Ashland Inc. et al. v. Morgan Stanley & Co., Inc., No. 10-1549 (2d Cir. 2011)
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Appellants appealed from the dismissal of their first amended complaint, which asserted claims against Morgan Stanley under Section 10(b) of the Securities and Exchange Act of 1934 (Act), 15 U.S.C. 78a et seq., and New York common law. Appellants contended that Morgan Stanley, in oral and email communications with appellants' treasurer, materially misrepresented the liquidity of certain auction rate securities (ARS) and thereby fraudulently induced appellants to purchase and hold these securities at a time when Morgan Stanley knew that the market for ARS was collapsing. The court affirmed the district court's dismissal on the ground that sophisticated investors like appellants could not plead reasonable reliance on Morgan Stanley's alleged misrepresentations in light of Morgan Stanley's publicly-filed statement explicitly disclosing the very liquidity risks about which appellants claimed to have been misled.
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10-1549-cv Ashland Inc., AshThree LLC v. Morgan Stanley & Co. 1 UNITED STATES COURT OF APPEALS 2 FOR THE SECOND CIRCUIT 3 August Term, 2010 4 5 (Argued: March 9, 2011 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 Decided: July 28, 2011) Docket No. 10-1549-cv - - - - - - - - - - - - - - - - - - - - - - - - - - - - ASHLAND INC., ASHTHREE LLC, Plaintiffs-Appellants, v. MORGAN STANLEY & CO., INC., Defendant-Appellee. - - - - - - - - - - - - - - - - - - - - - - - - - - - - B e f o r e: WINTER, POOLER, and HALL, Circuit Judges. Appeal from an order of the United States District Court for 22 the Southern District of New York (Robert P. Patterson, Jr., 23 Judge) dismissing plaintiffs complaint for failure to state a 24 claim under Rule 12(b)(6). 25 Section 10(b) of the Securities Exchange Act of 1934 and New York 26 common law arising from their purchase and retention of auction 27 rate securities. 28 reasonable reliance on appellee s alleged misrepresentations. Appellants assert claims under We affirm the dismissal for failure to plead 1 1 2 3 4 5 6 7 8 9 10 11 12 13 CHRISTOPHER P. JOHNSON (Laurin B. Grollman, on the brief), Kasowitz, Benson, Torres & Friedman LLP, New York, New York, for PlaintiffsAppellants. JOHN K. CARROLL (Scott D. Musoff, on the brief), Skadden, Arps, Slate, Meagher & Flom LLP, New York, New York, for DefendantAppellee. WINTER, Circuit Judge: 14 Ashland Inc. and AshThree LLC (together, Ashland or 15 appellants ) appeal from Judge Patterson s dismissal of their 16 first amended complaint ( FAC ), which asserted claims against 17 Morgan Stanley under Section 10(b) of the Securities Exchange Act 18 of 1934 (the Exchange Act ) and New York common law. 19 contend that Morgan Stanley, in oral and email communications 20 with Ashland s Assistant Treasurer, materially misrepresented the 21 liquidity of certain auction rate securities ( ARS ) and thereby 22 fraudulently induced Ashland to purchase and hold these 23 securities at a time when Morgan Stanley knew that the market for 24 ARS was collapsing. 25 the ground that sophisticated investors like appellants cannot 26 plead reasonable reliance on Morgan Stanley s alleged 27 misrepresentations in light of Morgan Stanley s publicly-filed 28 statement explicitly disclosing the very liquidity risks about 29 which appellants claim to have been misled. Appellants We affirm the district court s dismissal on 30 31 2 1 2 BACKGROUND Ashland Inc. is a Kentucky-based global chemical company. 3 It is the sole owner and operator of the special purpose entity 4 AshThree LLC, a Delaware limited liability company. 5 holds the securities at issue in this case. 6 Stanley is a Delaware corporation with its principal place of 7 business in New York. 8 9 AshThree Appellee Morgan Ashland's relationship with Morgan Stanley began in May 2007, when Ashland's long-time financial advisor, Thomas Byrne, 10 moved to Morgan Stanley. 11 Ashland's Assistant Treasurer, Joseph Broce, to discuss moving 12 Ashland's investments to Morgan Stanley. 13 investing in Morgan Stanley-brokered ARS. 14 bonds and stocks whose interest rates or dividend yields are 15 periodically reset through auction. 16 buyers of the securities specify the minimum interest rate at 17 which they want to hold or buy. 18 exceed sell orders, the auction succeeds. 19 demand, however, the auction fails and the issuer is forced to 20 pay a higher rate of interest in order to penalize it and to 21 increase investor demand. 22 mechanics of ARS, see In the matter of Bear Stearns & Co., et 23 al., SEC Release No. 8684, 88 SEC Docket 259 (May 31, 2006). 24 25 Around that time, Byrne called Byrne recommended ARS are long-term At each auction, holders and If buy/hold orders meet or If supply exceeds For a more thorough explanation of the The ARS at issue in this matter were backed by student loan obligations ("SLARS"). Byrne is alleged to have told Broce that 3 1 the ARS were "safe, liquid instruments that were suitable to 2 [appellants'] conservative investment policies." 3 represented that the SLARS would remain liquid because Morgan 4 Stanley had never conducted a failed auction and in the event of 5 any instability or weakness in the market for SLARS . . . which 6 Morgan Stanley represented to be a very rare occurrence -- 7 Morgan Stanley's brokers and other brokers would step in and 8 place sufficient proprietary bids to prevent auction failure and 9 ensure the liquidity of Ashland's SLARS." Byrne further Because bid 10 information about ARS auctions was not publicly available, 11 however, appellants could not know how often Morgan Stanley had 12 intervened to ensure a successful auction. 13 that, in fact, Morgan Stanley knew as early as August 2007 that 14 the ARS market was collapsing, in part because Morgan Stanley was 15 often required to intervene to prevent auction failure. 16 Ashland also alleges Ashland purchased SLARS through Morgan Stanley on three 17 separate occasions in 2007 -- September 25, October 2, and 18 November 29. 19 assured Broce that SLARS continued to be a safe, liquid 20 investment. 21 only hold or hold-at-rate orders at auctions, rather than 22 "sell" orders.1 On the days leading up to each purchase, Byrne Accordingly, throughout this period, Ashland placed In December 2007, Ashland learned that Goldman 1 A hold order, which is the default for current investors, means that the investor will continue to hold the securities regardless of the clearing rate. By contrast, a hold-at-rate order means that the investor will retain the 4 1 Sachs, acting as underwriter in an unrelated ARS auction, had 2 allowed that auction to fail. 3 failure had no bearing on the safety of its SLARS, which were 4 based on student loans backed by a federal guarantee, unlike 5 those in the failed auction. 6 other auction failures, but Morgan Stanley continued to assert 7 that ARS were a safe, liquid investment. 8 placing sell orders around February 2008, however, it found 9 that the market was illiquid because Morgan Stanley was no longer 10 11 Byrne reassured Broce that this In January 2008, Ashland learned of When Ashland began stepping in to ensure auction success. Appellants filed a complaint in the Southern District of New 12 York in June 2009, which they amended in September 2009, 13 asserting claims for violation of Section 10(b) of the Exchange 14 Act, common law fraud, promissory estoppel, breach of fiduciary 15 duty, negligence, negligent misrepresentation, and unjust 16 enrichment. 17 misrepresented the safety and liquidity of the SLARS, the FAC 18 also alleges the following pertinent omissions. 19 failed to disclose: 20 in SLARS auctions, and consequently, how often it had to step in 21 to purchase the SLARS; (ii) that the government guarantee and 22 non-dischargeability in bankruptcy of the underlying student debt 23 obligations were unrelated to the SLARS' liquidity; (iii) the In addition to alleging that Morgan Stanley Morgan Stanley (i) how often demand failed to meet supply securities only if the clearing rate is at, or above, a rate specified by the investor. 5 1 relationship between fail rates, AAA ratings, and liquidity; and 2 (iv) that it was not fully committed to ensuring liquidity of the 3 SLARS. 4 The district court dismissed the FAC in its entirety. 5 Ashland Inc. v. Morgan Stanley & Co., 700 F. Supp. 2d 453, 473 6 (S.D.N.Y. 2010). 7 Morgan Stanley "placed a statement of its ARS policies and 8 practices online, as a result of an Order entered into between 9 the [Securities and Exchange Commission ( SEC )] and certain It relied in part on the fact that in May 2006 10 active broker-dealers in the auction rate securities market.'" 11 Id. at 461. The SEC-ordered statement included several relevant 12 disclosures. It stated that "Morgan Stanley is permitted, but 13 not obligated, to submit orders in auctions for its own account 14 either as a bidder or a seller and routinely does so [in] its own 15 discretion." Id. It further explained that 16 17 18 19 20 21 22 23 24 25 26 27 28 29 Morgan Stanley routinely places one or more bids in an auction for its own account to acquire ARS for its inventory, to prevent a failed auction or to prevent an auction from clearing at a rate that Morgan Stanley believes is higher than the market for similar securities at the time it makes its bid. . . . [However,] Morgan Stanley is not obligated to bid in any auction to prevent an auction from failing or clearing at an offmarket rate. Investors should not assume that Morgan Stanley will do so. Id. 30 there is a failed auction because they are not able to exit their 31 position through the auction" and explained that "the fact that It also stated that ARS holders "may be disadvantaged if 6 1 an auction clears successfully does not mean that an investment 2 in the ARS involves no significant liquidity or credit risk." 3 Id. 4 The district court concluded that the Section 10(b) 5 securities fraud claim failed because: (i) hold and hold-at- 6 rate orders did not constitute a purchase or sale of securities 7 under Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723 (1975); 8 (ii) the FAC did not allege facts to support a strong inference 9 of scienter as to any misrepresentations or omissions; and (iii) 10 the FAC did not allege facts to show that appellants were 11 reasonable in their reliance on any alleged misrepresentations. 12 Ashland, 700 F. Supp. 2d at 467-71. 13 law fraud and promissory estoppel claims due to lack of 14 reasonable reliance. 15 remaining state law claims were preempted by New York s Martin 16 Act. Id. at 472. Id. at 471-72. Finally, it held that the This appeal followed. 17 18 It also dismissed the common DISCUSSION We review a district court s grant of a motion to dismiss 19 under Rule 12(b)(6) de novo, accepting as true all facts alleged 20 in the complaint and drawing all reasonable inferences in favor 21 of the non-moving party. 22 Dep t. of Fin., 620 F.3d 146, 150 (2d Cir. 2010). 23 motion to dismiss, a complaint must contain sufficient factual 24 matter, accepted as true, to state a claim to relief that is 25 plausible on its face. Ashcroft v. Iqbal, 129 S.Ct. 1937, 1949 Chase Grp. Alliance LLC v. City of N.Y. 7 To survive a 1 (2009) (quoting Bell Atl. Corp. v. Twombley, 550 U.S. 544, 570 2 (2007)). 3 a) Section 10(b) Claim 4 To sustain a private claim for securities fraud under 5 Section 10(b), a plaintiff must prove (1) a material 6 misrepresentation or omission by the defendant; (2) scienter; (3) 7 a connection between the misrepresentation or omission and the 8 purchase or sale of a security; (4) reliance upon the 9 misrepresentation or omission; (5) economic loss; and (6) loss 10 causation. 2 Stoneridge Inv. Partners, LLC v. Scientific- 2 As a threshold matter, appellants contend that the district court erred in dismissing a number of their claims relating to their holding of SLARS in reliance upon the alleged misrepresentations and omissions by Morgan Stanley. Typically, a holder of securities lacks standing to prosecute a claim under the federal securities laws. See Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 747-49 (1975) (establishing a purchaserseller limit on standing); accord Merrill Lynch, Pierce, Fenner & Smith Inc. v. Dabit, 547 U.S. 71, 88 n.13 (2006); accord Amorosa v. AOL Time Warner Inc., 409 F. App x 412, 417 (2d Cir. 2001) (summary order) ( [T]here is no holder claim under federal securities law. ). Appellants argue that ARS differ from traditional securities because ARS are subject to periodic auctions, which require an ARS owner to make an active decision to hold the security before the auction. They believe this eliminates the concerns about holder standing raised in Blue Chip Stamps, including concerns about the lack of competent evidence that a holder, in fact, made an active decision to hold. Blue Chip Stamps, 421 U.S. at 743 (elimination of the purchaserseller requirement would throw open to the trier of fact many rather hazy issues of historical fact the proof of which depended almost entirely on oral testimony ). We need not reach the question of whether ARS are sufficiently distinguishable from other types of securities to confer standing on a holder of ARS to bring a claim under the securities laws, because we find that appellants have failed to establish that they reasonably relied on the alleged misrepresentations by Morgan Stanley. 8 1 Atlanta, Inc., 552 U.S. 148, 157 (2008). 2 reliance on the defendant s misrepresentation must have been 3 reasonable in order for the claim to proceed. 4 v. Segui, 91 F.3d 337, 342 (2d Cir. 1996) (collecting cases from 5 various circuits). 6 misrepresentation if, through minimal diligence, the investor 7 should have discovered the truth." 8 Inc., 991 F.2d 1020, 1032 (2d Cir. 1993). 9 this analysis include: 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 Moreover, a plaintiff s See Harsco Corp. "An investor may not justifiably rely on a Brown v. E.F. Hutton Grp., Factors relevant to (1) [t]he sophistication and expertise of the plaintiff in financial and securities matters; (2) the existence of longstanding business or personal relationships; (3) access to the relevant information; (4) the existence of a fiduciary relationship; (5) concealment of the fraud; (6) the opportunity to detect the fraud; (7) whether the plaintiff initiated the stock transaction or sought to expedite the transaction; and (8) the generality or specificity of the misrepresentations. Id. (collecting cases). Appellants argue that their reliance on Broce s 26 misrepresentations was reasonable in light of their longstanding 27 relationship with him, their repeated inquiries as to the 28 liquidity of SLARS, and the fact that auction information was not 29 publicly available. 30 explicitly disclosed the very liquidity risks about which However, the SEC-mandated statement 9 1 appellants claim to have been misled.3 2 statement revealed that Morgan Stanley routinely placed bids in 3 its own auctions, in part to prevent auctions from failing. 4 Moreover, the statement was clear that Morgan Stanley did so at 5 its discretion and [wa]s not obligated to bid in any auction to 6 prevent an auction from failing. 7 mandated disclosure,4 Ashland, which admits to being a 8 sophisticated investor, was not justified in relying on Byrne s 9 statements that SLARS had no liquidity issues, or that in the Specifically, the In the face of this SEC- 3 Appellants bring our attention to a letter amicus filed by the SEC in Wilson v. Merrill Lynch & Co., No. 10-1528 (2d Cir. argued Feb. 25, 2011). Appellants describe this letter as adopting their arguments with regard to whether the disclosures at issue in the present matter adequately described the risks of ARS. However, the allegations in Wilson were that Merrill Lynch followed a uniform policy of placing support bids if needed in every auction for which it was the sole or lead auction dealer. Amicus Letter Brief for SEC at 4, Wilson, No. 10-1528 (2d Cir. June 24, 2011). The complaint alleged that this conduct was manipulation designed to create an appearance of an active market that was in fact illusory. Id. The allegations in the present case are that Morgan Stanley described the SLARS sold to appellants as safe and liquid and that in the event of instability or weakness in the market for SLARS, Morgan Stanley would step in and place sufficient proprietary bids to prevent auction. Far from alleging that they were misled by Morgan Stanley s purchasing of ARS, appellants complaint is in large part about Morgan Stanley s failure to step in and stabilize the market for SLARS. 4 Appellants admitted, in their written submissions and oral argument before the district court, that they had received these written disclosures after their first purchase of SLARS but before subsequent auctions at which they placed hold and holdat-rate orders. Regardless of precisely when they received the statement in writing, the statement was also available online, and appellants could have easily discovered it through minimal diligence. 10 1 event of instability or weakness, Morgan Stanley would come in 2 and make a market, as it had always done in the past. 3 Nor does the alleged misrepresentation that the liquidity of 4 SLARS was assured because of a federal government guarantee of 5 the underlying student loans save appellants claim. 6 of ARS is of course affected by the riskiness of the underlying 7 collateral. 8 student loans, they were less risky than ARS backed by non- 9 guaranteed loans, which have a higher risk of default. The value Because the SLARS were backed by pools of guaranteed However, 10 the appeal of ARS or SLARS is that they, in good times, provide a 11 degree of liquidity not associated with the collateral. 12 the reduced risk of the collateral s default may affect the 13 liquidity of ARS, a government guarantee of the collateral does 14 not eliminate the risk of SLARS becoming illiquid. 15 sophisticated investor knows this because the reason for buying 16 SLARS instead of the student loans themselves is to obtain 17 greater liquidity. 18 bought SLARS to obtain such liquidity and that Broce conceded the 19 possibility of illiquidity by promising that Morgan Stanley would 20 step in to prevent it. 21 While A reasonable Indeed, the FAC alleges that appellants Therefore, even accepting as true all of the facts alleged 22 in the FAC, appellants Section 10(b) claim fails due to their 23 inability to plead reasonable reliance on the alleged 24 misrepresentations. 25 11 1 2 b) Common Law Claims Ashland also appeals from the dismissal of its common law 3 claims. 4 Martin Act preemption applies but instead affirm on appellants 5 lack of reasonable reliance. 6 Nat l Broad., Co., 219 F.3d 92, 103 (2d Cir. 2000) ( Because we 7 review the district court's decision to dismiss under Rule 8 12(b)(6) de novo, we are free to affirm the decision below on 9 dispositive but different grounds. ). 10 Unlike the district court, we do not address whether See Primetime 24 Joint Venture v. Reasonable reliance is a required element of common law 11 fraud, promissory estoppel, breach of fiduciary duty, and 12 negligent misrepresentation under New York law. 13 Fahnestock & Co., 443 F.3d 230, 234 (2d Cir. 2006) (common law 14 fraud); Kaye v. Grossman, 202 F.3d 611, 615 (2d Cir. 2000) 15 (promissory estoppel); King v. Crossland Sav. Bank, 111 F.3d 251, 16 257-58 (2d Cir. 1997) (negligent misrepresentation); Carr v. 17 Neilson, 909 N.Y.S.2d 387, 387 (N.Y. App. Div. 2010) (breach of 18 fiduciary duty). 19 claims for the reasons stated above. 20 negligence claim is virtually identical to their negligent 21 misrepresentation claim, we also affirm that dismissal. 22 See Crigger v. We therefore affirm the dismissal of these Because appellants Finally, appellants unjust enrichment claim simply does not 23 fit the facts of this case. Under New York law, an unjust 24 enrichment claim requires a plaintiff to prove that (1) 25 defendant was enriched, (2) at plaintiff's expense, and (3) 12 1 equity and good conscience militate against permitting defendant 2 to retain what plaintiff is seeking to recover. 3 S.R.L. v. Greystone Bus. Credit II LLC, 631 F.3d 42, 55 (2d Cir. 4 2011) (internal quotation omitted). 5 [e]quity and good conscience require disgorgement of fees earned 6 by Morgan Stanley from Ashland s purchases of Morgan Stanley- 7 brokered SLARS, because Ashland thought it was purchasing liquid 8 investments. 9 sophisticated investor, failed to apprise itself of the publicly Diesel Props The FAC states that However, the facts alleged are that Ashland, a 10 disclosed riskiness of ARS as liquid investments. 11 little in equity and good conscience that weighs in favor of the 12 return of the fees it paid in connection with those transactions. 13 We have considered appellants remaining contentions and 14 conclude that they are without merit. 15 There is CONCLUSION 16 17 For the foregoing reasons, we affirm the district court s dismissal of appellants complaint. 18 19 13
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