On September 19, Cohen Milstein, representing the Northeast Carpenters Annuity Fund and the Northeast Carpenters Pension fund (“Northeast Carpenters”), was appointed co-lead counsel in a securities class action against EQT Corporation (“EQT” or “Company”). The case, In re EQT Corporation Securities Litigation, No. 2:19-cv-00754, is currently pending in the U.S. District Court for the Western District of Pennsylvania before U.S. Magistrate Judge Maureen P. Kelly.
In the case, Northeast Carpenters and its co-lead plaintiff the Government of Guam Retirement Fund (“Guam”) allege that EQT misrepresented the “substantial synergies” that were expected to arise from a planned merger with rival natural gas producer Rice Energy due to “the contiguous and complementary nature of Rice’s asset base with EQT’s.”
This case is somewhat unique in that, repeatedly throughout the proposed class period, activist investor JANA Partners LLC challenged the accuracy of EQT’s statements to investors about the purported benefits of the merger, calling the Company’s calculation of $2.5 billion in synergies “highly questionable.” In multiple letters to the Company, JANA argued that abutting acreage acquired in the Rice transaction would only marginally increase lateral well length—touted as the primary benefit of the merger—and even where parcels of newly acquired land were adjacent to land EQT already owned, many of those parcels had already been drilled out. Actual synergies, according to JANA, would be approximately $1.3 billion less than EQT was advertising. JANA also noted that EQT executives were improperly incentivized to complete the merger, regardless of whether it was in the best interests of shareholders because of their compensation structure.
On October 25, 2018, EQT reported its financial results for the third quarter of 2018, revealing the truth: the merger had not only failed to achieve the represented benefits, it had created inefficiencies. In particular, the Company had not been able to achieve the lateral well length it told investors was possible. EQT shares fell 13% on the news, dropping from a close of $40.46 per share on October 24, 2018 to $35.34 on October 25, 2018—a single-day erasure of nearly $700 million in shareholder value. Over the next several days, EQT shares fell to as low as $31.00 per share—less than half what the Company was worth when the acquisition closed in November 2017.
The precise contours of the case may shift as Cohen Milstein and its co-lead counsel vigorously seek new information to bolster and expand the amended complaint, which will likely be filed later this year. As of now, however, Northeast Carpenters and Guam are pursuing the action under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and SEC Rule 10b-5 on behalf of all investors who purchased EQT common stock between June 19, 2017 and October 24, 2018. The co-lead plaintiffs are also bringing claims under Sections 11, 12(a)(2), and 15 of the Securities Act of 1933 on behalf of all persons who purchased or otherwise acquired EQT common stock in exchange for their shares of Rice common stock as of September 25, 2017, the record date for shareholders to vote on the merger with Rice.
A one-page statement of corporate principles signed by the heads of more than 180 U.S. companies has created quite a furor in the ordinarily sedate and staid field of fiduciary law. The Statement on the Purpose of a Corporation issued by the Business Roundtable in August provides that while each of the individual companies serves its own corporate purpose, they “share a fundamental commitment to all of [their] stakeholders” (emphasis in original). In the Statement, the CEOs commit to deliver value to their customers, invest in their employees, deal fairly and ethically with suppliers, support the communities in which they work, and generate long-term value for shareholders as providers of capital. The Statement concludes by emphasizing that:
Each of our stakeholders is essential. We commit to deliver value to all of them, for the future success of our companies, our communities, and our country.
So why all the fuss? The Business Roundtable has periodically issued principles of corporate governance since 1978, and each version since 1997 has endorsed principles of shareholder primacy. By broadening its vision to give equal attention to other stakeholders, the latest Statement suggests a new and different standard for corporate responsibility.
The Statement immediately prompted commentary from academics, business leaders, lawyers, and corporate governance experts across the ideological spectrum. Some, such as The New York Times’ Andrew Ross Sorkin, called it a significant and welcome shift to rethink the responsibility of corporations to society. Others argued that it was the role of government rather than corporations to address societal concerns.
Still others noted that the Statement characterized shareholders only as providers of capital and not as owners of the corporations, warning that in trying to serve all stakeholders equally, boards of directors would be sidetracked from serving the long term interests of the owners of companies, including pensions funds.
The Council of Institutional Investors (“CII”), whose members hold a collective $4 trillion in assets, warned that “accountability to everyone means accountability to no one” and articulated its position that boards and managers need to sustain a focus on long-term shareholder value. In order to achieve that long-term shareholder value, according to CII, “it is critical to respect stakeholders but also have a clear accountability to company owners.”
CII’s Chair and the Executive Director and Chief Investment Officer of the Florida State Board of Administration, Ashbel Williams, applauded the Roundtable for its intent, but said they “did not get the words quite right.” In a thoughtful commentary, Williams noted that it would have been preferable for the Roundtable to “say more clearly that the fair treatment for customers, employees, suppliers and communities is necessary to create sustainable, long-term shareholder value.”
Public pension plan trustees will recognize a parallel to their fiduciary duty of loyalty, established in state and common law, to act solely in the best interest of the members and beneficiaries of the plans, and the ongoing debate regarding the appropriate role of consideration of environmental, social and governance (“ESG”) factors in investment decision-making in light of that fiduciary duty. A public pension plan trustee must always act for the exclusive purpose of providing benefits to participants and beneficiaries and defraying reasonable expenses of administering the plan. This does not mean that ESG factors may never be taken into consideration; when ESG factors affect the economic merits of an investment analysis, for example, they may be integrated into investment decision-making in the same manner as more traditional financial measures of risk and return.
A corporate director likewise has a fiduciary duty to act in the best interests of the shareholders, not to further the interests of other constituencies. But as noted in an analysis by Morton Pierce published on the Harvard Law School Forum on Corporate Governance, “if directors feel that taking into account the views of employees, customers or suppliers on a given issue would further the interests of shareholders, they are currently empowered to do so.” Pierce notes that there is no need to change the basis for corporate decisions in order to consider other stakeholders in such a situation.
There will no doubt continue to be lively discussion regarding whether the Statement is merely symbolic or reflects a more significant cultural shift in the norms applicable to public corporations. Still, it is possible to read the Statement in a manner that can be reconciled with the principles of existing law on fiduciary duty, and the initial uproar may turn out to be overblown.
The article “Child Safety” originally appeared in the Florida Justice Association Journal (Summer 2019). Please contact any of the authors if you’d like to learn more about Cohen Milstein’s experience in product liability claims related to products specifically designed for babies and young children.
The field of child safety is always evolving. With changing federal standards, advances in technology, and frequent safety recalls, it is hard for parents to stay informed. Recently, the U.S. Consumer Product Safety Commission recalled more than 5 million infant inclined sleepers. This article details the companies that sold the defective products, the breadth of the recalls, the underlying safety defects that led to the recalls, and a few practice tips on how to successfully handle a product defect infant death claim.
Kids II Rocking Sleeper
On April 26, 2019, the Consumer Product Safety Commission (“CPSC”) ordered Kids II, Inc., to recall approximately 694,000 of its Rocking Sleepers. As of 2012, five infants died while using the product, some as a result of rolling from a back-lying position to a stomach-lying position while unrestrained.1 The product, which retailed in the $40 to $80 range, was sold from March 2012, through April, 2019, online and at major retailers nationwide, including Walmart, Target, and Toys “R” Us.
Kids II, Inc., is a private domestic for-profit corporation headquartered in Atlanta, Georgia. It has approximately 500 employees worldwide in 15 offices. Its annual revenue hovers around $300 million.
Fisher-Price Rock ’n Play Sleeper
On April 12, 2019, the CPSC ordered Fisher-Price, Inc., to recall approximately 4.7 million infant sleepers. As of 2009, more than 30 infant fatalities have occurred in its Rock ’n Play Sleepers.4 As with the Kids II Rocking Sleeper, some of these deaths occurred after the infants rolled over, from back to front, while unrestrained.5 The product was sold at major retailers for approximately $40 to $149. Fisher-Price knew how consumers used its sleeper — Instagram has thousands of images of babies, unrestrained, free of harness, and surrounded by blankets and stuffed animals while in a sleeper.6 Fisher-Price’s marketing materials made claims that its inclined sleeper allowed babies to sleep comfy all night long.7 It emphasized the product’s soft padding and angled positions, which safety experts say are dangerous characteristics.
Fisher-Price, Inc., is a domestic for-profit corporation headquartered in East Aurora, New York. It is a subsidiary of Mattel, sells products worldwide, and has an annual revenue average of about $1.1 billion.
Cohen Milstein’s Complex Tort Litigation practice group publishes the bi-weekly Complex Tort Eblast addressing a number of consumer safety and product liability issues.
The Tesla Model 3 may not be as safe as Tesla claims it to be.
As reported in the Observer and CNBC last week, the U.S. National Highway Traffic Safety Administration (NHTSA) sent Tesla a cease-and-desist letter regarding “misleading statements” it made about the safety rating of Tesla’s Model 3.
The October 17, 2018 letter, obtained by Plainsite through a Freedom of Information Act request, revealed that NHTSA ordered “Tesla to stop advertising the Model 3 as the safest car tested by the agency.”
NHTSA specifically took issue with a blog post published by Tesla in October 2018 in which the company claimed that “not only has Model 3 achieved a perfect five-star safety rating in every category and sub-category” of the NHTSA Government 5-Star Safety Rating program, but NHTSA’s “tests also show that it has the lowest probability of injury of all cars the safety agency has ever tested.”
NHTSA said that Tesla’s use of terms such as “safest” and “perfect” are “misleading, because there are multiple cars rated five stars but the agency doesn’t rank vehicles under the same ratings,” according to the Observer.
Although NHTSA referred the matter to the Federal Trade Commission’s Bureau of Consumer Protection for deceptive marketing, Tesla stands firm on its safety claims and has so far declined to remove the blog post, according to Automotive News.
Tesla has been linked to using misleading marketing characterizations of Tesla vehicles in past. In fact, according to Consumer Reports, consumer groups and safety advocates have taken issue with Tesla “for overhyping the capabilities of technologies, such as the Autopilot driver-assistance system and the company’s ‘Full Self Driving’ feature.”
According to the Observer, the NHTSA correspondence obtained by Plainsite also “included subpoena orders that the NHTSA sent to Tesla following several recent crash incidents, including a fatal crash in March of this year (2019) involving a Model 3 car operating on Autopilot.”
View the NHTSA letter and supporting documents.
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Cohen Milstein’s Unsafe & Defective Products, Catastrophic Injury & Wrongful Death, and Consumer Protection teams have successfully represented clients in numerous automotive-related cases against leading car and automotive parts manufacturers, including Takata, Ford, Toyota, Caterpillar, PACCAR, General Motors, Chrysler.
Learn more about Cohen Milstein’s Complex Tort Litigation and Consumer Protection practices or please call us at 561.515.1400.
We Co-Counsel Nationwide.
The last few months have offered several examples of why attention to fiduciary duty remains a critical and evolving component of a pension plan trustee’s responsibility. Debates about the precise nature of fiduciary duty, its appropriate application, and its scope have popped up in the retail, the regulatory, and the pension fund spaces. These debates underscore the need for pension fund trustees to remain focused on and current about their fiduciary responsibility.
In April, President Trump signed an executive order promoting energy infrastructure and economic growth that requires the Secretary of Labor to review existing guidance regarding the fiduciary duty for proxy voting. Because they take seriously DOL guidance on ERISA (the law governing private pensions), public pension fund trustees may well be affected by this executive order when making ESG-related assessments in this area.
In June, the SEC adopted Regulation Best Interest (Regulation BI) to impose new rules for brokers when offering investment advice. The precise nature of the fiduciary responsibility required by brokers under Regulation BI was subject to interpretation and not resolved by its over 700 pages. Industry advocates lauded Regulation BI for its protective features while consumer advocates were less sure that fiduciary obligations as promised were as clear as touted. At about the same time, the House of Representatives passed the SECURE Act, which may have muddled the precise nature of the fiduciary obligations of employers who offer annuities in their retirement plans.
Also, a commissioner of the Commodities Futures Trading Commission is creating a panel of experts to explore the impact of climate change on financial markets while state financial regulators and legislators are considering the impacts of some of the recent changes affecting fiduciary duty in the areas described above.
These recent actions that can impact the fiduciary duty of brokers, employers, trustees and others reflect the continued essential nature of the responsibility of those entrusted with managing public pension funds.
Public pension trustees must act in the best interests of their members and beneficiaries. The fact that others may have different views of how to exercise that responsibility does not diminish the trustees’ ongoing duty in putting the beneficiaries’ interests first. Should changes in the legal standards for how public pension trustees must act be adopted, the trustees must remain aware to ensure compliance with that new standard. These may not be easy rules for trustees to follow but they are essential to the proper functioning of the public pension system.
Securities laws and regulations exist, in part, to make sure securities trade on a level playing field where all investors have access to the same company information at the same time. But while it is unlawful for corporate insiders to trade securities based on nonpublic information, there is plenty of evidence that company executives and officers continue to profit on their inside knowledge despite existing restrictions.
The current Congress is considering several measures to close such loopholes. One of these laws, which would tighten the rules governing prearranged trading plans, is awaiting Senate action after overwhelming approval in the House. Another would end what its sponsor called “decades of ambiguity” by expressly making it a federal crime to trade on wrongfully obtained non-public information.
Here is a brief update of where these bills stand in the legislative process, beginning with the one that is furthest along.
The Promoting Transparent Standards for Corporate Insiders Act
This bill, which passed the House of Representatives with near-unanimous support, would direct the Securities and Exchange Commission to study changes to prevent manipulation of Rule 10b5-1 trading plans, which give corporate insiders an “affirmative defense” against allegations of unlawful insider trading.
Rule 10b5-1, enacted by the SEC in 2000 pursuant to its rule-making authority under the Securities Exchange Act of 1934, defines insider trading as the buying or selling of a security while in possession of “material nonpublic information” about that security or its issuer.
But SEC Rule 10b5-1 also shields insiders who become aware of nonpublic information after they decide to trade but before the trade is executed—who, in other words, don’t base their decision on inside information. By setting up Rule 10b5-1 trading plans that instruct investment professionals to buy or sell stock in certain quantities at prearranged times, executives and board members can often avoid insider trading liability even if they profit from a trade’s timing.
When the Department of Justice, the SEC, or private plaintiffs point to suspicious trading patterns by corporate insiders as evidence that they knew about a fraudulent scheme of which the public was unaware, these executives and officers often successfully present their use of trading plans as evidence to negate their liability—the affirmative defense ensconced in Rule 10b5-1.
Yet almost from the day Rule 10b5-1 trading plans were established, they have been criticized as susceptible to manipulation by corporate insiders. A 2016 study in the Columbia Business Law Review, for example, concluded that insiders often set up, modified, and discontinued plans to capitalize on nonpublic information. Its examination of more than 1.5 million insider transactions registered with the SEC from 2003 through 2013 found that insiders with plans in place profited as much as insiders without restrictions. “Our evidence clearly shows that these safe harbor plans are being abused to hide profitable trades made while in possession of material non-public information,” its authors wrote.i
Looking to close such loopholes, the proposed bill would order the SEC to do a one-year study to determine whether the rule should be amended to allow plans to be established only during issuer-adopted trading windows, limit the ability of issuers and insiders to adopt multiple plans, and restrict how often plans can be modified or canceled. The SEC would be required to consider imposing mandatory delays between a plan’s establishment or modification and the first prearranged trade.
In a rare display of high-level bipartisanship, the bill was co-sponsored by House Financial Services Committee Chairwoman Maxine Waters (D-Calif.) and Ranking Member Patrick McHenry (R-N.C.), and approved by a 413-to-3 vote on January 28, 2019. The Senate version of the bill was referred to the Committee on Banking, Housing and Urban Affairs.
The Insider Trading Prohibition Act
Because there is no express definition of insider trading in the federal securities laws, it has become an example of “judge-made” law, with judges in each successive case relying on previous rulings to discern whether a defendant’s behavior runs afoul of Section 10(b) of the Exchange Act. The Insider Trading Prohibition Act introduced by Rep. Jim Himes (D-Conn.) seeks to codify the law of insider trading.
In Himes’ words, the Act “would make it a federal crime to trade a security based on material, nonpublic information that was wrongly obtained, ending decades of ambiguity for a crime that has never been clearly defined by the law.”
The Insider Trading Prohibition Act goes beyond the individual who trades on insider knowledge. It would make it unlawful to communicate an inside “tip” to someone who may be reasonably expected to trade on it. It defines as wrongful any information obtained through “theft, bribery, misrepresentation or espionage,” in violation of computer data privacy laws, intellectual property laws, or breaches of fiduciary duty or confidentiality.
Importantly, the bill would also remove a requirement in some jurisdictions that the “tippee” know that the “tipper” received a personal benefit from sharing the information, as long as the tippee knew or recklessly disregarded that the information was wrongfully obtained. In Congressional testimony in support of the bill, Columbia Law School Professor John C. Coffee, Jr. called the requirement of showing a benefit to the tipper “a significant barrier to insider trading enforcement” because it is easy to hide and because Wall Street essentially runs on favors. (Coffee serves on a task force formed in October 2018 by former U.S. Attorney Preet Bharara to explore changes in insider trading laws. The task force includes former regulators, prosecutors, judges, academics, and defense lawyers. It has not yet released its report.)
Finally, the bill would authorize the SEC to use its discretion to exempt any individual or transaction from liability under it.
The House Financial Services Committee unanimously approved the measure, with vocal support from Reps. Waters and McHenry. It is awaiting consideration by the full House.
The 8-K Trading Gap Act of 2019
Another loophole exploited by corporate insiders involves the four-day delay between the time a company learns of potentially market-moving information and the time it is required to report that information to the SEC (and thus the public) by filing a Form 8-K.
The so-called “8-K trading gap” was a term coined by current SEC Commissioner Robert J. Jackson, Jr. in a 2015 research paper he published while at Columbia Law School. Jackson and his co-authors concluded that “public-company insiders trade during the 8-K gap—and earn economically and statistically meaningful profits while doing so.”ii His findings echoed a 2012 investigation by The Wall Street Journal, which similarly found “that many executives reaped robust gains when they traded ahead of major announcements.”iii
The bill proposed by Rep. Carolyn Maloney (D-N.Y.) would amend the Exchange Act to require the SEC to eliminate the four-day gap with exceptions for certain transactions entitled to safe harbor protections, such as trades made under Rule 10b5-1 trading plans. The bill was discussed at an April 3 hearing of the House Financial Services Subcommittee on Investor Protection, Entrepreneurship and Capital Markets, which Maloney chairs.
Stock Buybacks
Research by SEC Commissioner Jackson may also prompt Congressional action on another common practice—heavy sales of company stock by executives following buyback announcements—that while not strictly insider trading, can allow them to profit handsomely.
In December 2018, Sen. Chris Van Hollen asked Jackson to clarify his research after SEC Chairman Jay Clayton commented to the Senate Banking Committee that Jackson’s findings of larger-than-usual insider selling after buyback announcements could be coincidental. Maybe executives sell stock after buybacks, the thinking goes, because they are newly freed of company-imposed insider trading restrictions in place before the announcement, when the executives had possessed nonpublic information.
Share prices typically go up once a company announces that it plans to repurchase its own stock: a buyback announcement is essentially a declaration that the company thinks the stock is trading cheaply; the buyback itself also takes shares off the open market, reducing supply. Swimming in extra cash following the 2017 tax cuts, corporations repurchased a record $806 billion of their own shares last year, according to figures compiled by S&P Dow Jones Indices. SEC rules currently provide a “safe harbor” that reduces liability when companies repurchase their own common stock on open markets.
In a March 2019 letter responding to Van Hollen, Jackson said additional research had shown higher-than-usual insider trading after buybacks regardless of company’s pre-announcement trading restrictions. In his letter, Jackson also noted another “troubling trend.” When insiders sell after a buyback announcement, the company’s “long-term performance is worse,” he said. “This raises the concern that insiders’ stock-based pay gives them incentives to pursue buybacks that maximize their pay—but do not make sense for long-term investors.”
Van Hollen said Jackson’s findings showed “that corporate executives can use buybacks to cash out at high prices to the detriment of their company and investors.” Van Hollen now plans to introduce a bill that would require the SEC to review its current buyback rules.
i See Taylan Mavruk and H. Nejat Seyhun, “Do SEC’s 10B5-1 Safe Harbor Rules Need To Be Rewritten?,” Columbia Business Law Review, Vol 2016, pp. 182-183, and H. Nejat Seyhun and Taylan Mavruk, “SEC Needs to Rewrite its 10b5-1 Safe Harbor Rules,” The CLS Blue Sky Blog, June 2, 2016.
ii See Columbia Law and Economics Working Paper No. 524, “The 8-K Trading Gap,” Alma Cohen, Robert J. Jackson, Jr., and Joshua Mitts, September 7, 2015.
iii See The Wall Street Journal, “Executives’ Good Luck in Trading Own Stock,” by Susan Pulliam and Rob Barry, Nov. 27, 2012.
Summertime means fun in the sun, and likely time spent poolside with family and friends.
As drowning remains the number one unintentional cause of death for children in the U.S. ages 1 to 4, and the second leading cause among children ages 5 to 14, it is important to make pool safety a top priority this summer.
Cohen Milstein’s Complex Tort Litigation team has prepared a quick checklist on what to look for when evaluating the safety of public swimming pools:
- Are there adequate layers of security? According to major safety organizations, including the American Red Cross, the U.S. Consumer Product Safety Commission, and the American Academy of Pediatrics, public swimming pools should have adequate layers of protection. At a minimum, all swimming pools should have a child safety fence with self-locking doors and gates.
- Is the pool really closed? American National Standard for Public Swimming Pools (ANSPS) advocates that when a public pool is closed for use, a secondary lock system be put in place to prevent access.
- Are utility or service gates secure? The International Swimming Pool and Spa Code recommends that gates not intended for pedestrian use, such as utility or service gates, remain locked when not in use.
- What happens during bad weather? Centers for Disease Control and Prevention advocates that swimming pool activity should be prohibited during inclement weather.
- Are there safety devices? ANSPS requires that public pools always have safety hooks and flotation devices mounted in easy to see places and that are readily available for use and that all pools with a slope transition have safety line anchors and a safety line in place.
- Who can perform CPR? ANSPS requires that a CPR-certified individual be on premises whenever a public pool is in use.
Cohen Milstein’s Complex Tort Litigation practice litigates Unsafe & Defective Products, and Wrongful Death & Catastrophic Injury claims related to swimming pool safety. If you’re interested in learning more about the firm’s Complex Tort Litigation practice, please email us, or call us at 561.515.1400.
We co-counsel nationwide.
The authors address criticism of shareholder lawsuits presented in two recent reports by the U.S. Chamber’s Institute for Legal Reform (“ILR”). Released in October 2018 and February 2019, the ILR reports emphatically urge Congress, the Securities and Exchange Commission, and federal judges to act to curb a “contagion” of “abusive” securities class action litigation.
Reiser and Toll focus on securities lawsuits that have been targeted by the ILR as nuisance cases that warrant legislative intervention. These “event-driven” lawsuits seek to compensate shareholders, who allege that a company has recklessly concealed or misrepresented business or operational risks, leading to a catastrophic event that, among other things, drives down the company’s stock price. Examples include the BP Deepwater Horizon disaster, where the company for years had failed to implement safety systems despite repeated public claims to the contrary. Reiser and Toll find that the ILR relies on flawed logic and circular reasoning to argue that the legislature must intervene to limit these cases rather than allowing the courts to make such determinations. Indeed, many of these suits provide an important remedy for investors and have resulted in large settlements that could not have been achieved otherwise.
The purported mission of the U.S. Chamber of Commerce’s Institute for Legal Reform (“ILR”) is to bring about “civil justice reform” by, among other things, lobbying Congress to limit investors’ access to the courthouse. For decades, the ILR has allied itself with powerful publicly traded corporations under the pretext of protecting their defrauded investors. The ILR’s latest campaign, like so many of its previous endeavors, relies on the illogical premise that investors and the economy are harmed by securities fraud litigation rather than by corporate fraud and malfeasance. In two reports authored by Mayer Brown Partner Andrew Pincus, A Rising Threat the New Class Action Racket that Harms Investors and the Economy (October 2018) and Containing the Contagion, Proposals to Reform the Broken Securities Class Action System (February 2019), the ILR asserts that the 1995 Private Securities Litigation Reform Act (“PSLRA”) has failed to curtail meritless securities lawsuits and that Congress therefore must place additional constraints on investors’ ability to hold companies accountable for fraud.
Citing the increase in the number of securities-related lawsuits over the past several years, the ILR argues that courts should not be permitted to separate the meritorious cases from the weak and that certain types of cases must be scaled back through legislation. Both ILR reports specifically target federal securities class actions that: (i) challenge M&A transactions; and (ii) arise from corporate disasters. This article focuses only on the category of lawsuits the ILR calls “event-driven litigation.”
The ILR insists that cases involving corporate disasters “extort large settlements” from corporations for meritless claims. That bold assertion conveniently ignores the fact that many cases of this type have settled only after hard-fought litigation in which the corporate defendants were vigorously represented by lawyers from the country’s most elite law firms, making the ILR’s efforts to victimize the companies even more of a distortion. Contrary to the ILR’s claims, the existence of “event-driven litigation” simply reflects the reality that when companies behave recklessly, there often are two groups of victims: individuals who suffer personal or property injuries, and shareholders who sustain investment losses.
The ILR’s assertion that the increase in event-driven litigation causes damage to investors and companies, rather than reflect it, is as fundamentally unsound as the idea that the number of firefighters dispatched to a fire causes greater fire damage. To the contrary, event-driven cases serve as a deterrent to companies who might otherwise conceal or misrepresent their operations because they recognize that investors will hold them accountable for doing so.
Editor’s Note: As reported in the Fall 2018 issue of Shareholder Advocate, Cohen Milstein Partner Laura Posner and Associate Eric Berelovich submitted an amicus curiae (“friend of the court”) brief in support of the Securities and Exchange Commission in Lorenzo v. SEC.
In a victory for plain language, the Supreme Court ruled in March that an investment banker who intended to defraud clients by relaying an email with contents he knew were misleading was liable for fraud even though he didn’t technically “make” the fraudulent statement at issue.
In Lorenzo v. Securities and Exchange Commission, the Court held that the SEC correctly found Francis V. Lorenzo in violation of its Rule 10b-5(a) and (c), for his “dissemination of false or misleading statements with intent to defraud” prospective investors. The ruling upheld a decision by the D.C. Court of Appeals.
As the Supreme Court noted in its March 27 opinion, SEC Rule 10b-5’s three subsections make it unlawful: (a) “to employ any device, scheme, or artifice to defraud,” (b) “to make any untrue statement of a material fact,” or (c) “to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit … in connection with the purchase or sale of any security.”
Writing for a 6-to-2 majority, Justice Stephen Breyer held that Lorenzo, then director of investment banking at broker-dealer Charles Vista, had violated subsections (a) and (c) of Rule 10b-5 by sending prospective investors emails that vastly understated the assets of a company whose debt Charles Vista was trying to sell— “emails he understood to contain material untruths.” Rule 10b-5 was promulgated by the SEC to enforce Section 10(b) of the Securities Exchange Act (Exchange Act). The Court also held that Lorenzo was liable under Section 17(a)(1) of the Securities Act of 1933, which mirrors Rule 10b-5(a)’s language against “any device, scheme, or artifice to defraud,” this time in connection with sales and offerings.
In reaching its conclusion, the majority rejected Lorenzo’s argument that he couldn’t be held responsible under Rule 10b-5(a) and (c) because the email containing the fraudulent information was composed largely by his boss. Lorenzo, who sent the email to clients after adding his title and an offer to answer questions, did not deny knowing that the message’s content was false.
Lorenzo’s argument relied on a 2011 Supreme Court decision, Janus Capital Group, Inc. v. First Derivative Traders, which restricted primary liability under subsection Rule 10b-5(b) to “makers”—those who had “ultimate authority” over the statement’s content “and whether and how to communicate it.” The Supreme Court took the case “to resolve disagreement about whether someone who is not a ‘maker’ of a misstatement under Janus can nevertheless be found to have violated the other subsections of Rule 10b-5 and related provisions of the securities laws, when the only conduct involved concerns a misstatement,” Justice Breyer wrote.
“After examining the relevant language, precedent, and purpose,” including dictionary definitions of the words in the statute, the Court concluded that “dissemination of false or misleading statements with intent to defraud can fall within the scope of subsections (a) and (c) of Rule 10b–5 … even if the disseminator did not ‘make’ the statements and consequently falls outside subsection (b) of the Rule.”
The majority also rejected an argument made by Justice Clarence Thomas, who was joined in his dissent by Justice Neil Gorsuch, that finding Lorenzo liable would nullify the restrictions in Janus, rendering it “a dead letter” and potentially putting at risk secretaries who relayed their boss’s fraudulent emails. On the contrary, the Court said, Janus would still apply in cases “where an individual neither makes nor disseminates false information—provided, of course,
that the individual is not involved in some other form of fraud.” And while the Court recognized that Rule 10b-5’s “expansive language” could create some “problems of scope in borderline cases,” it rejected the idea that someone “tangentially involved in dissemination—say a mailroom clerk” was anything like Lorenzo, who “sent false statements directly to investors, invited them to follow up with questions, and did so in his capacity as vice president of an investment banking company.”
Allowing Lorenzo to avoid responsibility for what appeared to be “a paradigmatic example of securities fraud” would violate both Congress’s and the SEC’s intentions, Breyer wrote, not to mention common meanings of the terms used in the rules themselves. “It would seem obvious that the words in these provisions are, as ordinarily used, sufficiently broad to include within their scope the dissemination of false or misleading information with the intent to defraud,” he wrote.
Rule 10b-5 was promulgated by the SEC to enforce the Exchange Act, a sweeping law enacted after the 1929 Stock Market Crash, that is relied on by the SEC and private litigants to bring most securities fraud cases. In his conclusion, Justice Breyer wrote that in enacting the law, “Congress intended to root out all manner of fraud in the securities industry. And it gave to the Commission the tools to accomplish that job.” Under Lorenzo, those tools will continue to include any and all of the subsections of SEC Rule 10b-5.
At the February 2019 meeting of the National Association of Public Pension Attorneys (NAPPA), I had the pleasure of moderating a panel on a topic of perennial interest to many clients: “Governance and Fiduciary Implications of Delegation and the Proper Role of the Board in These Matters.” The Fiduciary and Plan Governance Section panel discussed the design and implementation of delegations to pension fund staff and the proper role of the board. Panelists Lisa Marie Hammond from the California Public Employees’ Retirement System, Ben Brandes from the Wyoming Retirement System, and Julie Becker from Aon Hewitt shared a broad range of pension system perspectives, making it clear that this is not a “one size fits all” exercise. We discussed delegation in the context of all aspects of pension system administration—benefit matters, third-party contracting, investments, securities lawsuits and other litigation, and proxy voting. We gave particular consideration to staff’s accountability to report to the board, including what level of reporting or communication would satisfy the board’s fiduciary duty.
A survey of NAPPA membership was undertaken before the February meeting to guide the discussion. Public funds of all sizes responded, and we reviewed the results to look for trends—whether delegation increased with fund size, for example. (Interestingly, fund size correlated positively with delegation in some areas, such as investment manager selection, but not across the board.)
Because fiduciaries are judged by the decision-making process they undertake, the survey looked at how delegation was typically documented. A clear majority of respondents (62%) indicated that staff delegations were set forth in “policies” of the system. The next-largest number said they relied on “law, rules and regs,” followed by those who said their funds memorialized delegations in “Board minutes.”
From a fiduciary perspective, the question of whether to delegate is tied to trustees’ application of the duty of prudence. As panelists noted, trustees simply cannot be experts on all pension-related subjects, particularly when it comes to sophisticated investments. Thus, delegation is not an abdication of responsibility; on the contrary, boards may even have a duty to delegate depending on the facts and circumstances:
Restatement (Third) of Trusts: A trustee has a duty to personally perform the responsibilities of trustee except as a prudent person might delegate those responsibilities to others. In deciding whether, to whom and in what manner to delegate fiduciary authority in the administration of a trust, and thereafter in supervising agents, the trustee is under a duty to the beneficiaries to exercise fiduciary discretion and to act as a prudent person would act in similar circumstances.
Proper delegation is also related to the application of the duty of care: duty to properly select the delegate, duty to monitor, duty to ensure that the delegate has adequate information and resources, and duty to impose standards of care and loyalty upon the delegate.
From a governance perspective, the panel said delegating may help the board make more effective use of its time, noting that boards should focus on policy, setting direction for their systems, and oversight—not on day-to-day administration.