20230930-DK-Butterfly-1 Inc. v. HBC Invs. LLC

Summarized by John Slack ,
4 weeks 1 day ago

Case Type:

Business

Case Status:

Affirmed

Citation:

25-2728 (2nd Circuit, Jul 07,2026) Published

Tag(s):

Ruling:

The Second Circuit Court of Appeals affirmed the district court's dismissal of Plaintiff's claim under section 16(b) of the Securities Exchange Act. The court held that effective and enforceable blocker provisions, which cap an investor's beneficial ownership to below 10%, shield the investor from section 16(b) liability. Because Plaintiff was unable to prove that the blocker provisions here were illusory or that they were part of a scheme to evade regulatory reporting duties, the blockers shielded Defendants from liability and dismissal was proper.

Procedural context:

Section 16(b) of the Exchanges Act was implemented to prevent insider trading by imposing strict liability on insiders who have profited from buying or selling securities in a six-month window. Insiders include individuals or entities who are directly or indirectly “the beneficial owner[s] of more than [ten] percent of any class of any equity security” or who have the right to acquire beneficial ownership of the underlying security. To circumvent this issue, investors will include "blockers" in their contracts that "allow investors to retain the ability to cumulatively acquire hefty amounts of an issuer’s stock over a short-term period, without ever having the power to obtain more than ten percent at any given instant," and thus shield them from section 16(b) liability. Because blockers are a recognized method to shield investors from section 16(b), Plaintiff argues that Defendants' blockers were: 1) illusory; and 2) used in an improper attempt to evade regulatory reporting requirements. Relying on Levy v. Southbrook Int'l Invs., Ltd., 263 F.3d 10, 12 (2d Cir. 2001), the Second Circuit explains that a blocker will only be considered illusory if: 1) the acquiring party can waive the blocker "in its sole discretion;" 2) the blocker does not have "a means of ensuring compliance;" and 3) the investor actually "ever exceeded the conversion cap." Additionally, Plaintiff asserts that SEC Rule 13d-3(b) applies, which applies when an investor plans or schemes to evade statutory reporting requirements which are triggered by beneficial ownership. However, such a plan must conceal an entity's effective ownership rather than merely prevent an investor from owning the security in the first place. Plaintiff therefore avers that the Side Letter was used to hide Defendants' de facto ownership rights by secretly superseding the terms of the public-offering documents and the blocker provisions to allow Hudson Bay the right to acquire as much stock as it wanted.

Facts:

Bed Bath & Beyond ("BBBY") was founded in 1971 and is today known as a national home goods retailer. Unfortunately, in the wake of the COVID-19 Pandemic and an economic downturn, BBBY was in desperate need of new revenue. To address this issue, BBBY issued three classes of derivative securities that allowed investors to obtain common stock at a discount. Defendants/Appellees HBC Investments LLC and Hudson Bay Capital Management LP (collectively "Hudson Bay") bought most of these derivatives. However, Defendants did not wish to own 10% or more of BBBY's stock as doing so would require Hudson Bay to take on certain regulatory responsibilities. To achieve this balance, Hudson Bay's contracts governing its derivative securities included "blocker" provisions which prevented Defendants from owning more than 9.99% of BBBY's common stock. In conjunction with this blocker provision, BBBY and Defendants also supplemented their contracts with a letter agreement (the "Side Letter"), which expressly preserved the terms of the blocker provisions and reinforced the process Defendants needed to undertake to exercise its rights on BBBY's stock. Despite this infusion of cash from Hudson Bay, BBBY was forced to file for bankruptcy in April 2023. During this same time, Hudson Bay rapidly obtained BBBY stock at a discount and was able to resell it at market value, resulting in profits of over $300 million. Plaintiff/Appellant 20230930-DK-Butterfly-1 (“Butterfly”), the post-bankruptcy successor of BBBY, then sued Hudson Bay in May of 2024 and alleged that the "blockers" were illusory, that Hudson Bay consistently owned more than 10% of BBBY's stock, and that Defendants were strictly liable to account for and repay its short-term profits under section 16(b) of the Securities Exchange Act of 1934 (the “Exchange Act”). The district court found that Plaintiff had failed to sufficiently plead that the blocker provisions were a sham or illusory and dismissed Butterfly's complaint. Plaintiff then timely appealed the dismissal.

Judge(s):

Calabresi, Lynch, and Sullivan

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