Securities Snapshot
April 24, 2023

SEC Brings Suit Against Owner of BitTorrent, Inc., and Settles Claims With Celebrity Endorsers of Certain Crypto Tokens

SEC Brings Suit Against Owner of BitTorrent, Inc., and Settles Claims With Celebrity Endorsers of Certain Crypto Tokens; Court of Chancery Grants Summary Judgment Holding Officer-Exculpation Charter Amendment Does Not Require a Class Vote of the Company’s Nonvoting Stock; Delaware Court of Chancery Finds CEO and Acquirer Liable in ‘Paradigmatic’ Revlon Case; Federal Court Dismisses ‘House of Cards’ Complaint Against Life Sciences Company

On March 22, 2023, the US Securities and Exchange Commission (SEC) filed a complaint in US District Court for the Southern District of New York against Justin Sun, the owner of BitTorrent, Inc., a file-sharing platform; three of his wholly owned companies; and musicians Austin Mahone and Soulja Boy. It alleged violations of the Exchange Act and Securities Act related to the crypto asset tokens Tronix (TRX) and BitTorrent (BTT). The SEC alleged that Sun (1) offered and sold these tokens without registering them with the SEC; (2) manipulated the price of these tokens with fake trades to foster an impression of market activity; and (3) engaged in a scheme to pay celebrities including Mahone and Soulja Boy to promote TRX and BTT on social media without disclosing that they were paid promoters.

The SEC reached settlements of similar claims against other celebrity promoters, including Lindsay Lohan, Jake Paul, and Akon. Under these settlements, the celebrities agreed to cease and desist from endorsing crypto securities for three years and paid more than $400,000 in civil penalties and disgorgement. These deals follow the SEC’s earlier settlement with Kim Kardashian for her undisclosed paid promotion of crypto assets. SEC Chair Gary Gensler continues to warn celebrities against promoting digital securities given “the high risk investors face when crypto asset securities are offered and sold without proper disclosure.”

Court of Chancery Grants Summary Judgment Holding Officer-Exculpation Charter Amendment Does Not Require a Class Vote of the Company’s Nonvoting Stock

On March 29, 2023, in Electrical Workers Pension Fund, Local 103, IBEW v. Fox Corp., CA No. 2022-1007-JTL, (Del. Ch. Mar. 29, 2023), the Delaware Court of Chancery held that a vote of all classes of stock is not required to amend governing documents to exculpate officers. This ruling has the potential to impact voting requirements for dual-class companies for all manner of corporate governance votes beyond the specific officer exculpation at issue.

This opinion follows amendments to the Delaware General Corporation Law (DGCL) in August 2022 that enabled companies to adopt corporate bylaws that provide officers exculpation from liability for certain breaches of the fiduciary duty of care, similar to the exculpation already permitted for directors of Delaware corporations.

After Fox Corp. and Snap Inc. approved charter amendments to exculpate officers without a class vote of non-voting shareholders, non-voting shareholders in November 2022 sued both companies for improperly denying their voting rights in violation of DGCL Section 242. In relevant part, Section 242 provides that each class of shareholders whose “powers, preferences, or special rights” will be “adversely” “affect[ed]” by a proposed charter amendment “shall be entitled to vote as a class” on that proposed amendment. The plaintiffs challenged the validity of the amendments under Section 242 on the grounds that neither corporation solicited their votes even though the proposed amendments plainly adversely affected their shareholders’ rights, i.e., by depriving their ability to sue the officers for the now-exculpated conduct.

Vice Chancellor James Travis Laster rejected the claim on the basis that Section 242 entitles shareholders to vote as a class only if the proposed amendment adversely affects a power or right that is expressly set forth in the operative charter or the DGCL. Accordingly, the court granted summary judgment for Fox Corp. and Snap Inc., holding that the proposed amendments did not adversely affect a power, preference, or special right of nonvoting shareholders that appears expressly in the charter, and that — other than Section 327’s “ownership requirement for derivative claims” — the “DGCL says nothing about the power to sue.”

Delaware Court of Chancery Finds CEO and Acquirer Liable in ‘Paradigmatic’ Revlon Case

On March 15, 2023, Chancellor Kathaleen St. J. McCormick of the Delaware Court of Chancery issued a post-trial ruling on a “paradigmatic Revlon claim” arising out of an all-cash acquisition of Mindbody, Inc. (Mindbody), by Vista Equity Partners Management, LLC (Vista). The court found that the chief executive officer of Mindbody, Richard Stollmeyer, faced disabling conflicts of interest and breached his fiduciary duties to shareholders by skewing the sales process in favor of Vista despite the board’s express instructions to run a clean process. The court also found that Stollmeyer and Vista failed to disclose the full extent of the conflict in the proxy material soliciting the shareholder vote. The defendants were jointly and severally liable for damages of $1 per share of Mindbody stock, the price that — according to the court’s review of the record — Vista would have paid to acquire Mindbody but for the undisclosed conflict.

As an all-cash change-of-control transaction, the Mindbody sale was subject to enhanced scrutiny under the Revlon standard. Stollmeyer’s conduct fell far short of his Revlon duty to “pursue the best transaction reasonably available” to the company’s shareholders. Among Stollmeyer’s significant conflicts, all of which were undisclosed to the Mindbody board, were his personal need for liquidity at the time of the sale, his expectation of post-merger employment, and “significant equity-based incentives” if Vista was the buyer. The court also found that Stollmeyer concealed from the board interactions with and “tips” to Vista, which violated the “‘neutrality’ guidelines” that the board had issued “to cabin management’s communications with potential bidders.” Because “Stollmeyer effectively greased the wheels” of the sale transaction, the court continued, Vista was able to make a “firm” offer to buy Mindbody before any competing acquirers could undertake diligence necessary to submit their own offers. Stollmeyer frustrated the “value-maximizing process” that Revlon demands by prioritizing his personal interests that would be served by a Vista acquisition rather than pursuing a process likely to provide the best outcome for Mindbody’s shareholders.

The court also found that Vista reviewed the proxy materials and thus had knowledge of the conflicted interactions between Vista and the CEO but failed “to correct the proxy materials to include a full and fair description of [Vista’s] interactions with Stollmeyer.” As a result of the disclosure deficiencies, the court rejected the defendants’ argument that the deal should be scrutinized under the more forgiving business judgment rule standard because it was approved by a fully informed, uncoerced majority of disinterested stockholders, commonly referred to as “Corwin cleansing.” Even “[a] single disclosure deficiency will defeat” Corwin cleansing, and in this case, the court found multiple deficiencies in the Mindbody proxy.

Federal Court Dismisses ‘House of Cards’ Complaint Against Life Sciences Company

The US District Court for the District of Massachusetts dismissed a securities fraud class action complaint against Biogen, Inc. (Biogen), and some of its current and former executives, alleging that they made false and misleading statements about the commercialization of Aduhelm, a drug for Alzheimer’s disease. The plaintiffs challenged five categories of allegedly fraudulent statements concerning the commercialization of Aduhelm. The court dismissed the complaint entirely, finding it to be replete with “misrepresentation[s]” and “mischaracterizations” of the defendants’ statements.

One group of challenged misstatements related to Biogen’s disclosure that 900 healthcare sites were “ready to implement” Aduhelm upon FDA approval. The plaintiffs claimed those statements were fraudulent because “many of the [900] sites . . . lacked the facilities, infrastructure and/or personnel necessary for the [drug’s] administration.” The court brushed that theory aside because the complaint alleged no more than that “many” sites were not ready at the time of the statements, but critically failed to allege which sites were at issue and did not otherwise “quantify the scope of the purported ‘inaccuracies’ or ‘discrepancies’” in the statements.

The court also dismissed the challenge to corporate statements regarding pharmacy and therapeutics (P&T) reviews of the 900 sites, ruling that the claims themselves rested on “an unjustifiably broad interpretation” of the actual public statements. The plaintiffs alleged that the statements were fraudulent because P&T reviews are “essential” for the prescription of new treatments. As the court interpreted them, however, the challenged statements merely indicated that the 900 sites had expressed a “willingness to treat patients with an innovative treatment for Alzheimer’s disease.” Contrary to the plaintiffs’ allegations, the statements did not constitute a representation that all of the sites would have prescribed Aduhelm. The lesson here is that liability under the securities laws in the first instance turns of the honesty of what was actually disclosed --- not some broader meaning that plaintiffs’ counsel may extract or imply from the actual words.

The court also ruled that the complaint failed to plead scienter for two principal reasons. First, some of the challenged statements were by “low-ranking former Biogen employees,” which is no basis to sue individual defendants who did not supervise the low-rankers. Second, the court ruled that the plaintiffs failed to plead that the individual defendants even had direct knowledge of an internal assessment of launch readiness, which was a critical pleading failure because plaintiffs based their scienter theory on those defendants’ supposed knowledge of that assessment. And from there the court rejected the familiar “fraud by hindsight” pleading that later revelations about facility readiness somehow must have meant that defendants were aware of the adverse information at the time the earlier statements were made.

Lawyers in Goodwin’s Securities and Shareholder Litigation and White Collar Defense practices have extensive experience before U.S. federal and state courts, legislative bodies and regulatory and enforcement agencies. We continually monitor notable developments in these venues to prepare the Securities Snapshot — a bi-weekly compilation of securities litigation news delivered to subscribers via email. This publication summarizes news from the civil and criminal securities law arenas in a succinct, digestible format. Topics covered include litigation and enforcement matters, legislation, rulemaking, and interpretive guidance from regulatory agencies.

Editorial Board

Jennifer Burns Luz
Jonathan Shapiro

Contributing Authors

Benjamin Halper
Jordan Benson
Ian Q. Rogers
Robert Tiefenbrun