The D&O Diary

The D&O Diary


Yet Another Shareholder Suit Alleging Misrepresentation of Environmental Liabilities

Posted in Environmental Liability

floridaAt a time when cyber liability and other hot topics dominate the discussion, potential corporate liability arising from environmental disclosures often does not receive the attention it should. However, as I have previously noted on this blog, environmental issues have been and remain an area on which plaintiffs’ lawyer have been focused. A recently filed securities class action lawsuit underscores the significance of environmental issues and the connection of these issues to corporate liability exposures.


On April 30, 2015, plaintiffs’ lawyers filed a securities class action lawsuit in the Middle District of Florida against Rayonier Advanced Materials (RYAM) and certain of its directors and officers. RYAM is a relatively new publicly traded company. It was formed as a result of the June 30, 2014 spin-off of the Performance Fibers Division of Rayonier, Inc.


The securities class action lawsuit relates to RYAM’s January 28, 2015 fourth quarter and full year earnings release (here). Among other things, in the press release, RYAM announced that it was increasing its reserve for environmental liabilities associated with discontinued operations by $69 million. This reserve represents the company’s estimate of its likely costs associated with the remediation and maintenance of disposed operational sites.


According to the plaintiffs’ lawyers’ May 4, 2015 press release (here), RYAM’s financial statement were misleading because the company had improperly recorded or failed to record its liabilities for environmental remediation and related obligations and failed to provide sufficient disclosures to investors to permit “meaningful evaluation of the true scope and extend of the environmental remediation and related liabilities, which were associated with decades of environmental pollution.”


The plaintiffs’ complaint (which can be found here) specifically alleges that:


(1) Defendants incorrectly accounted for RYAM’s remediation and long-term monitoring and maintenance for environmental liabilities; (2) as a result, the Company understated its Environmental Reserves; (3) as a result, the Company did not record appropriate reserves as required by GAAP; (4) as a result, the Company did not disclose a range of possible reserves for probable and reasonably estimable environmental remediation and related liabilities as required by GAAP; (5) as a result, RYAM did not properly estimate known and probable environmental remediation obligations as required by GAAP; and (6) as a result, RYAM did not maintain adequate internal and financial controls.


The complaint also alleges that RYAM misled investors about the demand for its product, and that contrary to the company’s representations, demand for acetate was slowing. The complaint further alleges that the company made misrepresentations regarding the debt incurred in connection with the spin-off.


As this case and other recent case filings show, environmental issues are an area of increasing focus for plaintiffs’ lawyers. As I have noted, a number of these environmentally focused shareholder lawsuits have proven to be viable. At a minimum, these cases underscore the fact that reporting companies’ environmental compliance disclosures are facing increasing scrutiny, making the quality of the environmental disclosures increasingly important. As I noted in connection with the recent shareholders derivative lawsuit involving Duke Energy, environmental concerns can also lead to mismanagement claims based on alleged breaches of fiduciary duties.


The typical D&O liability insurance policy will contain an exclusion for loss arising from claims for pollution and environmental liabilities. However, many of these exclusions also contain a provision carving back coverage for shareholder claims. This case shows the importance of this kind of coverage carve back. The carve back ensures that directors and officers hit with this kind of shareholder suit filed in wake of an environmental incident are able to rely on their  D&O insurance to defend themselves against the shareholder suit.


In recent years, a number of D&O insurance carriers have introduced policy forms that eliminate the pollution exclusion altogether but that also incorporate into the policy’s definition of “Loss” a provision stating that Loss will not included environmental remediation or cleanup costs.


An April 28, 2015 article in Corporate Counsel entitled “D&O Insurance for Environmental Liability Exposures” (here) discusses the D&O insurance issues relating to environmental liability in more detail

Reps and Warranties Insurance: Why it is Increasingly Common

Posted in Reps and Warranties Insurance

dealReps and Warranties insurance has been available for several years now, but there is no doubt that more recently there has been an increase in the product uptake. Indeed, according to an April 29, 2015 article from George Wang of the Haynes and Boone law firm (here), reps and warranties insurance “has gained popularity as a tool to decrease transaction liability exposure in M&A transactions” and more recently there has been a “dramatic increase” in the use of reps and warranties insurance products.


As I have detailed in prior posts (for example, here), reps and warranties policies can preserve deal value by shifting potential liability for breaches of transaction representations and warranties discovered after deal closing. In exchange for an upfront payment, the policy may reduce or eliminate the need for seller escrows or holdbacks for contingent liabilities – an arrangement that could be particularly attractive in the current low interest rate environment. Although the policies are available either for the buyer or the seller, most policies are buyer-side policies.


According to the law firm memo’s author, there are a number of reasons why these insurance products have become more popular. The most basic reason involves simple economics – “the cost to obtain coverage today is significantly lower than the premiums charged even five years ago.” At the same time, the market for reps and warranties has “expanded greatly” (and is growing larger all the time).


In addition to these economic considerations, there are several other reasons why the product has become more popular: first, there has been an increase in what the author describes as “middle-market deals” (that is, deals ranging from between $25 million and $2 billion), as opposed to “mega public deals.”


Second, private equity sellers increasingly are trying to limit their indemnity exposure and limit escrow and holdback obligations. In addition, these private equity sellers may want to be able to close out their funds and fully distribute sales proceeds to their investors.


Third, in a consideration that I have seen becoming increasingly important, buyers in a competitive auction process are trying to use the inclusion of a reps and warranties policy (which would reduce the need for seller escrows and holdbacks) in a competitive auction process, as a way to enhance their bid relative to competitors.


Fourth, in what is also an increasingly important consideration, where a transaction involves a seller that the buyer considers a high-risk indemnitor or a foreign seller, the buyer may want to implement the reps and warranties insurance to avert a possible collection risk (such as when a seller based in a jurisdiction that my not offer reassuring means of recourse if a breach occurs). The law firm memo’s author notes that reps and warranties policies “can be particularly useful in the context of cross-border transactions … to facilitate middle-market transactions involving foreign buyers or sellers of domestic U.S.-based businesses.”


Fifth, reps and warranties insurance “may be attractive in situations involving multiple sellers who may have different levels of indemnity obligations to a prospective buyer (i.e., several versus joint and several liability) or in the case of an equity rollover transaction or partial management buyout situation in which a majority buyer may not want to seek post-closing claims against a continuing management team that comprises the selling group.” The insurance product avoids the possibility that the buyer might have to assert a claim against, and thus demotivating, the post-deal management team.


Another reason for the increased uptake of the product is that a recurring past concern about the insurance product can now be addressed through policy wording (at least when the product is properly put together). As I noted in prior posts (here and here), the have been recurring questions whether the product would provide appropriate protection for multiple-based damages – for example, where the damages are expressed as a multiple of a negotiated EBITDA. It is now possible in the marketplace for a buyer to obtain a policy allowing the recovery of damages based upon a multiple of earning, “but the parties must take care in negotiating the specific terms of the [insurance] and waiver of consequential, special, and indirect damage provisions, lost profits and diminution of earnings provisions in the underlying acquisition agreement to obtain the intended deal consequences.”


There are two more practical reasons why the product is increasingly popular. First, the process for obtaining a reps and warranties binder has been streamlined, and, second, there is now more of a track record of the insurers actually paying claims. The law firm memo’s author notes that “while claim history information is anecdotal, it is generally understood that claims are asserted in about 20 percent of issued policies and that most claims fall within the self-retention loss of the issued policies (1-2 percent of the enterprise value).” At the same time, “insurers recognize the necessity to pay, and to maintain their reputation for responding to, legitimate claims.”


M&A Transactions: Important Run-Off Insurance Issues: There are other important insurance issues involved when companies enter an M&A transaction. Care must be taken to ensure that the acquired entity is properly incorporated into the acquiring company’s D&O and E&O insurance. In addition, the acquired company’s D&O insurance and E&O insurance programs must be restructured into a run-off, or “tail” policies, so that liabilities relating to the acquired company’s operations prior to its acquisition are properly insured.


In an interesting May 1, 2015 memo (here), Thomas S. Novak of the Sills, Cummis & Gross law firm takes a look at the issues that can arise in connection with the selling company’s liability insurance program. The memo is interesting and addresses the key considerations that arise in connection with the selling company’s run-off insurance. The article also discusses related issues, such as the question of whether the insured should give a notice of circumstances that could give rise to a claim prior to the deal date. Novak is correct when he states at the conclusion of his memo that “careful consideration of your existing insurance program, risk profile and future business strategy is essential to avoid unexpected gaps in coverage.”


While I recommend Novak’s memo, I do disagree with him on one issue that is a point of emphasis in his memo. Indeed, in memo’s title, he asserts that “delegating M&A insurance issues to a broker is risky business.” He adds, to underscore how supposedly risky it is to rely on an insurance broker, that “the bottom line is that an insurance broker does not know corporate law or your business as well as you do.”


With all due respect to Novak, I think his emphasis on the danger of relying on an insurance broker is off the mark. It has been my privilege as an insurance broker to work with many outside counsel while they represented many different companies, and in many cases these lawyers are quite knowledgeable about insurance issues. By and large, however, these lawyers generally lack day-to-day knowledge of the insurance marketplace. Even lawyers that have very detailed knowledge about the insurance issues and other legal considerations have limited knowledge about the mechanics of the D&O insurance procurement process; of the various carriers in the marketplace and of their peculiarities of their expectations and practices; and of the range of likely possibilities available from any given carrier in any given circumstances. Only a knowledgeable and experienced insurance broker can address these and the many other practical factors involved in any insurance transaction.


Novak would have been providing better advice if, rather than trying to scare company officials about how dangerous it is for them to rely on their insurance brokers, he had communicated that the best approach is for companies to ensure that their brokers and their outside counsel work together collaboratively.


The most important consideration when it comes to insurance brokers is for companies to make sure that they have knowledgeable and experienced brokers involved in their insurance placement. Indeed, if companies have appropriately knowledgeable and experienced brokers involved, there usually is no need for the companies to incur the additional expense of involving outside counsel – as in fact is the case for many of our clients and the clients of other knowledgeable and experienced brokers.


Ten FCPA Facts You Need to Know: Here at The D&O Diary, we are big fans of the FCPA Professor Blog (here), which is written by Southern Illinois University Law School Professor Mike Koehler. We recommend the blog as one of the best resources available on all things relating to the FCPA. In addition, Professor Koehler has also published an interesting May 1, 2015 paper entitled “Ten Seldom Discussed Foreign Corrupt Practices Act Facts that You Need to Know” (here). His paper provides a number of interesting observations about the FCPA, including its limitations and its differences from similar anti-corruption laws in other jurisdictions, and what he characterizes as the SEC’s and DoJ’s questionable track record in enforcing the statute. The article is worth a read.

D&O Insurance: The Basic Value Proposition

Posted in D & O Insurance

insurancepolicyI make it my business on this blog to try to write about the latest developments and current trends in the world of D&O, but I think that every now and then it is a good idea to step back and take a look at the bigger picture. For example, let’s consider the standard D&O Insurance policy form. A D&O insurance policy is usually a lengthy document with detailed terms and conditions. The details are extremely important. But when you boil it all down, the insurance provided by the D&O policy comes down to a few very basic things.


The basic value proposition of D&O Insurance is that, subject to all of the other policy terms and conditions, it provides coverage for

  • Loss
  • Arising from Claims made during the policy period
  • Alleging a Wrongful Act
  • Against an Insured acting in an Insured Capacity
  • That is not otherwise excluded under the policy

These five items are easily stated, but they are also the source of a very large percentage of the coverage disputes that arise under D&O policies.


For starters, in order for there to be coverage, all five of these requirements must be met. To cite one recurring example, it is not enough to trigger coverage merely that Loss has been incurred; there must also be a Claim. Policyholders sometimes struggle with this, out of the belief that if they are incurring legal fees, they ought to be able to recover under the insurance policies. However, it is not enough to trigger coverage if the policyholder is incurring legal fees. There must also be a Claim within the meaning of the policy. The policyholder may have concerns, say, about a possible legal dispute, and as a result, the policyholder may have hired counsel. But the concern itself is not a claim. The concern may be sufficiently concrete for the policyholder to provide the carrier with a notice of circumstances that may give rise to a claim. But the provision of a notice of circumstances only establishes the claims made date (as any subsequent claim will be deemed first made as of the date of the notice). The provision of a notice of circumstances by itself in not a Claim and does not trigger coverage. Not only would there be no coverage for any legal fees incurred before there is a Claim, but the fees incurred before a Claim is made would not even be applied to satisfy the retention amount.


Another example of a situation where there is no coverage unless all five requirements are met is a situation where there is a Claim but no Wrongful Act has been alleged. This might happen if, say, the policyholder is served with a subpoena. The carrier may contend that the subpoena is not a Claim. Some policyholders have succeeded in arguing that a subpoena is a Claim. However, even if a policyholder is successful in arguing that the subpoena is a Claim, the policyholder may face the further argument from the carrier that the subpoena does not allege a Wrongful Act.


In addition to the requirement that the action involved must meet the policy’s definition of Claim, the Claim must be first made during the policy year in order for there to be coverage. While it might seem that figuring out the claims made date should be pretty straightforward, it can often be a source of problems. An example of a situation where problems might arise is when the lawsuit is merely the final step in the course of a long-running dispute that involved numerous threatening letters and demands that took place before the policy incepted. Another example of a situation where problems can arise is where a complaint is filed before the policy period but not served until after the policy has incepted  (an example of this situation is when a claimant files a qui tam action; the complaint may be filed years before it is finally served on the policyholder, as discussed here).


Coverage is also available only for Insured Persons. Questions can sometimes arise about the status of persons who are named as defendants in a complaint. For example, as discussed here, is the individual an officer of the company or merely an employee? Is the person an officer of a joint venture or other enterprise that is not a subsidiary of the company?


In order for the claim against an individual to be covered, the Insured Person must also have been acting in an Insured Capacity at the time of the alleged Wrongful Acts. Problems can emerge, for example, if at the time of the alleged Wrongful Acts the person was acting in a personal capacity rather than in their capacity as a director or officer of the company. Another example involves a situation where a representative of a private equity firm sits on the board of one of the firm’s portfolio companies. Questions may arise, depending on what is alleged, about whether at the time of the alleged Wrongful Acts the person was acting as a representative of the private equity firm or in his capacity as a director of the portfolio company. These kinds of issues can be a particular problem if the policy is worded so as to require that the insured person was acting “solely” in an Insured Capacity (which in turns shows why the inclusion of the word “solely” is so undesirable).


The policy exclusions obviously can also be important to the question of whether or not there is coverage. Some exclusions are simply meant to make the D&O Insurance policy fit in with policies in the policyholder’s insurance program. For example, the typical D&O insurance policy will exclude bodily injury and property damage, as those matters are addressed in the policyholders CGL policy. The D&O insurance policy will also exclude claims under ERISA, as those claims are covered under the fiduciary liability policy.


Some exclusions are meant to preclude coverage for certain kinds of claims. For example, most D&O insurance policies preclude coverage for claims by one insured against another insured. The purpose of the exclusion is to preclude coverage for claims that involve in-fighting or that may be collusive. However, the exclusion usually has numerous exceptions that carve-back coverage for certain types of claims. Whether or not any particular claim is precluded from coverage will depend not only on what is alleged and by whom and against whom, but also the specific wording of the exclusion.


In some instances, it may not be clear at the outset of the claim whether or not a particular policy exclusion is applicable. An example of this is a claim alleging fraud. Most D&O insurance policies have exclusions precluding coverage for fraud. However, mere allegations alone are not sufficient to trigger the exclusion. Depending on the specific wording of the clause, the exclusion may only be triggered if there has been an adjudication that the fraud has taken place. That is why at the outset of the claim the insurance carriers will issue a so-called reservation of rights letter. The carrier’s letter is meant to inform the policyholder that in the event it turns out that the events involved in a claim do in fact trigger the exclusion, the carrier will then seek to deny coverage and enforce its other rights under the policy.


In the end, while the basic value proposition of a D&O insurance policy simply stated , the actual operation of the policy will still depend on a wide variety of factors. Whether or not any particular matter is covered could prove to be a complicated question. Thus, even though the basic insurance mechanism of the D&O Insurance policy can be boiled down to a short list of items, the policy itself and its operation can be complicated. The specific wording of these basic provisions, and of all of the other policy terms and conditions, can determine whether or not the policy’s coverage is triggered.


Because of this complexity, it is critically important for insurance buyers to enlist the assistance of an experienced and knowledgeable insurance advisor in their purchase of D&O insurance. Among the most important ways for policyholders to try to ensure that the policy responds when a claim arises is enlist the assistance of a knowledgeable advisor in their insurance purchase, so that the policy contains the terms and conditions most favorable to coverage.


Readers interested in reading more about the basic nuts and bolts of D&O insurance will want to review my “Nuts and Bolts of D&O Insurance” series, which can be found here.


Guest Post: ACE Securities – Will There Be a New Wave of RMBS Repurchase Litigation?

Posted in Securities Litigation

Skadden logo 5.1.2015On April 30, 2015, the New York Court of Appeals heard oral argument in a mortgage-backed securities-related case in which the court must consider when the statute of limitations begins to run for claims of breach of contractual representations and warranties. The range of possible outcomes of the case include an interpretation of the statute of limitations that could  lead to a new wave of RMBS repurchase litigation that otherwise would be time-barred.  In the following guest post, Robert Fumerton and Alexander Drylewski of the Skadden, Arps, Slate Meagher & Flom law firm discuss the oral argument and consider the possible implications. A version of this post previously was published as a Skadden client alert.


I would like to thank Robert and Alexander for their willingness to publish their article as a guest post on this site. I welcome guest posts from responsible authors on topics of interest to readers of this blog. Please contact me directly if you would like to submit a guest post. Here is Robert and Alexander’s guest post.




On Thursday, April 30, the New York Court of Appeals heard oral argument in ACE Securities Corp. v. DB Structured Products, Inc., a closely-watched case that will have far-reaching implications for residential mortgage-backed securities (RMBS) repurchase litigation and potentially beyond.  While it is impossible to predict with certainty how the Court will ultimately rule when it issues its decision (which likely will be later this year), the key points raised by the Court during oral argument suggest that it may be leaning towards a ruling that accords with New York’s long-held goals of promoting finality and predictability in commercial business affairs.


The critical question in ACE is when the statute of limitations begins to run for claims of breach of contractual representations and warranties.  Defendant DB had argued – and the New York Appellate Division, First Department, held – that the six-year limitations period begins to run on the date that the representations and warranties were breached (i.e., on the date that they were first made).  The trustee, on the other hand, argued that the limitations period does not begin to run until the plaintiff demands that the defendant cure or repurchase the allegedly breaching loans pursuant to the contract’s remedy provision and the defendant refuses to comply.  Because the vast majority of RMBS transactions that are the subject of repurchase litigation closed in 2007 or earlier, any new repurchase actions would be time-barred by New York’s six-year statute of limitations if that limitations period began to run upon closing.  If, however, the Court of Appeals holds that the limitations period does not begin to run until a defendant refuses to comply with plaintiff’s repurchase demand, we could expect to see a new wave of RMBS repurchase litigation that otherwise would be time-barred.


Breaches Occurred At Closing


During Thursday’s oral argument, much of the discussion focused on whether the alleged breaches of representations and warranties occurred on Day 1 of the RMBS transaction (i.e., upon closing), or whether they could occur at some later point in time.  DB argued that the representations and warranties were either true or false on the date they were made.  As a result, any alleged breaches could only occur on Day 1 of the transaction and the statute of limitations for breach of contract must expire six years from that date.  Indeed, RMBS representations and warranties typically relate to the characteristics of the mortgage loans, including the loan-to-value ratios and occupancy status of the underlying properties, as well as whether the loans complied with the applicable originator underwriting guidelines.  These are static characteristics that cannot be altered or change in the future.


Many of the Court’s questions centered around this issue.  Significantly, the trustee had no answer to the most critical question raised by the Court – i.e., whether it could provide any example of a breach of representation or warranty that could occur after the transaction closed.  The only specific example that the trustee offered was a situation where the borrower’s employment status was misstated.  But this is precisely the type of representation that is either true or false on Day 1 – a borrower’s employment status at the time of closing cannot later “become” false through subsequent events.


The trustee also argued, in vague terms, that the materiality of any breaches of representations and warranties may not become known until some time after closing.  In support of this position, the trustee emphasized that RMBS investors had no duty to conduct due diligence on the loans at issue.  But this argument is, in essence, an attempt to import a “discovery rule” into New York’s statute of limitations.  New York case law is well-settled that the limitations period for breach of contract claims begins to run on the date of breach regardless of whether or when the plaintiff may have discovered the breach.  This principle is further reflected in N.Y. CPLR 206(a), which states that where a demand is necessary in order to institute a breach of contract suit, “the time within which the action must be commenced shall be computed from the time when the right to make the demand is complete” – not the time when demand is actually made.  By focusing on the investors’ inability to discover potentially breaching loans, the trustee framed its position as contrary to long-standing New York law regarding statute of limitations accrual.


Separate Breach or Remedy?


The trustee repeatedly emphasized during oral argument that its claims were not for breach of representations and warranties, but for the failure to repurchase the breaching loans.  A defendant’s obligation to repurchase breaching loans, however, is an agreed-upon contractual remedy for breaches of representations and warranties – not an independent promise.  Put another way, any dispute over whether a defendant should repurchase a breaching loan is really nothing more than a dispute over whether that loan in fact breaches the defendant’s representations and warranties in the first place.


In light of this, the Court of Appeals’ decision could have consequences that go well beyond the world of RMBS litigation.  It is commonplace for parties to include in their contracts exclusive remedy provisions similar to the cure-or-repurchase provision at issue in ACE.  Parties generally agree to such provisions as a way of limiting the potential liability of a party making representations and warranties in the event that any representations or warranties turn out to be untrue.  A ruling by the Court of Appeals that these remedy provisions can trigger a new, independent limitations period would run contrary to the parties’ intent to limit liability, and could result in parties to such provisions facing increased liability through an indefinite statute of limitations.


Policy Considerations


One of the well-established goals of New York’s statute of limitations jurisprudence is to promote certainty and predictability in commercial business affairs, as evidenced by New York courts’ rejection of the “discovery rule” for breach of contract claims.  Indeed, Chief Judge Lippman appeared to recognize this important consideration during the oral argument in ACE.  Delaying accrual of the statute of limitations until a time when the plaintiff discovers the breach could lead to open-ended potential liability and raise concerns regarding the degradation of sources of proof.


Despite these concerns, the trustee argued that RMBS plaintiffs should have the unilateral right to determine when the statute of limitations begins to run simply by deciding when to demand repurchase.  The mortgage loans underlying most RMBS transactions, however, have 30- or 40-year terms.  If the Court of Appeals were to rule that the statute of limitations does not begin to run until repurchase is demanded and refused, RMBS defendants could potentially face liability for decades after the transactions closed.  Such a regime is antithetical to the certainty and predictability for which New York jurisprudence strives.


In response to these policy considerations, the trustee argued that the inability to demand repurchase throughout the life of the underlying loans would negatively affect investors’ willingness to purchase RMBS.  But in 2007, RMBS investors were presumably aware that under New York law, the statute of limitations begins to run on the date of breach without regard to their discovery.  If the parties had wanted to ensure protection for the life of the loans they could have drafted contractual language giving rise to a continuing obligation by DB to repurchase the loans.


*   *   *

The issues raised by the Court of Appeals during oral argument suggest that it is keenly focused on New York’s longstanding jurisprudence regarding accrual and its goals of finality and predictability.  In light of those goals, as well numerous other legal and policy considerations, the Court of Appeals should hold that New York’s six-year statute of limitations for breach of contract claims begins to run on the date that the contractual  representations and warranties were first made, not on the date of a defendant’s refusal to comply with the parties’ agreed-upon remedy provision.




–By Robert Fumerton and Alexander Drylewski, Skadden, Arps, Slate, Meagher & Flom LLP


Robert Fumerton is a partner and Alexander Drylewski is an associate at Skadden, Arps, Slate Meagher & Flom’s New York office.

New Supreme Court Case Could Have Huge Impact on Class Action Litigation

Posted in Class Action Litigation

U.S. Supreme Court

On April 27, 2015, in a development that could have significant implications for a wide variety of class action lawsuits, the United States Supreme Court granted the petition of for a writ of certiorari of online search firm Spokeo. The cert grant sets the stage for the Court to consider whether Congress may confer Article III standing on a plaintiff who had suffered no specific or concrete harm but who alleges a violation of a federal statute. Depending on which way the Court rules, it could have very significant impact on class action lawsuit under a wide range of consumer protection statutes. It could also have significant implications for the proliferating lawsuits alleging online privacy violations.


Well-established and time-honored legal principles have established  that Article III of the U.S. Constitution requires that  in order for a claimant to be able to pursue an action in federal  court, the claimant must have “standing” – that is, as discussed here, “the party seeking to sue must personally have suffered some actual or threatened injury that can fairly be traced to the challenged action of defendant and that the injury is likely to be redressed by a favorable decision.”


In the Spokeo case, an individual sued the company under the Fair Credit Reporting Act, claiming that information Spokeo had gathered about the plaintiff and published on its website was incorrect. Spokeo argued that the plaintiff lacked standing to assert his claim because he did not allege any concrete harm. The district court agreed and granted Spokeo’s motion to dismiss, holding that the plaintiff had failed to allege an “injury-in-fact” and therefore lacked Article III standing. However, in a February 4, 2014 opinion (here), the Ninth Circuit reversed the district court, holding that the plaintiff’s allegations that his statutory rights had been violated alone were sufficient to satisfy Article III’s standing requirement.


In its cert petition, Spokeo framed the question it sought to have the Court address as follows: “Whether Congress may confer Article III standing upon a plaintiff who suffers no concrete harm, and who therefore could not otherwise invoke the jurisdiction of a federal court, by authorizing a private right of action based on a bare violation of a federal statute.”


As Alison Frankel notes in her April 27, 2015 post on her On the Case blog (here), Spokeo’s counsel in the case had argued in Spokeo’s cert petition that the Supreme Court’s answer to the question the company has posed will affect class action lawsuits not only under the Fair Credit Reporting Act, but also the Telephone Consumer Protection Act, the Americans with Disabilities Act, the Truth-in- Lending Act and numerous other federal statutes authorizing consumers to file damages actions.


Several technology companies, including Facebook, eBay, Yahoo, and Google, submitted a joint amicus brief in support of Spokeo’s petition in which they argued that they would be particularly harmed if plaintiffs who have not been injured can file class action lawsuits for damages. They argue that if any of the hundreds of millions of their daily users can file a damages lawsuit based solely on alleged statutory violations without any actual injury, they could be subject to massive class actions filed purportedly on behalf of many users who suffered no harm and may even be unaware the alleged statutory violation took place.


Another important area to consider with respect to the potential impact of this case is discussed in an April 27, 2015 post on the Privacy & Security Law Blog (here). As the blog’s authors note, this case could have “vast consequences for online privacy cases.” In an April 28, 2015 post on the McDonald Hopkins law firm’s litigation blog (here), Richik Sarkar adds that the case could have important implications for cases “stemming from data breaches and cyber-attacks.”


As Alison Frankel observed in her blog post, “Big businesses have been complaining for years that these laws give plaintiffs and their lawyers an unfair advantage because they can assert statutory damages claims for hundreds of millions of dollars on behalf of thousands of consumers who suffered no concrete harm.”


If the Supreme Court reverses the Ninth Circuit and holds that a plaintiff must alleged an a concrete injury in order to establish Article III standing, and that a mere alleged statutory violation alone is insufficient to establish standing, it could, as discussed in an April 28, 2015 memo from the Troutman Sanders law firm (here), “mean the death-knell of ‘no harm’ class action lawsuits that have proliferated under statutes that allow for statutory damages without proof of actual harm.”


For their part, the plaintiffs’ advocates who oppose Spokeo’s position argue that the supposed distinction between injuries-in-fact and injuries-in-law are meaningless, and that the availability damages for violations of legal right has long been a part of our legal system. When Congress statutorily classifies identified matters as legally cognizable injuries it is merely codifying principles of harm.


In any event, this case, which will be argued and decided in the Court’s term beginning in October 2015, will be one to watch. Big business has a rooting interest in this case, in which they hope to see Spokeo prevail. There is of course no way of knowing for sure, but the mere fact that the Court granted cert in this case could be interpreted to suggest that the Court will reverse the Ninth Circuit and lower the boom on these type of “no injury” lawsuits. In its brief submitted in response to a request from the Court in connection with Spokeo’s cert petition, the U.S. Solicitor General’s office had argued that the Court should not grant the cert petition because the Ninth Circuit had correctly decided the issue. The fact that the Court granted the cert petition despite the SG’s brief suggests, at a minimum, that the cert grant is at odds with the government’s position, and may also be interpreted to suggest that at least four members of the Court (the number required to grant cert) disagree with the SG and consider the Ninth Circuit’s opinion to be wrong.


SEC Chair Mary Jo White Praises and Defends  Whistleblowers: In an April 30, 2015 speech  on the topic of the SEC whistleblower program delivered at the Corporate and Securities Law Institute at Northwestern University Law School (here) , SEC Chair Mary Jo White  said, among other things, “in the post-financial crisis era when regulators and right-minded companies are searching for new, more aggressive ways to improve corporate culture and compliance, it is past time to stop wringing our hands about whistleblowers.  They provide an invaluable public service, and they should be supported.  And, we at the SEC increasingly see ourselves as the whistleblower’s advocate.”


Delaware Bill to Ban Fee-Shifting Bylaw Introduced: On April 29, 2015, a bill was introduced in the Delaware Senate that would ban fee-shifting bylaws for Delaware stock corporations (non-stock corporations would continue to be able to adopt fee-shifting bylaws). Even though the bill was just introduced, the battle over the bill has already begun. The U.S. Chamber of Commerce’s Institute for Legal Reform is circulating a letter from its President criticizing the proposed legislation, and arguing that the ability to adopt fee-shifting bylaws will help companies fight abusive litigation. The debate over the proposed legislation, which has in fact been going on for months, is likely to get louder as the proposed legislation moves forward.


Disability Lawsuits: The April 25, 2015 issue of Economist Magazine has an article entitled “Hobbling Businesses: A  Law Designed to Help People with Disabilities Enriches Lawyers Instead” (here), which comments on the growing phenomenon in the U.S. of lawsuits seeking damages for alleged violations of the American with Disabilities Act. The article notes that the Department of Justice’s ADA implementing regulations, which went into effect in 2012, are “well-meaning but confusing.” The government largely leaves that enforcement of the regulations up to people with disabilities, using litigation as the enforcement mechanism. The result is what the article describes as a “cottage industry” of ADA lawsuits.


Specifically, the article notes, with respect to lawsuits filed by disabled persons, that


More than 4,430 reached federal courts in 2014 – a 63% rise in one year, according to new data from Seyforth Shaw…. Many more cases rattle around state courts; most end in a confidential settlement. The lion’s share took place in California … and Florida (which has a high concentration both of lawyers and of frail elderly residents). … More lawsuits may soon be on the way, as the Justice Department is expected to apply new ADA rules to websites in June. For example, each picture must have text describing it, so that the screen-reader programmes can tell blind people what is there.


Readers will note that in anticipation of the new ADA rules, I added a caption to the image at the top of the post. The new rules may not go into effect until June, but might as well get used to the requirements now.


Blessed Be the Peacemakers: Overheard today — “I’m still hoping Mayweather and Pacquiao can figure out a way to settle their differences without fighting.” Amen, brother. Too much violence in the world as it is.

Corporate Loan Provisions Aimed at Proxy Campaigns Trigger D&O Litigation

Posted in Shareholders Derivative Litigation

del1In the face of increasing investor activism, companies have adopted a number of defensive measures.  Among these measures are a particular type of provision found in many corporate borrowers loan agreements – requiring the company to repay loans before they are due if a majority of the board is ousted – that are drawing increasing scrutiny. As these types of provisions have become more common, they have also attracted litigation. The boards of nearly a dozen companies have been hit with lawsuits alleging that the directors violated their fiduciary duties by allowing their companies to enter into credit agreements with these provisions. Developments in these cases may have implications for corporate boards. At a minimum the number of lawsuits that have been filed against corporate boards may have implications for D&O insurance underwriters.


The provisions in question allow the corporate lender to declare the loan in default and accelerate the debt if during a specified period a majority of the board turns over or is composed of “non-continuing directors.” Lenders and their advocates contend that they require these provisions because they want the certainty of knowing that they can accelerate the debt and cash out if a company’s leadership is replaced.


Behind this preference is a concern that if leadership is replaced, particularly as a result of an activist campaign, the new leadership may take steps (such as instituting debt-funded share buybacks or dividends) that could undermine the lender’s security and even lower the company’s credit rating. As Liz Hoffman discussed in her April 29, 2015 Wall Street Journal article about these kinds of provisions, among the companies that have seen their credit ratings lowered or placed in review in the wake of activist campaigns are Darden Restaurants, eBay, and DuPont.


But shareholder advocates question these kinds of provisions as being intended to protect entrenched management by using the threat of a loan default as a way to try to restrain shareholders from trying to replace directors. As the Journal article noted, the possibility that these kinds of provisions could shield directors “has earned them the nickname ‘proxy puts’,” in reference to the campaigns, known as proxy fights, waged by activists to try to replace directors. Owing to their alleged tendency to protect incumbent board members, investor advocates and plaintiffs’ attorneys’ refer to them as “dead hand poison puts.”


These kinds of provisions have not only drawn the ire of corporate activists, they have also attracted litigation brought by shareholders and activists seeking to challenge the provisions. According to the Journal article, in recent months, plaintiffs’ lawyers have filed as many as ten lawsuits against corporate boards and their company’s lenders, seeking to challenge these provisions. Among the companies to have been hit with these kinds of lawsuits are MGM Resorts International and retailer HSN.


Among these recently filed suits was the shareholders derivative lawsuit filed in Delaware Chancery Court action June 2014 by a shareholder of Healthways, Inc. against the companies board of directors and against the company as nominal defendant. The complaint also named the company’s lender, Sun Trust Bank as a defendant. A copy of the complaint can be found here.


The complaint alleged that the company’s board had breached their fiduciary duty by allowing the company to enter a credit agreement with the bank that had a proxy put provision. The complaint alleged that SunTrust had aided and abetted the board’s breach. The complaint sought a declaratory judgment that the loan provision was invalid and unenforceable and an order enjoining the defendants from enforcing the proxy put. The defendants moved to dismiss.


In an October 14, 2014 bench ruling (here), Vice Chancellor Travis Laster denied the defendants’ motion to dismiss, citing a line of Delaware court cases questioning the use of “proxy put” provisions and observing that the provision’s mere existence “necessarily has an effect on people’s decision making” about whether to attempt a proxy context, likening the provision to a “Sword of Damocles.”


Interestingly, Judge Laster not only denied the directors’ motion to dismiss but he also declined to dismiss SunTrust. While Judge Laster emphasized that his ruling was based solely on the allegations on the complaint at the preliminary motions stage, he noted that, according to the complaint, the company’s entry into the credit agreement occurred shortly after the threat of a proxy contest had occurred, based upon which the court found that the allegations were sufficient “knowing participation” for the aiding and abetting claim to survive.


According to the Journal article to which I linked above, in February 2015, Healthways and SunTrust agreed to remove the proxy put provision from their loan agreement. As part of their settlement, which is subject to court approval, the defendants agreed to pay up to $1.2 million to the shareholders’ lawyers. UPDATE: At a May 8, 2015 hearing, Vice Chancellor Laster approved the settlement. At the settlement hearing, Laster provided commentary on his dismissal motion ruling, stating his view that his ruling has been misinterpreted. The transcript can be found  here. The relevant section is on pages 34-36. 


An October 27, 2014 memo from the Sullivan and Cromwell law firm about Judge Laster’s ruling in the Healthways case can be found here. In January 2015, University of Denver Law School Professor Jay Brown had a five-part series about the case on his Race to the Bottom blog, which can be found here.


The increased scrutiny and the outcome of cases like Healthways have encouraged some lenders and companies to agree to remove these provisions. However, according to the Journal, some banks are pushing back and many banks apparently are still insisting on including the provisions. Since the beginning of 2014, nearly 200 companies have entered new loan agreements that included a proxy put provision.


As Professor Brown said in his blog post series with respect to Chancellor Laster’s ruling in the Healthways case, “By denying the motion to dismiss, the court has announced that boards putting in place dead hand poison puts will confront litigation risk.” Professor Brown noted that this risk applied not only to the boards of companies that enter loan agreements with these types of provisions, but also to the bank that required the provision in its lending documents.


The fact that there have been numerous lawsuits already, including one in which the motion to dismiss recently was denied, and the fact so many companies have nonetheless entered into agreements requiring these kinds of provisions, suggests that there will be further litigation over these issues.


For that reason, these developments should be of concern to D&O insurance underwriters. Because these lawsuits name as defendants the boards of directors of the companies involved, these suits presumptively trigger the companies’ D&O insurance policies. While these kinds of claims do not appear to represent a severity exposure, they could (at least to some extent) represent a frequency exposure. At a minimum, for the D&O insurers these lawsuits present a risk of defense cost exposure, as well as a risk of being called upon to pay the plaintiffs’ attorneys’ fees. (For a discussion of the issues involved in whether a D&O insurance policy provides coverage for a plaintiffs’ fee award amount in a derivative lawsuit settlement, refer here).


The details regarding companies’ credit facilities are detailed in companies’ periodic filings with the SEC. If a company’s loan agreement includes a proxy put provision, the existence of the provision typically would be disclosed in the company’s SEC filings. Accordingly, it would appear to be a prudent underwriting practice to include within its review of the company’s description of the company’s credit arrangement a scan to see whether the company’s loan agreements include a proxy put provision.


Indiana Supreme Court: E&O Insurers Must Pay Settlement of Suits Alleging Health Insurer Dodged Medical Claims

Posted in D & O Insurance

indianaOn April 22, 2015, in a sweeping win for health insurer Anthem Inc., the Indiana Supreme Court held that excess reinsurers on the company’s self-insured E&O insurance program must pay the company’s costs of defending and settling allegations that it had improperly failed to pay, underpaid, or delayed paying medical reimbursement claims. The Court rejected the lower courts’ rulings that the underlying claims had not arisen out of acts that had occurred “solely” in Anthem’s rendering of, or failure to render, professional services. A copy of the Court’s opinion can be found here.



At the relevant time, Anthem was self-insured for errors and omissions liability. The company purchased policies from other insurers to reinsure its E&O liabilities. Under this arrangement, Anthem was its own primary and excess insurer, with certificates of reinsurance issued on the primary and excess policies. The reinsurance certificates were “follow form,” to Anthem’s primary policy – that is, they incorporated all of the terms and conditions of the primary policy. For simplicity’s sake, I refer below to the source of the applicable insurance contract language as “the policy.”


Starting in 1998, Anthem and other health insurers were hit with lawsuits alleging that the defendant companies had engaged in a pattern of failing to pay claims in a full and timely manner, in breach of certain agreements and several state and federal statutes. Anthem eventually settled its portion of the various lawsuits without admitting and instead denying any wrongdoing. In the settlement Anthem agreed to cash payments totaling $198 million and implementation of various agreed-upon business practices.


The primary reinsurer on Anthem’ E&O reinsurance program exhausted its coverage in payment of claim-related costs. The excess reinsurers denied coverage for defense costs and settlement amounts associated with the underlying claims. Anthem filed a lawsuit against the excess reinsurers. The trial court granted summary judgment in the excess reinsurers’ favor, holding that the underlying litigation had not arisen out of acts that had occurred “solely” in Anthem’s rendering of or failure to render professional services. An intermediate appellate court affirmed the trial court’s ruling. Anthem appealed to the Indiana Supreme Court.


The policy’s insuring agreement specifies that the excess reinsurers “shall pay Loss of the Insured resulting from any Claim or Claims … against the Insured … for any Wrongful Act of the Insured … but only if such Wrongful Act … occurs solely in the rendering of or failure to render Professional Services.” The policy defines “Professional Services” as “services rendered or required to be rendered solely in the conduct of the Insured’s claims handling or adjusting.”


The policy’s fraudulent acts exclusion precludes coverage for loss arising from “any dishonest or fraudulent act or omission” but the exclusion provides further that it “shall not apply to any Claim seeking both compensatory and punitive damages based upon or arising out of allegations of both fraud and bad faith rendering of or failure to render Professional Services.”


The April 22 Opinion

On April 22, 2015, in an opinion written by Justice Brett Dickson, the Indiana Supreme Court reversed the lower court’s rulings in most respects and entered summary judgment in Anthem’s favor except with respect to Anthem’s bad faith claims against the excess reinsurers, which claims the Supreme Court remanded to the trial court for further proceedings.


The excess reinsurers had argued that the alleged misconduct that was the basis of the underlying claim was “not committed in the performance of ‘professional services,’ much less ‘solely’ in the performance of professional services” as was required by the policy. The underlying claims alleged that after promising to pay doctors in a timely manner for rendering covered, medically-necessary services in accordance with standard medical procedures, Anthem engaged in an improper, unfair, and deceptive scheme designed to systematically deny, delay and diminish payments due. Essentially, the excess reinsurers were arguing that actually or allegedly engaging in such a scheme is not the delivery of professional services, and certainly did not “solely” involve the delivery of professional services, as more was involved the scheme than merely delivering or not delivering professional services.


The Indiana Supreme Court rejected this argument. The Court said that the policy “covers not only Anthem’s actions in adjusting and paying reimbursement claims from health care providers – but also its failure to do so.” The policy’s coverage provision’s use of the word “solely” operates, the Court said, “to prescribe coverage for Anthem losses resulting from claims for any wrongful acts that occur outside its rendering of such services.”


The wrongful acts alleged in the underlying claims, the Court said, “are clearly alleged wrongful acts by Anthem in the course of its claims handling and adjusting services and thus qualify as covered Wrongful Acts occurring in the rendering or failure to render Professional Services as specified in the insuring agreement,” adding the observation that the term Wrongful Act is broadly defined by the policy. The insuring agreement is “thus intended to provide professional liability coverage for losses resulting from claims alleging a broad range of wrongful conduct.”


The Court also rejected the excess reinsurers’ argument that the relief Anthem seeks is contractual or restitutionary in character, the insurance for which would be contrary to Indiana public policy. After reciting the principle under Indiana law that provides a “very strong presumption of enforceability” of contracts that represent the freely bargained agreement of the parties, the Court said that the excess reinsurers “fail to point to a declared public policy of this State that would bar Anthem’s recovery.” The court also found that there were non-contractual and non-restitutionary claims and that all contractual claim had been dismissed from the various cases by the time of settlement.


In addition, the Court rejected the excess insurers’ argument that coverage was precluded by the policy’s fraudulent acts exclusion, first because the exclusion requires “an ultimate factual determination” that dishonest or fraudulent act had occurred, and second,  because the underlying claims came within the exclusion’s provision preserving coverage for bad faith claims, which, the Court found, the underlying claims were – excepting only one portion of the underlying claims, with respect to which the Court said further proceedings were required in order to determine whether that portion of the underlying claims was the type of claim for which the coverage carveback clause preserved coverage.


Finally, the Court reversed the lower court’s entry of summary judgment in the excess reinsurer’s favor with respect to Anthem’s claims against them for bad faith. The Court said that further fact-finding was required in order to determine whether the excess reinsurer’s denial of coverage for Anthem’s claim “was unreasonable and lacking in any legitimate basis.”



One of the recurring battleground issues in trying to establish coverage under an E&O insurance policy is the question of whether the underlying claim arises out of the insured’s rendering or failing to render professional services. This issue can be a particular problem where, as here, the relevant policy provision includes a narrowing qualifier like “solely.” The problem is that the world is never that tidy. All too frequently allegations spill over into other things, and that is the reason I have always disliked the inclusion of coverage restrictive policy terms like “solely.”


At least these days, the insuring agreement of the typical insurance company E&O policy would not include the word “solely.” The irony of this situation is that it Anthem itself was responsible for the language at issue, as it issued the policy with the operative language to itself. It was Anthem that included the word solely in the primary policy’s insuring agreement. (It is of course possible that the wording was the result of the reinsurers’ requirements.) In the end, the Supreme Court found that the narrowing language was not coverage preclusive here. But that was only after two different courts had concluded that the effect of the narrowing language was sufficient to preclude coverage.


It is hard to tell from the Supreme Court opinion alone what the characteristics of the underlying allegations were that would support the argument that there were not solely about the rendering or failing to render “claims handling and loss adjusting” services. At least based on the description of the underlying claim in the Supreme Court’s opinion, it sure does seem that what the underlying claim was about was supposed wrongful acts or omissions allegedly committed in connection with Anthem’s payment or nonpayment of claims.


The argument that the relief that Anthem sought was contractual or restitutionary in nature and therefore not covered under the policy is hard to gauge. The Supreme Court’s opinion states that the $198 million settlement consisted of Anthem’s agreement to make a $5 million contribution to a charitable foundation; a $135 million payment into a common fund from which affected class members could seek payment; and $58 million in attorneys’ fees. With respect to the $135 million part, I can see the argument that this amount either represents the payment of amounts owing under the health insurance contract or the payment of amounts due but withheld. I don’t know how much substance there would be to this argument. The portion of the Court’s opinion where this issue is discussed is kind of sketchy; it basically consists of the Court saying that the relief Anthem sought is not contractual or restitutionary.


Whatever the substance and merits of the excess reinsurers’ arguments might otherwise have been, the arguments didn’t make much traction with the Indiana Supreme Court. The Court’s opinion is without a doubt a policyholder friendly opinion. It is hard to read the opinion without getting the feeling that the Court was pretty much determined to find coverage. The Court as much as said as much when it emphasized the “very strong presumption of enforceability” of contracts. This sentiment worked in Anthem’s favor in this case, but could work against it the next time it is in court trying to resist a finding of coverage under one of its own policies.


One final thought about this case. This all began back in 1998. I don’t know for sure what the timing of all of the events relative to the (re)insurance coverage dispute has been but by any measure this has been going on for while. And – it isn’t over yet. The parties will now all head back to the trial court for further proceedings. Call it a hunch, but I am guessing that after their recent mishap in the Indiana Supreme Court, the excess reinsurers will try to close this case out as quickly as they can.


Securities Suits Hit Companies Using Stock Promoters

Posted in Securities Litigation

stockboardWhen plaintiffs’ lawyers filed a complaint against the company earlier this week, Cellular Biomedicine Group became the latest firm to be hit with a securities class action lawsuit relating to the company’s alleged use of a stock promotion firm. There were a number of companies hit with similar lawsuits last year, as I noted at the time, and there has been at least one other similar suit filed against another company within recent days. The allegations involved in these recent lawsuits are striking, as detailed below. These cases have important D&O insurance underwriting implications.


The most recent of these lawsuit filings involves Cellular Biomedicine Group. On April 21, 2015, a plaintiff filed a securities class action lawsuit in the Northern District of California against the company, its CEO and its CFO. Cellular Biomedicine is in the business of marketing and commercializing stem cell and immune cell therapeutics in the health care market in China. The complaint alleges that in reliance on paid stock promotion, the company achieved “an unsustainable $500 million stock valuation.” A copy of the plaintiff’s complaint can be found hereforcefieldenergycomplaint. The plaintiff’s lawyers’ April 22, 2015 press release about the complaint can be found here.


Specifically, the complaint alleges that on February 2, 2015, LifeTech Capital, a “purported biotechnology and medical technology investment bank” raised their target price on the company’s stock with a “Strong Speculative Buy” rating. Then on April 7, 2015 a report appeared on that among other things said that the company was “another worthless Chinese reverse merger using paid stock promotion.”


The Seeking Alpha article cites a detailed litany of charges against the company, alleging not only that the company’s share price increase had been achieved by paid promotion, but also that the company’s technology had “experienced patient deaths,” that its founders face “dishonesty allegations,” and that the company faces “multiple accounting and financial integrity issues.” The complaint alleges that the company’s stock promotion scheme included “dozens of published articles and news reports” and that the company never disclosed its promotional campaign.


The complaint against Cellular Biomedicine followed just days after a lawsuit was filed ForceField Energy that raises even more sensational allegations. On April 17, 2015, a plaintiff filed a securities class action lawsuit in the Southern District of New York against ForceField and certain of its directors and officers, as well as two stock promotion firms. A copy of the complaint can be found here. A copy of the plaintiff’s lawyers’ April 17, 2015 press release can be found here.


The company designs, licenses and distributes alternative energy products in China and the United States. The complaint alleges that beginning in September 2013, the company retained MissionIR, which is alleged to be a securities advisor and investor relations firm and an affiliate of The DreamTeam Group (DTG). The complaint alleges that under the direction and control of ForceField and the individual defendants, DTG and Mission IR “began to tout” ForceField’s stock, as part of which the two PR firms “conducted a massive promotional campaign, which included publishing articles or news reports and making various statements through social media outlets.” The articles did not disclose that they were “authored by paid promoters under the control of ForceField.”


A March 20, 2014 Fortune article (here) first raised questions about the relationship between the stock promoters and ForceField. On April 15, 2015, Seeking Alpha published an article (here) which detailed the relationship between ForceField and DTG. Among other things the article alleged that DTG publications and statements had caused ForceField’s stock to hit all time highs. The article also alleges that the top three ForceField managers have “extensive ties to past fraudulent companies that have gotten into substantial trouble, including investigations by the SEC, FBI, the U.S. Senate and the Canadian Federal Government.” The article also details ForceFIeld’s CEO’s and Chairman’s involvement with various prior companies that have been accused of fraudulent activity (the details of these prior enterprises are quite something in and of themselves).


The developments after the Seeking Alpha article about ForceField appeared involved more than the filing of a class action lawsuit. In an April 20, 2015 filing on Form 8-K, ForceField disclosed that its Chairman had resigned, and that the cause of this resignation was that he had been arrested on April 17, 2015. As detailed in an April 20, 2015 Bloomberg article (here), the Chairman was “charged by U.S. officials with scheming to boost the company’s share price in part by making secret payments to conspirators through a firm based in Belize.”  The April 20, 2015 press release of the Office of the U.S. Attorney for the Eastern District of New York about the Chairman’s arrest can be found here.


It isn’t hard to guess the motives of those company officials that might resort to using paid stock promoters. Just the same, you do have to wonder what they are thinking, because it is pretty clear that when a small stock’s share price starts skyrocketing, it attracts attention. Indeed, the author of Seeking Alpha column about Cellular Biomedicine even explains the stock price screening tool he uses to identify companies whose share price is moving suspiciously. It does seem that companies whose share prices move as a result of the efforts of paid stock promoters are going to attract the attention of market watchers, such as the authors on Seeking Alpha.


It also seems, as these cases demonstrate, that companies relying on stock promoters to try to drive their share price are going to get hit with securities class action lawsuits, a point that is reinforced by my earlier post about companies using stock promoters. Indeed, as I detail in my prior post, there is a growing list of companies that, like ForceField, used the DreamTeam group and that have been hit with securities suits.


The obvious lesson for D&O underwriters is that is that it would be a good idea to find out if a prospective account they are considering has used the services of a stock promotion firm. A more detailed question would specifically ask about the company’s use of The DreamTeam Group and the other stock promoters that have been identified as these various companies have cratered and attracted securities lawsuits. It is pretty clear that using stock promotion firms is not only a very questionable business practice, it is a clear marker for securities class action litigation risk.   The fact that both of the companies described above were built around business operations in China seems like yet another factor to consider.


Early Returns on Omnicare: When the U.S. Supreme Court handed down its decision in the Omnicare case a few weeks ago (as discussed here), there was a lot of speculation about the possible impact of the decision on securities class action litigation. In an April 20, 2015 memo entitled “The Supreme Court’s Recent Omnicare Decision Already Netting Big Results For Issuers” (here), the Troutman Sanders law firm reviews the decision and examines the impact that decision has been having so far in the lower courts.


Among other things, the law firm’s memo notes that “although the Omnicare decision is less than a month old, it is already having an impact on pending Section 11 claims.” The memo’s authors also note that “other courts have relied on Omnicare to dismiss claims asserted under Sections 10(b) and 18 of the Securities Exchange Act of 1934.” The memo concludes by noting that the early returns suggest that “Omnicare could have a substantial impact on the overall landscape of securities litigation.”


More About Minimum-Stake-to-Sue Bylaws: As I have noted in numerous prior posts, one of the more significant recent developments in the corporate and securities litigation arena has been the rise of litigation reform bylaws, particularly forum selection bylaws and fee-shifting bylaws. Along with these more frequently discussed types of bylaws has been another type of litigation reform bylaw, the minimum stake-to-sue bylaw.


In an earlier post (here), I discussed the litigation that has arise in Florida in connection with Imperial Holding Group’s newly adopted bylaw that require shareholders to deliver written consents representing at least three percent of the company’s outstanding shares in order to bring a class action or derivative suit.


The litigation about the company’s bylaw has apparently just taken a substantial notch upward. As Alison Frankel details in an April 21, 2015 post in her On the Case blog (here), the plaintiff in the dispute has filed a new lawsuit in federal court, in which the plaintiff alleges, among other things, that the company’s disclosures in its latest proxy statement violate the federal securities laws. The complaint seeks an injunction barring the use of the bylaw. A copy of the federal court complaint can be found here.


As Frankel details in her blog post, there is a lot of bad blood between the sides in this dispute, but the case at least does hold out the possibility of a determination of the validity of yet another variety of litigation reform bylaw. At stake is the question of whether smaller shareholders of companies that adopt this bylaw will still be able to file traditional corporate and securities lawsuits against company officials. Stay tuned, this case potentially could be worth watching.

Advisen Report: Decline in Corporate and Securities Lawsuit Filings Continued in First Quarter

Posted in Securities Litigation

PrintThe recent trend toward declining numbers of corporate and securities lawsuit filings continued in the first quarter of 2015, according to a report from the insurance industry information firm, Advisen. If the level of activity in the year’s first quarter were to continue for the rest of the year, the number of new corporate and securities lawsuits would approach pre-crisis levels. The report, entitled “D&O Claims Trends: Q1 2015” can be found here.


Unlike other published reports which track only securities class action lawsuit filings, the Advisen report tracks a wide variety of types of corporate and securities lawsuit filings (including but not limited to securities class action lawsuit filings). However, the Advisen report uses its own peculiar terminology in describing the various categories of lawsuits; as a result, the report must be read with caution.


As Advisen has detailed in prior reports, the annual numbers of new corporate and securities lawsuit filings has declined for the past three years, as the wave of lawsuit filings associated with the financial crisis subsided. Based on the levels of corporate and securities lawsuit filings during the first quarter of 2015, it appears that this “downward trend may continue for at least one more year.” The overall number of new corporate and securities lawsuit filing during the first quarter was nine percent below the number in the first quarter of 2014 and 11 percent below the fourth quarter of 2014.


Exhibit 1 to the report shows that if the first quarter 2015 filings are annualized, the projected year end total number of filings would be at the lowest level since 2009 and only slightly above levels last seen in 2008.


Not all types of lawsuits declined during the quarter. While the number of derivative lawsuits, merger objection lawsuits, and securities class action lawsuits declined during the year, the number of lawsuits that the report categorizes as “capital regulatory actions,” “securities individual actions,” and fiduciary duty lawsuits all declined during the quarter.


Among the various types of lawsuits that Advisen tracks, the category with the highest number of new lawsuits in the first quarter was what the report calls “capital regulatory actions” (essentially, regulatory enforcement actions). These types of suits represented 62 percent of all recorded events. This elevated level of activity in the first quarter follows the year just completed, in which these types of actions also increased relative to the prior year. The report suggests this increased number of enforcement actions may be the “direct result” of the financial fraud task force that SEC Chair Mary Jo White created in 2014.


The number of securities class action lawsuit filings in the first quarter of 2015 (42) was essentially flat compared to the first quarter of 2014 (43).There was a time before the financial crisis when securities class action lawsuits represented as much as a quarter of all of annual corporate and securities class action filings. In more recent years, the number of securities class action filings as a percentage of all corporate and securities lawsuit filings fell to as low as ten percent, in 2011. Since that time, this percentage has inched upward; in 1Q15, securities class action lawsuits represented 14 percent of all corporate and securities suit filings.


The number of derivative lawsuit filings has also been declining since 2011. The downward trend apparently will continue in 2015. There were only 22 derivative lawsuit filings in the first quarter, compared to 55 in the first quarter of 2014 and 31 in the fourth quarter of 2014.


The number of new merger objection lawsuit filings also decreased in the first quarter of 2015, following a declining trend that has spread across the past three years. There were only 33 new merger objection lawsuit filings in the first quarter of 2015, compared with 60 in the first quarter of 2014. The report does not benchmark the number of merger objection lawsuits against the level of merger activity, so the report’s absolute filings numbers say nothing about the whether the rate of merger objection lawsuit filing activity is going up or down.


Another possible explanation for the decline in merger objection suits is the increasing prevalence of forum selection bylaws. These types of bylaws, which the Delaware courts validated in 2013, not only could be reducing the incidence of multi-jurisdiction merger litigation, but it could be dampening the overall number of merger objection lawsuits filed, and could also explain in part the decline in derivative lawsuit filings.


More companies in the financial services sector were hit with new corporate and securities lawsuits in the first quarter of 2015 than any other sector. Thirty percent of all companies named in corporate and securities lawsuits in the first quarter were in the financial services sector.


New actions (filed both in the U.S. and outside the U.S.) against companies domiciled outside the U.S. as a percentage of all new corporate and securities lawsuits rose to the highest level in ten years during the first quarter of 2015. Sixteen percent of all corporate and securities lawsuits filed in the first quarter of 2015 involved non-U.S. companies, compared to only 14 percent in 2014 and only ten percent as recently as 2009.


In considering why the overall numbers of corporate and securities lawsuits has been declining in the recent years compared to the filing levels seen during the financial crisis, the report suggests, among other things, that the decline may be due to “less financial crisis-related litigation” and to “ fewer public company targets.” Both of these considerations are important factors. I would add a couple of other factors that may be affecting the overall filings level; the elevated levels of the financial markets; the relatively healthy level of the overall economy (especially compared to the financial crisis years) and low interest rates (which reduce borrowing costs, putting less pressure on corporate income statements and balance sheets). Also, as noted above, forum selection bylaws may be reducing the curse of multi-jurisdiction litigation, which may be contributing to the lower numbers of merger objection and derivative lawsuits that are being filed.


Advisen Webinar, Thursday April 23, 2015: On Thursday, April 23, 2015, at 11 am EDT, I will be participating in a free, hour-long Advisen webinar, in which the first quarter claims trends will be discussed. The webinar discussion panel will also include Ben Fidlow of Willis; Brian Stoll of Towers Watson; and Jim Blinn of Advisen. Information about the webinar, including registration instructions, can be found here.

Guest Post: Cybersecurity Enforcement: The FTC Is Out There

Posted in Cyber Liability

weilAlong with the disruption and the reputational damage, a company experiencing a data breach can also find itself attracting the unwanted attention of regulators. Among the federal regulators that has proven to be active in data breach arena has been the Federal Trade Commission. In the following guest post, Robert Carangelo, Eric Hochstadt, and Gaspard Curioni of the Weil Gotshal law firm take a look that the FTC’s cybersecurity enforcement authority and actions, as well as the agency’s track record so far. A version of this guest post previously was published as a Weil client alert.


I would like to thank Robert, Eric and Gaspard for their willingness to publish their post on my site. I welcome guest post submissions from responsible authors on topics of interest to readers of this site. Please contact me directly if you would like to submit a guest post. Here is Robert, Eric, and Gaspard’s guest post.




The continued occurrence of serious data breaches, including the hack of Sony Pictures that resulted in the canceled theatrical release of The Interview, a satirical film about North Korean leader Kim Jong-un, and the Target data theft impacting up to 110 million consumers and several financial institutions, has put a spotlight on issues of cybersecurity and the protection of sensitive personal information. With public pressure mounting due to this growing threat, Congress is considering legislative action to bolster American businesses’ resilience to cybersecurity attacks and data theft.[i] But while the political process on Capitol Hill unfolds, other branches of the federal government have not remained idle. In the executive branch, the Federal Trade Commission (FTC) has stepped up its consumer protection enforcement activity in this area and has pursued actions against companies that the agency deems do not sufficiently protect personal data.


Overview of the FTC’s Cybersecurity Enforcement Authority and Actions

While the FTC has brought more than 50 enforcement proceedings in the past 15 years relating to data security, the pace of FTC activity has picked up in recent years.[ii] The bulk of the agency’s enforcement has been carried out through administrative actions, which in almost all instances[iii] have been resolved through consent orders that impose data security measures and long-term supervision by the FTC. The remaining dozen or so cases brought by the FTC have been filed in federal courts pursuant to the agency’s injunctive authority under section 13(b) of the Federal Trade Commission Act (FTC Act). As discussed further below, the FTC has brought such an enforcement action against the Wyndham hotel group, a case pending at the Third Circuit which is expected to address the reach of the FTC’s authority in this area. As with administrative actions, the overwhelming majority of these cases settle shortly after filing. For companies under investigation, early settlement may be driven by, among other considerations, a desire to avoid protracted litigation with a federal agency. Administrative and judicial proceedings involve intrusive and costly discovery[iv] and can take years to resolve.[v]


The FTC’s enforcement authority derives principally from the FTC Act.[vi] Under section 5(a) of the FTC Act, the FTC may take action against “unfair or deceptive acts or practices in or affecting commerce.” Historically, the agency has leveraged the FTC Act’s “deception” prong to challenge allegedly false data security representations made by companies. Up until 2014, all but one cybersecurity civil action brought by the FTC and more than half of FTC data security administrative actions invoked the deception prong.[vii] More recently, the FTC has challenged cybersecurity practices under the “unfairness” prong of section 5 of the FTC Act. In these enforcement actions, the FTC has developed minimum cybersecurity standards for companies that collect personal information, even in the absence of any allegedly false representations concerning data security.


Many data security vulnerabilities have drawn the agency’s attention as being “unfair” to consumers, including companies’ alleged failure to:

1) set up robust log-in protocols;[viii]

2) protect against “commonly known or reasonably foreseeable attacks from third parties attempting to obtain access to customer information;”[ix]

3) encrypt data;[x] and

4) provide cybersecurity training.[xi]

Through its consent decrees, the FTC has detailed the various steps that companies must implement to remedy these deficiencies. The typical consent orders, which usually last for 20 years, prohibit prospective misrepresentations concerning data security and prescribe affirmative security measures. A central requirement is the establishment of a comprehensive information security program with administrative, technical, and physical safeguards suitable for the company and the type of protected data. Further, the consent orders usually require independent risk assessments from information technology and security professionals, as well as periodic reporting of the findings to the FTC. Companies must also document their compliance efforts and report material changes affecting their obligations to the agency.


FTC v. Wyndham Worldwide Corp.

There has been little judicial scrutiny of the FTC’s exercise of its section 5 power in the cybersecurity space. A notable exception is FTC v. Wyndham Worldwide Corp.,[xii] a case which may at last provide much-needed clarification about the scope of the FTC’s authority to impose cybersecurity standards in the absence of substantive statutes or regulations on the subject.


In June 2012, the FTC sued Wyndham, alleging that it failed to maintain “reasonable and appropriate” data security measures. The failure purportedly allowed hackers to gain access to its computer networks, which resulted in the compromise of more than 500,000 payment card accounts and fraudulent charges on hotel guests’ accounts. Because Wyndham allegedly misrepresented that it had implemented reasonable data protection measures on its website, the agency claimed that Wyndham had engaged in deceptive practices under section 5 of the FTC Act. However, the FTC did not stop there. It also claimed that Wyndham violated the unfairness prong of section 5 by failing to implement “reasonable and appropriate” data protection measures in the first place.


In seeking dismissal of the unfairness claim, Wyndham contended that section 5’s unfairness prong did not confer the FTC with rulemaking authority over data security. A New Jersey federal judge rejected that argument in April 2014, given section 5’s broad language and the absence of any statutory command carving out cybersecurity from the FTC’s purview. But because of the novelty and importance of the issue, the judge certified the question for immediate appeal to the Third Circuit. On appeal, Wyndham argued that a business’s failure to take “reasonable and appropriate” cybersecurity measures was not an unfair practice under section 5, as it was not an attempt to take advantage of customers; rather, a cyber-attack harmed the company. Wyndham also faulted the FTC for failing to adequately specify what were “reasonable and appropriate” cybersecurity practices. During oral argument on March 3, 2015, the Third Circuit panel questioned whether the unfairness prong covered nonfraudulent negligent cybersecurity conduct and whether the FTC could directly bring an action in court without first issuing cybersecurity rules through rulemaking or adjudication. The court heard oral arguments on the latter issue on March 27, 2015. The upcoming ruling by the Third Circuit will likely provide greater clarification about the scope of the FTC’s unfairness authority over cybersecurity practices.


Parallel and Follow-On Litigation

To date, the FTC’s enforcement actions in the cybersecurity arena have not led to a wave of private follow-on litigation. One possible explanation is that the FTC Act, unlike the federal antitrust statutes enforced by the FTC, does not confer a private right of action. Enforcement targets must nevertheless be vigilant. Even if not subject to private litigation under the FTC Act, cybersecurity practices that the FTC deems unfair or deceptive can also lead to private follow-on class action litigation by consumers and other affected parties under state laws, such as consumer protection statutes or specific state data security statutes.[xiii]


The CBR Systems controversy is one such example of parallel FTC enforcement and private consumer litigation. CBR is a California-based company that stores stem cells from umbilical cord blood and tissue. In December 2010, a thief broke into a CBR employee’s car and stole a backpack containing a company laptop computer and other electronic storage devices that allegedly held unencrypted personal information on about 300,000 CBR clients, including their names, addresses, social security numbers, medical history, and payment details. The FTC opened an investigation and ultimately filed an administrative complaint in January 2013, asserting that CBR had engaged in deceptive practices by failing to protect its customers’ personal data. Shortly after, CBR entered into a 20-year consent order in which it agreed to establish and maintain a comprehensive information security program, be subject to monitoring from an independent auditor, and report periodically to the FTC about its cybersecurity efforts.[xiv] But the FTC consent order did not end CBR’s travails. In January 2012, clients of CBR filed a putative class action under California privacy and unfair competition law. The case settled in February 2013, with CBR agreeing to reimburse affected clients for identity theft-related losses, pay for class members’ two-year subscription to a credit monitoring program, and pay $600,000 in attorneys’ fees. The full value of the class settlement was estimated at $112 million.[xv]


Companies must also watch out for parallel litigation by state attorneys general. Snapchat’s case is illustrative. Snapchat’s mobile messaging application allows users to send photo and video messages (termed “snaps”) that the company claims disappear very shortly after being sent. Despite the claimed “ephemeral” nature of the snaps, recipients were able to use third-party tools to save the snaps indefinitely. In May 2014, the FTC filed a complaint against Snapchat, alleging that the company made false representations about the disappearance of the snaps, the collection of users’ personal data, and the robustness of its data security. Based on these allegations, the FTC asserted that Snapchat had engaged in deceptive practices under section 5 of the FTC Act. In May 2014, Snapchat agreed to settle with the FTC. The consent order prohibited misrepresentations about the company’s data privacy and security, required Snapchat to establish a comprehensive privacy program, and imposed independent monitoring and reporting obligations for 20 years.[xvi] While the FTC enforcement action was pending, the Maryland attorney general advanced similar allegations against Snapchat and claimed violations of Maryland consumer protection law and COPPA. Snapchat agreed to pay $100,000 and take corrective measures in a June 2014 settlement with Maryland.


Finally, FTC investigations and enforcement proceedings may expose companies to follow-on litigation beyond the consumer protection context. For example, as a result of the FTC’s enforcement action against Wyndham, the company was hit with a shareholder derivative suit which alleged that Wyndham’s directors and officers failed to implement adequate data-security measures and timely disclose the data breaches.[xvii] Although the lawsuit was ultimately dismissed at the pleading stage, the case shows the potential spillover effect of FTC enforcement proceedings. A comprehensive defense strategy should include close coordination between data protection and securities counsel.



Cybersecurity law enforcement is growing. While legislative momentum is building toward formulating federal data security standards, the FTC has continued to use its enforcement authority over unfair and deceptive trade practices to bring cases against companies with allegedly substandard data security practices. Critics point out that the agency does not have any regulatory authority over data security and that the general principles contained in its various consent orders do not provide sufficient guidance to the industry. The Third Circuit is expected to develop the law in this area in the coming months, but it undoubtedly will not be the final word. In the meantime, companies are well advised to bolster their cybersecurity practices and get ahead of any issues that could subject them to the full panoply of FTC enforcement action followed by state regulatory or private class action litigation.


[i] See Discussion Draft (Mar. 20, 2015), Data Security and Breach Notification Act of 2015, H.R. ___, 114th Cong. (2015); Personal Data Privacy and Security Act of 2014, H.R. 3990, 113th Cong. (2014).

[ii] Legal Resources, Filtered by Type (Case) and Topic (Data Security), Fed. Trade Comm’n, tid=249 (last visited Apr. 1, 2015). Based on a review of publicly available data on the FTC website, twice as many administrative proceedings and court cases were initiated in the last five years as in the previous ten years. See id. A record number – seven administrative proceedings and two federal court cases – were brought in 2014 alone. See id.

[iii] Only one company, LabMD, Inc., has refused to enter into a consent decree with the FTC. See id. The FTC filed an administrative complaint against the company for its alleged failure to establish reasonable data security measures to protect customer information. After the FTC denied LabMD’s motion to dismiss, the company sought review of the decision in federal court. The Court of Appeals for the Eleventh Circuit ultimately rejected LabMD’s challenge as unripe because the FTC’s decision was a non-final agency action. The case has been remanded to the FTC and is currently pending before an administrative law judge. See Case Timeline, In re LabMD, FTC File No. 102 3099, Fed. Trade Comm’n, (last updated Feb. 24, 2015).

[iv] See 16 C.F.R. §§ 3.31-40 (setting out the methods, scope, and types of discovery in FTC administrative proceedings).

[v] See Case Timeline, In re LabMD, supra note iii.

[vi] In addition, the FTC is entrusted with enforcing the privacy and data security provisions of specific statutes. Before the creation of the Consumer Financial Protection Bureau in 2011, the FTC was responsible for enforcing the Fair Credit Reporting Act (FCRA) – which ensures that credit reporting agencies protect consumers’ private information – and the Gramm-Leach-Bliley Act (GLBA) – which obliges financial institutions to ensure the security of customer records. Also, the FTC administers the Children’s Online Privacy Protection Act of 1998 (COPPA), which requires Internet companies to obtain parental consent for the collection, use, and disclosure of children’s personal information. Finally, the Safe Harbor Framework program, which allows companies to transfer personal data between the United States and the European Union, provides for FTC enforcement against companies that fail to comply with the program’s requirements.

[vii] See Legal Resources, supra note ii.

[viii] See, e.g., Complaint at 2, In re TJX Cos., FTC File No. 072-3055, Docket No. C-4227 (F.T.C. July 29, 2008), available at

[ix] Complaint at 6, United States v. RockYou, Inc., No. 3:12-cv-01487 (N.D. Cal. Mar. 26, 2012).

[x] See, e.g., Complaint at 9, FTC v. LifeLock, Inc., No. 2:10-cv-00530 (D. Ariz. Mar. 9, 2010).

[xi] See, e.g., Complaint at 2, In re EPN, Inc., FTC File No. 112 3143, Docket No. C-4370 (F.T.C. Oct. 3, 2012), available at

[xii] No. 2:13-cv-01887 (D.N.J. transferred Mar. 26, 2013). After denying Wyndham’s motion to dismiss, the district court certified its order for interlocutory appeal on June 23, 2014. The case is currently pending before the Third Circuit Court of Appeals. See FTC v. Wyndham Worldwide Corp., No. 14-3514 (3d Cir. argued Mar. 3, 2015).

[xiii] See, e.g., Notice of Removal, Johansson-Dohrmann v. CBR Systems, Inc., No. 3:12-cv-01115 (S.D. Cal. May 7, 2012), ECF No. 1-3 (attaching the class action complaint originally filed in state court, which alleged violations of the California Confidentiality of Medical Information Act and Unfair Competition Law, among other causes of action).

[xiv] Decision & Order, In re CBR Systems, Inc., FTC File No. 112 3120, Docket No. C-4400 (F.T.C. Apr. 29, 2013), available at

[xv] See Order Granting Final Approval of Class Action Settlement, Attorneys’ Fees, Costs, and Incentive Award, Judgment and Dismissal, Johansson-Dohrmann, No. 3:12-cv-01115 (July 24, 2013), ECF No. 35.

[xvi] Decision & Order, In re Snapchat, Inc., FTC File No. 132 3078, Docket No. C-4501 (F.T.C. Dec. 23, 2014), available at

[xvii] See Palkon v. Holmes, No. 2:14-cv-01234, 2014 WL 5341880, at *6 (D.N.J. Oct. 20, 2014).