Delaware bill to update emergency powers, revise PBC provisions and amend indemnification provisions signed into law
Delaware Assembly Bill 341 has finally been signed into law. Among other things, the bill confirms the availability of specific powers relating to stockholders’ meetings that may be exercised by the board during an emergency condition, such as the current pandemic. These powers include changing the date, time and place of meetings (including to virtual formats) and, for public companies, providing notice of these changes through an SEC filing. These provisions are effective retroactively as of January 1, 2020. (See this PubCo post.) The bill also makes it easier to convert a traditional corporation to a public benefit corporation or a PBC to a traditional corporation and amps up the protections for directors of a PBC. (See this PubCo post.) Another provision of the bill, less widely discussed, relates to indemnification, discussed below.
In Salzberg v. Sciabacucchi (pronounced Shabacookie), the Delaware Supreme Court unanimously held that charter provisions designating the federal courts as the exclusive forum for ’33 Act claims are “facially valid.” (See this PubCo post.) Given that Sciabacucchi involved a facial challenge, the Court had viewed the question of enforceability as a “separate, subsequent analysis” that depended “on the manner in which it was adopted and the circumstances under which it [is] invoked.” With regard to the question of enforceability of exclusive federal forum provisions if challenged in the courts of other states, the Court said that there were “persuasive arguments,” such as due process and the need for uniformity and predictability, that “could be made to our sister states that a provision in a Delaware corporation’s certificate of incorporation requiring Section 11 claims to be brought in a federal court does not offend principles of horizontal sovereignty,” and should be enforced. But would they be? Following Sciabacucchi, many Delaware companies that did not have FFPs adopted them, and companies with FFPs involved in current ’33 Act litigation tried to enforce them by moving to dismiss state court actions. One such case is currently being fought in California state court involving ’33 Act claims against Dropbox, and, as noted in this column in Reuters, a group of former Delaware jurists and a former SEC Commissioner have filed an amicus brief in support of the company’s effort to enforce the FFP in that case.
All the focus on COVID-19 disclosures notwithstanding, the SEC has not taken its collective eyes off the basics. This Order discusses settled charges against Argo Group International Holdings, Ltd. related to its failure to disclose in its proxy statements—for five years—millions in personal expenses and perks paid to its CEO, such as personal use of corporate aircraft and cars, “personal services provided by Argo employees and watercraft-related costs.” Not to mention that the CEO was able to approve his own expense reports. According to the press release, Enforcement continues “to focus on whether companies are fully disclosing compensation paid to their top executives and have appropriate internal controls in place to ensure that shareholders receive information to which they are entitled.”
It’s not just the Justice Department that’s looking into PPP loans—although there appears to be plenty of that going on—the SEC’s Division of Enforcement is also conducting an investigation into “Certain Paycheck Protection Program Loan Recipients” to determine whether there have been violations of the federal securities laws. To that end, Enforcement is conducting a “fact-finding inquiry,” requesting that certain PPP loan recipients produce a variety of documents. While the primary focus of DOJ prosecutors appears to be whether representations made in certifications to the SBA to obtain the PPP loans were fraudulent, the SEC is apparently looking at PPP loans and related company disclosures from a different angle.
In his keynote address to Securities Enforcement Forum West 2020, SEC Enforcement Co-Director Steven Peikin discussed some of the efforts of the Division of Enforcement to detect misconduct arising out of the COVID-19 pandemic and related market disruption, including the formation of a steering committee to proactively identify and monitor areas of potential misconduct. Of particular interest here are the focus on insider trading and financial and disclosure-related fraud.
Are the allegations in Hughes v. Hu an example of the SEC/PCAOB’s recent cautionary Statement on emerging market risks come to life? (See this PubCo post.) The case involves a Caremark claim against the audit committee and various executives of Kandi Technologies, a publicly traded Delaware company listed on the Nasdaq Global Select Market and based in an emerging market country. The complaint alleged that they consciously failed “to establish a board-level system of oversight for the Company’s financial statements and related-party transactions, choosing instead to rely blindly on management while devoting patently inadequate time to the necessary tasks.” You might recall that, in Marchand v. Barnhill (June 18, 2019), then-Chief Justice Strine, writing for the Delaware Supreme Court, started out his analysis with the recognition that “Caremark claims are difficult to plead and ultimately to prove out,” and constitute “possibly the most difficult theory in corporation law upon which a plaintiff might hope to win a judgment.” (See this PubCo post.) Although Caremark presented a high hurdle, the complaint in Marchand was able to clear that bar and survive a motion to dismiss. In the view of the Delaware Chancery Court, Hughes proved to be comparable—the Court denied two motions to dismiss, holding that the allegations in the complaint were sufficient to support “a reasonable pleading-stage inference of a bad faith failure of oversight by the named director defendants.” Is clearing the Caremark bar becoming a thing?
In this new Statement, a number of SEC and PCAOB officials—SEC Chair Jay Clayton, PCAOB Chair William D. Duhnke III, SEC Chief Accountant Sagar Teotia, Corp Fin Director William Hinman and Investment Management Director Dalia Blass—discuss the risks and exposures of companies based, or with significant operations, in emerging markets, for both U.S. issuers and foreign private issuers. Although the SEC is committed to high-quality disclosure standards, its ability to enforce these standards in emerging markets is limited and is “significantly dependent on the actions of local authorities” and the constraints of “national policy considerations.” As a result, in many emerging markets, “there is substantially greater risk that disclosures will be incomplete or misleading and, in the event of investor harm, substantially less access to recourse, in comparison to U.S. domestic companies.” The Statement is summarized below. The message is that, notwithstanding similarity in form and appearance between disclosures from U.S. domestic companies and disclosures from or related to emerging markets, disclosures from emerging markets may well differ in scope and quality and companies need to provide appropriate risk disclosure in that regard.
In Meland v. Padilla, a conservative legal organization filed suit in federal district court on behalf of a shareholder of a publicly traded company seeking a declaratory judgment that SB 826, California’s board gender diversity statute, was unconstitutional under the equal protection provisions of the 14th Amendment. A federal judge has just dismissed that legal challenge on the basis of lack of standing. (Update: This case has been appealed to the 9th Circuit.)
Today, the Co-Directors of the SEC Division of Enforcement, Stephanie Avakian and Steven Peikin, issued a brief cautionary statement regarding market integrity in the era of the COVID-19 pandemic. The statement acknowledged the unprecedented impact of COVID-19 on the securities markets and emphasized the importance of “maintaining market integrity and following corporate controls and procedures.”
The SEC has just settled an action against Diageo PLC, a producer of liquor, wine and beer, for failure to disclose known trends and uncertainties. Diageo’s omission resulted in materially misleading disclosures regarding its financial results and material inflation of key performance indicators—organic net sales growth and organic operating profit growth. It’s worth noting that the SEC has not been reluctant to take enforcement action against companies that have misled investors by inflating KPIs, such as subscriber counts, revenue-per-subscriber, number of vehicles sold monthly, net new customers added, backlog and now organic net sales growth and organic operating profit growth. These types of metrics—typically outside of the financial statements—are metrics on which investors and analysts often rely to assess performance, and companies have been held to account if their presentations are materially inaccurate or misleading or the related controls are inadequate.