Since the coronavirus outbreak emerged earlier this year, I have been tracking the COVID-19-related securities class action lawsuits and writing about each of the cases as they have come in. In an October 28, 2020 memo entitled “COVID-19: Lessons from the Second Wave of Securities Fraud Lawsuits” (here), the WilmerHale law firm takes a deeper look at the coronavirus-related securities litigation, with particular focus on the securities suits filed in the May to September 2020 time frame. Along the way, the memo identifies a number of securities lawsuits filed during that period as coronavirus-related that I had not included in my COVID-19 litigation tally. As discussed below, the memo makes several interesting points about the coronavirus-related securities suits. I also discuss below whether or not I agree that the additional cases that the law firm identified in the memo belong on the list of coronavirus-related cases.
The Law Firm Memo
As may be inferred from its title, the memo’s authors divide the coronavirus-related securities suit filings in two groups, a first wave of cases that were filed in March and April 2020, and a second wave of cases that were filed during the period May to September 2020. The memo’s authors note that in the May-to-September phase, as was the case in the first phase, shareholder plaintiffs continued to bring suits against companies (such as travel and health care companies) that were “directly involved in or significantly impacted by COVID-19.” In addition, the authors note, during the May-to-September phase, the claimants have “targeted a broader range of companies” and have “challenged a range of misstatements.”
The memo first examines the coronavirus-related securities lawsuits filed during the May to September time frame that share the characteristics of the earlier filed coronavirus related securities lawsuits – that is, the lawsuits targeted defendant companies (such as pharmaceutical companies and diagnostic testing companies) directly involved in the response to the pandemic and defendant companies in industries (such as the travel industry) that were heavily impacted by the pandemic.
In reviewing the cases that the memo grouped in this category, the authors identify one lawsuit, the suit filed against Brazilian airline GOL Linhas Aeras Inteligentes, that I had not identified as coronavirus-related or included in my running tally of coronavirus cases. I discuss this case and whether I think it belongs on the list of coronavirus-related cases below.
After reviewing these cases that the authors believe share characteristics with the earlier filed coronavirus-related securities suits, the memo then turns to what it calls “new territory” –cases against companies in less heavily affected industries. The memo divides this broader range of cases into two categories based on the types of misstatements alleged: (1) company statements about the receipt or use of federal funds or loans in connection with COVID-19-related programs; and (ii) company representations about how COVID-19 impacted the company’s economic projections and financial results.
The first of the cases pertaining to the defendant company’s receipt or use of federal funds or loans the memo identifies is the lawsuit filed against Eastman Kodak Company (which I discussed in an earlier blog post, here). The Kodak lawsuit involves allegations concerning the company’s receipt of a large loan from a federal government agency in support of the government’s vaccine development efforts. The second of the cases in this category involves the securities suit filed against Vaxart (discussed here) concerning the company’s statements about its participation in Operation Warp Speed, the program to fund the federal government’s vaccine development program.
The memo then discusses a second category of cases filed during what the memo calls the “second wave” of coronavirus-related securities litigation. The second category involves cases based on company’s representations about how COVID-19 impacted the company’s economic projections and financial results. The first of the cases in this category is the lawsuit filed against Forescout Technologies (discuss in an earlier blog post, here) based on allegations that the company allegedly misrepresented business challenges the company faces as being due to the COVID-19 impacts when they allegedly were caused by other factors.
The memo then identifies five additional cases it describes as COVID-19-related and as falling into the second category of May-September lawsuit filings involving company misrepresentations about how COVID-19 impacted company finances or results. These five additional cases were filed against Ideanomics; STAAR Surgical Co.; Harborside; Lexfintech Holdings Limited; and Portland General Electric Company. I was fully aware of all five of these cases before reading the authors’ memo, but I had not identified them as coronavirus-related and I had not included them in my tally of COVID-19-related securities suits. I discuss each of these five cases in the next section of this post, below.
The memo identifies a number of trends with respect to the COVID-19-related securities litigation so far: first, the pharmaceuticals industry has been the “biggest area of focus” for the plaintiffs’ lawyers so far, as six pharmaceutical companies have been named as defendants in coronavirus-related securities lawsuits. Second, while the travel industry has been heavily impacted by the pandemic, only a small number of companies in the travel industry have been hit with securities suits so far. (This is one area where the memo’s authors’ tally and my tally differ a little bit, but I concur that only a small number of companies in the travel industry have been sued.)
The memo’s authors also identify a number of other trends: that is, the number of companies that have been targeted in securities suits based on the companies’ involvement in government-funded COVID-19-related relief programs, and companies that have been sued based on the companies’ optimistic financial statements made before a stock drop.
Finally, the authors note their observation that the “plaintiffs have slowly increased the pace at which they have filed securities fraud actions related to COVID-19, with a brief slowdown in July and a surge in August and September.”
Whether or not there has in fact been an increase in the filing pace and a “surge” in August and September really depends on whether the six cases I highlighted above as being on the author’s list of COVID-19 lawsuits but are not on my list actually should be counted as coronavirus related. In the following section in which I address whether or not I think these cases actually belong on the list. I also discuss whether or not I agree that there has been a “surge” in the number of cases.
The authors conclude by noting that the “second wave” of cases suggests that companies “should be mindful that any statements related to the impact of COVID-19 are susceptible to scrutiny by class plaintiffs,” who will “continue to identify novel types of alleged misstatements in public disclosures as companies adapt to changing public health measures and an ever-evolving marketplace.”
Identifying the Coronavirus-Related Cases
While I have been monitoring and tallying the coronavirus-related securities litigation over the last few months, one thing I have observed is that it has become increasingly difficult to say with precision what it is that makes a case coronavirus-related. I know that other observers are experiencing the same thing. There are particular cases that reasonable minds might differ about in concluding whether that specific case does or does not belong on the list. Thus, it has come as no surprise to me that my list differs, for example, from the list that the Stanford Law School Securities Class Action Clearinghouse maintains on its website.
By the same token, it also comes as no surprise to me that there might be differences between the law firm authors’ list and my list. However, I was a little taken aback to see that there were as many as six cases on their list that I had not included on my list, which of course made me wonder whether I had made a mistake in not including the cases.
In this section I review each of the six cases on their list that were not only my list, to consider whether I should add any of the cases to my list.
GOL Linhas Aeras Inteligentes: GOL is a Brazilian airline whose securities trade on the NYSE. On September 11, 2020, a plaintiff shareholder filed a securities class action lawsuit in the Eastern District of New York against GOL, and certain of its officers on behalf of a class of investors who purchased the company’s securities during the period March 14, 2019 through July 22, 2020. The complaint quotes at length from various of the company’s statements during the class period about the company’s internal controls. The complaint alleges that “the truth was revealed,” in its June 29, 2020 annual report for the company’s 2019 fiscal year, which disclosed material weaknesses in the company’s internal controls and also questioned the company’s ability to continue as a going concern. On July 23, 2020, the company announced it had dismissed its independent auditor. The complaint alleges that the defendants made misleading statements or failed to disclose that “(1) GOL had material weaknesses in its internal controls; (2) there was significant doubt as to the Company’s ability to continue to exist as a going concern because of negative net working capital and net capital deficiency; and (3) as a result, Defendants’ statements about its business, operations, and prospects, were materially false and misleading and/or lacked a reasonable basis.”
The only mention of COVID-19 in the plaintiff’s complaint against GOL was part of a block quote taken from the company’s July 31, 2020 earnings release, which quoted the company’s CEO as saying “Our second quarter results are a reflection of the severe impact that COVID-19 is having on Brazil’s economy, the air transportation industry and our Company. To offset the steep decline in revenues, we took several measures to decrease costs and preserve liquidity as we manage through this crisis.” The plaintiff’s complaint makes no allegations about this statement and indeed makes no other reference to the pandemic. There is no direct or indirect connection in the complaint between this statement and the allegations in the complaint relating to the company’s internal controls or even the company’s ability to continue as a going concern. Significantly, the going concern question referenced in the complaint relates to the auditor’s opinion about the company as of December 31, 2019.
There is no doubt that the COVID-19 outbreak substantially affected the company’s operations and financial results, and there is no doubt that the complaint does indeed refer to the company’s statements about that pandemic’s impact. However, that just is not what the case is about. After careful review, I am unable to conclude that that what this case is about is the coronavirus outbreak or that this case is coronavirus-related.
Ideanomics: Ideanomics is a NASDAQ-traded company focused on the adoption of electric vehicle technology. On June 28, 2020, a plaintiff shareholder filed a securities class action lawsuit in the Southern District of New York against the company and certain of its executives on behalf of a class of investors who purchased the company’s securities during the period March 20, 2020 through June 25, 2020.
The complaint is essentially based on analyst reports written by short sellers who questioned company’s statements that it was operating a “one million square foot EV expo center in Qingdao, Shandong Province,” in China. The short seller’s reports claimed that the facility was much smaller than the company asserted and also questioned whether the company actually had anything to do with the facility. The report claimed that the company had doctored photographs to create false impressions about the facility. The complaint alleges: (i) Ideanomics’ MEG Center in Qingdao was not “a one million square foot EV expo center”; (ii) the Company had been using doctored or altered photographs of the purported MEG Center in Qingdao; (iii) the Company’s electric vehicle business in China was not performing nearly as strong as Ideanomics had represented; and (iv) as a result, the Company’s public statements were materially false and misleading at all relevant times.
The only reference in the complaint to the COVID-19 outbreak is a statement in a block quote taken from the company’s June 9, 2020 press release that “China, much like the rest of the world, has been negatively impacted by the shutdowns resulting from COVID-19. As the country has only begun to relax restrictions last month, many businesses are struggling to recover.” The block quote goes on to include a statement that “The region loosened restrictions on business activities in early May, so we are very pleased with the Center’s high levels of activity at this early stage. The Center’s solid customer foot traffic indicates that the country’s economy is on a steady path to recovery and there is a strong appetite for passenger and commercial vehicle sales which bodes well for MEG.” The complaint otherwise makes no reference to the pandemic, and indeed makes no reference of any kind to these quoted statements about the pandemic.
What this case is about is the short seller’s claims that the company tried to mislead investors about the size of the China facility and the nature of the company’s relation to or involvement with the facility. The complaint isn’t about the impact of the pandemic on the company or the company’s statements about the pandemic’s impact. I am unable to conclude that this case is coronavirus-related.
STARR Surgical Co.: STARR manufactures implantable eye lenses. On August 19, 2020, a plaintiff shareholder filed a securities class action lawsuit in the Central District of California against the company and its CEO. The gist of the complaint is an August 2020 short seller report about the company which stated that “[w]e think that STAAR Surgical has overstated sales in China by at least one-third, or $21.6 mln. That would mean that all of the company’s $14 mln in 2019 profit is fake.” The report continued that “[f]ake sales [in China] come at 100% margins and therefore translate directly into profit. That means that the roughly $21.6 mln in overstated Chinese sales in 2019 represent 152% of total company profit. In other words, without the fraud that we believe pervades the China business, STAAR is losing money.”
The complaint alleges that the defendants misrepresented and/or failed to disclose to investors that the Company was overstating and/or mischaracterizing: (1) its sales and growth in China; (2) its marketing spend; (3) its research and development expenses; and that as a result of the foregoing, (4) Defendants’ public statements were materially false and misleading at all relevant times.
The complaint does quote from several company statements about the impact of the coronavirus outbreak on its sales in China. However, the complaint makes no specific allegations relating to those statements. While the complaint does allege that the company misrepresented its sales in China, the complaint does not draw a link between the alleged misrepresentations about sales in China and the company’s statements about the impact of the coronavirus. Significantly, the short seller’s report on which the complaint is based seems be talking about the company’s reported 2019 sales in China – that is, before the coronavirus outbreak. I am unable to conclude that this complaint is about the impact of the coronavirus on the company or about the company’s statements about the impact of the coronavirus on the company. I am unable to conclude that this complaint is coronavirus-related.
Harborside: Harborside is a Canadian-domiciled cannabis company whose securities trade on the OTC Pink Sheets. On September 8, 2020, a plaintiff shareholder filed a securities class action complaint in the District of Oregon against the company and certain of its directors and officers. The complaint relates to the company’s restatements of its quarterly and annual financial statements for 2017 and 2018 and its quarterly financial statements for the first three quarters of 2019, which the company announced in May 2020. Following the course of the next several months, the company issued press releases in which it announced that its release of the restated financials and of its annual report for 2019 were delayed due to disruptions caused by the coronavirus outbreak. The company ultimately filed the restated financials and the 2019 annual report with Canadian regulators in August 2020.
The complaint alleges that the defendants made false and/or misleading statements and/or failed to disclose that: (I) Harborside had undisclosed material weaknesses and insufficient financial controls; (2) Harborside’s previously issued financial statements were false and unreliable; (3) Harborside’s earlier reported financial statements would need restatement; (4) as a result of the foregoing and subsequent reporting delays, Harborside’s Canadian stock trading would be suspended; (5) Harborside downplayed the negative impacts of errors and delays regarding its financial statements; and (6) as a result, Defendants’ public statements were materially false and/or misleading at all relevant times.
The complaint does indeed refer to the impact of the coronavirus on the company, primarily with respect to the delays involved in the company’s issuance of its revised financials. The company did make statements about its company’s business prospects in its California operations and its ability to remain fully operational. However, the complaint is not about those coronavirus-related statements. The complaint is about the alleged misrepresentations in the company’s restated financials. Significantly, the reporting periods for the restated financials were 2017, 2018, and the first three quarters of 2019 – that is, well before the time of the coronavirus outbreak. The complaint is not about the impact of the coronavirus on the company or the company’s statements about the impact of the coronavirus on the company. I am unable to conclude that this is a coronavirus-related lawsuit.
Lexinfintech Holdings Limited (Lexin): Lexin is an online consumer finance platform in China. The company completed an IPO in the U.S. in November 2017. On September 9, 2020, a plaintiff shareholder filed a securities class action lawsuit against the company and certain of its executives in the District of New Jersey. The complaint is based on an August 25, 2020 short seller’s report about the company that claimed that the company “(i) reports artificially low delinquency rates by giving borrowers in default new funds to make payments; (ii) has a business model that exposes shareholders to enormous losses; (iii) was still conducting direct peer to peer lending despite claiming otherwise, (iv) lacked internal controls; and (v) conducted undisclosed related party transactions.”
The short seller’s report does indeed refer to the impact of the coronavirus outbreak on the company. Among many other things, the short seller’s report does claim that “The Corona Virus has forced many Chinese borrowers into delinquency. We believe the recent delinquency rates LX reports seem way too low and are utterly untrustworthy. This effect should disproportionally affect low-quality borrowers who are willing to pay the excessive interest rates LX charges. … We observed that LX seems to extend and restructure loans to give the appearance of performance and current-ness of old loans where the borrower is actually delinquent or in default.” The short seller also stated “We believe LX has artificially deflated its default and delinquency ratio [using an extension feature] to give the appearance of a more healthy financial position… Now, most likely due to effects of COVID19, the company has deployed this tactic on delinquent loans to generate a seemingly healthy loan portfolio.”
Although there are many other allegations in the short seller’s report that the complaint cites, there is no doubt that the alleged misrepresentations raised in the short seller’s report and cited in the complaint include company statements or omissions about the impact of the coronavirus-outbreak on its operations and financial results. Accordingly, I agree with the law firm memo that the lawsuit against Lexin is coronavirus-related. I have added the lawsuit to my tally, as discussed further below.
Portland General Electric Company: PGE is an electric utility based in Oregon. On September 3, 2020, a plaintiff shareholder filed a securities class action lawsuit in the District of Oregon against the company and certain of its directors and officers. The allegations in the complaint relates to the company’s August 24, 2020 announcement that it had incurred energy trading losses of $ 127 million. PGE stated that “PGE personnel entered into a number of energy trades during 2020, with increasing volume accumulating late in the second quarter and into the third quarter, resulting in significant exposure to the Company.” In explaining the causes of the trading losses, the press release stated that “In August 2020, this portion of PGE’s energy portfolio experienced significant losses as wholesale electricity prices increased substantially at various market hubs due to extreme weather conditions, constraints to regional transmission facilities, and changes in power supply in the West.”
The complaint alleges that the defendants failed to disclose to investors: “(1) that PGE lacked effective internal controls over its energy trading practices; (2) that PGE personnel had entered energy trades during 2020, with increasing volume accumulating late in the second quarter and into the third quarter, that created significant negative financial exposure for PGE; (3) that, as a result, the Company was reasonably likely to incur significant losses; and (4) that, as a result of the foregoing, Defendants’ positive statements about the Company’s business, operations, and prospects were materially misleading and/or lacked a reasonable basis.”
The only reference to the coronavirus outbreak is the statement quoted in the complaint from the company’s April 24, 2020 earnings release, in which the company’s CEO is quoted as saying “Our financial performance this quarter largely reflects conditions experienced prior to the COVID-19 pandemic.” In the release, the company revised its full-year earnings guidance base on the “deteriorating economic outlook.” The complaint makes no allegations based on these statements or on the company’s revised guidance. What the complaint is about is the company’s losses from the energy trades; the losses were not the result of the pandemic and in fact do not relate in any way to the pandemic. I am unable to conclude that this complaint is coronavirus-related.
The memo’s authors clearly have a different – and much broader — view than I do about what it is that makes a securities class action complaint coronavirus related. I have no problem with that; as I noted above, I am well aware that my view on what makes a case coronavirus related may differ from that of other observers. Different observers are going to reach different conclusions about whether or not a particular case is or is not coronavirus related, and in a sense that is all that has happened here.
That said, I have to say I really don’t think it is enough to make a lawsuit coronavirus- related just because the complaint quotes from a press release that mentions the coronavirus outbreak. Given the pervasive effect of the pandemic, just about every company press release these days is going to mention the pandemic, but that does not make a subsequent lawsuit citing a press release coronavirus-related unless the lawsuit is about the pandemic-related statements in the press release.
I think it matters that the law firm memo’s authors have counted as coronavirus-related lawsuits cases that I do not think under scrutiny can fairly be said to be coronavirus-related. As a result of what seems to me to be over-inclusion of cases in their tally, the authors concluded that during August and September there was a “surge” of coronavirus related litigation. All I can say is that it doesn’t look that way at all to me. Indeed, based on what I see, I question whether it is fair to say that there has been a “wave” of litigation (much less that there has been either a “first wave” or “second wave”).
To be sure, the authors did identify one lawsuit – the securities class action lawsuit filed against Lexinfintech Holdings – that I had not previously identified as coronavirus related that upon further review I agree is at least in part coronavirus-related. I have added this lawsuit to my list of coronavirus related securities class action lawsuits, bringing my running tally of the number of coronavirus related securities suits to 22.