As previously discussed in our report, “Developments in Securities Fraud Class Actions Against U.S. Life Sciences Companies,”¹ 210 federal securities class actions were filed in 2021, a 34% drop from the 319 filings in 2020 and a significant drop from the over 400 actions filed in each of 2017, 2018, and 2019. In the first quarter of 2022, 53 federal securities fraud actions were filed. If the current pace of filings continues, 2022 will look similar to 2021.

Despite the decrease in the number of overall cases, there were several notable developments in the first quarter of 2022.

Companies Not Required To Provide Real-Time Business Updates About Internal Issues As Long As Overall Picture Is Not Misleading

In a decision issued on March 29, 2022, the Ninth Circuit affirmed the dismissal of a securities fraud lawsuit alleging that Twitter, Inc. made false and misleading statements when, over the course of a five-month period, Twitter disclosed that it was working through software issues which would “take place over multiple quarters” with a “gradual impact on revenue.”² Twitter later disclosed that its resolution of certain software bugs had impacted its advertisement-customization processes and that it had suffered a US$25 million revenue shortfall.

In affirming the district court's dismissal, the panel confirmed that federal securities laws do not obligate companies to provide “real-time business updates” as they work to resolve internal issues, particularly where those internal issues involve “the oft-tortuous path of product development.” Rather, “a company can speak selectively about its business so long as its statements do not paint a misleading picture.” As long as the statements are qualified and factually true (as Twitter’s were), a company is not obligated to disclose more.

The challenged statements disclosed that Twitter was “continuing [its] work . . . but we’re not there yet,” that Twitter was “still in the middle of that work,” and that “work is ongoing.” The panel noted that Twitter never set a specific deadline or a target for revenue impact. Twitter’s statements therefore constituted “a vaguely optimistic assessment” that was “incapable of objective verification.” Accordingly, Twitter had “no legal duty to disclose immediately the software bugs in its [advertisement customization] program,” given that its earlier statements were qualified and vague. The panel further held that Twitter’s statements fell within the safe harbor for forward-looking statements.

Delaware Corporations Can Now Use Captive Insurance Companies To Provide D&O Coverage

On February 3, 2022, Delaware Governor John Carney signed Senate Bill 203 amending Section 145(g) of the Delaware General Corporation Law (“DGCL”) to permit corporations to employ captive insurance companies to provide director and officer (“D&O”) liability insurance.

Delaware corporations can indemnify directors and officers for litigation costs, fees, judgments, and settlements related to their service to the corporation. That indemnification is subject to certain limits, including that the fiduciary must have acted in good faith and in a manner the person reasonably believed to be in, or not opposed to, the best interests of the corporation. Moreover, corporations cannot indemnify directors and officers for settlements or judgments in actions brought by or on behalf of the corporation; otherwise, the corporation would be paying itself for the results of the action. To provide fiscal protections when indemnification is unavailable, corporations will purchase D&O insurance. In recent years, however, premiums for D&O insurance have increased significantly greater than the rate of inflation.

The amendments to Section 145(g) could provide relief for corporations from escalating D&O insurance premiums by permitting the corporation to provide insurance itself through a captive insurance company for non-indemnifiable claims. To be valid, the captive insurance coverage must exclude coverage for losses by a person based on or attributable to (1) personal profit or other financial advantage to which such person was not legally entitled, or (2) deliberate criminal or deliberate fraudulent acts, or knowing violations of law, by such person, in each case only after such acts have been established by a final, non-appealable adjudication. Further, the amendments to Section 145(g) require that a determination to make a payment from the captive insurance be made by an independent claims administrator, by a majority vote of directors (or a committee of such directors) not party to the underlying action, by independent legal counsel in a written opinion, or by the stockholders.

Proposed Amendments To The DGCL Allowing Stockholders To Exculpate Officers From Monetary Liability For Certain Breaches Of The Duty Of Care

In recent years, plaintiff firms have pursued disclosure claims related to merger and acquisition transactions only against the officers of the target corporation, recognizing the futility in most instances of pursuing disclosure claims against directors. These disclosure claims have been premised on a breach of the duty of care and have involved technical footfalls in the target corporation’s disclosure documents. Because plaintiff firms have named officers as defendants, these defendants would not be entitled to the protection of a charter provision adopted by stockholders pursuant to Section 102(b)(7) of the Delaware General Corporation Law. Such charter provisions exculpate directors, but not officers, from monetary liability for a breach of the duty of care. Thus, plaintiff firms have exploited the lack of exculpatory protection for officers to pursue post-closing M&A disclosure claims that would fail if brought against the directors only.

Delaware’s General Assembly is now considering a proposed amendment to Section 102(b)(7) to close the exculpatory gap for officers. If adopted, the proposed amendments would permit the stockholders of a corporation to amend the certificate of incorporation to exculpate officers from monetary liability in litigation brought directly by stockholders claiming a breach of the duty of care. The proposed amendments, however, would still expose officers (unlike directors) to monetary liability for a breach of the duty of care in litigation brought by or on behalf of the corporation—e.g., derivative claims. While the potential for exculpating officers may not extend as far as directors, the proposed amendments would provide a powerful tool for disposing of the post-closing M&A disclosure claims.

SEC Continues its Ambitious Rulemaking Agenda

In the past year, Chair Gensler’s administration has pursued an ambitious agenda, which has continued to accelerate in the first quarter of 2022. The SEC’s recent proposals address a wide range of issues and, if adopted, would impact both the public and private markets. Several key proposals are set forth below with links to Dechert OnPoints for a more complete analysis.

Special Purpose Acquisition Companies (“SPACs”) – During the past year, the SEC has been signaling an increased focus on SPAC transactions and related disclosure requirements. In late March 2022, the SEC proposed new rules and amendments regarding SPAC-related disclosure requirements, marketing practices, and “gatekeeper obligations.” If adopted, the new rules would, among other things, (i) enhance disclosure requirements related to SPACs and de-SPAC transactions to more closely align with requirements companies must adhere to in a traditional initial public offering (“IPO”), (ii) remove “safe harbor” protection under the PSLRA relating to the use of projections in de-SPAC transactions and impose heightened disclosure requirements in connection with the use of such projections, and (iii) expand the potential scope of liability under Section 11 of the Securities Act of 1933 (the “Securities Act”) to include private target companies and their directors, as well as underwriters involved in a de-SPAC transaction.

Regardless of the rules ultimately adopted, we expect that the number of securities and derivative actions arising from SPAC transactions will continue to increase. As explained in Dechert’s previous OnPoint,³ in In re MultiPlan Corp. Stockholders Litigation,⁴ the Delaware Court of Chancery addressed the disclosure obligations of the board of directors of a SPAC in connection with the decision of the SPAC’s public stockholders whether to redeem their shares before the closing of a merger between the SPAC and a private company target—i.e., a “de-SPAC merger.” Perhaps encouraged by the MultiPlan ruling, on March 18, 2022, another shareholder filed a breach of fiduciary duty claim against certain former directors and officers of Decarbonization Plus Acquisition Corporation, a SPAC that merged with Hyzon Motors USA.⁵ In the Hyzon case, plaintiffs allege similar claims as those set forth in the MultiPlan case, and specifically quotes the MultiPlan court's denial of defendants’ motion to dismiss. As with many securities fraud complaints, the complaint relies on a short seller’s report that casts doubt on the validity of certain statements made by the company. The complaint also alleged that the entire fairness standard should apply because investors were “robbed of their right” to make a fully informed decision, once again quoting the MultiPlan decision for support.

While the MultiPlan decision addresses distinct issues presented by SPACs, it remains unclear whether the Delaware courts will apply entire fairness review to every de-SPAC merger in which the sponsor has the benefit of a promote, or if courts will entertain arguments by defendants that entire fairness review is not appropriate in every de-SPAC transaction. Given the number of SPAC transactions and the increased focus by the SEC, securities and derivative cases arising out of de-SPAC transactions are likely to continue.

Cybersecurity – On March 9, 2022, the SEC released its proposed rules and amendments governing cybersecurity risk management, strategy, governance, and incident reporting. As set forth in more detail in Dechert’s recent OnPoint,⁶ the proposed rules would require public companies to: (i) disclose information about a cybersecurity incident within four business days after the company determines that it experienced a “material cybersecurity incident”; (ii) provide updated disclosures about previously disclosed cybersecurity incidents and to disclose when a “series of previously undisclosed individually immaterial cybersecurity incidents become material in the aggregate”; (iii) provide enhanced and standardized disclosure regarding cybersecurity risk management, strategy, and governance; and (iv) disclose cybersecurity expertise among members of the board of directors, though noting that identified board members would not be considered an “expert” for purposes of Section 11.⁷

Climate Change - On March 21, 2022, the SEC issued its new and long-anticipated proposed rules for the enhancement and standardization of climate-change disclosures. When issuing the proposed rules, Gensler stated that “[i]nvestors need reliable information about climate risks to make informed investment decisions.” He continued by noting that “[t]oday’s proposal would help issuers more efficiently and effectively disclose [climate-related risks] and meet investor demand.” If enacted, the proposed rules would require public companies to disclose a wide range of climate-related information, including: climate-related risks and their actual or likely material impacts on the company’s business, strategy, and outlook; governance of climate-related risks and risk management processes; greenhouse gas emissions; climate-related financial statement metrics; and climate-related targets, goals, and transition plans. As discussed in Dechert’s OnPoint,⁸ if adopted in their current form, the proposed rules “can be expected to impose significant disclosure burdens and related expenses on issuers, particularly those that do not yet have processes in place to accumulate the information necessary to provide the required disclosures.”⁹