The opinion of the court was delivered by: BONSAL
This action was instituted by the Securities and Exchange Commission (SEC) pursuant to Section 21(e) and 27 of the Securities Exchange Act of 1934, 15 U.S.C. §§ 78u(e) and 78aa (the 1934 Act), against Texas Gulf Sulphur Company (TGS) and several of its officers, directors, and employees. The SEC alleged violations of Section 10(b) of the 1934 Act, 15 U.S.C. § 78j(b), and Rule 10b-5, 17 C.F.R. 240.10b-5, promulgated pursuant thereto. The complaint alleged that from November 12, 1963 through April 16, 1964 certain of the defendants had purchased TGS stock or calls or recommended it to others, or acquired stock options, on the basis of material inside information concerning the results of TGS's exploration activities near Timmins, Ontario, while such information remained undisclosed to the investing public, the Stock Option Committee, and to TGS shareholders who sold during the period, and that on April 12, 1964, TGS issued a false and deceptive press release with respect to these activities.
All parties agreed that the trial should first be had on the issue of whether the defendants or any of them had violated Section 10(b) or Rule 10b-5, reserving for later hearing the issue of the remedy to be applied in the event such violations were found.
The issue of liability was tried by this court and the court's opinion is reported at 258 F. Supp. 262 (S.D.N.Y. 1966). The Court of Appeals affirmed in part and reversed and remanded in part, 401 F.2d 833 (2d Cir. 1968), cert. denied, Coates v. Securities and Exchange Commission, 394 U.S. 976, 89 S. Ct. 1454, 22 L. Ed. 2d 756 (1969), holding that the defendants who purchased TGS stock or calls, or who recommended such purchases to others, or accepted stock options, before the material information as to the Timmins drill results was disclosed had violated Section 10(b) and Rule 10b-5. The Court of Appeals directed that this court reconsider the April 12 press release (the press release) in light of its opinion.
Beginning on October 6, 1969, this court held a hearing to:
(a) receive further evidence regarding the press release and its interpretation by the reasonable investor; and
(b) determine the remedy to be accorded the SEC with respect to the defendants found to have violated Section 10(b) and Rule 10b-5.
The events which led to this litigation are set forth in detail in the opinion of the Court of Appeals, 401 F.2d at 840-841, 843-847, and in the opinion of this court, 258 F. Supp. at 268-275, 293-294.
II. The April 12, 1964 Press Release
On Sunday, April 12, 1964, at about 3:00 P.M., TGS issued the following press release:
TEXAS GULF SULPHUR COMMENT ON TIMMINS, ONTARIO, EXPLORATION
NEW YORK, April 12 - The following statement was made today by Dr. Charles F. Fogarty, executive vice president of Texas Gulf Sulphur Company, in regard to the company's drilling operations near Timmins, Ontario, Canada. Dr. Fogarty said:
"During the past few days, the exploration activities of Texas Gulf Sulphur in the area of Timmins, Ontario, have been widely reported in the press, coupled with rumors of a substantial copper discovery there. These reports exaggerate the scale of operations, and mention plans and statistics of size and grade of ore that are without factual basis and have evidently originated by speculation of people not connected with TGS.
"The facts are as follows. TGS has been exploring in the Timmins area for six years as part of its overall search in Canada and elsewhere for various minerals - lead, copper, zinc, etc. During the course of this work, in Timmins as well as in Eastern Canada, TGS has conducted exploration entirely on its own, without the participation by others. Numerous prospects have been investigated by geophysical means and a large number of selected ones have been core-drilled. These cores are sent to the United States for assay and detailed examination as a matter of routine and on advice of expert Canadian legal counsel. No inferences as to grade can be drawn from his procedure.
"Most of the areas drilled in Eastern Canada have revealed either barren pyrite or graphite without value; a few have resulted in discoveries of small or marginal sulphide ore bodies.
"Recent drilling on one property near Timmins has led to preliminary indications that more drilling would be required for proper evaluation of this prospect. The drilling done to date has not been conclusive, but the statements made by many outside quarters are unreliable and include information and figures that are not available to TGS.
" The work done to date has not been sufficient to reach definite conclusions and any statement as to size and grade of ore would be premature and possibly misleading. When we have progressed to the point where reasonable and logical conclusions can be made, TGS will issue a definite statement to its stockholders and to the public in order to clarify the Timmins project."
Texas Gulf Sulphur, the world's leading sulphur supplier, has conducted a continuing program of exploration for many years all over the world, searching not only for sulphur, but for oil and gas, metallic sulphides, potash, phosphate, trona and other minerals. This program has been successful, resulting in a broad diversification program from essentially a one-product company. In Moab, Utah, TGS has under way a $40 million potash operation which will be the largest in this country and is expected to start operating this year. The company recently announced a $45 million program to develop phosphate reserves at Lee Creek in North Carolina. The company is also drilling extensively for oil and gas in Western Canada and has other activities under way in trona.
The press release was reported on the Dow Jones broad tape and in the Wall Street Journal, the New York Herald Tribune, and other morning newspapers throughout the country on April 13, 1964.
The SEC has contended that the press release was materially false and misleading in view of the facts as to the exploratory activities at Timmins at the time of its issuance, and hence violated Rule 10b-5(2) which provides:
"It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of inter-state commerce, or of the mails, or of any facility of any national securities exchange,
(2) to make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, * * *
in connection with the purchase or sale of any security."
In interpreting the "in connection with" requirement of Rule 10b-5, the Court of Appeals held that:
"* * * Rule 10b-5 is violated whenever assertions are made, as here, in a manner reasonably calculated to influence the investing public * * * if such assertions are false or misleading or are so incomplete as to mislead irrespective of whether the issuance of the release was motivated by corporate officials for ulterior purposes." 401 F.2d at 862.
To determine whether the press release was false and misleading, the Court of Appeals directed this court to make "an appropriate primary inquiry into the meaning of the statement to the reasonable investor and its relationship to truth." Ibid.1 The Court of Appeals stated that, "The speculators and chartists of Wall and Bay Streets are also 'reasonable' investors entitled to the same legal protection afforded conservative traders." Id. at 849. From the record before it, the Court of Appeals could not,
"by applying the standard Congress intended, definitively conclude that it was deceptive or misleading to the reasonable investor, or that he would have been misled by it. * * * Accordingly, we remand this issue to the district court that took testimony and heard and saw the witnesses for a determination of the character of the release in the light of the facts existing at the time of the release, by applying the standard of whether the reasonable investor, in the exercise of due care, would have been misled by it.
"In the event that it is found that the statement was misleading to the reasonable investor it will then become necessary to determine whether its issuance resulted from a lack of due diligence." Id. at 863. (Emphasis added.)
At the hearing, the court heard the testimony of seven witnesses and received the depositions of 28 witnesses taken prior to the hearing. Twenty shareholders testified that they sold their shares from April 12 through April 16, 1964 because of the press release. Twelve shareholders testified that they retained their shares or purchased shares after they became aware of the press release. The shareholders stated that they heard of the press release from the Dow Jones broad tape or accounts in the Wall Street Journal or their daily newspapers, published on April 13, 1964, or from their brokers who had obtained the information from these sources.
The shareholders who sold their shares testified that they were misled by certain words in the press release such as "without factual basis,"
which indicated to them that the rumors as to the Timmins discovery were unfounded
and that there was either no discovery or, if there was, it was not as rich as it was rumored to be.
Nine of the shareholders who sold
offered reasons similar to those given by Wentworth who testified:
"Well, I had noticed that the market on this particular stock was moving up for some little time before that, several weeks, at least * * *. And I was curious to know what was causing it, and I supposed at the time that it was because they anticipated larger earnings, maybe increased dividends from their sulphur, potash, and phosphate operations * * *. Now * * * when I read this statement in the Wall Street Journal, an officer of the company, I think his name was Fogarty, he mentioned that these rumors - I'm not quoting his exact words, but my recollection of it - he mentioned that these rumors were misleading. I don't remember his exact words, but the substance he was saying was they were not reliable and misleading. Then I woke up to the fact that this increase in the stock was due to the street rumor, probably, that they had made a find in the Timmins area, and according to my recollection, that stock did dip some at that time.
And I decided that the stock had peaked due to these rumors and that instead of holding the stock as it was my original intention, I had better sell it and buy when it went lower."
Shareholders who retained their shares or purchased shares testified that they noted such words as "preliminary"
and the promise of a later "definite statement"
or considered the press release as a whole. Funk, who purchased shares after reading the Wall Street Journal account of the press release, testified that, "you don't really pick out a line of an article, you have to read between the lines * * * and the total nature of this article was just a cautious approach * * *."
Whereas some shareholders seized upon the words "premature and possibly misleading" to indicate that TGS had no discovery, others testified that these words meant that TGS "had something" but "that they [TGS] didn't know exactly what."
Similarly, witness Jay had seized upon the word "exaggerated" to indicate that TGS had no discovery, while Mann testified as to "exaggerated":
"Well, it wasn't that part of the statement that I regarded as optimistic, but I think he was referring to the criticism that Canadian authorities were making which were published, that there were all kinds of wild rumors, not only of Texas Gulf Sulphur, but of many other mining companies in Canada, and the market was going too high, there was no basis for it."
All of the shareholders appear to have been reasonable investors as that term has been defined by the Court of Appeals, and all were influenced by the press release, some selling their shares, and others holding their shares or purchasing shares.
Finding that the witnesses were reasonable investors, the court is next directed to determine whether those who sold their shares were misled by the press release. The Court of Appeals stated that, "Examined in retrospect, the situation in Timmins at the time the release was prepared seems to offer good reason for optimism." Id. at 862, n. 28. In his concurring opinion, Judge Friendly found that, "To say that the drilling at Timmins had afforded only 'preliminary indications that more drilling would be required for proper evaluation of this prospect,' was a wholly insufficient statement of what TGS knew * * *." Id. at 866. Judge Hays, concurring in part and dissenting in part, held that, "* * * the evidence establishes as a matter of law that the press release was misleading. Indeed, if the correct standard is applied, the finding of the trial court requires the conclusion that the press release was misleading * * *." Id. at 869. Also, the press release has been held to be "* * * misleading, intentionally deceptive, inaccurate, and knowingly deficient in material facts pertaining to the results of drilling." Reynolds v. Texas Gulf Sulphur Co. 309 F. Supp. 566 (D. Utah, October 17, 1969). Revised opinion filed January 13, 1970.
The testimony of the witnesses who sold their shares at a time when the situation in Timmins "[seemed] to offer good reason for optimism" establishes that they sold because of the press release, and that they were misled by it. It was not necessary that the SEC establish that the selling shareholders were influenced to sell their shares solely because of the press release. It is enough that it materially influenced the shareholders' conduct and was a substantial factor in bringing about their sales. See Prosser, Law of Torts, § 103, p. 730 (1964).
The court must next determine whether the reasonable investors who were misled by the press release would have been so misled had they exercised due care. TGS argues that no reasonable investor exercising due care would have been misled and caused to sell his stock on the basis of the press release. Emphasizing the promise of a "definite statement" at a future time "[when] we have progressed to the point where reasonable and logical conclusions can be made, * * *" TGS urges that the exercise of "due care" required that the shareholders await the further statement before selling their shares. Kane testified, however, that he decided to sell and not await the promised statement because:
"I decided that the statement as issued April 12th and quoted in the Wall Street Journal on April 13th, was emphatic enough and strong enough for me to base an investment decision on."
Since the press release had misled reasonable investors to believe that there was no ore discovery, or if there was, it was not as rich as it was rumored to be, they were entitled to act without awaiting a second release.
Therefore, the court finds that some reasonable investors, exercising due care, were misled by the press release.
There remains the question whether the framers of the press release failed to exercise due diligence.
The Court of Appeals stated that:
"In the event that it is found that the statement was misleading to the reasonable investor it will then become necessary to determine whether its issuance resulted ...