On November 3, 2016, the Second Circuit issued an opinion in an action brought under Section 16(b) of the Exchange Act of 1934 against Morgan Stanley, J.P. Morgan and Goldman Sachs, the lead underwriters of the May 2012 Facebook IPO. Plaintiff had sought disgorgement of over $100 million of trading profits allegedly earned by the underwriters in supporting Facebook’s stock in the early days of public trading after the IPO.  The Court, after considering an amicus submission from the Securities and Exchange Commission requested following oral argument, agreed with our argument on behalf of the three underwriter defendants that they were not “insiders” subject to disgorgement of short-swing trading profits under Section 16(b), because they had not formed a “group” with pre-IPO shareholders who sold stock in the Facebook IPO. The Court rejected the plaintiff’s argument that the underwriters had formed a “group” with the selling shareholders by obtaining standard lock-up agreements from them prior to the IPO. 

Most notably, the Court reasoned that applying Section 16(b) to underwriters of IPOs solely due to standard lock-up agreements would impair public securities offerings by complicating the role of underwriters and exposing them to tens of millions of dollars in potential liabilities. The Court noted the important role played by underwriters in public offerings and observed that their access to nonpublic information about issuers, entry into lock-up agreements with pre-IPO shareholders and after-market trading to support newly issued securities benefit both selling shareholders and investors in new securities offerings. The Court reasoned that applying Section 16(b) liability in these circumstances would impose large liabilities on underwriters that act as transitory conduits in new public distributions of securities, would not achieve the purposes of Section 16(b) and would discourage IPOs.

The defendants were represented by partners James P. Rouhandeh (who argued the appeal), Charles S. Duggan and Andrew Ditchfield; associates J. Stan Barrett and Isaly S. Judd; and former associates George D. Turner, Gerald M. Moody Jr. and Vanish Grover.

The case is Lowinger v. Morgan Stanley & Co. LLC, No. 14-3800-cv.

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