The PSLRA creates a safe harbor for forward-looking statements to encourage companies to provide investors with information about future plans and prospects. There are two prongs to the safe harbor. First, a defendant shall not be liable with respect to any forward-looking statement if it is identified as forward-looking and is accompanied by “meaningful cautionary statements” that alert investors to the factors that could cause actual results to differ. Second, a defendant shall not be liable with respect to any forward-looking statement, even in the absence of meaningful cautionary statements, if the plaintiff cannot establish that the statement was made with “actual knowledge” that it was false or misleading.
As noted by numerous commentators, the statutory scheme arguably gives companies a license to lie. If a company uses appropriate cautionary language, it can make a forward-looking statement that it knows to be false without fear of liability. Accordingly, courts have struggled with how to apply the first prong of the safe harbor where the plaintiffs allege that the defendants knew their forward-looking statements were false and merely offered cautionary language to create a smoke screen for their fraud.
In In re Seebeyond Technologies Corp. Sec. Litig., 2003 WL 21262498 (C.D. Cal. May 28, 2003), the court disagreed that the safe harbor permits knowing falsities. The key is the requirement that the cautionary language be “meaningful.” The court found that “[i]f the forward-looking statement is made with actual knowledge that it is false or misleading, the accompanying cautionary language can only be meaningful if it either states the belief that it is false or misleading or, at the very least, clearly articulates the reasons why it is false or misleading.”
This reading of the statute is subject to a number of objections, some of which the court itself raises. First, it appears to require a court to determine whether the statement was made with actual knowledge of falsity as a prerequisite for determining whether the cautionary language was meaningful. Congress did not impose a state of mind requirement in the first prong of the safe harbor; leaving that examination for forward-looking statements that are not accompanied by cautionary language. Second, other courts have held that to take advantage of the safe harbor, a defendant is not required to have identified the exact factor that ultimately rendered the statement untrue. It is enough to have cautionary language that reasonably alerted investors to the risks. The court’s holding would appear to severely weaken this principle – as long as the plaintiff adequately alleges actual knowledge, the defendant’s disclosure is never sufficient unless the exact factor that ultimately rendered the statement untrue is revealed. The bottom line: Congress is going need to solve this one.
Holding: Motion to dismiss granted in part and denied in part (plaintiffs were allowed to proceed with their claims based on forward-looking statements).
Quote of note: “Subsection (A) may still provide safe harbor where cautionary language is used, even if the defendant has actual knowledge that the statement is false or misleading. The idea that sufficient cautionary language may be used when the defendant has actual knowledge that a statement is somehow misleading (for instance, where the company is engaging in ‘puffery’ of some sort) is not so far-fetched.”