This week’s decision by the US Supreme Court could add to the risks facing directors and officers of companies that are going public. On March 20, the court issued its much-awaited decision in Cyan, Inc., et al. v. Beaver County Employees Retirement Fund, et al, ruling unanimously that the Securities Litigation Uniform Standards Act of 1998 does not eliminate state courts’ jurisdiction over Section 11 cases. In other words, state courts have concurrent subject matter jurisdiction over class actions alleging violations of Section 11 of the Securities Act of 1933.
Section 11 imposes strict liability on companies for misstatements and omissions in registration statements associated with initial public offerings and secondary offerings. As a result of this week’s ruling, directors and officers who sign registration statements related to these offerings may now be targeted in Section 11 litigation brought by shareholders in both federal and state courts.
Allowing Section 11 cases to proceed in state court is a cause for concern for companies, their directors and officers, and D&O insurers. Generally, state courts dismiss fewer cases and are thus considered friendlier to plaintiffs than federal courts. In addition, there is concern that Section 11 cases in state court will take longer to defend and the outcomes will be less favorable to defendants, who will also be unable to avail themselves of procedural protections under the Private Securities Litigation Reform Act (PSLRA). Among other things, this means that targets of state court cases could be forced to incur higher defense costs and face more costly adverse judgments or settlements.
While the ruling is significant for companies based in California, where the number of Section 11 cases filed in state courts has dramatically increased in recent years, the impact of the ruling will likely be felt across all US states where Section 11 cases might not have been previously filed or permitted to proceed in state courts.
The prospect of additional Section 11 cases in California and other states means it’s especially important for companies involved in initial public offerings and secondary offerings to have robust directors and officers liability insurance coverage in place. D&O buyers should also be prepared for insurers to cite the Cyan ruling as a reason for potential rate increases in 2018.
Directors and officers and risk professionals should discuss the ruling with their insurance advisors. Specifically, you should explore how to design and implement a D&O program that will maximize protection in light of the Cyan case. Work with your insurance advisors to make decisions on the marketing process, insurer selection, limit and retention options, pricing, and policy terms and conditions. It’s also important to make sure you understand the D&O claims process.
The Cyan decision increases the risks involved in going public. Now — before a company makes an initial or secondary offering — is the time to make sure companies and their directors and officers have the insurance protection they need.