What’s New and Noteworthy
NINTH CIRCUIT CLOSES THE COURTHOUSE DOORS TO WRONGED INVESTORS, JEAPORDIZING THE RIGHT OF SHAREHOLDERS TO HOLD COMPANIES ACCOUNTABLE – Lee v. Fisher, No. 21-15923, 2023 WL 3749317 (3:20-cv-06163-SK) (9th Cir., June 1, 2023) (en banc); Lee v. Fisher, 34 F.4th 777 (9th Cir. May 13, 2022) – An en banc panel of the Ninth Circuit green lights the use of corporate bylaws to extinguish securities suits seeking recovery for fraud.
Can a company use its bylaws to cancel or nullify federal securities laws, including those designed to hold companies accountable for misconduct that hurts shareholders? That was the issue decided by an en banc panel of the U.S. Court of Appeals for the Ninth Circuit in the important case of Lee v. Fisher, which issued its opinion on June 1st.The Gap, Inc., a well-known clothing retailer incorporated in Delaware, amended its corporate bylaws to require that certain shareholder lawsuits against the company (known as “derivative” suits) must be brought in a Delaware state court specializing in business litigation—and only in that court. The plaintiff, Lee, sued Gap for federal securities violations under the Securities Exchange Act. She claimed that The Gap had misrepresented the company’s commitment to diversity in its proxy statements. Under the Exchange Act, these types of legal claims can only be brought in a federal court, so Lee filed her suit in a federal district court.
The district court dismissed the case based on the view that, under Gap’s bylaws, Lee was required to file her claim in Delaware state court—even though the Delaware court would be bound by the Exchange Act to dismiss her claim for a federal securities law violation. That left the plaintiff with no forum at all in which to bring her federal securities law claims. A three-judge panel of the U.S. Court of Appeals for the Ninth Circuit affirmed the district court’s dismissal, and it did so fully acknowledging that another panel from the Seventh Circuit had reached the opposite conclusion. In late October, a majority of the full roster of Ninth Circuit judges voted to vacate the three-judge decision and rehear the case as an en banc court.
In November 2022, Public Citizen, joined by Better Markets and the Consumer Federation of America, filed an amicus curiae brief in the en banc proceedings. Our brief explained the troubling and growing trend among companies of using their corporate bylaws as a shield to avoid accountability under federal securities law and other federal statutes, and it explained why this outcome is inconsistent with the provisions of the Securities Exchange Act. Our brief also highlighted the importance of these uniquely important shareholder “derivative” suits, in which shareholders sue on behalf of companies that have been harmed by mismanagement.
Unfortunately, however, in yet another example of courts shutting the courthouse doors to wronged investors, the Ninth Circuit upheld the enforceability of the forum-selection clause forcing the suit into Delaware state court, despite the fact that such a ruling virtually extinguishes securities claims that must be litigated in federal court. The majority held that the forum selection clause did not violate the “anti-waiver” clause in the Exchange Act because Lee could resort to another litigation process—the direct action—to press her substantive claims. But the court erred by equating direct and derivative actions. As the dissent rightly noted, the corporate bylaw provision allows “a litigation to nowhere, depriving shareholders of any forum in which to pursue derivative claims.” The decision in Lee thus creates a circuit split with the 7th Circuit, which increases the likelihood that the Supreme Court will grant review if Lee decides to seek it via a petition for cert.
This decision validates the clear trend among companies that increasingly seek to use their corporate bylaws to extinguish certain federal claims and insulate themselves from liability. The decision will thwart private enforcement by making it harder — if not impossible — to assert certain federal claims against corporations, such as securities claims, antitrust claims, and others. While the SEC is the first line of defense against securities violations, private actions are, as the Supreme Court has repeatedly said, an important and necessary complement to SEC enforcement, and shareholder derivative suits are one way to fill the inevitable gaps in the SEC’s enforcement program. More broadly, the damaging impact of the decision won’t be limited to securities law—many other types of federal remedies are threatened with extinction by companies adding corporate by-laws that in effect nullify the right of investors and consumers to seek relief under a variety of federal statutes.
Other Notable Cases We’re Tracking
(For more detailed descriptions of the cases reviewed below, see our Better Markets Case Tracker Webpage)
- WHISTLEBLOWER ASKS SUPREME COURT TO OVERTURN LOWER COURT RULING, WHICH WEAKENS PROTECTIONS AGAINST WHISTLEBLOWER RETALIATION – Murray V. UBS Securities, LLC, No. 22-660 – The Supreme Court has agreed to review a Second Circuit decision holding that a whistleblower’s Sarbanes-Oxley Act claim for retaliation requires a showing that the employer took an adverse employment action against the whistleblower with “retaliatory intent,” as opposed to merely showing that the whistleblower’s actions were a “contributing factor” in the adverse employment action. This case has broad implications for whistleblowers and whether they can feel safe coming forward without fear of reprisal from their employers.
- SUPREME COURT WILL DECIDE CONSTITUTIONALITY OF CFPB’S FUNDING STRUCTURE, WITH IMPLICATIONS FOR THE FEDERAL RESERVE AND OTHER SIMILARLY-FUNDED AGENCIES – Consumer Financial Protection Bureau v. Community Financial Services Association of America, No. 22-448 – The Supreme Court has agreed to review the 5th Circuit’s decision that the Consumer Financial Protection Bureau’s funding structure violates the Appropriations Clause of the U.S. Constitution. This case is part of the relentless and ongoing assault on one of the most effective consumer protection agencies in the history of financial regulation.
- SUPREME COURT CONSIDERS WHETHER TO REVIEW CONSTITUTIONALITY OF THE SEC’S ADMINISTRATIVE ENFORCEMENT PROCESS – Securities and Exchange Commission v. Jarkesy, No. 22-859 – The Supreme Court will soon decide whether to review the Fifth Circuit’s decision that the SEC’s administrative enforcement proceedings before administrative law judges or “ALJs” violate the Constitution’s separation of powers doctrine, the non-delegation doctrine, and the Seventh Amendment right to a jury trial. The decision delt a serious blow to a vitally important mechanism the SEC uses to fight fraud in the securities markets.
- FEDERAL COURT REJECTS CHAMBER OF COMMERCE’S CHALLENGE TO SEC’S PROXY ADVICE RULE – Chamber of Commerce v. SEC, No. 3:22-cv-00561 (M.D. Tenn., Apr. 4, 2023) – The U.S. District Court for the Middle District of Tennessee sided with the SEC and investors in a strong opinion rejecting industry’s attacks on the SEC’s improvements to its proxy advice rule. Those rule changes were necessary to ensure that shareholders can get independent and timely advice on how to vote their proxies. The Chamber of Commerce has recently appealed the ruling to the Sixth Circuit (No. 23-5409).
- CHAMBER OF COMMERCE CHALLENGES SEC STOCK BUYBACK RULE IN FIFTH CIRCUIT COURT OF APPEALS – Chamber of Commerce v. SEC, No. 23-60255 (5th Cir., May 12, 2023) – The Chamber of Commerce has challenged the SEC’s newly approved share repurchase or “buyback” disclosure rule, alleging it violates the rulemaking procedures set forth in the Administrative Procedure Act. In fact, the SEC’s rule simply ensures that investors have more information about when, how, and why companies are spending their excess capital on buybacks, often used to enrich executives, instead of enhancing operations and employee welfare.
- SEC LITIGATES LANDMARK CRYPTOCURRENCY ENFORCEMENT ACTION – SEC v. Ripple Labs Inc., 1:20-cv-10832 (S.D.N.Y., Dec. 22, 2020) – The SEC is deploying the well-established investment contract definition of a security to protect investors from crypto abuses. The landmark case against Ripple’s cryptocurrency known as “XRP” has important implications for SEC jurisdiction over digital assets more broadly. After prolonged battles in the discovery stage, motions for summary judgment were filed on June 13, 2023. We expect the court to take some time to resolve those motions.
- SEC HAS BEGUN TO ENFORCE REGULATION “BEST INTEREST” – SEC v. Western International Securities, Inc., 2:22-cv-04119 (C.D. Cal.) – The SEC is litigating its first enforcement action alleging violations of its “Best Interest” rule aimed at protecting investors from conflicted investment advice. The outcome will help determine whether the so-called “best interest” rule will have any teeth and provide real protections for investors who are sold inferior investments by advisers seeking to line their own pockets. For now, a jury trial has been set to begin January 30, 2024.
- INDUSTRY OPPOSES TRANSPARENCY ABOUT DIVERSITY ON CORPORATE BOARDS – Alliance for Fair Board Recruitment v. SEC, 21-60626 (5th Cir.) – Opponents challenge the SEC’s approval of a new rule issued by the NASDAQ that would help advance the cause of racial and gender justice by requiring each company listed on the NASDAQ exchange to publicly disclose the self-identified gender, racial, and LGBTQ+ status of each member of the company’s board of directors. The rule also requires each listed company to have, or explain why it does not have, at least two members of its board who are diverse, including at least one director who self-identifies as female and at least one director who self-identifies as an underrepresented minority or LGBTQ+. The court heard oral argument on August 29, 2022, but it has yet to issue a decision.
- INVESTORS SEEK TO HOLD MARKET MANIPULATORS ACCOUNTABLE– In re: Overstock Securities, et al., 21-4126 (10th Cir.) – Investors seek to recover damages for a brazen market manipulation scheme allegedly perpetrated by Overstock’s CEO, Patrick Byrne, and others. A Utah district court wrongly dismissed the claims under the theory that deception is an essential element of market manipulation claims. In the appeal, Better Markets and Consumer Federation of America filed an amicus brief in February 2022 explaining not only the legal errors in the district court’s decision but also the more far-reaching harm that the decision threatens unless it is reversed. In our brief, we showed that the securities laws and rules were written broadly to cover fraud and manipulation as two separate forms of illegal conduct, driving home the point that manipulation schemes distort share prices and inflict harm on investors regardless of whether they were carried out using lies or deceit. The court heard oral argument on February 9, 2023, but it has yet to issue a decision.
- WILL BANKS BE GRANTED A LICENSE TO LIE, AS LONG AS THEIR FALSEHOODS ARE SUFFICIENTLY GENERIC?– Arkansas Teacher Retirement System v. Goldman Sachs Group, Inc., (In re Goldman Sachs Group, Inc.), No. 22-484 (2d Cir.) – Shareholders allege Goldman Sachs artificially propped up its share price by misleading the public about its management of conflicts of interest. In the Second Circuit, Goldman Sachs has defended itself by arguing that its deceptive assurances, which concealed profound conflicts of interest, were too immaterial or generic to have any impact on the bank’s stock price. By arguing that it should not be liable for its false statements because they were supposedly too generic, Goldman is effectively asking the courts to give them a license to lie. In July 2022, we filed an amicus brief urging the court to consider the context and history of Goldman’s conflicts of interest, something every investor would care about regardless of how “generic” the false representations may have been. Oral argument was held before the Second Circuit on September 21, 2022, and we await that Court’s decision.
- THE INSURANCE INDUSTRY ATTEMPT TO TEAR DOWN EVEN MODEST PROTECTIONS FOR RETIREMENT SAVERS – Federation of Americans for Consumer Choice v. DOL, No. 3:22-cv-00243(N.D. Tex., filed February 2, 2022) and American Securities Ass’n v. DOL, No. 8:22-cv-00330 (M.D. Fla., filed February 9, 2022) – Industry associations filed two challenges to pro-investor guidance issued under the Department of Labor’s December 2020 best interest rule. That guidance clarifies when even a single piece of advice to roll over retirement assets can be considered the beginning of an ongoing relationship and therefore covered under the DOL’s rule. In the Florida case, American Securities Ass’n v. DOL, the court resolved cross-motions for summary judgment in February 2023. In that ruling, the court rejected some of the plaintiffs’ claims but also vacated part of the Department of Labor’s guidance. In the Texas case, Federation of Americans for Consumer Choice v. DOL, dispositive motions have yet to be resolved.