Category: Securities

Securities Plaintiffs Beware: Third Circuit Holds Initiating Suit to Force Settlement May Violate Rule 11 and Can Lead to Mandatory Sanctions Under the PSLRA

With the 30th anniversary of the Private Securities Litigation Reform Act (PSLRA) on the horizon, the Third Circuit’s recent precedential opinion in Scott v. Vantage Corp. provides timely guidance on an important aspect of the landmark statute that may not always be top of mind – its interplay with Rule 11. The PSLRA, in its effort to curb frivolous securities litigation, not only imposes heightened pleading requirements and an automatic stay of discovery pending motions to dismiss, but also requires Rule 11 compliance findings as to each party and attorney based on what they knew at the time suit was filed. In Scott, the Third Circuit reiterated these principles and held that district courts must impose some form of sanction for any Rule 11 violation, no matter how insubstantial the violation – a characteristic unique to the application of Rule 11 in PSLRA cases. The decision also reminds us that the PSLRA creates a presumption in favor of awarding attorneys’ fees in cases of “substantial failure” to comply with Rule 11, which is defined by the court in the opinion. Finally, the decision stands for the remarkable proposition that filing a complaint to force settlement may violate Rule 11 even when the claims asserted are sufficient to withstand a motion to dismiss. In Scott, a...

SEC Offers Disclosure Guidance and Extensions of Certain Reporting and Disclosure Deadlines

Recognizing the struggle businesses currently face and will continue to face in satisfying their disclosure obligations amid the uncertainty surrounding this unprecedented crisis, the SEC’s Division of Corporate Finance on March 25 issued disclosure guidance specific to the coronavirus pandemic. In its guidance, the Division acknowledges that it “may be difficult to assess or predict with precision, the broad effects of COVID-19 on industries or individual companies” and that “the actual impact will depend on many factors beyond a company’s control and knowledge.” That said, the Division goes on to encourage “timely reporting,” noting that SEC disclosure requirements apply to a “broad range of evolving business risks” that may not be specifically identified, including the “known or reasonably likely effects of and the types of risks presented by COVID-19.” The Division encourages “tailored” disclosure of “material information about the impact of COVID-19 to investors and market participants … that allow investors to evaluate the current and expected impact of COVID-19 through the eyes of management,” and proactive revision and update of those disclosures as facts and circumstances change. The Division identifies in its guidance a non-exhaustive list of specific issues relevant to assessing and disclosing the evolving impact of COVID-19, including: The expected impact of COVID-19 “on future operating results and near-and-long-term financial condition.” Impact...

The Consequences of What We Say: Minimizing Potential Liability Under the Securities Laws

The business challenges posed by the coronavirus are unique and unprecedented. The pervasive uncertainty, market turmoil, and near constant stream of new information inevitably draws our focus to near-term concerns and demands, and action that must be taken quickly to address them. However, it is in these exact times of crisis and uncertainty that companies cannot afford to lose sight of the very real consequences hastily made statements and disclosures may have in terms of liability under the securities laws. Securities class actions and shareholder derivative actions follow negative market activity like night follows day. And the coronavirus pandemic has created, perhaps more than any crisis before it, a perceived need for companies to provide customers, clients, shareholders, and the general public immediate, real-time updates about plans for navigating the pandemic and its impact on operations. Every person reading this post likely has an inbox brimming with emails regarding coronavirus plans and impact from every company with which they have ever transacted any kind of business. When the dust settles, however, it is these very communications—along with any SEC filings, earnings guidance, investor calls, and other public-facing statements regarding business operations issued during this time period—that will be combed for material misstatements and omissions that might form the basis of a securities class or shareholder...

Coming Soon to an Opposition Brief Near You: U.S. Supreme Court Holds That Disseminators of False or Misleading Statements Face Liability for Securities Fraud Under Rules 10b-5(a) and (c) Even Where They Are Not Subject to Liability Under Rule 10b-5(b)

In a decision that is certain to receive a warm welcome from the securities class action plaintiffs’ bar, last week, in Lorenzo v. Securities and Exchange Commission, the U.S. Supreme Court held that a disseminator of a false or misleading statement, who cannot be liable for securities fraud under Rule 10b-5(b) because he or she was not the “maker” of that statement, nonetheless faces liability under Rules 10b-5(a) and (c) and related securities statutes. Under Rule 10b-5(b), it is unlawful to make any untrue statement of material fact in connection with the purchase or sale of a security. Nearly eight years ago, in Janus Capital Group, Inc. v. First Derivative Traders, 564 U.S. 135 (2011), the Supreme Court held that only the maker of a false or misleading statement faces liability under Rule 10b-5(b) and that the maker of a statement is the person with ultimate authority over the statement including its contents and whether and how to communicate it. As a result, in that case, an investment adviser who had participated in drafting a false statement included in the prospectus of its mutual fund client avoided liability for securities fraud because the mutual fund, and not the investment adviser, was the maker of the false statement. The decision was of no small significance. In...

District of New Jersey’s Dismissal of Securities Class Action Reiterates Significant Hurdles to Sufficiently Pleading Scienter

A decision last week from the District of New Jersey is the latest of several recent decisions from the District and the Third Circuit making clear that securities fraud plaintiffs face a high bar in pleading an inference of scienter strong enough to withstand a motion to dismiss. In In re Electronics For Imaging, Inc. Securities Litigation, Plaintiffs brought a securities fraud class action alleging that Electronics For Imaging, Inc. (EFI), and two of its executives, violated sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5. According to Plaintiffs, Defendants falsely assured investors in a Form 10-K and Form 10-Q (and accompanying Sarbanes Oxley certifications) that EFI’s internal controls over financial reporting were functional and effective—including by asserting that those controls had been reviewed, evaluated, and improved. A subsequent press release and amendments to the Form 10-K and Form 10-Q identified material weaknesses in EFI’s internal controls. Plaintiffs filed suit in the wake of a drop in EFI stock price that occurred after the press release was issued. Defendants moved to dismiss for failure to sufficiently plead scienter. In support of scienter, Plaintiffs alleged that Defendants’ record keeping practices so egregiously violated generally accepted accounting principles that Defendants either: (i) lied when they asserted they had previously reviewed and evaluated...

New Jersey Federal Court Holds that Cryptocurrency Allegations Sufficiently Alleged a “Security” Subject to ’33 Act Registration Requirements

In Solis v. Latium Network, Inc., Susan D. Wigenton, a United States District Judge in the District of New Jersey, held that a class action plaintiff adequately alleged that a particular cryptocurrency was a “security” subject to the registration requirements of the Securities Act of 1933 and, by extension, the regulatory strictures of the Securities Exchange Act of 1934. Solis alleged that Latium operates a blockchain-based, crowdsource tasking platform, which allows users to create tasks, find people to complete the tasks, and then verify completion of the tasks according to specified standards. Users of the platform pay for the completed tasks using Latium X tokens, Latium’s proprietary cryptocurrency, which can be used only on Latium’s platform. Solis also alleged that, to raise money for the platform, Latium offered its tokens for sale to the public in exchange for U.S. dollars or the cryptocurrency Ether. The sale was conducted in several stages, with the cost of a token increasing with each successive stage. When marketing the tokens, Latium stressed the limited quantity of tokens to be issued and characterized its tasking platform, particularly in tandem with the tokens, as a “unique investment opportunity.” Solis purchased $25,000 in Latium X tokens and later sued Latium in a class action, alleging that the Latium X tokens are “securities”—specifically...

In Affirming Dismissal of Putative Securities Class Action, Third Circuit Provides Important Guidance for Evaluating Sufficiency of Scienter Allegations

A recent precedential decision from the Third Circuit may make it more difficult for putative securities class actions to withstand motions to dismiss and provides useful guidance for district courts in making the often difficult determination whether a complaint adequately pleads the strong inference of scienter necessary to sustain a federal securities fraud claim. In In re Hertz Global Holdings, Inc., certain pension funds brought a securities fraud class action alleging that Hertz Global Holdings, Inc. and certain of its current and former executives violated sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5. Plaintiffs’ complaint relied heavily on a financial restatement Hertz issued with its fiscal year 2014 Form 10-K, which corrected errors to Hertz’s 2011, 2012, and 2013 financial statements. According to the restatement, Hertz had overstated its pre-tax income by a total of $215 million and its net income by a total of $132 million during the three-year period. The restatement explained that “an inconsistent and sometimes inappropriate tone at the top was present under then existing senior management” which “resulted in an environment which in some instances may have led to inappropriate accounting decisions and the failure to disclose information critical to . . . effective review.”  Plaintiffs alleged that the restatement constituted an admission that...

Enough Said: Southern District of New York Decision Reiterates Limits of Disclosure Obligations Under Securities Laws

The Southern District of New York’s recent decision in Employees Retirement System of the City of Providence v. Embraer S.A. may provide useful guidance for companies struggling with disclosure obligations in the midst of ongoing investigations into potential unlawful conduct. Defendant Embraer, S.A., a Brazilian aircraft manufacturer, made a series of disclosures regarding external and internal investigations into potential U.S. Foreign Corrupt Practices Act (FCPA) violations. Specifically, in November 2011, Embraer disclosed investigations by the U.S. Department of Justice (DOJ) and Securities and Exchange Commission (SEC) and advised that it had retained outside counsel to conduct an internal investigation. Although the company repeatedly warned that it may be required to pay substantial fines or incur other sanctions, it also stated early in the investigation that it did not believe there was a basis to estimate reserves or quantify any loss contingency. In July 2016, Embraer announced that settlement negotiations with the DOJ and SEC had progressed to a point warranting recognition of a $200 million loss contingency. Nearly three months later, the company announced a settlement that included a fine of over $107 million and disgorgement of nearly $84 million in profits. On December 13, 2016, Employees’ Retirement System of the City of Providence filed an amended class action complaint alleging violations of Securities Exchange Act...

Second Circuit Clarifies Burden of Rebutting the Basic Presumption Under Halliburton II

In In re Goldman Sachs Group, Inc. Sec. Litig., the Second Circuit confirmed that, at the class-certification stage in a securities-fraud class action, the defendant bears the burden of persuasion to rebut the presumption of reliance under Basic v. Levinson by a preponderance of the evidence. The decision follows on the heels of a separate Second Circuit panel’s similar decision in Waggoner v. Barclays PLC and clarifies that a defendant need not provide “conclusive evidence” to rebut the presumption. Goldman Sachs is one of several federal court decisions interpreting Halliburton Co. v. Erica P. John Fund, Inc. (Halliburton II), which declined to dispense with the Basic presumption of reliance – which is premised on the “fraud-on-the-market” theory – but held that the presumption can be rebutted by “any showing that severs the link between the alleged misrepresentation and either the price received (or paid) by the plaintiff, or his decision to trade at a fair market price.” Since Halliburton II was handed down, courts have wrestled with the proof a defendant must offer to rebut the presumption. In Waggoner v. Barclays PLC, issued in November 2017, the Second Circuit resolved the question by holding that a defendant bears the burden of persuasion to rebut the Basic presumption by a preponderance of the evidence. In Goldman Sachs,...

In “Spring-Loaded” Options Case, Court Finds Failure to Disclose Board’s “Unclean Heart” Does Not Violate Federal Securities Laws But Allows Common Law Fiduciary Duty Claims to Proceed Against Directors Approving Options

In a far-reaching opinion addressing a host of issues relating to the granting of so-called “spring-loaded” stock options to a corporation’s board of directors, the District of New Jersey dismissed a claim under Section 14(a) of the Exchange Act because federal securities laws do not require the corporation to disclose in its proxy statement that the options were part of a “spring-loading” scheme. But the court allowed common-law breach of fiduciary duty claims to proceed against the directors who served on the board’s compensation committee under the entire-fairness doctrine.