Versyss Incorporated v. Coopers
U.S. Court of Appeals for the First Circuit
Versyss Incorporated v. Coopers
Opinion
USCA1 Opinion
December 30, 1992
UNITED STATES COURT OF APPEALS
FOR THE FIRST CIRCUIT
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No. 92-1212
VERSYSS INCORPORATED,
Plaintiff, Appellant,
v.
COOPERS AND LYBRAND, ETC., ET AL.,
Defendants, Appellees.
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APPEAL FROM THE UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF MASSACHUSETTS
[Hon. Robert E. Keeton, U.S. District Judge]
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Before
Torruella, Cyr and Boudin,
Circuit Judges.
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Patrick J. Sharkey with whom Henry A. Sullivan, John F. Sylvia
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and Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. were on brief
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for appellant.
Steven W. Phillips with whom Christian M. Hoffman, Peter M. Casey
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and Foley, Hoag & Eliot were on brief for appellees.
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BOUDIN, Circuit Judge. This case presents a common
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problem in statutory interpretation. Congress drafted a law
that clearly embraces some transactions, clearly excludes
others, and is now brought to bear on a transaction that
Congress probably did not consider. We are left to make a
judgment based on clues garnered from statutory language,
legislative history, purpose and policy. In our view, the
transaction at issue does not fit comfortably within the
statutory language, and no clear policy or precedent
encourages courts to extend that language beyond its normal
bounds.
I.
On May 17, 1985, Continental Telecom, Inc. ("Contel")
entered into a merger agreement with Northern Data Systems,
Inc. ("NDS"). The agreement provided that NDS would be
merged into a newly created subsidiary of Contel and, in
exchange, NDS stockholders would receive Contel stock. Both
Contel and its merger subsidiary were Delaware corporations;
NDS was a Massachusetts corporation. At the time of the
merger agreement, NDS stock was publicly traded. Previously,
a registration statement under the Securities Act of 1933 had
been filed with the Securities and Exchange Commission in
connection with an August 1984 public offering of NDS stock.
See sections 5-6, 15 U.S.C. 77e-77p.
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The merger was approved by NDS stockholders, and NDS was
merged into the Contel subsidiary on July 16, 1985. In
accordance with the merger agreement, Contel's subsidiary as
the surviving corporation acquired effective ownership of the
assets, and responsibility for the debts, of the former NDS.
The merger agreement provided that on the date of the merger,
the "separate corporate existence of NDS shall terminate."
Thereafter, in accordance with the merger agreement, the
former NDS stockholders sent in their now defunct NDS stock
certificates to Contel's exchange agent and received their
Contel stock certificates.
Subsequent to the merger, Contel concluded that the NDS
registration statement had contained materially misleading
financial information, including information certified by the
accounting firm of Coopers & Lybrand. Although the
registration statement had been issued before the merger,
section 11 of the Securities Act of 1933, 15 U.S.C. 77k,
imposes (subject to certain limitations) continuing liability
for misstatements or material omissions in registration
statements; after the registration statement becomes
effective, a federal damage action may be brought, by "any
person acquiring such security," against any of a list of
specific responsible persons, including the certifying
accounting firm. Section 11(a), 5 U.S.C. 77k(a).
Accordingly, the present suit, now conducted by Versyss
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Incorporated as Contel's assignee, was brought against the
accounting firm of Coopers & Lybrand.
In the district court, Coopers & Lybrand moved for
summary judgment on the ground that Contel did not qualify as
a section 11 plaintiff because it had not "acquired [NDS]
securit[ies]." Patently, Contel "acquired" something in
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exchange for the many Contel shares it issued in the merger,
so the focus of the dispute is upon the term "security."
Pointing to the transfer of the NDS certificates, Versyss
claimed that NDS securities were acquired by Contel through
the merger. The district court, adopting Cooper & Lybrand's
view of the matter, held that the NDS stock certificates were
an empty shell not qualifying as a "security" and that the
essence of what Contel received was the assets and
liabilities of the former NDS. The district court then
granted summary judgment for Coopers & Lybrand on the section
11 claim, dismissing pendant state claims without prejudice.
This appeal followed.
II.
Statutory construction begins with statutory language.
The language in this case is straightforward: section 11 of
the Securities Act of 1933, so far as pertinent here, creates
a federal cause of action in favor of a purchaser "acquiring
a security" after a false or misleading registration
statement for that security has gone into effect unless the
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defendant makes out a statutory defense comprising, in
general terms, reasonable inquiry and good faith belief.
Sections 11(a)(4), (b), 15 U.S.C. 77k(a)(4), (b).
The term "security" is defined in both the Securities
Act of 1933 and Securities Exchange Act of 1934, provisions
which despite differences in language are construed alike.
Landreth Timber Co. v. Landreth, 471 U.S. 681, 686 n.1
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(1985). Nothing in the language of the definitions precisely
resolves the present issue except so far as the variety and
breadth of the definitions encourage a broad construction.1
But terms, even broadly construed, have outer limits, and
those limits are strained badly by describing what Contel
acquired through the merger as a "security."
On the date of the merger, and before any NDS stock
certificates were to be transferred to Contel's exchange
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1The 1933 Act definition, section 2(1), 15 U.S.C.
77b(1), provides:
"The term "security" means any note, stock,
treasury stock, bond, debenture, evidence of
indebtedness, certificate of interest or
participation in any profit-sharing agreement,
collateral-trust certificate, preorganization
certificate or subscription, transferable share,
investment contract, voting-trust certificate,
certificate of deposit for a security, fractional
undivided interest in oil, gas, or other mineral
rights, or, in general, any interest or instrument
commonly known as a "security," or any certificate
of interest or participation in, temporary or
interim certificate for, receipt for, guarantee of,
or warrant or right to subscribe to or purchase,
any of the foregoing."
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agent, NDS ceased to exist as a corporation. This is
ordinary merger-law jurisprudence (Frandsen v. Jensen-
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Sundquist Agency, Inc., 802 F.2d 941, 944 (7th Cir. 1986)
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("in a merger the shares of the acquired firm are not bought,
they are extinguished")) and accords with the Contel-NDS
agreement already quoted. Delaware's merger statute follows
this pattern, providing that in a merger "the separate
existence . . . of all such constituent corporations except
the one into which the other or others . . . have been merged
. . . shall cease . . . . [and] all property . . . shall be
vested in the corporation surviving . . . ." Del. Code Ann.
tit. 8, 259(a). Accord, Mass. Gen. Laws Ann. ch. 156B,
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80(a)(1), (5). Under the same statutes and the merger
agreement, upon the merger the assets and liabilities of NDS
became those of the surviving Contel subsidiary.
It follows that, when the merger became effective, NDS
stock underwent a considerable transformation. At that
point, the NDS stock certificates ceased to represent an
investment interest in the separate assets of NDS (since it
no longer existed), ceased to reflect voting rights in the
management of NDS (since NDS ceased to have a management),
and ceased to comprise a claim to dividends declared from NDS
earnings (since no such dividends could be issued). In sum,
for the NDS stock the essential characteristics of securities
ceased to pertain. "[A]t the moment a stock for stock merger
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is effective, the stock in a constituent corporation (other
than the surviving corporation) ceases to exist legally."
Shields v. Shields, 498 A.2d 161, 168 (Del. Ch.), appeal
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refused, 497 A.2d 791 (Del. 1985).
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If this view is taken, then--when the former NDS
stockholders turned in their NDS certificates after the
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merger--what Contel received was not "securities." At worst,
the certificates were wall-paper; at best, they represented
evidence that the parties who surrendered the certificates
were prior owners of NDS stock, entitled by virtue of the
merger agreement to be paid the Contel stock promised as
consideration. Nor does Contel's position improve if one
views the situation at the time after the merger agreement
was signed but before the merger was consummated. It may be
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that for some purposes a contract to acquire securities can
be treated as an acquisition. Cf. Sections 3(u)(13)-(14) of
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the 1934 Act, 15 U.S.C. 78c(a)(13)-(14). But, as the
trial judge pointed out, the merger agreement in this case
between Contel and NDS was not a step on the road to Contel's
acquiring of NDS securities but rather was an agreement to
merge NDS out of existence.
There is a second piece of evidence, culled from the
statutory language, that hinders Versyss' claim. Section 11
provides a damage formula for the cause of action it creates.
Simplifying somewhat, Section 11(e) provides that the
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recovery is to be the difference between the (presumptively
higher) price paid for the security when acquired by the
plaintiff-buyer and either of three (presumptively lower)
numbers: "(1) the value thereof [of the security] as of the
time such suit was brought, or (2) the price at which such
security shall have been disposed of in the market before
suit, or (3) the price at which such security shall have been
disposed of after suit but before judgment . . . ." 15
U.S.C. 77k(e).2
This language assumes a buyer of securities who pays a
price for and receives securities. Then, finding that the
securities are worth less than the price paid, the buyer
brings suit either for the loss of value or, if the buyer
sells before suit or before judgment, for the loss suffered
on account of the reduced sale price received by the buyer on
resale. In sum, the continuation of the acquired securities
in the hands of the plaintiff-buyer is a premise of the
damage calculation. Yet in this case the NDS securities
ceased to exist at the time of merger because the corporation
ceased to exist. It would be fantasy to speak of the non-
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2Subsection (e) provides a rule for choosing between
alternatives (2) and (3) if the security has been disposed of
after suit but before judgment, and it has several further
limitations and provisos dealing with special circumstances.
None of these provisions alters the basic structure of the
damage formula.
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existent NDS securities as suffering a post-merger decline in
value or being resold for less than the purchase price.3
Doubtless some formula could be jury-rigged to replicate
the substance of section 11(e), were the merger to be treated
as an acquisition of NDS securities by Contel. After all, if
Contel acquired all of the NDS securities in a tender offer
and then merged the company into its subsidiary, securities
would have been "acquired" and an arguable claim would exist
under section 11. But the statutory damage provision does
limn the transactions toward which Congress directed section
11; and, as we have just seen, the extinction of NDS
securities incident to the merger conflicts with section 11's
premise of continuity. Viewing the case from the standpoint
of damages may itself underscore the nature of Contel's real
complaint: that effective upon the merger it acquired a
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package of assets and liabilities formerly pertaining to NDS
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that was worth less than Contel had been led to believe.
III.
III.
Words normally have some elastic in their makeup.
Courts in other cases have stretched language further than
Versyss asks us to do in this case. If legislative history
or purpose encouraged that result, the question here might be
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3The section 11 damage remedy was added by amendment in
1934, 48 Stat. 908, but the original section 11 remedy--
rescission of the sale--also assumes continuation of the
securities.
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a close one. The difficulty is that an inquiry into history
and purpose, if instructive at all, favors the more literal
reading of the statute adopted by the district court.
The background of the 1933 Act is familiar history.
During the stock market boom that preceded the Great
Depression, a wave of speculation drove up the largely
unregulated market in securities. When the market collapsed
in 1929, "[f]ully half . . . of the securities floated during
this period . . . proved to be worthless. These cold figures
spell[ed] tragedy in the lives of thousands of individuals
who invested their life savings, accumulated after years of
effort, in these worthless securities." H.R. Rep. No 85,
73rd Cong., 1st Sess. 2 (1933). The most notorious example
was Samuel Insull's sale of several million shares of utility
stock to the public. The stock, sold to family members and
friends of Insull at $12 or less, opened at $30 in the market
and climbed to $149 a share, before it collapsed--to the
detriment of a million stock and bondholders. Joel Seligman,
The Transformation of Wall Street 21-23 (1982).
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One of the "foremost" causes of such losses was, in the
view of Congress, "the failure to furnish essential
information to prospective investors when they were invited
to buy securities." I Louis Loss & Joel Seligman, Securities
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Regulation 25 (3d ed. 1989). The broad purpose of the 1933
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Act was to require full disclosure to investors, and section
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11 was "designed to assure compliance with the disclosure
provisions of the Act by imposing a stringent standard of
liability on the parties who play a direct role in a
registered offering." Herman & Maclean v. Huddleston, 459
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U.S. 375, 381-82 (1983). Contemporaneous writings confirm
that the main target of section 11 was the sale of registered
securities to the public. See 77 Cong. Rec. 2918 (1933)
(Rep. Rayburn); Douglas & Bates, The Federal Securities Act
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of 1933, 43 Yale L.J. 171, 174-77 (1933).
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Needless to say, there is little resemblance between
this scene of ill-informed small investors buying investment
securities on original issue or later through the market and
the triangular "forward merger" by which Contel acquired NDS,
doubtless after careful study of information that went far
beyond the registration statement issued some years before
incident to a public NDS offering. This mismatch ought not
deprive Contel of a section 11 remedy in any case where
section 11's "acquiring such security" language fits the
transaction (for example, a tender offer acquisition by
Contel of the NDS shares). The mismatch does, however,
create doubt that stretching the language to fit Contel's
circumstances can be justified as serving Congress' purpose.
As the Supreme Court has reminded us, the federal
securities laws were not designed to provide "a broad federal
remedy for all fraud," Marine Bank v. Weaver, 455 U.S. 551,
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556 (1982), let alone for all negligence. If Coopers &
Lybrand has been careless in certifying the registration
statement and Contel relied on that statement in setting the
terms of the merger, then state law might or might not
provide a remedy, depending on how the state court approached
issues of negligence, foreseeability, and standing. Section
11, by contrast, is remarkably stringent where it applies,
readily imposing liability on ancillary parties to the
registration statement (like accountants) for the benefit
even of purchasers after the original offering. Its very
stringency suggests that, whatever the usual rule about
construing remedial securities legislation broadly (e.g., SEC
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v. Capital Gains Research Bureau, Inc., 375 U.S. 180, 195
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(1963)), some care should be taken before section 11 is
extended beyond its normal reading.
This is apparently a case of first impression, and
virtually none of the precedents provides much assistance.
Versyss' best case is SEC v. National Securities, 393 U.S.
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453, 466 (1969), which it offers for the proposition that the
transfer of stock in a merger is a purchase or sale of
securities under section 10(b) of the 1934 Act, 15 U.S.C.
78j(b). It is surely true under National Securities that the
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NDS stockholders would be treated for purposes of section
10(b) as having "sold" their NDS stock and "purchased" Contel
stock in return. Nothing in National Securities suggests,
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however, that Contel is to be treated as "acquir[ing]" the
NDS securities. The key to the anomaly--that a sale of
securities may occur without a purchaser of securities--is
that the securities, although relinquished by the seller are
never acquired by anyone because they cease to exist as
securities (by operation of merger law) at the same time as
they are relinquished.4
The lack of precedent for applying section 11 to our
facts may mean only that the acquiring company in a merger
transaction rarely relies upon statements in an earlier
registration statement of the acquired corporation. On the
other hand, it may be that such reliance has occurred from
time to time but, when the registration statement proved
false and the reliance misplaced, no one thought that section
11 applied. Even so, applying section 11 to merger
acquisitions might not unfairly upset settled expectations;
under section 11, accountants are held to demanding standards
when they certify registration statements and are liable to
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4The same reasoning disposes of Junker v. Crory, 650
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F.2d 1349 (5th Cir. 1981), in which the court held that a
merger may involve a purchase or sale of securities under
section 12(2) of the 1933 Act, 15 U.S.C. 77l(2) (condemning
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material misstatements or omissions in connection with such a
transaction). The court there was concerned with whether the
plaintiff who surrendered securities in the merged
corporation and received new securities in the surviving
corporation was a purchaser or seller (the court said the
plaintiff was both). Once again, this case would treat the
NDS stockholders as possible plaintiffs but says nothing
about the status of Contel.
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remote purchasers well beyond more predictable common law
limits. But section 11 does not make accountants liable to
everyone for any harm remotely flowing from a false or
inaccurate statement. See Abbey v. Computer Memories, Inc.,
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634 F. Supp. 870, 875 (N.D. Cal. 1986). The problem, simply
put, is to determine where Congress drew the line.
Many statutes, notably statutes of limitation, set
limits that create arbitrary stopping-points for liability.
Here, it has been assumed that Contel might well have a claim
under section 11 if it had acquired the NDS stock in a tender
offer and later merged it out of existence. It is even more
clear that it would have no claim whatever if the Contel-NDS
transaction had been framed as a pure acquisition of NDS
assets. Faced with a merger transaction that fits neatly
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into neither category, any construction of the statute will
leave discontinuities and a sense of lingering unease. For
us, there is greater conformity to language and less unease
in concluding that a security in a non-existent corporation
is not a "security" within the meaning of section 11.
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TORRUELLA, Circuit Judge (Dissenting). Section 11 of
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the Securities Act of 1933, 15 U.S.C. 77k(a), provides that
"any person acquiring [a] security" whose registration statement
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"contained an untrue statement of material fact or omitted to
state a material fact required to be stated" may sue "every
accountant . . . who has with his consent been named as having
prepared or certified any part of the registration statement"
(emphasis added). This section should impose liability on
Coopers & Lybrand in this case.
I arrive at my conclusion by reading the plain language
of 11 and deferring to the ordinary and common meaning of its
words. See Aaron v. SEC, 446 U.S. 680, 685 (1980) (construing
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17 of Securities Act of 1933 in light of plain meaning). In its
plain meaning, "acquire" means "to come into possession, control,
or power of disposal of often by some uncertain or unspecified
means." Webster's Third New International Dictionary 18 (1981);
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see also Black's Law Dictionary 41 (4th ed. 1951) (defining
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"acquire" similarly). "Security" is defined by the statute,
Securities Act of 1933, 2(1), 15 U.S.C. 77b(1), and the NDS
stock, prior to the merger, was covered by this definition.
The issue in this case, as I see it, is whether Versyss
ever gained possession, control or power of disposal over NDS
stock. In this regard, section 2.2 of the Agreement and Plan of
Reorganization, setting forth the terms of the merger, plainly
states that "each share of NDS Stock . . . by virtue of the
Merger and without any action on the part of the holder thereof,
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[shall] be converted into and exchanged for" Contel Stock
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(emphasis added). The words "be converted into and exchanged for"
indicate an acquisition of NDS stock by Contel in that Contel
gained possession, control, or power of disposal pursuant to the
merger. That is, by virtue of the merger, Contel sold Contel
securities which were issued in the merger to stockholders of
NDS, and bought all shares owned by NDS stockholders. That the
NDS stock ceased to exist following the consummation of the
merger is of no consequence because Contel acquired the stock
prior to such extinction. Indeed, Contel gained its ability to
extinguish NDS stock as a result of its acquisition.
Moreover, 11, like all securities statutes, must be
construed "flexibly to effectuate its remedial purpose." SEC v.
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Capital Gains Research Bureau, 375 U.S. 180, 195 (1963); see also
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Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128,
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151 (1972). In this regard, the Supreme Court has found that
Congress passed 11 to "assure compliance with the disclosure
provisions of the Act by imposing a stringent standard of
liability on the parties who play a direct role in a registered
offering." Herman & MacLean v. Huddleston, 459 U.S. 375, 381-82
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(1983) (citations omitted). Thus, Congress imposed essentially
fiduciary standards upon those who sign registration statements,
including ethical and competence standards meant to ensure sound
and honest business practices. H.R. Rep. No. 152, 73d Cong., 1st
Sess. 23 (1933). Accountants such as Coopers & Lybrand have a
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particularly heavy responsibility to the public. H.R. Rep. No.
85, 73d Cong., 1st Sess. 9 (1933).
Interpreting "acquire" to include mergers consummated
by stock exchange, such as the one which occurred here, furthers
these goals. In passing 11 Congress wished to control unsound
and fraudulent business practices. Whether an acquisition occurs
pursuant to a simple sale or a complex merger, the threat of such
practices exists, and 11 should protect all innocent purchasers
against them.
The holding of the majority, on the contrary, precludes
the application of 11 to any merger like the one presented
here, and thus allows parties to structure their transactions in
the form of such a merger to circumvent the application of 11.
Such an end-run around 11 hardly effectuates its broad remedial
purpose. As such, I dissent.
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