Hint: Sale of option with secret intent not to honor Facts: In 1991, the Hong Kong Government announced that it would accept bids for the award of an exclusive license to operate a cable system in Hong Kong. Wharf, a HK firm, prepared a bid thru its chairman Peter Woo and its managing director Stephen Ng got a business partner in United, a Colorado based company. United employees were sent to HK to prepare everything for the bid and as payment they be given right to invest in the cable system. A draft letter of intent containing an option to buy 10% of the stock, thereby making United a co-investor, was executed but not signed. In Wharfs bid to the HK government it declared itself as sole owner but would consider allowing United to invest. In Oct. 1992, United told Ng it would continue to help only if Wharf gave United an enforceable right to invest which Ng granted ORALLY. The terms are as follows: (1) United had the right to buy 10% of the future system's stock; (2) the price of exercising the option would be 10% of the system's capital requirements minus the value of United's previ- ous services (including expenses); (3) United could exercise the option only if it showed that it could fund its 10% share of the capital required for at least the first 18 months; and (4) the option would expire if not exercised within six months of the date that Wharf received the license. The subsequent negotiations were never reduced to writing. In May 1993, the franchise was awarded to Wharf and United raised $ 66M to buy the 10%, but Wharf refused to sell any stocks. Contemporaneous internal Wharf documents suggested that Wharf had never intended to carry out its promise. For example, a few weeks before the key October 1992 meeting, Ng had prepared a memorandum stating Uniteds desired payment for their service. A handwritten note by Wharf's Chairman Woo replied, No, no, no, we don't accept that. Another meeting with the board contained a note from Ng saying how do we get out? In December, United filed with SEC documents stating their negotiation for the 10% acquisition and an internal Wharf memo stated that [o]ur next move should be to claim that our directors got quite upset over these representa- tions.... Publicly, we do not acknowledge [United's] opportunity to acquire the 10% in- terest. In the margin of a December 1993 letter from United discussing its expectation of investing in the cable system, Ng wrote, Be careful, must deflect this! How? Other Wharf documents referred to the need to back pedal and stall. United sued in Colorado District Court. These documents, along with other evidence, convinced the jury that Wharf, through Ng, had orally sold United an option to purchase a 10% interest in the future cable system while secretly intending not to permit United to exercise the option, in violation of Rule 10(b). Damages were awarded for circumstances of fraud, malice, or willful and wanton conduct. CA
Ruth San Pedro (ALS B2015)
Securities Regulations Atty. Francis Lim
affirmed. It was brought to SC on certiorari.
Issue: WON sale of option with secret intent not to honor it violated Rule 10(b)? Held: YES! DC and CA decision affirmed by SC. Ratio: Securities Exchange Act 10(b) states that it is unlawful for any person ... to use or employ, in connection with the purchase or sale of any security ..., any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the [SEC] may prescribe. It forbids the use, in connection with the purchase or sale of any security, of (1) any device, scheme, or artifice to defraud; (2) any untrue statement of a material fact; (3) the omission of a material fact necessary in order to make the statements made ... not misleading; or (4) any other act, practice, or course of business that operates ... as a fraud or deceit. The security at issue is the option to purchase that stock. Wharf does not contest on appeal the classification of the option as a security. It is consistent with the language of the Act, which defines security to include both any option on any security and any right to purchase stock. Wharf argues that the Act doesnt contemplate oral agreement but the court said it does not distinguish. Oral contracts for the sale of securities are sufficiently common that the Uniform Commercial Code and statutes of frauds in every State now consider them enforceable. Limitation on oral contract would limit the act and undermine its basic purpose. Wharf further claimed that the secret reservation doesnt concern the value so policy of full disclosure doesnt apply. The SC said to sell an option while secretly intending not to permit the option's exercise is misleading, because a buyer normally presumes good faith. Uniteds claim is that Wharf executed the agreement with intent not to honor it, not a mere failure to do a promise. There is obvious misrepresentation, fraud, etc as seen in the evidence.
Thi-Hawaii, Inc., A Hawaii Corporation v. First Commerce Financial Corporation, A Nevada Corporation, and Ellaric Corporation, A Hawaii Corporation, 627 F.2d 991, 1st Cir. (1980)
Gene McGill v. American Land & Exploration Company, a Delaware Corporation Steve Holsey, an Individual Commercial Funding Corporation, an Oklahoma Corporation Glen P. Vance, an Individual Jesse J. Arevelos, Jr., an Individual and William F. Probst, an Individual, 776 F.2d 923, 10th Cir. (1985)