Supreme Court confirms Section 11 liability is limited to investors who can trace their securities to a challenged registration statement

In a unanimous opinion providing welcome certainty for issuers in United States securities markets, the Supreme Court held earlier today that liability under section 11(a) of the Securities Act of 1933 extends only to investors who can “plead and prove that [they] purchased shares traceable to” a registration statement that includes an alleged misstatement or omission of material fact. The opinion reversed a Ninth Circuit decision allowing claims concerning a “direct listing” of common stock to proceed even though the plaintiff did not allege that his shares were among those registered under the relevant registration statement. Justice Neil Gorsuch authored the opinion in Slack Technologies LLC v. Pirani, No. 22-200, 598 U.S. ___ (2023).

Section 11(a) of the Securities Act provides a cause of action for material misstatements or omissions contained in a registration statement for a public offering of registered securities.[1] Together with the Securities Exchange Act of 1934, which requires issuers “to provide ongoing disclosures and regulates trading on secondary markets,” the regulation of new offerings provided in the Securities Act “form[s] the backbone of American securities law.”[2]

In the typical public securities offering, a registration statement is filed with the Securities and Exchange Commission and made available to the public. Investment banks underwrite the offering by purchasing registered securities from the issuer at a discount and then selling them to investors in the securities markets.[3] Investors who purchase securities in the offering can sue for damages if the registration statement “contained an untrue statement of material fact or omitted to state a material fact[.]”[4] For the issuer, “[t]he law imposes strict liability” for any such misstatements or omissions.[5]

The lawsuit in Slack Technologies involved a different type of offering: a “direct listing” involving a secondary offering of Slack Technologies common stock allowed under amendments to the New York Stock Exchange rules approved in 2018.[6] In a direct listing of secondary shares, an issuer registers the shares of certain existing holders for resale directly to investors without using underwriters. Unlike underwritten offerings, employees and other preexisting holders of common stock are not required to enter into lock-up agreements that would prohibit sale of their unregistered shares until months after the offering.

In the direct listing at issue in Slack Technologies, the number of unregistered shares of common stock far exceeded the number of registered shares. The plaintiff purchased shares in the market on the day of the offering and over the next several months but did not allege that the shares he purchased were registered and therefore he could have purchased shares that were not connected to the challenged registration statement.[7] Earlier appellate decisions consistently held that only investors who could “trace” their securities to a challenged registration statement had standing to assert a claim under section 11(a) of the Securities Act. But the district court and a divided Ninth Circuit panel concluded that the circumstances of a direct listing called for a different rule.[8]

The Supreme Court unanimously disagreed. It concluded that requiring a plaintiff to trace his shares to the allegedly false or misleading registration statement was the better reading of section 11(a) based on its specific language and other “contextual clues” provided by the wording of other subsections of the provision and other parts of the Securities Act. The Court observed that its reading of the statute was supported by “[m]ore than a half century” of appellate decisions, and that the “narrower reading” of section 11 liability the Court was adopting had been long recognized as the more “natural” one.[9]

The Court was not persuaded by the policy rationale offered by the plaintiff for a broader reading of statutory liability – to “expand liability for falsehoods and misleading omissions” – which it concluded was just one party’s “account of the statute’s overarching goal[.]” Given the overall design of the federal securities laws, the Court reasoned, “it seem[ed] equally possible” that Congress intended to keep the “class of claims” narrow under the Securities Act with its lower standard of proof while at the same time permitting a broader set of claims with a higher standard of proof under the Exchange Act.[10]

Finally, the Court noted that it had not been presented with, and therefore was not addressing, the scope of potential liability under section 12(a)(2) of the Securities Act, which permits claims based on material misstatements or omissions in an offering prospectus.[11] The Court cautioned that sections 11 and 12 “contain distinct language that warrants careful consideration” and the two liability provisions do not “necessarily travel together.”[12]

The Slack Technologies opinion resolves significant uncertainty about potential liability for direct listings that arose in the wake of the Ninth Circuit’s ruling. It puts to rest any debate about the applicability of the tracing requirement for section 11 claims. But in the longer run, the opinion is likely to be cited for the more general proposition that the liability provisions of the Securities Act should be construed narrowly, which could have lasting impact for companies considering whether and how to access the capital markets.

[1] 15 U.S.C. § 77k(a).
[2] Slack Technologies, slip op. at 1-2.
[3] Id. at 2.
[4] 15 U.S.C.§ 77k(a).
[5] Slip op. at 2.
[6] The SEC approved a similar rule change by the Nasdaq Stock Market in 2019.
[7] Id. at 4.
[8] Id. at 4-5, 7 & n.2.
[9] Id. at 7 (quoting Barnes v. Osofsky, 373 F.2d 269, 272 (2d Cir. 1967) (Friendly, J.)).
[10] Id. at 9.
[11] 15 U.S.C. § 77l(a)(2).
[12] Id. at 10 n.3.