Securities Snapshot
November 7, 2017

Second Circuit Lays Out Test For “Domestic” Injury Requirement In Civil Rico Suits

Second Circuit lays out test for “domestic” injury requirement in civil RICO suits; Southern District of California dismisses securities class action claims against company executives; Delaware Chancery Court dismisses derivative action against Viacom directors based on general release; Delaware district court dismisses class action complaint arising out of a proposed merger; Northern District of California declines to preliminarily approve class action settlement; California district court grants class certification and denies a motion to enjoin a parallel state action; Northern District of California allows demand futility suit to go forward; CFTC reaffirms stand on digital currencies and expresses view on DLT and ICOs.

In Bascuñán, et al., v. Elsaca,  et al., the Second Circuit recently reversed a district court order dismissing a Chilean heir’s civil racketeering suit over the alleged theft of $64 million, in the process laying out a test for determining what injuries count as “domestic” under the Racketeer Influenced and Corrupt Organizations (RICO) Act. The case involved a claim by Jorge Bascuñán, a citizen and resident of Chile, that his cousin, Daniel Elsaca, also a citizen and resident of Chile, who had power of attorney over Bascuñán’s finances, and stole millions of dollars from Bascuñán through several fraudulent financial schemes. In the Southern District of New York, Elsaca had moved to dismiss Bascuñán’s complaint on the ground that he failed to allege a domestic injury as required by the Supreme Court’s June 2016 decision in RJR Nabisco, Inc. v. European Community, in which the Court held that private plaintiffs suing under RICO must show domestic injuries. The district court granted the motion and, characterizing Bascuñán’s injury broadly as a $64 million “economic loss,” held that, because individual plaintiffs suffer economic injuries at their place of residence, and because Bascuñán was a resident of Chile, Bascuñán alleged only foreign injuries. In reversing the district court’s decision, the Second Circuit laid out a test for determining whether a plaintiff meets the Supreme Court’s “domestic” requirement for civil RICO claims. The Second Circuit held that to the extent Bascuñán alleged injuries to property located within the United States, he satisfied civil RICO’s domestic injury requirement.  But to the extent Bascuñán alleged injuries to property located outside of the United States, the fact that Elsaca or his co‐defendants transferred those stolen funds to (or through) the United States did not transform an otherwise foreign injury into a domestic one.


On October 20, 2017, the Southern District of California granted in part and denied in part a motion to dismiss by the defendants in 3226701 Canada, Inc. v. Qualcomm, Inc., et al. The case arose out of allegedly false or misleading statements about overheating problems with the company’s Snapdragon 810 chip, which caused one of Qualcomm’s most important customers, Samsung, to reject the 810 for use in the Galaxy S6. Judge Michael M. Anello had previously dismissed the plaintiffs’ first amended complaint for failure adequately to plead falsity, scienter, and, in part, loss causation, but allowed the plaintiffs leave to amend. After the plaintiffs filed a second amended complaint, the court first found that the plaintiffs had again failed, in part, adequately to plead loss causation, because one of the allegedly corrective statements did not reference the 810’s propensity to overheat, and therefore the plaintiffs failed to link economic loss to that disclosure of the alleged fraud. Turning to the alleged misstatements, the court dismissed the claims brought against four Qualcomm executives, but allowed the claims against Qualcomm and the company’s CEO to go forward. The claims against the executive defendants were based on a July 2015 press release that announced lowered financial projections due to issues with the 810 chip. Judge Anello found that the statements in that press release did not contain material misrepresentations that caused the investors to lose money. The claims against the company and its CEO concerned a January 2015 conference call in which the CEO said that the Snapdragon 810 chip was “performing well,” even though he had access to reports of its overheating problems. Judge Anello found that those claims were sufficiently pleaded. Finally, relying on the “core operations” doctrine, the court found that the allegations of scienter against the CEO were adequately pleaded, because the 810 and Samsung were so important to the company that it would be “absurd” to suggest that he was not aware is issues relating to the 810’s overheating.


On October 25, 2017, a Delaware Chancery court in Feuer v. Dauman, et al., dismissed with prejudice a derivative complaint challenging Viacom Inc.’s payment of $13 million in compensation to its former executive chairman, Sumner Redstone. The action, brought by Viacom shareholder R.A. Feuer, claimed that Viacom’s directors acted disloyally when they provided the compensation to Redstone because they allegedly knew that he was incapacitated and incapable of doing his job, making the payments an exercise in corporate waste. Chancellor Andre G. Bouchard did not reach the merits of the claim, holding instead that the claims asserted in the complaint had been released as part of a settlement agreement that Viacom entered in August 2016. The settlement, which resolved several disputes over Redstone’s competency, contained a general release, which provided that Viacom would release each of the individual defendants “from any and all Claims” it had “by reason of any matter, cause or thing” arising up to the “Effective Date” of the settlement agreement, which was August 18, 2016. The settlement agreement defined “Claims” to include “any claim based on . . . breach of fiduciary duty, . . . incapacity, . . . unjust enrichment or other legal duty.” Chancellor Bouchard quoted the language of the release in finding that its terms precluded litigation of the fiduciary duty and unjust enrichment claims asserted in the complaint, as the claims arose entirely from compensation decisions that directors of Viacom allegedly made before August 18, 2016. Chancellor Bouchard noted, however, that the dismissal with prejudice was as to the named plaintiff only and did not preclude other stockholders from bringing claims. 


In Jaroslawicz v. M&T Bank Corporation, et al., a federal judge in Delaware recently granted a motion to dismiss a class action complaint against M&T Bank Corporation, Hudson City Bancorp, and various directors and officers. The plaintiffs, former Hudson City stockholders, alleged that the defendants failed to make mandatory disclosures and made misleading proxy statements in connection with the proposed merger of Hudson City and M&T. Specifically, the plaintiffs alleged that the defendants violated Section 14(a) of the Securities Exchange Act of 1934 because, among other things, Hudson City failed to disclose in a February 2013 proxy statement that M&T was not in compliance with the Bank Secrecy Act and anti-money-laundering regulations, and that there were investigations by the Federal Reserve Board and the Consumer Financial Protection Bureau into possible violations by M&T of the consumer disclosure laws. The plaintiffs said that this undisclosed information delayed regulatory approval and consequently the closing of the merger. Judge Richard G. Andrews found that the proxy’s warnings that regulatory approvals could take longer than expected, and that approvals could never come at all, were sufficient to warn the plaintiffs of the possibility of delay. Judge Andrews further found that the plaintiffs had not plausibly alleged that the risks related to the CFPB investigation or the alleged consumer violations posed significant risks at the time that M&T finalized their proxy materials, as the issues with the CFPB arose after the proxy materials were finalized.  The court concluded that it was not plausible to infer from the CFPB action taken in October 2014 that those risks existed in February 2013. Finally, Judge Andrews held that opinions in the proxy statement that M&T’s policies and procedures “are believed to be compliant with the USA Patriot Act” and that the defendants “believe we should be able to obtain all required regulatory approvals” and “complete the merger in a timely fashion” were not misleading under Omnicare, because the plaintiffs had not pleaded any particular facts about what the defendants did or did not do in forming the compliance opinion, and because the timing opinion was surrounded by so many other warnings that no reasonable investor would have been misled.


On October 20, 2017, the Northern District of California denied preliminary approval to a class action settlement in Thomas v. Magnachip Semiconducter Corp. Plaintiff Keith Thomas asserted claims on behalf of the shareholders of Magnachip against the company, its majority shareholder (Avenue Capital Management II, L.P.), certain of its officers and directors, and the underwriters of its 2011 initial public offering under Sections 11, 12(a)(2) and 15 of the Securities Act of 1933, and Sections 10(b), 20(a), and 20A of the Securities Exchange Act of 1934.  In 2016, all of the defendants except Avenue Capital settled with the plaintiffs for $23.5 million, and that settlement received final approval. In July 2017, the plaintiffs moved for preliminary approval of a separate proposed settlement with Avenue Capital, under which Magnachip agreed to pay $6.2 million (minus attorneys’ fees and administrative expenses) to all persons who purchased Magnachip common stock between February 1, 2012 and March 11, 2014.  Judge Jon S. Tigar denied preliminary approval of the settlement because the plaintiffs’ motion for approval did not include plaintiffs’ potential trial damages figure. In explaining his ruling, Judge Tigar said that in order to evaluate the adequacy of a settlement, courts primarily consider a plaintiff’s expected recovery against the value of the settlement offer. The plaintiffs in Magnachip, however, “state[d] only that the [settlement] ‘represents a substantial portion of the class’s likely recovery at trial,’ without giving a percentage figure.” Judge Tigar rejected the plaintiffs’ argument that several factors made it impossible to quantify a dollar amount on possible damages, including that recovery for the suit’s insider trading claim under Section 20A of the 1934 Act would be reduced under the proportionate liability provisions of the Private Securities Litigation Reform Act of 1995 in a fraction that would have been determined by a jury. He noted that the plaintiffs were unable to cite any case where a court has preliminarily approved a settlement absent some estimate of how the settlement compares to potential recovery at trial, and ordered the plaintiffs to file a renewed motion to preliminary approval containing the required information.


A California federal court recently granted class certification in In re: LendingClub Securities Litigation, a shareholder class action brought by investors in LendingClub Corporation’s initial public offering, asserting claims under Sections 11 and 15 of the Securities Act of 1933 and Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. Judge William Alsup of the Northern District of California also conditionally granted a motion to intervene by plaintiffs that filed a parallel state court class action, and denied the federal lead plaintiff’s motion to enjoin the state action. The allegations in the state and federal actions came after LendingClub’s CEO resigned following “an internal review of sales of $22 million in near-prime loans to a single investor, in contravention of the investor’s express instructions as to a non-credit and non-pricing element.” LendingClub, a peer-to-peer lender, also reported that it had discovered that its CEO had a financial stake in Cirrix Capital, L.P., a company formed for the sole purpose of purchasing LendingClub loans.  One week later, LendingClub’s quarterly report revealed that it had “identified material weakness,” which resulted from the aggregation of control deficiencies related to the company’s “tone at the top.” As these and other revelations of improprieties came to light, LendingClub’s share price declined significantly. The state action was filed in the Superior Court of the State of California in February 2016 and the federal action in the Northern District of California in June 2016. In granting certification, Judge Alsup commented that the federal lead plaintiff “has vigorously prosecuted this action to date” and noted that “[w]hile it is true that an almost-identical action already commenced in another forum weighs against superiority, here, [the federal lead plaintiff] persuasively argues that its claims are nevertheless superior.” The court also held that the federal action “remains the superior forum with respect to maximizing recoverable damages.” 


On October 27, 2017, the Northern District of California allowed Oswald v. Identiv, Inc., a derivative lawsuit brought by Ryan Oswald on behalf of Identiv, to go forward. The court had previously dismissed Oswald’s first amended complaint without prejudice, finding that Oswald had failed to plead demand futility with particularity. The court stayed the action to allow Oswald to investigate and amend his complaint. In his second amended complaint, Oswald alleged extensive personal use of Identiv funds by former Identiv CEO, much of which allegedly benefited Identiv board members. The Identiv board had appointed a special committee to investigate allegations of the CEO’s malfeasance after another employee complained, and that the special committee had hired independent counsel and Deloitte to investigate. According to Oswald, Deloitte found a potential bribery issue and other expenses that raised red flags, but the board of directors overrode Deloitte’s recommendation on more than half those expenses, classifying them as business expenses. Oswald alleged that the independent counsel had asked the special committee to allow further investigation, but the special committee instead halted the investigation, and the board of directors unanimously approved the special committee’s recommendation to conclude the investigative phase. The defendants moved to dismiss, arguing, among other things, that Oswald had again failed to allege demand futility with particularity. The court denied the motion to dismiss, finding that because Oswald had pleaded sufficient, particularized facts that raised a reasonable doubt that the board of directors voted to end the investigation in good faith, demand on the board was excused as futile.


Pursuant to its LabCFTC initiative, the Commodity Futures Trading Commission (CFTC) on October 17, 2017 issued a Fintech Primer on virtual currencies, including addressing the jurisdictional reach of the CFTC and the Securities and Exchange Commission (and their potential overlap) as they relate to initial coin offerings and virtual tokens.  Included in the primer is an overview of virtual currencies and distributed ledger technology, along with a discussion of their potential use-cases, the CFTC’s role and oversight (including permitted and prohibited activity), and the potential risks involved (operational, cybersecurity, speculation and fraud and manipulation). Many questions remain regarding the already uncertain status of ICOs under the federal securities and commodities laws and regulations. See Goodwin’s Client Alert for more information.