Federal Court Rules That Issuers Face Strict Liability For Erroneous Statements About Legal Compliance In Registration Statements, Even If They Did Not Know The Statements Were False

A recent federal appeals court decision addressing pleading standards for shareholder suits under Section 11 of the Securities Act of 1933, as amended, highlights the potential dangers of giving broad assurances of legal compliance in registration statements. The decision is particularly significant for companies in heavily regulated industries such as health care and biotechnology, where legal compliance can be complex and difficult to monitor, because it indicates that issuers of securities can face strict liability for material misstatements about compliance, even without actual knowledge that the statements were false.

In Indiana State District Council of Laborers and Hod Carriers Pension and Welfare Fund v. Omnicare, Inc., 2013 U.S. App. LEXIS 10385 (6th Cir. May 23, 2013), the U.S. Court of Appeals for the Sixth Circuit held that shareholders can pursue Section 11 claims against securities issuers and signers of registration statements, including directors and certain officers of the issuers, based on alleged false statements about legal compliance or matters of opinion, without alleging that the defendants actually knew that the statements were false at the time they were made. The decision is noteworthy because the Sixth Circuit disagreed with previous decisions by two other federal courts of appeals, which had held that Section 11 claims based on statements of opinion or belief require the plaintiff to allege that the statements were both objectively false and subjectively disbelieved by the defendants at the time they were made.1 This disagreement sets the stage for possible U.S. Supreme Court review in the future, should Omnicare seek certiorari.

Omnicare provides pharmaceutical care services for the elderly and other residents of long-term care facilities. In the registration statement for its December 2005 securities offering, Omnicare stated that it believed its contracts with drug companies were "legally and economically valid" arrangements and that it believed it was in material compliance with applicable federal and state regulations.

Notwithstanding these representations, Omnicare subsequently became the subject of federal and state enforcement actions in 2006 that alleged violations of anti-kickback laws and false claims in connection with administration of prescription drug programs reimbursed under Medicare and Medicaid programs. The cases were resolved through settlements obligating Omnicare to pay over $100 million.

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