Sec Lit IQ: MoFo’s Quarterly Federal Securities Litigation and Delaware Corporate Litigation Newsletter (Q4 2024)

We are pleased to announce the launch of MoFo’s new quarterly newsletter highlighting the most important developments in federal securities and Delaware corporate litigation. In this first edition, we provide a rundown of the major developments in the fourth quarter of 2024 for busy in-house counsel.

Recent Developments in Federal Private Securities Litigation

Supreme Court Declines to Weigh in on Federal Securities Law Questions.

The 2024–2025 Supreme Court term began with oral argument in two securities cases, apparently signaling the high court’s continued interest in shaping the federal securities laws. But within weeks of hearing the cases, the Court dismissed them both, issuing one-line opinions that the writs of certiorari were improvidently granted. Here, we provide a quick refresher on where the securities law issues posed in those cases now stand.

• When Disclosure of a Hypothetical Risk May Mislead: Facebook, Inc. v. Amalgamated Bank .

In the first of these cases, Facebook, Inc. v. Amalgamated Bank, the Justices were presented with the question of whether a company’s risk disclosures may be false or misleading if they fail to disclose that a risk has previously materialized even if that materialized risk does not present an ongoing risk to the company. In passing on these issues for now, the justices leave in place the Ninth Circuit’s ruling holding .

Facebook arose from the widely reported Cambridge Analytica security breach scandal, in which Cambridge Analytica allegedly misused Facebook user data for the benefit of 2016 presidential election campaigns. Plaintiffs alleged that Facebook’s risk disclosures presented the risk that user data would be misappropriated as hypothetical when, in fact, it had already occurred. Facebook argued that its disclosures were not false or misleading because there was no known risk of ongoing harm to the business. Facebook won dismissal of the case in the trial court, but the Ninth Circuit reversed in part. It held that “a company may make a materially misleading statement when it ‘speaks entirely of as-yet-unrealized risks’ when the risks have ‘already come to fruition.’” The Ninth Circuit concluded that plaintiffs had adequately pleaded falsity as to Facebook’s risk disclosures that characterized the potential for misuse of user data as hypothetical.

Takeaways:

• Risk disclosures will continue to be prime fodder for securities law claims.
• To mitigate risk, companies should take special care in distinguishing between events that have occurred—even if it may seem that there is no ongoing or future risk to the company—and purely hypothetical risks.

• PSLRA Pleading Requirements: NVIDIA Corp. v. E. Ohman J:or Fonder AB.

Following oral argument on November 13, 2024, the Supreme Court dismissed NVIDIA Corp. v. E. Ohman J:or Fonder AB, also on appeal from the Ninth Circuit. The justices had previously granted certiorari on two questions: (1) whether plaintiffs seeking to allege scienter under the Private Securities Litigation Reform Act (PSLRA) based on internal company documents must plead their contents with particularity; and (2) whether the PSLRA’s falsity requirement can be satisfied by relying on an expert opinion to substitute for particularized allegations of fact.

The NVIDIA plaintiffs alleged false and misleading statements regarding the company’s reliance on sales of certain product lines. The district court dismissed the complaint, which alleged that the CEO’s scienter could be inferred based confidential witnesses’ speculative allegations that he had reviewed certain documents. The complaint did not plead the actual detailed contents of those documents with specificity and alleged only that the internal documents would have contained certain data. The plaintiffs also argued that their hired expert’s opinion, which was based on publicly available market research and reporting, could substitute for particularized allegations of fact with respect to falsity. The Ninth Circuit reversed as to these elements of the plaintiffs’ claims, holding the PSLRA’s scienter pleading requirements were met by a “holistic review” of the allegations as to the CEO and that the expert’s analysis of generic research could support falsity when taken together with another investment firm’s independent investigative report.

With the Supreme Court declining to weigh in, the Ninth Circuit’s opinion will stand, and the case will return to the district court.

Takeaways:

• Companies facing securities class actions following a stock price drop should stay on top of market research and analysts’ reports, which the plaintiffs’ bar will continue to leverage when seeking to survive a motion to dismiss.
• Plaintiffs’ counsel may also seek to rely on expert analyses early in a case, so it is prudent to understand the expert landscape as early as possible.

Plaintiffs’ Bar Targets “AI Washing” Disclosures.

One of the most noticeable securities litigation trends of 2024 has been the significant increase in artificial intelligence-related fraud claims. With companies in virtually all industries touting their use of AI to drive innovation and productivity, in-house counsel should be mindful that these disclosures may carry heightened risk because of the nascent or unproven nature of many AI technologies.

In 2024, the private plaintiffs’ bar filed 13 securities class action complaints alleging that defendants misled investors in violation of federal securities laws when discussing their companies’ AI strategies. As they always do, these plaintiffs evaluated the defendants’ statements with the benefit of hindsight. In general, these “AI washing” cases allege that companies overstated their AI capabilities when subsequent disclosures showed those capabilities failed to live up to the earlier hype. For example, a company offering software tools to automate repetitive business processes announced a rebranding initiative that would focus on AI-powered tools. When it later reported poor quarterly results and its stock price dropped, a lawsuit soon followed. Separately, a data management company that described itself as a leader in using AI-based software faced a short-seller report alleging that the company’s AI initiatives were “smoke and mirrors.” Its stock price fell steeply when the report was published. Plaintiffs then sued.

Given the centrality of AI strategies for many companies across sectors—and not just “AI natives”—we expect this trend to continue.

Takeaways:

• Legal should have a seat at the table to review any AI-related disclosures by technical and business teams.
• Whenever possible, frame such statements as clear forward-looking statements that express the company’s hopes and expectations about the possibilities for the technology.
• Because this technology is changing fast, take special care to review and update risk disclosures regularly to confirm they accurately capture the current risks AI capabilities entail for the company.

Securities Litigation Risk from Investors at Other Companies.

In a standard securities litigation, investors sue the company in which they invested, alleging inadequate disclosures. There are a few recent cases, however, where investors of one company (Company A) sued an entirely different company (Company B), alleging that Company B made misleading statements that impacted their investment in Company A. In these cases, the plaintiff investors never purchased or held stock in the defendant company, but nonetheless seek to hold the defendant liable for securities law violations.

The Ninth Circuit recently announced a “bright-line rule” that makes clear that a plaintiff only has standing under Section 10(b) if that plaintiff “purchased or sold the securities about which the alleged misrepresentations were made.” The case, In re: CCIV / Lucid Motors Sec. Litig., 110 F.4th 1181, 1187 (9th Cir. 2024) (hereinafter “Lucid Motors”), follows a 2022 decision by the Second Circuit that reached a similar conclusion.

Lucid Motors was brought by shareholders of CCIV, the SPAC that acquired Lucid Motors. The plaintiffs alleged that Lucid’s and its CEO’s misrepresentations about Lucid’s ability to meet certain production targets harmed the SPAC’s stock price. The Ninth Circuit held that the plaintiffs could not sue Lucid and its CEO for alleged misrepresentations “about” Lucid. That the SPAC acquired Lucid made no difference, because at the time of the alleged misrepresentations, “CCIV and Lucid were two entirely separate companies.”

Takeaways:

• The plaintiffs’ bar will continue to test the boundaries for securities law liability.
• Companies should take special care when making public statements that refer to another issuer, such as during a proposed transaction.
• Where possible, companies should emphasize their own businesses when referring to another issuer, for example, by describing their own intentions or interests in the proposed transaction.

Scope of Attorney-Client Privilege for Internal Investigation Materials.

The Sixth Circuit may review a lower court decision holding that the attorney-client privilege and work-product doctrine did not apply to internal investigation materials prepared by external counsel for FirstEnergy. For years, FirstEnergy has faced shareholder and derivative lawsuits, alleging misstatements and omissions regarding its internal controls and its role in a bribery scheme.

In discovery, plaintiffs in the private securities class action in the Southern District of Ohio sought documents related to the internal investigations. When FirstEnergy withheld the documents on the basis of the attorney-client privilege and work-product doctrine, plaintiffs moved to compel production of the documents. The special master assigned to handle discovery disputes opined that there was no evidence supporting the invocation of these protections, despite a sworn declaration submitted by a member of FirstEnergy’s board of directors stating that the documents were prepared by outside counsel for the purpose of conducting an internal investigation into the allegations. The district court agreed, holding that the director’s declaration only averred that his statements were made “under penalty of perjury” and not that they were “true and correct under penalty of perjury.” As a result, the district court held that the investigations were not entitled to these protections because the “primary purposes” were to address “pressing business purposes.”

In July 2024, the Sixth Circuit denied FirstEnergy’s motion for certification of an interlocutory appeal of these issues. Now FirstEnergy has filed a writ of mandamus, again asking the Sixth Circuit to intervene. The Sixth Circuit is still considering the writ. In the meantime, dozens of law firms, legal scholars, and multiple industry organizations have filed amicus briefs urging the Sixth Circuit to correct the district court’s decision and hold that documents clearly prepared in connection with internal investigations are protected by the attorney-client privilege and the work product doctrine and not subject to discovery.

Takeaways:

• Privilege over internal investigations is not guaranteed.
• In-house counsel and outside counsel assisting in internal investigations should take precautions to document that the purpose of their communications and their work product is to provide legal advice to their corporate client.

Delaware Focus

Delaware MultiPlan Suits Still Proceeding, but May Be on the Wane.

After a boom in IPOs via SPACs in 2020 and 2021, a corresponding rise in SPAC-related litigation followed in the Delaware Court of Chancery. Of particular note has been the proliferation of breach of fiduciary duty direct actions. In 2022, the Court of Chancery opened the door to this type of litigation with its MultiPlan decision. In MultiPlan, the plaintiffs alleged that misrepresentations and omissions in merger-related documents impaired the stockholders’ ability to make an informed decision about when to redeem their stock. In a Court of Chancery first for these types of claims, the Court denied the SPAC fiduciaries’ motion to dismiss the stockholders’ claims and held that the “entire fairness” standard applied.

Since 2022, a number of these suits have proceeded past the motion-to-dismiss stage. While the 2020–2021 SPAC-fueled IPO boom is long past, the number of suits already on file means we will likely see settlements for some time. In October, a suit against the SPAC that merged into life sciences firm GeneDX and its officers and directors settled for $21 million, subject to court approval. The GeneDX settlement came on the heels of other fiduciary duty breach settlements, including the $33.5 million MultiPlan settlement.

But there may be a light at the end of the tunnel for potential defendants in these types of suits. In May, the Court of Chancery dismissed a MultiPlan claim for the first time. And in July, new SEC rules on SPAC disclosures went into effect. By requiring compliance with these disclosure rules, the SEC may obviate many of the MultiPlan claims that might have been brought in the future. Nevertheless, for those cases that remain active, the GeneDX settlement will remain as a data point to influence future settlement negotiations.