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

Ninth Circuit Holds that Social Media Communications Can Satisfy Statutory-Seller Requirement Under Securities Act

The Court of Appeals for the Ninth Circuit held today that social media and other mass communications concerning securities can constitute solicitations potentially creating statutory-seller liability under § 12(a)(2) of the Securities Act of 1933.  The decision in Pino v. Cardone Capital, LLC (9th Cir. Dec. 21, 2022) joins a recent Eleventh Circuit ruling in rejecting the need for direct communications between an alleged solicitor and a purchaser of securities.  This issue has attracted some attention in light of the recent spate of proceedings involving alleged promoters of crypto assets, and it emphasizes the need for caution and disclosure in the promotion of any product or investment that might be considered a security.

Factual Background

The Pino case is a class action under the Securities Act alleging violations of § 12(a)(2) arising from statements in real-estate investment offering materials.  The securities were sold through crowdfunding techniques, and the defendants made alleged misstatements at conferences, in internet videos, and in social-media postings about expected returns on investment and other performance metrics.

The District Court dismissed the claim, holding that the defendants – a real-estate property manager and its principal – were not “statutory sellers” under § 12(a)(2) because they had not passed ownership of the securities to the plaintiff and had not directly solicited his purchase.  The Ninth Circuit reversed and remanded, holding that § 12(a)(2) does not require direct solicitation or other privity between the alleged solicitor and the purchaser.

Ninth Circuit’s Decision

Section 12(a)(2) imposes liability on persons who “offer or sell” securities “by means of a prospectus or oral communication” containing material misstatements or omissions.  A person may be liable as a “statutory seller” if he or she either (i) passes title to the securities to the plaintiff or (ii) “engages in solicitation,” meaning that he or she “solicits the purchase [of the securities], motivated at least in part by a desire to serve his [or her] own financial interests or those of the securities owner.”

The plaintiff here did not allege that the defendants had passed title to him, and the defendants clearly had a financial interest in the purchase of the securities.  The claim’s viability thus turned on whether the defendants’ mass communications constituted “solicitations” even though the defendants had not had any direct contact with the plaintiff

The Ninth Circuit held that “nothing in § 12 expressly requires that solicitation must be direct or personal to a particular purchaser to trigger liability under the statute.”  Accordingly, “mass communications directed to multiple potential purchasers at once” can constitute solicitations under § 12(a)(2).  The Ninth Circuit agreed with an Eleventh Circuit decision from earlier this year holding that videos posted on the internet can be solicitations under § 12(a)(2).

Implications

The Ninth Circuit’s joining with the Eleventh Circuit in rejecting any requirement that a solicitation be directed to or targeted at a particular plaintiff for purposes of § 12(a)(2) heightens liability risks for social-media and other mass communications concerning securities.  Unlike Securities Exchange Act claims, Securities Act claims such as those under § 12(a)(2) do not require the plaintiff to prove scienter, reliance, or loss causation.  And the potential relief includes rescission if the plaintiff still owns the security.

Allegations about mass solicitations have been in the news lately because of promotional statements about crypto assets.  Promoters will need to be particularly careful about their statements in light of the liability risk under § 12(a)(2).

Of course, § 12(a)(2) does not apply if the assets allegedly being promoted are not securities – a hotly contested issue for many types of crypto assets.  And even if the assets are securities, § 12(a)(2) liability cannot exist if the alleged promoter’s statements were not motivated at least in part by a desire to serve the promoter’s own financial interests or those of the securities owner.  A promoter who feels positively about the security allegedly being promoted and who is not speaking to promote his or her financial interest in the security should not be subject to liability as a statutory seller.

If the asset at issue is a security, a promoter also must consider § 17(b) of the Securities Act, which the SEC has been enforcing.  Section 17(b) prohibits a person from making statements that, “though not purporting to offer a security for sale, describe” a security without fully disclosing any consideration that the speaker received or will receive, directly or indirectly, from an issuer, underwriter, or dealer.  Accordingly, if a promoter receives or expects to receive any consideration for making social media or other statements that “describe” or might be viewed as promoting a security, he or she must disclose the existence and amount of that consideration.

SBF Prosecution Raises Novel Issues for Asset Forfeiture and Victim Restitution

The crimes charged against SBF are simple — old-fashioned fraud through a Ponzi scheme.  His conviction seems inevitable. For the government, the challenging part of this case will be the forfeiture proceedings.  Under the Mandatory Victim Restitution Act (MVRA), federal prosecutors have an affirmative obligation to use their “best efforts” to see that crime victims are compensated. In an ideal world, forfeiture and restitution should work in tandem. Prosecutors should use the forfeiture laws to identify, seize, and forfeit assets so that they can be preserved and are available to compensate victims through restitution at the conclusion of a criminal case. 

Partner Seetha Ramachandran comments on the challenges facing the DOJ as it pursues asset recovery for victims following the collapse of FTX.

Read the full article on NYU’s Compliance and Enforcement blog.

SEC Enforcement Director and SDNY/EDNY Officials Address Enforcement Priorities

SEC Division of Enforcement Director Gurbir Grewal and several high-ranking officials from the U.S. Attorney’s Offices for the Southern and Eastern Districts of New York and the FBI spoke on November 29, 2022 at a conference sponsored by Sandpiper Partners LLC concerning hot topics in SEC and DOJ enforcement.  The panelists all made clear that the views they expressed were their own, but those views are worth hearing.

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SolarWinds: A Lesson on How Companies Victimized by Data Breaches Can Quickly Become the Target of Litigation and Regulatory Investigations

In 2020, SolarWinds Corp., a company that provided information technology software to private and government entities, was the victim of a cybersecurity breach.  Russian hackers are believed to have slipped malicious code into a SolarWinds software product called Orion, which was then used to infect, and in certain cases, compromise, SolarWinds customers.  As a consequence, SolarWinds found itself the target of litigation, including a derivative suit before the Delaware Court of Chancery in Construction Industry Laborers Pension Fund v. Bingle.

Read the full blog post on Proskauer’s Privacy Law Blog.

District Court Declines to Dismiss NFT “Insider Trading” Indictment against Former OpenSea Employee

In late October, a New York district court refused to dismiss the Department of Justice’s (DOJ) indictment against defendant Nathaniel Chastain, who was charged with wire fraud and money laundering relating to his using insider knowledge to purchase non-fungible tokens (NFTs) prior to them being featured on OpenSea, an online NFT marketplace, and later selling them at a profit. (U.S. v. Chastain, No. 22-cr-305 (S.D.N.Y. Oct. 21, 2022)). Despite the headlines and the fact that the DOJ’s press release labeled this enforcement as charges brought in “the first ever digital asset insider trading scheme,” the Chastain indictment was not actually based on the typical insider trading statutes involving securities law violations, but instead the federal wire fraud statute.  Indeed, despite having an insider trading flavor, the word “security” does not appear in the indictment and the court, in refusing to dismiss the DOJ’s wire fraud claim, ruled that the Government’s wire fraud claim does not require the presence of a “security.”

Read the full post on Proskauer’s Blockchain and the Law blog.

New Study Finds Trickle-Down Effect from Board Diversity

A new study has found that diversity on corporate boards of directors leads to statistically significant increases in the representation of under-represented groups at the manager and staff level.  The study – “Do Diverse Directors Influence DEI Outcomes?” by Wei Cai (Columbia Graduate School of Business), Aiyesha Dey (Harvard Business School), Jillian Grennan (Santa Clara University and UC-Berkeley), Joseph Pacelli (Harvard Business School), and Lin Qiu (Purdue University) – adds to the growing literature on board diversity and human capital management, two significant ESG considerations for many corporations and investors.  While proponents of ESG sometimes focus on advancing each of those goals individually, the study links the two considerations and shows that one of them (board diversity) can promote at least some aspects of the other (diversity, equity, and inclusion in the workforce).

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In The Zone? When Directors of Portfolio Companies Have to Take Creditor Interests into Account

Representatives of asset managers often take up positions on the boards of portfolio companies. We have written posts before on some of the litigation and regulatory risks that can arise, both for the asset managers and the individuals including: Portfolio Company Risk: Plaintiffs Set Sights on Sponsors and Board DirectorsThe Trend of Increasing Disclosure Obligations for Private Funds Continues in 2022SEC Proposes Advisers Act Reforms Focusing on Private Fund Investor Protections.

Read the full post on Proskauer’s Capital Commitment blog.

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