SANTA FE INDUSTRIES, INC. v. GREEN

MR. JUSTICE WHITE delivered the opinion of the Court.

The issue in this case involves the reach and coverage of § 10 (b) of the Securities Exchange Act of 1934 and Rule 10b-51 thereunder in the context of a Delaware short-form merger transaction used by the majority stockholder of a corporation to eliminate the minority interest.

I

In 1936, petitioner Santa Fe Industries, Inc. (Santa Fe), acquired control of 60% of the stock of Kirby Lumber Corp. (Kirby), a Delaware corporation. Through a series of purchases over the succeeding years, Santa Fe increased its control of Kirby's stock to 95%; the purchase prices during the period 1968-1973 ranged from $65 to $92.50 per share.2 In 1974, wishing to acquire 100% ownership of Kirby, Santa Fe availed itself of § 253 of the Delaware Corporation Law, known as the "short-form merger" statute. Section 253 permits a parent corporation owning at least 90% of the stock of a subsidiary to merge with that subsidiary, upon approval by the parent's board of directors, and to make payment in cash for the shares of the minority stockholders. The statute does not require the consent of, or advance notice to, the minority stockholders. However, notice of the merger must be given within 10 days after its effective date, and any stockholder who is dissatisfied with the terms of the merger may petition the Delaware Court of Chancery for a decree ordering the surviving corporation to pay him the fair value of his shares, as determined by a court-appointed appraiser subject to review by the court. Del. Code Ann., Tit. 8, §§ 253, 262 (1975 ed. and Supp. 1976).

Santa Fe obtained independent appraisals of the physical assets of Kirby—land, timber, buildings, and machinery— and of Kirby's oil, gas, and mineral interests. These appraisals, together with other financial information, were submitted to Morgan Stanley & Co. (Morgan Stanley), an investment banking firm retained to appraise the fair market value of Kirby stock. Kirby's physical assets were appraised at $320 million (amounting to $640 for each of the 500,000 shares); Kirby's stock was valued by Morgan Stanley at $125 per share. Under the terms of the merger, minority stockholders were offered $150 per share.

The provisions of the short-form merger statute were fully complied with.3 The minority stockholders of Kirby were notified the day after the merger became effective and were advised of their right to obtain an appraisal in Delaware court if dissatisfied with the offer of $150 per share. They also received an information statement containing, in addition to the relevant financial data about Kirby, the appraisals of the value of Kirby's assets and the Morgan Stanley appraisal concluding that the fair market value of the stock was $125 per share.

Respondents, minority stockholders of Kirby, objected to the terms of the merger, but did not pursue their appraisal remedy in the Delaware Court of Chancery.4 Instead, they brought this action in federal court on behalf of the corporation and other minority stockholders, seeking to set aside the merger or to recover what they claimed to be the fair value of their shares. The amended complaint asserted that, based on the fair market value of Kirby's physical assets as revealed by the appraisal included in the information statement sent to minority shareholders, Kirby's stock was worth at least $772 per share.5 The complaint alleged further that the merger took place without prior notice to minority stockholders; that the purpose of the merger was to appropriate the difference between the "conceded pro rata value of the physical assets," App. 103a, and the offer of $150 per share—to "freez[e] out the minority stockholders at a wholly inadequate price," id., at 100a; and that Santa Fe, knowing the appraised value of the physical assets, obtained a "fraudulent appraisal" of the stock from Morgan Stanley and offered $25 above that appraisal "in order to lull the minority stockholders into erroneously believing that [Santa Fe was] generous." Id., at 103a. This course of conduct was alleged to be "a violation of Rule 10b-5 because defendants employed a `device, scheme, or artifice to defraud' and engaged in an `act, practice or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.' " Ibid.6 Morgan Stanley assertedly participated in the fraud as an accessory by submitting its appraisal of $125 per share although knowing the appraised value of the physical assets.

The District Court dismissed the complaint for failure to state a claim upon which relief could be granted. 391 F.Supp. 849 (SDNY 1975). As the District Court understood the complaint, respondents' case rested on two distinct grounds. First, federal law was assertedly violated because the merger was for the sole purpose of eliminating the minority from the company, therefore lacking any justifiable business purpose, and because the merger was undertaken without prior notice to the minority shareholders. Second, the low valuation placed on the shares in the cash-exchange offer was itself said to be a fraud actionable under Rule 10b-5. In rejecting the first ground for recovery, the District Court reasoned that Delaware law required neither a business purpose for a short-form merger nor prior notice to the minority shareholders who the statute contemplated would be removed from the company, and that Rule 10b-5 did not override these provisions of state corporate law by independently placing a duty on the majority not to merge without prior notice and without a justifiable business purpose.

As for the claim that actionable fraud inhered in the allegedly gross undervaluation of the minority shares, the District Court observed that respondents valued their shares at a minimum of $772 per share, "basing this figure on the pro rata value of Kirby's physical assets." Id., at 853. Accepting this valuation for purposes of the motion to dismiss, the District Court further noted that, as revealed by the complaint, the physical asset appraisal, along with other information relevant to Morgan Stanley's valuation of the shares, had been included with the information statement sent to respondents within the time required by state law. It thought that if "full and fair disclosure is made, transactions eliminating minority interests are beyond the purview of Rule 10b-5," and concluded that the "complaint fail[ed] to allege an omission, misstatement or fraudulent course of conduct that would have impeded a shareholder's judgment of the value of the offer." Id., at 854. The complaint therefore failed to state a claim and was dismissed.7

A divided Court of Appeals for the Second Circuit reversed. 533 F.2d 1283 (1976). It first agreed that there was a double aspect to the case: first, the claim that gross undervaluation of the minority stock itself violated Rule 10b-5; and second, that "without any misrepresentation or failure to disclose relevant facts, the merger itself constitutes a violation of Rule 10b-5" because it was accomplished without any corporate purpose and without prior notice to the minority stockholders. Id., at 1285. As to the first aspect of the case, the Court of Appeals did not disturb the District Court's conclusion that the complaint did not allege a material misrepresentation or nondisclosure with respect to the value of the stock; and the court declined to rule that a claim of gross undervaluation itself would suffice to make out a Rule 10b-5 case. With respect to the second aspect of the case, however, the court fundamentally disagreed with the District Court as to the reach and coverage of Rule 10b-5. The Court of Appeals' view was that, although the Rule plainly reached material misrepresentations and nondisclosures in connection with the purchase or sale of securities, neither misrepresentation nor nondisclosure was a necessary element of a Rule 10b-5 action; the Rule reached "breaches of fiduciary duty by a majority against minority shareholders without any charge of misrepresentation or lack of disclosure." Id., at 1287.8 The court went on to hold that the complaint, taken as a whole, stated a cause of action under the Rule:

See also id., at 1289.9

We granted the petition for certiorari challenging this holding because of the importance of the issue involved to the administration of the federal securities laws. 429 U.S. 814 (1976). We reverse.

II

Section 10 (b) of the 1934 Act makes it "unlawful for any person . . . to use or employ . . . any manipulative or deceptive device or contrivance in contravention of [Securities and Exchange Commission rules]"; Rule 10b-5, promulgated by the SEC under § 10 (b), prohibits, in addition to nondisclosure and misrepresentation, any "artifice to defraud" or any act "which operates or would operate as a fraud or deceit."10 The court below construed the term "fraud" in Rule 10b-5 by adverting to the use of the term in several of this Court's decisions in contexts other than the 1934 Act and the related Securities Act of 1933, 15 U. S. C. § 77a et seq.11 The Court of Appeals' approach to the interpretation of Rule 10b-5 is inconsistent with that taken by the Court last Term in Ernst & Ernst v. Hochfelder, 425 U.S. 185 (1976).

Ernst & Ernst makes clear that in deciding whether a complaint states a cause of action for "fraud" under Rule 10b-5, "we turn first to the language of § 10 (b), for `[t]he starting point in every case involving construction of a statute is the language itself.' " Id., at 197, quoting Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 756 (1975) (POWELL, J., concurring). In holding that a cause of action under Rule 10b-5 does not lie for mere negligence, the Court began with the principle that "[a]scertainment of congressional intent with respect to the standard of liability created by a particular section of the [1933 and 1934] Acts must . . . rest primarily on the language of that section," 425 U. S., at 200, and then focused on the statutory language of § 10 (b)—"[t]he words `manipulative or deceptive' used in conjunction with `device or contrivance.' " Id., at 197. The same language and the same principle apply to this case.

To the extent that the Court of Appeals would rely on the use of the term "fraud" in Rule 10b-5 to bring within the ambit of the Rule all breaches of fiduciary duty in connection with a securities transaction, its interpretation would, like the interpretation rejected by the Court in Ernst & Ernst, "add a gloss to the operative language of the statute quite different from its commonly accepted meaning." Id., at 199. But, as the Court there held, the language of the statute must control the interpretation of the Rule:

The language of § 10 (b) gives no indication that Congress meant to prohibit any conduct not involving manipulation or deception. Nor have we been cited to any evidence in the legislative history that would support a departure from the language of the statute.13 "When a statute speaks so specifically in terms of manipulation and deception, . . . and when its history reflects no more expansive intent, we are quite unwilling to extend the scope of the statute . . . ." Id., at 214. Thus the claim of fraud and fiduciary breach in this complaint states a cause of action under any part of Rule 10b-5 only if the conduct alleged can be fairly viewed as "manipulative or deceptive" within the meaning of the statute.

III

It is our judgment that the transaction, if carried out as alleged in the complaint, was neither deceptive nor manipulative and therefore did not violate either § 10 (b) of the Act or Rule 10b-5.

As we have indicated, the case comes to us on the premise that the complaint failed to allege a material misrepresentation or material failure to disclose. The finding of the District Court, undisturbed by the Court of Appeals, was that there was no "omission" or "misstatement" in the information statement accompanying the notice of merger. On the basis of the information provided, minority shareholders could either accept the price offered or reject it and seek an appraisal in the Delaware Court of Chancery. Their choice was fairly presented, and they were furnished with all relevant information on which to base their decision.14

We therefore find inapposite the cases relied upon by respondents and the court below, in which the breaches of fiduciary duty held violative of Rule 10b-5 included some element of deception.15 Those cases forcefully reflect the principle that "[§] 10 (b) must be read flexibly, not technically and restrictively" and that the statute provides a cause of action for any plaintiff who "suffer[s] an injury as a result of deceptive practices touching its sale [or purchase] of securities. . . ." Superintendent of Insurance v. Bankers Life & Cas. Co., 404 U.S. 6, 12-13 (1971). But the cases do not support the proposition, adopted by the Court of Appeals below and urged by respondents here, that a breach of fiduciary duty by majority stockholders, without any deception, misrepresentation, or nondisclosure, violates the statute and the Rule.

It is also readily apparent that the conduct alleged in the complaint was not "manipulative" within the meaning of the statute. "Manipulation" is "virtually a term of art when used in connection with securities markets." Ernst & Ernst, 425 U. S., at 199. The term refers generally to practices, such as wash sales, matched orders, or rigged prices, that are intended to mislead investors by artificially affecting market activity. See, e. g., § 9 of the 1934 Act, 15 U. S. C. § 78i (prohibiting specific manipulative practices); Ernst & Ernst, supra, at 195, 199 n. 21, 205; Piper v. Chris-Craft Industries, Inc., ante, at 43 (Rule 10b-6, also promulgated under § 10 (b), is "an antimanipulative provision designed to protect the orderliness of the securities market during distributions of stock" and "to prevent stimulative trading by an issuer in its own securities in order to create an unnatural and unwarranted appearance of market activity"); 2 A. Bromberg, Securities Law: Fraud § 7.3 (1975); 3 L. Loss, Securities Regulation 1541-1570 (2d ed. 1961); 6 id., at 3755-3763 (Supp. 1969). Section 10 (b)'s general prohibition of practices deemed by the SEC to be "manipulative"—in this technical sense of artificially affecting market activity in order to mislead investors—is fully consistent with the fundamental purpose of the 1934 Act " `to substitute a philosophy of full disclosure for the philosophy of caveat emptor . . . .' " Affiliated Ute Citizens v. United States, 406 U.S. 128, 151 (1972), quoting SEC v. Capital Gains Research Bureau, 375 U.S. 180, 186 (1963). Indeed, nondisclosure is usually essential to the success of a manipulative scheme. 3 Loss, supra, at 1565. No doubt Congress meant to prohibit the full range of ingenious devices that might be used to manipulate securities prices. But we do not think it would have chosen this "term of art" if it had meant to bring within the scope of § 10 (b) instances of corporate mismanagement such as this, in which the essence of the complaint is that shareholders were treated unfairly by a fiduciary.

IV

The language of the statute is, we think, "sufficiently clear in its context" to be dispositive here, Ernst & Ernst, supra, at 201; but even if it were not, there are additional considerations that weigh heavily against permitting a cause of action under Rule 10b-5 for the breach of corporate fiduciary duty alleged in this complaint. Congress did not expressly provide a private cause of action for violations of § 10 (b). Although we have recognized an implied cause of action under that section in some circumstances, Superintendent of Insurance v. Bankers Life & Cas. Co., supra, at 13 n. 9, we have also recognized that a private cause of action under the antifraud provisions of the Securities Exchange Act should not be implied where it is "unnecessary to ensure the fulfillment of Congress' purposes" in adopting the Act. Piper v. Chris-Craft Industries, ante, at 41. Cf. J. I. Case Co. v. Borak, 377 U.S. 426, 431-433 (1964). As we noted earlier, supra, this page, the Court repeatedly has described the "fundamental purpose" of the Act as implementing a "philosophy of full disclosure"; once full and fair disclosure has occurred, the fairness of the terms of the transaction is at most a tangential concern of the statute. Cf. Mills v. Electric Auto-Lite Co., 396 U.S. 375, 381-385 (1970). As in Cort v. Ash, 422 U.S. 66, 80 (1975), we are reluctant to recognize a cause of action here to serve what is "at best a subsidiary purpose" of the federal legislation.

A second factor in determining whether Congress intended to create a federal cause of action in these circumstances is "whether `the cause of action [is] one traditionally relegated to state law . . . .' " Piper v. Chris-Craft Industries, Inc., ante, at 40, quoting Cort v. Ash, supra, at 78. The Delaware Legislature has supplied minority shareholders with a cause of action in the Delaware Court of Chancery to recover the fair value of shares allegedly undervalued in a short-form merger. See supra, at 465-466. Of course, the existence of a particular state-law remedy is not dispositive of the question whether Congress meant to provide a similar federal remedy, but as in Cort and Piper, we conclude that "it is entirely appropriate in this instance to relegate respondent and others in his situation to whatever remedy is created by state law." 422 U. S., at 84; ante, at 41.

The reasoning behind a holding that the complaint in this case alleged fraud under Rule 10b-5 could not be easily contained. It is difficult to imagine how a court could distinguish, for purposes of Rule 10b-5 fraud, between a majority stockholder's use of a short-form merger to eliminate the minority at an unfair price and the use of some other device, such as a long-form merger, tender offer, or liquidation, to achieve the same result; or indeed how a court could distinguish the alleged abuses in these going private transactions from other types of fiduciary self-dealing involving transactions in securities. The result would be to bring within the Rule a wide variety of corporate conduct traditionally left to state regulation. In addition to posing a "danger of vexatious litigation which could result from a widely expanded class of plaintiffs under Rule 10b-5," Blue Chip Stamps v. Manor Drug Stores, 421 U. S., at 740, this extension of the federal securities laws would overlap and quite possibly interfere with state corporate law. Federal courts applying a "federal fiduciary principle" under Rule 10b-5 could be expected to depart from state fiduciary standards at least to the extent necessary to ensure uniformity within the federal system.16 Absent a clear indication of congressional intent, we are reluctant to federalize the substantial portion of the law of corporations that deals with transactions in securities, particularly where established state policies of corporate regulation would be overridden. As the Court stated in Cort v. Ash, supra: "Corporations are creatures of state law, and investors commit their funds to corporate directors on the understanding that, except where federal law expressly requires certain responsibilities of directors with respect to stockholders, state law will govern the internal affairs of the corporation." 422 U. S., at 84 (emphasis added).

We thus adhere to the position that "Congress by § 10 (b) did not seek to regulate transactions which constitute no more than internal corporate mismanagement." Superintendent of Insurance v. Bankers Life & Cas. Co., 404 U. S., at 12. There may well be a need for uniform federal fiduciary standards to govern mergers such as that challenged in this complaint. But those standards should not be supplied by judicial extension of § 10 (b) and Rule 10b-5 to "cover the corporate universe."17

The judgment of the Court of Appeals is reversed, and the case is remanded for further proceedings consistent with this opinion.

So ordered.

MR. JUSTICE BRENNAN dissents and would affirm for substantially the reasons stated in the majority and concurring opinions in the Court of Appeals, 533 F.2d 1283 (CA2 1976).

MR. JUSTICE BLACKMUN, concurring in part.

Like MR. JUSTICE STEVENS, I refrain from joining Part IV of the Court's opinion. I, too, regard that part as unnecessary for the decision in the instant case and, indeed, as exacerbating the concerns I expressed in my dissents in Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 761 (1975), and in Ernst & Ernst v. Hochfelder, 425 U.S. 185, 215 (1976). I, however, join the remainder of the Court's opinion and its judgment.

MR. JUSTICE STEVENS, concurring in part.

For the reasons stated by MR. JUSTICE BLACKMUN in his dissenting opinion in Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 761,1 and those stated in my dissent in Piper v. Chris-Craft Industries, ante, p. 53, I believe both of those cases were incorrectly decided. I foresee some danger that Part IV of the Court's opinion in this case may incorrectly be read as extending the holdings of those cases. Moreover, the entire discussion in Part IV is unnecessary to the decision of this case. Accordingly, I join only Parts I, II, and III of the Court's opinion. I would also add further emphasis to the fact that the controlling stockholders in this case did not breach any duty owed to the minority shareholders because (a) there was complete disclosure of the relevant facts, and (b) the minority are entitled to receive the fair value of their shares.2 The facts alleged in the complaint do not constitute "fraud" within the meaning of Rule 10b-5.