''Basic Inc. v. Levinson'', 485 U.S. 224 (1988), was a case in which the

Supreme Court of the United States The Supreme Court of the United States (SCOTUS) is the highest court in the federal judiciary of the United States. It has ultimate appellate jurisdiction over all Federal tribunals in the United States, U.S. federal court cases, and over Stat ...

articulated the " fraud-on-the-market theory" as giving rise to a

rebuttable presumption In law, a presumption is an "inference of a particular fact". There are two types of presumptions: rebuttable presumptions and irrebuttable (or conclusive) presumptions. A rebuttable presumption will either shift the burden of production (requ ...

of reliance in

securities fraud Securities fraud, also known as stock fraud and investment fraud, is a deceptive practice in the stock or commodities markets that induces investors to make purchase or sale decisions on the basis of false information.acquire Basic, Inc., and had engaged in discussions with Basic's officers and directors. Three months after these discussions began, Basic asked the

New York Stock Exchange The New York Stock Exchange (NYSE, nicknamed "The Big Board") is an American stock exchange in the Financial District, Manhattan, Financial District of Lower Manhattan in New York City. It is the List of stock exchanges, largest stock excha ...

to suspend trading in its shares and issued a release stating that it had been "approached" by another company concerning a

merger Mergers and acquisitions (M&A) are business transactions in which the ownership of a company, business organization, or one of their operating units is transferred to or consolidated with another entity. They may happen through direct absorpt ...

. Basic president Max Muller publicly denied Basic's involvement in any merger discussions. The next day, Basic's board approved Combustion's

tender offer In corporate finance, a tender offer is a type of public takeover bid. The tender offer is a public, open offer or invitation (usually announced in a newspaper advertisement) by a prospective acquirer to all stockholders of a publicly traded corp ...

for all outstanding

shares In financial markets, a share (sometimes referred to as stock or equity) is a unit of equity ownership in the capital stock of a corporation. It can refer to units of mutual funds, limited partnerships, and real estate investment trusts. Sha ...

Plaintiff A plaintiff ( Π in legal shorthand) is the party who initiates a lawsuit (also known as an ''action'') before a court. By doing so, the plaintiff seeks a legal remedy. If this search is successful, the court will issue judgment in favor of the ...

Max L. Levinson was a Basic shareholder who brought a

class action A class action is a form of lawsuit. Class Action may also refer to: * ''Class Action'' (film), 1991, starring Gene Hackman and Mary Elizabeth Mastrantonio * Class Action (band), a garage house band * "Class Action" (''Teenage Robot''), a 2002 e ...

suit against Basic and its directors, alleging that he and other

shareholders A shareholder (in the United States often referred to as stockholder) of corporate stock refers to an individual or legal entity (such as another corporation, a body politic, a trust or partnership) that is registered by the corporation as the ...

were injured by selling Basic shares at artificially depressed prices in a market affected by—and relying on—Basic's misleading statements. Plaintiffs alleged that Basic's misrepresentations violated § 10(b) of the

Securities Exchange Act of 1934 The Securities Exchange Act of 1934 (also called the Exchange Act, '34 Act, or 1934 Act) (, codified at et seq.) is a law governing the secondary trading of securities (stocks, bonds, and debentures) in the United States of America. A land ...

and SEC Rule 10b-5. The

United States District Court for the Northern District of Ohio The U.S. District Court for the Northern District of Ohio (in case citations, N.D. Ohio) is the federal trial court for the northern half of Ohio, encompassing most territories north of the city of Columbus, Ohio, Columbus. The court has courthou ...

certified the class, finding that plaintiffs were entitled to a presumption of reliance on Basic's public statements, and therefore that common questions of fact or law predominated over particular questions pertaining to individual plaintiffs. However, on the merits the court granted Basic's

motion In physics, motion is when an object changes its position with respect to a reference point in a given time. Motion is mathematically described in terms of displacement, distance, velocity, acceleration, speed, and frame of reference to an o ...

for

summary judgment In law, a summary judgment, also referred to as judgment as a matter of law or summary disposition, is a Judgment (law), judgment entered by a court for one party and against another party summarily, i.e., without a full Trial (law), trial. Summa ...

, finding the statements to be immaterial. The

United States Court of Appeals for the Sixth Circuit The United States Court of Appeals for the Sixth Circuit (in case citations, 6th Cir.) is a federal court with appellate jurisdiction over the district courts in the following districts: * Eastern District of Kentucky * Western District of K ...

affirmed class certification, joining a number of other circuits in accepting the fraud-on-the-market theory. The Court of Appeals also reversed and remanded the decision on summary judgment, holding that although Basic did not have an affirmative duty to disclose the merger discussions, it could not release misleading statements. The U.S. Supreme Court then granted

certiorari In law, ''certiorari'' is a court process to seek judicial review of a decision of a lower court or government agency. ''Certiorari'' comes from the name of a prerogative writ in England, issued by a superior court to direct that the recor ...

to resolve a circuit split on the materiality issue and determine the propriety of the fraud-on-the-market theory.

Opinion of the Court

Justice Blackmun, writing for the majority, first examined the underlying

policy Policy is a deliberate system of guidelines to guide decisions and achieve rational outcomes. A policy is a statement of intent and is implemented as a procedure or protocol. Policies are generally adopted by a governance body within an or ...

behind the Securities Exchange Act: to protect investors against manipulation of stock prices. The

Securities and Exchange Commission The United States Securities and Exchange Commission (SEC) is an independent agency of the United States federal government, created in the aftermath of the Wall Street crash of 1929. Its primary purpose is to enforce laws against market m ...

promulgated Rule 10b-5 to prevent fraud and enforce the Act's requirements.

Materiality of preliminary merger discussions

Blackmun reviewed the standards of materiality, including the holding in '' TSC Industries, Inc. v. Northway, Inc.'', that "an omitted fact is material if there is a substantial likelihood that a reasonable shareholder would consider it important in deciding how to vote." This standard was then expressly adopted for § 10(b) and Rule 10b-5. The Court re-iterated that where there is a duty to disclose, management must disclose or abstain from trading. Where there is no duty to disclose, the Court will not question the timing of disclosure. But if management is under no duty to disclose and misrepresents a material fact, management may be held accountable. In other words, the Court was not concerned about the timing of disclosure, only its accuracy and completeness. The Court then went on to establish a standard for determining the materiality of merger discussions. Blackmun reviewed and rejected the Third Circuit test that merger discussions become material only when an agreement in principle has been reached, finding that standard too "rigid" and "artificial." Blackmun also rejected the Sixth Circuit test, which held that publicly denying the existence of merger discussions makes those discussions material by virtue of denying their existence. He reasoned that it is not enough for a statement to be untrue if it is insignificant. Blackmun declined to adopt a test that hinged on a single event, holding instead that the materiality of merger discussions is always a function of the probability of the completion of the merger and the magnitude of the transaction.

Reliance and the fraud-on-the-market theory

The fraud-on-the-market theory is the idea that stock prices are a function of all material information about the company and its business. It applies in open and developed securities markets, where it can be assumed that all material information is available to investors. The theory states that under these conditions, there is a causal link between any misstatement and any stock purchaser, because the misstatements defraud the entire market and thus affect the price of the stock. Therefore, a material misstatement's effect on an individual purchaser is no less significant than the effect on the entire market. The question before the court was whether this entitles an individual stock purchaser a presumption of reliance, even if the purchaser did not directly rely on the misstatements. Observing that the reality of modern securities markets is such that face-to-face transactions are rare, Justice Blackmun noted that requiring a showing of actual reliance would effectively prevent plaintiffs from ever proceeding as a class action. Also finding that investors often rely on market price, he found the rebuttable presumption of reliance (through the fraud-on-the-market theory) to be a reasonable compromise between the requirements of

Federal Rules of Civil Procedure The Federal Rules of Civil Procedure (officially abbreviated Fed. R. Civ. P.; colloquially FRCP) govern civil procedure in United States district courts. They are the companion to the Federal Rules of Criminal Procedure. Rules promulgated by the ...

23 and the

securities fraud Securities fraud, also known as stock fraud and investment fraud, is a deceptive practice in the stock or commodities markets that induces investors to make purchase or sale decisions on the basis of false information.William A. Klein, Business Associations, 8th ed., Foundation Press (2012). Blackmun vacated the decision of the Court of Appeals and remanded the case.

References

External links

* {{caselaw source , case = ''Basic Inc. v. Levinson'', {{ussc, 485, 224, 1988, el=no , cornell =https://www.law.cornell.edu/supremecourt/text/485/224 , courtlistener =https://www.courtlistener.com/opinion/112022/basic-inc-v-levinson/ , findlaw = https://caselaw.findlaw.com/us-supreme-court/485/224.html , googlescholar = https://scholar.google.com/scholar_case?case=5589356734421689123 , justia =https://supreme.justia.com/cases/federal/us/485/224/case.html , loc =http://cdn.loc.gov/service/ll/usrep/usrep485/usrep485224/usrep485224.pdf , oyez =https://www.oyez.org/cases/1987/86-279 *https://www.quimbee.com/cases/basic-inc-v-levinson United States Supreme Court cases in 1988 United States securities case law United States Supreme Court cases United States Supreme Court cases of the Rehnquist Court