Commodity price volatility, compounded by uncertainties surrounding the impact of the COVID-19 virus, have caused many business leaders to consider new plans and strategies. Analysts and investors are asking a lot of questions about the future. And the plaintiff's securities litigation bar is watching. In talking to our clients about their disclosure obligations and risks in these situations, several questions routinely arise.
Our stock price just dropped significantly. Should we be worried about a shareholder securities lawsuit?
Big stock price declines mean big potential securities lawsuit damages, so any time a company's stock price declines significantly the plaintiff's securities bar is looking to see if they can make a lawsuit out of it. But it's unlikely there will be any near-term uptick in lawsuits based on the recent declines.
Shareholder securities lawsuits are typically based on this alleged fact pattern: (a) the issuer misled investors, causing them to purchase the stock at an inflated market price; and (b) once the "truth" was revealed and the market realized the prior disclosure was misleading, the stock price dropped to more accurately reflect its real value. When the news that causes the stock drop is an industry-wide development impacting all players (like sinking oil prices), it's hard for a plaintiff to tie that stock drop to anything allegedly misleading that the issuer said, or to show that its damages were caused by anything company-specific as opposed to industry-wide trends. It's even harder when those stock-price-impacting developments were inherently unforeseeable (like collapsing commodity pricing or changes in customer behavior due to COVID-19). That's not to say viable shareholder lawsuits based on recent stock declines aren't possible - and the plaintiff's shareholder litigation bar is not shy about bringing lawsuits that aren't viable when they can claim colossal damages and exert settlement pressure. We are aware that plaintiff-side securities litigation firms are actively looking for cases in midst of the COVID-19-related volatility.
The one possible exception is for issuers whose IPO occurred less than 3 years ago, and whose stock is now trading below the IPO price; they could face claims under the Securities Act of 1933. Under Section 11 of the Securities Act, investors can sue issuers, officers, directors, underwriters, and others for damages caused by allegedly untrue statements of fact or material omissions of fact within registration statements involving initial or secondary public offerings. Claims of this nature do not face the same hurdles as a typical securities fraud case.
None of this means the plaintiff's shareholder litigation bar is sitting out this market drop. To the contrary, they're watching closely what issuers are saying now, and looking for the cases that will result in the future. It's probably not the recent stock price drops that will form the basis of a new band of shareholder securities suits; it's the statements issuers are making now about how the current tumult is impacting them. Months from now, following additional company-specific stock price drops, we will be seeing shareholder securities lawsuits based on statements being made by issuers this week that allegedly downplayed, gave false information about, or omitted material information concerning the impact of the recent developments on that issuer.
So how do we accurately talk about the impact this is having on our business when we don't fully know what impact this is having on our business?
While there's a lot you do know about how oil prices are impacting your business, as with any developing situation there's also a lot you don't yet know. How will this impact our credit lines? What is the risk of force majeure or defaults on our deals? How is this impacting our customers or other counterparties? What will pricing and demand look like tomorrow; next week; next month; next quarter? Disclosures must be materially accurate, but how can you be sure your disclosures are accurate when you're not sure what the answer is - either because it's unknowable, or you don't have all of the information you'd need to know it?
One key principle to understand is the difference between disclosures of pure facts versus disclosures of opinions. The latter generally do not give rise to liability under the federal securities laws, which recognize that a statement such as "we remain in compliance with our debt covenants" is materially different from "we believe we remain in compliance with our debt covenants." The former is false whether the speaker honestly believes otherwise or not. The latter, however, only subjects a company to liability under the federal securities laws in certain limited circumstances, such as where the speaker does not honestly hold that belief (making the embedded "we believe" phrase literally false), or the speaker did not have a sufficient basis to even form a reasoned opinion on the matter (investors are entitled to believe the speaker is aware of facts justifying that opinion).
Understanding the place of opinion in public disclosure allows issuers to accurately and timely provide information to investors where they otherwise may not be able to do so. In making disclosures that are not of pure known facts, but rather opinions or beliefs based on known facts, it is important to send a clear signal that you're doing so, for example, by using language such as "we believe," "we think," "based on what we know we understand," or "we estimate." The absence of such signal words is not determinative of whether the statement was legally an opinion, but their inclusion is extremely helpful to issuers in making that argument (and also extremely helpful to investors in understanding precisely what you mean to convey).
Similarly, the federal statutory safe harbor provision and common-law bespeaks caution doctrine protect statements the issuer makes regarding financial projections, plans and objectives of management for future operations, and future economic performance. There is no private action for liability regarding statements that are both (1) clearly identified as forward looking, and (2) accompanied by meaningful and specific cautionary language, permitting the issuer to make meaningful disclosures on these subjects related to the future, which cannot be known with certainty, without fear of liability. For cautionary language to be meaningful it must identify the factors most likely to cause actual results to differ materially from those in the forward-looking statement. Care, of course, still must be taken to ensure that statements subject to these doctrines are accurate. And although the issuer's knowledge is not an element in determining whether the safe harbor applies, courts have held that cautionary language is inadequate where it states an event as a "risk" or "possibility" when the issuer knows with near certainty the event will occur.
What about our past disclosures, including past forward-looking statements? Do we need to look at what we said about our business over the past several months or years, and provides updates where we were in hindsight wrong?
In general, there is no duty to update past disclosures, provided that they fall under the protections for forward-looking statements and were correct when made. However, a duty to update may arise in certain situations. For example, if a forward-looking statement was made with the expectation that investors will rely on it, or if contains facts that remains "alive" in their minds, then new disclosure may need to be considered. So in the case of outdated descriptions of future business plans that can no longer be performed, there can be a duty to update those projections if they were stated in such a way that they remain "alive" in the mind of investors. Examples of statements that may be characterized as such continuous representations - and thus may require an update - include strategies (including strategic transactions) that the issuer no longer intends to pursue or projected new agreements or amendments to agreements that have since been abandoned. This duty would not typically apply to periodic projections, such as quarterly earnings forecasts.
The duty to update is distinct from any duty to correct. If an issuer later realizes that a statement was incorrect at the time it was made, it should correct the statement it now understands to have been untrue, as it would any other statement.
What else should I be thinking about when communicating with investors?
The basic principles don't change: companies must meet their disclosure obligations in the same way they always have. Take care to ensure your disclosures are materially accurate and complete. Think about whether recent events trigger any duties under Item 303 of Regulation S-K to disclose "known trends and uncertainties" that you reasonably expect will have a material impact on your revenues or income. If you're having discussions with individual investors, think about whether you also need to make a public disclosure of that information to comply with Regulation FD.
As always, we would be glad to assist you with your specific situation. If you have any questions regarding these issues, please contact any member of Baker Botts’ Securities and Shareholder Litigation practice team.
ABOUT BAKER BOTTS L.L.P.
Baker Botts is an international law firm of approximately 725 lawyers practicing throughout a network of 13 offices around the globe. Based on our experience and knowledge of our clients' industries, we are recognized as a leading firm in the energy and technology sectors. Since 1840, we have provided creative and effective legal solutions for our clients while demonstrating an unrelenting commitment to excellence. For more information, please visit bakerbotts.com.