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BASIC INCORPORATED, et al., Petitioners, v. Max L. LEVINSON, et al.

485 U.S. 224 (108 S.Ct. 978, 99 L.Ed.2d 194)

Brief Fact Summary. Respondents, Max Levinson et al., held shares in Petitioner Corporation,

Basic Inc. Respondents brought this action after misleading statements concerning a potentialmerger induced them to sell their shares at a depressed price.

Doctrine: Misleading statements during merger discussions will be material under Rule 10b-5 if

the misstatements would have changed the view of the total information by a reasonable investor.

Facts:

Rumors were circulating that Basic was in negotiations to merge with Combustion Engineering.

The directors of Basic issued three public statements saying that they were not engaged in

merger negotiations.

This was untrue, Basic and Combustion Engineering had been negotiating for several years.

Eventually, the directors of Basic announced that they had endorsed Combustion's offer and that

the merger would take place.

Of course, once the merger was announced, the price of Basic's stock rose significantly.

A group of former shareholders, led by Levinson sued.

Levinson argued that the three public statements were false and misleading, and where therefore

a violation of Exchange Act of 1934 Rule 10b-5.

Levinson argued that the shareholders were injured because they sold their stock at a low price in

reliance of Basic's misleading statements.

The Trial Court found for Basic in summary judgment. Levinson appealed.

The Trial Court found that the negotiations were just negotiations and were not destined with

reasonable certainty to result in a merger. Therefore any misrepresentations or omissions madeby Basic were not material and therefore not a violation of Rule 10b-5.

The Appellate Court reversed. Basic appealed.

The Appellate Court found that while the directors were under no general duty to disclose the

negotiations, any statement the company voluntarily released could not be so incomplete as to

mislead.

Issue/s:

whether the misleading statements regarding ongoing merger discussions were material enough

to alter the decision of a reasonable investor.

Held:The US Supreme Court reversed and remanded.

The US Supreme Court looked to TSC Industries, Inc. v. Northway, Inc. (426 U.S. 438 (1976))

and found that a misrepresentation or omission is material if there is a substantial likelihood that

the disclosure of the omitted fact would have been viewed by the reasonable investor as having

significantly altered the total mix of the information made available.

The Court found that whether the public statements actually did affect the stock price was a

question of fact for a jury to decide. So they remanded the case.

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The standard set forth in TSC Industries, Inc. v. Northway, Inc.,426 U.S. 438, 96 S.Ct. 2126, 48

L.Ed.2d 757 (1976), whereby an omitted fact is material if there is a substantial likelihood that its

disclosure would have been considered significant by a reasonable investor, is expressly adopted

for the § 10(b) and Rule 10b-5 context. Pp. 230-232.

The "agreement-in-principle" test, under which preliminary merger discussions do not become

material until the would-be merger partners have reached agreement as to the price and structure

of the transaction, is rejected as a bright-line materiality test. Its policy-based rationales do not

 justify the exclusion of otherwise significant information from the definition of materiality. Pp. 232-

236.

The Court of Appeals' view that information concerning otherwise insignificant developments

becomes material solely because of an affirmative denial of their existence is also rejected: Rule

10b-5 requires that the statements be misleading as to a material fact. Pp. 237-238.

Materiality in the merger context depends on the probability that the transaction will be

consummated, and its significance to the issuer of the securities. Thus, materiality depends on

the facts and is to be determined on a case-by-case basis. Pp. 238-241.

The courts below properly applied a presumption of reliance, supported in part by the fraud-on-

the-market theory, instead of requiring each plaintiff to show direct reliance on Basic's statements.

Such a presumption relieves the Rule 10b-5 plaintiff of an unrealistic evidentiary burden, and is

consistent with, and supportive of, the Act's policy of requiring full disclosure and fostering

reliance on market integrity. The presumption is also supported by common sense and probability:

an investor who trades stock at the price set by an impersonal market does so in reliance on the

integrity of that price. Because most publicly available information is reflected in market price, an

investor's reliance on any public material misrepresentations may be presumed for purposes of a

Rule 10b-5 action. Pp. 241-247.

The presumption of reliance may be rebutted: Rule 10b-5 defendants may attempt to show that

the price was not affected by their misrepresentation, or that the plaintiff did not trade in relianceon the integrity of the market price. Pp. 248-249.