Lowinger v. Morgan Stanley

14-3800-cv
Lowinger v. Morgan Stanley
UNITED STATES COURT OF APPEALS 1
2
FOR THE SECOND CIRCUIT 3
4
August Term, 2014 5
6
(Argued: May 15, 2015 Decided: November 3, 2016) 7
8
Docket No. 14-3800-cv 9
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11
ROBERT LOWINGER, 12
13
Plaintiff-Appellant, 14
15
THOMAS E. NELSON, individually and on behalf of all others 16
similarly situated, ROCK SOUTHWARD, derivatively on behalf of 17
himself and all others similarly situated, AVATAR SECURITIES, 18
LLC, MEREDITH BAILEY, on behalf of themselves and all others 19
similarly situated, DMITRI BOUGAKOV, on behalf of themselves and 20
all others similarly situated, RYAN CEFALU, on behalf of 21
themselves and all others similarly situated, LORRAIN CHIN, FIRST 22
NEW YORK SECURITIES L.L.C., ATISH GANDHI, on behalf of themselves 23
and all others similarly situated, PHILLIP GOLDBERG, on behalf of 24
themselves and all others similarly situated, ERIC HAMRICK, on 25
behalf of themselves and all others similarly situated, STEVE 26
JARVIS, JOE JOHNSON, on behalf of themselves and all others 27
similarly situated, NUHKET KAYAHAN, on behalf of themselves and 28
all others similarly situated, DAVID KENTON, on behalf of 29
themselves and all others similarly situated, DENNIS KUHN, on 30
behalf of themselves and all others similarly situated, BENJAMIN 31
LEVINE, on behalf of themselves and all others similarly 32
situated, KATHERINE LOIACONO, on behalf of themselves and all 33
others similarly situated, CRYSTAL MCMAHON, on behalf of 34
themselves and all others similarly situated, GEORGE 35
MICHALITSIANOS, on behalf of themselves and all others similarly 36
situated, RANDY TERESA MIELKE, on behalf of themselves and all 37
others similarly situated, JACINTO RIVERA, on behalf of 38
themselves and all others similarly situated, FAISAL SAMI, on 39
behalf of themselves and all others similarly situated, SANJEEV 40
SHARMA, on behalf of themselves and all others similarly 41
situated, COLIN SUZMAN, on behalf of themselves and all others 42
similarly situated, T3 TRADING GROUP, LLC, VIJAY AKKARAJU, ALEXIS 43
ALEXANDER, as custodian for Chloe Sophie Alexander, BRIAN ROFFE 44
PROFIT SHARING PLAN, individually and on behalf of all others 45
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similarly situated, JOSE GALVAN, MARY GALVAN, ROBERT HERPST, 1
individually and on behalf of all others similarly situated, 2
SANJAY ISRANI, on behalf of themselves and all others similarly 3
situated, KBC ASSET MANAGEMENT N.V., and the EMPLOYEES’ 4
RETIREMENT SYSTEM OF THE GOVERNMENT OF THE VIRGIN ISLANDS 5
(Collectively, the INSTITUTIONAL INVESTORS), DOUGLAS M. LIGHTMAN, 6
individually and on behalf of all others similarly situated, 7
DENNIS PALKON, individually and on behalf of all others similarly 8
situated, RICK POND, JACOB SALZMANN, individually and on behalf 9
of all others similarly situated, MICHAEL SPATZ, MAREN TWINING, 10
individually and on behalf of all others similarly situated, 11
GOLDRICH COUSINS P.C. 401(k) PROFIT SHARING PLAN & TRUST, IRVING 12
S. BRAUN, individually, EDWARD CHILDS, derivately on behalf of 13
himself and all others similarly situated, KATHY REICHENBAUM, 14
individually and on behalf of all others similarly situated, JUN 15
YAN, on behalf of herself and all others similarly situated, 16
ELBITA ALFONSO, VICKY JONES, PHYLLIS PETERSON, JERRY RAYBORN, on 17
behalf of themselves and all others similarly situated, EDWARD 18
VERNOFF, JUSTIN F. LAZARD, on behalf of himself and all others 19
similarly situated, SYLVIA GREGORCYZK, on behalf of herself and 20
all others similarly situated, PETER BRINCKERHOFF, GARRETT 21
GARRISON, DAVID GOLDBER, individually and on behalf of all others 22
similarly situated, KEVIN HYMS, individually and on behalf of all 23
others similarly situated, RICHARD P. EANNARINO, individually and 24
on behalf of all others similarly situated, PETER MAMULA, 25
individually and on behalf of all others similarly situated, 26
KHODAYAR AMIN, on behalf of himself and all others similarly 27
situated, ELLIOT LEITNER, individually and on behalf of all 28
others similarly situated, BARBARA STEINMAN, on behalf of herself 29
and all others similarly situated, HOWARD SAVITT, on behalf of 30
himself and all others similarly situated, CHAD RODERICK, EUGENE 31
STRICKER, individually and on behalf of all others similarly 32
situated, STEVE SEXTON, individually and on behalf of all others 33
similarly situated, KEITH WISE, individually and on behalf of all 34
others similarly situated, JONATHAN R. SIMON, JAMES CHANG, 35
individually and on behalf of all others similarly situated, 36
SAMEER ANSARI, individually and on behalf of all others similarly 37
situated, DARRYL LAZAR, individually and on behalf of all others 38
similarly situated, MICHAEL LIEBER, individually and on behalf of 39
other similarly situated, THOMAS J. AHRENDTSEN, AARON M. LEVINE, 40
individually and on behalf of all others similarly situated, 41
KAREN CUKER, individually and on behalf of all others similarly 42
situated, BRIAN GRALNICK, individually and on behalf of all 43
others similarly situated, JENNIFER STOKES, individually and on 44
behalf of all others similarly situated, VERNON R. DeMOIS, Jr., 45
individually and on behalf of all others similarly situated, HAL 46
HUBUSCHMAN, derivately on behalf of Facebook, Inc., EDWARD 47
SHIERRY, individually and on behalf of all others similarly 48
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situated, JANIS FLEMING, WILLIAM COLE, derivatively on behalf of 1
Facebook, Inc., STEVE GRIFFIS, HOLLY McCONNAUGHEY, derivatively 2
on behalf of Facebook Inc., GAYE JONES, derivatively on behalf of 3
Facebook Inc., LIDIA LEVY, on behalf of herself and all others 4
similarly situated, 5
6
Plaintiffs, 7
8
v. 9
10
MORGAN STANLEY & CO. LLC, J.P. MORGAN SECURITIES LLC, GOLDMAN 11
SACHS & CO., and FACEBOOK, INC., a Delaware corporation, 12
13
Defendants-Appellees, 14
15
BARCLAYS CAPITAL INC., MERRILL LYNCH, PIERCE, FENNER & SMITH 16
INCORPORATED, ERSKINE B. BOWLES, JAMES W. BREYER, DAVID SPILLANE, 17
DAVID A. EBERSMAN, ALLEN & COMPANY LLC, BMO CAPITAL MARKETS 18
CORP., BLAYLOCK ROBERT VAN LLC, DONALD E. GRAHAM, C.L. KING & 19
ASSOCIATES, INC., REED HASTINGS, CABRERA CAPITAL MARKETS, LLC, 20
CASTLEOAK SECURITIES, L.P., PETER A. THIEL, CITIGROUP GLOBAL 21
MARKET, INC., MARK E. ZUCKERBERG, COWEN AND COMPANY, LLC, CREDIT 22
SUISSE SECURITES (USA) LLC, SHERYL K. SANDBERG, DEUTSCHE BANK 23
SECURITIES INC., CIPORA HERMAN, E TRADE SECURITIES LLC, ITAU BBA 24
USA SECURITIES, INC., LAZARD CAPITAL MARKETS LLC, LEBENTHAL & 25
CO., LLC, LOOP CAPITAL MARKETS LLC, M.R. BEAL & COMPANY, 26
MACQUARIE CAPITAL (USA) INC., MURIEL SIEBERT & CO., INC., 27
OPPENHEIMER & CO., INCORPORATED, PACIFIC CREST SECURITIES LLC, 28
PIPER JAFFRAY & CO., RBC CAPITAL MARKETS, LLC, RAYMOND JAMES & 29
ASSOCIATES, INC., SAMUEL A. RAMIREZ & COMPANY, INC., STIFEL, 30
NICOLAUS & COMPANY, INC., THE WILLIAMS CAPITAL GROUP, L.P., WELLS 31
FARGO SECURITIES, LLC, WILLIAM BLAIR & COMPANY, L.L.C., NASDAQOMX 32
GROUP, INCORPORATED, LAWRENCE CORNECK, individually and on behalf 33
of all others similarly situated, JILL D. SIMON, CITIGROUP GLOBAL 34
MARKETS INC., ALLEN & FACEBOOK (sic) LLC, WILLIAM BLAIR & 35
FACEBOOK (sic) LLC, M.R. BEAL & FACEBOOK (sic) INCORPORATED, 36
COWEN AND FACEBOOK (sic) LLC, STIFEL NICHOLAS & FACEBOOK (sic) 37
INCORPORATED, SAMUEL A. RAMIREZ & FACEBOOK (sic) INC, KEVIN 38
HICKS, individually and on behalf of all others similarly 39
situated, LINH LUU, individually and on behalf of all others 40
similarly situated, HARVEY LAPIN, individually and on behalf of 41
all others similarly situated, KING & ASSOCIATES, INC., DAVID E. 42
(sic) EBERSMAN, NICK E. TRAN, THE NASDAQ STOCK MARKET L.L.C., a 43
Foreign Limited Liability Company, NASDAQ STOCK MARKET, 44
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INCORPORATED, NASDAQ OMX GROUP, INCORPORATED, UMA M. SWAMINATHAN, 1
ROBERT GREIFELD, ANNA M. EWING, MARC L. ANDREESSEN, 2
3
Defendants.*
4
5
6
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8
B e f o r e: WINTER, LOHIER, and CARNEY, Circuit Judges. 9
10
Appeal from a grant by the United States District Court for 11
the Southern District of New York (Robert W. Sweet, Judge) of a 12
Rule 12(b)(6) motion dismissing appellant's complaint. The 13
principal issue is whether standard lock-up agreements in an IPO 14
between lead underwriters and certain pre-IPO shareholders are 15
alone sufficient to render those parties a "group" under Section 16
13(d) and subject to Section 16(b) disgorgement under the 17
Securities Exchange Act of 1934. We hold that they are not. We, 18
therefore, affirm. 19
JEFFREY S. ABRAHAM (Mitchell M.Z. 20
Twersky & Philip T. Taylor on the 21
brief), Abraham, Fruchter & 22
Twersky, LLP, New York, NY, for 23
Plaintiff-Appellant. 24
25
JAMES P. ROUHANDEH (Charles S. 26
Duggan & Andrew Ditchfield on the 27
brief), Davis Polk & Wardwell LLP, 28
New York, NY, for Defendants- 29
Appellees Lead Underwriters. 30
31
Andrew B. Clubok, Kirkland & Ellis 32
LLP, New York, NY, for Defendant- 33
Appellee Facebook, Inc. 34
35
* The Clerk is directed to amend the caption as above.
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Michael A. Conley, John W. Avery, 1
Nicholas J. Bronni, Securities and 2
Exchange Commission, Washington, 3
DC, for Amicus Curiae Securities 4
and Exchange Commission. 5
6
WINTER, Circuit Judge: 7
Robert Lowinger appeals from Judge Sweet's dismissal of his 8
complaint pursuant to Fed. R. Civ. P. 12(b)(6). The complaint 9
asserted claims under the Securities Exchange Act of 1934, 15 10
U.S.C. § 78p(b), against, inter alia, appellees Goldman Sachs & 11
Co., Morgan Stanley & Co., LLC, and J.P. Morgan Securities LLC 12
(collectively "Lead Underwriters"). It sought to hold them 13
liable under Section 16(b) for disgorgement of short-swing 14
profits received in connection with their sales and purchases of 15
shares in the course of Facebook, Inc.'s initial public offering 16
(“IPO”). 17
Section 16(b) requires a "beneficial owner" of ten percent 18
or more of an issuer's stock to disgorge all profits realized 19
from short sales or purchases of that security within a six-month 20
period. See 15 U.S.C. § 78p(b). The Lead Underwriters alone did 21
not meet the ten-percent threshold. However, "beneficial owner," 22
as defined in Section 13(d) of the Exchange Act, includes 23
“groups.” Appellant contends that the Lead Underwriters and 24
certain pre-IPO shareholders together formed a group under 25
Section 13(d). 26
27
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The group was allegedly formed by lock-up agreements between 1
the Lead Underwriters and pre-IPO Shareholders (“Shareholders”). 2
The lock-up agreements prevented the Shareholders from selling 3
their stock for a specified period of time except as permitted by 4
the Lead Underwriters. The district court dismissed the 5
complaint on the grounds that the lock-up agreements alone did 6
not render the Lead Underwriters beneficial owners of the 7
aggregated shares held by the Shareholders under Section 13(d). 8
Because we agree that this standard form lock-up agreement is 9
insufficient, on its own, to establish a group under Section 10
13(d), we affirm. 11
BACKGROUND 12
Upon review of a dismissal of a complaint under Fed. R. Civ. 13
P. 12(b)(6), the facts, and inferences to be drawn from those 14
facts, are viewed in the light most favorable to the plaintiff. 15
Chambers v. Time Warner, Inc., 282 F.3d 147, 152 (2d Cir. 2002). 16
This appeal arises from the May 18, 2012 IPO by Facebook, 17
Inc. ("Facebook"). The offering was underwritten by a syndicate 18
of thirty-three financial firms (collectively, “Underwriters”), 19
including the three Lead Underwriters. Goldman was a Lead 20
Underwriter, and some Goldman subsidiaries owned Facebook shares. 21
As part of the IPO process, each of the Shareholders (who, in the 22
aggregate, owned more than ten percent of Facebook's common 23
stock) entered into lock-up agreements with the Lead Underwriters 24
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in order to "induce the Underwriters that may participate in the 1
Public Offering to continue their efforts in connection with the 2
Public Offering." J. App'x at 73. Appellant makes no claim that 3
these lock-up agreements departed from standard underwriting 4
practices. 5
The lock-up agreements generally provided that the 6
Shareholders would not sell or otherwise dispose of Facebook 7
stock for periods ranging from 91 days to 211 days after the date 8
of the Prospectus without the consent of Morgan Stanley as agent 9
for the Lead Underwriters. The agreements were disclosed in 10
Facebook's Prospectus and Registration Statement. 1
11
As is common in IPOs, the Registration Statement and 12
Prospectus alerted investors that the Underwriters might 13
"over-allot," i.e., sell more than the 421 million shares 14
earmarked for the IPO. Permitting such sales allows underwriters 15
to stabilize fluctuating share prices during an offering by 16
increasing the supply of shares after the offering price has been 17
determined. This ensures (and assures investors) that the entire 18
underwritten amount is sold. Underwriters generally hedge this 19
extra allotment by establishing a short position on oversold 20
shares while simultaneously holding the shares long. 21
1 We may consider Facebook's Registration Statement and Prospectus as
documents integral to the complaint. See Chambers, 282 F.3d at 152-53; see
also San Leandro Emergency Med. Grp. Profit Sharing Plan v. Philip Morris
Cos., Inc., 75 F.3d 801, 808-09 (2d Cir. 1996).
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Underwriters are thus protected against upward or downward 1
movements in the stock's price. The Facebook IPO permitted the 2
Underwriters to cover this short position either by purchasing 3
the requisite additional shares directly from Facebook and the 4
Shareholders at a fixed price (per the terms of a so-called 5
"over-allotment option," or "Green Shoe"), or by purchasing 6
shares directly from the open market once secondary trading had 7
commenced. 2
8
Because of their role in the IPO, the Lead Underwriters were 9
necessarily granted access to nonpublic financial information 10
concerning Facebook. In March and April 2012, Facebook shared 11
its internal forecasts with the Lead Underwriters for both the 12
second quarter of 2012 and for fiscal year 2012. These forecasts 13
estimated revenue between $1.1 and $1.2 billion and approximately 14
$5 billion, respectively. That information was "incorporated 15
into materials used by the Underwriters to market the Facebook 16
IPO to investors in a road show commenced on May 7, 2012." J. 17
App'x at 20. 18
2 Facebook’s Registration Statement disclosed that “the underwriters may
engage in transactions that stabilize, maintain or otherwise affect the price
of the Class A common stock.” J. App’x at 43. This gave leeway to the IPO
underwriters by allowing them to “sell more shares than they are obligated to
purchase under the underwriting agreement, creating a short position” that
they could cover by exercising a Green Shoe option or “by purchasing shares in
the open market.” Such open-market purchases “may raise or maintain the
market price of the Class A common stock above independent market levels or
prevent or retard a decline in the market price of the common stock.”
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That same day, May 7, however, the complaint alleges, 1
Facebook revised its revenue estimates downward for the second 2
quarter to the low end of the $1.1 to $1.2 billion range and 3
projected the 2012 fiscal year estimate to be 3% to 3.5% lower 4
than the previously forecasted $5 billion. Facebook shared those 5
concerns with Morgan Stanley. On May 9, Facebook amended its 6
Registration Statement to advise potential investors of its 7
revised estimates. 8
On May 17 and 18, 2012, the Underwriters sold 484,418,657 9
shares of Facebook common stock to the public at prices ranging 10
from $38.00 to $42.05 per share. Facebook received $37.582 for 11
each share sold and the Underwriters received discounts and 12
commissions amounting to $0.418 per share. Over 310 million of 13
these shares were sold by the Lead Underwriters, which generated 14
$129,000,000 in discounts and commissions for appellees. 15
Stating that the amendment to the Registration Statement did 16
not adequately disclose the revised estimates, the complaint 17
alleges that only after trading closed on May 18, 2012, did the 18
investors become aware that the Underwriters had already cut 19
their estimates for Facebook ahead of the IPO. 3 On May 21, the 20
first trading day thereafter, Facebook's stock price declined to 21
3 Because this appeal raises only a claim under Section 16, which
imposes a strict-liability rule, as discussed infra, the adequacy of
disclosure and the misuse of material, nonpublic information are not before
us.
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"$34.03 on extremely high volume reflecting a decline of more 1
than 10%" from the IPO price. J. App'x at 25. On May 22, 2012, 2
a report by Reuters further divulged that the revised projections 3
had been revealed by the Underwriters to select clients in a 4
manner that avoided a general and direct disclosure of the 5
relevant material information. The decline continued and on May 6
22, Facebook's stock closed at $31 per share -- 18.42% below the 7
IPO price -- on high trading volume. 8
During that period, the Underwriters declined to exercise 9
their Green Shoe option to cover their short positions, choosing 10
instead to purchase the over-allotted shares directly on the 11
secondary market, at prices lower than the Green Shoe fixed price 12
of $38.00 per share. As a result, the Underwriters "made a 13
profit of about $100 million with the bulk of that profit [having 14
been] made on" May 21. J. App'x at 26 (internal citation and 15
quotation marks omitted). 16
On September 12, 2012, appellant, a Facebook shareholder, 17
made a demand on Facebook that it compel J.P. Morgan, Morgan 18
Stanley, and Goldman to disgorge their profits –- as explained 19
infra, calculated under Section 16(b) by subtracting the sales 20
prices of May 17 from the purchase prices during the following 21
four days. Facebook declined to bring suit, and appellant filed 22
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his complaint on June 12, 2013. 4
1
On May 2, 2014, the district court granted appellees' motion 2
to dismiss the complaint. It held that because appellant's 3
Section 13(d) group allegation was based entirely on the lock-up 4
agreements, it was insufficient to state a claim under Section 5
16(b). The district court noted that "[b]ecause lock-up 6
agreements are standard industry practice," they are, without 7
more, "insufficient to establish a Section 16(b) group." In re 8
Facebook, Inc., IPO Sec. & Derivative Litig., 986 F. Supp. 2d 9
544, 553 (S.D.N.Y. 2014). The district court declined to reach 10
the alternative argument that the Underwriters' transactions were 11
exempt under SEC Rule 16a-7 as part of a good faith 12
underwriting. 5
13
14
4 The Facebook IPO has spawned multiple lawsuits that have been
consolidated in the district court. See In re Facebook, Inc., IPO Sec. &
Derivative Litig., 922 F. Supp. 2d 475, 477 (S.D.N.Y. 2013). Only the Section
16 issues are before us.
5 With regard to the Rule 16a-7 issue, the court stated, “Whether, if
beneficial owners, the Lead Underwriters would be exempt from Section 16
liability under Rule 16a–7 presents certain complex and unprecedented issues,
for instance, whether Defendants' creation of informational disparities
accompanied by unusually high levels of short selling, though compliant with
the letter of the law, may still be ‘indecent’ or ‘dishonest’ for purposes of
determining ‘good faith.’ The Court declines to reach these issues at this
time, because even if the Lead Underwriters are not exempt under the statute,
they lack the prerequisite ‘beneficial owner’ status for Section 16 to apply.”
In re Facebook, Inc., 986 F. Supp. at 554 (internal citations omitted). In
view of our disposition of this matter, we also do not address this Rule 16a-7
issue.
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This appeal followed. We solicited, and received, the views 1
of the SEC, as amicus curiae, relevant to the disposition of this 2
appeal. 3
DISCUSSION 4
We review de novo a district court's dismissal of a 5
complaint pursuant to Rule 12(b)(6). See Chambers, 282 F.3d at 6
152. To survive dismissal, a complaint must plead "enough facts 7
to state a claim to relief that is plausible on its face." Bell 8
Atl. Corp. v. Twombly, 550 U.S. 544, 570 (2007). 9
Section 16(a) of the Exchange Act provides that any 10
director, officer, or "beneficial owner of more than 10 percent 11
of" a firm’s securities, commonly called "statutory insiders," 12
must report to the SEC the amount owned and must disclose changes 13
in ownership. 15 U.S.C. § 78p(a). Section 16(b), intended to 14
prevent the defined insiders from profiting from short-swing 15
variations in share price, imposes a strict-liability rule for 16
disgorgement of profits. It states: 17
For the purpose of preventing the unfair use 18
of information which may have been obtained 19
by such beneficial owner . . . by reason of 20
his relationship to the issuer, any profit 21
realized by him from any purchase and sale 22
. . . of any equity security of such issuer 23
. . . within any period of less than six 24
months . . . shall inure to and be 25
recoverable by the issuer, irrespective of 26
any intention on the part of such beneficial 27
owner . . . in entering into such 28
transaction. 29
30
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15 U.S.C. § 78p(b). A disgorgement action may be brought by the 1
issuer or on behalf of the issuer by a security holder, like 2
appellant. Because Section 16(b) operates regardless of intent 3
and calculates “profits” in an automatic and non-intuitive way, 6
4
we have cautioned that Section 16(b) is a "blunt instrument" to 5
be confined within "narrowly drawn limits." Magma Power Co. v. 6
Dow Chem. Co., 136 F.3d 316, 321 (2d Cir. 1998) (internal 7
quotation marks omitted). 8
To state a claim, the complaint here must allege facts 9
demonstrating that appellees were at relevant times statutory 10
insiders, i.e., as pertinent here, beneficial owners of more than 11
ten percent of Facebook's stock. Congress did not explicitly 12
define the term "beneficial owner," see Levy v. Southbrook Int'l 13
Invs., Ltd., 263 F.3d 10, 14 (2d Cir. 2001), but the SEC has 14
adopted Exchange Act Rule 16a-1, defining beneficial owner to 15
mean "any person who is deemed a beneficial owner pursuant to 16
Section 13(d) of the [Exchange] Act and the rules thereunder," 17
6 Section 16(b), long recognized by this court as a “crude,”
“arbitrary,” and “Draconian” mechanism for curbing insider trading, see Blau
v. Lamb, 363 F.2d 507, 515 (2d Cir. 1966), is especially so with respect to
calculating the amount of “profit realized” from short-swing trading, see
Smolowe v. Delendo Corp., 136 F.2d 231, 239 (2d Cir. 1943) (setting forth the
general procedure for calculating disgorgement under Section 16(b)). Under
the established method of calculating disgorgeable “profit” for Section 16(b)
purposes, an individual may be charged with a Section 16(b) “profit” even when
his or her relevant trading actually resulted in a substantial financial loss.
See Feder v. Frost, 220 F.3d 29, 32 (2d Cir. 2000); Adler v. Klawans, 267 F.2d
840, 847-48 (2d Cir. 1959). For example, imagine a statutory insider who
purchases 100 shares at $100 per share on January 1, sells 100 shares at $50
per share on February 1, purchases 100 shares at $150 per share on March 1,
and sells 100 shares for $125 per share on April 1. This trader has lost
$7,500 in real terms, but he has a profit of $2,500 for Section 16(b)
purposes. See Smolowe, 136 F.2d at 239.
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17 C.F.R. § 240 16a-1(a); see also Ownership Reports and Trading 1
by Officers, Directors and Principal Security Holders, Exchange 2
Act Release No. 34-28869, 56 Fed. Reg. 7242, 7244 (Feb. 21, 3
1991). Section 13(d) requires any person acquiring beneficial 4
ownership of five percent or more of a corporation's common stock 5
to disclose certain information. See 15 U.S.C. § 78m(d). 6
Section 13(d)’s purpose is to compel disclosure of certain events 7
that may portend changes in corporate control. Wellman v 8
Dickinson, 682 F.2d 355, 365 (2d Cir. 1982). 9
Exchange Act Rule 13d-3(a) describes a beneficial owner as 10
"any person who, directly or indirectly, through any contract, 11
arrangement, understanding, relationship, or otherwise has or 12
shares: (1) Voting power . . . ; and/or, (2) Investment power 13
which includes the power to dispose, or to direct the disposition 14
of, such security." 17 C.F.R. § 240.13d-3(a). Additionally, 15
according to Section 13(d)(3), "[w]hen two or more persons act as 16
a partnership, limited partnership, syndicate, or other group for 17
the purpose of acquiring, holding, or disposing of securities of 18
an issuer, such syndicate or group shall be deemed a 'person' for 19
the purposes of this subsection." 15 U.S.C. § 78m(d)(3); see 20
also 17 C.F.R. § 240.16a-1(a)(1). Ultimately, according to 21
Exchange Act Rule 13d-5(b)(1), "[w]hen two or more persons agree 22
to act together for the purpose of acquiring, holding, voting or 23
disposing of equity securities of an issuer, the group formed 24
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thereby shall be deemed to have acquired beneficial ownership, 1
for purposes of section [] 13(d) . . . of all equity securities 2
of that issuer beneficially owned by any such persons." 17 3
C.F.R. § 240.13d-5(b)(1). This Rule tracks the language of 4
Section 13(d), except for its addition of “voting” to the acts 5
that trigger a “group” finding. 6
It is agreed that the Underwriters themselves did not hold 7
ten percent of Facebook’s stock. Rather, appellant alleges that 8
the Underwriters were members of a group that in the aggregate 9
held ten percent of Facebook shares. This group was allegedly 10
formed by the lock-up agreements between the Lead Underwriters 11
and Shareholders, which prevented the Shareholders from selling 12
(“disposing,” in statutory language) their pre-IPO shares of 13
Facebook stock for a specified period of time after the IPO 14
without the Lead Underwriters’ consent. 15
A plain language argument suggests application of Section 16
13(d), but we have explicitly avoided holding that such an 17
agreement, without more, forms a group under Section 13(d). 18
Rather, we have stated only that a lock-up agreement "may bear 19
upon" the question of whether a group exists or that evidence of 20
coordination in acquiring, holding, or disposing of securities 21
may demonstrate the existence of a group. Morales v. Quintel 22
Entm’t, Inc., 249 F.3d 115, 127 (2d Cir. 2001); see also CSX 23
Corp. v. Children’s Inv. Fund Mgmt. (UK) LLP, 654 F.3d 276, 283 24
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(2d Cir. 2011) (noting that the "touchstone" of the court's 1
finding of a group is that "the members combined in furtherance 2
of a common objective" to acquire, hold, vote or dispose of 3
securities) (internal quotation marks omitted). 4
Our reluctance to recognize the existence of a “group,” 5
notwithstanding a contractual arrangement explicitly limiting the 6
disposal of shares, reflects the fact that lock-up agreements, 7
rather than being agreements “to act together,” are generally 8
one-way streets keeping certain shareholders out of the IPO 9
market for a specified period of time or without compliance with 10
other restrictions, as discussed immediately below. 11
However, we cannot avoid a larger, legitimate concern 12
emphasized in the SEC’s amicus brief over applying Section 13(d) 13
literally in the context of standard lock-up agreements. As the 14
brief notes, a lock-up agreement is common, Brief of the SEC as 15
Amicus Curiae, at 19 (citing NYSE/NASD IPO Advisory Comm., Report 16
& Recommendations of a committee convened by the NYSE, Inc. & 17
NASD at the request of the U.S. Securities and Exchange 18
Commission (May 2003), at p.16, available at 19
http://www.finra.org/sites/default/files/Industry/p010373.pdf), 20
even essential, to the typical IPO, and some other public 21
offerings as well, id. at 19-22. Such an agreement assures 22
potential buyers of securities in the IPO “that shares owned [by 23
pre-IPO shareholders of the issuer will not] enter the public 24
16

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market too soon after the offering.” Initial Public Offerings: 1
Lockup Agreements, Fast Answers, U.S. Securities & Exchange 2
Commission, available at http://www.sec.gov/answers/lockup.htm 3
(last visited Oct. 17, 2016); see also In re Facebook, Inc., 986 4
F. Supp. 2d at 553. These assurances lead investors reasonably 5
to expect an orderly market free of the danger of large sales of 6
pre-owned shares depressing the share price before the pricing of 7
the newly offered shares has settled in the market. 8
Applying Section 16(b) to underwriters engaged in lock-up 9
agreements as facilitators of a public offering would impair the 10
market for public offerings by complicating the role of 11
underwriters –- adding tens of millions of dollars in legal 12
exposure to the underwriters’ costs. As parties to lock-up 13
agreements, the underwriters are not acting as investors seeking 14
to buy low and sell high. Rather, they are conduits for the 15
distribution of securities in an offering to the public in which 16
their participation begins and ends with the offering. A central 17
role of the standard lock-up agreement is to limit the investment 18
decisions of large shareholders in order to bring about an 19
orderly, and successful, offering. 20
Public offerings are heavily regulated. See, e.g., In re 21
Public Offering Fee Antitrust Litig., 98-cv-7890 (LLM), 2003 WL 22
21496795, at *2 (S.D.N.Y. June 27, 2003); David A. Westenberg, 23
Initial Public Offerings: A Practical Guide to Going Public, 24
17

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§ 18:12 (1st ed. 2011). Among the most heavily regulated are 1
IPOs. See Adoption of Integrated Disclosure System, Securities 2
Act Release No. 33-6383, 47 Fed. Reg. 11380 (Mar. 16, 1982) . 3
Disclosure to the public of relevant facts is extensive and, in 4
this case, included all of the pertinent facts asserted in the 5
complaint. IPOs contemplate the sharing of confidential 6
financial information with underwriters, agreements between 7
underwriters and large pre-IPO shareholders limiting disposal of 8
their shares, and trading by underwriters in the course of the 9
offering. Far from being nefarious, these actions benefit 10
existing shareholders and new public investors. For example, one 11
purpose of the regulation of public offerings is to enhance 12
relatively accurate pricing of the offering’s shares by 13
disclosure before sales of an offering to the public are allowed. 14
See 15 U.S.C. § 77h. Achieving that purpose requires assurances 15
of control over the disposition of blocs of shares owned by large 16
pre-IPO investors, and lock-up agreements provide that control. 17
(One effect of a lock-up agreement in an IPO is to prevent pre- 18
IPO insiders from using nonpublic information to trade in a 19
nascent public market.) The purpose also requires stabilization 20
efforts by underwriters, as discussed above. Lock-up agreements 21
are, therefore, essential to the regulation of public offerings. 22
As amicus, the SEC advises us that ordinary lock-up 23
agreements do not implicate the purposes of Section 13(d) and its 24
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definition of a “group.” Section 13(d) is intended to alert 1
investors about possible changes in control and provide 2
information about possible parties to those changes. See, e.g., 3
Brief of the SEC, Amicus Curiae, Morales v. Quintel Entm't, Inc., 4
249 F.3d 115 (2d Cir. 2001), at 20–21 ("There is no doubt that 5
the purpose of Section 13(d) is to require disclosure of 6
information by persons who have acquired a substantial interest, 7
or increased their interest in equity securities of a company by 8
a substantial amount . . . so that investors might assess the 9
potential for changes in corporate control and adequately 10
evaluate the company's worth.") (internal quotation marks 11
omitted). To that end, the beneficial ownership rule seeks to 12
"prevent a group of persons who seek to pool their voting or 13
other interests . . . from evading" Section 13(d)'s disclosure 14
requirements. Wellman, 682 F.2d at 366 (quoting S. Rep. No. 550, 15
90th Cong., 1st Sess. 8 (1967)). 16
While appellant is correct that both the Underwriters and 17
Shareholders hoped to profit from the IPO -- the Underwriters 18
profiting according to the underwriting agreement and the 19
Shareholders profiting from a newly established public market for 20
their shares -- this common objective creates no need for 21
information about potential changes in control beyond that 22
inherent in a public offering. Using Section 13(d) to create a 23
“group” subject to Section 16(b) would impose large damages on 24
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transitory conduits of a public offering of shares. This 1
imposition of damages would have nothing to do with the allaying 2
of concerns about changes in control but would greatly raise the 3
costs, and reduce the number, of IPOs. 4
To be sure, our analysis applies only to standard lock-up 5
agreements like those at issue here. As the SEC’s amicus brief 6
states, “[a]typical language in the lock-up agreement, or other 7
facts and circumstances outside of the lock-up agreement,” may 8
trigger a Section 13(d) “group” finding. Brief of the SEC as 9
Amicus Curiae, at 22. Our cases, discussed supra, have clearly 10
indicated that coordination between underwriters and the other 11
parties to a lock-up agreement with implications for control 12
changes beyond those inherent in an IPO might trigger such a 13
finding. But no facts alleged in this matter, in the petition 14
for reconsideration in the district court, or in the request to 15
amend persuade us that such a trigger exists. 7
16
We, therefore, affirm. 17
7 Appellant also advances an argument based on the fact that Goldman
subsidiaries owned some pre-IPO Facebook shares. The substance of appellant’s
argument is rendered rather murky by issues related to how it was raised in
the district court. Goldman’s subsidiaries’ ownership of pre-IPO Facebook
shares was disclosed in the documents filed with the SEC that accompanied the
IPO and its underwriting. J. App’x at 106. These documents were before the
district court on the motion to dismiss, but appellant raised the stock
ownership issues as relevant only in its motion for reconsideration in the
district court. It comes before us as a claim of error by that court either
in its decision on the merits or in the court’s declining to allow the
complaint to be amended. We hold that these allegations do not render the
lock-up agreements here as atypical in a way pertinent to our refusal to apply
Section 13(d). No facts that might be alleged by plaintiff suggest, whether
the lock-up agreements covered the Goldman shares or not, any implications
regarding control changes as contemplated by Section 13(d) as is fully
explained in the text.
20

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