On August 28, 2017, the SEC issued an investor alert warning investors that public companies may claim to provide exposure to Initial Coin Offerings, in which digital tokens are exchanged for money or digital currency, as a way to convince potential victims to invest in what turns out to be pump-and-dump and other market manipulation scams, pointing to a string of recent trading suspensions. The investor alert provides a list of factors that the Commission considers when it evaluates whether a trading suspension is appropriate, and specifically referenced the recent trading suspensions of First Bitcoin Capital Corp., CIAO Group, Inc., and Strategic Global and Sunshine Capital, which the SEC said made claims about their investments in coin offerings or other token-related activity. The investor alert follows several recent SEC trading suspensions involving digital currency companies. Specifically, on August 24, 2017, the SEC suspended trading for 15 days in the securities of American Security Resources Corp., which intends to launch a digital currency exchange, because of questions about information included in press releases regarding the company’s business transition to the digital asset markets and adoption of blockchain technology. On August 23, 2017, the SEC issued an order suspending trading for 15 days in the securities of First Bitcoin Capital Corp., a Canadian company that has issued seven digital tokens, based on concerns regarding the accuracy and adequacy of publicly available information about the company, including the value of its assets and capital structure. This action follows a previous SEC order on August 9, 2017, suspending trading in the securities of CIAO Group, Inc. for 13 days due to questions regarding the accuracy of statements in its press releases pertaining to, among other things, plans for an ICO. The Strategic Global and Sunshine Capital trading suspension order was issued in April 2017.
Relatedly, Protostarr, a block-chain based startup, shut down its decentralized application and refunded its Initial Coin Offering (ICO) participants following a request for information from the SEC. According to the company, on August 24, the SEC contacted Protostarr and asked the company to “volunteer a bunch of information” in relation to their recent ICO that raised $47,000 last month. In response to the SEC’s contact, Protostarr announced that “[a]fter consultation with multiple lawyers, we have decided to cease further operations and refund Ethereum collected in our crowdsale.”
DELAWARE CHANCERY COURT DISMISSES CLASS ACTION AGAINST MARTHA STEWART AND SEQUENTIAL BRANDS, APPLYING BUSINESS JUDGMENT RULE
The Delaware Court of Chancery, in In re Martha Stewart Living Omnimedia, Inc. Stockholder Litigation, recently granted defendants’ motion to dismiss and held that the business judgment rule, not the entire fairness standard, applied at the pleadings stage to challenge a controlling stockholder’s sale to a third party. The lawsuit was a class action brought by former minority stockholders of Martha Stewart Living Omnimedia, Inc. against the company’s former controlling stockholder, Martha Stewart, and Sequential Brands, Inc., the third-party buyer of the company. Although Stewart had received the same merger consideration for her shares in connection with the 2015 sale of the company, the plaintiffs alleged that Stewart had used her position as the controlling stockholder to secure higher consideration for herself through “side deals” with Sequential Brands. While the entire fairness test is the standard of review for challenges to conflicted controller transactions, Vice Chancellor Joseph R. Slights, III, found that the business judgment rule applied because the side deals did not render Stewart a “conflicted” controller. Applying the Delaware Supreme Court’s holding in Kahn v. M&F Worldwide Corp., Vice Chancellor Slights’ ruling is the first time the business judgment rule has been applied to a single-sided controller transaction at the pleading stage pursuant to the M&F Worldwide framework. Specifically, the court found that “the dual procedural protective measures deployed in connection with this transaction—the creation of an independent special committee and the adoption of a majority of the minority approval condition—followed the M&F Worldwide road map with precision and were in place at the moment Stewart began to negotiate for consideration over and above what would be paid to the other stockholders.” The Chancery Court emphasized that without this adherence to the M&F Worldwide road map, the business judgment rule would not apply to one-sided transactions involving a controlling stockholder.
THIRD CIRCUIT AFFIRMS Dismissal OF securities class action, FINDING no duty to disclose termination of relationship with distributor
The Third Circuit Court of Appeals recently affirmed the dismissal of a securities class action in Williams v. Globus Medical Inc., holding that the plaintiffs had failed adequately to plead any securities violation on the part of Globus or its controlling officers. Shareholders contended that Globus and certain of its executives violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 by failing to disclose Globus’s decision to terminate a contract with independent distributor Vortex Spine LLC, and by issuing revenue projections that failed to account for this decision. The district court dismissed the suit and the Third Circuit affirmed, holding that the plaintiffs had failed adequately to plead any actionable omissions from Globus’s risk disclosures, and concluding that Globus had no duty to disclose its decision to terminate its relationship with the distributor. Although the Third Circuit agreed that “a company may be liable under Section 10b for misleading investors when it describes as hypothetical a risk that has already come to fruition,” it held that this was not the case here. The court further held that the plaintiffs had failed to plead with the requisite specificity that revenue projections Globus disclosed that failed to account for the decision to terminate the distributor were knowingly false or misleading at the time that the projections were issued and that, regardless, they were forward-looking statements protected by the PSLRA safe harbor.
SECURITIES CLASS ACTION AGAINT BRAZILIAN MINING COMPANY SURVIVES MOTION TO DISMISS
The U.S. District Court for the Southern District of New York has granted in part and denied in part a motion to dismiss in In re BHP Billiton Securities Litigation, holding that the shareholders had adequately pleaded scienter as to the corporate defendants and several actionable false and misleading statements regarding BHP Billiton’s implementation of certain mining and safety protocols. The lawsuit arises out of the November 5, 2015 collapse of the Fundão dam, which was used to store “tailings” —wastewater that is a byproduct of mining and may contain harmful elements—at the Samarco iron ore mining complex in the Brazilian state of Minas Gerais. The collapse of the 30-story-high dam is considered to have resulted in the worst environmental disaster in Brazil’s history. The plaintiffs (purchasers of BHP Billiton American Depositary Receipts) asserted claims under Sections 10(b) and 20(a) of the Securities Exchange Act against BHP Billiton and certain of its officers, alleging that they made actionable misstatements regarding the Company’s commitment to safety, the adequacy of its monitoring protocols, and its compliance with local laws. Judge Naomi Reice Buchwald denied the motion to dismiss claims against BHP Billiton based on the corporate scienter doctrine, reasoning that BHP’s board of directors had access to information that revealed BHP’s statements to be misleading. The court explained that corporate scienter may be properly alleged by pleading facts sufficient to create a strong inference either “(1) that ‘someone whose intent could be imputed to the corporation acted with the requisite scienter’ or (2) that the statements ‘would have been approved by corporate officials sufficiently knowledgeable about the company to know’ that those statements were misleading.” Here, the court found that the plaintiffs had alleged with particularity facts that indicate BHP executives knew or should have known information that showed company disclosures were misleading. The court dismissed, however, the claims against each of the individual executive officer defendants. The court further held that some of BHP’s statements regarding its commitment to health and safety were adequately alleged to be material, because they “are not mere generalities, but certain quite specific representations or guarantees of ‘some concrete fact or outcome.’” In dismissing part of the action, however, the court found that several of the remaining statements were “simply too general and/or aspirational to be actionable” and that the defendants’ alleged misrepresentations regarding production capacity and projected performance were not actionable because they were protected by the safe harbor for forward-looking statements.
SDNY DISMISSES SECURITIES CLASS ACTION BECAUSE PLAINTIFF FAILED TO PLAUSIBLY ALLEGE ANY MATERIAL MISREPRESENTATIONS OR OMISSIONS
The U.S. District Court for the Southern District of New York recently dismissed Beisel v. La Quinta Holdings Inc. et al., a securities class action that alleged La Quinta Holdings did not disclose a financial downturn, including the impact of drastically declining oil prices, declining customer demand and loss of business due to outdated facilities in need of renovations and customer service disruptions, ahead of a $550.8 million secondary public offering. The plaintiffs asserted claims under Sections 11, 12(a)(2) and 15 of the Securities Act of 1933 and Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 against La Quinta, The Blackstone Group, L.P. (La Quinta’s majority shareholder before it went public), and several La Quinta officers and directors. Judge Alison J. Nathan found that all of the asserted claims required the plaintiffs to plausibly allege a material misrepresentation or omission, and that the plaintiffs had failed to allege any such material misstatements or omissions. The court concluded that “even assuming plaintiffs’ allegations are true, defendants did sufficiently disclose the risks related to declining oil prices, the need for renovations, the call center transition and the sale of certain La Quinta properties and that plaintiff fails to plausibly allege any misstatements or omissions.” For example, the court found that La Quinta’s disclosure that “hotels are geographically concentrated” and that “approximately 25% of rooms in [La Quinta’s] system [are] located in Texas” and “approximately 29% of [La Quinta’s] pipeline properties [were] to be located in Texas” sufficiently apprised Plaintiff of the negative effects of declining oil prices. Through disclosures such as these the court found the company addressed the risks alleged by the plaintiffs.
SDNY DISMISSES AMBAC SHAREHOLDER SUIT OVER PUERTO RICO BONDS
The U.S. District Court for the Southern District of New York recently dismissed Wilbush v. Ambac Financial Group, Inc. et al. a securities class action against Ambac and certain of its executives that asserted claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. The plaintiff alleged that Ambac sought to conceal the credit risk and loss exposure to the $2.5 billion in Puerto Rican-related debt that it insured. After Puerto Rico defaulted on debt payments, Ambac suffered portfolio losses like many other large institutional investors. Judge Richard M. Berman found no alleged evidence of intentional fraud or concealment and held that Ambac did not issue any material misstatements or omissions. The court found that it was not fraudulent for Ambac to tell shareholders that it was able to contain public finance losses in the past or that its loss reserves were adequate and further found that the plaintiff failed to explain how a reasonable investor would have considered Ambac’s past experience to be indicative of future performance in light of Ambac’s disclosures. The court also held that statements that Ambac did not expect to suffer losses on the Puerto Rican bonds were not actionable because Puerto Rico’s risk of default at the time was “common public knowledge,” and because these statements were issued with adequate cautionary warnings about forward-looking statements. With regard to the allegations that Ambac’s financial statements were misleading, the court found that the allegations fell short because the plaintiff failed “to allege that the company violated a single Generally Accepted Accounting Principle or industry standard.”