Corporate Defense and Disputes

Important developments in U.S. securities law, white collar criminal defense, regulatory enforcement and other emerging issues impacting financial services institutions, publicly traded companies and private investment funds

Tractor Supply Gets Lift from Court with Diversity Suit Dismissal

Earlier this spring, yet another lawsuit alleging a company failed to adequately promote diversity was dismissed for a failure to properly allege demand futility.

In City of Pontiac Police & Fire Ret. Sys. v. Jamison, the plaintiff, a shareholder of Tractor Supply Company, had alleged that the company and members of its Board falsely stated in securities filings that they were committed to promoting diversity.  The plaintiff alleged that diversity maximizes shareholder wealth and that the lack of racial diversity at Tractor Supply contributed to economic disparities at the company.  Because, according to the plaintiff, the defendants had failed to sufficiently promote diversity within the company while, at the same time, made statements in Tractor Supply’s 2020 proxy statement that the Board was “committed to the principles of diversity and inclusion,” they had violated Section 14(a) of the Exchange Act.

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No Influence: Court Dismisses Claim Based on CEO’s Raucous Influencer Parties

Earlier last month, Judge Vince Chhabbria of the United States District Court for the Northern District of California dismissed a novel complaint that the court noted stretched the bounds of when directors of a company could reasonably be held accountable for the actions of its executives. Notwithstanding the case’s amusing subject matter, the decision applies typical Delaware standards to dismiss a shareholder derivative complaint formed on the basis of an executive’s out-of-office behavior.

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Second Circuit Reverses Dismissal of Securities Claim Alleging Failure to Disclose SEC Investigation

The Court of Appeals for the Second Circuit yesterday reversed the dismissal of a securities class action alleging fraud based on the defendants’ failure to disclose an SEC investigation into the company’s disclosed financial-control weaknesses.  The May 24, 2022 ruling in Noto v. 22nd Century Group, Inc. (No. 21-0347) is fact-specific, requiring disclosure of the investigation because the defendants (i) had disclosed the accounting deficiencies that had led to the investigation, (ii) had said they were working on the problem, and (iii) eventually had said they had resolved it, even though the SEC investigation had been pending during that entire period.

The Noto decision could affect disclosure assessments where issuers disclose an underlying accounting problem or other deficiency but are debating whether they must also disclose a pending SEC or other governmental investigation related to that specific problem.  Depending on the facts and circumstances of the particular situation, a court might hold that failure to disclose the governmental investigation makes the disclosure of the underlying problem materially misleading because nondisclosure of the investigation could cause reasonable investors to make “an overly optimistic assessment of the risk” posed by the underlying problem.

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Fifth Circuit Holds SEC’s In-House Courts and Judges Unconstitutional

In Jarkesy v. Securities and Exchange Commission, the Court of Appeals for the Fifth Circuit issued a remarkable opinion holding numerous aspects of the SEC’s administrative enforcement regime are unconstitutional.  The May 18, 2022 ruling stands to eliminate the SEC’s ability to adjudicate enforcement actions seeking penalties using ALJs, rather than bringing suit in federal district court.  It also could tee up further argument at the Supreme Court to resolve the scope of the SEC’s – and, perhaps, other administrative bodies’ – adjudicatory powers.

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SEC Issues New Guidance Regarding Russia Sanctions and Public Company Disclosures

In response to Russian President Vladimir Putin’s decision to invade Ukraine in February, the U.S. government announced sweeping sanctions against Russia. As the conflict nears the three-month mark, businesses around the world are continuing to address compliance with these sanctions. To that end, the SEC recently issued guidance on how companies affected by the Russian invasion of Ukraine should disclose how the conflict is affecting their operations, including the impact of evolving sanctions.

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Ninth Circuit Upholds Delaware-Forum Bylaw That Precludes Assertion of Federal Proxy Claim

The Court of Appeals for the Ninth Circuit affirmed the dismissal of a shareholder derivative action in light of an exclusive-forum bylaw requiring assertion of derivative claims in the Delaware Court of Chancery, even though the case included a federal claim that was subject to exclusive federal jurisdiction and could not have been litigated in the Delaware court. The May 13, 2022 ruling in Lee ex rel. The Gap, Inc. v. Fisher could encourage the adoption of similar forum-selection provisions and appears to create a partial split with the Seventh Circuit’s recent ruling in another derivative action challenging an “identical” forum-selection clause.

Factual Background
The Lee case alleges that The Gap and its directors “failed to create meaningful diversity within company leadership” and that the company made misstatements in its proxy statements about its diversity achievements. A shareholder of The Gap, which is a Delaware corporation, brought a derivative action in federal court asserting a proxy-law violation under § 14(a) of the Securities Exchange Act as well as violations of state law.

The Gap had previously adopted a forum-selection bylaw requiring that “‘any derivative action or proceeding brought on behalf of the Corporation’” be adjudicated only in the Delaware Court of Chancery. The plaintiff conceded that the forum-selection clause was valid, but insisted that it nevertheless was unenforceable because it violates the Exchange Act’s anti-waiver provision (§ 29) and would prevent her from asserting her § 14(a) proxy claim at all, inasmuch as such claims can be litigated only in federal court.

The district court dismissed the case based on the forum clause, and the Ninth Circuit affirmed.

The Court’s Decision
The Ninth Circuit framed its analysis under Supreme Court precedent holding that forum-selection clauses must be enforced except in “extraordinary circumstances”: (i) if the forum provision was “invalid because of fraud or overreaching,” (ii) if “enforcement of the clause would contravene a strong public policy of the forum in which suit is brought,” or (iii) if the pre-selected forum “would be so gravely difficult and inconvenient that the plaintiff will for all practical purposes be deprived of his day in court.” The plaintiff focused only on the second of those circumstances, but the Ninth Circuit rejected it.

First, the court held that the Exchange Act’s anti-waiver provision did not contravene any “strong federal public policy” because “the strong federal policy in favor of enforcing forum-selection clauses . . . supersede[s] anti-waiver provisions in state statutes as well as federal statutes.” The court did not read the Exchange Act’s anti-waiver provision as containing “a clear declaration of federal policy.”

Second, the court concluded that the Exchange Act’s exclusive-jurisdiction provision (§ 27) also did not provide “a clear statutory declaration” against the forum-selection provision. According to the Ninth Circuit, § 27 simply “forbids non-federal courts from adjudicating Section 14(a) claims,” but The Gap’s bylaws “do not force the Delaware Court of Chancery to adjudicate” such claims. Instead, the § 14(a) claim would be dismissed. The court also observed that the Supreme Court has held that the Exchange Act’s forum-exclusivity is waivable.

Third, the court held that the plaintiff had not “identified any Delaware law clearly stating that she could not get any relief in the Delaware Court of Chancery.” The plaintiff’s reply brief had cited the Seventh Circuit’s recent decision in Seafarers Pension Plan ex rel. Boeing Co. v. Bradway, in which a divided panel had held an “identical Boeing forum-selection clause” unenforceable as contrary to Delaware and federal law. (We blogged about the Boeing case here.) But unlike the Seventh Circuit plaintiff, the plaintiff here had not raised Delaware-law issues in the district court or in her opening brief on appeal, so she was deemed to have waived them.

As the Ninth Circuit noted, however, the Seventh Circuit had based its decision on federal law as well as Delaware law. Thus, even though the Ninth Circuit did not rule on Delaware-law issues, it appears to have disagreed with the Seventh Circuit’s analysis of federal law. The Ninth Circuit’s decision thus might set up a circuit split on the federal issue, although the clarity of the split might be clouded by the importance of the Delaware-law analysis in the Seventh Circuit’s decision.

The Ninth Circuit’s ruling might spur a move to draft broad exclusive-forum provisions that cover even claims that are subject to exclusive federal jurisdiction. The Seventh Circuit’s decision might have dampened those efforts, but the Ninth Circuit’s decision could reignite enthusiasm. The issue probably will need to go to the Supreme Court, but it is unclear whether the current Seventh-vs.-Ninth-Circuit dichotomy provides the best vehicle for the Court to consider a circuit split.

SEC Proposes Extensive New Rules Applicable to SPACs and de-SPAC Transactions

This week, our corporate colleagues published a handy guide to the SEC’s new proposed rules on SPACs. Of particular note to securities watchers should be potential increases in litigation stemming from changes to the definition of “blank check company” for the Private Securities Litigation Reform Act of 1995 (the “PSLRA”).

The SEC has long given hints about its desire to change this rule. In April 2021, Acting Director of the Division of Corporate Finance John Coates released a public statement noting that the PSLRA and its safe harbor may not be the shield some think it to be. One month later, Chair Gensler also commented on whether SPAC investors were being adequately protected. With these rules, it seems the SEC has offered its proposed solutions to their concerns.

Also of note is how these rules would expand liability to advisors and participants in the de-SPAC process. The new rule views any party that participated in the de-SPAC to be engaged in the distribution of securities and render them a statutory underwriter for purposes of the Securities Act of 1933.

Please continue to follow the Corporate Defense and Disputes blog for more updates on SPACs.


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