The Eleventh Circuit recently addressed an issue of first impression in this circuit regarding whether individuals or entities without a beneficial ownership interest in a company’s securities can be members of a “group” within the meaning of Section 13(d)(3) of the Securities and Exchange Act of 1934 (“Exchange Act”). Hemispherx Biopharma, Inc. v. Johannesburg Consol. Invs., No. 05-1430, 2008 WL 5391198 (11th Cir. Dec. 29, 2008). The Eleventh Circuit held that a beneficial ownership interest is necessary to be a member of a group within the meaning of Section 13(d)(3). As a result, the Court of Appeals held that those defendants who did not own a beneficial ownership in the company were not required to file under Section 13(d) and affirmed the dismissal with prejudice of the Section 13(d) claims. Importantly, however, the Court noted that the individual defendant who held over five percent ownership in the company was required to file under Schedule 13(d), and thereby disclose information regarding other persons, including those who were not beneficial owners, and the details of arrangements or understandings with those non-beneficial owners.  

The Eleventh Circuit decision arose from an attempted hostile takeover of Hemispherx Biopharma, Inc. (“Hemispherx”) by two South African companies and certain officers in those companies (collectively “South African Defendants”), none of whom owned shares of Hemispherx. As alleged in the complaint, the South African Defendants and one of Hemispherx’ shareholders, Goemaere, agreed to act as a group to acquire, hold, and vote Hemispherx’ shares. Hemispherx claimed that by virtue of this agreement between the shareholder Goemaere and the South African Defendants, the defendants collectively “controlled” the voting of Geormaere’s shares and were thus “beneficial owners” of those shares under Section 13(d) of the Exchange Act. The precise issue before the Eleventh Circuit was whether the complaint failed to state a claim under Section 13(d) because not every member of the alleged “group” was a beneficial owner of Hemispherx shares. Id.

Section 13(d)(1) requires any person who accumulates the beneficial ownership of more than five percent of stock of a publicly traded company to disclose certain information. 15 U.S.C. § 78m(d)(1). A beneficial owner is “any person who, directly or indirectly, through any contract, arrangement, understanding, relationship, or otherwise has or shares” “[v]oting power which includes the power to vote, or to direct the voting power of, such security” and/or “[i]nvestment power which includes the power to dispose, or to direct the disposition of, such security.” 17 C.F.R. § 240.13d-3(a).

Section 13(d)(3) provides the circumstances in which a group may be considered a “person” who is a beneficial owner for purposes of Section 13(d) and states: “[w]hen two or more persons act as a partnership, limited partnership, syndicate, or other group for the purpose of acquiring, holding, or disposing of securities of an issuer, such syndicate or group shall be deemed a ‘person’ for the purposes of this subsection.” 15 U.S.C. § 78m(d)(3). Under the regulation promulgated under Section 13(d), when two or more persons act as a Section 13(d)(3) group, each person is deemed to be a beneficial owner of all of the securities owned by them collectively. 17 C.F.R. § 240.13d-5(b)(1).

Hemispherx contended that the South African Defendants and Goemaere constituted a group under Section 13(d)(3). The district court, however, dismissed Hemispherx’ Section 13(d) claims against the South African Defendants with prejudice for failure to state a claim on the ground that Hemispherx did not adequately allege beneficial ownership. In affirming the district court on this issue, the Eleventh Circuit used the traditional tools of statutory construction, looking first to the plain language of Section 13(d). In this first prong of the analysis, the Court of Appeals determined that whether beneficial ownership of stock is required for group membership within the meaning of Section 13(d)(3) is not clear from the text of the statute. “Section 13(d)(3) does not expressly require or rule out a beneficial ownership requirement, or even mention the term ‘beneficial ownership. Nor does the applicable SEC regulation address the question.” Hemispherx, 2008 WL 5391198, at *9.

The Court looked next to the legislative purpose behind Section 13(d) and 13(d)(3) and found that “Section 13(d) is intended to ensure that an issuer receives notice that a significant amount of its shares is being accumulated.” Id. at *10. Section 13(d)(3) was designed “to prevent a group of persons from colluding to structure their interests in a company in a pool that would enable each individual member to avoid the reporting requirement and evade the purpose of the statute.” Id. Following the reasoning of the Third Circuit in Rosenberg v. XM Ventures, 274 F.3d 137, 147-48 (3d Cir. 2001), the Court concluded: “[t]he implication is, of course, that each member of the [section 13(d)(3)] group must have something to ‘pool.’” Id. (quoting Rosenberg, 274 F.3d at 146). Based on the statute’s purpose, the Court concluded, therefore, that each member of a Section 13(d)(3) group must individually have “voting or other interests in the securities of the issuer.” Id. (quoting Rosenberg, 274 F.3d at 146). The Court noted that if this were not the rule, Section 13(d)(3) could be expanded beyond reason to include the “attorneys, bankers, financial advisors, and accountants” who offer assistance to those acquiring the five percent ownership of the publicly traded company. Id. at *12.

The Eleventh Circuit further reasoned that the purpose of Section 13(d) is met even though only beneficial owners of securities are required to file under Section 13(d). Any persons required to make Section 13(d)(1) disclosures must identify “everyone, including those who are not beneficial owners, who possess[] some form of present or future interest in the securities, along with the details of the arrangements or understandings with those non-beneficial owners.” Id. at 11. In this case, as a shareholder owning over five percent of Hemispherx, Goemaere was required to disclose the identities of the South African Defendants and the details of any arrangements he had with them regarding Hemispherx stock under Section 13(d)(1). (The district court had dismissed previously the defendant shareholder, Goemaere, from the action on procedural deficiencies and therefore he was not included in the appeal of the dismissal of the Section 13(d) claims.)