-------------------- BEGINNING OF PAGE #1 ------------------- SECURITIES AND EXCHANGE COMMISSION (Release Nos. 33-7101; 34-34831; 35-26141; 39-2324; IC-20613) File No. S7-29-94 Safe Harbor For Forward-Looking Statements AGENCY: Securities and Exchange Commission ACTION: Concept Release and Notice of Hearing SUMMARY: The Securities and Exchange Commission ("Commission") is soliciting comment on current practices relating to disclosure of forward-looking information. In particular, the Commission seeks comment on whether the safe harbor provisions for forward- looking statements (set forth in Rule 175 under the Securities Act of 1933 ("Securities Act"), Rule 3b-6 under the Securities Exchange Act of 1934 ("Exchange Act"), Rule 103A under the Public Utility Holding Company Act of 1935 and Rule 0-11 under the Trust Indenture Act of 1939) are effective in encouraging disclosure of voluntary forward-looking information and protecting investors or, if not, should be revised and if revised, how. The Commission also seeks comment on various changes to the existing safe harbor provisions that have been suggested by certain commentators. Finally, the Commission is announcing that public hearings will be held beginning February 13, 1995, to consider these issues. DATES: Comments should be received on or before January 11, 1995. Public hearings will begin at 10:00 a.m. on February 13, 1995. Those who wish to testify at the hearings must notify the Commission in writing of their intention to appear on or before December 31, 1994. The written notification should include a brief summary of the proposed testimony. Those who do not wish to appear at the hearings may submit written testimony on or before January 11, 1995 for inclusion in the hearing record. The schedule of appearances, date for submission of final written testimony by persons who will appear, and an agenda for the hearings will be announced by the Commission shortly before the hearings commence. ADDRESSES: Persons wishing to submit notice of an intent to appear at the hearings, written comments or testimony should file three copies thereof with Jonathan G. Katz, Secretary, Securities and Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549. All written notice, comments and testimony should refer to File No. S7-29-94. All written material will be available for public inspection and copying in the Commission's Public Reference Room, 450 Fifth Street, N.W., Washington, D.C. 20549. FOR FURTHER INFORMATION CONTACT: Kevin C. Bruce or Andrew A. Gerber, Attorney-Advisers in the Division of Corporation Finance or Amy Bowerman Freed, Deputy Chief Counsel, Division of Corporation Finance at (202) 942-2900. SUPPLEMENTARY INFORMATION: I. Introduction. Forward-looking information-[1]- occupies a vital role in -[1]- The term "forward-looking statement" is defined in current Rule 175 as limited to the following: (1) A statement containing a projection of revenues, income (loss), earnings (loss) per share, capital (continued...) -------------------- BEGINNING OF PAGE #2 ------------------- the United States securities markets. Investors typically consider management's forward-looking information important and useful in evaluating a company's economic prospects and consequently in making their investment decisions.-[2]- Analysts and other market participants report that they view consideration of management's own performance projections, i.e., earnings and revenues, to be critical to their own forecasts of a company's future performance. As such, forward-looking information is often considered a critical component of investment recommendations made by broker-dealers, investment advisers and other securities professionals.-[3]- A. Development of Safe Harbor. 1. Wheat Commission. Until the early 1970s, the Commission prohibited disclosure of forward-looking information.-[4]- This policy was based primarily on the Commission's perception that such information was inherently unreliable, and that unsophisticated investors would place undue emphasis on the information in making investment decisions.-[5]- Acting on the recommendation of a number of securities analysts,-[6]- the Commission formed a Disclosure Policy Group (the "Wheat Commission") to study a variety of disclosure issues, including whether projections should be permitted or mandated in Commission filings. While the Wheat Commission's Report to the Commission, published in 1969, recognized that most investment decisions are -[1]-(...continued) expenditures, dividends, capital structure or other financial items; (2) A statement of management's plans and objectives for future operations; (3) A statement of future economic performance contained in management's discussion and analysis of financial condition and results of operations included pursuant to Item 303 of Regulation S-K or Item 9 of Form 20-F; or (4) Disclosed statements of the assumptions underlying or relating to any of the statements described in (1),(2), or (3) above. 17 CFR 230.175. -[2]- Advisory Committee on Corporate Disclosure to the Securities and Exchange Commission, Report to the House Committee on Interstate and Foreign Commerce, 95th Cong., 1st Session, (Committee Print 1977) [hereinafter the "Advisory Committee Report"]; Securities Act Release No. 6084 (Jun. 25, 1979); see also H. Pitt and K. Groskaufmanis, Securities Law, Nat. L. J. (Aug. 22, 1994) at B4. -[3]- Advisory Committee Report, supra note 2, at 351. -[4]- Securities Act Release No. 5362 (Feb. 2, 1973). -[5]- Disclosure to Investors: A Reappraisal of Administrative Policies Under the 1933 and 1934 Acts (1969) at 94 [hereinafter the "Wheat Report"]. -[6]- Security analysts had suggested that the Commission permit "controlled" projections of sales and earnings in prospectuses and other documents filed with the Commission. Wheat Report, supra note 5, at 95-96. -------------------- BEGINNING OF PAGE #3 ------------------- based essentially on estimates of future earnings, the Commission determined that the detriments to investors associated with permitting forward-looking disclosure weighed against lifting the ban on disclosure of such information. In the Wheat Commission's view, the heightened litigation exposure, updating requirements and risk of undue investor reliance on this information outweighed any countervailing benefits.-[7]- 2. Rulemaking Initiatives. The Commission continued to consider these issues and conducted hearings in 1972 to determine whether to lift the ban and, instead, either mandate or permit disclosure of forward- looking information. The 1972 hearings involved fifty-three witnesses and resulted in the submission of over 200 letters of comment. A significant number of those letters were from issuers objecting to any suggestion that they be required to file forward-looking statements with the Commission. Following those hearings, the Commission elected in 1973 not to require disclosure of forward-looking information, but announced in a policy statement its intention to promulgate rules to permit voluntary disclosure of projections and to protect those projections from civil antifraud liability.-[8]- In 1975, the Commission issued a series of proposals designed to implement the 1973 policy statement.-[9]- Specifically, the proposals would have: 1. required the filing of a Form 8-K by any registrant that (a) had furnished a projection to any person, (b) had reason to believe that its public projections no -[7]- The Wheat Report stated these findings as follows: From a management standpoint, projections may change rapidly during a given year as changes occur in the factors on which they are based. Inclusion of such changing projections in a prospectus, which might be used long after it became effective would give rise to significant problems. It has been the Commission's long- standing policy not to permit projections and predictions in prospectuses and reports filed with the Commission. Such documents are designed to elicit material facts. Their factual character is widely recognized. Investors and their advisers are at liberty to make their own projections based on the disclosures resulting from the Commission's requirements. A real danger exists, in the Study's judgment, that projections appearing in prospectuses and other documents filed under securities laws and reviewed by the Commission would be accorded a greater measure of validity by the unsophisticated than they would deserve. Wheat Report, supra note 5, at 95-96. -[8]- Securities Act Release No. 5362 (Feb. 2, 1973)("[t]he Commission has never required a company to publicly disclose its projections and does not intend to do so now"). The Commission stated that its decision not to mandate disclosure of forward-looking statements was based on its desire not to deviate too far from its historical position of prohibiting such disclosure. Id. -[9]- See Securities Act Release No. 5581 (April 28, 1975). -------------------- BEGINNING OF PAGE #4 ------------------- longer had a reasonable basis, (c) had determined to cease issuing projections, or (d) wished to disassociate itself from a third person's projections; 2. amended Form 10-K to (a) require inclusion therein of all prior projections, together with actual and historical results; (b) require inclusion of projections for future periods that had been previously filed with the Commission; and (c) limit the filing of projections to those issuers with Exchange Act reporting histories and budgeting experience and to those projections that satisfied the requirements of proposed safe harbor Rules 132 (a proposed predecessor of Rule 175) and 3b-6; 3. created new Rules 132 and 3b-6, providing a safe harbor "by defining circumstances under which a projection would be deemed not to be an untrue or misleading statement of a material fact or a manipulative, deceptive, or fraudulent device, contrivance, act or practice as those terms are used in the various liability provisions of the federal securities laws"; and 4. required that all projection information contained in the text of Form 10-K (but not exhibits) be included in the registrant's annual report to shareholders.-[10]- In 1976, these proposed rules were withdrawn by the Commission in response to opposition from commenters.-[11]- In withdrawing the proposals, the Commission stated its hope that forward- looking information and the need for a safe harbor would be among those issues considered by the newly formed Advisory Committee on Corporate Disclosure.-[12]- 3. Advisory Committee Report. The Advisory Committee on Corporate Disclosure was formed in 1976 to evaluate certain of the Division of Corporation Finance's disclosure policies - among them the Division's policy on disclosure of forward-looking information.-[13]- On November 3, 1977, the Advisory Committee submitted its report to the -[10]- See id. -[11]- See Securities Act Release No. 5699 (Apr. 23, 1976). -[12]- See id. At the same time, the Commission expressed initial approval of new Division of Corporation Finance guides designed to encourage the inclusion of projections in Commission filings. These guides called for: (1) a good faith assessment of the reliability of the projection; (2) a reasonable basis for that assessment; (3) outside review of the projections; (4) the use of reasonable ranges; (5) the use of a reasonable period of projection; (6) the inclusion of assumptions on which the projection is based; (7) the inclusion of cautionary language; and (8) disclosure of the accuracy of the issuer's prior projections. The Commission authorized issuance of substantially similar final guides in Securities Act Release No. 5992 (Nov. 7, 1978). -[13]- See Exchange Act Release No. 12454 (May 18, 1976). -------------------- BEGINNING OF PAGE #5 ------------------- Commission.-[14]- In the course of its deliberations, the Advisory Committee had sought input from all interested persons on the costs and benefits of forward-looking information.-[15]- The Advisory Committee recommended in its report that the Commission act to encourage forward-looking disclosures, and made several specific recommendations regarding the form and substance of proposed Commission action. First, in recognition that the Commission needed experience with projections disclosure in order to evaluate the wisdom of establishing a regulatory framework for such disclosure, the Committee stated that its recommendations were intended to encourage projections on an experimental basis. Such voluntary disclosure would enable the Commission to assess both the usefulness of the information to investors, and the costs to issuers of providing that information.-[16]- If forward-looking information disclosures ultimately were found to be beneficial to investors, the Committee believed that market forces, rather than a Commission mandate, would operate effectively to compel issuers to make such disclosures.-[17]- Second, the Committee recommended that the Commission adopt a safe harbor that would protect forward-looking statements made in good faith and with a reasonable basis, regardless of whether those statements were included in documents filed with the Commission. The Committee recommended that the burden be placed on the person seeking to establish antifraud liability for the forward-looking statement to show a lack of good faith or reasonable basis.-[18]- Third, the Committee opined that a safe harbor should be available to all registrants, regardless of size and reporting history. It also recommended that companies be required to publish cautionary language along with the projection, to indicate clearly the nature of the projection and caution investors against ascribing undue weight thereto.-[19]- The Committee believed that disclosure of assumptions should be encouraged, but not required.-[20]- Further, the Committee concluded that companies should be encouraged, but not required, -[14]- Advisory Committee Report, supra note 2. -[15]- Id.; see also Exchange Act Release No. 12454 (May 18, 1976)(noting public meetings held by the Advisory Committee and case studies to be conducted by the Advisory Committee of thirty public companies, financial analysts and investment decision makers). -[16]- Advisory Committee Report, supra note 2, at 353. -[17]- Id. at 354. -[18]- Id. at 344. -[19]- See id. -[20]- Although the Committee recognized the value of assumptions, it opted against requiring disclosure of assumptions for two reasons: (a) because of the experimental nature of the program, the Committee apparently concluded that fewer mandatory disclosure items were appropriate; and (b) in order to encourage as many issuers to use the safe harbor rule as possible, the Committee wanted to keep the rule simple and thus facilitate compliance. Id. -------------------- BEGINNING OF PAGE #6 ------------------- to compare actual results with earlier projections and to explain any significant variance. While the Committee recommended that companies be reminded of their obligations to keep a published projection from becoming misleading in light of subsequent events, it urged that no formal requirement to update projections be imposed. In the Committee's view, companies should be permitted either to discontinue making projections or to resume such projections after discontinuation, but should not do so without a reasonable basis. The Committee had a different view of mandatory disclosure and updating in connection with forward-looking information disseminated during the Securities Act registration process. Specifically, the Committee expressed its opinion that "the Commission should require companies to include such current projections covering the current period in their registration statements (updated as necessary) filed under the Securities Act."-[21]- With respect to the type of information that should be disclosed, the Committee believed that companies should have the flexibility to choose which items to disclose, but should not be permitted to disclose only "favorable" items. Finally, the Committee recommended that the Commission permit third-party review of projections, provided that the third-party reviewer's credentials, extent of review, and relationship with the issuer were disclosed.-[22]- 4. Adoption of Safe Harbor Provision. In response to the Advisory Committee Report, the Commission announced in early 1978 that the Committee's recommended safe harbor rule would receive formal Commission consideration, along with any alternatives the Commission deemed appropriate.-[23]- Later that year, the Commission issued for public comment two versions of a safe harbor rule for forward-looking information: the Advisory Committee version, in the same form as the Committee had proposed, and another version formulated by the Commission.-[24]- As set forth in the Commission's proposing release, the differences between the two proposals, as well as the questions asked and comments requested, reflected the Commission's reservations with respect to certain aspects of the Advisory Committee proposal. First, the Commission was particularly concerned that the burden of proving a lack of reasonable basis, which the Committee recommended be imposed on the plaintiff, "could be insurmountable."-[25]- The Commission therefore proposed an alternative rule that would have placed the burden on the defendant to prove that a challenged projection was made in good faith and with a reasonable basis. There were several other substantive differences between the two proposals. Unlike the Advisory Committee's proposal, the Commission's alternative extended to third-party projections, while concomitantly restricting safe harbor protection to financial projections and similar statements, limiting safe -[21]- Id. at 361. -[22]- The Committee believed that any such reviewer should be deemed an expert and should file an appropriate consent with the registration statement. Id. -[23]- Securities Act Release No. 5906 (Feb. 15, 1978). -[24]- See Securities Act Release No. 5993 (Nov. 7, 1978). -[25]- Id. -------------------- BEGINNING OF PAGE #7 ------------------- harbor protection to statements made about reporting companies, and excluding statements about investment companies. Significantly, both proposed safe harbor rules covered all oral and written forward-looking information, not just when contained in Commission filings. Neither proposal specifically required inclusion of current projections in registration statements filed under the Securities Act, and no mention was made in the release of the reasons for this omission. In response to the proposals, the Commission received approximately 90 letters of comment. A majority of commenters expressed a belief that a rule incorporating aspects of both proposals would provide the best incentive for projection disclosure.-[26]- Although a few commenters expressed continuing reservations about the Commission's proposed shift in policy from prohibiting to encouraging projection disclosure, virtually all agreed that a safe harbor rule was desirable and necessary.-[27]- Most commenters agreed that the safe harbor should be extended to statements made on behalf of the issuer (i.e., by third party reviewers). Several commenters criticized other aspects of the Commission's alternative proposal, arguing that the burden of proof for establishing that a projection did not have a reasonable basis or was not made in good faith should be imposed on the plaintiff,-[28]- and that the rule's coverage should be extended beyond revenues, earnings, and "other financial items" to encompass management's plans and objectives.-[29]- Commenters argued that the rule's protections should not be limited to companies with a reporting history.-[30]- Commenters concurred in the proposal to forego conditioning the rule's availability on inclusion of the information in Commission filings on the ground that such a condition could result in a loss of the safe harbor's protections based on a technical or inadvertent filing delinquency. Comments on the propriety of projections by investment companies were mixed.-[31]- In 1979, the Commission adopted a safe harbor provision that -[26]- Securities Act Release No. 6084 (Jun. 25, 1979). -[27]- Id. -[28]- Id. Placing the burden on corporate defendants to prove that a projection was prepared with a reasonable basis and disclosed in good faith was viewed as undermining the Commission's goal of encouraging projection disclosure, and possibly worse than no rule at all. -[29]- Id. -[30]- Id. According to the release, commenters argued that "forecast information may be most valuable regarding companies that do not have a history of public information." Id. -[31]- Id. As the Commission observed, "some commenters did not perceive a basis for distinguishing between investment companies and other issuers.... Other commenters believed that the type of information generated by investment companies would be more difficult to forecast with reliability and is dependent upon market factors and responses to market events that are inherently unpredictable." -------------------- BEGINNING OF PAGE #8 ------------------- generally combined aspects of both proposals.-[32]- Virtually identical safe harbor provisions were codified in Rule 175 under the Securities Act and Rule 3b-6 under the Exchange Act.-[33]- These provisions offered safe harbor protection for specified forward-looking statements but only where made, reaffirmed, or later published, in documents filed with the Commission. On this point, the Commission stated that this "filing" requirement would provide investors with better access to the information and a more reliable framework within which to evaluate the forward- looking statement, and would enable the Commission to maintain oversight of the accuracy and completeness of the disclosure. Second, the final rule incorporated the Advisory Committee's recommendation of placing the burden of proof on the plaintiff to show that the forward-looking information lacked a reasonable basis and was made otherwise than in good faith. The Commission reasoned that the liberal discovery procedures available in the federal courts had permitted plaintiffs to elicit the evidence necessary to sustain this burden. The Commission stated that it would monitor the operation of the safe harbor rule to assure that it was not inconsistent with the pre-eminent statutory goal of investor protection.-[34]- The safe harbor provision, as adopted, did not require the publication of assumptions underlying forward-looking statements covered by the rule. In describing the basis for this decision, the Commission "re-emphasize[d] its position on the significance of assumption disclosures," explaining that: Under certain circumstances the disclosure of underlying assumptions may be material to an understanding of the projected results. The Commission also believes that the key assumptions underlying a forward-looking statement are of such significance that their disclosure may be necessary in order for such statements to meet the reasonable basis and good faith standards embodied in the rule. Because of the potential importance of assumptions to investor understanding and in order to encourage their disclosure, the rule as adopted indicates specifically that disclosed assumptions are also within its scope.-[35]- The Commission made explicit the availability of the safe harbor to third-party reviewers, both those retained by the company and those making projections on behalf of management. Also, while not adding any requirement to update projections, the Commission reiterated its earlier position that projections protected by the safe harbor must be corrected when subsequent events or discoveries render them false or misleading. Finally, the Commission elected not to extend coverage of the rule to investment companies registered under the Investment Company Act of 1940. While not rejecting the possibility that projections could be valuable to shareholders of registered investment companies, the Commission stated that "the nature of information reported by investment companies is sufficiently -[32]- See Securities Act Release No. 6084 (Jun. 25, 1979). -[33]- 17 CFR 230.175 (1994), 17 CFR 240.3b-6 (1994). -[34]- Id. -[35]- Id. -------------------- BEGINNING OF PAGE #9 ------------------- distinct to warrant separate consideration."-[36]- The safe harbor provision has retained its essential elements, although the Commission has made several technical modifications since its adoption.-[37]- B. Management's Discussion and Analysis Interpretative Release. Since 1979, the Commission has further refined its position on disclosure of forward-looking information, particularly in the context of developing and interpreting the management's discussion and analysis ("MD&A") requirements applicable to the Form 10-K and other required filings, as codified in Regulation S-K Item 303.-[38]- These contain a number of provisions that call for disclosure of prospective information.-[39]- An instruction to Item 303(a) states that the MD&A "shall focus specifically on material events and uncertainties known to management that would cause reported financial information not to be necessarily indicative of [the] future... ."-[40]- In contrast to this required disclosure of "presently known data which will impact upon future operating results," registrants are expressly encouraged, but not required, to supply forward-looking information.-[41]- The Commission clarified the distinction between "voluntary" and "mandatory" forward-looking disclosure in a 1989 interpretative release relating to MD&A: Both required disclosure regarding the future impact of presently known trends, events or uncertainties and optional forward-looking information may involve some -[36]- Id. The Commission decided not to require that investment companies provide forward-looking disclosure under the recently-adopted "management's discussion of performance" requirement for registered open-end investment companies. Securities Act Release No. 6988 (Apr. 6, 1993). -[37]- See Securities Act Release No. 6949 (Jul. 30, 1992); Securities Act Release No. 6353 (Mar. 3, 1982); Securities Act Release No. 6304 (Mar. 27, 1981); Securities Act Release No. 6291 (Feb. 17, 1981); and Securities Act Release No. 6288 (Feb. 9, 1981). -[38]- Regulation S-K Item 303, 17 CFR 238.303 (1994). -[39]- With respect to liquidity, disclosure is required of "any known trends or any known demands, commitments, events or uncertainties that will result in or that are reasonably likely to result in..." material changes. See Regulation S-K Item 303(a)(1), 17 CFR 229.303(a)(1) (1994). With respect to capital resources, the disclosure calls for "any known material trends, favorable or unfavorable..." Regulation S-K Item 303(a)(2)(ii), 17 CFR 229.303(a)(2)(ii) (1994). With respect to sales, revenue or income, the Item calls for "any known trends or uncertainties that have had or that the registrant reasonably expects will have a material favorable or unfavorable impact..." Regulation S-K Item 303(a)(3)(ii), 17 CFR 229.303(a)(3)(ii). -[40]- See Regulation S-K Item 303, Instruction 3, 17 CFR 229.303 (1994). -[41]- See Regulation S-K, Item 303, Instruction 7, 17 CFR 229.303 (1994). -------------------- BEGINNING OF PAGE #10 ------------------- prediction or projection. The distinction between the two rests with the nature of the prediction required. Required disclosure is based on currently known trends, events, and uncertainties that are reasonably expected to have material effects, such as: a reduction in the registrant's product prices; erosion in the registrant's market share; changes in insurance coverage; or the likely non-renewal of a material contract. In contrast, optional forward-looking disclosure involves anticipating a future trend or event or anticipating a less predictable impact of a known event, trend or uncertainty.-[42]- Thus, the Commission has distinguished between mandatory and voluntary forward-looking statements for disclosure purposes. Moreover, in the context of transactions involving an issuer's or affiliate's purchase of the issuer's shares, or a business combination, forward-looking information (including projections) may be required pursuant to Rule 10b-5.-[43]- C. Qualitative Performance. There appears to be increasing interest, on the part of both registrants and users of their financial reports in the investor and analyst communities, in enhanced disclosure of information that may affect corporate performance but is not readily susceptible of measurement in traditional, quantitative terms. -[44]- Among such qualitative informational items are workforce training and development, product and process quality and customer satisfaction. A large registrant considers one such item -- product quality -- to be so important to its profitability that it has chosen to make it a key determinant of executive compensation.-[45]- Other companies are beginning to experiment with voluntary disclosure of the utilization of an intangible asset termed "intellectual capital," or employee knowledge.-[46]- In this connection, another federal agency has urged more corporate disclosure of the use of measures of "high performance work practices and other nontraditional measures" of corporate performance.-[47]- -[42]- Securities Act Release No. 6835 (May 18, 1989). -[43]- Projections might also be contained in documents required to be filed and discussed pursuant to specific line item requirements. See Item 4(b) of Form S-4; 17 CFR 239.25; Item 9 of Schedule 13E-3; 17 CFR 240.13e.100 -[44]- See R. Eccles and S. Mavrinac, Improving the Corporate Disclosure Process (Harvard Business School Working Paper 94-061 (1994)(hereinafter "Eccles & Mavrinac"); Stewart, Your Company's Most Valuable Asset: Intellectual Capital, Fortune, October 3, 1994 at 68 (hereinafter "Stewart"). -[45]- See Chrysler Corporation, 1994 Proxy Statement, filed March 16, 1994. -[46]- See Stewart, supra note 44; (citing Skandia AFS' 1994 Annual Report to Shareholders). See also 1994 Annual Reports to Shareholders submitted to the Commission by Dow Chemical Corporation and National Steel Company. -[47]- Letter from Secretary Robert B. Reich to Chairman Arthur Levitt (Oct. 3, 1994). -------------------- BEGINNING OF PAGE #11 ------------------- With respect to the interest of users in this type of "soft," or nonquantitative, corporate information, a large public pension fund factors labor-management relations and other aspects of human resource management into analyses of portfolio company performance in connection with the fund's investment and voting decisions, based on research indicating that workplace practices can be linked to corporate performance. -[48]- Private pension fund fiduciaries are likely to follow this example, given the Department of Labor's recent issuance of an interpretive bulletin urging such fiduciaries to monitor more closely portfolio companies' investment in training and otherwise developing their workforce. -[49]- Notwithstanding this growing market interest in access to qualitative performance information, registrants have expressed significant concern that disclosure of such information may expose them to greater litigation risk.-[50]- To the extent that this type of "soft" information does not fall within the current safe harbor definition of "forward-looking statements," however, it would not receive the protection of Rule 175 or 3b-6. II. Judicial Approaches Toward Liability for Forward-looking Statements. Contemporaneously with the evolution of the Commission's policy on disclosure of forward-looking information, the federal courts have adopted a variety of approaches toward private -[48]- See IRRC Corporate Governance Highlights, (July/August 1994) at 15-16 (reporting that the California Public Employees' Retirement System, the nation's largest public pension fund, announced that it will consider workplace practices along with financial performance criteria in connection with the fund's annual corporate governance review of portfolio companies, based on the positive correlation found by economist Lilli A. Gordon between "high-performance workplace practices" and enhanced productivity and long-term financial performance of such companies). -[49]- Department of Labor Interpretive Bulletin 94-2; 59 FR 38860 (July 29, 1994). -[50]- See, e.g., Letter from Frank J. Borelli, Treasurer, Financial Executives Institute to Edmund L. Jenkins, Chairman, AICPA Special Committee on Financial Reporting, dated Aug. 8, 1994 (objecting to Jenkins Committee proposals for expanded disclosure of additional forward-looking and qualitative performance information due in part to litigation exposure). See also Eccles & Mavrinac, supra note 44; Stewart, supra note 44. The Conference Board has established a working group headed by Dr. Carolyn Brancato and comprised of U.S and foreign companies, institutional investors, analysts, and U.S. regulators. Charged with developing a systemic approach to disclosure of corporate performance, both on a financial and non-financial basis, by the spring of 1995, the Group is exploring ways of: (a) encouraging companies to report their use of qualitative performance criteria despite the perceived litigation risk; and (b) educating institutional investors, analysts and others as to the utility of such information and its relationship to such quantitatively measured indicia of corporate performance as earnings. -------------------- BEGINNING OF PAGE #12 ------------------- antifraud claims arising from such disclosures.-[51]- A. Untrue Statement of Fact. The courts first addressed the question of whether predictions or statements of opinion could ever be considered to be "facts" which could be said to be false or misleading for purposes of liability under the securities laws. In Marx v. Computer Sciences Corporation,-[52]- the court found that while predictions could properly be characterized as facts, the failure of a prediction to prove true was not in itself actionable. Instead, the court looked at the factual representations which it found were impliedly made in connection with the prediction; namely that, at the time the prediction was made, it was believed by its proponent and it had a valid basis.-[53]- If a prediction -[51]- The safe harbor provided by Rules 175 and 3b-6 has been implicated in only a small portion of cases involving forward-looking statements. See Arazi v. Mullane, 2 F.3d 1456 (7th Cir. 1993); Krim v. BancTexas Group, Inc., 989 F.2d 1435 (5th Cir. 1993); Roots Partnership v. Lands' End, Inc., 965 F.2d 1411 (7th Cir. 1992); Wielgos v. Commonwealth Edison Co., 892 F.2d 509 (7th Cir. 1989). -[52]- 507 F.2d 485 (9th Cir. 1974). -[53]- Id. at 489-90 ("[T]he forecast may be regarded as a representation that . . . [the issuer's] informed and reasonable belief was that at the end of the coming period, earnings would be approximately $1.00. . . . In addition, because such a statement implies a reasonable method of preparation and a valid basis, we believe also that it would be `untrue' absent such preparation or basis."). Many courts have adopted similar formulations. See In re Apple Computer Securities Litigation, 886 F.2d 1109, 1113 (9th Cir. 1989) ("A projection or statement of belief contains at least three implicit factual assertions: (1) that the statement is genuinely believed, (2) that there is a reasonable basis for that belief, and (3) that the speaker is not aware of any undisclosed facts tending to seriously undermine the accuracy of the statement. A projection or statement of belief may be actionable to the extent that one of these implied factual assertions is inaccurate." (citing Marx)); Isquith v. Middle South Utilities, Inc., 847 F.2d 186, 203-04 (5th Cir. 1988) ("Most often, whether liability is imposed depends on whether the predictive statement was `false' when it was made. The answer to this inquiry, however, does not turn on whether the prediction in fact proved to be wrong; instead, falsity is determined by examining the nature of the prediction -- with the emphasis on whether the prediction suggested reliability, bespoke caution, was made in good faith, or had a sound factual or historical basis." (footnote omitted)); Kirby v. Cullinet Software, Inc., 721 F.Supp. 1444, 1450 (D.Mass. 1989) ("At a minimum, a prediction must be made in good faith and with a sound historical or factual basis."). Rule 175 and Rule 3b-6 follow a similar path by providing that a covered statement shall not be deemed to be, inter alia, an untrue statement of a material fact, (continued...) -------------------- BEGINNING OF PAGE #13 ------------------- was not believed when made or did not have a valid basis, it would constitute an untrue statement of fact which could then be analyzed in accordance with the other necessary elements of the action:-[54]- i.e., materiality, reliance, scienter, and causation. B. Materiality and Reliance. Some courts have disposed of cases involving forward-looking statements without reaching the issue of these implied factual assertions by examining another element of the claim -- materiality or, as described in some cases, reliance. Most of these cases have been decided on the basis of the "bespeaks caution" doctrine,-[55]- which has been described as follows: The essence of the doctrine is that where an offering statement, such as a prospectus, accompanies statements of -[53]-(...continued) unless it is shown that such statement was made or reaffirmed without a reasonable basis or was disclosed other than in good faith. Although the Rules use the term "fraudulent statement" to refer to such an untrue statement of a material fact, a separate determination must be made as to whether the statement, though untrue, is fraudulent or otherwise actionable under the securities laws. In Wielgos v. Commonwealth Edison Co., supra at 513, the court considered the use of the term "fraudulent statement" in the Rules, but easily determined that Rule 175 applies to actions under 11 of the Securities Act even though liability under that section does not depend on "fraud." -[54]- Id. at 490. In the recent case of Rubinstein v. Collins, 20 F.3d 160, 169 (5th Cir. 1994), the court stated this point succinctly: Simply alleging that the predictive statements at issue here did not have a reasonable basis -- that is, that they were negligently made -- would hardly suffice to state a claim under Rule 10b-5. As we have consistently held, scienter is an element of such a claim. * * * Plaintiffs have satisfied the pleading requirements for scienter. They have claimed that the defendants either knew -- or were recklessly indifferent to -- the fact that the predictive statements did not have a reasonable basis. (Footnotes omitted.) -[55]- Seven circuit courts have applied the bespeaks caution doctrine in analyzing forward-looking statements (although the Sixth Circuit, after applying the doctrine in one case, stepped back somewhat in a subsequent decision). See In re Worlds of Wonder Sec. Litig., -- F.3d --, 1994 WL 501261 (9th Cir. 1994); Rubinstein v. Collins, 20 F.3d 160 (5th Cir. 1994); In re Donald J. Trump Casino Sec. litig., 7 F.3d 357 (3d Cir. 1993); Luce v. Edelstein, 802 F.2d 49 (2d Cir. 1986); Romani v. Shearson Lehman Hutton, 929 F.2d 875 (1st Cir. 1991); Moorhead v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 949 F.2d 243 (8th Cir. 1991). The Sixth Circuit adopted the doctrine in Sinay v. Lamson & Sessions Co., 948 F.2d 1037 (6th Cir. 1991), but revised its application of the doctrine in Mayer v. Mylod, 988 F.2d 635 (6th Cir. 1993). See generally Donald C. Langevoort, Disclosures that "Bespeak Caution," 49 Bus. Law. 481 (February 1994). -------------------- BEGINNING OF PAGE #14 ------------------- its future forecasts, projections and expectations with adequate cautionary language, those statements are not actionable as securities fraud.-[56]- Under the bespeaks caution doctrine, cautionary language, as a part of the "total mix" of information, may render a predictive statement immaterial as a matter of law,-[57]- or make it unreasonable for an investor to rely upon a predictive statement.-[58]- Recently, some courts have warned, however, that cautionary language, in and of itself, is not necessarily sufficient.-[59]- "To suffice, the cautionary statements must be substantive and tailored to the specific future projections, estimates or opinions in the prospectus which the plaintiffs challenge."-[60]- Some courts have taken a more extreme position, determining that, even without cautionary language, some predictions are not material. For example, referring to "soft," "puffing" statements, upon which no reasonable investor would rely, the Court of Appeals for the Fourth Circuit stated that, "projections of future performance not worded as guarantees are generally not actionable under the federal securities laws."-[61]- III. Criticisms of the Commission's Safe Harbor. Some have suggested that companies that make voluntary disclosure of forward-looking information subject themselves to a significantly increased risk of securities antifraud class actions.-[62]- Recent surveys suggest that this threat of mass -[56]- In re Donald J. Trump Casino Sec. Litig., 793 F.Supp. 543, 549 (D.N.J. 1992), aff'd, 7 F.3d 357 (3d Cir. 1993). -[57]- See In re Donald J. Trump Sec. Litig., supra at 371 ("[C]autionary language, if sufficient, renders the alleged omissions or misrepresentations immaterial as a matter of law."); In re Worlds of Wonder Sec. Litig., supra; Rubinstein v. Collins, supra. -[58]- Rubinstein v. Collins, supra at 167 (cautionary language affects "the reasonableness of the reliance on and the materiality of [the] projections." (footnotes omitted)). -[59]- See Rubinstein v. Collins, supra at 167-68; In re Donald J. Trump Casino Sec. Litig., supra at 371-72. -[60]- In re Donald J. Trump Casino Sec. Litig., supra at 371- 72. -[61]- Raab v. General Physics Corp., 4 F.3d 286, 290 (4th Cir. 1993) (quoting Krim v. BancTexas Group, Inc., 989 F.2d 1435, 1446 (5th Cir. 1993)). In Malone v. Microdyne Corp., 26 F.3d 471, 479-80 (4th Cir. 1994), the Court of Appeals relied on Raab in finding that a forward-looking statement was not actionable because the "statement obviously did not constitute a guarantee and was certainly not specific enough to perpetrate a fraud on the market." -[62]- U. Gupta & B. Bowers, Small Fast-Growth Firms Feel Chill of Shareholder Suits, Wall St. J., April 5, 1994 at B2. See generally Staff Sen. Subcommittee on Securities of the Committee on Banking, Housing and Urban Affairs, Report on Private Securities Litigation, (1994) ("Senate Staff Report"). -------------------- BEGINNING OF PAGE #15 ------------------- shareholder litigation, whether real or perceived, has had a chilling effect on disclosure of forward-looking information.-[63]- Contrary to the Commission's original intent, the safe harbor is currently invoked on a very limited basis in a litigation context.-[64]- Some critics of the current safe harbor provisions cite, among other things, the following as weaknesses of the safe harbor: - the protections of the safe harbor are too narrow because they are limited to filed documents, resulting in selective disclosure made outside Commission documents;-[65]- - the provisions of the safe harbor are not applied by the courts in a manner that results in quick and inexpensive dismissals of frivolous lawsuits;-[66]- - there is a great deal of confusion over the nature and scope of any duty to correct or update projections once they are made; -[67]- and - the safe harbor language is silent as to when a company may be liable for statements made by third parties. A. Suggested Underinclusiveness of Current Safe Harbor. Some critics argue that the current safe harbor is ineffective largely because it is too narrow, in that it only covers statements made in documents filed with the -[63]- National Venture Capital Association, The Impact of Securities Fraud Suits on Entrepreneurial Companies (Jan. 1994); National Investors Relations Institute, Corporate Survey on Shareholder Litigation Effects (Feb. 1994); American Stock Exchange CEO Survey, Securities Litigation and Stock Option Accounting 1 (Apr. 1994). -[64]- See Louis Loss and Joel Seligman, Securities Regulation, 622-39 (1992); Barondes, The Bespeaks Caution Doctrine: Revisiting the Application of Federal Securities Law to Opinions and Estimates, J.Corp. L. 243, 247 (1994). -[65]- See American Stock Exchange Survey, CEOs Would Release More Financial Information If Litigation Albatross Were Removed (1994); See generally S. Marino and R. Marino, An Empirical Study of Recent Securities Class Action Settlements Involving Accountants, Attorneys, or Underwriters, Sec. Reg. L. J. (1994) at 115; V. O'Brien and R. Hodges, A Study of Class Action Securities Fraud Cases 1988-1993 (working draft 1994); J. Macey and G. Miller, The Plaintiffs' Attorney's Role in Class Action and Derivative Litigation: Economic Analysis and Recommendations for Reform, 58 U. Chicago L. Rev. 1 (1991). -[66]- Senate Staff Report, supra note 62. -[67]- Manns, Duty to Correct: A Suggested Framework, 46 Md. L. Rev. 1250 (1987). -------------------- BEGINNING OF PAGE #16 ------------------- Commission.-[68]- They contend that, due to this underinclusiveness, the safe harbor provides no comfort in most situations involving disclosure of forward-looking information. While acknowledging concern that the problem of selective disclosure prompted the Commission to adopt such a limitation in 1979,-[69]- these critics contend that this very limitation has created the unintended by-product of fostering such selective disclosure. Many public companies complain that they face increasing analyst and institutional demands for immediate access to predictive information. Some issuers argue that, solely to gain the benefits of the safe harbor through reaffirmation of oral responses to recurring marketplace inquiries in Commission documents, they would be put to the impossible task of memorializing every analyst discussion. Given the informal and often unpredictable nature of communications between issuers and analysts, the provision in the safe harbor requiring Commission filing of forward-looking information is viewed as both counterproductive and highly impractical. B. Judicial Application. Another complaint commonly raised is that the provisions of the existing safe harbor do not influence the standards that courts apply in securities fraud cases. The safe harbor is infrequently raised by defendants, perhaps because it compels judicial examination of reasonableness and good faith, which raise factual issues that often preclude early, prediscovery dismissal. Thus, critics state that the safe harbor is ineffective in ensuring the quick and inexpensive dismissal of frivolous private lawsuits. These critics argue that, unless the courts vigorously apply a higher pleading threshold sufficient to sustain a motion to dismiss based on the allegations of a class- action complaint, the mere threat of litigation will continue both to discourage management from making forward-looking disclosure and cause those companies that nonetheless provide such disclosure to incur significant costs in defense of nonmeritorious litigation. Those urging reform thus maintain that, in order for a safe harbor effectively to encourage forward-looking disclosure, it must add protection over and above those afforded by judicial doctrines developed under what are characterized as the "housekeeping" provisions of the Federal Rules of Civil Procedure -- Rules 9(b) and 12(b)(6).-[70]- -[68]- See, e.g., M. Seeley, In I.P.O.'s, the More Data the Better, New York Times Forum, April 26, 1992. The majority of litigated cases appear to arise out of non- filed forward-looking statements further undercutting the utility of the safe harbor. -[69]- See Advisory Committee Report, supra note 2. -[70]- In deciding motions under Rule 12(b)(6) of the Federal Rules of Civil Procedure, at least one commentator has noted that courts apply different standards of materiality. See Sullivan, Materiality of Predictive Information After Basic: A Proposed Two-Part Test of Materiality, 1990 U. Ill. L. Rev. 207 (1990). For motions decided under Rule 9(b) of the Federal Rules of Civil Procedure, some courts have imposed a high burden on plaintiffs, requiring them to allege specific facts that give rise to an inference of fraudulent intent. Romani v. Shearson Lehman Hutton, 929 F.2d 875 (1st Cir. 1991); see also DiLeo v. Ernst & Young, 901 F.2d (continued...) -------------------- BEGINNING OF PAGE #17 ------------------- A related criticism is that courts are inconsistent in applying the safe harbor when it is implicated in the litigation. The courts do not always refer to the safe harbor when it is implicated.-[71]- One court refused to permit the use of the safe harbor because the earnings forecast in question had been presented "as a fact certain rather than as a 'projection' or 'forward-looking statement.'"-[72]- In this regard, commenters assert that the Commission should provide greater guidance to the judiciary with respect to the appropriate application of the safe harbor. C. Duty to Correct or Update. A further criticism of the Commission's existing safe harbor is that the rule has created confusion over whether and when there is a duty to correct or update projections once they are made. A recent article suggests that issuers are often advised by their counsel to refrain from making forward-looking statements in Commission filings, or even from speaking to analysts, because they fear that by doing so they will "assume" a duty to update their forward-looking statements as and when the facts and circumstances surrounding their original statements change.-[73]- Furthermore, the paucity of caselaw in this area has left issuers without comfort or certainty as to when and if there is any duty to update or correct.-[74]- Commentators have questioned how long a forward-looking statement will be considered current and how far in the future, if at all, an -[70]-(...continued) 624 (7th Cir. 1990). Other courts appear to have been more lenient. In re Glenfed, 11 F.3d 849 (9th Cir. 1993) ("plaintiff must allege facts that would give rise to an inference that the defendant did not believe the statements or knew of their falsity"). -[71]- The courts seldom refer to the safe harbor unless it is raised by the defendant. Examples of cases in which the safe harbor was implicated but not referenced include Mayer v. Mylod, 988 F.2d 635 (6th Cir. 1993), Romani v. Shearson Lehman Hutton, 929 F.2d 875 (1st Cir. 1991), and In re Control Data Corp., 933 F.2d 616 (8th Cir. 1991). -[72]- Allyn Corp. v. Hartford National Corp., 1982 WL 1301 (D.Conn. 1982). -[73]- See H. Pitt and K. Groskaufmanis, Selective Disclosure can be Perilous, Nat'l. L. J. (Apr. 18, 1994) at B4. -[74]- The First Circuit has stated that the duty to update is triggered if a statement having a forward intent or implication, upon which investors are expected to rely, has been made. Backman v. Polaroid, 910 F.2d 17 (1st Cir. 1990) (en banc). The Ninth Circuit stated that an accurate announcement of past events did not carry with it the duty to disclose whether past trends would continue. In re Convergent Technologies Securities Litigation, 948 F.2d 507 (9th Cir. 1991). See generally Schneider, Update on the Duty to Update: Did Polaroid Produce the Instant Movie After All?, 23 Rev. of Sec. & Commodities Reg. 83 (May 9, 1990). -------------------- BEGINNING OF PAGE #18 ------------------- issuer must continue to update.-[75]- D. Entanglement and Endorsement. Another concern voiced by companies is whether to make forward-looking disclosures to securities analysts and institutional investors, whether in the context of initial public offering "roadshows" or otherwise, and the corresponding liability for any forward-looking statements included in the analysts' reports or statements. Companies complain that a better balance must be struck between the incentives and disincentives of disclosure to analysts.-[76]- The New York Stock Exchange, the American Stock Exchange, and the National Association of Securities Dealers encourage listed or quoted corporations to seek out formal and informal contact with analysts to facilitate the accurate pricing of their securities.-[77]- The Commission also encourages such communications as a complement to disclosure under the Exchange Act.-[78]- The foregoing regulatory incentives must be viewed in light of potential issuer liabilities. While courts appear generally to impose no duty on a corporation to review or comment on analysts' reports, a corporation may become sufficiently entangled with the analysts' statements, by reviewing or correcting drafts of reports or otherwise, so as to assume a duty to correct or update the analyst's statements.-[79]- Another risk arises from selective disclosures that may be characterized as tipping.-[80]- As a result of these risks, frequently perceived to outweigh the benefits, some corporations have gone so far as to announce that they will not speak to analysts about -[75]- See generally, C. Schneider, Soft Disclosure: Thrust and Parries When Bad News Follows Optimistic Statements, 26 Rev. Sec. & Comm. Reg. 5 (1993); R. Rosenblum, An Issuer's Duty Under Rule 10b-5 To Correct and Update Materially Misleading Statements, 40 Cath. Univ. L. Rev. 289 (1991). -[76]- See generally A. Berkeley & M. Smith, Corporate Disclosure: Potential Pitfalls, Securities & Commodities Regulation (June 26, 1991). -[77]- See New York Stock Exchange Manual, 202.02; American Stock Exchange Guide 402; and National Association of Securities Dealers Investor Relations Guide, Cultivating the Investment Community, at 18. -[78]- Securities Act Release No. 6504 (Jan. 13, 1984). -[79]- Elkind v. Liggett & Myers, 635 F.2d 156, 163 (2d Cir. 1980). Commentators have suggested that even a management response that an analyst's estimates are "too high," "too low" or "in the ballpark" can give rise to liability by suggesting that management bore some type of responsibility for the estimate; see generally Potential Pitfalls, supra note 76. -[80]- See Securities and Exchange Commission v. Stevens, Lit. Rel. No. 12813 (March 19, 1991); Elkind, supra. See generally M. Goldman, K. Schuelke, J. Danforth and S. Thau, Disclosures to Financial Analysts (PLI September- October 1993). -------------------- BEGINNING OF PAGE #19 ------------------- future earnings projections.-[81]- IV. Alternatives to Current Safe Harbor Provision. The Commission generally is examining the current effectiveness of its safe harbors as codified in Rules 175 and 3b-6. Some commentators and groups have submitted proposals to amend the safe harbor. The Commission is considering these proposals and the issues that each proposal raises, as well as its own experience in interpreting and administering the safe harbor. Where specific proposed regulatory text has been provided by these commentators or groups, that text is attached in the appendix to this release.-[82]- A. "Seasoned Issuer" Proposal. The "Seasoned Issuer" Proposal, suggested by the Association of Publicly Traded Companies ("APTC"), would provide a safe harbor precluding private actions for oral and written forward- looking statements with respect to securities quoted on the NASDAQ Stock Market or listed on a national securities exchange. It would apply only to secondary trading transactions and would not modify the Commission's enforcement authority. The proposed safe harbor would be available to issuers subject to the reporting requirements of sections 13 or 15(d) of the Exchange Act that have timely filed all reports required to be filed within the six months prior to the making of the statement. The proposed safe harbor would not be available to penny stock issuers. It also excludes issuers that had been convicted of securities law violations or issuers that had been the subject of any securities related injunction within the previous five years. The term "forward-looking statement" is defined in the proposed safe harbor to include any economic projection, statement of management's plans and objectives for future operations, statement of future performance and assumptions underlying the foregoing. B. Business Judgment Rule Proposal. Commissioner Beese has proposed a safe harbor provision patterned after the state-law "business judgment rule."-[83]- In the pattern of that rule, the safe harbor would establish a principle of judicial non-intervention. As such, the safe harbor would protect directors and officers from judicial review of shareholder antifraud claims when forward-looking statements are made unless a plaintiff can establish a conflict, a lack of good faith, or a failure of honest and reasonable belief. The safe harbor would cover oral or written forward-looking information, whether or not made or reaffirmed in Commission filings. Liability still could be imposed on directors or officers who make fraudulent statements, intentionally misstate facts, or fail to disclose material information when required. To ensure that an officer or director was meeting his duties under the business judgment rule, a company would be encouraged to keep a projection binder reflecting the data underlying the projections. In the event that a private lawsuit was filed, the company would proffer the binder to the court. The burden then would shift to the plaintiffs to show why the projections lacked -[81]- See, e.g., J. Coffee, Disclosures to Analysts are Risky, Nat'l L.J. (Feb. 1, 1993). -[82]- The transmittal letters pursuant to which some of these proposals were submitted to the Commission are included in the public file (S7-29-94). -[83]- See, e.g., Paramount Communications Inc. v. QVC Network, Inc., 637 A.2d 34, 46 n.17 (1994); Cede & Co. v. Technicolor, Inc., 634 A.2d 345 (1993). -------------------- BEGINNING OF PAGE #20 ------------------- a proper factual basis at the time they were made. If unable to meet this burden, the case would be dismissed without any discovery.-[84]- C. "Heightened Definition" Proposal. The "Heightened Definition" Proposal, put forth jointly by the Business Roundtable and the National Association of Manufacturers, would apply to all forward-looking statements and reaffirmations thereof, by or on behalf of a registrant or an outside reviewer retained by the registrant, whether or not filed with the Commission. The proposed safe harbor would apply to the same information as is protected by the current safe harbor but would expressly extend to both qualitative and quantitative statements of management's plans and objectives for future operations, including plans for the development and delivery of new products or services. The provision would apply to all statements of reporting issuers that have timely filed their most recent annual report. As provided under the existing rule, non-reporting issuers also could rely on the safe harbor, but only if the forward-looking statement were made in a solicitation of interest document submitted under Securities Act Rule 254, in a registration statement or Regulation A Offering Circular filed under the Securities Act, or in a registration statement filed under the Exchange Act. Liability would be imposed only if a misstatement or omission is material, made or omitted with scienter, and, for private plaintiffs, relied upon. Materiality would be defined as information that would significantly alter the total mix of information available. Scienter would be defined as actual knowledge or intentional omission to state a material fact. Reliance would be defined as actual knowledge of and actual reliance on the forward-looking statement in connection with the purchase or sale of a security. Under the proposal, there would be no attribution to the issuer of statements made by third parties unless the issuer expressly endorsed or approved of the statement. Finally, an issuer would not have a duty to update a forward-looking statement unless it expressly undertook to do so at the time the statement was made. D. "Bespeaks Caution" Proposal. Professor John Coffee suggests a safe harbor that would codify a variant of the "Bespeaks Caution" doctrine - articulated in terms of an investor's inability to rely in an action for fraud upon statements protected by the safe harbor. Under this proposed safe harbor, which would be available to reporting companies (except penny-stock issuers), a forward-looking statement would be protected so long as it were properly qualified and accompanied by "clear and specific" cautionary language that explains in detail sufficient to inform a reasonable person of both the approximate level of risk associated with that statement and the basis therefor. Forward- looking statements made, either orally or in writing, outside the four corners of a Commission filing would be covered only if reaffirmed in a filed document or annual report made publicly available within a reasonable period after the statement is first disseminated. The suggested safe harbor would not require that the forward-looking statement have a "reasonable basis" (as under existing Rules 175 and 3b-6) because, according to Professor -[84]- The Association for Investment Management and Research ("AIMR") has expressed support for Commissioner Beese's proposal. See Letter from Michael S. Caccesse, Senior Vice President and General Counsel, AIMR, to Catherine Dixon dated October 7, 1994. -------------------- BEGINNING OF PAGE #21 ------------------- Coffee, this requirement often raises factual issues that cannot easily be resolved at the pre-trial stage. Professor Coffee's approach also contemplates amendments to the incorporation-by-reference provisions of the Securities Act registration forms-[85]- that would exempt qualifying forward- looking statements made in Exchange Act filings from automatic incorporation by reference in Securities Act filings, and therefore from potential liability under the antifraud provisions of the Securities Act. Existing Rule 175 would remain available where registrants affirmatively seek inclusion of Exchange Act filings in Securities Act registration statements. E. "Fraudulent Intent" Proposal. Under the "Fraudulent Intent" proposal, submitted by Mr. William Freeman, a forward-looking statement would be protected by the safe harbor unless it is shown that the statement was made recklessly or with an actual intent to deceive. In order to demonstrate that a statement was made recklessly, a plaintiff would be required to demonstrate that at the time the statement was made, the issuer was aware of facts that made it highly unlikely that the projection could be achieved. F. "Disimplication" Theory. Professor Joseph A. Grundfest has suggested that, just as the courts have implied the existence of a private right of action under Rule 10b-5, the Commission may disimply such a right of action by redefining the element of a private Rule 10b-5 claim.-[86]- For example, Professor Grundfest has suggested that if the Commission should decide that if "projections deserve greater protection than is now afforded by Rule 175, then Rule 10b-5 can be amended to require a showing of 'knowing securities fraud,' demonstrating 'actual knowledge that the [projection] is false,' as a precondition for private recovery in a Rule 10b-5 action complaining of a falsely optimistic projection."-[87]- G. Reasonable Basis In Fact Proposal. The "Reasonable Basis In Fact" proposal, suggested by Jonathan Cuneo on behalf of the National Association of Securities and Commercial Attorneys ("NASCAT") protects forward- looking statements, whether written or oral and whether or not filed with the Commission, unless it can be shown that the statement was made without a reasonable basis in fact, was seriously undermined by existing facts, was not genuinely believed or was made other than in good faith. The term "forward-looking statement" is defined to include any statement concerning future revenues, income, earnings, capital expenditures, dividends, products, services or lines of business, capital structure or other financial items, as well as management's plans or objectives for the future or the future economic performance of the corporation. The term also includes statements or assumptions underlying or relating to the foregoing. H. "Opt-In" Proposal. -[85]- See, e.g., Item 12 of Forms S-2 and S-3 (17 CFR 239.12- 13 (1994)); Items 11-13 of Form S-4 (17 CFR 239.25 (1994)); Item 12 of Forms F-2 and F-3, (17 CFR 239.32- 33 (1994)); Items 11-14 of Form F-4 (17 CFR 239.36)(1994)). -[86]- Grundfest, Disimplying Private Rights of Action Under the Federal Securities Laws: The Commission's Authority, 107 Harv. L. Rev. 961 (1994). -[87]- Id. at 1012 (footnotes omitted). -------------------- BEGINNING OF PAGE #22 ------------------- The "Opt-In" proposal, suggested by Harvey Pitt, Karl Groskaufmanis and Gilbey Strub, would require issuers to make a formal election to "opt in[to]" a specified safe harbor disclosure regime.-[88]- Issuers opting in would be required to make forward-looking disclosure for a minimum of four quarters. Before a company may "opt out" of the safe harbor disclosure regime, it must provide notice 30 days before its next periodic report. The notice must detail the reasons for opting out, and statements therein would not be protected by the safe harbor. The company would be prohibited from opting back into the safe harbor disclosure regime for another year. In order to be protected, the statements must have an adequate basis in fact, be issued in good faith and be consistent with any similar forward-looking information used contemporaneously by the issuer. For an issuer that has "opted in" to the safe harbor disclosure regime, only the Commission would be permitted to bring suit for projections that are made in bad faith or without a reasonable basis. V. Solicitation of Public Comment. The Commission seeks comment on a number of issues. Commenters should discuss both the continuing effectiveness of the current safe harbors in accomplishing the primary goal of encouraging broader dissemination of forward-looking information to the investing public, and whether the Commission should consider any change to the current safe harbor. Would one or more of the proposals outlined above, any combination thereof, or any other proposal commenters may wish to identify fulfill this goal more effectively without compromising investor protection? Do the concerns outlined in Part III above, either individually or in the aggregate, warrant revisiting and/or revising the existing safe harbor? Commenters should explain in detail all bases for their conclusion. A. Types of Information Covered by a Safe Harbor. Assuming a safe harbor continues to be necessary or appropriate in the interests of the investing public, commenters should discuss what types of information should be eligible for safe harbor coverage. Commenters supporting safe harbor coverage for forward- looking information should address the reasons justifying a distinction between forward-looking and historical information (either purely retrospective or based on estimate or opinion) with respect to the level of protection afforded to each. Does the fact that the person making the statements has unique knowledge concerning the basis for forward-looking statements support or undercut this distinction? Commenters may wish to specify whether qualitative information, including but not limited to the type described above in Part I, is relevant to investors such that its disclosure should be encouraged. If so, should such information be included in the safe harbor? Should forward-looking information that is currently part of required audited financial information (such as loan-loss reserves, pension liabilities or contingent environmental liabilities) be included?-[89]- Are there certain types of forward-looking information that should be per se excluded from the safe harbor (e.g., such as required audited information, or the "known trends and uncertainties" disclosure required by the MD&A)? -[88]- H. Pitt, K. Groskaufmanis and G. Strub, Securities Law, Nat. L. J., August 22, 1994, at B4. -[89]- See Regulation S-K Item 101(c)(xii), 17 CFR 229.101(c)(xii); Industry Guide 3, Summary of Loan Loss Experience, 17 CFR 229.801 (1994). -------------------- BEGINNING OF PAGE #23 ------------------- Should the safe harbor distinguish between oral and written statements, between statements filed with the Commission and non- filed statements, or between Securities Act required statements and others? Should the Commission require that any oral statement for which safe harbor coverage is sought be reduced to writing and filed with the Commission at or around the time that statement is first disseminated? If not, commenters should describe the legal and/or practical impediments, if any, to a contemporaneous filing requirement. Are there certain situations, i.e., an initial public offering, in which safe harbor protection should be limited to statements made in Commission filings? Are commenters' views on these questions affected by the type of forward-looking information under consideration? For example, do different types of forward- looking information imply different degrees of reliability, e.g., numerical financial projections as opposed to general statements of management's outlook? If so, should a broader safe harbor provide protection for a narrower category of information than does Rule 175 currently, or would differing safe harbors be warranted? B. Voluntary Disclosure. Should the Commission continue its current general policy of voluntary disclosure of forward-looking information or should some or all of such information, given its significance, be mandated? If left voluntary, should any such information used in the offer or sale of securities by the issuer be required to be included in the prospectus? Would this be an appropriate solution to the issue of selective disclosure of key soft information during road shows? If not, commenters should explain this conclusion and discuss alternative approaches. C. Scope of the Safe Harbor. Should the safe harbor be procedurally based or substantively based or both? For example, should the safe harbor be available only if the forward-looking information is reviewed by the board Audit Committee, or some other board level committee or committee of top management or an outside reviewer, or should the standard be a substantive one dependent on the reasonableness or other criteria of the information itself, regardless of the review process, or both? D. Eligibility for and Conditions to Use of Safe Harbor. Should all issuers be eligible for the safe harbor or only certain issuers that satisfy specified conditions, such as sufficient reporting history and/or public float to ensure a market following? What other conditions might be appropriate? Should issuers be required to opt-in or opt-out of a safe harbor alone or in combination with the foregoing? If so, what should the opt-in/opt-out conditions be? Should an issuer be required to specify that it is seeking the protection of the safe harbor by making a public filing, or by stating with regard to each safe harbor-eligible statement (where the issuer chooses the safe harbor's protection), that the statement is being made subject to the safe harbor, or by otherwise providing a "bespeaks caution" or other cautionary language? How could this condition be met (or policed) for oral statements or written statements made outside of Commission filings? Should the burden of proof be shifted from the plaintiff to the defendant corporation, generally or with respect to certain types of disclosures, i.e., written statements outside Commission filings, oral statements, etc.? Should shareholders be permitted, or required to vote on the availability of any safe harbor? If so, should shareholders be permitted to approve or authorize more extensive safe harbors than those that would otherwise be available at the election of the issuer? Should the safe harbor require disclosure of key assumptions -------------------- BEGINNING OF PAGE #24 ------------------- because that information is uniquely within the control of the issuer? If assumptions were required to be disclosed along with the forward-looking information, how would this affect the judicial treatment of forward-looking cases? For example, if assumptions were required to be disclosed, would it make it easier for courts to evaluate motions to dismiss cases on a procedural motion and/or impose sanctions for the bringing of frivolous suits? Would this requirement be more or less effective coupled with any proposed litigation reforms? Should the safe harbor be unavailable (or provide greater or absolute protection) if an insider, or specified insiders, traded (or no insider, or specified insiders, traded) within a specified period where the insiders(s) avoided a loss or made a gain (or failed to do so) based on the dissemination and subsequent correction of the forward-looking statement? E. Elements of the Safe Harbor. Commenters should outline and discuss each element of an effective safe harbor. In this connection, should the safe harbor set forth a separate definition of materiality differing from that otherwise applicable under Commission rules and case law? Should the safe harbor impose and/or specify parameters for a duty to update or correct? Should the safe harbor require that a private plaintiff establish that he or she actually relied on forward-looking statements? Should a new definition of scienter be included in the safe harbor, e.g., by eliminating recklessness as an element of proof? In answering this question, commenters should discuss separately implied and express rights of action, as well as Commission and private actions. Should a safe harbor include judicially developed concepts such as the "business judgment rule," "bespeaks caution" doctrine and/or any other judicial approaches discussed in the release? What treatment should the safe harbor give to information that the issuer does not disclose that may be relevant to evaluating the forward- looking statement? F. Private Actions. Should the safe harbor distinguish between Commission enforcement action and private actions? Should the answer to the foregoing question depend on whether the underlying cause of action is express or implied? Would the Commission be able to compensate through enhanced enforcement for any reduction in the number of private suits in this area resulting from adoption of a particular safe harbor? How would any limitation on private actions, whether directly imposed or incorporated in a safe harbor, affect the Commission's longstanding policy of promoting private actions for fraud as a necessary supplement to Commission enforcement? Should private litigants be required to pursue any antifraud claims arising from statements covered by a safe harbor in a nonjudicial forum -- for example, through arbitration or some other form of alternate dispute resolution? Some commentators have suggested that a safe harbor should be adopted that would permit private antifraud actions to proceed only if the Commission first brings a successful enforcement action for fraud. Commenters are invited to address the merits of this suggestion and means of its implementation. G. Issuer Duties Under the Safe Harbor. Should an issuer be required to update any forward-looking information? If so, for how long? Should the answer turn on whether disclosure is mandated by the Commission's disclosure requirements (i.e., MD&A) or voluntary? Should an issuer be required to compare projections to actual results to provide information as to the reliability of the projections? Should an issuer be required to disclose and/or to file assumptions or the basis for a statement, as now required for issuers that elect to -------------------- BEGINNING OF PAGE #25 ------------------- provide option grant values calculated under the option pricing models?-[90]- Should the safe harbor require a registrant to correct forward-looking information rendered false or misleading after its initial disclosure? Should this duty extend only to information filed with the Commission? Should a duty be imposed on issuers to update and/or correct forward-looking information disclosed by others? Should the safe harbor expressly provide that there is no duty to update and/or correct statements made by others? Should the safe harbor include a duty to update and/or correct statements only if the issuer becomes sufficiently "entangled" with the third party? If so, should the safe harbor delineate those acts or omissions that would support a finding of entanglement? H. Registered Investment Companies. Is the forward-looking information that might be disclosed by registered investment companies, i.e., projections of fund performance, inappropriate for the protection of the safe harbor because it is contingent on the performance of the securities markets, and therefore subject to greater uncertainty and frequency of change? Do any other characteristics of registered investment companies warrant separate treatment of their forward- looking disclosure for purposes of the safe harbor or, more generally, should such disclosure by registered investment companies be afforded any protection under a safe harbor? Comment also is specifically invited as to whether distinctions should be made among different kinds of registered investment companies (e.g., open-end and closed-end, unit investment trust and management) for the purpose of encouraging forward-looking disclosure and providing safe harbor protection? In light of the fact that investment companies, unlike most other public companies, are not currently required to file current reports (Form 8-K) or quarterly reports (Form 10-Q), commenters should address how projections or other forward-looking information by investment companies would be revised or updated. I. Multiple Safe Harbors. Some suggest that if private actions were to be reduced or eliminated, some issuers would be willing to make additional filings with the Commission, either in connection with current periodic reports or on a new disclosure form, and be subjected to greater Commission oversight with lower thresholds for Commission enforcement actions and greater restrictions on information that can be provided orally. Other issuers may find these protections unnecessary, but would benefit from a safe harbor that simply made certain types of antifraud claims more difficult to prosecute successfully. Would it be reasonable to provide for or make available different types of safe harbors tailored to the particularized needs of differently situated issuers? Specifically, does the need for heightened protections of statements to analysts, whether oral or written, vary with the size and/or reporting history of the issuer? Should a different, more rigorous, safe harbor be made available to companies conducting an initial public offering, than that made available to companies with reporting histories? For example, are smaller issuers potentially affected differently than larger issuers so that different safe harbors should be available? Should the existing safe harbors in the Trust Indenture Act and the Public Utility Holding Company Act also be modified and, if so, why? J. Possible Alternatives or Supplements to a Safe Harbor. Commenters also may wish to discuss whether there are alternatives to a safe harbor that would accomplish the same goal -[90]- See Item 402(c) of Regulation S-K, 17 CFR 229.402(c). -------------------- BEGINNING OF PAGE #26 ------------------- of promoting enhanced disclosure of forward-looking information. For example, are there reforms with regard to the content and/or presentation of soft information -- whether within or outside of Commission filings -- that would obviate the need for a safe harbor or the need to change the current safe harbor? Are there litigation reforms relating more broadly to the scope of antifraud liability under the securities laws that would obviate the need for the safe harbor? For example, could an issuer be presumed to have no liability for forward-looking statements otherwise eligible for the safe harbor unless the named plaintiff or group of plaintiffs represents at least a minimum percentage (say 10%) of the affected shareholder class? To the extent that the current safe harbor is strengthened in favor of issuers, should there be concomitant strengthening of other safeguards for investors? In this regard, commenters may wish to discuss the practicality of accomplishing any such reforms, and the likelihood that any such reforms would succeed. In lieu of or in addition to revising the existing safe harbor, should the Commission redefine one or more elements of a private Rule 10b-5 claim (e.g., scienter, materiality and reliance)? VI. Public Hearings. The issues addressed in this release have attracted the interest of investors, registrants, analysts and other market participants, as well as lawyers, accountants, federal legislators and academics. In view of this broad interest, as well as the importance and complexity of these issues, the Commission intends to authorize public hearings to be conducted after the close of the comment period. Among other matters, these hearings will explore the assumptions underlying the different views expressed by these and other members of the public. Testimony from witnesses will be elicited about the efficacy and potential effects of different safe harbor approaches, the costs and benefits of each approach, the design of any safe harbor and issues that may be raised by the comment letters. After these hearings, the Commission will determine whether to propose amendments to the rules regarding forward- looking information. The hearings will begin at 10:00 a.m. on February 13, 1995 at 450 Fifth Street, N.W., Washington, D.C. 20549 room 1C30. The agenda and format for the hearings, as well as the schedule of witnesses will be announced in a subsequent release to be issued shortly before the hearings commence. Members of the public interested in testifying at the hearing should notify the Commission in writing of their intention to appear no later than December 31, 1994. The written notification should include a brief summary of the individual's intended testimony. Any person who does not wish to appear at the hearing may submit written testimony to be included in the hearing record. Such written testimony should be received by the Commission no later than January 11, 1995. All written notifications, testimony and comment letters should be addressed in triplicate to Jonathan Katz, 450 Fifth Street, N.W., Washington, D.C. 20549 and should refer to the comment file number of this release [S7-29-94] All written submissions and a transcript of the hearings will be made available for public inspection and copying in the Commission's Public Reference Room. The hearings will be open to the public. By the Commission. -------------------- BEGINNING OF PAGE #27 ------------------- Jonathan G. Katz Secretary October 13, 1994 APPENDIX SEASONED ISSUER PROPOSAL - ASSOCIATION OF PUBLICLY TRADED COMPANIES (a) A forward-looking statement made by or on behalf of an issuer, or an omission to state a fact necessary to make the statement not misleading, shall not serve as the basis for a private action for damages under the Securities Act of 1933 or the Securities Exchange Act of 1934 if: (1) The forward-looking statement is made in connection with a listed equity security or Nasdaq security for which transaction reports are required to be made on a mandatory real-time basis pursuant to an effective transaction reporting plan of an issuer which has been subject to the requirements of Section 12 or 15(d) of the Act and has filed all the material required to be filed pursuant to Sections 13, 14 or 15(d) for a period of six months; (2) The issuer is not an issuer of penny stock as defined in Section 3(a)(51)(A) of the Act and Commission regulations; (3) The issuer has not been convicted within five years prior to the making of the statement of any felony or misdemeanor in connection with the purchase or sale of any security or involving the making of any false filing with the Commission; (4) The issuer is not subject to any order, judgement or decree of any court of competent jurisdiction temporarily or preliminarily restraining or enjoining, or is not subject to any order, judgement or decree of any court of competent jurisdiction, entered within five years prior to the making of the statement, permanently restraining or enjoining the issuer from engaging in or continuing any conduct or practice in connection with the purchase or sale of any security or involving the making of any false filing with the Commission; (b) The term "forward-Looking statement" means: (1) A statement containing a projection of revenues, income (loss), earnings (loss) per share, capital expenditures, dividends, capital structure, growth rates, order rates, margin performance, price performance, backlog or other financial items whether stated in quantitative or qualitative terms; (2) A statement of management's plans and objectives for future operations; (3) A statement of future economic, product or business performance; or (4) Disclosed statements of the assumptions underlying or relating to any of the statements described in paragraph (b)(1), (2) or (3) above. HEIGHTENED DEFINITION PROPOSAL - BUSINESS ROUNDTABLE AND NATIONAL ASSOCIATION OF MANUFACTURERS. Rule 3b-6. Liability for Certain Statements by Issuers. Preliminary Note The Commission has recognized for many years that investors make decisions about the purchase and sale of securities with the future in mind. The market value of securities accordingly reflects the judgments of investors about the future economic -------------------- BEGINNING OF PAGE #28 ------------------- performance of an issuer. Notwithstanding the inherent uncertainty of all statements about the future, investors regard forward-looking statements by issuers as an important source of relevant information. Forward-looking statements therefore make an important contribution to the efficiency of the U.S. securities markets, and the Commission wishes to encourage issuers to make such statements. At the same time, the Commission recognizes that issuers have a justified concern about becoming involved in litigation arising out of such statements. As the Supreme Court has observed, "even a complaint which by objective standards may have very little success at trial has a settlement value to the plaintiff out of any proportion to its prospect of success at trial so long as he may prevent the suit from being resolved against him by dismissal or summary judgment. The very pendency of the lawsuit may frustrate or delay normal business activity of the defendant which is totally unrelated to the lawsuit." Blue Chip Stamps v. Manor Drug Store, 421 U.S. 723, 740 (1975). In order to encourage the release by issuers of forward-looking information, the Commission has adopted this "safe harbor" rule. The Commission encourages the courts to apply the rule so as to implement the Commission's intent, i.e., to provide issuers with reasonable assurance regarding the standards that will govern their liability for such information while at the same time assessing liability where an issuer's conduct falls outside the rule and is otherwise actionable under the federal securities laws. (a) General Rule. A statement within the coverage of paragraph (b) below which is made or alleged to be made by or on behalf of an issuer or by an outside reviewer retained by the issuer shall not serve as the basis of a violation of the Act unless (l) it relates to a misstatement or omission that is material within the meaning of paragraph (f), (2) it is made or omitted with scienter within the meaning of paragraph (g) and (3) the person challenging the statement (other than the Commission) relied on the statement within the meaning of paragraph (h). (b) Covered Statements. This rule applies to the following statements: (l) A forward-looking statement (as defined in paragraph (c) below), provided that: (i) At the time such statements are made or reaffirmed, either the issuer is subject to the reporting requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and has complied with the requirements of Rule l3a-l or l5d-l thereunder, if applicable, to file its most recent annual report on Form lO-K, Form lO-KSB, Form 20-F, or Form 40-F; or, if the issuer is not subject to the reporting requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, the statements are made in a registration statement filed under the Securities Act of 1933, offering statement or solicitation of interest written document or broadcast script under Regulation A, or pursuant to Section 12(b) or (g) of the Securities Exchange Act of 1934, and (ii) The statements are not made by an issuer that is an investment company registered under the Investment Company Act of 1940; and (2) Information which relates to (i) the effects of changing prices on the business enterprise, presented voluntarily or pursuant to Item 303 of Regulation S-K, or Regulation S-B, or Item 9 of Form 20-F, "Management's discussion and analysis of financial condition and results of operations," or Item 302 of Regulation S-K, "Supplementary financial information," or Rule 3-20(c) of Regulation S-X, or (ii) the value of proved oil and gas reserves (such as a standardized measure of discounted future -------------------- BEGINNING OF PAGE #29 ------------------- net cash flows relating to proved oil and gas reserves as set forth in paragraphs 30-34 of Statement of Financial Accounting Standards No. 69) presented voluntarily or pursuant to Item 302 of Regulation S-K. (c) Forward-Looking Statement. For the purpose of this rule, the term "forward-looking statement" shall mean and shal1 be limited to: (1) A statement containing a projection of revenues, income (loss), earnings (loss) per share, capital expenditures, dividends, capital structure or other financial items; (2) A statement of management's plans and objectives for future operations, whether qualitative or quantitative, including plans for the development and delivery of new products or services; (3) A statement of future economic performance; or (4) Disclosed statements of the assumptions underlying or related to any of the statements described in paragraph (c)(l), (2), or (3) above. (d) Third-Party Statements. A forward-looking statement shall be deemed not to have been made by or on behalf of an issuer for the purposes of paragraph (a) if it is made by any person other than the issuer or outside reviewer retained by the issuer and the issuer has not expressly and substantially contemporaneously endorsed or approved the statement. An issuer shall not be deemed to have any obligation to correct or update any statement made by a third party. (e) Duty to Update. An issuer shall not be deemed to have any obligation to update a forward-looking statement made by it unless it has expressly and substantially contemporaneously undertaken to update such statement. (f) Materiality. A forward-looking statement shall be deemed to be material only if it significantly alters the total mix of information made available regarding an issuer or its securities. (g) Scienter. An issuer shall be deemed not to have acted with scienter with respect to a forward-looking statement unless the issuer had actual knowledge that the statement was false or knowingly and intentionally omitted to state a fact for the purpose of rendering such statement misleading. Evidence that (1) the issuer's officers, directors or employees traded contemporaneously in the issuer's securities or were the beneficiaries of compensation awards (whether or not related to the value of the issuer's securities) or (2) information tending to cast doubt on a statement's accuracy was in the possession of the issuer's employees below the level at which reporting decisions are made (or at such level but prior to the time such information could reasonably be expected to have been taken into account in making the statement), shall not in either case, or in both cases, in and of itself, be sufficient to support a finding of actual knowledge that a statement is false or misleading. (h) Reliance. A forward-looking statement (or a statement derived therefrom) shall not be deemed to have been relied upon unless a person claiming such reliance had actual knowledge of and actually relied on such statement in connection with the purchase or sale of a security. BESPEAKS CAUTION PROPOSAL - PROFESSOR COFFEE Proposed Rule lOb-22. Liability for Certain Statements by Issuers (a) A purchaser or seller of securities shall not be entitled to rely in any action for fraudulent statement (as defined in paragraph (c) of this rule) upon a statement within the coverage of paragraph (b) of this rule. (b) This rule applies to the following statements (with the burden being on the plaintiff to show that a statement asserted -------------------- BEGINNING OF PAGE #30 ------------------- by an issuer or other defendant to fall within this paragraph does not in fact so qualify): (1) A forward-looking statement (as defined in Rule 3b-6 under the Securities Exchange Act of 1934) made in a document filed with the Commission, or in an annual report meeting the requirements of Rules 14a-3(b) and (c) or 14c-3(a) and (b) under the Securities Exchange Act of 1934, a statement reaffirming such forward-looking statement subsequent to the date the document was filed or the annual report was made publicly available, or a forward-looking statement made prior to the date the document was filed or the date that the annual report was made publicly available if such statement is reaffirmed in a filed document or in an annual report made publicly available within a reasonable period after the making of such forward-looking statement; (2) Information disclosed in a document filed with the Commission or in an annual report meeting the requirements of Rules 14a-3(b) and (c) or 14c-3(a) and (b) in response to (A) Item 303 of Regulation S-K or Regulation S-B with respect to liquidity, capital resources, and results of operations to the extent that such information identifies or describes the likely future impact of known trends or known demands, commitments, events or uncertainties or any expected changes with regard thereto, or (B) Item 302 of Regulation S-K or Rule 3-20(c) of Regulation S-X with regard to the affects of changing price levels on the business enterprise or the value of proved oil and gas reserves; Provided that, in either case (i) Such statement contains or is closely accompanied by clear and specific cautionary language that explains in detail sufficient to inform a reasonable person of the level of risk associated with, or inherent in, the statement and that identifies the specific basis for such statement and for such level of risk; (ii) At the time such statements are made or reaffirmed, the issuer is subject to the reporting requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934 and has complied with the requirements of Rule 13a-l or 15d-l thereunder, as applicable, to file its most recent annual and quarterly reports on [form references omitted]; (iii) the statements are not made by or on behalf of an issuer that (A) is an investment company registered under the Investment Company Act of 1940, (B) has outstanding a "penny stock" (as defined in section 3(a)(50) of the Securities Exchange Act of 1934), or (C) would then be disqualified under Rule 262(a) from use of Regulation A under the Securities Act of 1933. (c) For the purpose of this rule, the term fraudulent statement shall mean . . . [same as Rule 175(d)]. FRAUDULENT INTENT PROPOSAL - WILLIAM FREEMAN, ESQUIRE The following language would be substituted into paragraph (a) of Rules 175 and 3b-6 (new language in boldface italics): (a) A statement within the coverage of paragraph (b) of this section which is made by or on behalf of an issuer or by an outside reviewer retained by an issuer shall be deemed not to be a fraudulent statement (as defined in paragraph (d) of this section), unless it is shown that such statement was made or reaffirmed recklessly or with actual intent to deceive. A forward looking statement will not be deemed to be made or reaffirmed recklessly unless it is shown that the issuer was, or had to be, aware of facts that made it highly unlikely that the projection could be achieved. REASONABLE BASIS IN FACT - NATIONAL ASSOCIATION OF SECURITIES AND COMMERCIAL LAW ATTORNEYS ("NASCAT") -------------------- BEGINNING OF PAGE #31 ------------------- Liability for Certain Statements by Issuers (a) A statement within the coverage of paragraph (b) of this rule which is made by or on behalf of an issuer (whether directly or by or through the means of any other person) or by an outside reviewer retained by the issuer shall be deemed to not be a fraudulent statement (as defined in paragraph (d) of this rule), unless it is shown that, at the time such statement was made or reaffirmed (i) facts seriously undermining its accuracy existed; (ii) it was not genuinely believed; (iii) it lacked a reasonable basis in fact; or (iv) it was issued other than in good faith. (b) This rule applies to any forward-looking statement (as defined in paragraph (c) of this rule), whether written or oral. (c) For the purpose of this rule the term "forward-looking statement" shall mean: (1) Any statement concerning future revenues, income (loss), earnings (loss) per share, products, services or lines of business, capital expenditures, dividends, capital structure or other financial items; (2) Any statement of management's plans or objectives for the future; (3) Any statement of future economic performance; or (4) Disclosed statements of the assumptions underlying or relating to any of the statements described in paragraphs (c)(1), (2) or (3) above. (d) For the purpose of this rule the term "fraudulent statement" shall mean a statement which is an untrue statement of a material fact, a statement false or misleading with respect to any material fact, an omission to state a material fact necessary to make a statement not misleading, or which constitutes the employment of a manipulative, deceptive, or fraudulent device, contrivance, scheme, transaction, act, practice, course of business, or an artifice to defraud, as those terms are used in the Securities Act of 1933, the Securities Exchange Act of 1934 or the rules or regulations promulgated thereunder.