The Private Securities Litigation Reform Act of 1995 established a safe harbor for forward-looking statements. A company cannot be liable for making a forward-looking statement if, among other factors, the statement "is accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those in the forward-looking statement."

Under the safe harbor, numerous courts have granted motions to dismiss complaints, before any discovery, on the basis that, on their face, a company's cautionary statements were "meaningful." Thus, the safe harbor has given companies not only protection from liability, but also a means to be dismissed from a securities class action before being subjected to the burdens of discovery. However, in Asher v. Baxter Int'l Inc., 377 F.3d 727 (7th Cir. 2004), the Seventh Circuit (which has jurisdiction over federal courts in Illinois, Indiana and Wisconsin) recently held that discovery was necessary to determine whether the company's cautionary statements were "meaningful."

Baxter is a proposed class action brought under the Securities Exchange Act of 1934 and the Securities Act of 1933. Plaintiffs allege that a number of Baxter's public statements were fraudulent. The district court in Chicago dismissed the lawsuit on the ground that the challenged statements were forward-looking and were accompanied by "meaningful cautionary statements." Plaintiffs appealed.

The Seventh Circuit reversed the district court's decision. Judge Frank Easterbrook wrote the opinion. Although the court stated that it accepted the rule that a company need not anticipate and disclose all reasons for potential deviation from its forecasts, and that the securities laws do not require "prevision," the court ruled that discovery is necessary to determine whether the company believed the disclosed reasons to be "the 'important'" reasons:

There is no reason to think—at least, no reason that a court can accept at the pleading stage, before plaintiffs have access to discovery—that the items mentioned in Baxter's cautionary language were those thought at the time to be the (or any of the) "important" sources of variance.

Although it may appear technical, this ruling threatens a major protective provision of the 1995 Reform Act—the ability to be dismissed at the outset of a lawsuit before discovery has begun. This ruling only binds federal courts in Illinois, Indiana, and Wisconsin, but could impact rulings of other courts. Regardless, Baxter suggests that all public companies should continue to carefully review the risk factors that accompany forward-looking statements to make sure that they are as clear, current, and tailored as possible. In doing so, companies can, at a minimum, avoid a criticism that Judge Easterbrook identified in Baxter's cautionary language: "the cautionary language remained fixed even as the risks changed."

Finally, an aspect of the Seventh Circuit's ruling in Baxter is encouraging for public companies. Before deciding that it was not possible to rule before discovery that Baxter's cautionary statements were "meaningful," the court rejected plaintiffs' claim that Baxter's cautionary statements, located in its SEC filings, were not adequately referenced in its press releases and oral statements. The court ruled that because plaintiffs were relying on the "fraud-on-the-market" theory, they must acknowledge that "all" information available publicly—both the allegedly false statements and the cautionary statements—is reflected in the price of Baxter's stock. Thus, the court ruled that "Baxter's cautionary language must be treated as if attached to every one of its oral and written statements."

Additional Information

This Update is intended only as a summary of the decision in Asher v. Baxter Int'l Inc., 377 F.3d 727 (7th Cir. 2004). You can find discussion of other recent cases and other topics of interest on our website.