Under Washington law (RCW 21.20.010), it is unlawful for any person to, in connection with the offer, sale or purchase of any security, directly or indirectly make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they are made, not misleading.
Restated, someone selling an interest in a company to an investor cannot lie about or fail to disclose an important fact. If the securities issuer makes an untrue statement or omission, the investor may be entitled to recession–meaning that the investor can get the money they invested back, plus interest.
What makes a fact or omission material?
Facts are material if a reasonable person would attach importance in determining his or her choice of action in the transaction in question. If you’re selling an interest in a company, and you don’t want to disclose a fact and you’re not sure if it’s material, you can be fairly certain that the fact is material (why else would you be hesitating to disclose it?).
What if the misstatement or omission was accidental?
A showing of scienter, a legal term of art meaning intent to deceive, is not required in an action for fraud or misrepresentation under the Washington State Securities Act.
A real-life example
Aspelund v. Olerich is a classic example of a material omission. The Olerichs owned D & V Vending Service, a company that owned and serviced vending machines. The Olerichs sold all the stock of the company to the Aspelunds for $180,000. Prior to the transaction, the Olerichs failed to disclose to the Aspelunds that two crucial clients were leaving or were on the verge of leaving D & V. One customer accounting for 10% of D & V’s revenues had informed the Olerichs that he was no longer going to use D & V vending machines, as they had already reached an agreement with a new vendor of vending machines. Another customer accounting for 50% of D & V’s revenues had informed the Olerichs that if they received one more complaint about the vending machines they were going to switch vending machine companies. The Olerichs did not mention to the Aspelunds that either of these crucial relationships was faltering.
Two years after they purchased D & V, the Aspelunds filed a law suit complaining that the Olerichs had made a material omission by failing to disclose the state of these key client relationships. The Aspelunds won the lawsuit, and were awarded a judgment for rescission.
If you are an issuer or seller of securities, you need to be extremely careful to ensure that you are not making material omissions.
If you’re a purchaser of a security that has performed poorly due to a material omission, you should seek legal advice immediately to (1) see if you have a valid claim, and (2) make sure that the statute of limitations (a legal time limit that could preclude your claim) haven’t run.