Shareholder Litigation

New Delaware Supreme Court Ruling on Excess Director Compensation: A Return to Formula Plans?

On December 13, 2017, in Re Investors Bancorp, Inc. Stockholder Litigation (“Bancorp”), the Supreme Court of Delaware held that when stockholders have approved an equity incentive plan that gives the directors discretion to grant themselves awards within a shareholder approved plan limit, and a stockholder properly alleges that the directors improperly exercised that discretion, then the stockholder ratification defense is unavailable to dismiss the suit, and the directors will be required to prove the entire fairness of the awards to the corporation.  The Bancorp case involved a generous shareholder approved plan limit and upholds the adage that bad facts make bad law.

In Bancorp, the company’s stockholders approved an equity plan for employees and directors that gave Bancorp Inc.’s board of directors discretion to allocate up to 30% of all option or restricted stock shares available under the plan as awards to themselves. After stockholders approved the equity plan, the board approved grants to themselves of just under half of the stock options available to the directors and nearly thirty percent of the shares available to the directors as restricted stock awards.

Each director’s grant far surpassed the median pay at similarly sized companies and the median pay at much larger companies. The awards were also over twenty-three times more than the median award granted to other companies’ non-employee directors after mutual-to-stock conversions. The court determined that the plaintiffs alleged facts that the directors breached their fiduciary duties by awarding excessive equity awards to themselves under the equity plan and that a stockholder ratification defense was not available for a motion to dismiss. READ MORE

The “Pharma Bro” Trial—Who Really Won?

After a five-week trial, a jury of five men and seven women convicted notorious pharmaceutical executive Martin Shkreli of securities fraud on August 4, 2017. Shkreli had been charged with two counts of securities fraud, three counts of conspiracy to commit securities fraud, and three counts of conspiracy to commit wire fraud for operating a sophisticated Ponzi scheme in which he looted the assets of his pharmaceutical company to pay off defrauded investors in his hedge funds. The jury convicted Shkreli of two counts of securities fraud and one count of conspiracy to commit securities fraud but acquitted him of five other counts, including the wire fraud charges.

Shkreli gained notoriety in 2015, when he was head of Turing Pharmaceuticals, for increasing the price of a life-saving drug from $13.50 to $750 per pill. However, Shkreli’s conviction stems from his time before Turing, when he managed two hedge funds, MSMB Capital Management and MSMB Healthcare Management. The government alleged that between 2009 and 2012, Shkreli induced investments of around $3 million from eight investors in MSMB Capital and $5 million from thirteen investors in MSMB Healthcare by misrepresenting key facts, including the funds’ performance and assets under management, and omitting key facts, such as significant trading losses at another fund Shkreli had previously managed. Shkreli allegedly also withdrew money from the funds for personal use and produced false performance reports touting profits as high as forty percent. MSMB Capital ceased trading after a series of trading losses in early 2011, and MSMB ceased operating in late 2012. In September 2012, Shkreli notified both funds’ investors that he was winding down the funds, that he had doubled their investments net of fees, and that investors could have their interests redeemed for cash, even though the funds had no money. At trial, Shkreli’s attorney argued that the hedge funds’ investors had not only received all of their money back but made significant profits. READ MORE

Time’s Up: Supreme Court Affirms Three-Year Deadline for Opting Out of Section 11 Class Actions

On June 26, 2017, the U.S. Supreme Court issued a decision that will have a significant effect on securities class action litigation, changing the strategic calculus for both institutional plaintiffs and defendants. In California Public Employees’ Retirement System v. Anz Securities, Inc., No. 16-373, 582 U.S. ___ (2017) , the Court held that American Pipe tolling does not apply to the 3-year statute of repose for private damage claims under the Securities Act of 1933.  Thus, the filing of a class action complaint under Section 11 of the Securities Act of 1933 does not toll the three-year statute of repose for individual claims that may be brought by putative class members who later decide to opt out of a class-wide settlement.

CalPERS arose out of two public securities offerings issued by Lehman Brothers Holdings in 2007 and 2008.  In September 2008, with Lehman in bankruptcy, a Section 11 class action was filed against Anz Securities and other underwriters to the offerings, alleging that the registration statements included material misstatements or omissions.  The class action complaint was consolidated with other securities suits against Lehman into a single multidistrict class action in the Southern District of New York.  CalPERS, an unnamed member of the putative class, subsequently filed a separate complaint alleging identical causes of action against the respondents in the Northern District of California in February 2011—more than three years after the offerings closed.  CalPERS’ individual suit was transferred to the Southern District of New York and consolidated with the multidistrict litigation.  CalPERS opted out of the class only after the class action reached a settlement.


A Fraud By Any Other Name: Seventh Circuit Holds That SLUSA Extends to Class Actions That Could Be Pursued Under Federal Securities Fraud Laws

A divided panel of the Seventh Circuit recently held that the Securities Litigation Uniform Standards Act (“SLUSA”) requires any covered class action that “could have been pursued under federal securities law” to be brought in federal court.  The plaintiff maintained an investment account at LaSalle Bank, which was later acquired by Bank of America.  Each night, LaSalle invested (“swept”) the account’s balance into a mutual fund approved by the plaintiff.  Without the plaintiff’s knowledge, LaSalle also allegedly pocketed the fees that some of the mutual funds paid each time a balance was transferred.  When the plaintiff found out, he brought a class action in state court, arguing that LaSalle had breached its contractual and fiduciary duties to its customers by secretly paying itself fees generated by their accounts.

LaSalle and Bank of America successfully argued before the district court that SLUSA required removal of the case to federal court. SLUSA authorizes defendants to demand removal of any class action with at least fifty members that alleges “a misrepresentation or omission of a material fact in connection with the purchase or sale of a covered security.”  Congress drafted SLUSA to force securities class actions out of state courts and into federal courts, where plaintiffs must clear higher pleading hurdles.


Ninth Circuit Smells a Rat and Reinstates Claim That Pharmaceutical Company Failed to Disclose Cancers in Animal Testing

The Ninth Circuit recently revived a securities class action against Arena Pharmaceuticals, issuing a decision with important guidance to pharmaceutical companies speaking publicly about future prospects for FDA approval of their advanced drug candidates. The court’s opinion reemphasizes the dangers of volunteering incomplete information, holding that a company that touts the results of trials or tests as supportive of a pending application for FDA approval must also disclose negative test results or concerns expressed by the FDA about those studies—even if the company reasonably believes the concerns are unfounded and are the product of a good faith disagreement.


It’s Hunting Season. For Unicorns? Lawsuit Against Theranos Signals Trend In Investors Going After Late-Stage Start-ups

Map and Compass

Last week brought more bad news for private blood testing company Theranos Inc., as San Francisco-based Partner Fund Management L.P. (“PFM”) launched a suit claiming that it was duped into making a $96.1 million investment in Theranos in February 2014.  The complaint, filed in Delaware Court of Chancery, alleges common law fraud, securities fraud under California’s Corporations Code, and violations of Delaware’s Consumer Fraud Act and Deceptive Trade Practices Act, among other things, against Theranos, its Chief Executive Officer, Elizabeth Holmes, and its former Chief Operating Officer, Ramesh Balwani.


Seventh Circuit Brands Disclosure-Only Settlement a “Racket” and Endorses Delaware Court of Chancery’s Stricter Standard for Approval of Disclosure-Only Settlements


In a 2-1 decision, the Seventh Circuit has joined the Delaware Court of Chancery’s call for enhanced scrutiny of “disclosure-only” M&A settlements that involve no monetary benefits to shareholders.  As previously discussed here, M&A litigation, typically alleging breach of fiduciary duty by directors and insufficient disclosures, often ends in settlement, with defendants agreeing to provide supplemental disclosures in exchange for broad releases of claims, while plaintiffs’ counsel “earns” large attorneys’ fees for providing the class with the “benefit” of the agreed-upon disclosures.  In In re Walgreen Company Stockholder Litigation (In re Walgreen Co.), the Seventh Circuit rejected such a settlement, endorsing the standard for approval of disclosure-only settlements articulated by the Delaware Court of Chancery in In re Trulia, Inc. Shareholder Litigation (In re Trulia).  In In re Trulia, the Court of Chancery held that disclosure-only settlements in M&A litigation will meet with disfavor unless they involve supplemental disclosures that address a “plainly material misrepresentation or omission” and any proposed release of claims accompanying the settlement encompasses only disclosure claims and/or fiduciary duty claims regarding the sale process.


It’s Not Easy Being Green: LeapFrog Execs Dodge Class-Action Over Sales Projections

On August 2, 2016, U.S. District Judge Edward Chen dismissed a shareholder lawsuit brought against children’s educational toymaker LeapFrog Enterprises, Inc. (“LeapFrog”) for failure to adequately plead statements were false or misleading, or made with requisite intent.  Plaintiffs’ suit, which was consolidated in 2015, alleged that LeapFrog and its executives hid demand and inventory problems from investors.  The judge disagreed, finding that the investors had been sufficiently warned of problems with LeapFrog’s product lines and that the allegedly misleading statements were forward-looking and cautionary, and therefore fell within the PSLRA’s safe harbor.  Defendants’ public statements about many of the allegedly misleading topics helped drive home that Plaintiffs’ theory amounted to classic “fraud by hindsight.”


Delaware Chancery Court Finds that Director Defendants Can Not “Merge Their Way Out of” Breach of Fiduciary Claims

court decision

On July 28, 2016, the Delaware Chancery Court allowed claims of unfair dealing against the Board of property management company Riverstone National Inc. to survive where the directors facilitated a merger that forestalled a derivative suit against them.  The court held that by orchestrating a merger that extinguished a possible derivative action, the director defendants obtained a special benefit for themselves.  As a result, the directors were interested in the transaction, thereby rebutting the presumption of the business judgment rule, and triggering application of the “entire fairness” doctrine.


Shareholder Derivative Suit Following Data Breach Misses Target

On July 7, 2016, Judge Paul A. Magnuson of the United States District Court for the District of Minnesota granted Defendants’ Motions to Dismiss a shareholder class action that had been initiated following a 2013 holiday season data breach involving customers of Target Corporation (“Target,” or “the Company”).  The data breach, which resulted in the release of information of approximately 70 million consumer credit and debit cards, made headlines as one of the biggest privacy hacks at the time.  Initially disclosed to the public in December 2013, with an estimated 40 million credit and debit cards affected, Target subsequently revealed a little less than a month later that additional consumer data, including customers’ names, mailing addresses, phone numbers and email addresses, were also stolen, and increased its initial estimate to 110 million.