roadDue to a combination of favorable circumstances, the number of companies completing initial public offerings is currently at the highest level in years. According to a recent study from Cornerstone Research (here), with the 112 IPOs in the first half of 2014, IPO activity is on pace to increase for the third consecutive year. IPO activity just in the first six months of 2014 equaled 71 percent of total IPO activity in 2013 and exceeded the full years 2009, 2010, 2011 and 2012. The favorable IPO environment has encouraged even more companies move toward an IPO. However, for a company starting down the road toward an IPO, there are a number of risks. Among other things, pre-IPO companies face increased risks of liability and claims, particularly when the planed IPO fails to launch.


A recent case filed in New York (New York County) Supreme Court illustrates the kinds of “failure to launch” claims that pre-IPO companies can face. Although the case involves somewhat unusual circumstances specific to the defendant company involved, it does provide an example of a claim arising from a pre-IPO company’s failure to complete its planned IPO.


According to the plaintiff’s August 1, 2014 complaint (which can be found here), defendant is a Delaware corporation with its principal place of business in Fujian, China. In 2011, Westergaard completed a private placement that provided for “automatic redemption” of the units sold in the placement if the company failed to complete an IPO at an offering price of $3.00 or greater within two years of the private offering’s closing date. The redemption amount was specified as $3.00 per share. The complaint alleges that private placement transaction closed on October 24, 2011, but that the company did not complete an IPO within two years of that date nor has it yet completed an IPO. The plaintiff is assignee of investors who had purchased units in the private placement. The plaintiff filed the action as assignee to enforce the redemption provisions in the private placement agreement, as well as to recover its costs of collection.


This lawsuit is obviously a reflection of the specific features of the private placement agreement in which the company had undertaken to redeem the units it had sold in the private placement if it did not complete an IPO within two years of the private placement closing.  But while the particulars of this claim may reflect the specific circumstances of the company involved, the situation nevertheless does illustrate how a pre-IPO company’s failure to launch can lead to claims from disappointed investors. To see an earlier example of a situation where claims arising out of a company’s pre-IPO activities arose out after a company’s planned IPO failed to launch, refer here.


Because of the possibility of failure to launch claims and other concerns, it is very important that a company contemplating a future IPO structure its D&O insurance coverage to take into account the increased risks and exposures involved with its planned IPO – even if the company does not ultimately complete its IPO.  In that regard, however, this specific case may not be the best example, as the kind of breach of contract claim asserted against an entity defendant likely would not be covered under the typical private company D&O insurance policy. This case does show how pre-IPO activities can give rise to claims, and therefore underscores the importance of taking these kinds of risks into account when structuring the D&O insurance coverage for a Pre-IPO company.


One particular concern is the securities offering exclusion found in most private company D&O policies. The pre-IPO company would not want this exclusion to sweep so broadly that it would preclude coverage for claims arising out of the company’s pre-IPO activities. If the company were to fail to complete its planned IPO, the company’s private company D&O insurance policy is the one that would respond to any claims that might arise, so it is very important that the securities offering exclusion is written a way that any “failure to launch” and other claims would not be precluded from coverage. Ideally, the securities offering exclusion would not go into effect unless and until the company actually completes an IPO, at which point the company should have put in place a public company D&O insurance policy to provide liability insurance against the company’s activities as public company.


When a company is on a trajectory toward an IPO, there is a natural tendency to focus on the liability exposures the company will face after it goes public. But the process leading up to the IPO often involves circumstances that can create their own set of risks and exposures. As a company readies itself to go public, it often restructures its operations, its accounting, its debt, or other corporate features. The company also makes pre-offering disclosures, for example, in road show statements. The process creates expectations that can create their own set of problems. All of these changes, disclosures and circumstances potentially can lead to claims, particularly  if the offering does not go forward.


Often pre-IPO company management is reluctant to take the time to address D&O insurance issues at the appropriate time before the company is deep into the IPO process. But claims can and do arise involving companies’ pre-IPO activities. The significance of the pre-IPO period in a company’s life cycle underscores the importance of having a skilled and experienced insurance professional involved well before the time of the IPO.