Securities & Exchange Commission v. Shanahan
2011 U.S. App. LEXIS 14728
| 8th Cir. | 2011Background
- SEC sued Shanahan Jr. for allegedly participating in ESSI stock-option backdating during 1996–2002.
- ESSI's plan priced options at the closing market price on grant date, but dating often occurred before final grant decision to lower prices, creating in-the-money options.
- OPS statements in proxies and Form 10-K allegedly misrepresented that options were issued at-the-money and per APB 25; SEC did not allege failure to follow APB 25.
- SEC presented evidence of backdating patterns (low-date grants) and emails showing pre-decision dating, with Shanahan Jr. as a member of the Compensation Committee.
- District court granted Shanahan Jr.’s Rule 50(a) motion for judgment as a matter of law on scienter and negligence; district court also dismissed claims under §14(a) and §20(a).
- Appeals court reviewed de novo and affirmed JMOL, finding insufficient evidence of scienter and negligence; materiality and other elements were also unreached or unsupported.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Whether scienter was proven for §17(a)/§10(b)/Rule 10b-5 | SEC argues severe recklessness shown by backdating and OPS misstatements. | Shanahan Jr. relied on professionals; OPS not clearly false; no severe recklessness. | No substantial proof of scienter; JMOL affirmed |
| Whether negligence was proven for §17(a)(2)/(a)(3) | SEC contends failure to exercise reasonable care given duties as director/committee member. | No evidentiary framework for duties and reasonable-care standard; reliance on professionals. | Negligence not proven; JMOL affirmed |
| Whether §14(a)/Rule 14a-9 false/misleading proxy statements were proven | OPS disclosures were misleading; outside director should have seen the risk of misstatement. | OPS was ambiguous; outside director not shown to be reckless or negligent given lack of duties proof. | No showing of scienter or negligence; claims affirmed dismissed |
| Whether aiding and abetting §20(e) liability was proven | Shanahan Jr. participated with knowledge and substantial assistance. | Without proof of primary violations with recklessness/negligence, aiding and abetting fails. | Conclusion required dismissal; district court affirmed |
| Whether district court properly excluded Incentive Stock Option Agreement under Rule 403/404(b) | Evidence shows motive/intent to influence; should be admitted. | Evidence is collateral, cumulative, and would confuse; exclusion proper. | No reversible error; admissibility affirmed |
Key Cases Cited
- Basic Inc. v. Levinson, 485 U.S. 224 (1988) (materiality standard for omissions/misrepresentations)
- Ernst & Ernst v. Hochfelder, 425 U.S. 185 (1976) (intent required for §10(b) claims; sets standard for scienter)
- Green Tree Fin. Corp. v. Fla. State Bd. of Admin., 270 F.3d 645 (8th Cir. 2001) (severe recklessness as equivalent to intent for fraud)
- Edward J. Goodman Life Income Trust v. Jabil Circuit, Inc., 594 F.3d 783 (11th Cir. 2010) (backdating case; discusses materiality and scienter standards)
- Novak v. Kasaks, 216 F.3d 300 (2d Cir. 2000) (egregious disregarding of obvious risks can show recklessness)
- In re Ceridian Corp. Secs. Litig., 542 F.3d 240 (8th Cir. 2008) (distinguishes negligence from fraud; recklessness required for fraud)