Smykla v. Molinaroli

85 F.4th 1228

Peter SMYKLA, et al., Plaintiffs-Appellants, Cross-Appellees, v. Alex MOLINAROLI, et al., Defendants-Appellees, Cross-Appellants.

Nos. 21-3234 & 21-3308

United States Court of Appeals, Seventh Circuit

Argued September 19, 2022

Decided November 6, 2023

Appeals from the United States District Court for the Eastern District of Wisconsin. No. 2:16-cv-01093-PP, — Pamela Pepper, Chief Judge.

Gregg Martin Fishbein, Richard A. Lockridge, Vernon J. Vander Weide, Attorneys, Lockridge Grindal Nauen P.L.L.P., Minneapolis, MN, Shauna D. Manion, Attorney, Mallery S.C., Milwaukee, WI, K. Scott Wagner, Attorney, Attolles Law, S.C., Milwaukee, WI, for Plaintiffs-Appellants.

Bryan B. House, Philip C. Babler, Thomas L. Shriner, Jr., Attorneys, Foley & Lardner LLP, Milwaukee, WI, for Defendants-Appellees.

Before Wood, Scudder, and Jackson-Akiwumi, Circuit Judges.

Jackson-Akiwumi, Circuit Judge.

This securities appeal asks us to decide whether a proxy statement disclosing the terms of a merger contained materially misleading statements and omissions that altered the total mix of information available to shareholders. The district court dismissed all claims, finding that the proxy statement provided shareholders with ample information. We affirm.

I

In January 2016, Johnson Controls, Inc. ("Johnson"), a Wisconsin company, entered into an agreement to merge with Tyco International plc, an Irish company. The combined entity, Johnson Controls International plc ("Johnson International"), is domiciled in Ireland. The terms of the merger were disclosed to shareholders in a joint proxy statement/prospectus filed by Tyco with the Securities and Exchange Commission as part of a Form S-4 registration statement in April 2016. Tyco refiled a final version of the prospectus in July 2016.

Johnson retained two financial advisors in connection with the merger. The financial advisors analyzed whether the deal was overall "fair" to Johnson shareholders and issued opinions that included a description of the assumptions they made, procedures they followed, and matters they considered, as well as the limitations of their opinions. The financial advisors' opinions were disclosed in the proxy statement. Although the advisors concluded that the merger was overall "fair," the proxy statement made clear that the market price of the shares would fluctuate, and Johnson shareholders could not be sure of the value of consideration they would receive in the merger.

The proxy statement disclosed that each share of Johnson's common stock would be, at the election of the shareholder, either converted into an ordinary share of Johnson International, or cashed out for $34.88 per share. However, Johnson shareholders were expected to own approximately 56% of Johnson International, meaning Johnson shareholders would have reduced ownership of Johnson International.¹

The proxy statement disclosed that both the conversion and cash out of shares would be treated as taxable transactions for Johnson shareholders. It encouraged the shareholders to consult their own tax advisors regarding the tax consequences of the merger.

Shareholders were also informed that Johnson's directors and executive officers had interests in the merger that were different from, or in addition to, interests of shareholders.

The transaction was structured as a "reverse merger": Johnson merged with an indirect wholly owned Wisconsin subsidiary of Tyco, Jagara Merger Sub LLC. The 56% equity expectation for Johnson shareholders was calculated to prevent triggering Sections 7874 and 4985 of the U.S. Internal Revenue Code. Section 7874 provides, in relevant part, that when a domestic corporation is acquired by a foreign entity, but its former shareholders retain at least 60% of the stock, the expatriated entity must pay "inversion gain" taxes. See 26 U.S.C. § 7874(a) ("The taxable income of an expatriated entity ... shall in no event be less than the inversion gain of the entity for the taxable year."). Section 4985 imposes taxes on certain stock compensation held by an expatriated company's insiders, such as directors and executive officers. See 26 U.S.C. § 4985.

Johnson hoped to gain corporate tax benefits, or "tax synergies," by using the "reverse merger" structure to move its legal domicile to Ireland. The proxy statement thus explained that because Johnson shareholders were expected to own less than 60% of the combined entity, it likely would not be subject to "adverse" U.S. federal income tax rules. However, in April 2016, the U.S. Department of the Treasury announced proposed regulations that affected how Johnson's equity would be calculated, eliminating the U.S. tax benefits of the "reverse merger." In response to this new development, the proxy statement warned shareholders that if the proposed regulations were finalized, the U.S. tax benefits of the deal would not be realized. Nevertheless, Johnson's directors still recommended in the proxy statement that shareholders vote in favor of the merger because the company could realize other, "global tax synergies" and "operational synergies."

Finally, the proxy statement disclosed that a previously planned spinoff of Johnson's automotive business, Adient, would be delayed until after the merger was completed. Each shareholder of Johnson International would receive a pro rata interest in Adient. The proxy statement referenced the Form 10 Information Statement that Adient filed with the SEC. That filing, in turn, explained that the spin-off would proceed after the merger and that distribution of Adient shares would be taxable for U.S. federal income tax purposes.

On August 17, 2016, Johnson shareholders voted overwhelmingly in favor of the merger. Johnson and Tyco finalized the merger on September 2, 2016.

One day before the shareholder vote, Plaintiffs brought this putative class action against Johnson, Jagara, Tyco, and Johnson's senior executive officers and members of the board of directors. After Johnson's shareholders voted to approve the merger, plaintiffs unsuccessfully sought to enjoin the company from "continuing to act in a manner that would force" them to pay capital gains taxes. The district court refused to issue an injunction because plaintiffs did not demonstrate that they would suffer irreparable harm.

Plaintiffs then filed an amended complaint asserting federal and state law claims and alleging that defendants breached their fiduciary duties and wrongfully structured the merger to be taxable for Johnson's former shareholders without providing sufficient federally required securities disclosures. Specifically, as pertinent to this appeal, plaintiffs alleged that defendants violated Section 14(a) of the Securities Exchange Act of 1934.

The district court dismissed all claims. See Gumm v. Molinaroli, 569 F. Supp. 3d 806 (E.D. Wis. 2021). The court found that the amended complaint did not meet the heightened pleading standard imposed by the Private Securities Litigation Act (PSLRA) because plaintiffs failed to explain why any of the omissions they pointed to made the included statements misleading. The district court also found that dismissal without leave to amend was appropriate because amendment would be futile considering plaintiffs' failure to plausibly allege that any statements or omissions were misleading. The district court therefore dismissed plaintiffs' federal claims with prejudice and in its discretion chose not to retain supplemental jurisdiction over the state law claims. Plaintiffs appeal from that judgment.

II

On appeal, plaintiffs argue that the district court erred because the amended complaint sufficiently alleged that the proxy statement contained materially misleading statements and omissions. Plaintiffs' issues with the proxy statement can be distilled to the following: defendants had undisclosed motives and conflicts of interest to structure the merger in a manner that was beneficial to them, at the expense of shareholders; defendants could have structured the merger to be tax-free for shareholders, but did not disclose the option of this alternative structure; the consideration received by shareholders was too low because Johnson shares were undervalued; and directors' statements that the merger was "fair" and in the "best interests" of shareholders were deceptive and incorrect.

We review the district court's decision granting a motion to dismiss for failure to state a claim under Rule 12(b)(6) de novo, accepting plaintiffs' well-pleaded factual allegations as true and drawing all reasonable inferences in their favor. Kuebler v. Vectren Corp., 13 F.4th 631, 634-35 (7th Cir. 2021). We "consider the complaint in its entirety, as well as other sources courts ordinarily examine when ruling on Rule 12(b)(6) motions to dismiss, in particular, documents incorporated into the complaint by reference, and matters of which a court may take judicial notice." Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 322, 127 S.Ct. 2499, 168 L.Ed.2d 179 (2007); Hecker v. Deere & Co., 556 F.3d 575, 583 (7th Cir. 2009) (relying on "publicly available documents" at the motion for judgment on the pleadings stage).

III

We begin by addressing the pleading standard plaintiffs were required to meet in this case. In a securities action, plaintiffs must not only comply with Rule 8(a)(2) of the Federal Rules of Civil Procedure, which provides that a pleading must make a "short and plain statement" of the claim, but also the PSLRA. Congress enacted the PSLRA "[a]s a check against abusive litigation by private parties." Tellabs, Inc., 551 U.S. at 313, 127 S.Ct. 2499. "Exacting pleading requirements are among the control measures Congress included in the PSLRA." Id. The heightened pleading instructions require plaintiffs to "identify each statement [or omission] alleged to have been misleading, the reason why [it] was misleading, and all relevant facts supporting that conclusion." Kuebler, 13 F.4th at 638; see 15 U.S.C. §...