United Food and Commercial Workers Union Local 880 Pension Fund et al. v. Chesapeake Energy Corporation et al.

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The Tenth Circuit Appeals Court affirmed summary judgment based on lack of materiality in this securities class action.

Retained by Orrick, Herrington & Sutcliffe

Defense counsel for Chesapeake Energy Corporation retained Allan Kleidon, a senior vice president of Cornerstone Research, to address materiality and loss causation in this securities class action that began in the U.S. District Court for the Western District of Oklahoma and was appealed to the Tenth Circuit.

Dr. Kleidon concluded that the allegedly omitted facts were not material at the time of the offering because their disclosure would not have significantly changed the total mix of information.

The lead plaintiff alleged that the defendants omitted certain material facts in their public offering of Chesapeake common stock. In particular, the plaintiff claimed that the defendants failed to disclose that Lehman Brothers was a counterparty in some of Chesapeake’s hedging contracts; that many of Chesapeake’s hedging contracts contained “knockout” provisions that eliminated a counterparty’s exposure under certain conditions; and that Chesapeake’s CEO lacked sufficient financial resources to cover loans against company stock that he held in margin accounts.

Dr. Kleidon concluded that the allegedly omitted facts were not material at the time of the offering because their disclosure would not have significantly changed the total mix of information.

In his declaration, Dr. Kleidon noted that a fact is material only if there is a substantial likelihood that a reasonable investor would view the disclosure of the omitted fact as significantly altering the total mix of information; and that materiality must be determined as of the date of the alleged omission—not in hindsight. Dr. Kleidon then established that between the stock offering in July 2008 and the alleged corrective disclosure in October 2008, the financial crisis caused a dramatic and highly unpredictable change in market conditions.

Against this backdrop, Dr. Kleidon addressed the lead plaintiff’s assertions. He showed that as of the offering date, Lehman’s bankruptcy was not considered likely. Dr. Kleidon also demonstrated that the knockout provisions had been disclosed in prior SEC filings incorporated in the offering documents, and that the stock price reaction showed that the market did not view that information as economically significant. Finally, Dr. Kleidon showed that a forced sale of the CEO’s margined shares was highly improbable as of the offering date. Dr. Kleidon concluded that the allegedly omitted facts were not material at the time of the offering because their disclosure would not have significantly changed the total mix of information.

In its opinion, the district court agreed with Dr. Kleidon’s analysis that defendants had adequately disclosed the risks associated with their hedging strategy, and that no further disclosure was required because “a registration statement need not disclose every possible permutation of the risk, nor ‘predict the precise manner in which the risks will manifest themselves.’” The court’s opinion was also consistent with Dr. Kleidon’s declaration with respect to the unpredictable nature of Lehman’s bankruptcy and the CEO’s having to sell his margined shares at a loss. According to the court, “the virtually unprecedented economic melt-down that occurred in the months following the Offering could not have been foreseen.” The district court granted summary judgment based on lack of materiality.

The Tenth Circuit Court of Appeals affirmed the district court’s decision, finding that the defendants’ alleged omissions were neither material nor misleading.


For additional information about this case, please contact Kristin Feitzinger.


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