The most frequent question I’ve been asked about the SEC’s proposed SPAC rules concerns the provision that would make unavailable the Private Securities Litigation Reform Act’s safe harbor for forward-looking statements with respect to de-SPAC transactions: would this change increase the risk that SPACs and de-SPACs face in securities litigation?

Not much. Public companies understandably believe that the Reform Act’s safe harbor protects them from liability for their guidance and projections if they simply follow the statute’s requirements. But, as a practical matter, the safe harbor is not so safe; some judges think the Reform Act goes too far, so they go to great lengths to avoid the statute’s plain language. This is one significant reason why we always have advocated an approach to defending forward-looking statements that does not depend solely on the safe harbor, even when the statute’s plain language would indicate that it applies. Thus, while SPACs and de-SPACs are certainly better off with the safe harbor than without it, its loss should not be as consequential as some may think.

The safe harbor was a key component of the Private Securities Litigation Reform Act. Congress sought “to encourage issuers to disseminate relevant information to the market without fear of open-ended liability.” H. R. Rep. No. 104-369, at 32 (1995), as reprinted in 1995 U.S.C.C.A.N. 730, 731. The safe harbor straightforwardly says that a forward-looking statement is not actionable if it (1) is “accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those in the forward-looking statement,” “or” (2) is immaterial, “or” (3) is made without actual knowledge of its falsity. 15 U.S.C. § 77z-2(c)(1); 15 U.S.C. § 78u-5(c)(1) (emphasis added).

Yet courts’ application of the safe harbor has been anything but straightforward. Indeed, courts have committed some basic legal errors in their attempts to nullify it. Foremost among these is the tendency to collapse the three prongs—essentially reading “or” to mean “and”—and to hold that actual knowledge that the forward-looking statement is false means that the cautionary language can’t be meaningful. Courts also engage in other types of legal gymnastics, such as straining to convert forward-looking statements into present-tense declarations, in order to take statements out of the safe harbor.

Beyond prominent instances of judicial error, judges frequently evade the safe harbor by simply avoiding defendants’ safe harbor arguments, choosing either to treat the safe harbor as a secondary issue or to avoid dealing with it altogether. The safe harbor was meant to create a clear disclosure system; if companies have meaningful risk disclosures, they can make projections without fear of liability. When judges avoid the safe harbor, companies’ projections are judged by legal rules and pleading requirements that result in less-certain and less-protective outcomes, even if judges get to the right result on other grounds. And if companies come to realize that they cannot rely on the clear safe harbor protection Congress meant to provide, they will make fewer and/or less meaningful forward-looking statements, to the detriment of investors.

The root of these problems is that many judges don’t like the idea that the safe harbor allows companies to escape liability for knowingly making false forward-looking statements. Indeed, some courts have explicitly questioned the safe harbor’s effect. For example, in In re Stone & Webster, Inc. Securities Litigation, the First Circuit called the safe harbor a “curious statute, which grants (within limits) a license to defraud.” 414 F.3d 187, 212 (1st Cir. 2005). This judicial antipathy for the safe harbor won’t change until the Supreme Court establishes a standard that resonates with lower-court judges. (In an article on the Quality Systems case and our amicus brief on behalf of Washington Legal Foundation in support of Quality Systems’ cert petition, we explained these problems (and our suggested solution) in more detail.)

For these reasons, we take a dual approach to defending forward-looking statements.

  1. A forward-looking statement is also an opinion under the Supreme Court’s decision in Omnicare, Inc. v. Laborers Dist. Council Const. Industry Pension Fund, 135 S. Ct. 1318 (2015), so we start by arguing that the forward-looking statement is not false in the first place. Omnicare held that a statement of opinion is false under the federal securities laws only if the speaker does not genuinely believe it, and it is misleading only if it omits information that, in context, would cause the statement to mislead a reasonable investor. See generallyOmnicare, Five Years Later: Strategies for Securities Defense Lawyers’ More Effective Use of the Decision.”

Lack of falsity defeats the claim regardless of the safe harbor’s application, but we have found that judges who believe that the forward-looking statements are not false (and are thus assured that they were not knowingly dishonest) also are more comfortable applying the safe harbor.

  1. We then argue the safe harbor as an additional basis for dismissal and use that discussion to demonstrate that the company’s safe harbor cautionary statements show that it really did its best to warn of the risks it faced. Judges can tell if a company’s risk factors aren’t thoughtful and customized. Too often, the risk factors become part of the SEC-filing boilerplate and don’t receive careful thought with each new disclosure; risk factors that don’t change from period to period, especially when it’s apparent that the risks have changed, are less likely to be found meaningful. And even though many risks don’t fundamentally change every quarter, facets of those risks often do, or there might be another, more-specific risk that could be added. We can help convince judges of the defendants’ candor and good faith, as well as the applicability of the safe harbor, by demonstrating the thoughtful evolution of tailored risk factors over time.

Ultimately, the least effective arguments are those that rest on the literal terms of the safe harbor, which create the impression that defendants are trying to skate on a technicality. It is these types of arguments—lacking sophisticated supporting analysis of either the context of the challenged forward-looking statements or the thoughtfulness of the cautionary language—that cause courts to try to evade what they see as the unjust application of the safe harbor. Effective defense counsel should appreciate that safe harbor “law” includes not only the statute and decisions interpreting it but also the skepticism with which many judges evaluate safe harbor arguments.

So, while SPACs and de-SPACs would be better off with the safe harbor, effective use of Omnicare is the primary protection for forward-looking statements anyway.

This week, my team and I again had the honor of writing for Washington Legal Foundation’s Legal Backgrounders series.

In this article, Zach Taylor, Gen York-Erwin, and I discussed the Second Circuit’s recent decision in Arkansas Pub. Emps. Ret. Sys. v. Bristol-Myers Squibb Co., 28 F.4th 343 (2d Cir. 2022).

Here is a link to the full article:

Three Key Takeaways from Second Circuit’s Latest Section 10(b) Securities Class-Action Decision

After discussing the court’s important rulings on falsity and scienter, we identify three key takeaways:

“Bristol-Myers provides several insights that are helpful to defendants and defense counsel. First, use of contemporaneous public materials reflecting the market’s perception of a company’s public statements is crucial for providing the necessary context to undermine falsity. In this case, the Second Circuit affirmed the district court’s taking judicial notice of certain analyst reports presented by Defendants (and not cited in the complaint) for the proposition that market players equated the company’s statements concerning ‘strong’ expression with 5% PD-L1 expression. The court explained:

The Complaint refers to analyst reports that predicted a variety of possible PD-L1 expression thresholds higher than 5%, to argue that Bristol-Myers misled the market by describing a 5% threshold as capturing a population of strong expressors. The fact that other reports, relying on the same public information, correctly predicted Bristol-Myers’s use of a 5% threshold is relevant to that argument and properly considered on this motion to dismiss.

Second, the decision underscores the importance of the holdings in Omnicare and Tellabs that challenged statements must be evaluated in the context of market information and the customs and practices (and understandings) of the relevant industry. Falsity and scienter cannot be pleaded in a vacuum. Courts must reach outside the complaint to determine whether a challenged statement was false or misleading in context, and whether defendants acted with the requisite intent to defraud.

Third, the decision strengthens the defense that stock sales executed pursuant to 10b5-1 plans do not support an inference of scienter. As a general matter, the case law surrounding use of 10b5-1 plans as a defense was not particularly well-developed or unanimous. Bristol-Myers states definitively that ‘sales conducted pursuant to a 10b5-1 trading plan or [that] were executed for procedural purposes . . . could not be timed suspiciously.’ While courts have more or less taken that position when 10b5-1 plans are adopted prior to the beginning of the alleged fraud, Bristol-Myers addressed a 10b5-1 plan adopted during the class period. Courts typically do not find 10b5-1 plans adopted during the time of the alleged fraud a proper scienter defense because they may have been adopted in a way to capitalize on the alleged fraud. The Second Circuit explained, however, that even where a 10b5-1 plan is adopted during the class period, plaintiffs are still required to plead facts sufficiently alleging ‘that the purpose of the plan was to take advantage of an inflated stock price’ or that the plan was not ‘given or entered into in good faith.'”

In 2012, I started the D&O Discourse blog to have a discussion among the repeat players in securities and corporate governance litigation:  insurers, brokers, mediators, economists, plaintiffs’ counsel, and defense counsel.  I share opinions from the defense-counsel perspective, but I call it like I see it.  For example, in a post in anticipation of the Supreme Court’s decision in Halliburton II, I advocated for the usefulness of the fraud-on-the-market presumption of reliance at a time when fellow defense counsel sported pitchforks.  My palms were sweaty, literally, when I pushed enter and sent my post forever into the internet.  But I felt strongly that the fraud-on-the-market presumption creates a superior securities-litigation system for everyone, including, counterintuitively, public companies and their officers, directors, and insurers, by facilitating collective resolution of securities matters.  I believed I was right, and still do.

I love being part of the D&O liability community.  It gives me great satisfaction to team up with brokers and insurers to help our mutual clients safely through the thicket of securities and derivative litigation.  For us repeat players, each case follows a fairly predictable course, but most of the clients we guide through it are newcomers, and connecting with them and keeping them comfortable requires more listening than talking, and more EQ than IQ.  While we’re proud when we strategize smart arguments—e.g. that substantive law trumps procedural law on motions to dismiss—our #1 metric is that clients feel like the litigation was a Sunday drive rather than a rollercoaster ride.

These are the things I write about.  Over the years, my posts have fallen into several general categories:

If you’re new to the blog, I invite you to browse the categories in one of the drop-down menus on the right.  If you’ve followed along over the years, I invite you to take a look back through the posts and categories.

This post is the first of a new quarterly series on the state of securities and governance litigation, which will take a big-picture view of these subjects.

This specific post focuses on the state of securities class actions.

So where are we?

More than any other time in my career, securities law and practice is super stable: we have seminal, defendant-friendly Supreme Court decisions on the primary motion to dismiss issues—falsity (Omnicare), materiality (Matrixx), scienter (Tellabs), and loss causation (Dura)—and on class certification (Halliburton I, Amgen, Comcast, Halliburton II, Goldman Sachs).  The circuits’ scienter standards are settled, uniform, and high bars.  The number of stock-drop securities class action filings each year varies, but centers around 200.  Motion to dismiss practice is relatively routine and rhythmic, with the primary doctrinal arguments mostly the same, customized for each case, and the Reform Act’s discovery stay continues to stabilize litigation activity and defense costs through the motion to dismiss stage in most cases.

But, despite this stability and defendant-friendly law, plaintiffs’ lawyers are doing well.  The longstanding securities plaintiffs’ firms continue to thrive, with increasingly large settlements.  The so-called “emerging firms” that hit their stride during the Chinese reverse merger cases and never looked back have now, in fact, emerged.  They win a lot of lead plaintiff contests, get past their fair share of motions to dismiss, and achieve settlements that creep higher and higher as a percentage of alleged damages.  All securities class action plaintiffs’ firms are adept at crafting a fraud narrative in their complaints and oppositions to motions to dismiss—that is their core skill.  And all plaintiffs’ firms have a negotiating trump card in mediations: the defense side rarely has sufficient insurance resources and/or resolve to defend a case through trial, so the settlement value in every case isn’t its actual settlement value, but instead is the lowest amount the plaintiffs will take.

In contrast, the issuer securities defense bar is increasingly splintered.  There remains a small group of full-time issuer-focused securities defense lawyers, but that group is shrinking as a great many cases are defended by a larger group of lawyers with more varied practices of which securities litigation is just one component.

This splintering has consequences.  One is the lack of lineage to practice before and through the Reform Act.  Fewer and fewer securities defense lawyers have defended cases brought by Bill Lerach and Mel Weiss, whose philosophies and tendencies will always shape the plaintiffs’ bar.  And fewer and fewer defense lawyers appreciate just how revolutionary the Reform Act was.  It’s a securities-litigation Fabergé egg and, unfortunately, some defense lawyers don’t sufficiently respect and protect it, partly due to lack of first-hand knowledge of pre-Reform Act practice.

Another consequence of the splintered defense bar is a loss of emphasis on early case investigation and development of a defense narrative.  Motions to dismiss increasingly consist of simple exercises in pointing out facts the complaint doesn’t allege, rather than crafting a narrative of good faith with the confidence that can only come from knowing the real story.  Some of this approach may be defense lawyers’ reaction to pricing pressure, and while I applaud their efforts to be efficient, we’d all be better off with better defense narratives and motions to dismiss.

Beyond the motion to dismiss, securities litigation defense increasingly involves very little actual litigation.  Cases that survive a motion to dismiss typically settle before class certification, merits and expert discovery, and summary judgment—much less trial.  To add insult to injury, the lack of early fact development means that these early settlements are not rooted in the merits.

This trend away from actually litigating securities litigation cases started about 10 years ago, and it has become part of the culture of securities litigation.  I will always favor more litigation in the right cases, so those who support my effort to put “litigation” back in “securities litigation” should not fear that I’ve given up.  I’m going to continue to advocate for greater efficiency and collegiality among insurers, brokers, and defense counsel, so that defendants’ policy proceeds stretch farther.  I’m going to continue to advocate for greater involvement by insurers and brokers in defense-counsel selection, to help defendants engage the right lawyers for the particular case.  I’m going to continue to advocate for use of contingent-liability policies in securities class actions, so that defendants with the resolve to defend cases through trial have the right resources and their own trump card.  But, if our securities litigation system remains one solely of motions to dismiss, I’m going to press for prioritizing class certification and damages analysis up front, so that plaintiffs’ one-sided assertions on those important issues don’t continue to dominate mediations.  And I’m going to begin to advocate for limited, focused fact inquiry in advance of mediations to make them more merits-based—stay tuned.

Since 2014, I have had the privilege of working with D.C. public-interest law firm and policy center Washington Legal Foundation on several securities litigation amicus briefs, including in Omnicare, and numerous articles on key securities litigation issues.

In our latest collaboration with WLF, my colleagues Zachary Taylor and Genevieve York-Erwin and I write about the Ninth Circuit’s recent decision on Section 11 standing in the Slack Technologies securities class action:

Pirani v. Slack Technologies, Inc., et al.: Ninth Circuit Cuts Securities Plaintiffs Slack on Standing

It was a great honor to moderate a Professional Liability Underwriting Society D&O Symposium panel on the ability of Contingent Liability (CL) insurance to improve outcomes in securities class actions (SCA).

Randy Hein, President of Berkley Transactional (Berkley Professional Liability), pioneer of CL for SCAs; Kara Altenbaumer-Price, executive risk broker at McGriff; Paul Bessette, co-chair of King & Spalding‘s securities litigation group; and Elizabeth Neumann, AXIS‘s head of professional liability claims, discussed how SCA outcomes are worsening for defendants and how CL for SCAs can help improve them.

Until 10-15 years ago, defendants often defended an SCA that survived a motion to dismiss (MTD) through class certification and summary judgment. Now, most SCAs settle soon after an unsuccessful MTD—a practice that inflates settlement amounts because defendants lack the leverage that litigation on the merits creates. As a result, the settlement value of every SCA has become simple to calculate: it is the lowest amount the plaintiffs will take. That amount continues to escalate as a percentage of plaintiff-style damages, especially in SCAs against companies with a market capitalization under $2 billion—a cohort perennially comprising more than 50% of all SCAs.

This lack of litigation owes to a variety of factors, including two important financial considerations:

  • Due to escalating defense costs, defendants often can’t defend an SCA past the MTD through class certification or summary judgment, much less trial, while still preserving sufficient D&O proceeds to settle later–a problem especially acute in the large cohort of sub-$2 billion market cap SCAs; and
  • Defendants fear an improbable but non-zero risk of a potentially catastrophic financial loss.

The insurance industry has a long history of resolving such large but improbable financial risks. In the right situations, Transactional Risk underwriters may be able to provide enough capacity to remove the risk of (improbable) catastrophic financial loss, enabling defendants the freedom to defend themselves in such litigation. This protection would better promote more vigorous litigation and better align settlement amounts with the merits.

Many thanks to Symposium co-chair Justin Kudler of AXA XL for his collegiality and insights as we planned the panel, and to Megan Moore and Cary Hepp for their help and support.

Randy Hein and I wrote a paper for PLUS Journal on CL for SCAs, which we also submitted for the D&O Symposium: A Free-Market Solution to Meritless Securities Litigation (at p. 23).

The history of securities litigation is marked by waves: from the IPO laddering cases, to the Sarbanes-Oxley era corporate scandal cases, to stock options backdating, to the credit crisis, to the Chinese reverse-merger cases, to event-driven/lawsuit blueprint cases, certain types of cases have predominated at different times.

Are we entering a wave of COVID-19 cases? My view is:

  1. We will not see a wave of cases challenging pre-COVID-19 disclosures and governance triggered by the fallout from COVID-19 in February, March, and April 2020.
  2. But companies and their directors and officers who are not hyper-vigilant about what they say and how they say it and/or whose boards are not highly attentive will face shareholder suits if and when they suffer problems in the next several years precipitated or exacerbated by COVID-19.

First, why don’t I think there will be a wave based on the economic downturn over the past two months? Everyone is in the same boat, so it’s difficult for plaintiffs to identify and prove that any particular company’s disclosures or governance problems caused economic harm. And plaintiffs need to choose extra-wisely, because many judges would be offended by accusations of fraud and poor oversight over problems caused by a pandemic – it would feel opportunistic.

But going forward, disclosure and governance will be judged far differently – almost in the polar-opposite way.  Moving forward, judges will have no patience for companies whose disclosures are not careful or boards whose oversight fails to meet the moment. The legal standards governing disclosure and governance litigation are judged from inferences drawn in context by judges who are themselves living the context. They will be critical of disclosures that feel exaggerated and governance that feels lax. Company-specific stock drops and governance failures will be easy for the plaintiffs’ bar to spot in the coming months and years.

So, how does a company and its directors and officers stay out of category (2) – how do they avoid securities and governance suits in the next several years based on disclosures and governance in the next several quarters? The tools the law gives companies to win shareholder suits allow them to avoid them or prevail if they’re sued incorrectly. I break it down by type of shareholder suit.

Securities Class Actions

Under Section 10(b) of the Securities Exchange Act of 1934 and SEC Rule 10b-5 under it, a plaintiff must show (1) a false or misleading statement (2) made with intent to defraud (scienter), among other elements. The Private Securities Litigation Reform Act of 1995 (Reform Act) protects forward-looking statements if the statement is accompanied by meaningful cautionary language.

The U.S. Supreme Court’s Omnicare decision says that courts must examine the full factual context to determine whether a statement was false or misleading, and its Tellabs decision says that courts must weigh competing inferences, both fraudulent and non-fraudulent, from the full set of contextual facts to determine whether any false or misleading statement was made with scienter.

The full-context rule helps defendants win more cases, because it lessens litigation-by-soundbite – defendants almost always fare better if what they said is examined in a broader frame. And it allows defendants to avoid being sued in the first place through thoughtful disclosure that reduces investor surprise and deters plaintiffs’ lawyers from suing or, if one does, from piling on.

Here are practical tips to reduce the risk of making false or misleading statements, and failing to obtain safe-harbor protection:

  • Speak factually. This seems obvious, but companies must be more factual than ever in their disclosures. Although statements of opinion receive heightened protection under Omnicare, in the current environment, companies should be careful with words like “significantly” or “improving” when they can use facts and figures, and when they use those sorts of terms, they need to give more context than usual.
  • Show your work. Create the context under which your statements will be judged by explaining yourself. Investors are listening to every word and interpreting, extrapolating, and perceiving hopeful overtones. Investors will create the context if you don’t.
  • Describe your real risks. The Reform Act’s safe harbor for forward-looking statements only applies if a company’s cautionary statements are “meaningful.” In ordinary times, judges hesitate to apply the safe harbor unless the company’s risk disclosures feel like the real and dynamic risks the company faces and are not boilerplate or static. In these times, companies need to lay out their risks extra-authentically to have a decent shot at safe harbor protection. Here too, investors will hear hope in risk disclosures that aren’t extremely candid.

Here are practical tips to reduce the risk of a plaintiff’s lawyer or judge feeling like any false statement was made with intent to defraud:

  • Avoid unnecessary discretionary stock sales. A director or officer should not unnecessarily sell significant amounts of stock outside of 10b5-1 plans absent an understandable reason, which the company should disclose so their securities class action defense lawyer can use it to combat allegations of a motive for fraud. In these times, large, unexplained stock sales are more likely to be viewed as suspicious by judges.
  • Avoid executive compensation increases. Executives should be careful about taking new, enhanced, or special compensation. While I believe judges decide motions to dismiss based on whether they think executives are honest, and not whether they are well compensated, increased compensation during this time is perilous. Executive compensation cuts are a personal and company-specific matter, and I don’t think judges should or will judge an executive negatively based on failure to take cuts.
  • Let your candor shine. Candid, abundant, and generous disclosure will help executives avoid scienter allegations even if they said something that is technically inaccurate or misleading in context. Generous disclosure will help the judge see that executives were doing their best to be honest in challenging circumstances and find a way to dismiss the litigation. (For a discussion of the relationship between the falsity and scienter elements, please see my post “Falsity is Fundamental.”)

Shareholder Derivative Litigation

In general, directors will not be liable for harm to their corporations if they are engaged, informed, inquisitive, and avoid or appropriately address conflicts. As with corporate disclosures, governance will be judged by judges who understand that COVID-19 is a big deal for all people and companies, and directors who are engaged in genuine and documented ways will fare best.

Here are practical tips to avoiding governance problems and suits or, if one is filed, setting up a successful defense:

  • Trust your intuition. Companies set up processes for board engagement and often appropriately filter things to directors. That is perfectly fine for normal times, but in this environment, directors need to trust their intuition about what their companies need from them, and then engage in ways that make sense in the circumstances. This should be an explicit discussion: boards and management should decide together what information board should receive during this unprecedented time. Many judges are going to take almost a strict liability approach for directors, and fine distinctions between director and management duties aren’t going to predictably carry the day.
  • Don’t worry about liability. Just govern. Directors who are engaged and working hard have less to worry about than directors who worry that greater involvement will expose them to greater liability. I believe judges will apply the spirit of Good Samaritan laws – relieving good-faith helpers from liability – to director liability in this environment. Many directors and their advisors say, “nose in, fingers out.” In this crisis environment, I think directors need to have the courage to stick their fingers in – and toes too – if it’s helpful to management.
  • Be a trusted advisor to management. Be there for your executives holistically. They need your kindness, courage, and creativity – and maybe basic friendship – now more than ever.

The chance to help Washington Legal Foundation with a U.S. Supreme Court amicus brief in the Omnicare case was an honor.  Statements of opinion are ubiquitous in corporate communications on issues as diverse as asset valuations, strength of current performance, risk assessments, product quality, loss reserves, and progress toward corporate goals.  Many of these opinions are crucial to investors, providing them with unique information and insight.

Yet, for the first 20 years of my securities litigation career, the law governing evaluation of opinions was a tangle.  Omnicare gave me the opportunity to help improve the law in this important area, and our amicus brief shaped the Court’s standard for what makes an opinion false or misleading – a standard the Court said is “no small task” for a plaintiff to meet.

In the five years since the decision, Omnicare has helped defendants win more cases.  But we in the defense bar can use Omnicare better, as my colleagues and I explain in this WLF Legal Backgrounder:

Omnicare, Five Years Later: Strategies for Securities Defense Lawyers’ More Effective Use of the Decision

In Salzberg, et al. v. Sciabacucchi, No. 346, 2019 (Del. Mar. 18, 2020) (“Blue Apron”), the Delaware Supreme Court upheld the facial validity of federal-forum provisions (FFPs) in a Delaware corporation’s certificate of incorporation requiring actions arising under the Securities Act of 1933 to be filed exclusively in federal court. Here is Kevin LaCroix’s helpful summary of the decision and discussion of its background, including the valiant litigation funding effort by D&O insurers and brokers: “Delaware Supreme Court Holds Federal Forum Provisions Facially Valid.”

In many cases, Blue Apron will help Delaware corporations better coordinate multiple securities class actions challenging disclosures in a registration statement and prospectus for an initial public offering (IPO) or secondary offering, by reducing the chances that a company will face concurrent federal-court and state-court 1933 Act actions. For this reason, Blue Apron is important.

But it is important for companies and their D&O insurers and brokers to appreciate that Blue Apron will not eliminate concurrent state-court 1933 Act cases – it doesn’t affect state-court claims against non-Delaware corporations, and I predict that some plaintiffs’ firms will continue to file cases against Delaware corporations with FFPs in state court, leaving us with inefficient pre-Cyan-like jurisdictional battles. And only time will tell, but I wouldn’t be surprised if the Supreme Court were to end up addressing this issue, either through a cert petition by the Blue Apron plaintiffs or through one of the jurisdictional battles in subsequent cases. At a minimum, the post-Blue Apron environment almost certainly will not be serene and certain.

The only way for companies and their D&O insurers and brokers to improve 1933 Act outcomes is to help create a system that results in more effective and efficient litigation defense. After exploring Blue Apron‘s limitations, I chart a course forward to more effective and efficient defense strategies.

  1. Blue Apron’s Limitations

a.  Scope of Application

Blue Apron will not apply to non-Delaware IPO cases, or to non-Delaware secondary- or debt- offering cases. More than 40% of public companies are incorporated outside of Delaware, so there will remain a nagging number of concurrent federal and state cases. We can all think of many of our cases over the years involving non-Delaware companies: most REITs are incorporated in Maryland, an increasing number of companies are incorporated in Nevada, and many companies remain incorporated in their home state – for example, General Electric is a New York corporation, Target is a Minnesota corporation, and Apple is a California corporation.

Although secondary-offering 1933 Act claims are less frequent than IPO claims, there are plenty. I’m currently defending concurrent secondary-offering securities class actions. It is indeed more difficult for plaintiffs’ lawyers to find plaintiffs who can prove they bought stock in or traceable to secondary offerings, since secondary-offering stock is scrambled in the market, but they do find them, largely because of the institutional investor relationships the Private Securities Litigation Reform Act of 1995 incentivized. And the larger plaintiffs’ firms have now spent 25 years developing relationships with the types of institutions who directly purchase in secondary offerings.

Blue Apron will have the biggest impact in IPO securities class actions. Although Blue Apron only applies to Delaware corporations, of course, more than 80% of IPO companies are incorporated in Delaware, and with Blue Apron, that number is bound to increase. But beware: the allure of Delaware can be a trap for the unwary litigant; it is a great forum for defendants facing meritless litigation, but it is a buzz-saw for questionable conduct or inexcusable inaction – think Southern Peru Copper and Blue Bell.

b.  Practical Problems

I expect that some plaintiffs’ lawyers will continue to file state-court 1933 Act cases against Delaware corporations with FFPs. In those cases, a company with an FFP will make a motion to dismiss in state court on the basis of the FFP or remove the case to federal court. The plaintiffs will argue that, notwithstanding Blue Apron, a company can’t eliminate state-court 1933 Act jurisdiction, as confirmed by the 9-0 decision in Cyan, or that the FFP, while facially valid, is not valid as applied in the particular case for one reason or another.

While I expect defendants will win many of those battles, or even most, they will all be costly to fight. And whatever the win-loss record, for public companies and their D&O insurers and brokers, the outcome will be additional defense costs and a lack of certainty. We will not be able to plan on federal court being the exclusive jurisdiction for 1933 Act claims.

2.  Charting a Path Forward

a.  The first step: increasing specialization. 

The only way that public companies and their D&O insurers and brokers will achieve better outcomes in 1933 Act cases is to improve the effectiveness and efficiency of securities class action defense. It is that simple. There are no shortcuts.

Effectiveness and efficiency are at an all-time low, primarily due to a splintering of the defense bar. Although there remains a small group of full-time securities defense lawyers, the so-called defense bar comprises an increasing number of general commercial litigators. Some of these lawyers are fabulous litigators for other types of cases, or to help the securities class action specialist shape litigation strategy, but they are rarely the right choice to lead the defense. (For more on the deterioration of the defense bar, see, for example, my multi-part series “The New Securities Litigation Landscape: How D&O Insurers and Brokers Can Help Defendants Navigate” and my most recent D&O Discourse post, “Putting ‘Litigation’ Back in ‘Securities Litigation.’”)

D&O insurers and brokers need to increase their involvement in securities class action defense to ensure that only specialists defend these specialized cases. Doing so requires a shift in the way we think but otherwise is straightforward: the D&O insurance contract needs a tweak to increase insurers’ contractual right to be more involved in defense counsel selection and defense strategy.

With increased specialization, supply and demand will take over to improve quality and cost. With a more specialized bar, each lawyer will defend a greater number of cases – which will yield game-changing benefits.

b.  The second step: increasing volume of cases for specialists

Increasing the volume of work for securities defense specialists will improve both effectiveness and efficiency.

Increasing volume will improve effectiveness. As specialists devote more time, attention, and resources to improving their knowledge, strategies, and relationships, and they do not want to let their repeat-play insurer and broker colleagues down with bad results.

In 1933 Act cases, specialization is absolutely critical to achieving better results. We can win or substantially reduce 1933 Act case severity, but we need the right lawyers defending the cases. For example:

  • Omnicare is a powerful tool in Section 11 cases – it can even be used to argue that restated financial statements weren’t false – but far too few defense lawyers use it effectively, a shocking shortcoming I attribute to the decline of specialization. (I wrote a U.S. Supreme Court amicus brief in Omnicare, and just published an article on Omnicare‘s five-year anniversary for my amicus client, Washington Legal Foundation: “Omnicare, Five Years Later: Strategies for Securities Defense Lawyers’ More Effective Use of the Decision.“)
  • The key case-management skill in 1933 Act cases is knowledge of and relationships with the plaintiffs’ bar, D&O insurers, and mediators, and those can only come from decades spent in this practice (though it takes people skills too). Only a lawyer who is well known to the plaintiffs’ bar can understand the intra-plaintiff dynamics and the often-subtle strategies the plaintiffs are trying to pull. The lead lawyer also needs to manage the settlement dynamics among groups of plaintiffs’ lawyers and the tower of D&O insurers, among the fairly small number of repeat securities class action mediators.

Increasing volume will improve efficiency. Greater volume will also improve efficiency, as D&O insurers and brokers, on behalf of their public company clients, can insist on greater efficiency by defense firms, who will defend each case with an abundance mentality and the knowledge that they’d better not let the insurers and brokers down with an inefficient defense.

Let’s go back to General Electric. Imagine if GE decided it would take over all D&O insurance, primary and excess, and could have a meaningful right to help its insureds choose defense counsel. With its money at stake, GE would help its insureds choose excellent lawyers who will be willing to give GE an effective and efficient defense. Not one of these lawyers would ever do less than a stellar job or bill a penny more than necessary. And all of these lawyers would give rate and other economic concessions (e.g. volume discounts) well beyond what any defense firm would ever give to a D&O insurer today. D&O insurers and brokers need to find a way to approximate GE in my hypothetical.

c.  A journey of a thousand miles begins with a single step

How can insurers and brokers achieve this type of involvement under non-duty to defend policies? In the current hard market, and especially with IPO companies, D&O insurers have the ability to negotiate contractually tailored defense arrangements under a non-duty to defend policy, and brokers have ability to negotiate better terms for their clients through demystifying the claims process for underwriters – one that locks in a more effective and efficient defense at policy inception. And, most importantly, companies and their directors and officers would benefit from better terms while still obtaining an excellent defense that stretches their limits farther. Everyone would be better off.

So, why not negotiate, in the underwriting process, the insureds’ obligation to interview a set of 3-5 agreed-upon defense lawyers (specific lawyers, not firms) in the event of a claim? The underwriter and broker could even ask each defense lawyer candidate for a case management plan and budget for a typical type of claim that might arise for the particular insureds. The key is to set this up at policy inception.

With the right lawyer in the case, companies and their D&O insurers and broker can work with the lawyer to create a case management plan that addresses how to deal with concurrent federal and state cases, plans for litigation of the case past the motion to dismiss if it’s defensible, and includes litigation budgets and even caps – not every concurrent 1933 Act case involves unpredictable or intolerable defense costs (e.g. I just budgeted only 15% more for the presence of concurrent state cases).

A securities class action specialist who works collegially with D&O insurers and brokers can and will win 1933 Act cases and engage in thoughtful, reliable discussions about defense strategy and cost. That – and not any FFP or even a legislative fix to the 1933 Act – is the only way we can fundamentally improve outcomes in 1933 Act cases.



Last month, D&O insurance lawyer John McCarrick and D&O insurance executive Paul Schiavone published a guest post on Kevin LaCroix’s blog, The D&O Diary, titled “Is it Time to Revisit the Scope of D&O Coverage?” John and Kevin’s post has triggered response posts from four policyholder advocates: Kevin of RT ProExec (response at the bottom of John and Paul’s post); Paul Ferrillo of Weil Gotshal; Gil Isidro of Woodruff Sawyer; and Francis Kean of Willis Towers Watson.

They have joined issue over the following question: should D&O insurance coverages that expanded during the recent soft D&O insurance market be pared back now the market has hardened?

I appreciate the perspectives on both sides of this debate – insurers understandably would like to be paid appropriately for the risk they are taking, and brokers and policyholder lawyers want to continue to deliver good value to their clients and protect the significant gains they’ve made for them.

But I believe we need to ask three more fundamental questions:

(1)  Is the current D&O insurance product structure still the right one?

(2)  Are public company directors and officers better off, in individual cases and/or overall, engaging whomever they want to defend them and devising their own litigation strategy, with limited ability by carriers or brokers to guide them?

(3)  If officers and directors would benefit from greater involvement by insurers and brokers, how can we achieve it?

I strongly believe that the D&O insurance product’s one-size-fits-all feature is ill-suited for the shape of securities litigation today, in which the plaintiffs’ bar is increasingly diverse and creative and the defense bar is splintered and increasingly unspecialized.  See, for example, my multi-part series “The New Securities Litigation Landscape: How D&O Insurers and Brokers Can Help Defendants Navigate” and my most recent D&O Discourse post, “Putting ‘Litigation’ Back in Securities Litigation.

I’m actively discussing these three issues and the D&O Diary debate with many insurer and broker friends, and I know many of you are as well.  I’m cautiously optimistic that these discussions will yield a D&O insurance product that functions better for everyone – insurers, brokers, full-time securities defense lawyers, and of course, directors and officers.

I’ll be writing more about these issues in the coming months.  Stay tuned!

D&O Discourse is a forum for discussion of key issues in securities and governance litigation, to help improve litigation outcomes for public companies and their directors and officers, and D&O insurers and brokers, in specific cases and overall.

This post discusses a fundamental, structural, and deepening problem with securities class action defense: the lack of actual litigation past the motion to dismiss process.  In other words, there is virtually no “litigation” in securities and governance litigation.  Why is that so, and what can we do about it?  After diagnosing the problem and discussing the harm it is causing, I’ll discuss the solutions and how we can implement them.

The Problem

I have defended securities litigation full time for almost 25 years.  For the first 15 of those years, securities class actions that were not dismissed would head into litigation, where we would test class certification, map out our summary judgment motion, and engage in fact discovery designed to establish the facts we needed to prevail on the merits.  A great many cases were dismissed on summary judgment or were settled while the summary judgment motion was pending.

But something happened about 10 years ago: securities class actions that survived a motion to dismiss increasingly started to settle shortly thereafter, before significant fact or expert discovery.  Premature settlement leaves defendants with only one of the three possible pretrial escape hatches, the motion to dismiss, and leaves unused the two other escape hatches, class certification and summary judgment.  And premature settlement means that defendants don’t develop damages defenses, making settlement more expensive than the facts and economics often warrant.

What a shame.  Class certification offers tremendous opportunities for defendants to defeat or greatly reduce class-claim exposure – indeed, the Supreme Court’s decision in Halliburton Co. v. Erica P. John Fund, Inc., 134 S. Ct. 2398 (2014), had the potential to be revolutionary but is rarely used.  Summary judgment was once a central strategic tool and presented a real opportunity to win, but very few cases are litigated to summary judgment.  The Supreme Court’s decision in Dura Pharmaceuticals, Inc. v. Broudo, 544 U.S. 336 (2005), requiring a causal connection between challenged statements and the corrective disclosure, has failed to limit damages in the way we anticipated – because defendants rarely do true defense-style damages analysis anymore.  And trial isn’t even a consideration.  Imagine that: a lawsuit that the defendants can’t even take to trial.  That isn’t how litigation is supposed to work, and it doesn’t serve defendants’ interests.

The only winner in this system is plaintiffs’ counsel.  Because plaintiffs’ counsel knows defendants can’t rationally litigate a case all the way through, settlement values are based on the lowest amount they are willing to take.  Settlement values have little or nothing to do with the value of the case – the merit or lack of merit of the litigation is nearly irrelevant.

Three factors have converged over the past 10 years to create this problem:

First, hourly billing rates and profitability targets at typical securities class action defense firms have skyrocketed – yielding defense-cost increases that vastly exceed the rate of inflation.

Second, the defense bar has become un-specialized.  Although there remains a small group of full-time securities defense lawyers, the so-called defense bar comprises an increasing number of general commercial litigators.  As a result, there are far more law firm partners pursuing securities litigation than there is securities litigation work to go around.  The result is a decline in specialization and an increase in inefficiency, as lawyers hoard the scarce work they win.  The heyday of securities litigation defense – think Silicon Valley in the 1990s – is dead.

Third, over the same period, the securities plaintiffs’ bar has expanded to include a set of firms who sue smaller companies.  These firms, sometimes called “emerging firms,” have now emerged – indeed, those firms now collectively initiate most securities class actions.  These firms tend to focus on cases against smaller companies.  As a result of the now-emerged firms’ approach, the median market capitalization of a securities class action defendant is about $1 billion, and two-thirds of all securities class actions are against companies with a market cap of $2 billion or less.

The economics of securities class actions against these smaller public companies are typically modest – for example, most such companies typically carry D&O insurance limits of $15 – $40 million.  A great many defense firms literally can’t vigorously defend a case against such a company without swamping a typical D&O insurance tower.  Although some might say “they should just buy more insurance,” most of these companies can’t or won’t – and why should they, just to transfer more money to their lawyers?  For them, every penny counts – the difference between breaking even, or not; between meeting their loan covenants, or not; between meeting Wall Street expectations, or not.

Because of this dynamic, plaintiffs’ firms hold all the cards at mediation:  defendants have just lost the motion to dismiss and have not developed the facts necessary to say with confidence that they will prevail, and they haven’t engaged in enough economic analysis to persuasively argue that plaintiffs can’t obtain class certification or prove significant damages.  And, in most cases, the defendants can’t credibly threaten to take the case to trial because the plaintiffs know further litigation would threaten to exhaust the insurance proceeds.  Because plaintiffs’ counsel knows defendants can’t rationally litigate a case all the way through, settlement values are based on the lowest amount plaintiffs’ counsel are willing to take.  As a result, settlement values have little or nothing to do with the value of the case – the merit or lack of merit of the litigation is nearly irrelevant.  This problem significantly impacts cases against larger companies as well.  As settlement values increase in smaller cases because they aren’t defended, plaintiffs’ lawyers in larger cases expect higher settlement percentages too.

The Solutions 

There are two main solutions to these problems:  (1) in the medium and longer term, we need to improve the efficiency and effectiveness of securities class action defense by retooling the D&O insurance product and the defense bar; and (2) in the short term, we need to move economic analysis up front, so that defendants come to early mediations at least with class certification and damages arguments.

Securities Defense Reform

We need to create an efficient defense-counsel market, especially for the two-thirds of securities class actions against companies with market caps of $2 billion or less.  Imagine a hypothetical single purchaser of all securities litigation defense services.  That buyer may well hire Dewey Cheatham & Howe to defend cases against the largest companies.  Even sky-high defense costs fit within the large D&O towers large companies typically purchase.

But that hypothetical rational buyer would never – ever – hire Dewey Cheatham & Howe to defend small and medium-sized cases.  The median securities class action settlement hovers around $7 million.  If Dewey Cheatham & Howe defended such a case naturally, with high billing rates and high associate-to-partner ratios, it would charge at least twice the settlement value to defend the case through trial.  Obviously, it makes no sense to spend $14 million to defend a case that can be settled for $7 million.

Thus, our hypothetical purchaser would put the defense counsel work on cases against small and medium-sized companies out for bid, to be awarded to firms that could and would agree to defend the case through trial for an amount commensurate with the value of the case.  Firms that could not or would not do the work for the right amount would not try for the work or wouldn’t get it.   In securities class actions, many typical defense firms could not or would not defend small and medium-sized cases for a rational price.

But a number of the relatively small group of full-time securities class action lawyers would find a way to scale their practices to defend securities class action litigation against small and medium-sized companies.  We find the current system frustrating – especially the engagement of non-specialists to defend these specialized cases – and want to revive the effectiveness and efficiency of securities litigation defense.  Doing so would benefit us too, by lowering our cost of sales and restoring a system that provides defendants a real defense.  I’d bet that none of the 20+ year full-time securities defense lawyers set out to have a motion to dismiss and mediation practice.  I certainly didn’t.  Rather, we want to win, and know that we can win most cases on class certification, summary judgment, or even trial, even if we didn’t win the motion to dismiss.

This small group of lawyers can form a pool from which insurers and brokers can establish small, focused, and collegial panels – formal or informal – to defend securities class actions against small and medium-sized companies.  Under such a system, insurers and brokers can help defendants achieve a superior defense for amounts that allow defendants to actually defend securities class actions, while leaving plenty of policy proceeds to resolve claims.  For example, if defense counsel agrees to a defense-costs cap for tasks that total $3.5 million through summary judgment, the defendants and insurers would know that there will be $7 million (the median settlement value) of primary policy proceeds remaining for settlement, assuming a $10 million primary policy and $1 million self-insured retention.  Of course, a fair number of cases defended through class certification and summary judgment will be dismissed, eliminating the need to settle at all, or will be limited, reducing the settlement value.

This would transform securities litigation dynamics.  Cases can and should be defended through the motion to dismiss within the self-insured retention.  A collegial group of full-time securities defense lawyers could and would work more collegially with insurers and brokers and the defendants up front to make a plan up front to defend certain cases on the merits.  This would put pressure on plaintiffs’ lawyers, some of whom operate on a volume model and literally don’t have the ability to litigate their inventory of cases.

Beyond taking advantage of plaintiff-firm staffing and economics, there are myriad benefits to more actual litigation.  First and foremost, the defendants and their insurers and brokers would be able to understand the merits and settle based on a real litigation risk analysis – what the case is actually worth.  Although no one can know for sure, I believe that settlement values are at least 30% higher than they would be if defendants and their insurers were comfortable defending cases through class certification and summary judgment.  Imagine the reduction in severity.  Frequency will begin to be reduced as well – they will begin to forego filing dubious cases, and they will be forced to spend more time on litigation and less time on case origination.

In addition to allowing us to actually litigate again, reforming the defense bar would improve the quality of the defense bar.  Defense lawyers would be incentivized to devote more time and energy to shaping the law both in specific cases and through thought leadership.  We as a defense bar have generally failed to shape the law in recent years the way we did in the first 15 years after the Reform Act – a shortcoming I believe owes to a deterioration in specialization. Specialized lawyers can also more persuasively promote legislative changes of the type Chubb proposed in its June 2019 white paper, “From Nuisance to Menace: The Rising Tide of Securities Class Action Litigation.”

Early Damages Analysis

My friend John McCarrick has been outspoken about the problems caused by the lack of defense-style damages in the premature settlement system.  We wrote an article about this issue:  “Improving Securities Class Action Outcomes through Early Damages Analysis.”

In an early mediation, the parties typically come to the mediation only with a preliminary damages estimate that neither side has thoroughly analyzed, much less tested through intensive work with the experts and expert discovery.  Defense counsel uses a basic, plaintiffs-style damages analysis yielding large bet-the-company damages figures. Rigorous expert work often significantly reduces realistic damages exposure.  For example, stock drops that lead to a securities class action are often the result of multiple negative news items.  A rigorous damages analysis parses each item from the total stock drop to isolate the portion caused by the revelation of the allegedly hidden truth that made the challenged statements false or misleading.  A defense lawyer might say, “Our economist says that damages are $500 million, so the $35 million the plaintiffs are demanding is a reasonable settlement.”  But expert analysis and discovery may well push the $500 million number much lower, which in turn would dramatically reduce a reasonable settlement amount.

To allow us to better calibrate what is actually at stake in each case, John and I have proposed moving securities class action damages expert reports and discovery ahead of fact discovery.  Expert damages analysis and discovery really should be the first things we do after a motion to dismiss is denied.  This will help us know whether the case is really a big case, or is a small case that just seems big – an insight that would yield tremendous benefits for defendants. Plaintiffs and defendants would be able to reach a settlement, one based on true risk and reward, more easily. Defendants would not settle for bloated amounts that create a perception that they did something wrong.  Insurers would know that they are funding a settlement that reflects the real risk in terms of damages exposure.  And courts would feel more comfortable that they are approving (or rejecting) settlements based on a litigated assessment of damages. Indeed, placing damages expert work first would help serve the core policy of our system of litigation: “to secure the just, speedy, and inexpensive determination of every action and proceeding.”

There is no rule or procedural reason why parties cannot accomplish damages discovery ahead of fact discovery.  Courts should be willing to stay fact discovery for a limited period of time, to allow the parties to better understand the realistic size of the case from a damages standpoint.  Moreover, early expert discovery can be accomplished relatively quickly and efficiently, whereas fact discovery can be immediately and wildly expensive — which is primarily what drives very early settlements.  And although plaintiffs and defendants often disagree about the relevance of fact discovery to damages, the absence of fact discovery for consideration in damages analysis is a factor the parties can weigh in evaluating the damages experts’ opinions.

Unless and until the securities defense system changes, continuing the fact discovery stay while expert damages discovery proceeds would strike the right balance.  Even if fact discovery blows up from time to time, or defendants need to acquiesce to limited fact discovery that the plaintiffs persuasively argue is relevant to damages, everyone would be better off with a system that emphasizes early damages discovery and does not default to full fact discovery first. Accelerating the timing of damages expert discovery would align it with the work required by damages experts to analyze price-impact issues under Halliburton II.  Unifying these two overlapping economic expert projects would create efficiencies for the lawyers and economists.  Completing both of them before fact discovery starts would avoid unnecessary discovery costs if the Halliburton II opposition defeated or limited class certification, or if the damages analysis facilitated early settlement.


The securities litigation system is broken.  But these two solutions, one near term and the other longer term, will not just fix the current problems but will also result in a better and more sustainable system for defendants, their insurers and brokers, and sophisticated securities litigation defense counsel.