2nd Circuit

When Siebel Systems Inc. agreed to pay $250,000 to settle a civil suit for violations of Regulation Fair Disclosure (Reg FD) in November 2002, the software company believed it had made its peace with the SEC's controversial selective disclosure rule. This rule prevents corporations from disclosing "material, nonpublic information" to analysts before making the information available to the public.

But it was not to be.

Within 18 months, the SEC filed a new complaint against Siebel in Manhattan federal court. It alleged that the San Mateo, Calif.-based company had violated Reg FD again. While the SEC had prosecuted and settled with a handful of companies since Reg FD came into force, Siebel was the only company that had been prosecuted twice.

This time, however, the company refused to roll over.

"Siebel did not fight this case because it is opposed to fair disclosure, but because it felt that the SEC's overly aggressive interpretation and enforcement was having a chilling effect on the flow of information and disadvantaging investors," says Charlie Leonard, Siebel's spokesperson.

In September 2004, Siebel filed a motion to dismiss the charges in Securities & Exchange Commission v. Siebel Systems Inc. One year later District Judge George Daniels of the Southern District of New York delivered his ruling, the first to interpret the scope of Reg FD in a contested enforcement action.

His reasons vindicated Siebel, but perhaps more importantly, excoriated the SEC for its aggressive approach to enforcement, which placed an "unreasonable burden" on business. In the process, Daniels provided important guidance to companies attempting to comply with the sweeping tenets of Reg FD where the issues are not clear-cut.

Defining Material

In April 2003 Siebel CFO Kenneth Goldman and the company's senior vice president for corporate development, Mark Hanson, attended an invitation-only dinner for large investors. According to the SEC, Goldman made several optimistic statements about the company's prospects and pending sales.

The SEC alleged that these statements materially contrasted with public statements CEO Thomas Siebel had made in March. While Siebel had tied the company's performance to the state of the economy in other public statements, Goldman said at the conference that sales were growing and that there were several $5 million deals in the works.

The company countered that Goldman's statements were immaterial because it had already released the disputed information in its public forecasts a few weeks earlier.

Daniels focused on the question of materiality. While Reg FD does not define what constitutes a "material" disclosure, courts have consistently ruled that information is material if a reasonable investor would consider it important in aid of investment decisions. Here, the SEC alleged that Goldman's reference to future sales was material because it was relevant to Siebel's ability to generate revenue. The commission characterized the private statements as "positive and upbeat" in contrast to the public statements, which the company repeatedly qualified by reference to economic conditions.

But Daniels didn't see it that way. He concluded that the private statements did not add anything material to the company's public statements.

"Siebel tells companies that as long as their private statements don't contradict or significantly alter their public pronouncements, they're OK," says Andy Beck, a securities partner at Torys in New York.

According to Daniels, the SEC erred in confining itself to a limited examination of Goldman's comments without considering them in the context of the public communications. Daniels also criticized the SEC's "extremely heightened" level of scrutiny of "every particular" in Goldman's statements, "including the tense of verbs and general syntax of each statement."

Such an approach, Daniels concluded, imposed an "unreasonable burden on company's management and spokesperson to become linguistic experts," and differed from the SEC's comments in support of the Reg FD's enactment. At the time, the SEC indicated that Reg FD was not intended as a "trap for the unwary" and that enforcements would be "focused on clear violations."

Here the SEC did exactly what it said it wouldn't do. Particularly important was that fact that Reg FD didn't require verbatim repeats of previous public communications. Such a standard would inhibit spontaneous communication and impede the flow of information to the marketplace. Rather, so long as the private statement was "equivalent in substance" to material information already in the public domain, it satisfied the law.

"One would hope that the strength of the judge's language would make the SEC reluctant to prosecute these kinds of cases," Leonard says.

While Siebel may have that impact by making it harder for the SEC to prove inappropriate disclosures and dampening the commission's enthusiasm for prosecution, it doesn't mean Regulation FD is going away.

No More Nitpicking

Although businesses in general and the U.S. Chamber of Commerce, which filed an amicus brief in support of Siebel, welcomed the ruling, it does not fundamentally alter the scope of Reg FD.

"Siebel is an extreme case which doesn't effect a sea change in Regulation FD, and companies should not take the case to mean that their responsibilities have changed substantially," Beck says.

Where business will find comfort is in the guidance Siebel gives on what constitutes material nonpublic information. Executives also can be comfortable that there is some flexibility in articulating material information without violating the law, so long as they base their private communications on the same substantive information that underlies their companies' public releases.

"What should matter following Siebel is the substance of what's said without nitpicking on the tone and syntax," says David Taylor, a litigation partner at Perkins Coie in Seattle.

But that's not an indication that companies will get away with being cute or nuanced. "Although Regulation FD pertains solely to disclosure of information, the challenged communications need not be an expressed verbal or written statement," Daniels notes. "Tacit communications, such as a wink, nod, or a thumbs up or down gesture, may give rise to a Regulation FD violation."

However that may be, the decision may well have contributed to Siebel's recent good fortune: on Sept. 12, less than two weeks after Daniels released his decision, Oracle announced that it had agreed to buy Siebel for $5.8 billion.

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Julius Melnitzer

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