts alleged in the complaint to be true. Ronconi v. Larkin, 253 F.3d 423, 427 (9th Cir.2001). The facts alleged in the complaint are as follows:

THC was a Nevada corporation that delivered long-term acute care services through hospitals and satellite facilities across the United States. In August 1996, the company announced its plan to buy back from time to time on the open market up to $25 million in company stock. Two months later, THC expanded the repurchase plan to $75 million.

On February 24, 1997, Vencor, Inc. submitted to THC's board of directors a written offer to acquire the company for $11.50 per share. THC did not disclose this offer publicly. Between February 26 and February 28, THC purchased 800,000 shares of its own stock at an average price of $9.25 per share. This $7.4 million buy-back was in addition to another $21.1 million that THC had spent purchasing its stock in the three month period that ended on February 28, 1997. The plaintiffs do not allege that the total repurchase exceeded $75 million.

THC issued a press release on March 19, 1997, detailing the progress and extent of its stock repurchase program. The press release did not mention Vencor or any other party's interest in acquiring THC. The plaintiffs argue that because of this omission, the March press release was misleading.

On April 1, 1997, Vencor increased its offer to purchase THC to $13 per share. In the next few weeks, THC also received offers from two other competing bidders. On April 24, after receiving all three offers, THC issued another press release, stating that the company had "received expressions of interest from certain parties who have indicated an interest in acquiring" it. The same document also stated that THC had hired "financial advisers to advise the company in connection with a possible sale." The plaintiffs argue that this press release was also misleading, because it did not state that substantial due diligence had already taken place, that THC had received competing offers exceeding $13 per share, or that a THC board meeting would take place two days later to consider these offers.

At the board meeting, the THC board voted to negotiate a merger agreement with Select Medical Corporation ("Select"). On May 4, THC publicly announced that it and Select had entered into a definitive merger agreement and that Select would purchase THC at $14.55 per share. Vencor thereupon threatened a hostile takeover. To fend off that maneuver, THC ultimately agreed, on June 12, to a takeover by Vencor rather than Select, at $16 per share.

Brody and Crawford sold shares at times that sandwich the April 24 press release. Two days before that press release was issued, Crawford sold 500 shares at $8.875 per share. Brody sold 3,000 shares of THC stock at $10.50 per share on April 24, just after the press release was made public. The plaintiffs argue that had they not been misled by THC, they would have held onto their shares, and benefitted from their subsequent increase in value.

Brody and Crawford filed a class action complaint against THC and its officers on August 28, 1997. In addition to alleging violations of Nevada state law, Brody and Crawford alleged violations of Sections 10(b), 14(e), and 20(a) of the Exchange Act, 15 U.S.C. §§ 78j(b), 78n(e), and 78t(a), and Rules 10b-5 and 14e 3, 17 C.F.R. §§ 240.10b-5 and 240.14e-3, promulgated thereunder by the Securities Exchange Commission ("SEC"). These claims focus on two aspects of THC's course of action: Brody and Crawford accuse the company of illegal insider trading because THC repurchased 800,000 shares of its stock between February 26 and February 28 without first disclosing that Vencor and other parties had expressed interest in THC. In addition, Brody and Crawford claim that THC, in its March 19 and April 24 press releases, materially misled them about THC's progress toward its eventual merger.

The district court dismissed all of Brody and Crawford's claims. In so doing, the district court held that Brody and Crawford are not proper parties to assert any insider trading claims, as Brody and Crawford did not trade contemporaneously with THC. In addition, the district court decided that the plaintiffs failed to state a claim under Rule 10b-5 or any other law based on materially misleading information, as the press releases were not misleading under the applicable standards.

The plaintiffs appeal these aspects of the district court's dismissal. We review de novo the district court's dismissal for failure to state a claim pursuant to Federal Rule of Procedure Rule 12(b)(6). Zimmerman v. City of Oakland, 255 F.3d 734, 737 (9th Cir.2001).

DISCUSSION

A. Insider Trading

As they pertain to insider trading, Section 10(b), Rule 10b-5, Section 14(e) and Rule 14e-3 make it illegal in some circumstances for those possessing inside information about a company to trade in that company's securities unless they first disclose the information. See, e.g., United States v. Smith, 155 F.3d 1051, 1063-64 (9th Cir.1998). This type of prohibition is known as an "abstain or disclose" rule, because it requires insiders either to abstain from trading or to disclose the inside information that they possess.

The district court dismissed the insider trading claims, holding that the named plaintiffs could not assert them because they did not trade contemporaneously with THC. On appeal, Brody and Crawford argue that nothing in the applicable securities laws requires investors to have traded contemporaneously with insiders in order to maintain a suit for insider trading. In addition, they argue that even if such a requirement exists, they in fact did trade contemporaneously with THC.

1. Section 10(b) and Rule 10b-5

Neither section 10(b)¹ nor Rule 10b-5² contain an express right of action for private parties. The Supreme Court has held, however, that proper plaintiffs may sue for damages for violation of the statute and rule. See Superintendent of Ins. v. Bankers Life and Cas. Co., 404 U.S. 6, 13 n. 9, 92 S.Ct. 165, 30 L.Ed.2d 128 (1971). Because neither the statute nor the rule contains an express right of action, they also do not delineate who is a proper plaintiff. In the absence of explicit Congressional guidance, courts have developed various "standing" limitations, primarily on policy bases.³

For example, in Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 95 S.Ct. 1917, 44 L.Ed.2d 539 (1975), the Supreme Court held that to bring an insider trading claim under Rule 10b-5, a plaintiff must have traded in the same stock or other securities as the insider trader. The contemporaneous trading requirement, at issue in this case, is another judicially-created standing requirement, specifying that to bring an insider trading claim, the plaintiff must have traded in a company's stock at about the same time as the alleged insider.

In Neubronner v. Milken, 6 F.3d 666, 669 (9th Cir.1993), the Ninth Circuit adopted a contemporaneous trading requirement for Section 10(b) and Rule 10b-5 actions. See also In re Worlds of Wonder Sec. Litig., 35 F.3d 1407, 1427 (9th Cir.1994). Neubronner explained that two reasons animate this rule: First, "noncontemporaneous traders do not require the protection of the `disclose or abstain' rule because they do not suffer the disadvantage of trading with someone who has superior access to information." 6 F.3d at 669-70 (quoting Wilson v. Comtech Telecommunications Corp., 648 F.2d 88, 94 95 (2d Cir.1981)). Second, the contemporaneous trading requirement puts reasonable limits on Section 10(b) and Rule 10b-5's reach; without such a limitation, an insider defendant could be liable to a very large number of parties. Id. at 670.

Brody and Crawford offer two reasons why the contemporaneous trading rule adopted in Neubronner should not here apply. First, they argue that the rule does not make sense, as a matter of statutory interpretation. In other words, they request that we declare that Neubronner's interpretation of Section 10(b) and Rule 10b-5 was incorrect. Although the decision in Neubronner is not beyond debate, we do not consider the question further, as a Ninth Circuit panel may not overrule a prior Ninth Circuit decision. Hart v. Massanari, 266 F.3d 1155, 1171 (9th Cir.2001).

Brody and Crawford attempt to avoid this precedential barrier by claiming that Neubronner's implementation of the contemporaneous rule was dictum, and therefore not binding on us. It was not. Neubronner explicitly described its ruling...