Appeal and cross-appeal from a final judgment of the District Court for the Southern District of New York, 472 F. Supp. 123 (1978), entered by Judge Constance Baker Motley after a non-jury trial, (1) dismissing plaintiff's claims based on allegedly misleading statements and failure to make adequate disclosure or to correct erroneous projections of financial analysts, and (2) holding defendants liable for "tipping" inside information, with potential damages of $740,000 plus prejudgment interest. Affirmed as to the claims dismissed, reversed in part as to tipping liability and remanded for reconsideration of damages.
Before Mansfield and Newman, Circuit Judges.*fn*
This case presents a number of issues arising out of what has become a form of corporate brinkmanship-non-public disclosure of business-related information to financial analysts. The action is a class suit by Arnold B. Elkind on behalf of certain purchasers (more fully described below) of the stock of Liggett & Myers, Inc. (Liggett) against it. They seek damages for alleged failure of its officers to disclose certain material information with respect to its earnings and operations and for their alleged wrongful tipping of inside information to certain persons who then sold Liggett shares on the open market.
After a non-jury trial Judge Constance Baker Motley held in post-trial findings and conclusions that Liggett did not violate Section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b), or Rule 10b-5 promulgated thereunder, 17 C.F.R. § 240.10b-5, by failing prior to July 18, 1972, to release figures showing a substantial downturn in earnings or to correct erroneous projections of financial analysts which it had allegedly fostered. The court found, however, that on July 10, 1972, and July 17, 1972, officers of Liggett disclosed material inside information to individual financial analysts, leading to sale of Liggett stock by investors to whom this information was conveyed. Damages were computed on the basis of the difference between the price which members of the plaintiff class (uninformed buyers of Liggett stock between the time of the first tip and subsequent public disclosure) paid and what the stock sold for after the later disclosure. See 472 F. Supp. 123 (S.D.N.Y.1978). We affirm the dismissal of the counts alleging failure to disclose or correct. We reverse the finding of liability based on the alleged July 10, 1972, tip for want of materiality and scienter. We remand the determination of liability based on the July 17, 1972, tip for determination of damages. In all other respects the judgment is affirmed.
The plaintiffs consist of two classes: (1) with respect to Count I, which alleges misleading statements, nondisclosure of material information and failure to correct analysts' projections, all purchasers of Liggett stock between June 19, 1972, and July 18, 1972; (2) with respect to Count II, which alleges unlawful trading on the basis of tipped inside information, all purchasers of Liggett stock between June 28, 1972, and July 18, 1972. See 66 F.R.D. 36 (S.D.N.Y.1975); 77 F.R.D. 708 (S.D.N.Y.1977).
Liggett is a diversified company, with traditional business in the tobacco industry supplemented by acquisitions in such industries as liquor (Paddington Corp., importer of J&B Scotch), pet food (Allen Products Co. and Perk Foods Co., manufacturer of Alpo dog food), cereal, watchbands, cleansers and rugs. Its common stock is listed on the New York Stock Exchange.
In 1969 Liggett officers concluded that the company's stock was underpriced, due in part to lack of appreciation in the financial community for the breadth of its market activity. To cure this perceived deficiency, Liggett initiated an "analyst program," hiring a public relations firm and encouraging closer contact between analysts and company management. This included meetings with analysts at which Liggett officials discussed operations. Liggett also reviewed and commented on reports which the analysts were preparing, to correct errors and other misunderstandings.
Liggett had a record year in 1971, with earnings of $4.22 per share (up from $3.56 in 1970). The first quarter of 1972 was equally auspicious. On March 22, Liggett issued a press release reporting that sales of the non-tobacco lines had continued to increase in the first two months, but noting that current stockpiling of J&B Scotch by customers (in anticipation of a price increase) could affect sales. On May 3, 1972, the company released its first quarter figures, showing earnings of $1.00 per share (compared to $.81 in the first quarter of 1971).
This quarterly operations report led to considerable optimism in the financial community over Liggett's prospects. Management did nothing to deflate the enthusiasm. A number of reports containing predictions that 1972 earnings would increase about 10% over 1971 earnings were reviewed by officials of Liggett during the first five months of 1972. While company personnel corrected factual errors in these reports, they did not comment (or made noncommittal or evasive comments) on the earnings projections, according to the findings below, which are supporterd by the record. At group meetings with analysts in February and March, management indicated that it was making "good progress" with certain products and that it was "well-positioned" to take advantage of industry trends. At the end of March, Liggett successfully made a public offering of $50 million of debentures. At an April 25 stockholders' meeting, Liggett's Executive Vice President expressed general optimism that the company was continuing to make good progress. On May 3, the first quarter earnings were released. At a May 16 meeting with analysts in New York, officials reiterated their vague but quieting pronouncements.*fn1 Similar comments, to the effect that 1972 was expected to be a "good year," were voiced at a June 5 presentation in London.*fn2
Despite the company's outward appearance of strength, Liggett's management was less sanguine intramurally. Internal budget projections called for only a two percent increase in earnings in 1972.*fn3 In April and May, a full compilation of updated figures was ordered, and new projections were presented to the Board of Directors on May 15, April was marked by a sharp decline, with earnings of only $.03 per share (compared to $.30 the previous April).*fn4 The 1972 earnings projection was revised downward from $4.30 to $3.95 per share. May earnings, which the Board received on June 19, rebounded somewhat to $.23 per share (compared to $.27 in May 1971 and original budget projections of $.34). At meetings with analysts during this period, Liggett officials took a more negative tone, emphasizing, for example, various cost pressures. There was no public disclosure of the adverse financial developments at this time. Beginning in late June, 1972, the price of Liggett's common stock steadily declined.
On July 17, preliminary earnings data for June and six-month totals became available to the Board of Directors. June earnings were $.20 per share (compared to $.44 in June 1971). The first half earnings for 1972 were approximately $1.46 per share, down from $1.82 the previous year. The Board decided to issue a press release the following day. That release, issued at about 2:15 P.M. on July 18, disclosed the preliminary earnings figures and attributed the decline to shortcomings in all of Liggett's product lines.
The district court found two "tips" of material inside information in the days before the July 18 press release. On July 10, analyst Peter Barry of Kuhn Loeb & Co. spoke by telephone with Daniel Provost, Liggett's Director of Corporate Communications. According to Barry's deposition testimony, apparently adopted by the court below, Provost confirmed Barry's suggestions that J&B sales were slowing due to earlier stockpiling and that a new competing dog food was affecting Alpo sales adversely. Barry asked if a projection of a 10% earnings decline would be realistic, and received what he characterized as a noncommittal response. Barry testified that Provost told him that a preliminary earnings statement would be coming out in a week or so.*fn5 Since Barry knew of no prior instances in which Liggett had issued such a preliminary statement, he deduced that the figures would be lower than expected. Barry sent a wire, reprinted in the margin, to Kuhn Loeb's offices.*fn6 The information was conveyed to three clients. Two of them, holders of a total of over 600,000 shares did not sell. A third client sold the 100 shares he owned. No other Kuhn Loeb customers sold between the time of the July 10 "tip" and the release of preliminary earnings figures on July 18; Kuhn Loeb customers bought some 5,000 shares during this period.
The second "tip" occurred on July 17, one day before the preliminary earnings figures for the first half were released. Analyst Robert Cummins of Loeb Rhoades & Co. questioned Ralph Moore, Liggett's chief financial officer, about the recent decline in price of Liggett's common stock, as well as performance of the various subsidiaries. According to Cummins' deposition, he asked Moore whether there was a good possibility that earnings would be down, and received an affirmative ("grudging") response. Moore added that this information was confidential. Cummins sent a wire to his firm,*fn7 and spoke with a stockholder who promptly sold 1,800 shares of Liggett stock on behalf of his customers.
The district court held that each of these disclosures was a tip of material information in violation of Rule 10b-5, rendering Liggett liable to all persons who bought the company's stock during the period from July 11 to July 18, 1972, inclusive, without knowledge of the tipped information. However, the court rejected plaintiff's claims that Liggett was under a legal obligation to correct the analysts' earlier erroneous predictions, relying on this court's decision in Electronic Specialty Co. v. International Controls Corp., 409 F.2d 937 (2d Cir. 1969). It also rejected plaintiff's claims that Liggett's earlier statements to analysts and stockholders were misrepresentations and that Liggett was under a duty to issue a preliminary earnings statement in June when it received its May figures.
In computing damages for the July 10 and 17 tips, the court attempted to award the difference between the amount plaintiff class members paid for their stock and the value they received. The latter was interpreted to be the price at which the stock would have sold had there been public disclosure of the tipped information. The court ruled that plaintiff's expert testimony on this point was speculative and unsupported by the record. Instead, following Mitchell v. Texas Gulf Sulphur Co., 446 F.2d 90 (10th Cir.), cert. denied, 404 U.S. 1004, 92 S. Ct. 564, 30 L. Ed. 2d 558 (1971), it looked to the actual market price at the end of "a reasonable period" (eight trading days) following the July 18 release of earnings figures as an approximation of what the price would have been had the tipped information been disclosed publicly. Thus damages amounted to the difference between the plaintiff class members' purchase prices (generally in the vicinity of $60 per share) and $43, the price of the stock eight trading days after disclosure. Based on the total volume of trading transactions from July 11 to July 18, the court awarded damages amounting to $740,000 on condition that any unclaimed portion would revert to Liggett. To this the court added prejudgment interest of approximately $300,000.
Liggett now appeals from the finding of liability on the tipping count, the computation of damages and the award of prejudgment interest. Plaintiff Elkind appeals from the dismissal of his count alleging 10b-5 violations based on Liggett's failure to correct the analysts' high 1972 earnings projections and its alleged false and misleading statements to the investment community.
The issues before us on this appeal are (1) whether Liggett, by virtue of its alleged cultivation of favorable reports and forecasts by analysts, incurred an obligation to disclose its less optimistic internal predictions; (2) whether Liggett made false and misleading statements in violation of Rule 10b-5; (3) whether the private disclosures of July 10 and 17 ...